Bodycote plc (BOY) Earnings Call Transcript & Summary

Good morning, ladies and gentlemen, and welcome to the Bodycote Trading Update Call. [Operator Instructions] This call is being recorded on Tuesday, November 19, 2024. And I would now like to turn the conference over to Jim Fairbairn. Please go ahead.

Thank you, Jenny, and good morning, everyone. Welcome to our November trading update that covers our first 10 months of trading. I'm Jim Fairbairn, CEO; and with me is our CFO, Ben Fidler. I'll cover some highlights, and then we'll open up to questions. So in the 4 months and since the half year, our organic revenue growth, excluding surcharges, was 0.2%. Year-to-date, that means that we are tracking at around 1% organic revenue growth, excluding surcharges. Overall, we're very pleased with progress. And although growth was modest in the second half to date, there was growth, and this result reflects the resilience of our business model and also the diversity of our end markets. Energy input costs continue to fall and the surcharge difference year-to-date is GBP 28 million, which is around a 50% reduction. As you know, there is very much a mixed picture around our end markets, and that means that we're focused on managing what is in our control and especially keeping an agile cost base and aligning our capacity with demand. I'm really grateful for all the efforts by our teams on these aspects. Since the last update in July, I've spent further time traveling around the group, and it's even more apparent to me just how positive Specialist Technologies is. It's very much a highly differentiated business with premium margins and further growth prospects. It also continued to deliver organic revenue growth is 7% year-to-date. We also continue to invest in this area. For example, in our HIP business, we installed new capacity in the U.S. in the summer at Greenville, South Carolina, to capture the ongoing growth in demand. Classical Heat Treatment revenues were lower in the 4-month period by 3.3% organic, excluding surcharges, primarily driven by lower industrial activity. It's impressive to see the business's ability to respond to challenging market conditions. And now turning to our end markets. In Aerospace and Defense, while growth has moderated as we expected, it still remains very positive, up over 6% in the second half and Energy up nearly 12% on tough comps. It's very good news that the Boeing strike has ended, although we expect it will be into next year for the congestion in the aerospace supply chain to reduce. Automotive was up 0.5% year-over-year on the same comparison and industrial markets remain challenging, down over 6% in the same period. It's clear these markets will remain tough going into next year. The Lake City acquisition is progressing well and to expectations. I visited that site in July, and it's an excellent business and a great fit for the group. The share buyback has been executed as noted in our release this morning with just over 75% of the GBP 60 million complete. We've also announced a Capital Markets event on the 12th of December, where the team and I will lay out our new strategy and activities into 2025 and beyond. And with that, I will open up to questions.

[Operator Instructions] Your first question is from Andrew Simms from Berenberg.

So just first question for me is just on aerospace and defense. It would be grateful if you could provide maybe a little bit of color or split between growth rates between structures and engines that you saw in Q3 and maybe how that's evolved, obviously, given the challenges at Boeing and Airbus. And [indiscernible] also linked to that, how would you envisage your business seeing a pickup in the structures side as and when sort of Boeing starts to raise its own production? How early would you start to see that? I'd be interested to know that. And second on just energy. [ As you ] pointed about growth on tough comps is noted, can you just discuss some of the trends there, maybe where you're seeing some of that growth come from either by region or sort of end market, that will be great?

Yes. So I'll take that one. Mainly, in the second half, we've seen a reduction in growth. It was mainly civil aerospace, reflecting supply chain rebalance and some of the issues from Boeing that are in the supply chain. We still see these as temporary effects and obviously, structural growth remains positive. I think on the engine side and the structure side, I mean, we're definitely seeing it on both sides. The good thing about engines is that we've still got good aftermarket sales, and that's obviously offsetting some, for example, some of the LEAP headwinds that we're seeing. I think on the structure side, I mean, it's definitely very variable by customer. Some of our customers are reading the demand signals very differently, and they're making their own assessment around inventory levels. So I think that we expect in the near term that these headwinds will reduce. But I think that's really all we would say going forward. I think on Energy, we've had some very good wins in the Middle East and also in industrial gas turbines in North America. We see that remaining strong in industrial gas turbines. The oil and gas by nature, can be lumpy. And we've still got a lot of pipeline, but there is a lumpiness to part of our Energy business going forward. So I think it will still remain positive. Comparisons will inevitably become tougher.

Your next question is from Andrew Douglas from Jefferies.

