discoverIE Group plc (DSCV) Earnings Call Transcript & Summary

Good morning, ladies and gentlemen, and welcome to the Results Presentation for discoverIE plc for the Financial Year Ended March 2023. I'd just like to say 1 or 2 introductory remarks before handing over to Nick and Simon. And hopefully, I won't take too much of the thunder in these introductory remarks. I suppose just reflecting on this last financial year, I look back and see that it really has proved the strength and resilience of the business model and strategy. And our strategy has always been one of compounding growth. And what I mean by that is, we're looking all the time to be generating that steady, better than GDP organic revenue growth. And the way that we achieve that is by focusing on target markets on target sustainable markets, which give that above economic growth across the business cycle. And then compounding that organic growth, accelerating it by making carefully selected value-enhancing acquisitions. And that, in turn, focusing on bringing up the operating margin of the business, generating good cash flow to acquire those businesses and constantly with a focus on return on investment. So those are the elements of the strategy. But as we all know, the strategy is only as good as the execution. And again, if we look back on this year, I think Nick and Simon and the team have really executed very well, and we can see that in the results. So as we know, we've had some fairly difficult market conditions over the year. We've had slowing growth, we've had higher inflation. We've had supply chain issues. But against that background, discoverIE has really produced some pretty good results for the financial year. So we're looking at those various elements on the organic growth side of things, organic revenue growth, that generated 9% over the year, and that compares pretty favorably with a 5-year compound annual growth rate of 10% per annum, again, showing us beating that background economic growth rate. We've also had success in moving the operating margin up again, and that's a major focus for us. And that has given us the confidence to actually reset that medium-term operating margin targets at the 15% level, which will show, again, a continuing improvement in that. And also, looking at the year's results, as Nick and Simon will go through, we've seen strong cash flow, good returns on investment there. And that's in a year where acquisitions have been a little bit tougher to bring through. And that's not because of the pipeline. We've had a healthy pipeline of acquisitions, but we stepped back from a number of situations because we felt price expectations were too high, and that discipline is very important. So the growth that has been achieved this year has been largely the organic growth. So, I think with those words of introduction, I'd like to hand over to Nick and Simon to add a little bit of color and detail on the results.

Thank you, Bruce. Good morning, everybody. All right. Let's get the slides underway. So thank you for coming today. So here's the summary side, strong sales growth. We reported 15% constant exchange rate growth. Organic growth was 10% with underlying earnings per share up 20%. We're very pleased with that. We talk about targeting sort of 10% organic growth through cycle, and we're continuing to do that. It's worth noting on the second point here that organic sales have grown 10% per annum since first half '18, which is the year beginning April 2017 calendar year. So that's -- we're really, really pleased with that. And over the same period, EPS has grown by 25%, underlying EPS. As Bruce mentioned, we've raised our midterm target margin -- EBIT margin to 15% from 13.5%. We're still on track for the 13.5% by March '25, FY '25. But additionally to that, we've now set this 15% for a period of around 5 years. So as those of you who have known us for a long time will know that we came from a very, very low margin -- well, loss-making originally, but we gradually over the intervening years, set midterm targets to get the margin up, reached it and then set a new one, and that's exactly what we're doing again here. As Bruce said, the standout number is the cash flow. Free cash flow up 51% to GBP 33 million. That's 95% of after-tax profits, really, really pleased with that. So we've got low gearing. And actually, we've got a good pipeline of acquisitions that we have plenty of firepower for, but we'll come on to that later. Carbon emissions reduced by 35%. This is the absolute reduction since calendar year '21, including the rebasing of the recent acquisitions. As you may remember from the interim results, we set net zero carbon emission reduction target of 2030 for Scope 1 and Scope 2 net zero, and we are sort of well on our way to doing that. New Year has started well. We've got continued organic growth. I'll come on to that a bit later at the outlook at the end. This just sort of summarizes where we're at with our key strategic targets. So you can see there the 11.5% operating margin in the left-hand chart with the new target of 15% for around about 5 years. Beyond Europe sales, 40%, target market sales, up 1 point to 77%. And then on the right-hand side, you can see the carbon emissions reduction target. So all sort of where they need to be and making good progress. This just give a little bit more color on our ESG progress. So you can see there we've got -- we're in a sort of transition year, if you like. Our original carbon reduction target was to have a 50% reduction in carbon emissions intensity. So that's carbon emissions per GBP 1 million of revenue by CY '25, March '25, we have exceeded that target 2 years early. On the left-hand part of that left chart, you can see a 66% reduction in carbon intensity. But as part of the SBTi net zero, we're moving to this absolute reduction target, which is what we're now referring to and what I described on the previous slide. So the summary of all that is that, we're making very good progress. Gender diversity. So you can see there that the gender diversity for the group management team has now increased from 20% last year to just shy of 1/3. This is good stuff. Gender diversity in an electronic engineering business is not an easy thing to do, and we are pleased to be making good progress, and we are sort of seeking out -- one of our, you might say, ambitions is to try and get more diversity into the engineering side of the business. At the moment, it's more sort of skewed to operational and finance side. But we're pleased with the progress we've made. And following the recent appointment of Celia Baxter to our Board of Directors, we now have 43% diversity on the Board, in line with guidance and good practice. Just a summary. I used this slide before. I mean, as these results show, we're well positioned. We make essential products for our customers that are a small proportion of their spend, that makes them resilient in margin terms and give sort of longevity of revenue streams. We have a broad international based footprint, which enables us to react to customers moving their production internationally, again, particularly relevant in today's more politically sensitive world. Our supply chains are efficient. We buy a lot of raw materials and base components rather than other products that we've been less affected by supply chains than others, although not entirely immune. And we have a low energy production environment. So we haven't been -- we weren't clobbered by the energy price hikes. So, our business model is very resilient in what have been, over the last 3 years, pretty tough conditions. And we're, therefore, confident that this bodes well for whatever the future throws at us. With that, I'll pass over to Simon.

