Porvair plc (PRV) Earnings Call Transcript & Summary

Good morning, everybody, and welcome to the presentation of the 6 months results Porvair for the period ending 31st of May 2020. Under these slightly unusual conditions, it's -- clearly not to see you all as we ordinarily do, but hopefully technology will work. As always, we will rattle through the first half a dozen or 8 slides on the backgrounds of the business, as we are webcasting this presentation. It's important that we do that for people who sign on later. We then have a slide on COVID-related matters and how the group is doing in the current -- in current trading, then Chris will take you through the results for 6 months, picking out the main points, and we'll return to Q&A at the end. So I'm going to move quite quickly. And on to the next slide, please. There's been no change, as you might expect in the strategy for Porvair for some years. We took a persistent strategy of reducing emissions. We work very hard on new product development. And as you see there, the results for the 6 months to the end of May were not bad, all things considered, a pretty strong first half actually, which started very strongly. And then of course, ran into choppier waters in the second 3 months. But all in all, a decent set of numbers, which Chris will run you through. And as always, we give you a 5-year view and these numbers of roughly 8% revenue growth and 12% EPS growth have been consistent for some time. We remain a cash-generative business and we principally reinvest that cash in organic growth. So no change there. On the next slide, you just -- you see that we've made products that either clean or contain emissions to protect downstream systems, and that gives the business attractive characteristics, which we have discussed many times. We tend to be in niche positions. The demand drivers for our products in ordinary times are pretty robust. And we are able to build barriers to entry around what we do. I won't dwell on that this time, but I'm happy to answer any questions about it, should there be any. And then on the next slide, you see there our strategic statement slide which hasn't changed now since 2004. There is plenty more to go at. We follow these 4 sort of tenets of the strategy, focusing on certain markets, bringing new products to those markets, expanding geographically where those markets make it sensible to do so and reinvesting the cash. And ordinarily, we say there's plenty more to go at. There certainly is more to go at. And actually, we think this time, we're quite well positioned overall to benefit from recovery in world economies as and when that happens, and we'll talk a bit more about that in just a moment. On the next slide, just really for the record, the 4 markets that we focus on: Aerospace, Industrial, Laboratory and Metal Melt Quality. We like an element of regulation in the markets that we operate in because that gives you a foundation for barriers to entry. Ordinarily, as many of you will know, we put in a gross number for each market. Just insensible to withdraw at this time. I don't think we see in the long term, any great change in the growth drivers of these industries. Aerospace, perhaps of them all is likely to have the most difficult near term. But long term, we don't see any difference, but there doesn't seem to be any consensus in any of the things that we look at as to what the sort of updated growth numbers are. So we've just withdrawn them for the time being. So over on the next slide, you see the divisions that we operate, the markets that they serve and the rough split between those markets in terms of group sales. So that's really just for the record. And then there are 4 slides coming up on each of the 4 markets, like the Aerospace, Industrial, Laboratory and Metal Melt. I'm actually not going to say too much about those at this stage because there's a slide coming up on current trading in each of them. Just -- again, for the record, in Aerospace, we tend to do liquid, so fuel includes and hydraulics, and we are equally split between new builds and maintenance. So we're driven by the order books of the main train manufacturers and of course, by passenger air miles. We continue to invest heavily in new products. And we've had actually quite a good 6 months in that regard. So no real change there. And then the competitive advantage in the core filtration really is in your installed base. There is a benefit to being incumbent in this line of work. And that's true across the divisions. In industrial, we do gasification and some other quite challenging industrial factory filters and increasingly growing in the maritime, and then we're talking a lot about assets. Generally, I don't propose to go over that again, about ballast water and that sort of thing. And we'll talk a little bit about Royal Dahlman, who we bought in September of last year, which has performed well in the 6 months, and the exposed petrochemical industry. Over to Page 9 on Laboratory, 2 businesses here. One, Seal Analytical concerning itself with water analysis. That has -- have performed pretty well actually, and continues to do so as it did in the last recession. The testing of water is not really related to economic activity or no, I have to say, when China basically shut for 2 months, It was -- it did find life more challenging. And then on the other side, laboratory consumables and we have noticed that we are exposed there, both in industrial and laboratory consumables, which have found life more difficult. And then diagnostic and other laboratories where activity has picked up dramatically. So lots of things going on in that division. We'll get to those in just a moment. And finally, Metal Melt, where, as you know, we filter aluminum and iron and super alloys for -- actually for turbine blades, aerospace and power generation. That has had been going quite tough. We'll talk a little bit more about this, the nature of a destocking recession. As we say in the statement, it's possible of what we do, this