IMCD N.V. (IMCD) Earnings Call Transcript & Summary

Good morning, ladies and gentlemen. Thank you for holding, and welcome to the analyst call Q3 results IMCD N.V. [Operator Instructions] I would now like to hand over the conference to Mr. Piet van der Slikke. Please go ahead, sir.

Thank you. Welcome, everybody. I'm here, as usual, with Hans Kooijmans. And together, we will answer your questions on the first 9 months and Q3. Despite the COVID-19 crisis, we report strong results. For the first 9 months, EBITA growth of 8% and even 11%, if you correct for ForEx. Q3 wasn't particularly strong with 11% growth of operating EBITA and even 17% when we adjust for currencies. All regions contributed to this success. Furthermore, free cash flow is 21% above last year. We are very pleased to see that we are able to continue our business also in these difficult times and that we are even able to grow by margin expansion and cost control, although we are, like everybody else, affected in our top line. This is promising once this crisis goes away, as it leaves room for further growth. Generally, we are encouraged by the positive resonance our business model we see from suppliers and customers, which is evidenced by the projects we are working on and which will hopefully fuel future growth as well. This Q3 was very positive in another sense. We were able to sign an agreement to acquire 70% of the shares of Signet Excipients of India and successfully issued an almost 4.4 million shares to finance this acquisition. Last week, we closed this deal. Signet fits very well in our global pharma strategy and expands our position in India. As you know, everything is made possible by our excellent staff, who continues to deliver a top performance under difficult circumstances in the various activities: In sales, in order handling, in labs, in warehouses and logistics. I want to thank them all. In summary, IMCD is in good shape, and we are positive about our near-term prospects. I would like to hand over now to Hans to lead you through our results.

Thank you, Piet. Hans here. Good morning, ladies and gentlemen. Before we go to Q&A, I will briefly summarize IMCD's first 9 months results. And I will start on Page 10 of the presentation with an overview of the key financial figures. As you can see and as Piet just mentioned, ForEx adjusted revenue increased 3% compared to the same period last year. And more important, gross profit increased 9%. And this gross profit increase is a combination of 4% organic growth and 5% as the result of the first-time inclusion of acquired businesses in 2019, like Whawon and DCS, and further acquisition growth includes the positive impact of Zifroni, Develing, VitaQualy and Kokko-Fiber, acquisitions that we signed and closed in the first 9 months of 2020. Signet is, as you might understand, not included in these year-to-date September figures as we closed this transaction on November 4. Gross profit in percentage of revenue increased 1.1% from 22.2% to 23.3%. This increase is the result of gross margin improvement initiatives, changes in local market circumstances, currency developments and the usual fluctuations in the product mix. ForEx adjusted operating EBITA increased 11% to EUR 190 million. And this increase was a combination of organic growth and first-time inclusion of acquisitions. The conversion margin, calculated as operating EBITA in percentage of gross profit, was 39.1% in the first 9 months of 2020, an improvement of 0.7% compared to the same period last year. Net results before amortization and nonrecurring items increased EUR 11 million to EUR 131 million, an increase of 11%. Free cash flow was EUR 168 million, and the cash conversion ratio increased to 87.5%, a substantial improvement compared to the same period of last year. Operating EBITA growth in 2020, combined with a lower increase in working capital in the first 9 months of this year, were the main drivers of this improvement. Year-to-date cash earnings per share were EUR 2.46, the ForEx adjusted increase of 11% compared to the same period of last year. And on the last line of this page, you will notice a 9% increase of our full-time employees. Most of this increase is the result of the first-time inclusion of acquisitions done. On the next slide, Slide 11, you will find gross profit, operating EBITA, EBITA margin and conversion margin per operating segment. EMEA, in the first column, reported 4% ForEx adjusted gross profit growth and 3% operating EBITA growth. Q3 was a strong quarter in EMEA, with low double-digit operating EBITA growth. Further, operating EBITA in percentage of revenue improved from 9.7% to 9.9%. And in the second column, the Americas, where we report 11% ForEx adjusted gross profit growth and 16% operating EBITA growth. Operating EBITA margin and conversion margin both improved with 1.4% and 2.1%, respectively. Asia Pacific reported 25% gross profit growth and 29% operating EBITA growth at constant currencies. Operating EBITA in percentage of revenue and conversion margin further improved compared to the same period of last year. Q3 was a strong quarter with double-digit EBITA growth for both the Americas and Asia Pacific. And in the last column, you will find the cost of the holding companies. On Page 11 (sic) [ Page 12 ], a summary of IMCD's free cash flow. Free cash flow and cash conversion ratio were both higher than in the same period of last year. And this healthy cash flow was mainly the result of higher operating EBITA and less investments in working capital. Working capital days improved during Q3 substantially from 60 days end of June to 55 days end of September. A more or less normalization of stock levels during this quarter was an important driver of the improvement. Then on Page 12 (sic) [ Page 13 ], a short update on net debt and leverage. And compared to the end of December last year, net debt decreased substantially to a level of EUR 319 million. In the first 9 months, we saw healthy operating cash flow, combined with the proceeds of the issuance of 4.4 million of new shares at a price of EUR 91 per share. The net proceeds of the new shares were used early November to finance 70% of the acquisition of Signet and for general corporate purposes. At the end of September, the reported leverage ratio and the leverage ratio based on the definition used in the loan documentation dropped to 1.2x and 0.9x, respectively. Excluding the net proceeds from the new shares and keeping all other factors equal, the pro forma leverage could be calculated at 2.6 and 2.5x EBITA. And then last but not least, on Page 15, you will find the outlook for 2020, where you could read that we expect operating EBITA growth for the full year. That was a short summary of our year-to-date financials. And Pieter and myself are happy to hand over to the operator to answer your questions.

