Rotork plc Investor Webinar: March 2023

Good afternoon and welcome to this Yellowstone Advisory webinar with Rotork plc. We're delighted to have the CEO Kiet Huynh and Director of Investor Relations Andrew Carter with us today. I'd like to hand over to Kiet to start today's presentation.

Thanks Kiet. I don't plan to go through all of the financial highlights and the detail that our CFO would have gone through, but just to pull a couple of the main points off each of the following slides. As Kiet said, the real highlights of the year was the order intake that we saw, up nearly 7% on a constant currency basis on the full year. Orders grew in all of Rotork's divisions, and we saw a particularly encouraging order trend in the final quarter, which obviously sets us up well as we go into 2023. As Kiet mentioned, the supply chain impact we saw earlier in the year reduced as we went through, and we had a much stronger second half than the first half, as we had expected. Margins remained resilient. Our margin in 2022 was just over 22%, slightly lower year on year reflecting the first half, but a strong improvement in the second half. Cash conversion, as Kiet showed on his highlight slide, was lower than last year, but it's really very much a timing issue with us having had a very strong final quarter and an increase in receivables at the period end. If we just jump to the next slide please, Alex. So this is our group revenue slide, which talks about revenues by geography and also by division. Revenues for the group overall increased by nearly 13%. As you can see in the charts, all regions and all geographies increased year on year, so a very steady and encouraging performance across all geographies and regions. The revenue did benefit from price. We talked about two-thirds of the sales increase we saw in 2022 being down to increased price. We put through two price increases in 2022 and saw a good benefit from those, and we will see further benefit in 2023. In terms of the geographies, perhaps interesting to note that the Americas was the fastest-growing region for Rotork, with the upstream market particularly strong. CPI was the standout in terms of the divisions, seeing very strong growth there as well. Just on to the next slide please, Alex. So this is just a slide that we put up to really almost bring to an end the Growth Acceleration Program, as Kiet said, and we'll talk about again — we launched the Growth Plus program at the start of this year. The Growth Acceleration Program was a five-year program that preceded Growth Plus. I think there's a lot of numbers on here so I won't go through all of them, but perhaps the ones to be aware of: firstly top left, just looking at the EBIT margin — very encouraging to see a 200 basis point increase in margin over the five-year period of the program. That came despite revenues not actually increasing over the period, so a very strong performance really driven by productivity and cost production. And I think the other highlight to note on here is the reduction in our footprint. We talk about 14 manufacturing facilities having been closed over the period. We reduced from 31 facilities at the start to 16 at the end. The combination of that footprint rationalization plus putting lean savings and productivity savings through the network enabled us to improve the margin as described before. And I think the program overall — what was very encouraging was that the £33 million of cash generated over the period comfortably covered the cost of our ERP program, which has recently gone live successfully here in our Bath factory. So a very successful program over the five years, which sets us up really well for the Growth Acceleration Program, which Kiet will talk about in a moment. Just jump on the next slide, just to say a couple of bits on each of the divisions. Starting with Oil and Gas: I think the message regarding Oil and Gas is that we saw improving momentum as we went through 2022. This started towards the end of '21 but continued nicely through '22 and ended the period strongly as well. So I think the outlook for our Oil and Gas business is reasonably positive. Revenues were up 9% year on year. Important to note that that's despite the loss of our Russia sales, as we stopped shipping products to Russia at the end of February, so we really had very little Russia in total in the year. The Americas region, I think I mentioned before, is probably the most standout in terms of growth rate. That was very much driven by the North American upstream, which obviously responded to higher oil and gas prices, but also the change in demand environments around the world following Russia no longer being in the market. It also saw a pickup in demand for our products being used in methane emissions reduction, which is obviously important from an environmental perspective but also a really exciting opportunity for Rotork. If you just jump to the next one, Alex, just to talk about CPI, which is now our second-largest division. CPI saw the strongest growth in sales and orders of the Rotork divisions, with sales being up a very impressive 23.6% year on year. The sales growth was driven by a number of things, but in particular we've been very successful targeting certain niches in the process industry — so things like semiconductor, data center, auto batteries — those kind of things. And another target segment for the division was the mining sector, and we've had some really good progress there. The one thing that's perhaps not in the financials is that the margin was slightly lower, which perhaps comes as a surprise given the revenue growth. The explanation is down to a couple of things: part of it is to do with the higher component costs that we obviously saw related to inflation, but it's also to do with higher overhead share, so the way that our accounting works, as a business grows, more of the overhead is allocated to it. And finally just a couple of words on Water and Power. Water and Power perhaps had a slightly different performance than the two divisions we talked about, but the reason here is very much down to the supply chain impact. Revenues were only modestly higher on a constant currency basis, but what you have to take into account there is that a large part of Water and Power's sales are of electric actuator products, and so Water and Power saw the biggest challenges relating to semiconductors and supply and procurement. What's encouraging is that if we compare the revenues in the second half to the revenues in the first half, we actually saw a 40% increase in sales. So it really is a story of two halves, with a much better second half, which is obviously encouraging as we look forward. We mentioned in the comments there that the power business was a little bit soft for us. Part of that relates to the non-repeat of project business that we saw in Asia-Pacific last year which wasn't repeated. We were involved in some quite large waste-to-energy projects that, as I say, were not repeated in 2022, and that helps to explain why power's a little bit softer for us.