might be the first into a recession and possibly the first out. So there's lots to talk about there. I think the one highlight we'd like to mention is a modest profit in China, something that we have talked about for the last 2 or 3 years, I suppose. So it's nice. So we've got that although our general view of China has changed the risks associated with doing business in China. And so Chris will come to that in terms of the changes to how we view valuation of assets in just a moment. And now on the next page where we look at geographic expansion and where we are and across the 3 divisions, the sites in the various geographies and what we've been doing. We have continued to expand actually. And whilst we have constrained capital expenditure a little, actually, mostly where we're investing in people or skills or capacity or productivity, we've kept going and I don't see that changing. And we'll talk about positioning ourselves for the recovery in just a moment. But there, for the record, you see the split between Americas, EMEA and Asia. And then the final slide for me for the time being, and here I will dwell a little bit more as to what has actually been going on in the last 3 or 4 months. So starting on the top left of the slide, operations under lockdown conditions. Really, there has been a game of 2 halves. The first half was about supply issues. Along with everybody else, we found that some of our staff were vulnerable or have children at school or what have you, and we didn't get a short complement of staff in several weeks and that made getting stuff out the door more challenging as it did for some of our suppliers. So the early weeks were really mainly about supply issues. And of course, in China, where we -- you have this small plant, they were shut for 8 weeks in the end. And so there were a number of issues around that. In the second half, the later weeks have been more about changes in order patterns, and they have come sometimes quite quickly as in Metal Melt and sometimes, very much more slowly as has been the case for us in Aerospace, for example. But there's no question that order patterns are changing. And in the middle of the slide there, you see that depending on the area that we're talking about, you see that some of our lines of work, we think, are going to be quite significantly affected. Aerospace and metals probably at that end of the spectrum. Probably somewhere in the middle, as I mentioned, water quality, some industrial emissions control. Quite a lot of what we do, provided the plant is running, it's still going to have to control its emissions. But we see that as being a more sort of GDP-type effect -- level of effect. And then at the top line, that isn't huge, but it's going to make a difference. There is no question that we are -- have seen a sharp uptick of demand or what you might usually call diagnostic speed up, either laboratory consumables or filters that are used in taking samples or sample preparations for diagnostics. And we are absolutely -- just in the last probably 6 weeks, we've started to see a significant increase in demand there. The overall balance is, without question, negative. The second half will not be as large as the first half in terms of revenues, demand on the whole is down, but it's not without its brighter spot. The top right part of the slide, therefore, has been what has management been doing through this. First, as I say, the first part of this crisis was all about staff well-being, making sure that people were feeling well and looked after. When owners, they needed to work from home, if they could, all the stuff that we're now very familiar with, it doesn't -- it's not straightforward to retool the factory to allow people to work under what are now considered to be safe conditions. That doesn't happen overnight. And I'm very pleased with the way that the factory teams have responded. We never closed other than in China where we were forced to close. We did run more slowly than we often do for a period of time. But on the whole, the staff were magnificent and coming in and keeping us going. And we haven't had too much serious illness, I'm happy to say at this point. That's first priority. Second priority is to try and see what's the cost and cash situation is across the group. Cash, we are relatively relaxed about for the time being. You see in the balance sheet that we have cash on the balance sheet and we continue to generate cash. Cost, of course, is more difficult because until you know how demand is going to be changed and for how long that change is likely to happen, it's quite difficult to get your costs right, particularly in a business that relies on skills. And we'll talk perhaps a bit about withdrawing guidance from this guidance. And that really is all about what does the future look like and for how long will those conditions prevail? And for us, it's really a question of, I think, preparing for the worst and hoping for the best. And for the time being, that's working fine for us. But we do see restructuring. We have done some, and there may be some more in the second half and to get the cost base right for prevailing conditions. And then longer term, it is about positioning ourselves for the upturn. This too will pass, and we need to be ready for it when it does. And for us that means productivity margins, making sure that we can scale up production quickly and efficiently, hanging on to skills through difficult times, et cetera, et cetera. And we are very, very busy and active in that activity. So that's what we've been up to. Over the last 6 to 8 weeks, and I suspect that, that will -- we will be focused on that certainly through the summer as we see how this all plays out. So that's it from me for the time being. We can come back to any or all of that. But I'm just going to hand over to Chris now, who will take you through the details of the numbers and the details of balance sheet changes and divisional performance. And then I'll come back and wrap it up at the end. All yours, Chris.