[Operator Instructions] And the first question is coming from Mr. Mutlu Bond Gundogan, ABN AMRO.

So I have 2. The first one is on the gross margin. Can you tell us why this was down sequentially by any basis points? I know there can be fluctuations between the quarters. But you have all 3 regions show a similar decline. And I remember you saying at the Q2 results that the gross margin had actually benefited from structural price increases. So I'm surprised to see it come down sequentially. That's the first question. The second question is on order patterns. Can you talk about what you're seeing in terms of client activity in life sciences versus industrials? I mean looking at some of the share prices, we see some of the lifestyle customers come down, perhaps some destocking. And there's obviously the hope of industrial customers restocking. Are you seeing that in the order patterns?

Mutlu, Hans here. Perhaps I should take your first one with respect to margin developments. I think if you look over a longer period of time, and there you see changes between quarters every year and during and during the regions. And basically, that has to do with changes in the mix, changes in product portfolio, changes in certain products that are more linked to a summer period or winter period and whatever have you there. So it is, for me, it is just the usual fluctuations that we see during the year, thereby, we are absolutely happy to report that the overall gross margin percentages are still higher than what we did last year. And that is part as the result of the things that I've just mentioned and part of the things of -- part of it is the result of margin-improvement projects that we run internally to optimize margins in segments where we have the feeling that we could do better.

Okay. Pieter here for your second question, order patterns. I think generally speaking, if we go back to the start of the COVID crisis, it's clear that in the industrial sector, and then I talk about what we call coatings and construction, advanced materials, let's say, all kinds of plastics, composites, et cetera, lubricants, synthesis, which is, let's say, chemicals, intermediates, et cetera. There, of course, we have seen and still see, let's say, a decrease in what we expected and what we saw last year. And that has to do, of course, with the end markets that these stores go into. In the third quarter, I think we could say that we saw a slight improvement. But we have to see how this develops now after the second wave, so to say. In life sciences, differences between the segments, of course, you have effects of COVID also in our personal care business and food business, much less than in the industrial sector. And as I reported earlier, a very positive boost, I would say, in the pharma business. All in all, so if you divide it, quite a stable, steady life science business and an industrial business that has, in certain regions, more difficulty. And I say in certain regions because it also differs a bit from country to country or from region to region, depending on -- very often depending on the severity of the lockdown locally. So I think that's a summary of what we see, Mutlu.

And the next question is coming from Matthew Yates, Bank of America.

