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

Hello, and welcome to the IMCD N.V. Analyst Call Quarter 3 results. My name is Caroline, and I will be your coordinator for today's event. Please note this call is being recorded. [Operator Instructions] I now hand over the call to your host, Mr. Pieter van der Slikke, CEO, to begin today's conference. Thank you.

Yes. Thank you very much, Caroline, and good morning, everyone. I'm here, as tradition is, with Hans Kooijmans, CFO, who will run you through the Q3 financial results, after which we will be happy to answer your questions. First 9 months have produced excellent results in all regions under increasingly difficult macroeconomic circumstances. We spoke on our last call about increasing inflation and supply chain constraints. And I don't need to mention the geopolitical difficulties that we are in. Notwithstanding this, we have been able to show strong organic growth and furthermore, we have been able to continue to do strategic acquisitions. Our resilient business model, which operates across regions and markets will help us to navigate the challenging environment. As of now, we expect the current business momentum to continue in Q4. And with these few remarks, I would like to give over to Hans for leading you through the Q3 numbers.

Thank you, Pieter. Good morning, ladies and gentlemen, and I will briefly summarize IMCD's first 9 months results before we go to Q&A. And I would like to start on Page 9 of the presentation. And as you can see, ForEx adjusted revenue increased 31% compared to last year, and gross profit increased with 35%. This 35% is a combination of 29% organic growth and 6% as the result of the first-time inclusion of acquired businesses. Gross profit in percentage of revenue increased 0.6% from 24.5% to 25.1%, and this increase is the result of changes in local market circumstances, combined with various local gross margin improvement initiatives. Further currency exchange rate developments and the usual fluctuations in the product mix played a role. ForEx-adjusted operating EBITA increased 51% to EUR 443 million, an increase of EUR 164 million compared to the same period of last year. And for sure, there was a bit of acquisition impact. However, the vast majority of this increase was substantial organic growth. The conversion margin, calculated as operating EBITA in percentage of gross profit, increased to 50.2%, which is a substantial improvement compared to the 45% in the same period of last year. An even bigger increase for our net result where we report a growth of more than 74% to EUR 264 million. On free cash flow, we record an increase of EUR 48 million compared to last year and a cash conversion margin of 55%, which was lower than the same period of last year. Substantial organic growth of IMCD's business activities not only resulted in higher results but also in higher working capital positions. Organic working capital increase was EUR 197 million, and this means a 31% increase, which is more or less a similar percentage as the organic revenue growth before currency adjustment. And this working capital investment is mainly due to increased debt and stock positions, a logic consequences of the increased business activities. Year-to-date cash earnings per share were EUR 5.34, an increase of 57% compared to the same period of last year. And on the last line of this page, you will notice a 17% increase in our number of full-time employees, and most of this increase is the result of new employees as a result of the acquisitions done. On the next page, Slide 10, you will find gross profit, operating EBITA, EBITA margin and conversion margin per operating segment. EMEA in the first column, we reported 34% ForEx adjusted gross profit growth and 50% operating EBITDA growth. Q3 was another strong quarter for EMEA, whereby most of this growth was organic. Further, operating EBITA in percentage of revenue improved from 11.3% to 12.9%, and the conversion ratio increased to 48.7%. In the second column, the Americas, where we report 39% ForEx adjusted gross profit growth and 57% operating EBITA growth. Also in the Americas, most of this growth was organic. Operating EBITA margin and conversion margin both improved with 2.2% and 6%, respectively. Asia Pacific in the third column reported 34% gross profit growth of 36% operating EBITA growth at constant currencies. Operating EBITA in percentage of revenue was more or less flat at a high 15-plus percent number, and conversion margin improved slightly compared to the same period of last year. And then in the last column, you will find the cost of the holding companies, and this includes all nonoperating companies, including head office in Rotterdam and the regional support offices in Singapore and the U.S. Page 11, a summary of IMCD's free cash flow. As mentioned before, free cash flow was EUR 48 million, higher than last year, with a cash conversion ratio lower than last year, and I explained the logic reason of the higher working capital investment and due to strong organic business growth earlier in this call. And CapEx was low, as usual, in line with our asset-light business model. Slide 12, a short update on net debt and leverage. Compared to the end of December last year, net debt increased with about EUR 180 million and this increase was a combination of on one hand, positive operating cash flows combined with cash outflows as a result of acquisitions done and the EUR 92 million of dividend that we paid in the first half of this year. The reported leverage ratio, defined as net debt divided by operating EBITDA, including the full year impact of acquisitions was 1.9x EBITDA at the end of September. And leverage, based on the definitions of our loan documentations, was 1.4x EBITDA. And then last but not least, on Page 14, you will find our outlook for 2022 where you could read that we expect operating EBITA growth in this year. And that was a short summary of our year-to-date financials, and Pieter and myself are happy to answer your questions. So back to the operator to open the lines for Q&A.

