Diploma PLC (DPLM) Earnings Call Transcript & Summary

Good morning, and welcome to the Diploma Q3 Results Conference Call. This call is being recorded. I will now hand over to Johnny Thomson, CEO. Please go ahead.

Thank you. Good morning, everyone. Thanks for joining our Q3 trading update. I'm here as usual with Chris Davies. Just a few words for me to start with, and then we'll move straight on to Q&A. There's been another strong performance in quarter 3, consistent with the half. Our year-to-date organic revenue grew by 6%, predominantly volume. And the trends across the 3 sectors are also broadly consistent. In Controls, we've seen more encouraging market share gains and strong structural end-market tailwinds. And Seals were largely at the end of the destocking cycle, but broader industrial markets are still pretty tough, and growth, therefore, remains modest. In Life Sciences, we've seen some great business development activity and improving market dynamics, which is supporting mid-single-digit growth. Overall, our reported revenue growth was 13%, 10% contribution from acquisitions; and FX, just a little more of a headwind at minus 3%. I'm very happy with how Peerless and PAR have settled into the group with good early performances. And more generally, the acquisition pipeline remains strong. M&A markets seem to be picking up a little, and we have attractive opportunities across all the sectors and geographies. So overall, we're pleased with the performance and the progress so far in the year. You'll see a reminder of our full year outlook, which is positive and unchanged. Some markets are -- remain a bit tough. But overall, our performance so far demonstrates, I think, the resilience of our business model and the continued execution of our strategy. So we're feeling good about continuing to deliver sustainable quality compounding. And with that, I'll hand over to questions.

[Operator Instructions] And first off, we have Annelies Vermeulen from Morgan Stanley.

I have 2 questions, please. So on the U.S. business regarding some of the headlines in the press we've seen recently around potential tariffs coming in under a new administration in the U.S., could you remind me what your exposure is here? So how much of your goods which are sold in the U.S. are imported from China or elsewhere? And is this an area of concern for you as we move through the rest of the year? That's the first one.

Okay. So we take that one first, and thanks, Annelies. Look, obviously, I recognize the point you're making. I'm not too concerned about it at this stage. We've got about 10% of the U.S. supply chain comes from China. We've been working hard over many years now actually to localize, and about 3/4 of the U.S. business is locally supplied right now. And even where it's not locally supplied or, indeed, it's China supplied, we do second source as well. So -- and I think we've seen in the past through previous Trump presidency, previous tariffs, previous supply chain crises, I think our access to products competitively acts, in fact, as a competitive advantage for us. And we've seen in the past market share potential coming from that, Windy City is a good example. And indeed, where we do have to pass on, I think the fact that we have good customer relationships where a critical part of our -- the value chain for our customers, we're able to pass that on as well. So yes, of course, these things are work, but I'm not too concerned about it.

Okay. Perfect. And then secondly, again, on aerospace markets, again, a lot of mixed headlines from some of the OEMs and also the airlines, in fact, continue to be quite volatile. It sounds like from your opening remarks that there's nothing to see there in terms of aerospace remaining strong at Diploma. Are you seeing any softness anywhere or any indications of a slowdown?

No. I mean I think I'll take a step back from it. I think maybe you're referring to Airbus just fractionally downgrading their output and Boeing's continued communications around Spirits, et cetera. Actually, overall, if you take a step back from it, the aerospace market is still growing tremendously. And for us, certainly, these things are at the margins. We're at the edges of it. For us, we have businesses and a great position in a fast-growing market. Peerless, for example, is benefiting from the huge backlog in new builds, but also consequently, the very attractive MRO space. If you have businesses in that environment, which have critical supply chain advantage with a quality reputation, as Peerless does, then you're in a great place. So I think the things around Airbus and Boeing for us certainly are around the margins. And the fundamentals of both the market's growth and the quality of the business position are still very, very strong. And as I said before, Peerless has started incredibly strongly. And I should also reference our other aerospace fasteners business. Clarendon continues to perform incredibly strongly as well.

