Marlowe plc (MRL) Earnings Call Transcript & Summary

Good morning. Thank you for joining our financial year 2023 half year results presentation. I'm Alex Dacre, Group Chief Executive. This morning, I'll take you through our key financial highlights and the major strategic progress made in the first 6 months of the year, in a period in which EBITDA has grown by 80%, with strong organic growth, further margin expansion and successful M&A and integration. We'll use the call to remind you of Marlowe's highly resilient characteristics and the reasons why we're able to deliver consistently strong financial performance, and we'll take you through our approach to organic and inorganic growth and our resilient outlook across compliance markets, which continue to experience attractive structural growth. We're reporting a strong set of numbers today. Revenue was up 66%, driven by organic growth of 8% and a significant contribution from acquisitions. Adjusted EBITDA grew 80% to GBP 39.2 million and this substantial growth in profitability along with prior year equity placings is reflected in our adjusted basic EPS, which grew strongly by 39%. A key element of our strategy is to strengthen our operations, expand our margins and improve our returns. In this context, we're pleased to report our divisional EBITDA margin has increased by a further 100 basis points to 19% in the first half, fast approaching our medium-term target of 20%. This is the product of effective integration programs, our investments in high-margin software businesses and our improved operational efficiency. This margin accretion will continue to deliver further operational efficiencies and adds scale. These metrics translate into a group which is delivering on its strategy to become the leader in compliance service and software, and we're making pleasing progress towards our financial targets that we set in FY '21 of GBP 500 million of revenue and GBP 100 million of EBITDA. Our current run rate is GBP 468 million, and GBP 83 million, respectively. And we continue to expect to exceed these targets materially ahead of the original end of FY '24 goal. Our total addressable markets in our compliance markets is very large at over GBP 8 billion, and we continue to take advantage of its fragmentation to deliver on our bolt-on acquisition strategy. We completed 10 acquisitions in the period for GBP 44 million at an average EBITDA multiple of 6.8x. We are the clear U.K. leader in compliance software and services. None of our competitors are able to serve their customers across the breadth of compliance markets that we can. We provide a true turnkey approach to compliance. Across the group, we employ 5,500 professionals, of which roughly 2/3 are customer-facing fee earners involved in compliance service delivery, hundreds of health and safety consultants, HR consultants, employment lawyers, occupational health clinicians, doctors, compliance software developers, fire safety technicians and water hygiene experts, delivering the full range of compliance and business-critical services to around 50,000 customers across the U.K. Our customer relationships are durable with customer attrition running at around 7% per annum, and we're very well diversified. Our largest customer represents around 2% of group revenue. Our customers are spread across 50 different markets, spanning industry and the public sector and our services are essential to their operations. Our capabilities across the compliance service and software landscape means a complementary service or product can easily be cross-sold to an existing customer maybe ahead of compliance, the Health and Safety Director or an owner manager of a small business, responsible for compliance in their organization. Everything we do helps our clients to navigate complex regulations. You can see from this slide some of the key ones which underpin demand from our customers, ranging from the Health and Safety at Work Act right through the Employment Rights Act. And it is this focus on regulation that supports such a resilient business model, which means we're well placed to produce a consistent financial performance through all macroeconomic environments. The resilience and the organic growth we've delivered over time shows that underlying demand for our products and services remains consistent. That resilience is demonstrated in our increasing margin, which reflects a well-controlled cost base, our drive for continuous operational improvement and the pricing power, which gives us the ability to pass on any cost increases to our customers. Marlowe is a nondiscretionary operational expense and a relatively small line item on our customers' P&Ls. Our services are essential to the legal, efficient and compliant running of their businesses. We're deeply embedded in our customers' operations with high switching costs, change presents a heightened risk of noncompliance. An enterprise risk management system, which is relied upon by blue-chip organization to achieve compliance and store vast amounts of essential data is not easily switched away from. And the more we cross-sell to our customers, the more our relationships with them strengthen. A typical customer might take a 4-year subscription for HR compliance alongside e-learning to train their staff in compliance, HR software, retained health and safety support and health and safety software, too. It's by bundling these multiple capabilities that we accelerate our growth and embed ourselves ever more closely with our customers' operations. Around 40% of our customers use multiple Marlowe services. Our diverse client base supports our resilience. We serve every market sector across the U.K. economy from food manufacturers to pharmaceuticals, from financial to legal, from hotels and leisure to education and health care. Similarly, we serve both larger customers and smaller customers. We tend to offer our HR unemployment law to smaller businesses in the mid-market. Some of our software offerings are for enterprise-wide applications. We generate most of our occupational health revenue from larger clients. It's more of a blend in our health and safety business. And in the SME customer base, the average customer headcount is 70 employees. So these are established businesses that understand the importance of risk management. The subscription and multiyear nature of our services and our software gives us excellent earnings visibility. Around 85% of our revenues are recurring and our customer relationships are long and durable for over 12 years. I'll now hand over to Adam to take you through the financial highlights.

