Hello, everyone, and welcome to the IMI plc preliminary results 2022. My name is Nadia, and I'll be coordinating the call today. If you would like to ask a question at the end of the presentation, please press Star followed by one on your telephone keypad. I will now hand over to your host, Roy Twite, Chief Executive Officer, to begin. Roy, please go ahead.
Good morning, everybody, welcome to IMI's 2022 preliminary results presentation. Next slide, please. This slide covers the key messages from the presentation. The first thing to say is that it was another strong performance in 2022. There is great momentum in this business. We delivered 10% revenue growth and the group order book was up 14%, with the critical order book a particular highlight, up 18% at the year-end. Growth Hub is getting stronger and stronger, creating a customer-led entrepreneurial culture. It's really helping to drive the Better World Growth that is right at the heart of our strategy. We delivered GBP 52 million worth of orders from Growth Hub last year. I'm gonna give you some exciting examples later on. This cultural change is reflected in our customer satisfaction scores.
We are now achieving industry-leading benchmarks across our company. We completed 3 acquisitions in the year, all in attractive Better World Growth markets. Our adjusted operating margin increased by 80 basis points as we make further progress towards achieving our through cycle margin target of 20%. With that, I am very proud to report record scores and a significant reduction in health and safety incidents in the year. Finally, I am pleased to report that we are increasing the final dividend by 10%, which reflects the board's continued confidence in the prospects for this business. Okay. With that, I'm gonna pass over to Dan, please.
Thanks, Roy. Good morning, everyone. I'm pleased to be able to take you through our 2022 results today. Next slide. An overview of revenue and operating profit. First, as Roy already said, really solid results, organically up 4% on revenue and 8% on operating profit. All three divisions are up on the top line and increased their margins in the year, with the group margin up 80 basis points to 17.8%. We continue to manage corporate costs closely, and although the figure is slightly higher than last year, you'll recall there was a one-off property sale in 2021 which helped us by about GBP 1.5 million. For 2023, corporate costs are expected to be around GBP 26 million.
Adjusted EPS increased 15% on last year to GBP 1.055 at the top of our previous guidance. Operating cash flow remained strong and our net debt to EBITDA came in at 1.8 times, in line with the guidance we gave in November. Next slide, please. Since the launch of our Better World strategy in November 2019, we've made real progress in transforming the organization, putting the customer at the center of everything we do and enabling a culture of sustained profitable growth. You can see on this slide how through a combination of strong organic growth and targeted bolt-on acquisitions in attractive market segments, we have delivered 3 consecutive years of profit and margin improvement. Adjusted operating margins have increased by 360 basis points since 2019. Next slide.
We increased our margin target last year to 20% through the cycle. As this slide shows, given the progress already achieved, we have a clear pathway to deliver on this commitment. Firstly, our complexity reduction program is progressing well and is expected to provide a further GBP 42 million of benefits over the next three years. Secondly, Jackie and team are continuing to drive growth in the aftermarket within Critical Engineering, providing margin support for both the division and the group. Finally, continuing our growth in our attractive end markets will provide further margin support. Next slide. Looking at the income statement, as expected, the interest charge has increased to GBP 19 million, reflecting the increased rate environment and the funding for our acquisitions.
We also show a pension finance credit in 2022, due to the final buy-in on our U.K. scheme, we expect a small charge in 2023. It means the overall finance charge in 2023 will increase to roughly GBP 25 million. Our adjusting items are broadly in line with last year, with lower restructuring costs and a hedge gain offsetting higher intangible amortization and the impact of our exit from Russia. Finally, taxation. Our rate returned to roughly 21% after getting a one-off benefit in 2021. We expect the rate to increase largely due to the U.K. rate increase and new minimum tax laws coming into effect. We currently are forecasting a 22% rate for 2023. Next slide, please. Next, an update on our complexity reduction program.
As you saw on a previous slide, we have delivered sustained margin improvements since 2019, complexity reduction has played an important role. In 2022, we delivered a further GBP 13 million of benefits ahead of plan, taking the total incremental PNL benefits since the start to GBP 84 million. The charge in 2022 was lower than presented at the half year. This is a result of some phasing changes in Critical, with certain project announcements now planned for this year rather than last. There have been no changes to the total costs and overall the program remains on track. As you can see, we expect to complete the projects and deliver the lion's share of the remaining benefits in the next two years. As you know, we will always look for and execute on opportunities that will enhance the long-term competitiveness of the group.