Great. Thanks, Nick. Thanks, Bruce. Okay. First up for me is the financial headlines. So as you can see, it's been another year of strong growth. So sales up 18%, profits up 25%, and that's driving EPS growth of 20%, same level that we delivered last year. And despite -- Bruce mentioned this, I think despite the supply chain and inflationary headwinds that we've seen, we've still upped our margin to 11.5%. And as Nick mentioned, really strong cash flow. We're really pleased with that, 95% conversion rates, which is pretty good. And all of those are helping bring our gearing down. It's down from a half year to 0.7x. We've had a really nice uplift in ROCE, up 1.2 percentage points to 15.9% as you can see there. All of these sort of reflect our model. So it's customized critical parts, it's selling into long-term growth markets, it's accretive acquisitions, it's capital-light model and that's generating lots of cash. And we'll see that later. Okay. Next up, revenues. As I said, revenues up 18% to GBP 449 million. You can see the split down the left there, so 10% organic growth, 5% from acquisitions. There's 5 acquisitions over a 2-year period contributing to that, and 3% from sterling weakness, that's principally against the dollar. I would point out that within those sales, this GBP 5 million, which is an exceptional pass-through of semiconductor costs, which have to be accounted for as GBP 5 million sales, GBP 5 million COGS, no profit. So in terms of modeling for next year, frankly, that won't be there. So you can factor that into your modeling. So sales up, that's 18%, and that's with sales up 19% CAGR since FY '18 and that's sort of splitting 10% organic CAGR, 9% acquisition CAGR. That's quite a neat split as far as our model is concerned. And you can see, even since the pre-COVID period, the FY '20 period, sales were up around 50%. So it is strong consistent momentum is what we're trying to be about. Next up, profit and operating margin. So, profit up 25% on the back of those 18% sales growth. You've got -- it's rising from 10.4% up to 51.8% and that's sort of building in with the whole growth model. So 32% CAGR growth in profits since FY '18. And if you look at the operating margin, I'd say that's up 0.6 percentage points to 11.5%. It's good -- mainly operational leverage, which we're pleased with. We'll see that on the next chart. I think it was 11.6% in the second half, so a little bit of pickup there in the second half. But again, you can see the growth picture we've delivered. It's up 4 percentage points since FY '18, [ and ] 8 percentage points since FY '14. We remain on target for the 13.5% target we set ourselves for FY '25 and Nick referred to the new -- and Bruce to the new 15% margin. If we're looking back, the first target was 10 years ago and that was sort of 5%. So it's sort of a -- it's a good reflection of how we've moved on since then. So I think this is a really useful bridge, but it sort of sums up the year quite nicely. So it takes you from, last year's profits GBP 41.4 million. This year's profit of GBP 51.8 million. The 4 bars on the left, that's the organic performance of the group. So 10% sales growth in profit terms, improving gross margins. I'll come back to that. We've invested 9% in OpEx over the period. That will support our longer-term growth. So, overall, you're looking at 19% drop-through of organic sales into profit. And we're really pleased with that and it really shows the operational leverage of the business. I think just coming back to the gross margin, I think, as well as the cash flow, I think this is a really key point for us. Not only have we maintained our organic gross margins, we've actually lifted them by 1 percentage point. So I think in these inflationary times, we're really pleased with that. And again, it's our model. So it's critical customized parts. It's a small fraction of the cost of the overall [ build ] cost of the OEMs and it's -- ultimately, it would be a difficult product to replace elsewhere. So our model lends itself very well to sort of pass those costs through. And so, I think -- so, overall, I suppose the other part of that chart, again, it sort of summarizes our model very well. It's about the sort of the combination of organic growth, it's operational leverage, and accretive acquisitions. The acquisitions are a bit lighter there this year as Bruce mentioned, but we'll be hoping to have a bit more impact this year. Divisional performance, so you can see the performance of our 2 divisions there versus last year. On the right, you can see the growth in sales and of EBIT. If you look at M&C, M&C -- both businesses of our divisions have had good strong sales growth, so 16% sales growth in M&C, so 11% organic, 5% from acquisitions. Some really good operational leverage in that division, driving that 25% growth in there constant exchange rate, profitability and a 1% pickup in margin to 13.7%. In terms of S&C, 14% sales