Perhaps the final slide for me before handing back to Kiet, but really just to summarize from the financial side: we believe that we've got really good momentum. Order intake in the year was good and the final quarter was particularly strong. We enter 2023 with a record order book, and that compares with actually entering 2022 with a record order book as well, so a nice starting position to be in. The supply chain situation, I think we'd describe it as having not gone away as a challenge, but it has stabilized, as was demonstrated in the second half of 2022. Inflation is also still present — that hasn't gone away. We think looking into 2023 that this is more about people costs than it is about materials, and we will be looking to raise prices to offset people costs as we go through the year. I think the important point here though is to remember that Rotork has got good pricing power, as evidenced by the pricing increases we've done in the last couple of years. And given the backlog and the order intake that we've seen, we are anticipating that volume should also help to cover the inflation that we see, plus also any requirement to invest, for example in the Growth Plus program. I'll leave it there and pass it back to you.

Thank you very much Kiet and Andrew for that presentation, and congratulations on the strong performance and also your record order book, which obviously positions you well for 2023. We are now going to take questions. Just as a reminder, there's a Q&A box at the bottom or the top of your screen. Please type any questions that you have into there, and we'll try and address as many questions as we can in the time that we have available. So just starting with the first question: can you talk about why the adjusted operating margins fell and whether that is likely to improve in 2023, and what are the medium-term aspirations for operating margins?

Yeah, I mean I think overall the adjusted operating margins fell a slight 20 basis points, and that's due to the high inflation in 2022 from our raw materials or material content. In 2022 we saw significant increases in chipset costs — so chips that were costing £1.50 increased to £40, then increased to £50, and then in some cases ended up at £100, and we have two or three of these chips in every single actuator. Because of those increases in the chipsets as well as the raw materials, we put through two pricing increases in 2022, one in January and one in May. Those pricing increases covered the absolute pound-note inflation for those chips, however therefore as you turn that into a percentage, the percentage is slightly reduced. I hope that makes sense. I think maybe just throughout — it is useful to look at the first half versus the second half, just in the sense that the supply chain challenges that we faced were quite acute in the first half, and the price increases and material cost increases that Kiet was mentioning were really starting to take hold in the first half. If you actually look at the second half by comparison, where you start to see improvements in the supply chain and where our price increases start to come through, you actually see a real marked improvement in the margin in the second half. And over the full year, whilst the improvement in the second half was really, really encouraging, it wasn't sufficient to offset the margins in the first half. So it's important in this instance to just have a little bit of a look at the first and second half and see how things improved through the year.

Absolutely.

Thank you. A question here: is the 8.4% revenue growth in 2022 before adjusting for inflation, and what would it be after inflation? I think the question is asking, can you split out basically price and volume from that 8.4%?

Yeah, so what we've said is roughly two-thirds pricing, one-third volume. So hopefully that answers that one. And then again, that goes back to the first question — on the drop-through, therefore, it's on the volume rather than the pricing.

Great, thank you. So the linked question to this: you had a resumption of organic sales growth in the second half of '22, and your outlook statements are quite positive and suggest the backdrop for your markets is positive. However, there is talk about the global economy going into recession. So do you think you can still grow sales in the face of a global recession, or are your indicators suggesting we're not going into a recession?