Okay. Thank you, Ben, and good morning, everybody. So here's our summary. Revenue up 2%. Split across the divisions, you see a particularly strong performance in Aerospace and Industrial, driving that growth and now offsetting some falls in the other divisions. And we've got a slide on the divisions coming up, so I'll pick that apart when we get there. That leads to adjusted PBT, up 12%. That takes out the one-offs that I'll come to which actually don't make a huge difference in net terms. And you see that in the difference between basic EPS and adjusted EPS. Basic EPS is up 6% at 13.1p and adjusted EPS is up 11% at 14.3p. So if we can just move on to the next slide, which is the P&L account. The revenue -- here I just sort of mentioned some of the -- some sort of themes and things that I don't pick up in the divisions. As Ben said, it's really -- we started in a very strongly in the first quarter. And then the second quarter, we've traded okay, but things like Aerospace are down in that period we'll come to that. So it's very much a sort of strong first quarter and a lower second quarter, but still profitable. Couple of things to pick up on here that I don't pick up in the division. The tax rate is still 23% as it was last year. We don't mention on the slide here, but it's worth saying here that we've maintained the dividend at the same as it was this time last year. And just finally on this slide, there is a little currency benefit in here. Our main currency is the U.S. dollar and the average rate for this year was 1.27 against 1.29 last year. So some initial currency benefit from that. So we can move to the next slide, which shows the rest of the P&L account. In other words, the items that we have effectively adjusted out. I need to go through those with you one by one. We always have this slide to show you the impact of amortization of intangible assets and if we've done an acquisition, acquisition costs. But there are 3 other lines in this that I want to just go through with you. The first is a credit of GBP 3.8 million relating to gasification, commissioning phases coming to an end. We have completed the CNOOC contract. And so we've taken all the remaining profit on the CNOOC contract and we've seen some performance bonds fall away in the Reliance contract, which has allowed us to release the profit in the Reliance gasification project as well. Offsetting that, which was 5 million in the sort of cleaning up write-off of a 1.3 million debt related to part of the Reliance contract. So net, we've taken 3.8 million profit there, and we've released out of provisions GBP 5 million. And that -- just -- that's important because I'll come to that on the cash flow in a minute. Ben mentioned that in China, we've actually made amazing profit and the trading in the Chinese plant is good for the time being, but we have taken an impairment charge over mainly the fixed assets in China. And that is an impairment judgment based on the sort of trading and tariff outlooks and political risk related to trading in China rather than the performance of the plant itself. We just thought it was prudent to do that and make certain assumptions, we arrived at an impairment charge there. And then the third line relates to 1 or 2 aerospace and industrial product projects that will no longer go ahead for which we have essentially inventory from the -- inventory on the balance sheet, is the majority of that, although there's a small amount of [indiscernible] as well. So those 3 items together are a modest net credit. But we thought it's important that we called them out separately. So we can move on to the next slide, which is the cash flow. There's really only one thing I want to pick up here. Because we -- as Ben said, we have still generated cash. If you look on the top 2 lines there, we've got a very large working capital movement. Just picking up from what I said on the previous slide, GBP 5 million of that relates to releasing provisions in relation to gasification. If you take that out, you'll see that the increase in working capital is lower than it was last year. And I think every year, I remind you that our working capital is always higher at the half year than it is at the end of the year. That was certainly true last year and we'd expect it to be true again this year. On the rest of that, I'd just point out that, as Ben said, we continue to invest in capital expenditure. You can see that is not dissimilar to the amount we spent last year, and we've got on approving CapEx, and we will be spending again in the second half of the year. The introduction of IFRS 16 into these numbers make the cash flow a bit more difficult just to reconcile with the net cash. So if I just move you onto the next slide, got here a net debt reconciliation, which ties the cash flow back to the movement in net cash. I won't take you through all -- every line in that. Though just to point out that we disclosed a net debt now of almost GBP 14 million. GBP 15 million of that is IFRS 16 lease liabilities, which you see on the bottom line. And we have net cash and bank debt of GBP 1 million at the end of the period. And just to remind you, we have a EUR 23 million facility and a GBP 2.5 million overdraft facility. So we've got ample headroom for the time being. If you move on to the next slide, the divisional review, the final slide from me, I'll just go through the highlights of each of these. In Aerospace and Industrial, the growth really comes from a good performance from Royal Dahlman, which we did own this time last year. If you pull that out, we're slightly down, and that is because Aerospace is down. We began the year with a very strong Aerospace order book, and we were, certainly to the end of February, well ahead of the prior year. And then the Aerospace order book -- order package started to change, and we were down in the second quarter in Aerospace, and that looks set to continue into the second half. Those are the main 2 moving parts in Aerospace and Industrial. And in Laboratory, we are just 5% down in revenue. But we -- strangely, we had -- actually had a weaker first quarter in Laboratory that we did in the second quarter. And we attribute that in Seal, China being shut, and China is still a big market for Seal Analyticals, water analyzers. Which -- but we also had a relatively weak order book in the consumable part of the Laboratory division. In the second quarter, actually, China opened up again and Seal's done pretty well in the second quarter. In the consumables part of the business, we've seen the uptick, as Ben mentioned, from the factory there's some diagnostics related to COVID-19, offset by a slowdown in the equipment and academic and industrial laboratories. So that's been sort of all flat in the second quarter. Overall, just a little bit down on the prior year and operating profit down accordingly. In Metal Melt quality here, we've -- I've given you the adjusted numbers, if you look at that, the reported results, you of course got the impairment of China in the headline numbers. But if you take that out, we had a very strong first quarter in Metal Melt quality, in fact, all the way up to about April before it started to weaken somewhat. And we had amazing operating profit in China with its revenues up 19%, notwithstanding the fact that plant was closed for 8 weeks in the early part of the year. Pleasingly also in that went -- as well as strong revenue performance in metal melt quality prior to the difficulty with the order patterns in the U.S., reducing revenue in April and May. The profitability margins on the business were particularly strong. And so you see the consequence of eliminating the losses in China and strong margins in the U.S. sort of at least the first 4 months, we've got quite a good increase in the operating profit over the prior year. So those are the highlights of the division. I'll hand you back to Ben now just for the final summary slide.