growth, 8% organic, 6% from -- I think it's about 4 acquisitions across the 2-year period. A lot of the businesses in that division are quite new. So we've invested a fair amount in sales resource and back office resource. And that sort of held back the EBIT growth. It's sort of still 7%. The margins clipped down to 15.2%, but I think going forward, we would see some good growth in that division. And as you can see, it's still our highest margin division. This just gives a summary walk. The underlying profit GBP 51.8 million, down to EPS of 35.2p. I think the key standout is the interest, the finance costs as you'd expect. So they really, as you guys know, started raising up in the second -- from the second half. So it's up roughly about 50%. Obviously, expect the annualization effect of that to come through next year to do build in some higher finance costs for next year. So 25% -- sorry, 20% EPS growth and that's sort of building, you can see the chart there, 25% CAGR growth since FY '18. So again, it's just good solid momentum. Cash flow, so Nick and -- Nick referenced that. We're really pleased with that. So the chart, you can see there at the top, it takes you from GBP 61 million of EBITDA down to free cash flow of GBP 33 million. The 2 bars on the left there, the -- that's our capital investment, working capital and CapEx. In terms of working capital, GBP 6.4 million invested in working capital to support 10% sales growth. And that's sort of down from -- I think you saw 10.5% in the first half. So we've made some good strides as supply chains have improved and our inventories have come down. So what you'll see is, working capital reducing from 16.5% of sales in the first half down to 15% at the end of the year. So really pleasing. I think in terms of CapEx, it's GBP 5.6 million of CapEx. That's covering capacity expansions. We've got line expansions. We've got ESG projects and ERP projects. And it ultimately still only represents 1.3% of sales. I think from a planning point of view, we're looking around more like 2% for next year, 2% of sales. But overall, those 2 combined is only sort of 3%. So it's a very sort of capital-light model. And if you switch down to the middle graph, you can see operating profit of GBP 49 million and free cash of GBP 33 million. Both of those were up around 50% on last year and they're converting into cash at around 95%. So really pleasing conversion rates. And if you look at the table right at the bottom, you can see we are delivering real consistent delivery of cash flow. That average is around about 100% cash conversion over the last sort of 10-year period. So really pleasing. That cash flow has reduced gearing. It was 1.1x pro forma gearing, the half year has come down to 0.7x, with net debt of GBP 43 million, and we've got a decent facility there. Our range remains -- our gearing range, it's 1.5 to 2x and that gives really good funding capacity. It's around about GBP 60 million if we took it up to 1.5x gearing and another GBP 40 million on top to go to 2x gearing, so plenty there for us to use for accretive acquisitions. Capital allocation, we started showing this chart last year and again, it's a good summary of what we're about and ultimately, it's a very simple model. We'll invest in organic capital opportunities as and when they arise. We pay a progressive dividend and the rest of free cash that we put into acquisitions. So if you look free cash flow over the last 6 years, around GBP 174 million, 75% of that has gone into acquisitions and CapEx and 25% back to shareholders. That's quite a nice split and you can see how we've funded. Over GBP 340 million of capital spent in that 6-year period and half of it is coming out of that strong cash flow. And we've got a disciplined approach to funding. And as you can see on the chart below, we haven't actually taken that gearing over that 2x limit we set ourselves. There's no -- really no need for us to stretch our balance sheet. Dividend, this is quite a simple one. We've increased it by 6%, which if you look back, that's our average growth that we've delivered in the last 12 years and that's -- we've taken the cover over 3x, so the highest cover we've had, but actually we're just going to continue moving that upwards. We'll keep paying the progressive dividend, but really free up more and more cash to help self-fund those acquisitions and really get the EPS accretion metric. And finally from me is that, summary. We're pleased with this. We've been sort of showing our KSIs and KPIs over the last 10 years. Nick talked about the KSIs and the progress we've made on those. And in terms of the KPIs, you see at the bottom, we're hitting the target. So we're beating the targets. So good strong sales growth, good strong EPS growth. The dividend is up and we're beating targets on both ROCE and operational cash flow. So I think with all that, I'll pass over to Nick for a review of the operations.

