Dover Corporation (DOV) Earnings Call Transcript & Summary

All right. Great. Well, good morning, everybody. Thank you all for coming to day 1 of the Goldman Sachs Industrials & Materials Conference. My name is Joe Ritchie. I co-head up the Industrial Materials team at Goldman, also cover the multi-industry sector. Before we get going with our first presentation I'm required to make certain disclosures. In public appearances about Goldman Sachs' relationships with companies that we discuss. Disclosures relate to investment banking relationships, compensation received or 1% or more ownership. We're prepared to read allowed disclosures for any issuer upon request. However, these disclosures are available in our most recent reports available to use for clients on our firm's portals. Also, the views stated by non-Goldman Sachs personnel do not necessarily reflect those of Goldman Sachs. So with that, really excited to kick off the conference with Rich Tobin, President and CEO of Dover. Rich, thanks so much for being with us today.

Thanks, Joe.

Right, Rich. I'm going to -- you just had an Investor Day not too long ago. There is a lot of discussion around -- and we're not going to start with megatrends. I know you love that topic. But there's a lot of discussion about how compelling your portfolio is over a cycle, mid-single-digit type growth. For those that maybe missed the Investor Day, talk about what you think about your portfolio, where it's going to grow from here, and we'll start there.

Sure. Well, I would call anybody's attention to the presentation. I think it's like 60 slides or so. It's on our website if you want to refer to that. But at the end of the day, the presentation was twofold. It was: one, a little bit of a scorecard of where we stood about the goals that we put out there in 2018. And then we set new goals through the 2025 in terms of revenue and margin by segment, which I think makes us kind of unique, but we like to take our internal and make them external goals and then everybody is rowing in the same direction. I think the old of us, those of you that followed over, we've been banging the drum a little bit about that, for some reason, the inherent growth of portfolio is misunderstood. I think that we've shown over the previous 5 years that we've grown, on average, 5% year-over-year -- or CAGR year-over-year, and expanded margins materially during that time period. And basically, what we did is reset ourselves starting in 2023 and talk about where we think that we can take the portfolio from a growth vector point of view and then what that means in terms of margins. Very much previous kind of path that we were on was a significant amount of cost take out. As you would expect when you change CEOs from here, it's more of where we're driving our investment. And so margin mix becomes more important going from '23 to '25, and then we went through a variety of different vectors that we're investing behind, both organically and inorganically to give us some exposures to new vectors of growth that hadn't been in the legacy portfolio.

Yes. So Rich, let's use that as a jump-off point, right? Because there's roughly, I think, 15% of your portfolio that you talked about being double-digit growth going forward. Just walk us through your -- where the opportunities you're most excited about, your position in those markets and why you expect to win in those markets?

Well, the ones that we highlighted was biopharma despite the -- this year being a little bit of a down year in biopharma, we just think of the cycle that we've built a very compelling position. In the biopharma space, both organically and inorganically, part of the reason that we had the conference at our biopharma connector facility was to kind of highlight the technology that we've developed over the years. We think that there's plenty of space there to continue to grow organically, inorganically again. So it's just a question of winning the spec from here, right? This is a specified, very highly regulated business. So to the extent that you can win the spec, your life of the production of a particular drug here on the spec and so it's got recurring revenue associated with that. We highlighted CO2 systems. That's in our Refrigeration business. We've -- we will be completing a brand-new production facility in Georgia on the back of a change in regulation in the United States of moving from legacy refrigerants to CO2. We are the leader in Europe. So we're basically bringing the technology that we've had in Europe for the last 9 years or so, and we're bringing into the U.S.. We think that we've got a unique position from both an IP point of view and from an installed base point of view. And the other one that we highlighted was in cryogenic gases. So if you think everything around the hydrogen complex. We made some acquisitions at the end of '21 that have been quite successful so far from a growth and a margin point of view. And we think that there's additional space for us to continue to build out that position, both organically and inorganically.

