Porvair plc (PRV) Earnings Call Transcript & Summary

Good morning, and welcome to Porvair results for the year ending November 2019. A reasonable set of results around a strategy that hasn't changed since 2004, and doesn't look like it needs to change for the time being. We'll get to that in a minute. Chris will take you through what looks to have been a slightly above-trend set of numbers and a record year. And we are pleased with the progress, and we're pleased with how we started 2020. And we published today and in the release, our 5- and 10-year results and so 7% compound growth over 5 years, a little bit better than that over 10 years. And this set of results, just a bit of -- ahead of trend, but the trend is the thing to look at. So we are happy with the results we're presenting this morning. Just to remind you who we are and what we do, we make products that clean or contain emissions or protect downstream systems, and that gives us a number of attractive characteristics that we like. So products that we make have very long life cycles, well over 80% of what we do is annuity. We've made it before. There's a smaller amount of bespokeness in most of what we do. We pick markets where we see robust demand drivers. There's very little discretionary about the sort of work that we do. And we try through a new product development process to build barriers to entry, either hard, through patents or soft, through design accreditation. And that push for differentiation is absolutely the sort of key to keeping moving slightly ahead of what -- the underlying markets. We haven't changed this slide since 2004. The only thing to say about it is that there is plenty of growth remaining, plenty to go at still in pursuit of the 4 tenets of our plan. I will take you through those 4 tenets now. So first of all, we focus on regulated markets. Here are the 4: Aerospace, Industrial, Laboratory, and Metal Melt Quality. By regulation, we mean either hard regulation as in FAA accreditation or softer regulation as in the sort of methods that you must use to ascertain whether your water is clean. And you see that the underlying growth in those markets is sort of 3% or 4%. So that gets us about half of the way that we're trying to get to in terms of trend growth. Just very quickly, we run that business based on those markets. So we have 3 divisions. We run actually 3 or 4 operating companies. And the split between those division changes depending on what's going on, but it's relatively equally split between the 3. In terms of then what's going on in the 4 markets. Aerospace has had a very good year. Chris will talk you through that. We have niche positions largely in liquids so fuel systems, coolant systems, hydraulics. We are on every commercial airframe in the world. We're on quite a number of engines, although not all, and the reason that's significant is that the sort of the big piece of news in aerospace world is, of course, the 737 MAX. We are certainly on it, and we will be affected if Boeing don't make any more planes this year. But -- and this is sort of the key to pull there. The 737 program is only about 17% of our direct aerospace business, 737 MAX is only about half of that and if the 737 MAX isn't made, we are certainly seeing increases in the Airbus 320. So it won't come out quite as even. There will be an effect, but it's a very small headwind and something that we will need to deal with. Out with that, I must tell you that Aerospace order books are very full at the moment. In terms of Industrial, it's been a very strong year for gasification spares. Chris will give you those numbers. Those are -- that's wonderful work when you get it, it doesn't -- it's not repetitive or it is -- does repeat but doesn't repeat regularly, but it's been a great year. It's also been a very strong year as we talked about at the half year for maritime regulations. One of the things we like about Porvair is that it addresses -- or produces products that address emissions regulations and emissions regulations never get looser. They always tighten and the International Maritime Organization is forcing tightening emissions on sulfur, in particular, and ballast water, and we've had a good year in terms of ballast water. So plenty going on there. In Laboratory, a mixed year. Chris will tell you, relatively flat in water quality, and that's mainly to do with a quieter year in China. But going well in sample preparation and the broader laboratory work that we do. And those 2 things sort of balance out in the division. Nothing specific to report in terms of the underlying markets there. Metal Melt has had a more difficult year on the top line, although an outstandingly good year in terms of operational efficiencies and improvements. And you'll hear from Chris, the effects of that in just a moment. The main news there is that we have an operation in Xiaogan and a sales office in Wuhan, Xiaogan is about 60 kilometers outside Wuhan. We actually shut it 2 or 3 days before the government shut the city so our staff were able to sort of get out. But they are still shut, and they will remain so until February 14 in Hubei province. Much like the 737 MAX, this is a problem, but not a significant one. This is a very small operation. It actually makes losses anyway or it did in 2019, but as a proportion of the group, it's small. So a very modest headwind, not something we are particularly worried about from a financial perspective. Although we do -- we're much more worried from a sort of staff perspective. We employ just under 50 people, they are all healthy for the time being, and we talk to them every evening. So that's a runaround of markets. In terms of sort of what we've been up to, there's the split. By geography, we remain about 50% exposed to the U.S. We continued to invest GBP 51 million in the last 5 years. Chris will take you through some of the major investments in the last 12 months. Virtually all our investment is expansion either footprint or in terms of machine capacity. I won't take you through all of those, other than the Dahlman acquisition, which I'll come back to at the end. You will note the split between U.K. and Europe, actually only about GBP 9 million revenues across the channel for us. So we've never been that worried about Brexit, and we're certainly not worried about it for 2020, at least. So -- and you see our revenues around a quarter, what we do in the emerging markets in Asia, which is going well. So that's a quick canter through the background and the strategy. Chris will now do the numbers.

