Smiths Group plc

Okay, good morning, everyone, and thank you for joining us today. With me here in London this morning is John Shipsey, our CFO. In terms of the running order, I'll offer a few thoughts to set the stage, hand it over to John to take us through the numbers, and then I'll come back to talk about the strategic progress we made in the first half. As always, we'll close with your questions. Now knowing that it may be top of mind for many of you, let me begin with an overview of our activities in Russia and Ukraine. Like many of you, we are shocked and appalled by the tragic events unfolding in the region, and we join in the broader international community in calling for de-escalation and peace. To give you a sense of scale, our business in the region represented less than 1% of sales last year. Over recent weeks, our priority has been ensuring the safety, security, and well-being of our colleagues in the region. All are safe and continue to receive full support from Smiths. In response to the invasion, we have suspended sales into Russia. Moving now to results. Our first half performance demonstrates that we are executing well against our strategy. Organic revenue growth accelerated to 3.4%, and we converted that into even stronger profit and EPS growth, up 11 and 14%, respectively. Our growth was underpinned by strong demand across most of our end markets, and order books continued to build. In January, we successfully completed the sale of Smith Medical, several months earlier than expected. This was an important milestone for us as it further focuses our portfolio. We now have four higher performing, more strategically aligned industrial technology businesses, all with similar commercial, operational, and financial characteristics. We're using the proceeds of the sale to invest in growth, to further strengthen our balance sheet, and to return capital to shareholders by way of a buyback, which is already 25% complete. The early completion and rapid capital return are examples of the faster pace and better execution that are fundamental to our plan. The SMIS Excellence System is a central component of this, and we're making good progress on the next phase of SES, having set clear priorities, put leadership and resourcing in place, and settling into a tighter, more disciplined operating rhythm. We've also heightened our focus on ESG to multiply our sustainability influence and to maximize the accompanying growth opportunities that come with us. So we've had a good start to the year. That said, we face many of the same headwinds as the broader market, including supply chain challenges, rising inflation, and ongoing geopolitical and macroeconomic uncertainty. We'll go into greater detail on each of these points in the coming slides. At last fall's capital markets event, we laid out a plan to deliver performance in line with Smith's substantial potential. The plan is summarized on slide six in what we call the Smith's value engine. It connects three key components of success, our purpose, our strengths, and our priorities. As a technology company that has had a hand in a number of the world's most meaningful advances over the past 170 years, our purpose is crystal clear. We are pioneers of progress and we're committed to improving our world through smarter engineering. We leverage four fundamental strengths that create distinctive and compelling competitive advantage. World-class engineering, leading positions in critical markets, global capabilities, and a robust financial framework of which John will say more in just a moment. Our purpose and our strengths are then directed towards advancing three key priorities, accelerating growth, improving execution, and doing more to inspire and empower our wonderful people. We measure our progress by tracking five medium-term financial commitments, organic revenue growth, EPS, ROCHI, operating margins, and cash conversion. Slide 7 details our performance in the first half against these commitments. We've included results from the same periods in the two prior years for reference. As you can see, we're making good progress. Organic growth of 3.4% approaches the 4 to 6% range we're aiming for longer term. EPS growth was even more pronounced at 13.8%, a steep acceleration versus the same periods in both 2020 and 2021 and above our longer-term target of 7% to 10%. Roche climbed 370 basis points to 14%, while margins expanded 150 bps to 15.9%. An operating cash conversion of 93% is a solid result for us in light of our investments in growth, as well as the supply chain constraints that I noted earlier. We're encouraged by our performance in the first half, and I'm grateful to my 14,000 colleagues around the world who make it happen. There is still much to do to reach the still higher levels of performance of which we're capable, but we're pointed in the right direction. and we're clearly making progress. Let me now hand it over to John to walk through the results in greater detail.

