Porvair plc (PRV) Earnings Call Transcript & Summary

Hello. Good morning, everybody. Thank you very much for dialing in to the Povair plc results presentation for the year ending 30th of November 2021. We're going to follow a set of slides that I hope you will have been sent or that you will be able to find on the Povair website. You will find under the -- in the investors tab in the website under Reports and Presentations. You'll find the presentation. You'll also find the full ESG report, which is our 12th ESG report, which we published simultaneously and separately, although I'll cover the highlights in a few moments. So I hope you've got the slides that I'm going to follow. I'm going to start on Slide 2, which is the summary of 2021, which, of course, '21 started in lockdown and then saw a recovery in most markets, Aerospace, we'll get on to and finished really -- went into 2022 with really quite a promising outlook, although with some challenges ahead, and I'll get on to those. So just by way of background and very briefly, Povair has followed a consistent strategy now for, I think, 15 years. It's one of niche positions with a focus on engineering and new product development, and we're looking for differentiation in IP. So no change there. And James Mills, who's on the call will take you through the results for the year, which saw revenues up 18% and finishing with $10.2 million of cash on the balance sheet. Also on that front page and every time we talk to you, we update our 5-, 10- and 15-year record, we think that, that's a helpful way of thinking about our business and thinking about what it might achieve in the future. Certainly, the longer 2 periods now encompass sort of 2 quite serious recessions. And so I think is a good long-term view. But if I was to summarize 2021, it was -- if 2020 was the year of the pandemic, 2021 was the year of aftershocks and consequences. And so that's mostly what we're going to talk about today. So moving on to Page 3, and this is just a background of who we are and what we do in terms of what we do, where we make regularly replace engineered products, which clean processes contain emissions, prepare samples or analyzing purities. And we like doing those things and the business is designed around those things because they bring a number of attractive business characteristics. We tend to have niche positions, long life cycles. We are driven by fundamental demand drivers, and I'm going to come on to those in just a second. And we are able, only do this well to build reasonable barriers to entry through engineering design, sometimes patents and quality accreditation, which is perhaps much stronger than you might think. And we are driven by a number of global growth trends, and they're listed there on Page 3. Because we are a specialist filtration laboratory and environmental technology business, those growth trends apply. And even through the pandemic in most cases, we have felt the following wind of all of those, and I can get back to those perhaps in questioning, but there is no question that tightening environment regulation and the growth in analytical science, in particular, having effect on what we do and what we expect to do in the future. Moving on to Page 4, very quickly. Then our strategic purpose hasn't changed. We have 2 principal measures of success: Consistent earnings growth and ESG metrics. And of course, we'll cover both of those. I'll get on to the markets and just sec I think it's important to stress that we allocate cash mainly for organic growth, acquisitions when they are available and a progressive dividend. And we are recommending an increased dividend of 3.5p with these results. On Page 5, then an overview of what we do. We actually run 3 divisions, but we address 4 markets: Aerospace & Industrial, in one division, they are very close in terms of the products that we make and then Laboratory and Metal Melt. And in each case, we look going down the left-hand part of the page, we look for regulation because that gives us barriers to entry. We look for growth drivers, and we need to be able to be confident that they're still around, and we look for, we check our competitive advantage. And in every case, in filtration, that tends to be the installed base and the annuity nature of what we do. We'll perhaps cover some of these things as we go through. There's not a lot of change to that slide because we are sort of happy with the businesses that we're in, but I'd be happy to answer any questions later if that was necessary. So getting on Page 6 to 2021 and what it looked like and what it felt like, the key themes of '21 -- the main one really is how to manage a manufacturing operation in the pandemic with social distancing and vaccinations. So staff well-being across the 15 plants that we run really was the overarching theme for the second year and still is requiring vigilance and focus. In terms of the business, remember, '21 started pretty much in lockdown for most of us in most markets. And the first half of the year was about the restocking after the de-stocking of the pandemic. And with that came order improvement with order improvement came global capacity constraints. We talked about this at the half year since when everybody sort of understood what that means. And with capacity constraints, then came supply dislocation and with supply dislocation comes inflation, both goods inflation and wage inflation. And so it has been, as I say, a year of aftershocks and consequences. In terms of what that means, those 2 trading issues mean the 2 boxes at the bottom of the page. Well, in terms of restock and order improvement across the 3 divisions, Laboratory demand really was started to strengthen at the back end of 2020 and remain strong throughout. And part of that is either direct COVID, we make components for COVID testing or indirect where other people are making COVID parts and therefore, don't have capacity to make sort of more general laboratory consumables. So it's -- Laboratory was busy all year, but it's not just diagnostics, it's not just COVID, actually diagnostic and analytical and environmental laboratories have all been strong there for about 18-months. And the Laboratory division, therefore, delivered the highest profit of the first -- of the 3 divisions for the first time. Elsewhere, aluminum and general industrial recovered really from the, probably, from the spring, I suppose, and remain strong, leading to lead time elongation. So our orders -- we don't publish an order book and we never have. Our orders are at record levels, but so are our lead times. And so one needs to divide one by the other to see where we really are, which we say in the statement is ahead of where we were last year. But lead time elongation brings difficulties of its own. The only area that is -- it remains down is Aerospace, which was 4% down in the year after 25% the prior year. So 27.5% down versus 2019. Much better than it was, but still well down. We saw orders start to come in really from the autumn in Aerospace and the schedules for 2022 certainly look better. And so we think the outlook is rather better than it was 12-months ago. And then on the supply side dislocation, input lead times stretched, transport disruption, both of those well known, both of those leading to quite sharp input cost increases. We think goods inflation probably running at something like 10% and has been for some months. And then wage inflation, whether linked or following on, the rate of wage inflation really depends on where you are and of whom you speak. But for us, certainly, at the -- about half our staff are in the U.S. and the hourly and lower salary levels wage inflation is fairly high-single-digit, low-double-digit or was through the end of the year. So these are difficult. This inflationary surge is difficult to handle on a day-to-day basis. More positively, certainly for the U.S., there has clearly been or we are benefiting from a move to reshoring, which has been going on probably for about 18-months. And so that has been helpful. But the supply side is not easy to manage. And all of those challenges continue into 2022, which I will get to in just a moment. Before we do that, James is going to take you through the details of the numbers and the divisional split. So James, on to Page 7, and over to you.