Forgive me, but I just want to follow-up on that question about near-term trading. Normal seasonality would be for a sequentially weaker Q4. But I guess we would have said that was also the case for Q3 and that didn't necessarily happen with this year being unusual. So can you be any more explicit on the order trends through Q4, what you've seen so far in terms of whether customer behavior is any different to what it might have been in prior years? The second question, I'd like to come back on the Signet deal for a moment. As an independent entity, they were clearly very profitable and growing quite nicely. So can you just talk a little bit more about how IMCD can add value here? In particular, I'm interested about operationally what you can do from embedding your IT system and then whether your customer service model would be different to how Signet's gone to market historically?

Yes. On your first question, I can't elaborate further on, let's say, the forecast. But as we have given that also in the press release, generally, I can say that given the fact that we are, all of us in the economy, working under difficult circumstances, I'm happy about the performance, the ability to expand margins, to save cost, the stability of our business, the possibility to work under difficult circumstances, as I noted. It will depend, of course, on the severity of the lockdowns overall, but given the fact that, hopefully, there comes an end to this crisis gives us reason for optimism. And hopefully, the third quarter is a bit of an indication of that. On Signet, I think generally speaking, and that's why we're also happy with this business is that it fits very well within -- culturally, but also in terms of the type of business that they're doing with IMCD. And we have said, I think also when we announced this acquisition, that we -- that it is not reasonable to expect a lot of cost synergies. But of course, we will bring our systems, at a certain stage, into the company. We have synergies on top line, on the supplier front. We can, together, expand also in the region, so not only in India. There's a lot of knowledge. There's a lot of relationships that both of us can further explore it. So I'm very positive about using the strengths of us and theirs to, yes, to further grow the business. So in our view, it fits perfectly with us.

And can I just squeeze in a follow-up? I think you said that your employees were up 9% year-on-year, and that's obviously before you even closed Signet. Can you talk a little bit about how the integration process for those people is being managed in, clearly, what's a very unusual environment?

That's a good question. And of course, it's more difficult because we all -- most of us work from home. But depending a little bit on the, let's say, the acquisition -- normally, of course, the smaller ones, we do integrate and we have an elaborate program to welcome them in the company, to make them part of IMCD, to put them on our IT systems. So in that sense, that is successful. In the particular case of Signet, of course, that's just closed. That's on the 4th of November. So it's not in these numbers. But we will -- for time being, it will run separately. But the smaller acquisitions, people are, with an elaborate program, integrated. And IT, of course, is the major factor as well in addition to our internal communication, these kind of elements to make them feel at home. Perhaps to add to that, the companies like Develing in China and DCS in Switzerland, Kokko-Fiber in the Nordics, and there, the markets are -- is open and people also commute, visit and meet each other. And these companies are, in the meantime, in a standard process of integration, yes.

And the next question is coming from Quirijn Mulder, ING.

My question is about the organic growth mentioned in the press release by -- in the comment of Piet, 10% organic growth impacting gross profit. If I do the math, looking at 9 months and 4%, and for me, it's somewhat at the high end. So maybe you can elaborate on that. And then your remark on, let me say, resumption of growth, and you are optimistic when the pandemic is over. Can you indicate where you will see the improvements, let me say, the improvement is that you expect, let me say, higher revenue, higher gross profit? Or is that you still think to benefit from the cost savings in 2020, that they will continue? Is that -- or is that a combination of many factors?

I -- Hans here. I missed your first one, to be honest.

Now my first question, if you look at the press release, you speak about 9 months organic growth for gross profit of 4%. And Pieter made a comment in the press release about 10% organic growth for gross profit. If I do the math, then I do not come to that number. So maybe there's an explanation for it.

I'm looking for the 10%, to be honest.

I did say that. At least I can't read my own quote, and I don't see it here.

Now you say 5%, let me say, 5% organic growth, including FX, and that means, in my view, 10%...

Our gross profit increased by -- and that's not -- there, I do not mention the word organically.

And that's correct that the FX is 5% so...