Thanks, Simon. Okay. Just a brief overview here. There's a lot of data on this chart. The bar chart on the left shows the organic growth rates going back to first half FY '18, which is the period starting April 2017. And I think most of you will be sort of familiar with that history. On the right-hand side, that bar chart shows the organic growth of the group by country over the last year and you can see strong organic growth everywhere except Asia, where China slowed. And that's really a reflection of 2 things. Firstly, slowing wind energy demand in some of our Western customers over in China, but also there is a move afoot to at least amongst our -- in our sites where production is moving from a sort of China for the world to a China for China production environment. We still have a very significant manufacturing footprint there and we will continue to do so. And indeed around about 2/3, maybe a little more of our customers in China are Western-based multinationals, but the manufacturing there is for demand in China rather than for shipping around the world. So, whereas we're growing our footprint and production footprint in India and Mexico, for example, we're not growing at the same rate in Asia. So -- but good strong growth across the board. Germany is very strong, because we've had a few particularly large OEMs led by a large medical -- German medical customer. That's why that's so strong. U.S. is a combination of strong underlying demand across the base and a bit of production relocation by some customers as I just referred to. So this slide outlines really, we talk about -- we did lots of acquisitions, obviously, and we build a footprint with a very high count of operations globally. And whilst we're not a heavy integrator per say of our businesses, we do actually integrate stuff over time and optimize it for efficiency purposes. And the -- what this chart is trying to sort of outline is that, as we go along, we do tend to integrate facilities and make the operations more efficient. The best recent example of that is in North America. You can see there with the different colored dots. We've got a number of operations. The orange dot or the pink dots are the -- orange dots are the acquisitions that we've made. The gray dots are where we've consolidated sites. So, for example, over the last 5 years, we've bought something like 6 businesses in the U.S.A., and we've consolidated 3 of those sites into manufacturing in Mexico. So we had -- we used to have production in Los Angeles, Tempe, Arizona, and Toronto in Canada. Now, those 3 sites have been closed and integrated into predominantly the Mexican facility, which we've expanded -- which we significantly expanded last year. And that has enabled us to move production -- more production onto the Americas rather than having to ship it around from Asia, and we've been able to do it with a lower cost footprint than by having it purely in North America -- in the U.S. We've done similarly in Europe and we're doing similarly in Asia where we're expanding Indian production. So there's an ongoing kind of efficiency program that underpins everything that we do operationally. This is a really important slide. You've seen -- you see this every time. So this is our target markets. So on the left-hand side, you can see that target markets now account for 77% of our revenue, up 1 point from the prior year. And on the right-hand side, you can see that the organic growth in our target markets in the year was 12%. And you can see that below that, the target -- the growth in our other markets, organic growth in the other markets was only 3%. So overall, for the year, organic growth of 10%. But perhaps sort of more relevantly, over a 6-year period, the lower shaded bar against each of those bars is the 6-year CAGR. And you can see that over a 6-year period, our target markets have grown by 12%, whereas the other markets have grown just slightly less than half that. So that really sort of bears testament to the importance of those target markets for us in delivering that top line growth. And it's interesting to see, you might remember that in the other markets that the first half results, we reported double-digit growth in the other markets, as it bounced back post-COVID, and you can see that by these full-year results that that -- those other markets, the non-focus markets has dropped back again very, very quickly. And as I always say, those other markets are lower growth prospects and have much higher volatility of -- much higher cyclicality than the other markets, which is part of the reason we don't focus on. In the target markets, still the renewables sector was minus 6% as it's consistent with the first half. That was wind energy, again. But the other markets more than compensated by being up by 15%. And again, we're not unduly concerned about the wind energy sector slowing a bit. One of the benefits of having 4 target market areas is that, there's always going to be one up and one down or one weak or one stronger. But for us, it's all about having an overall decent growth rate that doesn't oscillate too much and you can see that's indeed the case. So target markets are really strong driver of the organic performance. Very briefly, the 2 divisions. I mean, not a great -- there's a lot of detail on here as well, but I think the important thing to say is that, both divisions, as Simon said, are performing well, both similar levels of organic growth. Magnetics & Controls has delivered greater EBIT drop-through the period, but kind of you could say, it needed to, because its margins were a bit lower. This is the region where the wind sector exposure is. So that's why Asia is down there. Asia being China. And then on the sensitivity -- Sensing & Connectivity division, similar profile. The only real difference there is that, Asia has grown by 15% and that's because the renewables solar business sits within this division, and that continues to grow well. Design wins. You'll all remember that design wins are an important driver of the organic growth. They are the organic growth driver. I mean, well over 90%, probably over 95% of our revenue is pure design win revenue. So without a design win, we don't get the revenue. So it's very important that the design wins continue to grow. And you can see here that the estimated lifetime value of design wins during the year was GBP 273 million, up 