Okay. So the summary results. To start with, it's better, just a little bit above trend. And you see a lot of that delivered by Aerospace & Industrial. And the others have -- are at more normal levels. Metal Melt Quality has been slightly down on the prior year. Adjusted EPS up 10%, so just a little bit shy of the revenue growth. And I'll pick all those bits apart throughout the following few slides. I've got a divisional slide where I'll do most of the sort of operating points to make. There's a few sort of corporate finance type points to make on the P&L. The first year that we have introduced IFRS 15 is the 30th of November, year-end. We're late to quite a lot of these new accounting standards. So we haven't got IFRS 16, for example, in these numbers that will come in, in next year. IFRS 15 doesn't make a great deal of difference. It makes the difference to the accounting for our large projects, but they were largely through the books by the time we did the adjustment anyway. There is a currency benefit in these numbers, which we talk about throughout the release. The headline is that last year, we translated our dollars at GBP 1.34 on average and this year, we did it at GBP 1.27. And finally, for this slide, our tax rate is down from 24% down to 23%, and that's just really just mix of profits. All the rates have broadly stayed the same across the world this year. The previous slide was our adjusted P&L. These are the adjustments. I made more of an issue of this last year because if you look on the 2018 side, there are more numbers there. There were some significant one-offs last year in relation to pensions and tax. This year, the adjustments are the adjustments that you will see every year. Amortization of intangible assets on acquisition and acquisition expenses essentially we'll pull out every year. On to the cash flow. The business remains significantly cash generative. And if you look down the cash flow, that's how we've spent it. We had a particularly strong November and planning for a particularly strong first quarter, which meant that our receivables were quite high at the year-end and our inventories were quite high at the year-end. So that's why our working capital has gone up a bit. The other significant numbers on here really are tax, which, as you can see, has gone up a little bit. That's just a function of the growth of the business. I just will say one thing forward-looking on tax. The U.K. is starting to bring forward the amount it wants from companies on tax so that we have to pay our 4 quarters of tax in the year in which they're earned rather than half the tax in the year in which it's earned and half in the following year. And we expect that's going to hit us in 2020. So you'll see a higher tax outflow next year. Capital expenditure and acquisitions, as Ben mentioned, GBP 14.1 million we've spent in the year. That's GBP 4.3 million on CapEx. Almost all of that this year is on capacity increases for equipment into the existing footprint as Finneran is the only area where we've increased the footprint this year. And then there's GBP 9.8 million on acquisitions, GBP 7 million of that is on Dahlman, which Ben will talk about later, 2 -- the remaining GBP 2.8 million is the final earn-out payment on Finneran and an earn-out payment on Rohasys. There is a maximum of just under another GBP 1 million of earn-out that Rohasys could achieve in the next 2 years. Finally, we finished with cash of GBP 4 million. And just to remind you, we have EUR 23 million of borrowing facilities and another GBP 2.5 million overdraft on top of that. So we are financially secure. That runs out till 2022, the borrowing facilities. So the final slide for me is just a quick review of each of the divisions and what's going on, what's driven their performance. As you can see, the growth of 28% revenue growth in Aerospace & Industrial is driven largely by gasification spares of GBP 11 million as compared with GBP 2 million in the prior year. So a GBP 9 million increase there. Aerospace, up 15%. A very strong growth in Aerospace and that looks set to continue in 2020. But one of the features of Aerospace & Industrial is its margins haven't gone up quite as much as its revenue growth. And one of the areas where we have had some capacity constraints is in Aerospace. And we put some extra cost in there ahead of delivering the increased growth again in 2020. So the margins are held back a little bit in this division by capacity, extra costs going in Aerospace. Ben mentioned maritime, emissions control, that's in our U.S. business. That's -- IMO regulations have driven our ballast water filters. We've done them for many years. It's gone up very significantly in 2019 and looks set to continue in 2020. And again, another margin issue in relation to a couple of our U.S. plants, microelectronics has had a -- we've got a particular plant in Boise, Idaho that specializes in microelectronics. Microelectronics has had a difficult second half of last year. First half of the year that we're reporting here were particularly poor. And that's held back margins and revenue in that business. And again, the sort of second and third quarter were slower in the U.S. industrial markets, not right across all the work that we do in the U.S., but particularly, the industrial markets in the U.S., particularly affecting Caribou. And then Royal Dahlman has contributed revenue, as Ben said, in the final quarter, but not -- no profits significantly. So again, you've got some revenue benefit there but not margin benefits. So that sort of explains the growth there in revenue and this slightly lower but continued growth in operating profit in Aerospace & Industrial. And I've dwelt on that, I won't spend nearly as long on the other 2. Laboratory, the growth has come from Porvair Sciences both from the synergies. It continues to enjoy with -- between the U.K. business that we always owned and Finneran business that we bought 2, 3 years ago. That's going particularly well. And the expansion will -- in Finneran, will start to deliver in 2020. Seal flat in the year. Quite significant revenue in China systems, and that's just been a bit slower in 2019. But we were better in the second half. We're quite a slow first half in Seal, better in the second half. And we've got a strong new product range. So we're not unduly worried about that, which looks particularly in the main instrument, the AA500 looks to be good for 2020. And then finally, Metal Melt Quality, Ben did just mention this that actually its revenues are down. And that, again, is a bit of a U.S. sort of industrial effect. But the higher-margin products, the specialist ones, the Aerospace turbine blades ones have grown significantly in the year. We've made some productivity improvements. Our scrap rates are down. The plant is running extremely well in the U.S., and we've managed to reduce the losses in China by about 1/3 in the year. So notwithstanding the revenue is down in constant currency terms by 6%. The operating profits are up in the Metal Melt Quality division quite significantly. Take all that as a whole, and our operating profits across the group are up 9%, which is the majority of the EPS growth. So now I'll hand back to Ben.