Summary slide. Decent set of results, won't repeat in the second half for reasons that we've -- I think we've made clear. But the outlook is we are sort of -- pretty sanguine about where we're going next. We're ready for some challenging conditions. We expect them to come -- and it started in some cases, and we expect them to come in the next 3, 4 months. But because we have a reasonable balance sheet and because we have done quite a lot of work on sort of worst-case stress testing, really throwing low ball assumptions at the various factories to see what happens, we think that we are well positioned, and we can continue to with sensible investments and that includes paying a dividend. And then when the markets recover and they will, we think we're in reasonable shape. So that, I'm afraid, is about 5 or 6 minutes longer than we normally take, and we're blaming that on conference call protocols. But that's all we have prepared. We'd be very happy to answer any questions if there are any.

[Operator Instructions] Our first question comes from the line of Andrew Shepherd-Barron from Peel Hunt.

Well, gents, looks like your great set of results comes from difficult circumstances. A couple of questions, if I may. Firstly, on gasification, the release of the provisions, clearly, I mean it's -- questions to why have those been released now? And could this -- if those had been released more gradually in the last few years, I presume that might have been a possibility, but would've also suggested that the margins you make, gasification would have been even higher than those reported? So is that a good sign for margin and gasification going forward? And the second question from me on Aerospace. Can you just talk a little bit through about real contribution to revenue of aviation, civil, excluding military? And a little bit more depth perhaps on how you see life in the second half?

Yes. Well, I -- tell you what, Chris, would you want to get your slide rule out and do percentage of aero sales while I tackle gasification?

Yes.

So Andrew, the answer to your question is, on provisions, why now, they have -- we are very much driven by and guided by the audit process on this. Through the last 2 or 3 audits, gasification provisions have probably been the single largest sort of issue. Should we release them? What are we holding on for and so on. We think the time is right now, partly because the Chinese plant, which had some problems of its own making about a year ago does now look to be up and running. But we have a very arm's length relationship with the Chinese, actually. And we think that the time is right, just to sever on time and let us get on with it. We have a much closer relationship with a much bigger plant in India, which is the Reliance plant. And they have, in the last 12 months, had a number of periods where they have been running most, just not all of their 10 gasified. And we have moved away from commissioning and into the problems and opportunities of day-to-day running performance but have fallen away. A good sign, therefore, that the customer is thinking we're through to the next phase. We've had, I don't know, 3 or 4 orders, decent orders of spares. So I think -- it did feel like the right time to do that. In terms of what does that mean for margins? This is just very profitable work. It's not as profitable as we would like, without question. We've had some difficulties with clients that had some difficulties. We have had to use provisions to recover and redo stuff. But this is still highly remunerative work and the spares are particularly so. We need to work on those spares, very not surprisingly. The customer is working on competitive bids, as you'd expect them to, and as indeed they should. And so quite a lot of action in our new product development work going in that area to maintain a differentiation. But they are -- and the margins are good on that. Chris, Aerospace?

