Spectris Limited (SXS) Earnings Call Transcript & Summary

Hello, and welcome to the Spectris First Quarter Results Conference Call. My name is Alex, and I'll be coordinating the call today. [Operator Instructions] I'll now hand it over to your host, Andrew Heath, CEO, to begin. Please go ahead.

Good morning, everyone, and thank you for joining the call. I'm Andrew Heath, Chief Executive of Spectris, and with me this morning is Derek Harding, our CFO. We have made a solid start to the year, and we are reiterating our guidance. The first quarter has been another productive period for Spectris, during which we have successfully invented the initial rollout of our new ERP system. We launched a number of exciting new market-leading products, completed the sale of Red Lion, which marked the end of our portfolio rationalization program. We completed the first tranche of our latest buyback program, and we've progressed a number of acquisition opportunities. As we said at our full year results in February, coming into the year, we expected revenue to be down in Q1 against an exceptionally strong first quarter in 2023. And while we guided for Q1 to be lower on a like-for-like basis, some conditions in some of our end markets have been more prolonged than anticipated, and notably in China. Notwithstanding this, overall customer demand has remained robust, with our order book 3% higher than at the year-end, and a book to bill above 1 will provide us good levels of cover within the upper half of our expected range for 4 to 5 months, and we have order pipelines looking healthy. In Spectris Scientific, like-for-like sales were 6% lower against a very strong first quarter last year, and that was driven by pharma and academia. And on a regional basis, we saw growth in North America and the Rest of the World was more than offset with the longer sales in Asia, especially in China. In both primary and advanced materials, the demand pipeline remains positive, although we have seen softer conditions in batteries this year, which reflects the EV trend that we've all seen, but that is being offset by growth in chemicals and coatings. In pharma and life science, overall demand remained broadly flat, but is lower in academia. As expected, that's against a very strong comp last year. With the recent release of government stimulus in China, we now expect to see demand aggressively recovering through the year. And in semicon, we continue to expect demand return to solid growth in the second half. In Spectris Dynamics, like-for-like sales were 10% lower, again, against a very strong first quarter in 2023, driven by machine manufacturing and automotive and, again, on a regional basis, China. We continue to see strong demand in aerospace and defense and good growth in automotive, particularly in virtual test software and simulation, offset by continued weakness in machine manufacturing. As I mentioned at the start, we have had a very productive quarter across the group. I am very pleased to announced that we've had a successful rollout in the first phase of our new ERP implementation. [indiscernible] it is now up and running on the new system right across its global operations, having gone live earlier in April. The new system will significantly enhance how we operate, will drive major improvements in efficiency and also our ability to scale efficiently as well. As such, it represents a key component of continued margin expansion towards our 20%-plus target. Our strong balance sheet, further strengthened by the proceeds from the sale of Red Lion, continues to provide capital allocation optionality, fueling investments in organic growth through high levels of R&D, but also, importantly, compounded growth through targeted M&A. During the period, we launched a number of new products, including two particular of significance in Spectris Scientific. The Mastersizer 3000+ range builds on the pedigree of our best-selling, market-leading, laser defraction instrument and represents a revolutionary step in particle sizing, as it incorporates artificial intelligence driven solutions for data evaluation. And we also launched the Revontium, which is a compact x-ray fluorescence analyzer, which provides a step change in elemental analysis. It combines the performance of larger floor-standing instruments with the versatility of a tabletop instrument, while providing the same data quality for lower cost in certain applications. And both products are getting exceptionally strong reviews from customers, which is fantastic. And our increased investment in R&D will continue to drive accelerated cadence of new product launches across both divisions throughout 2024 and beyond. In M&A, we have seen an increase in activity levels in 2024, and we're encouraged by the strength of the acquisition pipeline, which allows us to compound growth, hopefully, further into the future. So now turning to the outlook for the full year. While conditions in some of our end markets were softer than expected in the first quarter, we still continue to expect the progress this year as markets improve, and that's going to be weighted towards the second half. And the higher quality, more resilient business taking off to attractive structural growth markets, we are extremely well placed to deliver continued organic growth, expanding operating margins towards our 20% plus target and compounded growth for M&A. The work we have done during the quarter would not have been possible without the hard work and dedication of all of our people across the world. I'd just like to take this opportunity to thank them all for their continued support. And with that, Derek and I will be very happy to take your questions.