Yes, so in the 5% increase, there is inorganic and the result of acquisitions. So it's a combination of the 2. And the year-to-date organic growth profit growth is 4%, as mentioned on Page 2 of the press release. Perhaps that takes the confusion away.

Yes. And that means, for me, in the third quarter, it grows between 5% and 6% or maybe 5% to 7%, given what we have seen in the first half year.

Yes. And that is -- there, you do the calculation right. I think on your second question, Quirijn, I think, of course, we -- if this crisis would be over, of course, we will be seeing, hopefully, top line growth coming back. We have, as I said before, in the industrial sector, we have missed top line addition. So that's an important element. Of course, we save cost also because of this pandemic. That's probably worldwide, totally changed in a situation of people can travel again, for example, or have exhibitions again. We will have to see that. But net-net, so to say, we expect, let's say, positive results because we have hope that we will significantly grow our top line there as well.

Yes. And you see also structural changes because of -- in your cost levels. In fact, your SG&A expenses because of, let me say, the opportunities which were opened by the COVID-19...

Yes. I mean we'll have to -- I think all of us and all come -- all kind of different companies, so I don't think that's IMCD-specific, but we see, of course, everywhere that, as also all airlines see, that we don't travel anymore. So there is actually a very significant cost reduction, partly that, of course, as everybody says, tells us something for the future. On the other hand, of course, you can't expect that we now stop traveling for the rest of our lives in companies. So it will come back to a certain extent. But certainly, this crisis has helped us also to look at that again and hopefully save -- that we be, let's say, more prudent in the future also with this cost item.

And the next question is coming from Mr. Steven Goulden, Deutsche Bank.

If I look at the difference between revenue and gross profits, it appears roughly that maybe the combination of pricing, mix, maybe some FX and also the internal self-help efforts that you've done kind of added around 5 percentage points this quarter. If we had to sort of break that down between those impacts and volume impact, is that roughly right? And that seems kind of stable with the last quarter. Based on what you've said in terms of the general margin improvements, particularly in North America, should we, therefore, expect that kind of gross profit per unit to be relatively sticky going forward? Or would you expect maybe some normalization toward the end of this year and into next? And obviously, you've talked a bit already on the call around Signet. But given the company has -- given Signet's acquired margins were obviously so much higher than IMCD's, would you say there is scope within the business to -- and potentially it's just within pharmaceuticals or within the geographical region where Signet's particularly prevalent, but to essentially replicate those practices or to spawn other similar business units or products that have the potential to have significantly higher-margin than group as you expand the core Signet business? That's it.

Yes. So Steve, Hans here. The -- I think the first question is a bit in line with what Quirijn asked. I think you were looking for what was the organic growth level in the margin in Q3, isn't it? Was that exactly the question?

Well, what I'm trying to get a feel for is just the extent to which the growth in gross profit per unit perhaps will be sticky going forward. And obviously, that's a combination of pricing, mix, et cetera. Some of it is obviously cost-cutting and operational improvements. But should we essentially assume that gross margins are going to continue at these levels going forward? Or should we, because of obviously the extreme circumstances, assume maybe something of a normalization? I think you more or less gave the answer yourself.

I think you, more or less, gauged the answer yourself. It very much depends on a lot of factors like the mix, like pricing in the market, like availability of products, like currencies and so on and so forth. But I think it's fair to assume that over the years, we have showed to the market that we -- that gross margins have a tendency to stay at a level around about, what is it, 22%, 23%. But you always see fluctuations between the quarters and between the regions. And what Piet said before, if certain business lines come back to more normal, that could have a bit of an impact on overall margin percentage, either positive or negative depending on the margins that we typically generate in these business lines.

Yes. I think adding to what Hans is saying, I fully subscribe to that. I think in addition to that, of course, as we have told before in various quarterly meetings is that we also put a lot of emphasis on increasing the margin in the North America. And I think that -- I hope that we are able to also include these sustained margins. But I think that we have to be careful to give guidance for whether or not our margins in the future will remain at this level. It's exactly what Hans says. If we add product lines that have -- that are significant but have a bit of a lower margin, then that has an effect on the mix. I think in the end, we have to look at our productivity and not only to our gross margin. And the absolute amount of EBITA.