Thanks, Alex. Revenue for the year increased by 66% to GBP 223 million. This primarily reflects the contribution from acquisitions. However, we have also delivered strong organic growth of 8%. The organic growth performance can be separated in 3 buckets: price, cross-sell and upsell and net new business. In the first half, we've been successful in managing our pricing with a view to, as a minimum, maintaining our margins. Our largest cost line is staff costs, and these have increased by around 4%. We estimate the cross-selling and upselling continue to contribute between 1.5% to 2% organic growth. The remainder of our organic growth comes from new business, net of customer attrition. We have seen strong levels of new business across the group and especially within tech, where organic growth has been steadily increased over the past 3 years, as we benefit from our very broad capabilities and excellent geographic reach. Below revenue, adjusted EBITDA increased by 80% to GBP 39.2 million. This translates into a 100 basis point improvement in divisional EBITDA margin to 18.8%, which is a result of both the increased scale of our higher-margin GRC division and the strong operational performance in the form of efficiencies and the successful integration of bolt-on acquisitions. Net finance costs increased to GBP 4 million, reflecting not just increased interest rates, but also the successful execution of our growth strategy, which has driven higher levels of utilization of our debt facilities compared to the prior year. The net result of all this is that adjusted PBT increased by 74% to GBP 26.4 million and adjusted EPS increased strongly by 39% to 22.3p, the latter incorporating the increased number of shares in issue following equity raised during the last 12 months. FY '22 was a transformational year for our GRC division. Revenue increased 168% to GBP 92.3 million, driven in large part by FY '22 acquisitions in occupational health and compliance software. Organic growth in H1 was 7%. Profits in our GRC division more than doubled on the same period last year, with adjusted EBITDA and operating profit increasing by 125% and 117%, respectively. On a run rate basis, GRC now contributes over 60% of overall group profitability. As expected, EBITDA margin reduced to 25.9%. The change from last year is driven by mix as the margin of occupational health has diluted the overall division margin following the acquisition of Optima in the second half of the last financial year. If you exclude occupational health, GRC margins have increased by around 300 basis points. Over time, we will see ongoing integration of acquisitions and efficient deployment of operational resources, delivering margin improvements. This financial year, we've completed 6 bolt-on acquisitions in GRC for GBP 36 million, which further deepen and broaden our activities in this area. Our Tech division continued its excellent FY '22 performance into the first half. Revenue grew 30% to GBP 130.6 million and organic growth was 9%, reflecting particularly strong performance within our Fire & Security business. We deployed GBP 8 million on 4 bolt-on acquisitions in the half as we bolster our capabilities and improved route density. Adjusted EBITDA increased by 35%, with margins increasing by 50 basis points to 13.9%, driven by organic growth, operational efficiencies and successful integration of bolt-on acquisitions. Adjusted operating profit for the half was GBP 12.8 million, an increase of 39%. We expect to see further increases in margin through operational improvements as the benefits of scale come through. Since its inception, Marlowe has used M&A as an important part of its growth strategy, delivering a strong return on capital invested in acquisitions is, therefore, a key component of delivering value creation for shareholders. Over the life of Marlowe, we've invested GBP 595 million of consideration into 78 acquisitions. We see restructuring and acquisition costs as a part of the cost of investment equation. In addition to these costs, we've included deferred consideration when arriving at our GBP 675 million total capital invested. All of this has created a combined business with run rate profits of over GBP 89 million, when excluding group head office costs. This implies a total pretax return on invested capital of 13%. If you look at this by division, you can see the impact of the longer investment time frame for our Tech division, which we started building over 6 years ago. This is now returning 19%, and we are confident that we can drive this even higher over time. Our GRC division is a more recent focus for investment, with a significant proportion of the GBP 320 million spent on deals in the previous financial year deployed into GRC, so the returns are more nascent. The investment reflects higher initial valuations, as we've been buying high-margin, high-growth businesses. We've also had less time to drive value and efficiencies post acquisition. We expect the returns in this to begin to accelerate, as these markets are seeing strong structural growth and we will create further value over and above the market growth. We expect the overall group returns to move towards 15% and beyond over time. Net cash generated from operations was GBP 22.6 million. The group experienced an increase in working capital, driven through strong organic growth, the impact of post-acquisition working capital movements and around GBP 10 million of timing differences. There are GBP 6 million of temporary movements due to billing cycles with the change of operational systems in our water business have combined with some adverse timing on project billing in our Fire business. There was a further GBP 3.8 million non-billing timing differences, the largest of which are annual prepayments of insurers. In addition, we have also seen post-acquisition working capital movements of GBP 3 million, which will not unwind, but are not part of underlying cash conversion. These include aligning VAT periods on acquired businesses. Excluding these factors, underlying free cash flow conversion for the business was 91%, in line with our medium-term target. CapEx during the first half increased to GBP 8 million as a result of our increased scale and continued investment in the business, including enhanced levels of new product software development to support our road map. Net debt, excluding leases, was GBP 156 million at the half year. This reflects a pro forma net debt-to-EBITDA ratio of 2.1x, within our preferred leverage range of 1.5x to 2.5x. Given our strong cash generation, we have the ability to delever the business at pace should circumstances require it. We also have the ability to deliver bolt-on M&A through internally generated cash. So in terms of financial roundup from me, we've seen a successful half year with strong organic growth of 8%, which we expect to continue into the second half, while we'll also benefit from further cash generation. We have successfully continued our bolt-on M&A strategy in the current financial year, deploying GBP 44 million over 10 acquisitions, as we deepen our presence in our markets. And integration of these acquisitions and those made in the last year remains either on track or ahead of expectations. Our run rate revenue and adjusted EBITDA continued to increase, currently at GBP 468 million and GBP 83 million, respectively. In October, the group exercised a proportion of the accordion facility. And as a result, we have total committed debt facilities of GBP 233 million and remain well funded to meet the needs of the group and to fund our future strategy. In terms of guidance, we continue to successfully manage inflationary pressures due to our ability to pass on cost increases to our customers, while maintaining margins. We expect finance costs to increase in the second half to reflect the increased base rate on our enlarged debt facilities. We now expect adjusted EBITDA for the full year to be slightly above current market consensus, and we have made a positive start to the second half of the year. On that note, I'll hand back to Alex.