Two questions from me, please. Can you talk through the performance in Automotive? I think relative to a light vehicle production market of minus 4%, your performance is very good. Can you just talk through what's driving that market outperformance maybe across the regions, if you can? And then secondly, a number of your industrial peers are talking about costs going back into the business next year. Am I right in thinking that for Bodycote, that will be largely dependent on the top line as opposed to any kind of more structural costs going back into the business? You've done a good job on costs so far this year. Just wondering how that goes or how that looks as we go into next year.

Yes. I mean, on Automotive, I mean, you're right, we're actually very pleased with the progress. We've had strong growth in 3 regions, China, Eastern Europe and also Mexico. A couple of reasons for that. I think you remember at the half year, we talked about targeting specific OEMs, especially in China. And also, we've seen the benefits of further supply chain mitigation and some new contract wins. So I think that's created the outperformance. There's still some challenges, especially in North America, but we're really pleased with the growth. I think costs going back in next year, we're very much -- we're very pleased with our approach to try and keep an agile cost base and try and keep the levers that allow us to breathe with the level of actually business. And I think that's one of the hallmarks of the Bodycote kind of operating model. And that -- and I think we've executed on it, especially in the second half very well. I think, if you recall, we're very tight on costs. We manage costs going forward. We haven't cut into any of the muscle of the business, okay, which I think is actually very important. So all the variability in cost is all down to how -- I mean the top line is playing out and how we see the top line playing out as, I think, you said in your question. So I think we're very much in a situation where we will -- as business comes back, we'll be in a really good position to take advantage of that.

And then one follow-up, if I may. In terms of the variability month by month as we've gone through the second half, have you seen much variability compared to your forecast? Or has it just been a kind of challenging market in all 4 months?

Yes. I mean I think we definitely saw some challenging months over the summer, but it's certainly stabilized in the last month or 2. That's our current view. We feel like we have stabilized at a low -- especially -- well, in industrial and auto, we feel as though that we're stabilized at the moment at this low level. We don't see any variation from that going forward. So I think that's a -- if we can manage our cost base, then I think that's a good thing for us.

[Operator Instructions] And your next question is from Stephan Klepp from HSBC.

I have 3 questions. So the first one is the structural growth in Specialist Technologies. I wondered if it's more or less hand-in-hand with the outperformance of aerospace and defense and the oil and gas market. And should we rather take it that with that positioning, you can shield off the rather volume-driven Classical Heat Treatment where obviously, volumes and markets are more dependent. Second question is the upcoming Capital Markets Day. So in your July update, you talked about footprint optimization, medium-term targets and reduction of complexity. Is there anything else since July that you found in your travels to the sites, et cetera, et cetera, that is pressing for the Capital Markets Day that we should expect? And last but not least, your share buyback is over, cash generation is good. So looking into 2025, is there more scope for more share buybacks? And if so, when would you be thinking about that allowed?

So I'll take the first 2 and then pass to Ben. Stephan, thanks for the questions. So on Specialist Technologies, as I've traveled around, I've seen all the technologies, S3P, HIP, [ Surface ] Treatment, and it's just wonderful. And you're right, it's in the high-end processes and mainly aerospace and automotive -- I mean, the real key processes. One of the neat things about this business is that we're continually adding in capacity. And also our commercial efforts really focus on increasing the amount of applications that we serve and increasing our addressable market. So very much it's a cost type business rather than an effect type business. And the teams are continually focused on actually continuing to increase the addressable market and also take on new kind of applications. I think the second thing around the Capital Markets Day, you did actually mention, okay, what I talked about -- at the half year about the footprint, driving operational excellence, looking at growth, simplifying reporting. As we think about our Capital Markets Day, which is also in a few weeks, these are very much front of mind. And I think I'm more -- everything that I said at the half year has been borne out in all of my further travels. I've traveled everywhere around the group. I've seen every technology. The passion is there. And I think it's really -- it's all about evolution at pace as we think about what we're going to say at the Capital Markets Day. But there's no new information other than it backs up everything that I said at the half year, and we'll present it all at the Capital Markets Day.

Should I pick up the one on the buyback and the capital allocation? So yes, I mean, look, we're about GBP 46 million complete on the GBP 60 million share buyback at this point. So we still got something left to go. Around capital allocation, as we've said in the past, Stephan, look, we will very much retain our balanced approach to that with an eye also on the level of balance sheet leverage and what is appropriate for the business at any given point of our end market cycles, favorably balanced across the usual different areas of deployment from organic investment, which we're committed to drive improvement in our existing operations as well as expanding, particularly our Specialist Technology areas. Dividend, we're proud of the dividend track record the business has. That's something that we will remain absolutely committed to. M&A, as and when appropriate, when attractive enough targets come along, as you saw us act on the Lake City acquisition earlier this year, which we're very pleased with. And obviously, looking at potential scope for additional returns to maintain the balance and depending upon where we're at in the first 3 elements I've just run through around organic investment, in particular on M&A. It's probably a bit premature at this stage with probably 3 months or so of the current buyback left to be commenting on what happens thereafter. It's something that we maintain a keen eye on. We'll take a view on in light of other sources of deployment, and we'll communicate when appropriate to you guys.