[Operator Instructions] Our first question for today comes from Andrew Douglas of Jefferies.

Just a few questions, please. Can I just focus on the Spectris Scientific? On the wording in the statement, you said that 6% like-for-like decline is driven by pharma and life sciences and academia. Yet, you say that pharma and life sciences is broadly flat. That is why academia is really tough. Is that right? Or am I misreading the, I guess, the...

So -- yes, so thanks for your question, Andy. I think it will be slightly misleading. So what we are saying is that in Q1 on the revenue side, sales in pharma, life sciences, academia were down. But if you look at the order demand, the order demand for pharma and life sciences was flat in the first quarter.

Right. Okay. So the flat is the orders. If I could -- and can you also talk about two more things, please? You're not giving any guidance for first half, second half, just [indiscernible] I understand that. Is it fair to say that your previous guidance on the second quarter being flat to slightly down organically is still fair?

Yes, that's absolutely correct. So as we said at the full year results, and the -- that we were still aiming for flat first half revenue, but that could be slightly down. And frankly, that's still the case. I mean, we've had a slightly softer first quarter, as we said. And we are seeing things picking up. The order intake in April was positive. Orders for the year are slightly up year-over-year, so we still have that as our objective. But clearly, as we -- we are now in a much more normal market environment, where we have to book and ship more orders within the period. And so we are more reliant on that. As we have been historically, we've come after the -- the last 2 years have been abnormal in terms of the order visibility we've had. We've made that and had been quite clear over the last 2 years and as a consequence. So there is a bit more dependence on that book and ship in the period. But we're still going for the same guidance when we gave the full year results.

Yes. That flat in the first half, I mean, the growth in the second quarter, especially. And then last for me, and then I'll go back to the queue. You've talked about semiconductor demand in the second half. Do you guys have any visibility on that? Or is that driven by what customers are saying and the view of the world? Or is there a bit more granularity behind that expectation?

So clearly -- it's clearly underpinned by some market expectations. I mean, we -- the sales of semiconductors are picking up. This year, I think they're up double digits over last year. Certainly, customers in the industry at large is talking about the recovery through this year. But as we've been talking about, I mean, some of our instruments are very long lead time, so -- and they're early in the cycle. So we have seen over the last sort of 2 quarters a pickup in inquiries and orders for those longer lead time early products, which is always a prelude into sort of the recovery coming in semiconductor. So that gives us confidence of an H2 pickup.

Our next question comes from Stephan Klepp of HSBC.

Stephan here. I would like to go back to Q2 and wanted a little bit more color because I think it was off really for me. So what are you seeing in terms of sales growth and -- for the first month and going into the rest of the second quarter?

So Stephan we're not going into month-by-month, to be fair. As I said to Mr. Douglas, our order momentum is positive. I mean, the full year results [indiscernible] are being up in January, February. March was slightly down, but that was as a consequence of a very tough comp [indiscernible] always to be quite lumpy. Orders in April are positive. And for the full year-to-date, we're able to be back in positive growth territory. So we're seeing momentum. And therefore, I said that to Andy Douglas' response, our view on the first half is that we will see some pickup in Q2. We are still going for getting to a flat first half sales performance, but that still could be slightly there, just depending on the amount of book and ship that we do.

Okay. And then I think the end market picture is relatively mixed still and particularly China. I mean, China was 17%, 18%. Is -- are things steering there as well? Are things looking up as well in China at the moment?

So China is a bit of a mixed bag, if I'm honest. So on the positive side, I mean, actually, it's sort of pharma, life, semis, the demand there has been picking up. However, machine manufacturing, that's good within the Asian side of the market. It is still quite depressed. And the sort of electric vehicle factory development that we were seeing last year that was very strong has come off. As a consequence, I think just sort of an oversupply, overcapacity in EVs at the moment. I think you will see that as a temporary phenomenon that we are seeing currently. And then, of course, academia as we said was significantly up to now against a very tough comp last year. And the academia in China was heavily supported in '23 by government stimulus money. That was absent in Q1. 2, 3 weeks ago, the Chinese government announced further stimulus for academic research. And [indiscernible] with a lot of the sort of structural growth markets that we are targeting around as far as semi, around advanced materials, battery materials. And as a consequence, we expect now to see orders coming back in that in [indiscernible] space in China. So we see some encouraging signs there.