[Operator Instructions] We will take the first question from Matthew Yates from Bank of America.

I've got 2 questions. One is pretty short term, one is much more longer term, perhaps we'll do them one after the other. The short-term one, Brenntag yesterday said that volumes would understandably be seasonally weaker in Q4, but we've heard broad comments about destocking across the chemical industry. They were, however, pretty upbeat that margins were holding up nicely into Q4, at least so far. It wasn't clear to me if they were referring to the supply-side dislocations and some of the more commodity portfolio like ammonia and chlorine or whether this statement also applied to the more specialty part of their portfolio, so I appreciate if you can share your perspective on how Q4 seems to be evolving.

Yes. I could concur with what apparently Brenntag has shared. I think the prices will hold up most of them in the coming few months. And I'm only talking about the coming few months. I can't, of course, see further ahead. But so I think that, as I also shared that we expect business momentum in Q4 to be following the current -- let's say, the current momentum. So yes, I think prices will hold up across the board.

Okay. Let me do the more longer-term one. It looks like advent of mastermind, the merger of Connell and Caldic to create another sort of global specialty platform. Is this a growing challenge to IMCD? There seems to be a few more players capable of offering such a multiregional proposition to the principles. I'm conscious that the publicly listed company is obviously only a tiny fraction of the overall market. But I'm just trying to understand if IMCD's still confident that your business model and culture is going to enable you to keep outperforming the industry.

That is a very important question but it is true that if we look back over the years that we have seen further professionalization of the sales channels through companies like ours and that we have seen competitors coming to the market, so certainly also call it together with Connell Brothers and also the more commodity-oriented business that they have in Latin America is again a competitor, yes, so sure. And I think what will make the difference is the focus on your business model, on specialties, on your technical capabilities, not to -- let's say, to dwell too far apart from your core and furthermore business culture and investments in IT capabilities. So I mean, that's the short answer to a far-reaching question. But of course, we have seen competitors coming to the market. And yes, that's an extra challenge. But as in the Champions League, if you have somewhat a few good ones, then it also helps you to get your game up.

It's obviously very difficult for us from the outside to analyze a portfolio of 40,000 plus products. When you look at your win rate over the last couple of years, are you still comfortable that you're adding the right products to the portfolio to keep up growing the industry. I.e., are win rates a proxy for market share gains in due course?

Yes, I think so. I think our strategy always has been to align with, let's say, the leaders in the various industries that we're working in. I think that we have been able to quickly gain a very strong position in the Latin American markets also in the business segments that we favor. And I think also, if you look at the acquisitions that we have done in Asia, that it really fits into what we want in the different segments. And -- but also, let's say, aligning with those suppliers that are willing to work with us on a more regional or global level, we'd be very happy how that has evolved. I think generally, strategically about, let's say, the focus of producers then we continue to see, of course, a wish and a need to limit the sales channels to -- in favor of the bigger ones. So in that sense, I think all the bigger ones will benefit more than the smaller ones.

We will take the next question from David Kerstens from Jefferies.

I've got 2. First, maybe on free cash flow. It seems that the improvement in free cash flow that you reported was largely driven by an improvement in the third quarter. And is it fair to assume that, that is mainly the result of a release of working capital as a result of easing supply chain disruptions? And then secondly, when reading the press release, it's almost identical to the one you published in August despite completely different macroeconomic environment and outlook. Can you indicate what has changed during the quarter maybe in terms of volume and price momentum? And did I hear you say in the beginning of the call, you expect similar momentum going into the fourth quarter or based on what you've seen so far in October and November?

Do you want to do the cash flow?