Great. And so we talked about the really good parts of your portfolio that are growing double digits. There's parts of your portfolio, about a little over half of your portfolio that you discussed, it's more like a GDP-type grower. And those businesses tend to have margins below the portfolio average. I'm just curious, like how do you think about the portfolio more broadly? Are there opportunities for maybe some addition by subtraction?

We are a revert and return on invested capital company. So I get it that everybody likes to see margins go up over time, but margin is: one, reflection of returns as opposed to return on invested capital. So there's portions of the portfolio that we've done a very good job of what, let's call it, the legacy portion of the portfolio, moving the margins up quite a bit. We've invested some capital over the last cycle that we don't believe is reoccurring. So if we can get those kinds of returns without a lot of capital consumption, and we can be really focused on working capital returns, the returns that we get out of what are the GD portion of the portfolio are quite high. We use the totality of those cash flows to invest in some of the higher growth areas. So that's a little bit kind of how we run it. We'll be opportunistic, I think, on both in and out in terms of whether we want to call it portfolio pruning or not.

And some of those investments -- just to follow up on that question, some of those investments that you're talking about, immediately, what came to mind for me was DCS, and the investments that you made in automation in the Food Equipment segment for duration segment. So is that what you're talking about? Like there are investments that you still can harness where you'll still -- you should see much better margin improvement over time because of the investments that you made?

Well, I think you're already beginning to see that to a certain extent in terms of what the margin we're able to do from a pure productivity point of view. So if you think about it a little bit, there's -- if you go back and look at capital allocation, CapEx now, we've actually been investing equally in the GDP portions of the portfolio that is solely on productivity projects to move margins forward. The balance of the CapEx that we've put in have been behind organic growth. So I mean we've -- one of the pieces that we didn't touch on was our heat exchanger business were doubling as an example, we're doubling our capacity in that. We'll be complete with that project by the end of this year.

Yes. Great. So you touched on margins a little bit in your comments. Last few years have been pretty tremendous, right? I think you've expanded your margins about 100 basis points a year for the last 4 years. I know that you're now targeting 25% to 35% incrementals, but targeting the high end. So maybe just kind of talk about some of the initiatives that are going to get you to the high end, and how confident you feel in that number going forward?

Yes, the last cycle, we did 39%. So I mean, we got a little bit of stick about how come margin accretion is not what it was in the past. When it has to understand that we're predicting mix of margin going forward, so we need a little bit of headroom to deal with all the pieces of the portfolio don't grow at the same speed in any given year. Having said that, what you need to understand is that we lost a couple of years in terms of fixed cost takeout because of COVID, right? So if you go back and look at what were doing, in '18 and '19, we were doing a lot of fixed cost reductions. So we're talking about combining footprint to extract synergy value. We lost a couple of years because of the fact: one, COVID, you couldn't get around to do it, and then we had this big explosion of demand in a very short period of time. So it's not really the best time to be taking fixed cost out which you saw at the end of last year, though was us to get back onto that path. And I would expect that you're going to see more of that in the second half of this year and through '24, '25. So we've got a lot of the footprint actions again that we're going to see that coming from there. And then between the 25% and 35%, it just becomes a matter of mix, right? So depending on what portion of the portfolio is growing in any given year, it's going to accrete based on the margin of that particular segment.

So we'll get into mix in a little bit and talk about the different segments. But, Rich, you've had a great pulse on what's going to happen in the economy, what's going to happen to the backlog and order trends. And you've been [indiscernible] about all this. I'd just love to hear your view how you see things playing out over the course of the rest of the year and into 2024?

Yes. It's a little bit of a mixed bag. There are some underlying avenues of growth, whether they are regulatory driven -- a lot of which are regulatory driven, so we talked about CO2, we talked about heat exchangers, to a certain degree, the cryogenic components and those things. So those -- our expectation are just going to push through no matter what the economic environment is. I think we need to be careful with anything that's got consumer exposure, and we need to be careful with anything that's got credit exposure. So we're taking a close look at portions of the portfolio that we have that may have some exposure there because, quite frankly, credit tightening is a thing, and it's going to happen in a real way over the balance of this year until we settle out. So that's -- when we look at the portfolio, we try to look at end market exposure and then adapt ourselves to that. So as I mentioned on the last call, portions of the portfolio, we're stepping on the gas. So despite kind of a concerning general macro, we are still investing heavily in capacity expansion because we believe we can just ride it out because we know that the demand -- the fundamental demand is there on a multiyear basis. Other portions of the portfolio, we're taking a real close look at our cost structure because we think that maybe some of those end markets may slow just because of credit available.