So Andy, Aerospace is up, is just over -- in the group as a whole, is just over 15% of the total revenue. About 12.5% of that is the sort of stuff that you know that we make insertions with, the aerospace parts that you've seen insertions with. And the rest being the sort of things like the turbine blades that we talked about in Metal Melt quality. And also some of the cart house aluminum that we make in the U.S. goes into aero. Got the -- we don't know in total exactly how much that is, but -- which is why I say sort of somewhat just over 15% of revenue. So that's the sort of scale that we're talking about in Aerospace revenue as a whole. As we say in here, Aerospace, heading down 8% in these numbers. It will be down more sharply than that, I would think, in the second half because we're talking about that arising over the last quarter rather than the full period.

Okay. Okay. Thank you. I think we can see new build numbers, et cetera, et cetera. And I guess we will just sort of have to calculate from -- from what we can see elsewhere.

And the next question comes from the line of Tom Fraine from Shore Capital.

But I've got 3 questions on -- in relation to gasification. Firstly, the margin is so high, it's just a competitive bid. Could you give us a bit of insight into what advantages you have over -- at the bidding for this work, i.e. technological or anything else? Also, could you give us an idea, just the size of this market globally and your current position in the -- or good market share? And third and finally, it said in the statement that you got progress that's being made towards larger projects. Would you expect the materiality of these to be similar to what we've seen in the past, in the previous period?

Yes. Of course, Tom. So the answer to your question, differentiation in stratification spares comes in the material that we use relative to others. Ours is a little bit more defensive, but it's tenable and therefore, reusable, and it only has to be reused once or twice for it to have a significant cost benefit over the competition. But cleaning is not straightforward. And so it's a straightforward, do you use a disposable thing or do you use a thing that needs to be cleaned, but then you can reuse? We think in the medium term, disposable is a problem. I mean, you've seen that. I mean, I can't know if you've seen these. So these are large metal structures, and they're using thousands of them and there's going to be a mountain of these things to get rid of for too long. So we think we've got an advantage there, but we'll see. About the size of the market, there are a number of different ways of gasifying hydrocarbon material. The process that we are involved with tends to be build materials that like higher temperatures. So PET coke and some high PET coals and that sort of thing. There are other people who use -- who are better suited to other materials, for example, municipal waste and so on. We don't really do that. So at first blush, it looks like quite a large market, the marketing application's -- actually our bit of it, high temperature is relatively niche, tend to be larger plants using more filters and so forth. In terms of how that market is driven, it's very driven by the oil price. So actually, at the moment, the outlook for new projects is not that great. But we've been through several cycles with -- we can -- there are no large gasification projects on the horizon as we speak. There have been in the past, those haven't come off at the moment, with the low oil price, not really doing very much in that area. Your other question about sort of larger projects, other projects. I'm not quite sure where we mentioned that in the brief, but I'll tell you that for us, anything with a revenue of over GBP 1 million is considered to be a large project. We concentrate quite hard on it. And there are those typically in either the Industrial space or in the Laboratory space, and there are several of them at the moment of that sort of scale. Some of the most interesting is in the Laboratory space, which I've mentioned, which is components for COVID test, which tend to be very small, which is at very, very large volume numbers. So there are -- we are active in those things, but nothing of the scale of a Reliance gasification project, which was a $50 million initial sale and then $7 million to $10 million per set of spares. I'm afraid we are -- that's very unusual for us, as you had -- we tend to do a lot more, very much smaller lines of work.

[Operator Instructions] And as there's no further questions, I'll hand it back to the speaker.

Well, listen, thank you all very much for coming this morning. As I said, great. We're not seeing you, but hopefully, we will do that before too long. If there are any other questions, as always, Chris and I are available, and we'll be happy to answer them. But in the absence of anything else, thank you very much. Have a very good morning. Have a good week, and thanks for coming.