Next slide, please. Continuing to cash flow, where you'll see an improvement versus last year. Working capital was higher, with debtors reflecting our top line growth and inventories increasing to support both the significantly higher Critical order book and customer service in Precision and Hydronic. Both Hydronic and Precision reduced their stock levels in the second half. Although we still are experiencing supply chain challenges within certain parts of these businesses. We will continue to manage our position closely and reduce levels further when conditions enable us to do so without adversely impacting customer service. CapEx of GBP 71 million is about 1.2 times depreciation and includes investments to support growth and our sustainability initiatives. We continue to see good opportunities to deploy capital into our core businesses to drive further performance improvement.
Our net debt has increased to 812 million at the year-end, reflecting in-year acquisitions, but also an adverse FX movement of around GBP 50 million due to our U.S. and EUR debt positions. Net debt to EBITDA remains within our target range, and we continue to develop an attractive pipeline of bolt-on acquisitions. Next slide. Getting into the division performance. Precision had an excellent 2022. Adjusted revenue was up 18% with organic growth up 5%. Profits are 23% higher and margins improved by 70 basis points to 18.5%. Running through the sectors, Industrial Automation's organic revenue was up 7% with the integration of Bahr progressing really nicely. Process Control organic revenue was up double digits at 16%.
Life sciences revenue was down 8% organically, although do remember we had the last of the ventilator surge sales, about GBP 12 million, in the first few months of 2021. Life sciences grew organically by 10% if you exclude those surge sales. Now, adjusted revenue is up significantly due to the Adaptas acquisition, which is performing very strongly. Its order book at the end of 2022 was GBP 16 million higher than at the start of the year, a 66% increase. The growth opportunities being identified from the collaboration between Adaptas and IMI's existing life science businesses are significant and growing. Commercial vehicle revenue was down 1% in the year, with positive results in Europe and the Americas offsetting Asia, which was heavily impacted by China's COVID lockdown.
We still see business being held back by component shortages, but maintain our strong relationships with OEMs, which position us well to meet demand when these pressures ease. Our rail business continues to trade well, delivering 12% organic revenue growth in the year. We are tapping into very good growth opportunities, particularly in Asia, where our solutions significantly enhance the safety of passengers during their journeys. Before moving to outlook, I wanted to highlight the important evolution of Precision's business since 2009. Our sector businesses have grown from roughly 30% of revenue to over 50% now, reducing our exposure to the cyclicality of general industrial production. In addition, Beth and the team continue to build out Industrial Automation's aftermarket, which now represents about 40% of IA revenues. Finally, the 2023 outlook.
Based on current market conditions, including the softening industrial production environment, we expect Precision Engineering's organic revenues to be lower than 2022, with margins slightly higher. Next slide. Critical had an outstanding 2022, with strong order intake, continued organic growth, and margin expansion. Orders were up 12% in the year, led by a 16% increase in aftermarket. The energy end markets, particularly upstream oil and gas, including LNG, delivered well. New products are playing a big part in Critical's growth, with GBP 43 million of growth of orders in the year. Organic revenue was 2% higher than the prior period and 3% higher on an adjusted basis. Margins are up 90 basis points and now at 19%, reflecting the division's actions to reduce complexity and its continued evolution to a more aftermarket-intensive business.
You can see in the top right how aftermarket orders have grown at an 8% CAGR since we launched the strategy in 2019. Critical Engineering order book is up 18%. We saw significant new construction activity in the second half of the year. Given longer lead times, we expect much of those orders won't ship until 2024. Therefore, on outlook, based on current market conditions, we expect 2023 organic revenues to be up high single digits. Margins are also expected to be higher. Next slide. On to Hydronic Engineering. A solid performance from Phil and the team, with 4% organic growth against a stronger 2021 comparator, given the installer catch-up activity post-COVID. We continue to see strong demand for our energy saving solutions, like our Halo-V thermostatic radiator valve, which Roy will highlight shortly.