Thank you, Paul, and good morning, everyone. I'm pleased to be able to talk you through a good set of H1 results. Let me begin by referring back to what I said at our capital markets event in November. Our key financial priority is to accelerate top line growth. Because with our strong financial framework, if we can turn the wheel of top line growth faster, it will drive even higher profit growth. And that profit growth will in turn drive strong cash flow. Cash flow which we can use to reinvest in future growth or indeed return to shareholders if it's surplus to our reinvestment needs. And that is precisely what we did in the first half, accelerating organic top-line growth to 3.4% and almost 1.2 billion of revenue, converting this into double-digit growth in operating profit, up 11.1%, 110 basis points of margin expansion, underlying EPS growth of 13.8%, and continued good operating cash conversion of 93%. An increase of 5% in the interim dividend reflects the group's strong performance and financial position. So, as Paul just highlighted, with top line growth of 3.4%, we achieved an important step up on last year. And this was driven by a strong performance in three out of our four divisions, as I'll come on to in a moment. We did see a minus 3.3% adverse forex impact, but we more than offset this with a 3.7% contribution from the Royal Metal acquisition. And as you know, our firm intent is to continue to enhance organic revenue growth with value-creative bolt-on M&A. And we converted that revenue growth even faster into profit, up 11.1% to £189 million as we increased operating margin from 14.4% to almost 16%. You can see on the slide how we did this. First and foremost, we drove higher volumes. We continue to reap the benefits of our restructuring program. We also effectively managed price and inflation, as well as ongoing supply chain challenges, whilst at the same time continuing to invest in future growth, with R&D investment up 8%. And you can also see the positive impact of bolt-on acquisitions, And it's the same picture at the EPS line, up 13.8% on an underlying basis, driven by the twin benefits of revenue growth and margin expansion. EPS was further boosted by accretive M&A, the absence of restructuring charges, and the start of the share buyback. overall EPS of 30.6 pence was up 18% on a reported basis, notwithstanding adverse effects. So you can see the group financial framework in action. Organic revenue growth complemented by accretive M&A driving even stronger profit conversion, which in turn drives strong cash flow. In the first half, we generated operating cash flow of £175 million with 93% cash conversion. It's a good result, particularly given a challenging supply chain environment. We took the decision to increase inventory and prioritise security of supply, even if this does mean a temporary increase in working capital. Below the operating level, we saw the benefits of lower pension contributions. And going forward, we'll also benefit from early repayment of the $400 million bond, which was completed just after the end of the first half. So all in all, continued good cash generation. So that's the overall picture. You're seeing a stronger, more focused group. each division well positioned in attractive growth markets, albeit with those markets at different stages of recovery. John Crane has shifted up a gear and is back in growth. Detection is managing challenges in aviation OE, and that market will not start to see recovery this year. On the other hand, FlexTech and Interconnect both continue to show strong momentum against a backdrop of favourable end-market conditions. Let's look at each division in more detail, starting with John Crane, which delivered growth on all fronts. Revenue of £416 million was up 5.1%. Growth was primarily driven by energy, which was up 7.5%, and aftermarket, which grew 6.6%. Aftermarket accounted for 69% of John Crane revenues in the half. But we were also encouraged to see later cycle OE return to growth up 1.8%. Operating profit grew 6.3% and margin improved to 20%. achieved despite an increase of £3 million in R&D and headwinds from both inflation and supply chain disruption. John Crane has good commercial momentum, with strong order book growth in the first half, spread evenly across aftermarket and original equipment. and including a large number of projects that are critical to the ESG goals of its customers, especially in relation to emission reduction and energy transition. Next, detection, where it's important to set some context. Delivery of pre-COVID wins underpinned revenue in fiscal 20 and 21, but many of these programmes have now completed. Subsequent tender activity has been much reduced, especially in aviation OE, as customers have delayed capital investment. Order intake did start to recover in the first half, but we don't expect this to translate into revenue growth until calendar 23. Nonetheless, the fundamentals of the business remain strong, and we're well positioned for when recovery does come. Detection revenues were down 7.2% to £313 million in the first half. Within the underlying decline of £24 million for the division, Aviation OE was down £34 million for the reasons that I just highlighted. On the other hand, it was encouraging to see aftermarket back to growth in both end market segments of aviation and other security systems, which meant that aftermarket made up 54% of detection revenues in the first half. And other security systems was also in growth, with revenues up 8.1%, driven by a good performance in ports and borders. Operating profit was down 13% to £36 million, against a backdrop of both lower volumes and significant supply chain challenges, particularly in relation to electronic components. Managing the supply chain continues to be a key