Okay. Thank you very much, Ben. So as Ben says, turn to Slide 7 then. So here is our usual financial summary. As you have seen in the announcement this morning, a revenue of $146.3 million is 8% up in total against the prior year. You see here again on this slide how each of the divisions has fared over the course of the year. And we'll note that as with the half year, overall revenue performance for the full year has been impacted by the reduction in Aerospace & Industrial revenues. This will be more than offset by the growth in Laboratory and the growth in Metal Melt. So as you can see here, adjusted PBT is up 17% to $14.8 million, basic EPS up 41% to 26p and adjusted basic EPS also up 17% to 25.2p, in line with the increase in the adjusted PBT. Again, a number of moving parts in the performance, some of which Ben has talked to, and I'll take you through some of those headlines as well in a moment. So just moving on then to Slide 8. This slide shows the income statement on an adjusted and total basis and how we compare year-on-year. Within the trading numbers, adjusted operating profit of $15.9 million is 17% up on the prior year. And group performance has clearly benefited from increased trading activity year-on-year. And you can see that on the top line here, but has also continued to benefit from the cost reduction actions that were taken last year. And as we talked about before, some costs in the business also continued to remain temporarily lower than they were certainly before the pandemic. Just a point to note on here. Operating profit margins have increased to 10.9% in the year, up from the 10% reported last year. Probably just worth me mentioning the currency headwinds that we've had this year. If we remove the effect of FX in these numbers, then revenue is up 12% and adjusted PBT up 23% on the prior year. A word on tax sense. So the effective rate of adjusted taxes increased slightly from 21% in the prior year to 22%. The rate this year includes the impact on deferred tax of the enacted rate change in the U.K. which will take the U.K. rate of corporation tax from 19% to 25% from April '23. And as for the half year, I don't intend to talk through and dwell on the adjusting items here. And they are detailed in Note 1 to the announcement. Moving on to Slide 9 then on the cash flow. We are again showing a simplified cash flow statement here and a net cash position at the bottom. And again, just a few things to draw your attention to on this slide. So working down, within working capital, the prior year outflow of $6.3 million. As you remember, it was probably -- was distorted by the provision releases last year. So we had about $5.1 million of provision releases coming out last year. And this year's outflow of NOK 0.8 million is broadly where it should be given the trading this year. We spent $4 million in the year on the Kbio acquisition, net of cash acquired. And there's a further $2 million in total of potential payments for Kbio contingent on profit performance within the next 2 financial years. CapEx of $3.2 million is a little down on last year, mainly due to timing of projects. And levels of CapEx investment across the group have been steady now for a number of years. If we move towards the bottom of this slide, the cash flow shows that we were broadly net 0 across the course of the year with this $28,000 here. But that's after having invested $7.2 million in CapEx in the Kbio acquisition and also having reduced our borrowings by around $3.7 million this year. As for the half year, the net cash at the bottom of the slide here has been simplified to show that we have $10.2 million of net cash at the end of the year, which is up from the $4.9 million at this time last year. Just a point to note that this net cash number excludes the IFRS 16 lease liabilities, which form parts of our reported net debt within the announcement, within the statement this morning. So just a word on dividends, I think Ben has mentioned, the group has a progressive dividend policy, and the Board has approved a 6% increase in the final dividend, taking the final dividend per share from the 3.3p this time last year up to 3.5p. So moving across then to Slide 10, which summarizes the divisional performance. Aerospace & Industrial revenue of $55.8 million is 10% down on the prior year. As you will recall, the prior year had GBP 7 million of gasification spares revenue in it, and that revenue stream has not repeated in 2021. So stripping this out, together with currency effects, revenue is up 4%. The main trading issue in 2021 is with Aerospace revenues, which Ben has talked to. They fell for a second year, down 4% in 2021, which is on top of a 25% fall in 2020. The restructuring that's carried out last year has helped to protect the margins in 2021, but profitability has fallen nonetheless, as you can see here. Looking into 2022, the Aerospace orders are looking better. The year did see recovery in most other industrial segments, though, Microelectronics was particularly strong and down in our European industrial. And petrochemical business has traded well throughout the year. So moving across the Laboratory. Trading performance has continued to be strong with revenue of NOK 53.2 million, up 33% or 24% on last year at constant currency and excluding the acquisition of the Kbiosystems in February. Kbio has had a good start, continues to trade well, and integration activities continue to go well as well. The margins in Laboratory are at 18% and all parts of the division have performed well, driven in part by diagnostic-related demand and housed by several new filters introduced at the back end of last year for which additional capacity was added during this year. Current demand for diagnostic, analytical and environmental labs is healthy. but we do anticipate some softening in diagnostic demand as the pandemic recedes. Seal Analytical was up 15% year-on-year with strong demand in all main markets, including China. And for Laboratory, we are seeing the benefits from expanding routes to the U.S. market through our Finneran business and also the benefits of the prior year investments into new manufacturing lines. Finally, then just moving across to Metal Melt Quality. Reported revenue of $37.4 million is up 14% on prior year, but up 21% on a constant currency basis, despite the Aerospace-related activity still remaining something like 23% below 2019 levels. So the performance in the year was driven by strong demand in aluminum markets, which in part was due to the restocking but also due to the underlying demand drivers for aluminum. U.S. auto-related sales were up 28% in '21, but still remained 6% below 2019 levels with U.S. auto production curtailments balanced by U.S. supply chain reshoring. And as we mentioned at the half year, Metal Melt has also continued to benefit from the investment and work carried out in the quieter months of 2020 and also from the cost reduction activities taken in the prior year. Margin settled back a little during the second half. The profit still finished at a record level for this division. So those are the divisional highlights. Back to you, Ben.