Although we cannot fully quantify, we know there was some distributor destocking in the second half of last year. Hydronic's on-time delivery remains consistently above 90%, which is excellent performance, does mean our customers can get comfortable holding less stock. Operating profit is up 5% organically, The division continues to invest for the future while remaining a 20%+ margin business. In terms of outlook, based on current conditions, we expect Hydronic Engineering's 2023 organic revenues to be higher, supported by demand for our energy saving solutions. Margins are also expected to be higher, supported by the Heatmiser acquisition. Next slide. We have brought the pension slide out of the appendix as there is some news. Two things, really. First, we completed a final buy-in of the remaining UK pension liabilities in December last year. This has fully de-risked the DB UK scheme.
Many of you will remember when we started this journey back in 2014 with an overall UK liability of GBP 1.3 billion. Through a series of buy-ins and buy-outs, we have managed the position and the risk down. We will now assess the merits of a final buyout in 2023, which would remove the remaining UK asset and liability from our balance sheet. Second, as a result of this buy-in and the adequately funded position, we have stopped the previously required 7 million annual cash contributions. We are seeing an immediate cash flow benefit of GBP 7 million going forward. The overseas schemes will be the focus of the team going forward, where we will continue to look for opportunities to reduce our outstanding liabilities. Next slide. We also thought it was a good time to remind everyone about our capital allocation principles.
We look to maintain a very disciplined approach to capital deployment. Given the diversity and resilience of our businesses, we target a debt-to-EBITDA position of between one and two times. The cash generative nature of our businesses means our leverage level should reduce by about half a turn during 2023, unless we are successful with additional acquisitions to accelerate our performance. Capital investment continues to be an important driver of sustainable, profitable growth. We focus on Better World opportunities and expect to continue to spend at a level above depreciation. Operating expense investment is equally important, with R&D expenditure exceeding 3% of sales in 2022. This figure still does not fully reflect all the growth of activity around the group. It truly is embedded into everything we do now.
On acquisitions, we will continue to pursue those that help us move further into attractive markets, we will execute them within our strict return guidance. Delivering IMI's cost of capital by year 3 and to not be materially dilutive to the group's overall ROIC by year 5. Finally, we manage our debt position to minimize both the interest rate and liquidity risks, maintaining roughly 75% of our debt at fixed rates, which are currently fixed at about 3%. We have spread the maturities of this debt over 6 years, starting in 2025. The final slide before I hand over to Roy, the group outlook statement. Based on current market conditions, we currently expect adjusted EPS to be around GBP 111 pence in 2023.
That's considering a net interest charge of around GBP 25 million, 22% tax rate, and assuming FX creates a tailwind of around 2%. With that, let me hand back to Roy to take you through the strategy update. Thanks, everyone.
Thank you, Dan. This next slide clearly shows how our strategy is delivering sustainable improvements in our financial KPIs since the strategy was launched in 2019. Revenue has been growing at 3% CAGR. Our operating margin is up 360 basis points at 17.8%. Adjusted profit before tax has been growing double digits at an 11% CAGR. ROIC has improved by 130 basis points to 12.7%, and adjusted EPS has increased from GBP 0.732 up to GBP 1.055. Next slide, please. I want to provide a quick refresher on our strategy. At the heart of the strategy is our purpose, breakthrough engineering for a Better World.
This is an incredibly powerful driver, which has unleashed the tremendous energy of our people to solve key industry problems, helping our customers become safer, helping them become more sustainable and more productive. Really, there are three key pillars to our strategy. The first is customer satisfaction. We provide world-class engineering expertise and excellent service to all of our customers, alongside deep sector knowledge and know-how. Our focus is on solving our customers' problems. We have market-leading brands, and we are achieving industry-leading customer satisfaction scores across IMI. The second is market-led innovation. Our innovation incubator, Growth Hub, supported by selective M&A, enabled us to develop breakthrough solutions to support our customers with their most challenging and complex engineering problems. The third is complexity reduction, and we continue to simplify and improve our global manufacturing footprint and demonstrate a resilient supply chain to support our customers.
Next slide, please. Our three divisions are aligned to attractive growth markets. We have a portfolio that is supported by global macro trends. The long-term fundamentals in each of these markets are strong. We have the ability to make a significant positive impact. I'm gonna highlight a few examples. In life sciences, the global health threats that we face, along with the rapidly improving approach to diagnosis and treatment, presents a huge opportunity for us. We can empower our customers by helping to automate their processes to diagnose disease early and support highly tailored, patient-focused critical care. In indoor climate, the global drive to net zero, along with increased energy prices, means that more than ever, our customers need to reduce energy consumption, improving building comfort, and to combat climate change. Heatmiser, of course, is a really exciting acquisition for us in this space. Next slide, please.