focus of attention in the short term. Looking further ahead and more positively, we did see order book growth in the first half, and detection is well positioned and in better shape for the recovery in demand in aviation OE, which we expect to begin to see in 2023. Moving to FlexTech, which grew strongly in the first half and is firing on all cylinders. Revenues were up 10% to 297 million pounds, reaping the benefits of a very positive US construction market, but also the aerospace business has turned around and was back delivering good growth of 16% in the half. Overall, operating profit was up 18.3% to £62 million. You can also see a very strong margin story, reflecting effective action to offset cost inflation. And on top of this, Royal Metal's profitability was well ahead of plan. Looking forward, FlexTech has good reasons to be confident about the future. We see positive medium-term indicators for the US housing market, and the commercial aerospace market will continue to recover. Plus, there's an exciting pipeline of new products, which Paul will be referencing in a moment. Then InterConnect, which delivered another impressive step up in performance. revenues were up 12.9% to £166 million, with good growth in all its end markets, particularly semiconductor test, space and defence. Operating profit was £28 million, an increase of nearly 60%, and margins jumped to 16.9%, reflecting strong volumes and the realisation of restructuring benefits. we continue to see strong order momentum across all interconnects end markets. Differentiated technology is winning us high levels of orders across key markets like space and semiconductor test. So you can see in the first half results, a stronger, more focused group. In January, we completed the sale of Smith's Medical, and so the half year includes a profit on disposal of one billion pounds and to remind you we also have a liquid financial investment in ICU medical with the current market value of 0.4 billion pounds and there's further potential value to come from a contingent earn out of a hundred million dollars all of that combined with immediate cash proceeds of 1.35 billion pounds, means that we have a strong balance sheet. And we're proceeding at pace with the return of surplus capital. We're already more than a quarter of the way through the share buyback. And at the current run rate, our average shares in issue for FY22 will fall to 387 million. And we will complete the program in early calendar 2023 with around 350 million shares remaining in issue. So the key point from these first half results is that we're demonstrating the Smith's financial framework in action, turning the wheel of top-line growth faster, converting that into even stronger profit growth, delivering free cash flow that we use first and foremost to accelerate organic growth, but also to add complementary M&A and to return to shareholders. You should expect to see this blend of capital allocation continue even after we complete the current programme. So, although this is just the first checkpoint in our new strategy, we are on track. I'd like to finish by taking you through the outlook for the full year. As you've seen, we've delivered well in the first half, in spite of supply chain challenges. Looking forward, there are strong positives. We're seeing good demand in most of our end markets. We have a clear strategy, which we're executing well. We will continue to deliver positive operating leverage, and we're excited by further new product launches to come. But at the same time, we can't pretend there are not real challenges in the external environment. We expect the aviation OE market to be more challenging in the near term. We also expect inflationary pressures to increase amidst continuing supply chain disruption. And all of the above is made more complicated by the geopolitical and macroeconomic environment. That all said, we expect to continue to make progress and to deliver on our clear strategy. And we are maintaining our guidance of 3% organic growth for the full year. So with that, let me hand back to Paul, who's going to talk about how we'll build on this foundation going forward.

Thank you, John. Smith is an intrinsically strong company capable of a great many things. In the past, this sometimes led us to try and tackle too much and consequently deliver too little. We're now tightly aligned on three key priorities, growing faster, executing better, and doing more to inspire and empower our great people. These keep us laser focused on what specifically needs to be completed this month, this quarter, and this year in order to advance our progress and fulfill our commitments to key stakeholders. Let me bring this to light with some examples from the first half, starting with accelerating growth our biggest upside to value creation. The faster growth we delivered in the first half came from four levers that you see here first strong execution to access the high demand we're seeing across most of our end markets. Layered on that, more aggressive new product development and commercialization, leveraging the strengths I noted previously to solve our customers' toughest problems. Third, building out the many attractive adjacencies that our strong core positions make uniquely available to Smith's. And topping the stack, disciplined M&A to supplement our primary organic growth model. Let me say a few words about each of these levers, beginning with market growth. Now, broadly speaking, we participate in four global end markets, general industrial, safety and security, energy, and aerospace. Our organic revenue growth in general industrial was nearly 6% last period. This was driven both by first fit and aftermarket growth for John Crane in sectors like water, paper, and mining. And demand for flex tax