11% on last year and of those design wins 89% were in our target markets. So that's great performance. And what always happens in a slowing cycle is that, customer design activity increases and actually, we saw that particularly in the second half, a very strong increase in customers' project activity. So we expect that to sort of continue to drive design wins through this -- the new year. Order book, so it's a great order book. I mean, it's down on the interim period, but it's flat year-on-year. It still represents something over 5.5 months of revenue, which is well above the pre-COVID historic norms. But it's normalizing and it will continue to normalize in the first half this year. The global supply chain crunches are sensibly over. Supplier lead times throughout the industry are coming back to norms. Customers, therefore, no need -- no longer need to place 6-, 9-month orders. And therefore, their order windows are shortening and therefore, our order book is just pro rata adjusting. So it's entirely as we would expect it to be. But it's doing it -- I should say, I mean, it's quite a measured adjustment. It's not a very steep adjustment. More broadly what we're seeing is, little tweaks to the order book rather than any kind of fundamental change, which I think is quite reassuring. Acquisitions. This is our acquisition return slide. So you can see there the EBIT ROI for the -- this is the EBIT for the year just gone over the fully-loaded investment costs. And you can see that, well over half of the acquisitions are now delivering over -- ahead of our 15% EBIT ROI target. And some of them are really knocking the lights out, doing a really, really super job. Couple there on the right are -- or a few there on the right are lower. The sort of the L, M, and N are the more recent acquisitions. O and Q are the 2 businesses that were affected by the supply chain crunch on semiconductor shortages during the year, which are now over, the supply is back to normal. So those figures will come back up. And P is a business that was slightly negative last year and we took some corrective action last year and that is starting just beginning in these results. But in the year ahead, should show some significant improvement. So overall, we feel that the ones to the left of the chart are performing, obviously, very well indeed and the ones to the right are all sort of on track and we feel we'll get to our 15% target. The key point, obviously, here to make is that, this is where the real value creation is in discoverIE. It's buying a business, getting a decent business that we believe we can invest in and grow. And then growing it year in, year out for 5, 7, 10 plus years. And when we do that, the returns we make are really, really rock solid. And we believe that there are huge future opportunities for us in this space and we will just keep applying the same model, buy decent businesses, invest in them, and grow them, and it will keep coming. And this is an example of a little more detail about how we build a cluster. So, we have -- now actually we have 3 clusters. Variohm is the second cluster we created. It's all built off the back of a sensing business that we bought in January 2017, based in the U.K. Since then, we've made 5 further bolt-on acquisitions that you can see -- you can see the logos down there at the bottom of the chart. Positek in the U.K. and Cheltenham, Phoenix in the U.S., Limitor in Hungary, or Germany, Hungary, CPI in the U.S. and Magnasphere in the U.S. And what that's done is that, we bought a whole series of complementary sensing and switching products. They operate as bolt-ons under the Variohm management. So the Variohm management team comprises the Managing Director of Variohm and the cluster who was the Sales Director of Variohm when we acquired it. He is now the Managing Director and then we've recruited or he has recruited a top team around him, a Finance Director, Sales Director, a Marketing Director that lead and manage that cluster. And then the individual businesses operate under that reporting into them. And that enables them to sort of cross-sell and train each other on each other's products, but still retaining their individual discrete identity, and we find that works very well. And the numbers in the table just sort of support that. The revenue growth of 24%, that's growth of top line revenue, that's not organic growth. You can see the operating margins, as we bought these sort of small higher margin businesses, the operating margin has almost doubled to 20% -- 19%. ROCE 23% -- has gone up to 23%. EBIT ROI of the cluster is 18% and bear in mind that Magnasphere is very recent acquisition. Working capital has gone up slightly because of the supply chain challenges in the year, but still pretty good at 18.2%. And we've internationalized the sales predominantly through those U.S. acquisitions. So we think that's a really good way of building a sort of niche sensing business that keeps the individual businesses and the entrepreneurial dynamism sort of close to the customer whilst enabling us to build a bigger, more effective, and efficient business. So really good arrangement. So just to finish with the outlook. So the new year started well. We're obviously lapping pretty tough comps, but I'm pleased to say organic growth is still continuing. We're kind of in the mid-single-digit sort of range at the moment, but things are continuing to adjust. Our order book is normalizing as expected. But we're still well above pre-COVID norms for order book coverage. So we feel that's -- that will continue to come down a bit, but at the moment, it looks as if it's going to still stay a little bit higher than pre-COVID norms. Design wins are in very good shape. We have a strong pipeline of acquisition opportunities with, as Simon said, around about GBP 100 million of acquisition firepower. So, whereas the -- this year just gone was predominantly about organic growth and efficiencies, and 3/4 of our profit growth came from the organic development in the year. Going ahead, there will be lower organic growth with more contribution from acquisitions. So we think we're in good shape. The business is performing very robustly. And we're pretty confident that we should have a good year ahead of us. So with that, I'll thank you for your attention and open the floor to questions. Should we -- Simon, should we come up here?