Growth Hub remains absolutely at the heart of our Better World strategy. I'm really pleased to report that a record GBP 52 million of orders were won through Growth Hub last year. Pipelines remain really healthy across all three divisions. More and more employees are getting involved and taking the knowledge that they gain back and applying it in our core business to create more value today. Whilst there were nine Growth Hub projects that delivered over GBP 1 million of orders last year, I would like to highlight three specific Better World projects that really demonstrate the commercial mindset and the customer-focused culture that Growth Hub is fostering within IMI. Firstly, our focus on hydrogen as a sustainable fuel is leading to a number of exciting early project wins.
Our Hydrogreen team are actively supporting the development of hydrogen refueling infrastructure with solutions that reduce the costs of operating refueling stations. They secured GBP 3 million of orders last year, and we expect that to double this year. You might remember that we introduced Aerosol at our Capital Markets Day back in 2021. Aerosol is an innovative solution that prevents steam erosion in process industries, minimizing plant downtime and extending plant life, improving efficiency and return on investment for our customers. It is now a significant driver of growth, we secured GBP 17 million of orders last year. Our Halo-B thermostatic radiator valve is a great energy-saving new product. You might be aware that Germany had issued a regulation limiting the temperature of municipal buildings to just 19 degrees Celsius this winter, this is a very effective way to save energy.
A one-degree Celsius decrease in temperature can reduce energy consumption of the building by around 6%. After seeing this policy announced, our team quickly developed the Halo-B valve, which helps limit the temperature in a building to 19 degrees Celsius. This has been a great success in Germany, we secured GBP 4 million worth of orders in the year. Hopefully these examples provide you with a good feeling of how our Better World strategy is really accelerating organic growth. Next slide, please. As you know, we have completed 4 strategic acquisitions since December 2021. On this slide, I'd like to provide a very quick update on how things are goingAdaptas has traded very strongly since we acquired it in December 2021. We continue to see a great opportunity to cross-sell Adaptas' leading mass spectrometry technology into our existing OEM customer base and vice versa.
Adaptas has now been further complemented by the acquisition of Core Solutions, another life sciences business where we are already seeing very strong customer demand and a significant opportunity to scale up. The integration of Bahr is on track. We are actively progressing with our plan to rapidly scale Bahr's high added-value products and systems through our Norgren sales network. Finally, we completed the acquisition of Heatmiser, the U.K. leader in smart thermostatic control, in December 2022. Heatmiser provides a unique opportunity to accelerate our growth in smart buildings, and we are very excited to scale Heatmiser's predominantly U.K.-based business right across Hydronic's core markets. All four acquisitions present the opportunity for significant synergies and are on track to deliver growth and financial targets. Next slide, please.
I also wanted to take this opportunity to give you an update on our ESG progress and provide an overview of our new sustainability framework, Creating a Better World. This framework sets out the most important priorities for our business, and it has been developed in collaboration with our stakeholders who are part of our materiality assessment. There are three pillars to this framework. Firstly, empowering people. We develop and empower people to make an impact and to create a better working world. We have made great progress in the year, with employee engagement now at record levels and our recordable accident rate improving by 38%. We are also making good progress on gender diversity and are benefiting from the strong female representation on our exec committee and our board. Secondly, sustainable solutions. We engineer solutions for our customers that are safer and more sustainable.
Every day, our people are helping to improve energy efficiency in buildings, improve analytical devices to save lives, and reduce emissions in both oil and gas and in trucks. Thirdly, climate action. We play our part to address climate change and protect the planet by minimizing the environmental impact across everything that we do in IMI. We continue to see great progress in reducing our CO2 intensity with a 9% reduction last year and a 25% reduction since 2019. We are committed to a net zero target for Scope 1 and 2 by 2040, and we are very pleased to announce a target to be net zero for Scope 3 by 2050. Next slide, please.