It's interesting. Is it too early at this point to tell like how much slowdown you're going to see, or whether you're starting to see some of the slowdown? Because if you take a look at your April orders, I'll tell you, they surprised me positively. Taking out the cancellation, I think you were down 3%. So are you seeing it in any parts of your portfolio today?

No. I mean, we -- we're -- I think that we're the only industrial company that gives orders and back to our detriment sometimes, orders and backlog and every piece of data there. So you see what we see. I think that we're just trying to look over the ridge line to a certain extent. And as I said, we try to be thoughtful about what could happen with pieces of the portfolio. But like I said, at the end of the day, we don't manage this business for Q2 or Q3 or Q4. We can, right? And I think that we've proven during the COVID times when we need to put the brakes on, we can protect margins as good as anybody in the industry. So it's a little bit of -- we don't treat all portions of the portfolio equally depending on trying to be thoughtful about what could happen in certain pieces.

So as you think about the portfolio then today and what could be potentially sensitive to a slowdown in credit, what portion of the portfolio are you taking actions on today?

Well, I mean, we're taking -- we have been in the back half of last year and in the front half of this year, have been taking action on fueling solutions, but that was more because of we need to pivot that business because of the roll-off of EMV and everything that we've talked about. So you saw us take -- made some significant cost reductions there because we just need to run that business a little bit differently than we have in the past because of the flattening of demand. The rest of it, I think that you wouldn't really see it. I mean, you're going to see some footprint actions, but that's broad-based across the portfolio because that's a little bit more complicated when you're combining plants. I think the rest of it is just going to be on the SG&A front. We're just going to have to run things tighter depending on what our view of the near-term demand may be for the balance [indiscernible].

Got it. And I mentioned the backlog cancellation. Just quickly, do you want to touch on that? It was roughly $90 million. Your expectation on that coming back later this year or filling that capacity with additional orders, how do you think about that?

We won't fill it for Q2, but in terms of the overall backlog, we'll fill it progressively over 1,000.

Did the cancellation self surprise me?

No, not really. I mean, I think, again, back to what you and I have been going back and forth about. We had been in discussions and I'm not going to name those customers, with that particular customer that was looking at their business strategically. And so we've been having discussions about how we are going to handle that mutually the customers, a core customer of ours, I think it's just a timing issue.

One of the key takeaways again out of earnings is this whole price cost tailwind that you're starting to see many companies realize. Talk through in that 3% to 5% organic number, how much pricing do you have coming through there? And then maybe some color around like commodities as well and how that's impacting the business?

I mean the top line in aggregate is very much driven by price this year, right? So the vast majority of it from a revenue increase in prices. So they've got portions of our portfolio. They're organically growing. We've got certain portions of the portfolio that are slowing some because of a variety of different reasons. So we did a really good job in terms of managing price. And I think, as you -- if you go back and take a look at last year, we were basically saying we're going to call up this portion of the portfolio in the first half, but don't worry about the second half because of the industrial portion of the portfolio is going to rally in the second half, and I think that we were up 400 basis points in margin. And that's the timing difference between commodity exposure and working capital turns. So you've seen that roll forward again. So what we have in our pocket is some of the more lucrative portions of our portfolio that had cycled down in '23, we believe, is a real opportunity when that cycle is back up, that is going to be highly accretive. So it's always with Dover, we've got a lot of different exposures to a lot of different marketplaces. They don't move in sync. I think that investors should be not overly concerned with the one piece of the portfolio that may be cycling down. Because if you go back and look over the previous 5 years, despite all the consternation about EMV and a variety of different things, we grew at 5% of the year because of the accordion effect of the portfolio has served us well.