Yes, David, if you look at the cash flow cycle during the year, then we typically report the lowest conversion ratio in the first quarter and the second quarter. And then it should, what I would call, normalize towards year-end with -- at year-end, always the highest cash conversion ratio. And that typically has to do with December in most years being the weakest month of the year due to holiday seasons. And the trend that you saw now in Q3 is, I think, more or less similar as what we saw in previous years.

But last year, you had a large increase in working capital in the second half, right? But that was maybe due to exceptional market circumstances?

Yes, it was coming out of a COVID period and a lot of businesses restarting after a very soft period.

Yes. On your second question, David, our press releases are very similar over the years. That's maybe a bit boring. But I think, let's say, we still see, as I said in my introductory remarks, that the business momentum will continue in Q4, nevertheless. And I think that, that is shared across the industry. We see, first of all, that supply chains are getting more relaxed, so improving. And we also see, I would say, that volumes are not as abundant as they were earlier. And so I guess that we -- probably we have read also what Brenntag has said about that. Now there, of course, you have also a strong commodity lag, which we don't have. But I think that you will see a destocking trend in any event towards the end of the year, we have to wait and see what happens next year. I think the macroeconomic predictions are not great, as we all know. So that will have an effect, and we will see what that means. But so far, we see business continuing also in quarter 4, more or less in the same pace.

And does that mean you see a larger contribution from price in your organic revenue and gross profit growth?

Yes, price is a larger contributor than volume.

We will take the next question from line of Matthias Maenhaut from Kepler Cheuvreux.

Maybe 2. First one is on the M&A environment. If I look, your competitors also seem to becoming more vocal on their willingness to do M&A in the specialty segment. So how do you see this competitive intensity? Is it a threat? Or is it more the benign? And why? And then the second question is on inflation. As you already mentioned, inflation is still very present. Could you maybe give us an indication on what we should expect for next year in terms of your fixed cost categories for inflation?

Yes. On the first question, acquisitions, I would say that what I answered on the question before of increasing competition, yes, we will see that also, and see that also in potential targets. On the other hand, I think that these processes are long, take a long time, and let's say, relationships are also built over time. So I think that there's ample opportunity to acquire the business that you want to acquire. So we are always on guard but we have not, let's say, the feeling that we are now under additional pressure. On inflation and rising fixed costs, yes, no doubt, we will see that as our wages and salary component will be influenced by the inflation of the question. How much that will be? I don't think that we will be able to say that right now. But we certainly will see, yes, a significant increase also in our fixed cost base.

We will take the next question from Chetan Udeshi from JPMorgan.

Pieter, I just wanted to follow up on the previous comment you made about Q4. And I'm -- to be honest, I am a bit surprised there's no acknowledgment of any sign of demand weakness in [indiscernible].

It's very difficult to understand. It's very difficult. There's some noise on the line.

There's noise on the line.

Is this better now?

Go ahead.

Okay. Let me ask this. Yes. I was just wondering if you can maybe touch upon the demand dynamics because it feels like you guys are not acknowledging any signs of material weakness given the data points, we've been seeing really indicate that. And I'm more curious is -- so I'm curious about the life sciences market because we just saw recently one of the big cosmetic player had a massive profit warning. So maybe you can elaborate on what you see just broadly, even in the Life Sciences? Will this business be as resilient as you might have seen historically overall?

Yes. I think talking about demand dynamics, I think that we will see going forward that demand will decrease, but we feel that's still in our order position for quarter 4. Let's say that momentum that I talked about will continue. How this will progress, we have to see. It is clear that signs indicate that stock levels will come down from our customers. So I don't want to, let's say, ignore or deny, let's say, the trends that we see. I only talked about the next few months here. On your life science question, as you know, life science consists in our definition in food, pharma and personal care. Personal care is, of course, quite influenced by demand from China as we know, in particular, in the, let's say, upscale brands. So far, we have not seen yet an impact. We have to wait and see, in particular, how the developments in China are. Now food and, let's say, pharma markets, we still see quite strong momentum and demand.

We will take the next question from Laurent Favre from BNPP Exane.

Two questions, please. The first one is regarding the momentum in conversion ratio in the Americas. I think already in the first half and even more so in Q3, you had the biggest improvement there. I was wondering if you could talk about perhaps what you're doing differently in the business or whether there are some major trends that are influencing this improvement in the ratio compared to other regions? That's my first question. And the second one is about M&A. Given all that's happening in the macro, I was wondering if you could talk about valuation multiples for M&A and whether you think that you might be able to accelerate the pipeline of deals, given, I guess, private equity retrenching a little bit, or whether actually sellers are reluctant to sell, given what's happening and they want to wait for better times.