construction solutions and interconnects semiconductor test products was stronger still. In safety and security, we were down three and a half percent as the aviation security sector continues to work through the impacts of historic air travel contraction during the pandemic. While Detection's order book did grow in the period, several of these wins are future-dated, underlying our view that this market is still a year or more away from recovery. Conversely, energy market expansion continues at a high rate. We grew 7.5% in this market during the first half, with strong demand across most geographic and end-user segments. Our fastest growing market in the half was aerospace, where we were up almost 17%, as increased aircraft builds drove strong demand for flex tech and interconnects solutions in the segment. Each of our four main markets is benefiting from a world reopening, albeit at different rates, which is incrementally beneficial to SMIS. Our balanced portfolio and broad market exposure dampens specific volatility in any one market. And we saw this play out in our half-one performance. Fast growth in aerospace, with consequent benefit to FlexTech and Interconnect. Strong demand in energy markets, supporting accelerating growth for John Crane. And expected challenges in aviation security, leading to a decline for Smith Detection. The aviation security market will return to growth, as longer-term macro forces remain quite strong. And conversely, our fastest-growing markets to present may eventually moderate. It's the breadth and balance of our portfolio that makes the difference. Our strong positions in multiple large global critical industries is a distinctive long-term advantage for Smith. Our second lever for faster growth is improved new product development and commercialization. In support of this, we launched a number of high-impact new products in the first half. For example, in Smith's Interconnect, we introduced new connectors and transceivers for high-speed satellite communications. In John Crane, we introduced a novel solution for demanding pipeline applications. and in Smith's detection, a high volume, faster throughput system for cargo screening. Equally exciting, as you can see on the right side of slide 28, we're set to launch a number of additional programs in the second half. These include John Crane's Zero Emission Seal, the first of its kind, a potentially game-changing innovation in the world's united effort to contain methane emissions. Also due to launch is FlexTech's Python platform of multi-layer refrigerant lines, designed to replace cumbersome copper tubing in HVAC systems. To fuel our growing new product pipeline, we invested more than 50 million pounds in R&D in the first half, a year-on-year increase over 8%. In the same way that we're strengthening our new product capabilities, we're moving more quickly to build out priority adjacencies, several of which we featured at last fall's Capital Markets event. Two specific examples to illustrate. ICMore is a SMIS detection platform that uses advanced algorithms to automate suspicious item detection in cargo, baggage, and palleted goods. Earlier this month, we launched ICMore Currency to detect rolled or stacked bills of multiple denominations and origins, supporting the fight against global money laundering. John Crane Sense is a digital platform that leverages technology first developed in Smith's detection. The system uses sensors and machine learning to monitor customer networks. flagging potential failure points before they occur. In H1, we launched Sense Turbo, a sensor-enabled extension of our market-leading dry gas line of engineered seals. These are but two of the many examples of how we're improving our world through smarter engineering. Our fourth growth lever is using disciplined M&A to augment our organic growth focus. Our most recent acquisition is Royal Metal, which we purchased in February of last year for $107 million at a valuation just under eight times trailing EBITDA. Royal Metal is a provider of residential and light commercial HVAC products, primarily on the East Coast of the United States. The deal is off to a good start. with revenue growth of 45% and profits more than doubling under our ownership. The strong growth is being driven by synergies with our FlexTech portfolio, good sourcing and price management, and the healthy construction market that I mentioned earlier. We have a solid pipeline of similar M&A opportunities across the group that we're actively working. Having given you a flavor for what we're doing on the growth side, let me now say a few words about execution. In my experience, a common denominator amongst many high-performing companies is a strong, continuous improvement culture. Our approach to this is centered around the Smith's Excellence System. While we've had the foundations of SES in place for a couple of years, we need to do more to translate theory into action and action into results. In support of this, we launched the second phase of SES last autumn, grounded in specific delivery targets aligned to the same three priorities we're walking through now. With respect to growth, we're leveraging SES to improve new product development, to build on our strong quality framework, and to improve customer service. On the execution front, we have projects underway in operationally intensive areas, like our factories and distribution centers. And as regards people, we're taking advantage of the launch to accelerate talent development. In addition to a group SES leader who reports to me, we put in place master black belts in each of our businesses, hardlining to the division presidents. We launched over 40 new black belt projects in the last six months and are already beginning to see the benefits of this work here in the