[ Luke from Investec ]. Just a quick question on vendor price aspirations and are they coming down? And what number of prospective deals are you seeing out there, please, Nick?

Yes. So price expectations, they came down a bit earlier in the year and they've gone up a little bit, to be honest. But they're back within our target range, which is obviously good. I think that -- but yes, I think it's still quite an active environment, although the market generally isn't doing a whole -- you haven't seen a whole lot of transactions across the industrial space recently. I suspect there is a lot of activity going on, not just with us, but with others as well. The things are back in the range.

It's Andy from Jefferies. Just following on from that. Given that interest rates are higher than they were 12 to 18 months ago, do you guys think about M&A in any different way? I mean, your IRR clearly is a lot harder to achieve at 6%, then nothing. And I'm just wondering your thought process or anything that changes that. Clearly, you're also looking for higher margin acquisitions than you were previously or -- to get to your targets. Again, thoughts there because by definition, you have to pay more for higher margin businesses or don't you? So that's the first one.

So, we buy high-quality businesses that are going to grow over 7, 10, 15, 20 years. That's what we're looking for. So that's our starting point. Yes. The higher interest rates makes it more difficult in the short term and that -- we have to be mindful of that. But with the pricing that we -- levels that we think we're at, we are still able -- we should still be able to get to our kind of returns targets within a sort of 3- to 4-year period. So it puts a bit more pressure on it, but we still feel as though we're kind of within the operating target range.

Yes. We've obviously moved our WACC up to take account of that. But these are good accretive acquisitions we're looking at. It may nip a bit of the accretion, but they are still decent acquisitions. And at some point, rates will come down a little bit.

[ They will ] never come back where they are, you've never seen that. But they're going to probably dip a little bit, but...

And then just on the margin target, I think 2/3 of the margin target is from M&A and 1/3 organic. Is that for both the 13.5% and the 15%? Or is that more of the 15? Okay, fine. Good. And then just lastly from me. If we think about pricing this year, we've got the GBP 5 million surcharge if that's the right word to drop out. Yes, positive pricing this year, negative pricing from raw materials rolling out, what's your thought there, please?

Well, I think, raw material costs are coming down. We've got other costs sort of still going up. So, obviously, wage inflation, energy costs, and things like that. So in the round, we'd be looking at keeping our pricing where it is. You're not going to get these sort of surcharges, but equally growth that you see going forward is going to be volume growth and not price growth.

Good to be clear that surcharges won't continue. That was semiconductor-related.

Yes.

Correct.

Can I pick out the 2 slightly weaker numbers in a very good set of numbers and ask you about wind and China, which are obviously related. But I think previously you've said that orders were picking up a bit on the wind side, but hasn't come through to sales yet. Is that still what you're seeing? And equally, on China, is there any benefit from the sort of reopening momentum there? Or is that much more sector-specific?

So the wind has sort of flattened out a bit. We did see a pickup in orders and the order book is kind of pretty good actually. But the -- we're not seeing sort of a strong recovery yet and we're not entirely clear on just how -- when exactly we're going to start to see us sort of return to growth because we think we're well aware of all the macro drivers for wind. But I think the -- we're not yet seeing those growth -- that growth come back. We've seen the whole thing stabilize and the order book rebuild, but it's kind of -- at a revenue level, it's kind of pretty flat. Whereas solar is very strong. So -- but it's a smaller proportion than wind. In terms of China, we weren't badly affected by the slowdown. We didn't feel the slowdown when the -- with the lockdown closures last year too significantly, and we haven't seen a great change in the reopening, to be honest. So we don't feel as though we've been affected very much by that actually.

I think just to add to that, wind is -- clearly, it's going to be a -- it's a long-term -- it's going to be a lot of growth momentum market. There maybe be a blip at the moment, but that market is undoubtedly going to grow. And I think, yes, at the moment, the guys are building [indiscernible] and things like that, the pricing has obviously brought their own profitability into question, and therefore, we're looking at it as a big capital market project, but they'll get it right. And over the next course of the next 10 or 20 years, it's going to be a super-growth market, I think.

One unrelated one. On the incremental investment you've put into S&C, which has held back margin a bit there. Is that effectively done now? Can you give us a bit more color about where you've been spending that money and what sort of program that is?

Yes. Well, never say done, but I think a lot of that is done, but still some ERP upgrades and things like that, but we'll have to push through. If you looked at that chart that Nick put up in terms of S&C, you will have seen those 8 acquisitions that we've done in the last couple of years, it's really about those businesses, but we do that. When we make acquisitions, we factor in the costs that we're going to put into those businesses, obviously, into our modeling. But we also make sure that the sellers who are likely on an earnout, where we're going to put those costs in and we don't penalize them in terms of the earnout. So that's an important factor for us.

Henry Carver from Peel Hunt. Just a couple. Firstly, just around on the debate around the order book. And obviously, I think you said normal comes back to sort of 4, 4.5 months [ something like that ]. I just wondered if I heard that right, and that is where you're seeing it come back to? Or any other color around how that might look and whether it might actually be a bit more than that close to where we are now? And then following on from that, how you see your own inventory levels at the moment? Obviously, probably don't need so many on the shelf as you did last year, but just any thoughts around sort of where you see that ending up at the end of year?

So the order book -- pre-COVID, the order book was normal. Steady-state market conditions was 4 to 4.5 months. We're currently something over 5.5 months and we don't see it yet. There aren't any signs in our forecast of it going back to the 4, 4.5 months. We're kind of -- at the moment, it looks like it's more likely going to end up at around about 5 months. So, why is that? Why is it going to end up higher? Well, I think there's a more fragmented supply chain now. Many customers are now making at multiple sites rather than just 1. So that leads to a sort of certain duplication or a little bit overlapping of order book. So all of that drives to a slightly higher order book perhaps than in previous times. So at the moment, it looks like that sort of 5 level might be about the new norm.