Thank you, Adam. We're confident in our ability to continue growing organically in the high-single digits because of 3 main factors: our markets benefit from attractive structural growth drivers, which provides a setting for our growth. Regulations are constantly evolving, and our clients need up-to-date insights across their ever more complex regulatory landscapes. Stricter insurance requirements and regulatory fines associated with noncompliance are increasing. The average health and safety fine in the U.K. has increased 381% from 2018 to 2022. Likewise, the emerging legislative impact of ESG is currently adding momentum to our markets. It places the emphasis on employers to improve the well-being of staff as well as enhance their impacts on the environment and on governance processes. This solid backdrop results in market growth of between 3% and 5%. The second factor which gives us confidence is our success in bringing Marlowe together as a cohesive compliance platform. We drive additional organic revenue growth through cross-selling our services and our software. Our broad capabilities and cross sales focus have recently resulted in 6-figure multiyear e-learning contracts being awarded to a health and safety customer or a 6-figure per annum contract cross-sold between health and safety and fire safety. And we're a strong believer in the combination of software and consulting, and we pursued a digital strategy of using our consulting expertise to help us to develop compliant software products. An example of an organic product launch, which has gained really good traction with customers this financial year is our supplier verification product, Prosure. It was conceived and incubated from within our health and safety business line, and it's already generating a few hundred thousand pounds of revenue with a very strong pipeline of new business potential. By effectively integrating acquisitions, we can accelerate growth, too. Often the smaller acquisitions that join the group don't have a sophisticated sales and marketing function. It's via our organic investments and strength in this area that we're able to leverage our sales and marketing machine to improve their growth rates. And the third factor in our growth is that we have a dedicated 9-person M&A team, identifying new compliance markets, originating opportunities and negotiating attractive deals in our markets. We have a huge total addressable market, which is growing every year, and we use acquisition as a tool to expand our offering in both existing and also adjacent markets. Most deals we saw through our market enabling us to negotiate attractive valuations and move efficiently. And we have dedicated integration teams in each business who are very well versed in bringing businesses onto our systems and aligning them with our processes. This value-adding M&A capability is what underpins our top line reported growth of 66%. It's the combination of these 3 factors which will continue to play a key role in the years ahead: attractive structural market growth; organic initiatives, which allow us to outperform market growth; and our disciplined M&A capability, which gives us the step change in scale to be a market leader and to drive efficiencies. We thought it was worth highlighting a recent cross-sell example in action. This took place in our HR and employment law compliance business, WorkNest. WorkNest was first retained to help a large U.K. hospitality group with an employment tribunal case for approximately GBP 5,000. The litigation team did a brilliant job, and we were then asked to provide subscription-based employment law advice for their in-house HR team on a retainer of about 85,000. We would enable to cross-sell our retained health and safety consulting after a claim rose against the company for a failure to adhere to documented safety checks. That was a further GBP 120,000 retainer. And whilst one of our health and safety consultants is completing their annual risk assessment, it became apparent that the client's compliance training arrangements. We're not out to scratch, and we're able to upsell an additional digital e-learning course suite for a further GBP 85,000 per annum to roll out to all of their staff. It's a simple story, but a really strong illustration of how our strong relationships, compliance capabilities and shared customer channel can turn a GBP 5,000 annual retainer into a GBP 300,000 annual retainer to cross-sell and upsell. The 3 charts on this slide show how we're consistently improving the financial metrics of our business. Today, organic growth is running at 8%. As you can see, this is a significant acceleration from the 5% we were generating in financial year 2019. We undertake like-for-like analysis of revenue to calculate organic revenue growth. This is to give the clearest picture of growth. We do this by taking the current year's revenue, including revenue generated in the year by acquired businesses. We then adjust prior year revenue to include revenue generated by these acquired businesses as if we'd owned them during that partial period too. So we're really seeing a complete like-for-like comparison between current year and prior years, and crucially, how business is acquired during the period as well as existing businesses are performing organically. And the picture is positive, delivering a steady improvement to reach the 80% figure in this half year. The current performance