And up next, we have Ryan Flight from Jefferies.

So firstly, on the Seals division, you just kind of commented through the destocking cycle. But if you can give any kind of color on order patterns there and it looks like we're seeing some green shoots, if that's correct? And then secondly, if you could build on kind of any other end-market trends. I know you just touched on aero. So any other end-market trends would be very useful. And then, sorry, last question was just on M&A. And if you've seen any changes in kind of price aspirations or trends or anything else you wanted to mention there?

Well, I'll let Chris maybe answer on the M&A point. I'll pick up the other 2. On Seals, look, as I said earlier, it's obviously patchy, but the destocking cycle, industrial destocking cycle, we think, is broadly at an end. There are still patterns here and there, but broadly is at an end. But as we know -- as we all know, industrial markets remain quite tough, softer in the U.S. and the U.K., a lot tougher probably in Continental Europe. From our perspective, we are expecting quiet sequential improvement, but it will be a bit of time yet before we get the Seals businesses back, I think, towards the group average. But just before I go into the next part of your question, I think there's 3 things I would say about it, though. The first is that even though the industrial markets and the destocking has been pretty tough, Seals are still printing a positive growth number. And I think that demonstrates, compared to, say, 10 or 15 years ago, much, much more resilience in the sector itself, which we're very pleased with. Secondly, in no way does this compromise the long-term attractiveness of the Seals sector. We've got infrastructure investment coming, renewables investments, we've got lots to penetrate in U.S. and Europe. And we've also got the rollout of our Fluid Power product set ongoing. So very confident about the long term. And I think the final point really about this is that it just demonstrates again the power of the diversity of the group. Seals is having a more modest yield than Controls, and others are having a more positive yield and so on and so forth. And it demonstrates, I think, the incremental attractiveness of the quality compounding model. So that's on Seals. End markets, well, I mean end markets, I think the industrial sector, as I've just said, without repeating myself, that's definitely where we feel it most. However, on the other side, yes, we've got aerospace, which is positive. There's also defense markets, which are positive. Energy markets are positive. All things, data centers and technology, which had been quite slow maybe 6, 12 months ago, have now picked up a little bit. And I think as I said at the top, we're pretty encouraged by what we're seeing in the health care spaces as well, more investment coming into diagnostics, again, which is an exciting space to be; surgical, coming back to normalized patterns as well. So there's plenty again within the portfolio of end markets for us to be enthusiastic about. Chris?

Yes. On M&A markets, I think we are seeing a little bit more now in North America, in particular, sort of coming back up to speed, perhaps less so in Continental Europe. But I think it's important to point out here that we're not particularly driven or guided by the macro market for acquisitions. A lot of what we do with bolt-ons are bilateral. A lot of what we end up doing is the end product of multiple years of relationship building business by business. So yes, there is a little bit more going on in the macro. We are kind of as busy now as we were a year or 2 years ago, pretty active. And we'll just get on and stick with the discipline we have to do the deals that make sense for us, frankly, irrespective of where the market is.

[Operator Instructions] And up next, we have David Brockton from Deutsche Numis.

Can I ask just a couple around Windy City Wire? It feels like that business is obviously continuing to perform pretty strongly. I just wondered if you can touch on how broad-based the demand is there given that, obviously, a lot of focus tends to be on sort of the data center side, but knowing that, that business is quite broad-based in terms of security, fire, AV, data, et cetera. Can you just touch on that? And also, given the growth that Windy City Wire had seen, can you sort of touch on the capacity that still has to continue to sort of scale up going forward?