Just in terms of the second part of your question, the actual -- our inventory levels, I think, we've done a very good job of sort of bringing that down. I think, again -- I think some businesses will -- that we have will continue to hold a bit more higher stock because some of the orders they've got are really decent long-term orders. And so, they are required to have that. So I'm not sure it will necessarily come down to the levels of where it was. But ultimately, it's always -- it's -- we have a -- I head up our working capital committee across the group and it's a fundamental part of what we want the financial controllers do. And likewise -- and we measure them on monthly average working capital. So it's not just about half years and year-end. It's about the consistency of working capital across that period. And what you want is that, all to come down, and therefore, you're getting real cash derivation rather than just sort of spike EBIT. When we do acquisitions, again, it's a fundamental part for us. We can -- we got best practice and typically how those guys reduce their own working capital, [ that adds ] value.

James Beard at Numis. Couple from me, please. On gross margin, the 100 basis point organic uplift that you talked about in the year. How does that vary across the 3 divisions? So, obviously, the operating profit picture is quite different at the divisional level. So just wondering if you can give some more on that.

There's a bit more -- that was certainly more in M&C, more of a pickup in M&C than in S&C, which again drives the operational leverage point, so much higher profit growth you saw in M&C than S&C. But I think both businesses, the task we passing that cost through it. It's not an easy job. Price is going up. You've got to be on it all the time, right from the start, talking to the customers and reevaluate those costs. So it may look easy for us sitting here, but it's a good hard job well done.

And then secondly, Nick, I think you referenced organic revenue growth. So far this fiscal year being mid-single-digit. That's I think a bit of an acceleration from where we were in Q4. What's driving that?

Well, so we have a very -- I mean, the absolute -- we're still knocking out record revenue numbers, obviously, and against very tough comps prior year. We're seeing very strong order books, very solid demand patterns. We're seeing a little bit more moving around, but it's pretty small scale stuff at this level. We're seeing some of our very large customers who have grown very, very strongly just sort of trimming their demand slight -- one of our very large customers has talked about just burning off a little bit of inventory. So there's still -- so the growth rates with us have slowed a little bit, but they're still growing and they're still able to adjust their inventories whilst growing their demand with us. So they're, obviously, growing -- their growth rate is faster than the growth rate we're seeing at the moment. So I think that -- I mean, it all feels very -- at the moment, like a very measured management of supply chains and inventories and following a very rapid period of very, very strong growth. And it's built on very strong order books and very high-quality customers. So, it's a bit of a wooly answer, James, but I think that's what we're seeing. We're seeing good customers with good demand patterns, managing their inventories in the same way that we've burnt off inventory at the end of the year. They're doing the same kind of stuff, but on a backdrop of a pretty firm demand. And we've seen -- we've all seen some of the big global industrials deliver some very strong recent trading updates, and that kind of aligns with what we're seeing with some of our customers. So, so far, it feels very measured.

Sorry. Another one, if I may. You talked about the lower cyclicality of the target markets, which is obviously a pretty key consideration at the moment. Can we push you a bit about the dynamics within those 4 markets, particularly the industrial and connectivity bit? Because there's lots of debate about whether the positive forces of kind of reshoring and automation offset the sort of cyclical and sort of confidence reduction in CapEx. What are you seeing there? And do you think that is the more cyclical end of your target markets?

Yes, that is the more cyclical end of our target markets because the industrial connectivity or the industrial connectivity segment has a greater proportion of smaller customers that are in this sort of IoT world. So whilst the prospects for growth are super, we haven't seen the things like -- the effects of things like 5G data coming through. But as that comes through, that plays very, very strongly into things like industrial automation markets, robotics and the like. But there are -- there is a greater proportion of newer customers in that segment. So we're sort of -- we see that as being a little bit more cyclical, whereas in some of the bigger, more established market areas like transportation and transportation security for us, we're seeing those as being much more solid. I mean, these are, I would say, nuances a little bit, but nevertheless, those are the sort of the trends that we're seeing. And sorry, just to add one final comment, I mean, we're seeing, for example, in transportation, now we've got some very strong rail project demand in the U.S. coming through, which I'm sure is all sort of a consequence of the IRA Act in the U.S. and so forth.

Lydia Kenny from Investec. Just 2 quick questions on price stickiness with your customers. We've seen some competitors had to adjust. What are your views on that? And the second one is, at the half year results you -- like India had standout organic growth and it's not touched on in this. Could you provide some more color on that as well, please?

Yes, sure. So in terms of price stickiness, so we -- our prices are firm. We're not seeing any downward pressure on pricing. I think that's principally because raw material levels are still very high by historic norms. If you look at copper and steel, aluminum and plastics, the -- since the reopening of China after the lockdown, the raw material prices recovered very strongly at the beginning of this year, calendar year and they've kind of stayed there, drifted a tiny bit, but they've broadly stayed there. So that kind of underpins our pricing and needs to because we buy those raw materials. In terms of India, so we saw -- yes, you're right. We saw -- we have very, very strong first half growth. It kind of -- it didn't grow in the second half. That was principally due to -- there was one customer adjustment. They had a big inventory correction that they needed to make and that product was made in India that we supplied Western customer. So India was flat for the year. So strong growth first half, bit of a decline in the second half, flat overall. But India for us will be a good growth market going forward. I mean, the key considerations are that the production costs, labor costs in India and Mexico are quite significantly less than China. So as China becomes a sort of China for China production environment, India and Mexico are kind of stepping into provide regional alternatives from a very competitive position. And they're good -- they're operationally very good places to be doing that. So -- and then you've got the whole India investment program, Modi's India First program, which is only going to provide a boost to demand for India as well. So, India and Mexico are going to be good strong growth areas for us in the future.