Okay. So on Page 11, the ESG update. Of course, Povair products are -- do a lot of good from an environmental standpoint. And we measure 4 things in our ESG metrics, and you see them there: carbon intensity; lost time accidents; employee engagement; and senior staff gender balance. And the larger box on the right is how we are doing in those areas. So carbon intensity is -- we've improved by 8.6%. Scope 1 and 2 emissions 18,600 tonnes. So we are getting better slowly. We have a goal to improve our carbon intensity by 10% between 2020 and 2025. And that we look on track to do that. Lost time accidents, we had a poor year in 2020, so we're back on track. So this is lost time accidents by 100 employees, and you see some benefit -- you see some gains there. Not so in senior staff gender balance. We are a relatively small company. So our -- we were 32 members of staff here, and I'm afraid we've gone from 30% to 25%, but we think we can do better, hope we can do better in 2022. I think the area, funnily enough, with which for the time being, we don't have a quantitative metric is employee engagement. And that feels to me like the sort of the most profound change anyway for us in the amount of work we're doing in this area. I think it's a parallel between what's happening in corporates and employee engagement with the adoption of quality standards through the '90s and into beginning of this century. It's a process, quality standard is now ubiquitous and I think employee engagement will follow that same path. We are getting better. It is that we are understanding more and more some of the nuances of doing this. And as I said earlier, we published a full report, which you can see in the Investors page of the website for 2021. So the final slide on Page 12 is the outlook. And I think the outlook is promising actually, with some caveats. So 2021 was better than expected, and that's because the underlying growth drivers for this business certainly are more volatile over the last couple of years, but they're still largely there and driving us along. There have been more challenges than is normally the case with supply chain and inflation. And that means margin management is critical. And we talk mainly about price in our weekly management meetings, price, price increases, managing that is not -- is never easy, and put straightforward, and these have been extraordinary times we've got businesses that have put prices up 2, 3, 4x over the last 8- or 9-months. Very unusual, and we're getting supply side cost increases of similar amounts. So getting that right over 2022 requires a real sort of vigilance. And so looking out at 2022, the underlying orders, as I mentioned, are good. That's to say the orders divided by the lead time, certainly better than they were a year ago, and that's promising. Aero schedules are up. That's promising. COVID will settle. We think the 2 will balance. And provided we get the inflation and supply side stuff right or we're not unlucky in finding that a particular line or a particular product has held up, we think the outlook is pretty good. And as we said 6 and 12 months ago, there is some benefits in moving through these times with a sort of strong balance sheet, which gives on the ability to stick to investment levels, and we invest in new product development and capacity productivity and skills, and that hasn't changed. So I think the -- whilst there are challenges, actually, the outlook is better than it's been for a couple of years. So that's what -- that's our presentation for the morning. We'd be very happy to answer any questions you may have.