reflects both the attractive structural growth rate for the GRC and TIC markets that we operate in, but also the organic improvements that we make, the enhanced service levels we achieve and our focus on sales and marketing. In line with our strategy and targets, divisional EBITDA margin has improved 19% on a run rate basis. This is crucial and is perhaps the clearest indicator of our ability to integrate businesses and create value through unlocking synergies and operational efficiencies, such as merging back-office functions, integrating service delivery and rolling out our tech platforms into acquired businesses and benefiting from economies of scale, such as route density. We're also benefiting from the higher margins and faster growth of our GRC activities. And as these activities continue to scale, we expect to see a continued improvement in margin. Total group revenues have increased from GBP 129 million in FY '19 to the current run rate of over GBP 460 million per annum. The momentum has increased significantly in the last 12 months with over GBP 314 million of capital deployed last financial year and 10 smaller bolt-on acquisitions completed in this period. We are, as you can see, well on our way towards our FY '24 target of GBP 500 million. The scale of the digital opportunity at Marlowe, particularly within GRC, is huge. Digital products are supplementing the group's compliance services as core tools our clients use to ensure, control and promote compliance standards across their businesses. The deployment of software significantly improves their compliance standards and customer experience, and it makes clients much stickier. Since our initial entry into the software market in 2018, we've built a rich suite of software compliance solutions through M&A and organic initiatives with SaaS subscriptions now contributing around 9% of group revenue. In the last financial year, 6 software businesses joined the group. And we expect SaaS revenue as the proportion of our total revenue to continue to grow as we benefit from the fast growth in this market, our diversity of products and the organic growth benefits created by our cross-sales strategy. One of our key strengths is how we combine our existing consulting and information capabilities with software. If you can offer a mix of information, which provides the customer with the relevant regulations, then consultancy to help them understand how to apply that legislation and finally, software to help track their compliance against that legislation, then you're delivering a true turnkey compliance solution. As of today, we conservatively estimate our U.K. total addressable market to be around GBP 8.6 billion, as we've broadened our offerings into new compliance areas, the size of the market opportunity has increased. The largest of these markets is compliance software, which straddles multiple areas, including environment, health and safety, audits, HR compliance and supply chain compliance. It's also international by its nature, and we're already selling our e-learning software into the U.S. market. The compliance software market is our fastest-growing market, too. We're market leaders in 3 of our market segments that we only account for a small percentage of any. They remain very fragmented, and we continue to be focused on executing bolt-on acquisitions, which competitors are not set up to do and which can be integrated efficiently. These markets are, of course, attractive to private equity, and we see competition for larger deals. But at the smaller end of the M&A scale, we're able to transact mostly off market and for attractive valuations, allowing us to grow our positions at very attractive multiples. We will look for opportunities to enter adjacent compliance markets over time through acquisition. These potentially could include ISO certification, food safety, a cyber risk or supply chain compliance, all of which offer many synergies with our business today. Whilst we remain a U.K.-focused business, our GRC markets are, by their nature, international, and there are similar compliance regimes in certain international markets for health and safety, HR compliance, occupational health as well as, in particular, in compliance software. These results reflects a resilient, well positioned and growing business delivering service and software that is underpinned by strong customer demand throughout the economic cycle. The organic revenue growth of 8% that we've delivered is consistent with our high single-digit target. This strong organic growth is built on resilient markets benefiting from long-term structural growth drivers, and we're compounding this growth through disciplined M&A and effective integration. Software has become a major part of our proposition. It's enhancing compliance standards for our clients and generating around 25% of our EBITDA. We're holding a deep dive into our software capabilities for analysts and investors on Wednesday, the 11th of January to highlight this part of our group. And our clear strategy is delivering very strong financial results, and we remain very confident of achieving $100 million of adjusted EBITDA materially ahead at the end of FY '24 target. That concludes today's presentation. Many thanks for your attendance this morning. There will now be a short pause as the operator opens the lines for analysts Q&A session, which will begin in just a few moments. Thank you very much.

