Diploma PLC (DPLM) Earnings Call Transcript & Summary

Hello, and welcome to the Diploma Q1 Trading Update Call. My name is Saskia, and I will be your coordinator for today's event. Please note that this call is being recorded. [Operator Instructions] I will now hand you over to your host, Johnny Thomson, Chief Executive Officer; and Chris Davies, Chief Financial Officer, to begin today's conference. Thank you.

Thank you. Good morning, everyone. Happy New Year. Thanks for joining us today. I hope you're all well. I'm here with Chris. Sorry to have missed you in November at the full year update, but I'm now fully recovered and back on it. A few words this morning on our quarter 1 performance, and then we'll move fairly swiftly into Q&A. So I think the first quarter performance, hopefully, is fairly self-explanatory from the [ RNS ]. Following the excellent results in 2023, we're carrying good momentum, and we're reporting a strong start to 2024. Organic revenue grew by 6%, which was fairly broad-based and volume-led. Controls and Life Sciences have delivered strong growth, continuing the trends from the last quarter of last year. And sales have performed robustly with modest growth, seeing off the destocking -- the continued destocking in the OEM world. Our reported revenue growth was 10% with an 8% contribution from acquisitions. And we carry on doing the rewarding small bolt-ons, 3 more this quarter, which, we feel, supports our high returns on capital. The pipeline remains very healthy. And finally, we're really encouraged by the way we started with our margins as well in the New Year. So overall, we're very pleased with the start to the year. A few words on the outlook. We've got a long, successful track record of sustainable quality compounding. I'd say the market is a bit tougher, but the business model is resilient. And as we've talked about before, our execution of the strategy makes us more resilient. So we believe the current performance is really underlining that, underscoring that and demonstrating that, and we're feeling good about delivering another year of great results in 2024. I'll hand that back to questions.

[Operator Instructions] And our first question today comes from Annelies Vermeulen from Morgan Stanley.

Two questions, please. So firstly, you talked about the resilience of the portfolio and the diversified nature of it, meaning you've delivered another good quarter. Can you give us any comments on what continues to be sort of the underperforming bits of the portfolio? I know, obviously, at the full year results, you talked about sales and some of the areas there, and you're saying you're still seeing destocking there in the broader market. But I'm just wondering specifically in your business, is there anything that's changed materially for the better or worse? Or any trends that you're seeing relative to the end of September? And then secondly, again, you've commented on margins having started the year strongly. I'm just thinking about your full year guide. From memory, typically, your margins are a little bit lower in the first half relative to the second half but very marginally. So would we expect to see that typical split for the first half, second half of this year? Or how should we think about margins as we move through the year?

Well, thank you very much, Annelies. Chris will answer the question on margins in a second. I mean just to your point on, I suppose, underperforming areas, I mean, look, we're feeling, as I said before, pretty good about the strategy and how it continues to diversify the business. I think what we've seen -- and this is just through my optic, what we've seen probably is geographically the U.S. probably moderated about 9 to 12 months ago. Europe and the U.K. probably a little harder over the last 6 months or so. And as we've said a few times, the destocking in particularly that our big OEM industrial type of customer set has continued, and that really affects, more than anything, the Seals business, as we've said before. However, I mean I would just say there's plenty of reasons for us to continue to be very optimistic about what we're seeing in our revenue numbers. I mean I would point to the fact, first of all, that 6% in a tougher environment and with the numbers we're lapping, we feel, is a very, very good outcome for this quarter. So we're pleased with that. There's plenty of -- the diversification from an end market perspective really gives us both structural protection and tailwinds, and that could be anything from the recovery of diagnostics world, automation, telecoms, electrification. Those kinds of things are still giving us nice tailwinds. And I think the final point I'd make, and a few people have asked me about this recently, we continue to see market share gains as well. And this goes to the power of our value-add distribution model where we have customer loyalty and share of wallet. But we also have the market share gains that come from that reputation. So all in all, we feel that the 6% is a very good outcome. And of course, if it is -- if it does turn out to be a tougher year, delivering something in line with or even slightly better than our financial model would be a great outcome.

Yes. And Annelies, on margins, yes, you're right. We do typically pick up H1 to H2. Some of that is a bit of seasonality, obviously, for Christmas and H1, but also the growing business gives you operating leverage as we go through the year. We would expect the same this year, and we're encouraged with what we've seen in Q1, putting us on track for the guidance for the full year.

And our next question comes from Daniel Cowan from HSBC.

First question, please. Could you talk exit rates, please? I think you said exit rate in H2 last year was about 7%. How did organic growth develop over the last quarter, please? And the second question is, can you give us an idea of the period end net debt?