[Operator Instructions] Our first question comes from Maggie Schooley with Stifel.

It's clear that this year has a lot of, as said, unknowns given inflation because you don't really know how quickly that is, and you talk about vigilance over and over. So I think we get that point. But can you help us a little bit better understanding the mix of the drivers of your inflation? Labor has always been a relatively high proportion of cost in the scope nature of the products. Can you helped us outline as we go through the year other than price increases, further actions that you can take to help combat such inflationary pressures, particularly on labor? But any other areas that you can point us to and maybe some high-level understanding at this stage about what you anticipate that cost inflation to be still running high single digit? Or just any theory you can give us on that?

Yes. So wage inflation, we -- actually very unusually in '21, we did do some midyear wage increases. I mentioned about half of our staff are U.S.-based. You will know that a number of states are increasing their minimum wage loosely from around $10 or $11 an hour to $15-ish, but actually real wage rates are higher than that. On Amazon or Walmart are paying $18 basic, $22 night shift sort of rates, and that's dragging everybody up. And so as a percentage, as I say, your hourly or lower salaried wage inflation is well above 10%, and certainly was through the second half of the year. It appears that wage labor availability is easing now. We were running much higher vacancies in September and October than we are now. We still have vacancies in the U.S., but they are falling. And so there is some hope that wage inflation will ameliorate through this year. That's at the lower end. That's sort of, if you like, the salaried end, sort of roughly 3%, Europe; 3.5% to 4%, U.K.; 3.5%, U.S., which are high levels on a sort of 5-year view. And so that's wage inflation. What do we do about it? Well, productivity, productivity, productivity, Maggie. Actually, we have been investing for 3 or 4 years in productivity because actually prior to the pandemic our, whilst we were growing the top line, our productivity wasn't improving at all across the business. So we are investing in all sorts of automation and lights out manufacturing to try and address that as a longer-term solution. So that's it on the wage side. On the input cost side, there are a few signs of things ameliorating. Resin prices have come down the last little while, transportation Baltic, tri-Baltic exchange rates have come down and so on. But the tide still comes in, in the channel once it's adding -- adds in the channel -- sorry, flows in the channel is adding on the extreme. So we've got several more months of this to come, I think, before things settle down.

May I have one more question on Metal Melt Quality. So great results this year. But you do point out that although you believe this is a record that it will be lower, but sustainably higher than the previous, I'm sorry, I can't remember 5 or 10 years. partly obviously because of the restructuring that you've done in the business. This is a somewhat naive question. But given that we've always seen the fungible is a small proportion of the costs for your clients, does commodity price increases as we've seen steel and aluminum and everything allow you to increase prices? Or because you're a small part of the overall, is this an area where they try to hammer you a bit more on price increases because they've seen such inflation everywhere else?

Yes. I mean it's pretty rare, pretty ferocious. That sort of the commercial environment is pretty ferocious because the aluminum smelter, all their inputs are fungible and given pretty much energy, bauxite and alumina and so on. And the LME price pretty much fixes their output prices. So the way they make money is beating up their suppliers, of which we are one. So it isn't easy. They -- however, high aluminum prices does tend to increase aluminum production, and that benefits us. And that has been happening for about 9-months, I would think.