We will first take telephone line questions. [Operator Instructions] Our first question comes from Sam Dindol from Stifel.

Three questions from me, please. Firstly, on CapEx and maybe slightly higher than anticipated. Do we expect that to be sort of mid- to high-teens going forward? And are you able to say what element of that is software related and what you're working on there? Secondly, on sort of the M&A headroom. Given the rising sort of debt costs, are you comfortable going to 2.5x leverage? And how much do you think you have in terms of [indiscernible] or tens of millions and how we should think about that? And then finally, on the international expansion in GRC, that's also very interesting. Would that require a bigger platform type there or is that something you can build sort of incrementally through bolt-ons?

Thanks, Sam. I'll take those first 2 and leave Alex with the last one. So on CapEx, yes, no, I think our CapEx will be in the high-teens going forward, looking at what we spent in the first half year, which wasn't anything out of the ordinary. The rough split is broadly half is all internal software development and about half is what I call run-in-the-mill TPA type CapEx as in sort of non-software related. In terms of the M&A headroom, I think, look, we've been pretty conservative in setting our 1.5 to 2.5 range if you consider the sort of recurring revenues that we've got in the business. So I think that's a fair window even in the current environment. And obviously, if we did get up towards 2.5, I think we're very confident we can do ever very quickly sort of upwards of half turn per annum that obviously, in terms of suggested headroom we're at 2.1, There's 0.4 headroom there, multiply by our rate EBITDA of GBP 80 million suggests of GBP 30 million to GBP 40 million of firepower there. Obviously, it depends on the pipeline in regards to how quickly we would deploy that. The other thing that really needs to be considered obviously internally generated cash over the next year. They'll be all generated cash to add to that sort of headroom.