All right. Thank you very much, David. Yes, look, where are we on the growth perspective? I mean I think probably over -- if you looked at it over the course of 10, 15 years, the core business, which in there and Windy City's mind would be security, fire, AV, the core business has grown volumes at around the kind of 5-ish percent, slightly better than the underlying market. Probably during the course of the last 12 months, that slowed a little in slightly tougher markets, et cetera, less investment. What we're seeing now is that that's picking up back towards normalized levels. Of course, on top of that 4% or 5%, you have product mix benefits and you also have acceleration from things like data centers, as you mentioned, and digital antenna systems as well, which takes them up to their full growth rate. So we're seeing that coming back to normal. But I think probably a slightly different profile from maybe a pre-COVID time. A lot of the work that they would have done, as I said, was pretty much balanced between newbuild commercial space versus refurbished commercial base. And unsurprisingly, I think the balance has switched a bit more towards the latter than the former. But at the moment, we're seeing underlying growth rates in that core business pretty much consistent with the long-term track record. And of course, as I mentioned, I think, at this call and maybe previous calls as well, we're seeing a pickup in the data center business again which, of course, is the cherry on the cake for them as well. In terms of capacity, one of the things that we benefited hugely from, and I think I've said this a few times on these calls, is that the business was incredibly well invested when we bought it. So I'm not going to take any credit for that. That was already in place when we bought it. And that's in terms of their operations and the automation of their operations. It's in terms of their depot and the depot exposure, if you like, and where they have depots across the country. It's also in terms of their technology and their management team. So of course, we add to that, and we have to continue to make sure it's fit for purpose and fit for the future. But it's very well invested. And there's no short- or medium-term concerns around either machine or facility constraints in that business, which would, in any way, disrupt the continued success of their delivery.

And our next question now comes from Karin So from JPM.

I think most of my questions were asked already. So maybe just one quick one to check on Q3. Maybe if you could comment a bit on the organic growth this quarter, specifically if around kind of 7% is about right, as it seems it could be a bit higher based on some calculations? And also, if you could comment just around the exit rate into Q4.

Yes, it's about right. I'm not going to give you the specific organic growth number, but that's about right. And exit rates per quarter, I wouldn't get too hung up on it. There's a whole lot of working day noise I just don't want to get dragged into. If you step back on this a little bit, and the way I look at it, as we kind of normalize coming out of whatever supply chain disruption was post-pandemic, if you think about the last half of last year and those 2 quarters, the first half of this year and those 2 quarters, this quarter together, you've got a pretty consistent 6% organic growth over that. And I wouldn't get a hit up in whether one was 6.4% and the other was 5.6%. I think we're demonstrating now through the cycle consistency at that kind of 6% level.

[Operator Instructions] And we now move on to questions from Samuel Dindol from Stifel.

Congratulations on the results. A couple of questions for me, please. Firstly, on pricing, appreciate it's modest. But just wondering, is there any change in trends there? And are you still comfortable you can offset cost inflation through price? And then secondly, on the margin, they're clearly way above the 17% target. Is that something you'll look at, at prelims, should we expect? And any sense of what is a sort of sensible through-the-cycle margin given you've brought some very big businesses in the past few years?

I'll let Chris comment on that in a second. Just on the pricing point, I mean, look, I think for us, the vast amount of inflation post-COVID supply chain and labor is now well, well past us. So from our perspective, we're more into normalized pricing, if you like. And that's something that you do every year forever type of thing. And so we didn't have any problems passing through the inflated inflation, if I can say that. And we certainly don't envisage any challenges with passing through the inflation that we have at the moment, which is largely, I think, for the moment, a bit of labor inflation and that's about it. So business as usual in terms of pricing, I would say.

And on margins, I mean, you're right, Sam, I mean, clearly, we are operating at a level somewhat above the teams historically. I'm not going to give you new [ loans ] here. We are clearly looking at how we would [ space ] that, how we would shape that going forward. But I think the sort of level we guided at this year is a level we should be operating at. With -- again, back to that pricing point, if you think about the way we talk about margin in this business, price over inflation. And then selectively, we invest the operating -- or partly reinvest the operating leverage that comes from these growing businesses. We would expect a moderate level of margin expansion as we grow and that is, in fact, from the levels we sit at now.

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

We're happy with the performance. We're happy with our progress, and we're carrying some good momentum. And we'll see you again in November. Thank you very much for joining.

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