[Operator Instructions] Your next question is from Harry Philips from Peel Hunt.

Sorry, 3 questions. The first is just on HIP, particularly. There's been a lot of chat that sort of casting forgings, et cetera, all beginning to get a little better. And I was just wondering how that is helping your HIP utilization rates and prospects there. The second is just on the growth CapEx. Just obviously, it's a variable and hard to sort of pinpoint into exact periods, but just thinking around growth CapEx, I guess that might be a theme for next month as well. And then lastly, I got cut out of the call for a couple of minutes, maybe you mentioned it, but just on medical, particularly, just how long -- do you have any insight as to how long that sort of softness might be sustained for? I mean it's interesting you described it as temporary softness, but obviously, it's been softer for a while now.

Yes, should I pick up on those? And then, Jim, do you feel free to add anything. So yes, look, on HIP, actually, HIP has seen a pretty good performance, both year-to-date and in the second half. It has been impacted and we started to see some impact that doesn't surprise us over the summer from some of the early-stage aerospace supply chain rebalancing effects. But nonetheless, even looking through that, we're actually quite pleased with the performance of HIP. As Jim said in his introductory remarks, a new HIP operation came on stream this year for us, which is necessary for good reasons because we're -- as we slide forward, starting to run short of capacity. So we continue to invest in that area there. So I think on HIP, I would say, look, we're pleased with the progress, pleased with what the business has been delivering as well as driving some operational improvements in some of our U.S. HIP areas for this year. On growth CapEx, I wasn't entirely clear on the question, if I'm honest. But look, growth CapEx, what do you specifically want us to...

The debt number looks really good. And just trying to think about where you might end up for the year-end. And here we are just 2 months left for the year where growth CapEx might end up being. And then, I guess, it's a debate more for next month, a more philosophical debate around growth CapEx and the size of it going forward, let's say, maybe that [ waits ] for next month primarily.

Yes. Okay. Well, look, so yes, our growth CapEx last year was around, what, about GBP 25 million or so of expansionary CapEx last year. I would expect for this year to be sort of in the ballpark, a broadly similar number for this year. We're not wedded to an absolute number per se for that. What matters for us and what we look at very rigorously and carefully is the opportunity pipeline for us to invest and the business case of each of those individual opportunities. We remain very committed to having, as you've heard us talk in the past, a 20% IRR threshold on new investments. Thankfully, there's usually a lot of opportunities that are capable of delivering that, particularly in our Specialist Technologies areas, which is predominantly where I would expect you should see expansionary CapEx focused. I mean if we think about expansionary CapEx and the state of the balance sheet, and of course, we'll be balanced over where we deploy our capital across -- as I answered with Stephan's question, across all of the different legs of capital deployment. It won't just be expansionary CapEx that is the piece that we push on. As far as where we may end for the year-end, you saw the net debt position at the end of the 10-month period, GBP 66 million. Of course, remember, the dividend, which was about GBP 13 million that was paid in early November that you need to take into consideration there as you fly forward and then your own view in terms of what you think the free cash generation of the business is going to be for the last 2 months of the year, I'll leave you to do your math there, Harry. Finally, on medical. On medical, the destocking, which we've seen continue to impact through the course of this year, it wasn't any worse in the second half. And if anything, the medical -- our medical market performance was modestly better second half than first half. By better, I'm meaning still negative, but just less negative than it was in the first half. So it's still too early, I think, to say, yes, destocking is finished. But at some point, it has to finish. And certainly, you look at all of the long-term structural growth dynamics in the medical orthopedic devices market, which accounts for a very large part of our medical exposure and aging population, growing middle class, all of those dynamics point to a market that will see continued mid-single-digit type of growth, which is what you would expect once we get through this current sort of destocking cycle. Also do remember for us, you've got some very tough year-on-year comps with medical growth for 2023 having been in the mid-20%. So there's also a degree of that in this year's numbers.

There are no further questions at this time. Please proceed.

Okay. Well, thanks, everyone, for joining the call, and we look forward to seeing you all at the Capital Markets Day.

Thank you. Ladies and gentlemen, the conference has now ended. Thank you all for joining. You may all disconnect.