Can you give us some steer as to what you think a normalized margin is in the [indiscernible]

Yes. No, we said this before. So we think we can do 10% to 12% in that division sustainably. And it's higher than that now, not least -- and this is true across the business. All those sales facing travel, entertaining, salespeople on the road costs were at astonishingly low levels through 2021, and that can't go on forever. There wasn't a trade show, for example, in 2021. That can't go on forever, and we need to get out there a bit more. So these very high margins will drop back a bit, but hopefully not to the levels they are at pre-pandemic.

Our next question comes from Christian Hinderaker with Liberum.

Just interested in the comments around turbine filters you've got on divisional review, down quite sharply, so I think still 2019 seeing fairly mixed indicators in the market -- in that market in general. It would be great thought for any comment on that end market.

Yes, so we do many more aircraft turbines than industrial gas. -- sorry, industrial gas turbines. And so really, this is a reflection on engine flying hours, which are -- which remain down on 2019 levels, although orders have picked up. I mean this little niche was absolutely how much you can imagine in lockdown. If you look at engine flying hours now, domestic flights in China are back to where they were. Domestic flights in the U.S. are nearly back to where they were. Less so in Europe where there's less domestic flying, more international. It's really the international flights that through 2021 have had difficulties. Well, that is now easing. So we can see that getting better. But it's a reflection on the aerospace industry as much as something else.

[Operator Instructions] Our next question comes from Tom Fraine with Shore Capital.

If you could just remind us the percentage of Laboratory revenue or operating profit that's driven by COVID testing and the vaccine, that would be much appreciated. And also what growth rates we can expect going forward from the Laboratory division after very strong growth both in '21 and '20?

Yes. James, we -- at the half year, I think you asked this question, Tom, we said -- we thought perhaps 10% of Laboratory was direct COVID. Do we you think, James, that's still...

I think so. It's one of those ones we -- as I said before, we don't necessarily measure it each and every month, but we think it's around that level still.

Yes. Feels looking at the numbers, that feels about right. In terms of growth rates, I don't know, Tom. I mean you strip out Kbio, you're at 24%. With Seal Analytical at 15%. Both of those feel breakneck to me. We've owned Seal a long time and underlying growth rate is more like 8% to 10%, 8% probably, honestly. And that -- so that's environmental laboratories. On Analytics, I would say probably about the same. I think 10% growth feels more sustainable in '24. Something like that would be my guess.

Okay. Excellent. And in terms of gasification, is there any scope for any work in the near term? And in '21, did you get any revenue at all from spares?

No revenue at all in '21. We sort of knew that, I think we might have mentioned that a year ago. There are certainly are prospects going forward. We've got nothing in the order book as we speak.

Our next question comes from Andy Edmond with Equity Development.

Well done. I wondered if you could just say a little bit more about the conditions in China at the moment, Ben, more important to you as the manufacturing capacity base than necessarily revenues. But you are curious by being one of the early reporters in the year. So it'd be interesting to see if you're seeing any signs of logistical improvement over there, yes? Or if it's still remaining very difficult?

Good question, Andy. We are -- the very current trading is in that sort of year-end flurry. They're about to go on their spring break. And actually, the last few weeks have been busy and certainly busier than was the case in the last 6-months of 2021. We -- one read in the press, didn't want the sort of shadow economy or the shadow numbers being less rosy than the published numbers to no great surprise.

Very unusual over there.

Yes. And that felt right to us. Growth was sluggish. There did seem to be something going on with inventories sort of after the ever-grand issue of people being overstocked and finding it difficult to finance their inventories. So we sort of read the general reports and thought, yes, that feels right to us. But we're very small. And so I wouldn't necessarily say that we're -- you can't necessarily take a read from us to the wider economy, but it doesn't feel quite as robust in China as has been the case. You will remember that in June 2020, we wrote off our Chinese assets because we just didn't like didn't the feel of all those trade wars. And just generally, we needed to be light on the balls of our feet and that seems to us to have been a pressing thing to do. The Chinese business is fine, it's profitable. But it isn't easy doing business there at the moment.

At this time, there are no further questions. I hand back over to our speakers.

Very good. Well, listen, I'm sorry, we're not seeing you. Hopefully, next time, face-to-face. Have a very good week, everybody, and thanks very much for dialing in.