On the GRC piece, yes, we have begun thinking of medium-term international GRC opportunities. I think the first point to make is that the GRC market by its nature is international. And we're already selling some of our software platforms in international geographies, particularly in the U.S. There's a major U.K. opportunity. So that's where most of our focus is channeled. But in the medium term, particularly within software, we do see opportunity to spread our wings further. I think we would be looking for a platform-type acquisition, something with a bit of scale with infrastructure with a good team that we could then build upon and work with. And we would then also use that platform as really a bulkhead to sell a number of our existing software applications in GRC and GRC services. But I think you should see that as a medium-term ambition.

[Operator Instructions] Our next question comes from Peter Renton from Cenkos.

Two questions for me. Firstly, what are you seeing in terms of pricing for acquisitions at the moment? Are these becoming more attractive nowadays? And secondly, what are your thoughts on when you might start paying a dividend? I know this has been a requirement for several institutions that have been looking at the business with interest, but obviously can't join the register until you do so.

Great. I'll take the first one and hand the second one to Adam. So the landscape for acquisitions, I don't think has changed significantly. I think it's becoming maybe slightly more favorable, particularly the smaller end for bolt-on M&A. But I think you've got to remember that these are very resilient markets, they're very attractive markets throughout the economic cycle. At the larger end of the scale, private equity are very interested in these markets, at the smaller end of the scale and the sort of midrange -- midsized acquisitions. We probably have seen valuations come down by maybe half a turn. Historically, we've been paying about 7x EBITDA before synergies. We don't expect that to change significantly. So similar competitive landscape.

And just on the dividend point, obviously, if you look historically, it's been more a case of is it sensible to issue cash after dividend that we feel that we can generate strong returns for shareholders by redeploying internally on M&A? I think that the arm that's still sort of retained at the moment, but obviously with a large structural EBITDA now case of making a dividend is getting stronger. So something that the Board keeps under regular consideration as and when we reach sort of results.

We have no further questions on the telephone lines. So I'll now hand you back over to the management team to take you through the webcast questions.

Yes, we have a number of webcast questions submitted online. The first one of those is what would you need to happen for you to believe you need to deleverage the business?

Well, I think as I've already stated, I think our relative range of 1.5 to 2.5 is pretty conservative if you consider the high-quality earnings streams we have in the business. So I think given that we've got a conservative starting point, we're still pretty confident in working within that range. I mean, obviously, I could reel off some nuclear scenarios where withdrawal of credit, where we would be able to need to delever rapidly. But I think the key point is that we can deliver rapidly as when we need to or should wish to do the rate of kind of half turn per annum pretty comfortably.

And Christopher Bamberry at Peel Hunt has asked, please could you give us the data behind the ROIC calculations for TIC and GRC divisions?

So the calculations behind that are using 6-month run rate profitability for each of those divisions, so obviously adjusted for pro forma acquisition where that hasn't contributed for 6 months. In terms of then the cost of investment side of that equation, effectively, it is all of the full consideration paid plus the restructuring costs that's allocated to each division, which is being basically booked up by an acquisition basis. So that's a pretty thorough calculation behind that.

And Chris Bamberry at Peel Hunt has another question. How has staff retention and recruitment been during the half?

It's a pretty much normal levels at the moment. If you go back 6, 12 months, we did see a slight uptick in attrition, and we had a strong focus on retention and engagement strategies and recruitment. And we're sort of back to normal levels now. So we don't see recruitment as a barrier to be able to achieve our growth targets.

Thank you. We have a question from James Ray of Charles Stanley, who's asking what would the EBITDA margin look like if you include central costs and indeed, what is included in the central cost?

Okay. So the central costs are about GBP 6 million per annum. So obviously, if you just do a simple math that would take just over 1% of our EBITDA margin from the divisional margin to the group margin. Those costs are rising at a lower speed than the EBITDA is rising through, obviously, the organic growth of the business. In terms of what those costs are is the small head office we have here, including obviously then the cost of running a plc, but there is no sort of, what I would call, divisional overhead in that group head office cost that is purely grew good office costs, all the costs within the divisions are within those divisional costs.

Thank you. We have another question, which I suspect will be yours, Adam, as well. What was the rationale for drawing down the accordion facility post balance sheet date? Are the costs of the accordion the same as for the main facility?