Final slide. Have you got me on the -- okay. So what are we up to now? And how do we see the future? There's the record. We put that in really to make the point. What we tried to do is produce consistent results. And specifically generate consistent levels of cash, which we then reinvest mainly in the organic growth and then acquisitions as and when they seem sensible. And that works, that free cash flow model seems to work. And then we invest primarily in new products where we see differentiation. I won't take you through them all. Dahlman is an interesting acquisition for us. We've been talking to them for 5 or 6 years. They do 2 things. They have a business just outside Rotterdam, which is involved in petrochemical. The design and build of petrochemical filtration systems. Now ordinarily, we wouldn't think that's the most interesting filtration market other than emissions over the next 5 to 7 years are going to tighten, specifically around flue gas and slurry oil. And these guys are very good in those 2 areas. So from that point of view, that side of what they do, it's about half of what they do, we think, is going to be interesting. The other half of the Dahlman business is based in Elsloo, which is in the little part of Holland that sort of sticks south and east and is right -- perfectly placed for Southern Germany, Northern France, Benelux countries and so on. And that is their route to market warehouse and distribution business, and we really like route to market acquisition plays. There is tremendous opportunity to cross manufacturer. We can make stuff for Dahlman that currently, they get elsewhere. So it's in microcosm, it's exactly the sort of business, the 2 sides of it, both sides of it are what we're looking for. Planning to go out there. I talked about 777X and the A350. That's the inerting side of what we do continues to be very strong. Those will be the fourth generation products of that particular campaign, looking for incremental improvements in each generation. Our experience is that if you ask customers whether they want the product to be smaller or lighter or more efficient, they nearly always say yes. And so that is the process. It's pretty simple. In Laboratory, masses to go at. Seal have got a whole new suite of products, the AA500 and others, that's continuing to grow. And in Metal Melt, as I have said to you before, we expect the China 2025 program to be helpful. China 2025 program is one where Chinese manufacturing is trying to move up the quality curve in order to do that in aluminum where we said they will need better quality filtration. We have patents around that, which we think they will need to use. And there is every sign that, that is happening. Slower, I must say, than we expected or would like. But that is happening. So there is plenty still to go at in terms of work that we've got on at the moment, which leaves us with an outlook slide. That is fine. We've got healthy order books at the moment. Going into -- getting towards the end of the first quarter of 2020. Balance sheet is in pretty good shape, very good pipeline of opportunities. And so a generally positive outlook. That's all we have for you. Are there any questions?

Maggie?

Maggie Schooley from Stifel. It's more for Chris. Chris, when I look at the margin progression in Aerospace & Industrial '20 on '19. I recognize that it was held back by some investment. But would you expect that investment to continue into '20? Or was that a one-off for '19?

We -- particularly in Aerospace, we would expect the margin to improve in the course of this year. There are -- so it's -- one of our particular challenges for 2020 is to drive that margin back up to where it was before. And there isn't anything structural that means that we shouldn't be able to do that.

And last one is [ keeping ]. Do you expect any unanswered Dahlman in '20?

No. There's no -- that was -- there are none for the...

Full stop.

Full stop, yes.