Yes. Okay. I'll ask Chris to answer net debt in a second. Just in terms of exit rate, I mean if I want to do -- I wouldn't get too caught up. I mean we're talking about -- we're slightly caught up in detail here. I mean I think from memory, we did roughly 5%-ish quarter 3, 7%-ish quarter 4, and we're posting 6% now. So I think overall, what we see is that we're fairly steady in the 5% to 7% kind of range. And you shouldn't really necessarily, for a business like ours, measure us just by quarters. But that's where we think we're trading at the moment in that kind of 5% to 7% kind of range. To the question earlier, the market is a little tougher than it was, say, 12 months ago. But we're feeling pretty confident and pretty optimistic about the diversification, the resilience and, therefore, for us to continue to deliver that kind of range over the course of the year. Chris, do you want to do net debt?

Yes. I mean debt is down to touch. Obviously, we've had a quarter of cash flow. And as you've seen in the statement, we've spent a little under -- I should quote the numbers for M&A, but we're down a touch and in line with what we guided for the full year.

And up next, we have David Brockton from Deutsche Numis.

Can I ask 2 questions, please? Just firstly, just focusing on that destocking trend. It's clearly within sales OEM. It's clearly been there for a while now. And I just wonder whether you've got any signs as to sort of how that's faring sequentially. Are there any signs that we could be nearing an end there? And that's the first question. And then the second question, given the context you gave there, Johnny, of sort of Europe being sort of marginally tougher. I just wonder if you can just give an update on the DICSA integration and how that's going.

Yes. I'll say a few words about DICSA. Maybe, Chris, do you want to do the destocking point. DICSA, we're very happy with. Clearly, as I said earlier, Europe, I think, as we all know, has been a little tougher over the last -- however long. So they're operating in a slightly tougher environment. However, we were expecting that when we bought this, and we were certainly expecting for a more modest growth in the early period. More importantly, it settled in very well. We're very, very happy with the team we've got over there. We're very, very happy with what we found as we've got under the bonnet in terms of the ability to keep driving the great organic growth. And they do have fantastic opportunities both in terms of geography, particularly, I'd say, Germany, Eastern Europe, the U.K. and even the U.S. They also have great opportunity from a product perspective. And I think the final point I'd say on it is even though it's very early days, we're starting to link together some of our Fluid Power teams from different geographies with the potential to drive synergistic revenue over the medium to long term, and that might be without the R&G team, and it's also with the Hercules aftermarket team in the U.S. as well. So I think we feel very happy with what we've got, and we feel very optimistic about the medium to long term.

Yes. And on destocking, look, it's early. It's only a couple of months, I guess, since we last updated you. We have -- I mean, pleasingly, we've seen a few larger OEM customers returning to a slightly more normalized order patterns. But it is early, and I don't want to call a change in trend on what we've seen. I think we said it could be 1 or 2 or 3 quarters just to flush through. We're through one of them, and I think that's still how we feel. It could be 1 or 2 quarters left before this really flushes through.

Very useful context.

I think what I'd just add to that also is just to underscore how pleased we are with the resilience of the Seals sector. Traditionally and kind of old Diploma, Seals was clearly our most cyclical with its kind of U.S. construction orientation. But the work that's gone on, not just in the last 5 years but beyond that, 10 years, I would say, to diversify Seals' end markets, geography, product as well has really improved the resilience. And if it continues to see off such a trend as it is doing at the moment, then it will be very pleasing, indeed.

And we're now moving on to a question from James Rose from Barclays.

Two from me, please. Could you give us an idea of trading within Windy City Wire versus second half last year, please? And then secondly, I think Mr. Galgano was in the U.K., not too long ago, talking about the future of Windy City Wire and the next steps there. Could you give us some insight into those conversations, please?

Yes, yes, yes. Well, Rich and I spend a lot of time together, both state side and, more recently, in London and Paris and our tour of the world -- Windy City Wire tour of the world. How is it going with Windy City? It's going very good. Look, as I've said a thousand times, the first 2-ish years of 20% to 50% growth was -- and there was never going to be the long-term trend, was it? And we would be very happy with returning to what Windy City has done over a 10-, 20-year period. And that's where we are at the moment. The profit growth in the first quarter was double digit, and we're very pleased with the way that it continues to trade. Volume in a tougher market is still very good. And that's despite lapping some of the market share gains they made over the last year or 2 from a supply chain -- more difficult supply chain. They're still lapping that now but delivering good volume on the back of that. And we continue to be encouraged also by the diversification of the business and the higher-margin growth in digital antenna and data center and other such premium markets. So we're very, very happy with that. In terms of how things are going with the management team, I mean, Rich has signed up for another 3 years. It's the end of the 3 years -- first 3-year cycle, if you like, and he signed up for the next 3 years. And so we feel very good also about the continuity of management. So overall, as I've said many, many times, Windy City, we expect to return to a good level of business growth as it has done over many, many years. And that's what we're seeing at the moment, and we're very happy with that.

And we're moving on now to Kean Marden from Jefferies.