second half. Let me give you an example of a typical project. Over the last five years, we've reshaped our interconnect portfolio to focus on the products, technologies, and end markets where we're best positioned for profitable growth. Our leading semiconductor test business is one example. Several of the largest chip manufacturers, names you'll know well, are customers of this platform. As the business has grown, we've had success automating our manufacturing processes. This has helped us reduce process variability, expand capacity, and lower costs. This particular black belt project was a continuation of that effort, automating the test procedures that take place prior to customer release. Previously, ours was a manual process, which resulted in longer cycle times and lower yields. So we charted a project, resourced the effort, and systematically worked through a Lean Six Sigma process. The project yielded the following results. Sorting times were cut by 75%. Test times were reduced by 90%. And customer acceptance levels increased to 99.99%. The project took about six months to complete and is representative of the sorts of high-impact, results-oriented work enabled by the Smith's excellent system. We're now steeply ramping the number of such programs underway across the business. Certainly, SES is helping us execute better, which in turn supports the improved performance you saw in the first half. A good portion of continuous improvement comes down to leadership. another powerful element of our SES plan. By putting talented leaders into full-time black belt and master black belt roles, we accelerate development of our people. When they then re-enter into business leadership roles, we cement the cultural advances needed to sustain and amplify the gains. This brings us to our third key priority, people. Topping our list in this regard is safety. Smith has a strong safety culture, with recordable incidence rates in the top quartile of all manufacturing companies. And as mentioned, we've had a particular focus recently on the safety and well-being of our colleagues impacted by the conflict. We're supporting the International Red Cross and the vital work they're doing for the people of Ukraine. Slide 35 illustrates a number of other actions we took in the first half in support of our people priority. In the interest of time, let me highlight just a few. Our latest employee survey demonstrated progress across multiple categories, including our innovative culture, being a great place to work, and excitement about the future of Smith. Consistent with the ramp up in SES activity that I just described, we trained 30 new black belts and over 50 more green belts in the first half. In support of our commitment to diversity and inclusion, we conducted D&I focus groups with over 800 colleagues in 11 language and across 21 countries. And we established an extended leadership team comprised of the top 200 leaders in our company, with a third of this group being female. I'll wrap up my comments today with an update on our heightened ESG focus. Sustainability is central to all of our priorities. As those of you who followed us over time will know, Smith's first implemented environmental targets back in 2007. Since that time, we've reduced water usage by 53%. greenhouse gas emissions by 60%, and non-recyclable waste by 63%. Our energy usage is down almost 40% across that period, and over 60% of the electricity we use today comes from renewable sources. Building on this strong foundation, we took four additional meaningful steps in the first half of fiscal 2022. We established a science, sustainability, and excellence committee on our board of directors. This group oversees new product development, environmental stewardship, and continuous improvement. We put in place our first-ever chief sustainability officer, who sits on our executive committee. We added rigorous ESG metrics to our compensation programs, and we published specific 2024 environmental goals. an important step towards delivery of our net-zero greenhouse gas commitment by 2040. Aligned with this, we signed on to the Science-Based Target Initiative and the UN Race to Zero Pledge. Now, on the right side of this chart, you can see a number of specific ways these commitments are contributing to growth. John Crane is playing a frontline role in helping our energy customers navigate the all-important transition to a zero-emission world. FlexTech is engaged with customers on solutions for cleaner air and lower emission heat. Electrification is at the center of much of many of our customers' decarbonization plans, and Smith's interconnect powers the types of systems that make this possible. And Smith's detection is absolutely central to the safe passage of people and products around the world. I'll wrap up with a few closing thoughts. At last fall's capital markets event, we laid out a plan to bring Smith's performance better in line with our vast potential. In the first half of fiscal 22, we demonstrated good progress in this direction with organic revenue growth of 3.5%, operating profit growth of 11%, and EPS growth of 14%. In the same way, we're building capabilities aligned to our three main priorities of growth, execution, and people. New product momentum is building, SES is up and running, and our commitment to building an ever more diverse and inclusive team is unwavering. Alongside all this, we're taking swift and decisive action to accelerate our progress on ESG. In closing, I'd like to thank all Smith's employees around the world for the hard work and dedication that makes this progress possible. In the same way, we're grateful for the strong support we enjoy from our customers and shareholders. With that, I'll pass it back to the operator for any questions that you might have.