Hans, do you want to answer the first question?

Yes, the development of the conversion ratio in the Americas. And I think what you see there, and we discussed it before is that in our industry, things like scale matters. So it helps to -- if you grow your market penetration quicker. So if you add complementary supplies to your existing portfolio, that helps to improve your ratios. And the other thing that we see in the Americas is that we came from a relatively low level a couple of years ago that we had a lot of initiatives to improve gross margin that we rationalized the business setup in -- especially in North America, and we see that paying off at the moment. And that is one of the reasons that we see the increasing conversion ratio still going on in that part of our business.

On your question regarding M&A, I think it's important to probably to realize that we often feel that M&A projects -- that may be counter-indicative that M&A projects are more abundant in good times than in bad times. I think because owners will want to benefit from the good times and not -- and rather not sell in bad times, unless the times are so bad that they basically need to sell. If they don't need to sell, they wait for a better time. So it's maybe a bit counterintuitive, but I think in better times, more projects come to the market than in bad times. And I think we see now quite a lot of projects come to the market because -- or have seen that in the let's say, at last 12 months because we have, I would say, unprecedented growth, as you can see in our industry, I mean, not only ourselves with excellent numbers, but also our peers and competitors. So it has been a very strong post-COVID year for our industry. So that is an impetus for owners to then maybe talk to potential acquirers. And how that will develop going forward, I don't know. I think multiples are -- as we always say, yes, circling around certain numbers, but I don't want to disclose too much about that because it differs from case to case also. I hope this answers your question.

We will take the next question from line Henk Veerman from Kempen & Co.

I have 2. The first one is on your gross profit margins, which remained quite robust at 25%. You -- I think there was even an increase in the Americas. But given all the commentary that you just gave on, let's say, your expectation for volumes, the fact that you see supply chains improving, how realistic is it then to, let's say, expect gross margins to remain robust into next year in case we will see a volume decline? And in case this outlook that you just gave materializes.

As you know, we refrain always to give outlook for the coming year, find that difficult to do. I think we -- let me put it like this. I think this year has been quite exceptional in our ability to grow our business and also grow our margin. I think it's our assignment and efforts also for the coming period to keep it at that level. And whether or not we will succeed is something that we will see next year. I'm sorry that I can't be more concrete because I really do not want to, at this moment, give guidance or outlook for next year.

But your -- let's say, your base case scenarios rather -- or your target is rather to keep it flat rather than that you expect, let's say, for full normalization towards the 20%, 23%? Just to give us a bit of more color on that.

Yes. The target is to keep it at least as it is, of course, and not try to work hard to decline it, to decrease it. So we certainly will work very hard to keep margins at levels that we are today. Whether we will succeed in every product category or in every business segment remains to be seen. But I think that there are opportunities to keep this level that we have today. Let's see.

And the second question is on your cost base. Can you give us an indication how much variable compensation there is in your cost base currently and maybe also compared to the same period last year? And just to give us an indication, like how OpEx could behave in case we will see a material, let's say, decline in gross profit next year?

Yes. Henk, I think if you look at our fixed cost base, that's wages and salaries. So people-related costs and the cost related to our infrastructure, so office rent and IT and travel and these type of things. Then the biggest component is wages and salaries. And you can imagine that in this fantastic year that we pay full bonuses to people or more than full bonuses to people. And as explained before to you that the bonus amount differ enormously per country, per what is in the local habits around bonuses. And I would say, on average, we talk about 2 to 3 months of salary for the total group as a reasonable bonus level, and bonuses are always linked to targets. And then there is a bit of flexibility in case of people not making a bonus of the targets that we have set to make bonuses. On the other cost, yes, there is the typical inflation-type related adjustments every year, and we need to be careful there that we don't spend too much and that we work hard to compensate for additional cost. And let's see what this will bring next year. I don't have a hard number on that.

[Operator Instructions] We currently have no questions coming through. Thank you.

Okay. Then, that's great, then I think we can close, Caroline.

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

Thank you very much, everybody.