Two quick ones from me. I appreciate they're not a direct competitor, Johnny, but MSM Industrial (sic) [ MSC Industrial ] in the States released a slightly more optimistic outlook for U.S. trading momentum in 2024, driven by feedback from customers, lower interest rates, et cetera. I'm just wondering whether you share that positive outlook for your North American business in '24 after some cyclical headwinds for the last 12 months. And then secondly, just wondering what your supply chain integrity challenges look like at the moment, given some well-documented freight issues around the world.

Yes. Chris will take that one in a second, Kean. Thanks for the question. Just on the U.S., well, look, I mean, I'm not going to pretend to be a soothsayer. But I am generally an optimist on the U.S. for many, many reasons. In our kind of service-led organization, I think the homogenous nature, the -- I guess, the capitalist growth orientation of the market, I think, is great. So I am an optimist on the U.S. And I hope that they are right that things will pick up. For the moment, I would say, as I said, the -- to one of the first questions, at the moment, I would say that what we see as kind of a level -- stable state at the moment. And that's allowing us to deliver decent performance, Windy City, Controls, a little bit more modest in Seals. So it's certainly not a disaster at the moment. It's pretty reasonable, I'd say. And I would hope that a more favorable environment would come, interest rates, as you say, et cetera. And so I'm optimistic, but I'm certainly not going to make any predictions on it.

And Kean, a couple of points, I think, on Red Sea and supply chain disruptions. In a handful of our businesses, there will be an up to a kind of 2- to 3-week delay on shipments and some cost increase. Freight is nearly 2% of our cost base, just to put that into context, so it's not huge. The other point, I think, was worth making about Diploma is looking back at the supply chain challenges post COVID, where we were a bit of a beneficiary. So in some of our markets where we've got closer in supply chains, e.g., Windy City, but also in our businesses where the level and breadth of inventory holding is part of the competitive advantage, those businesses tend to fare well through disruptive supply chains.

[Operator Instructions] And up next, we have Mr. Sam Dindol from Stifel.

Congratulations with your Q1. Couple of questions from me, please. Firstly, on M&A, are you seeing any change to sort of vendor expectations, I guess, particularly in sales given the tougher macro there? And then secondly, I appreciate the commentary on volume-led growth. Could you give any commentary on where pricing is? And are you still confident that can offset your own cost inflation in the year?

I'll let Chris take that second one. On M&A, I think the general observation I would make for you is that we're not generally buying bad or broken businesses, and therefore, if a vendor is coming to market with a business that we are interested in, they're expecting to command a sensible multiple for that business. Otherwise, what they will do is rather than sell it on the cheap, they'll just wait and pull it and do it another time. So I think what I would say is multiples are a lot more sensible and balanced than they were, say, 12 months ago, 18 months ago. But I wouldn't say that means that we can get anything on the cheap. I would say we would pay a fair market price. I think if I can just expand on the question and say from an M&A perspective, we're pretty pleased with where we're at on M&A. We've done 35-odd deals in the last 4 or 5 years. And spending just over GBP 1 billion, and our returns are very, very strong. So we feel good about that. We're going to continue to do the smaller stuff. That's very, very important to us. We've done another 3 this quarter. I think we did 10 last year. They're great for organic growth for the small businesses, great returns straight off the bat at a 4 or 5x multiple. And the competitive landscape, to your question, doesn't really change that much in that small business environment. So we'd like to do more and more of that. But as we also know, we'll occasionally do something bigger, we did TIE, DICSA last year. And we've also got a good track record of delivering good returns on those slightly bigger deals as well. And we're well positioned. The markets are fragmented. We are a buyer of choice against generally PE competition. And we've really worked hard on developing our processes around M&A as well. So if, as they say, the market might -- for M&A might be accelerating a little bit in 2024, then I think we're well positioned for that. But I would just underscore that by saying that we're in no rush, and we are very, very -- continue to be very, very disciplined. So I feel good. We've got a good pipeline. The market seems reasonably sensible, and we'll see how we go.

And Sam, on pricing, as you know, the -- it's a key part of our margin formula to price to cover inflation, and I'm confident that we can continue to do that. We're not seeing a lot of inflation, either product inflation or our own cost base inflation. But in the quarter, yes, we've covered it. I would imagine for the full year, you should expect the same. It's a key measure. It's a key metric of our value add, the ability to do that. No more but the ability to cover that off, and we've done it in the quarter, and we expect to do it through the year.

And as there are currently no further questions in the queue, I'd like to hand the call back over to you, Johnny, for any additional or closing remarks.

Thank you. We feel like we've made a good start to the year. We're on track for another strong year of great, sustainable quality compounding delivery. And I don't think there's much more for us to say than that at this stage. Thank you very much, everyone, for joining, and we look forward to seeing you at the half year.

Thank you for joining today's call. Ladies and gentlemen, you may now disconnect.