Okay. One last one. You talked about the Mastersizer as a new product launch. The flat result that you saw in pharma and life science, is that related to it? Is it a prebuying effect? Or is that not really impacting the demand pattern of the past with the new product now coming to the market?

Yes. No, it's not impacting the demand pattern. I mean, we launched it, what, about 2 months ago. It's getting very strong reviews from customers. The Mastersizer, as you know, is one of the largest selling products in analytical. So this is an important next-generation product that we'll continue to deal with its leading position in the market and will generate further sales. And we anticipate, given its increased [ modality ], its measurements, the AI incorporated to provide greater insights into the instrument, that should stimulate some incremental sales as well.

Our next question comes from Alexander Virgo of Bank of America.

Andrew, I wondered if you could just talk a little bit about the weighting first half, second half. I appreciate the guidance for the full year remains unchanged, but just the, I guess, phasing on EBIT might be helpful for people to understand. It feels to me like if you were a little bit lighter than expected in Q1, even if we do get a bit of a bounce back in Q2, my guess is that margins in the first half might be a little bit lighter on where we might have originally thought. So I wonder if you could just give us a little bit of help on that, please?

Yes, certainly. Let me try and answer that for you. I mean, I'm not going to give you a specific H1 and H2 split mainly because we're not at the end of H1. But I mean, as you guys will know, our cost base is relatively fixed through the year. And given the volumes are typically higher and heavier in the second half, we always see more profit margin being made in H2 versus H1 anyway. So when you look at our full year profit, it's always annually more H2 weighted than H1. Yes, I mean, we said at the end of February that we knew we'd have a soft Q1, and we hope we would get back to flat or maybe just slightly below flat for H1, and that remains. So there is still a path over the next couple of weeks. We've got another sort of 8, 9 weeks left in Q2 for H1 to deliver. And we're focusing hard on making sure that we're bringing that back. And then that momentum carries through into the second half. It's fine line, and so I'm not going to guide to a specific H1 position at the moment. If we can get back to flat given the first quarter, that would be great. If we're slightly under, so be it. And we'll have that momentum into the second half.

Our next question comes from Mark Davies Jones from Stifel.

Could you talk a little bit more about auto? You've mentioned batteries. And I guess, no surprise, some softness there. But even virtual test is quite good. Clearly, production has been under some pressure in terms of unit volume. But on the R&D-related side, have you seen any sign of that kind of pressure on the industry impacting appetite for spending? Or is it actually the other way as the European OEMs are under pressure from the Chinese?

Thanks for the question, Mark. So as we said, sort of sales in auto were down in Q1. So we are seeing a bit of softness coming through in terms of the overall volumes being down. As we said many times before, we don't provide anything to actually go into vehicles. So we're not tied to the production process per se, very much the R&D side of auto. That being said, of course, if gross margins are down, profits will cash it down, then we'll be able to see a bit of a pullback in the CapEx and R&D spend. So we did see some sort of flow back that into sort of Q1 sales. That was against a very tough comp again. On the order side, I mean, orders were up in Europe and up in China in Q1, and that was very much driven by, say, virtual test software and our simulation offerings. I mean, we are seeing very strong demand around those towards really as customers are -- the adoption rates picking up as they recognize that they can reduce the time to market and virtually cut the time to market to the prototyping stage using our tools [indiscernible]. So we are seeing very good demand coming through our virtual test piece. You saw [indiscernible] that in June last year.

Brilliant. And just on the ERP side, you said you've done more than [indiscernible]. Can you remind us what the scheduling is for the rest of the business?

Yes. So [indiscernible] the biggest individual there largely because it was already on broadly integrated system. So that went live in April. And then we're rolling out the Dynamics division sort of for the remainder of this year [indiscernible] and that leads us into PMS and [indiscernible] into next year. So we'll continue to roll out sort of a more fragmented stage rollout over the course of this year.