It's possibly worth talking about the Inflation Reduction Act in the States, because that's been something we've been talking about for a while but has been getting more focus in newspapers and things in recent days. And what's interesting about that is the Inflation Reduction Act is actually very helpful for numbers of our customers, whether it be to do with decarbonization — so hydrogen, carbon capture — and a lot of which will be actuator-intensive oil and gas customers. But at the same time, quite a bit of that money is actually targeting things like water quality and improving water networks and things like that. So there is some structural, government-driven tailwinds as well. But I think everybody at Rotork is mindful of the economy and keeping an eye on these things. But as we start the year, we feel, I guess, cautiously optimistic.

Thank you. A linked question to the US — I think about your eco-transition products and the US IRA: do you have the right facilities in the US to benefit?

Okay, and perhaps throughout the — while we talked about the footprint rationalization that we did, taking the number of facilities down from 31 to 16, the important thing to recognize there is we haven't really taken our capacity as such. So in the case of the facilities in North America, they're currently running single shift. So we could increase output just by continuing with the lean and productivity things that we've been doing, but were we to see the kind of growth that you're suggesting, we could actually look to take that up from single shift to shift and a half or possibly up to two shifts. We'd be able to increase output that way. So if we were to see good growth, which obviously we're hoping for, we wouldn't need to increase investment to be able to deliver it.

Okay, thank you. Got quite a specific question here: what happens to the methane that is captured?

It's transported and used and stored in a different way, and there can be multiple ways. In some cases it's actually used to produce LNG.

Okay. Next question here: were you able to recover all the inflationary cost increases through price rises?

Yes, from a pound-note point of view. So in our results presentation — we haven't presented it today, but in our results presentation on slide eight there is an adjusted operating bridge which shows a net price mix of positive £3 million. So absolutely we had — you can have a look at that operating bridge which shows that on our results presentation.

Wonderful, thank you. Can you talk about your plans for acquisitions, especially I guess size — now asking maybe what capacity you have to make acquisitions and how large could you go?

Thank you. Can you update on the supply chain situation — was it still a challenge in half 2 2022, and what is the outlook for 2023?

Okay, thank you. Question here asking: will this presentation be available on your website?

This one specifically, probably not. Our results presentation absolutely is.

But I also guess that this recording is also available on your website?

That's right, yeah, it will be available afterwards.

You mentioned increased investments in the business going forwards. What are you investing in and what are the implications for margins?

Great, thank you. And just as a reminder, we've got time for a couple more questions. If you do want to ask a question, please type it into the Q&A box either at the top or the bottom of your screen. I've got a question here looking at China: what percentage of your sales in 2022 were in China?

I think approximate numbers — you can see in the results, it's one of the slides that we just showed, actually. The group revenue slide that I talked to shows that APAC by destination is £246 million. I think a rough number to have in mind would be that China is around half of that. So if you had it in mind as being perhaps £120, possibly £130, I think that would be broadly the right kind of number. That's by end destination. I think off the top of my head we export a little bit to China, but we are, as Kiet was saying, largely local.

Okay. And the question is still on China: are you reliant on supply of chips from China?

Okay, thank you. And we've got the last question here: who are your competitors in North America?

And probably worth adding, in the case of Flowserve and Emerson, they're also important customers for us as well. So the industry is one of those slightly unusual ones where people compete and also work very closely with as well. So we're very familiar with both of those businesses.

Thank you. We've got a couple more questions in and I think we've got time to take them. So I'm going to ask them here: do you have any problems recruiting engineers?

Okay, thank you. And now the last question: what steps do you take to ensure that key customers are retained in the business, and how closely do you work with them in developing products to service them?

Brilliant, thank you. Thank you Kiet, thank you Andrew. That brings us to the end of today's webinar with Rotork. I just wanted to point out as you're leaving today, you'll be asked to complete a feedback form. It'll be really appreciated if you could just complete that as you leave. And just to flag up, we've got a few future webinars coming up over the coming couple of months. They're there on screen, and if you want to register for any of those, they are available on the Yellowstone website. So thank you again for attending, and we hope to see you all soon.

Thank you.