It's Ed Maravanyika from Liberum. Nick, just had a question on new products. What percent would you say roughly is from new products in any particular year or over a cycle? And what sort of areas or what new product types or ranges can we look forward to in the coming years?

So the new hired -- the new -- so if I refer by -- if I use as a proxy for new product design wins, then we are roughly generating around about 15% of our revenue in a year is coming from new design wins that are -- first 12 months following a design win. So roughly 15% of the revenue is product design wins achieved in the last year. And sorry, I forget the second part of your question, because I was trying to work out the answer for the first part.

Yes. It was more just a question around maybe the types of new products we can expect if you're moving into new initiatives or anything interesting and exciting?

So we've got some very exciting products in some of our businesses. The recent acquisition of Magnasphere in the U.S. makes a very high-performance sensing switch, magnetically-activated sensing switch. We're looking at acquisitions in the pipeline with some very interesting super niche products. But generically, I would say, it's kind of more of the same. We -- the bulk of our revenue is driven by the long-established acquisitions, and they're just doing more of the same. They're just keep chunking at new custom designs of using the base technologies that they have and that's great because it's a relatively low investment requirement to do.

Would you mind just going back to your comments on China and the shift from China for the world to China for China? And how that impacts you? I just want to make sure I don't misunderstand what you were saying. So the China for China, it's more of an end market thing than a discoverIE thing? Or does your manufacturing footprint have to evolve more going forward? Just wanted to make sure I don't misunderstand what you were saying.

Well, so customers are -- they are -- our customers are moving from an environment where they had it all made in China and shipped to wherever in the world. The U.S. is a good example of that. They want product made, not specifically -- not in China and they specifically want stuff made in America. So most of the movements that we see are more towards the U.S. manufacturing base with a little bit in other Asian countries, but that's very much an overriding sort of a trend that we see going on in Americas. And in Europe, we see a less accentuated version of that. We see more of an environmental aspect on it. Long before the political sensitivities, we were -- we had customers -- have customers in Northern Europe that were asking to move a proportion of production from China to Poland because they wanted to reduce lead times and they had a concern over supply chain and environmental conditions. And it's interesting to add that since we've signed up to SBTi, we can see all of our customers that have signed -- all of the customers of ours that have signed up to SBTi and there are lot of them. And as part of their Scope 3 -- plans for Scope 3 emissions reductions, optimizing the supply chain and taking carbon emissions out of the supply chain means moving production more locally. So, that's what's driving it in Europe.

And do you have the ability to repurpose a plant for China for China away from China for export? Or you just move it to India, Poland, whatever?

Well, so we keep a production in -- so what it basically means is that, we were expanding our plants in China 5 and 7 years ago. We're not expanding them anymore because the shift of -- that shift is meaning that we're doing more in India. So we've -- India, we've got 2 -- we're moving from -- we will move from one of those parts to a new -- twice the size plant. So we're expanding India and we did the same in Mexico last year. So all it means is that, sort of China -- we keep China as it was, but the growth comes elsewhere. So China will become a lower proportion of the total over time, but we'll still be -- I want to emphasize that China will still be a very important market for us and we supply Western and Chinese customers -- Chinese multinational customers. So it will continue to be an important...

I was making sure I didn't misunderstand.

So, okay, are we looking for any questions from the...

Webcast. Yes. We've got one question from the webcast. It's from Tom Fraine from Shore Capital. Tom asks, was the Q4 organic growth slightly higher than you initially disclosed in the pre-close update with the FY or the full year organic revenue growth reported this morning being ahead of the 8% you initially stated?

I think what was in the trading update was probably [ right ] a touch higher. But don't forget, if he is looking at differences in revenue, there was that GBP 5 million that was booked -- that was just booked in Q -- it was sort of booked from an accounting point of view in Q4, but actually it spreads across the year. So 2 point -- actually GBP 3 million of that was H1 related and GBP 2 million was H2 related. So it may well be because he sort of -- he's loaded it at all in the Q4.

Well, so the 8% reported in trading update, finalized is 9% organic. And that was because Q4 was slightly better. Then on top of that, there was another GBP 5 million that Simon is referring to was an extra credit -- the extra 1% that gave us the 10% headline figure. But if you like, if you strip out that -- the semiconductor purchasing adjustment, then the real number, if you like, is 9%, which was marginally better than the trading update. Okay. Thank you. I think that concludes everything. Thank you, everybody, for coming, and have a great day.