[Operator Instructions] Our next question comes from Jonathan Hurn of Barclays.

Just a few questions for me. Firstly, just on life sciences, can you sort of break down or give us a little bit more color on your trends that you are seeing there, essentially splitting out between what's coming through in biopharma versus what you're seeing in areas like [indiscernible] manufacturing and small molecules? That would be the first question, please.

Yes. So let me -- life sciences, I think important what we're seeing is that on the sort of drug discovery and development side, the demand there is still muted and subdued for instruments. Clearly, a lot of instruments were bought during the pandemic. And basically, [indiscernible] pandemic in terms of intentionally strong [indiscernible] the antiviral with mRNA research, et cetera. So I think the market, to some extent, maybe got a little saturated in terms of instrument. So demand on that side, what we are seeing is on the sort of more manufacturing, QC and sort of [indiscernible], we are seeing very strong demand there because there's more drugs coming to market than food that's driving demand in terms of key manufacturing facilities. So that's helping us sort of get our orders pretty much flat in Q1 in that combined pharma, life sciences part of the business.

Okay. That's pretty clear. And the second one is just on, obviously, dynamics and profitability and the outlook for the year. Obviously, volumes are down a little bit in Q1. But if we sort of put the [ pointer ] to one side, are there still sort of self-help benefits to come through in the margin, the dynamics in '24? I'm thinking along the lines that, obviously, you put in a new sort of divisional structure in last year. There's still benefits of that to come through Spectris Business Systems, and there's still sort of benefits from that as well.

Absolutely. I mean, one, we anticipated that 2024 would be softer for all our businesses. So we took steps across the whole group in terms of making sure that we exited '23 that our cost base was in the right place. So we took steps through last year that we spoke about. Specifically in dynamics, they would be organized, put in a sector model, stripped out a significant number of accounts, [indiscernible] higher cost position last year to constantly doing that. We continue to drive SBS hard. We delivered over GBP 10 million of benefits last year for SBS. That target absolutely remains in place for this year. And clearly, we've also -- as we implement the ERP system, that then allows us to drive greater efficiency. And clearly, we will get those starting to flow in more analytical flows, and then that will flow into dynamics when that's completed towards the back end of this year. So in terms of the longer-term improvements around efficiency from the ERP implementation, kicking in really in sort of '25 and through to '26 given the successful [indiscernible] more confidence [indiscernible]. .

Okay. That's very clear. And then also, just staying on the margin. Obviously, in terms of that volume on Q1 versus Q4, there's a big step down. But obviously, on the back of that, there was probably quite a lot of sort of overhead under absorption. But just on that, I mean, what did you take -- have you taken some short-term steps within sort of the first quarter to maybe offset that under absorption that came through within the business?

I mean, I will rephrase my previous answer to answer you. I mean, we knew that Q1 was always going to be a softer quarter, particularly because we had a very strong Q1 in '23. And as such, we took steps last year to make sure our cost base is in the right place as we entered into January of '24.

At this time, we currently have no further questions, so I'll hand back to Andrew Heath for any further remarks.

Well, thank you, everybody. Thank you for your questions. So let me just quickly summarize. We've made a solid start to the year, and we are reiterating our guidance. And to be clear, we would have preferred stronger sales in Q1. But as we guided at the full year results, we fully expected revenue to be down against an exceptionally strong comps that we talked about. But we should remember that our sales for the first 3 months of this year are actually up 17% compared to the first quarter of 2022. So we have strong growth, strong momentum in the business. Our strategy is working, and this company has the capability to further grow and outperform. We have strong businesses facing off attractive growth markets, and we're investing to reinforce growth. We've successfully launched our new ERP system. And in 2024, we'll actually have a record number of new product launches on the back of increase in R&D investment over the last few years. And as we talked about, we also have an exciting pipeline of potential M&A opportunities. So as we've said, we fully expect to make progress again in 2024 as our markets improve. And with that, thank you very much for joining, and I look forward to catching up with you over the coming weeks. Thank you very much.

Thank you for joining today's call. You may now disconnect your lines.