To summarize, the key takeaways from today are, first, that our purpose-led strategy that we set out in late 2019 continues to deliver with 4% organic revenue growth, 15% adjusted EPS growth, and the order book up in all divisions. At the heart of our strategy is our Growth Hub, which is going from strength to strength and delivered a record GBP 52 million of orders in 2022 while fostering a customer-led entrepreneurial culture. Third, we have completed 4 strategic acquisitions since December 2021, all of which are in attractive Better World markets and present opportunities for growth. Fourth, as Dan said, we expect this year's EPS to be around 111p and remain on track to deliver our ambition of sustainable, profitable growth and a 20% through-cycle operating margin. Okay.
With that, I'm gonna stop talking and turn over to the moderator, please, for the Q&A.
Thank you. If you would like to ask a question, please press star followed by one on your telephone keypad. If you choose to withdraw your question, please press star followed by two. When preparing to ask your question, please ensure your phone is unmuted locally. Our first question today goes to Andrew Douglas of Jefferies. Andrew, please go ahead. Your line is open.
Good morning, gents. Thank you for the presentation. I've got 3 questions. 2 should be really quick, and hopefully 1 will also be quick. On Precision, I'm just interested in your commentary on the outlook for Industrial Automation. I know that you're historically a PLI business, but 1 or 2 of your peer group who's also PI correlated are talking about, you know, reasonably healthy growth in IA. Can I just double-check, is this typical IMI conservatism? Is there any kind of market share loss that we kinda need to be aware of? Anything else that you can give us there? Just feels like that's potentially a little bit soft, but I'll leave you to discuss that.
Secondly, on pricing, clearly lots of ups and downs when we think about the whole pricing equation. Can you just give a view on whether we should be modeling prices up this year and whether that's kinda an annualization of last year's numbers, or are you putting more prices through this year? Last but not least, on Growth Hub, clearly GBP 52 million of orders is great. Are we looking to expand that in the current year? If so, any guidance there would be helpful. Thank you.
Great. Well, thanks, Andy. Precision. On Precision, we certainly don't feel we're losing market share, Andy. Our customer satisfaction scores, for instance, are now industry-leading, right? We use Net Promoter Score.
Yeah.
You know, we're up there in the 40s, so we definitely don't feel that. I think, you know, with us, Andy, we will pick a forecast that we think is absolutely achievable. With IA, what we've done is look at PMIs, we looked at previous recessions, and we've used that. It's very important for us as we manage the business to make sure that we get our costs in line. As you see, although we're forecasting Precision to be down in terms of sales, we're forecasting it up in terms of margins. Managing our cost base, very, very important for us and making sure that we can show the benefits of the restructuring as we have done since 2019. As Dan said in his presentation, you know, delivered over GBP 80 million of benefits.
As you can see, you know, profits since the 2019 result and the strategy presentation, up nearly GBP 100 million in that three years, you know? Yeah, that's how we run the business. We wanna make sure that the costs are in line. The other people could well be right, you know? I mean, certainly early trading, January, February is.
Yeah.
You know, solid, right? Within Precision.
Yeah.
You know, they could well be right. For us, you know, we don't wanna rely on any sort of better outcome. We wanna make sure that if we do get a better outcome, Precision, of course, is a high added value business. You know, as I've said many times, I was managing it as we came through 2009 and through the other side, and we got, you know, tremendous drop-through in terms of the profit. And that's the way we wanna run the business, right? We wanna make sure that we are prudent, we're careful, we don't rely on any sort of second-half recovery. I think some of the peers have got a point and, you know, again, it's not clear to us because we get a mixed picture. Obviously out there right now, labor costs are high, right?
Labor is difficult to get hold of, and that is making people think about automation. There's no doubt about it. The question will be, does reduced consumer spending because of inflation and energy costs and everything else mean that capital starts to come down, capital spend starts to come down? At the moment, as I said, Andy, you know, we're solid and, you know, we really hope that, you know, everybody else is right, but, you know, we don't rely on hope. We, you know, we, we make sure we get our costs in line, and if we get that extra sales, we'll be obviously absolutely delighted, and I'm sure everybody will be. That was the first question. I think, Dan, do you wanna cover pricing?
Sure. Hey, Andy. We did get good pricing, and I think last year was a lot around managing the input costs, commodities and components, and got that nicely, and you saw the result on the margins. We probably have about 2 percentage points of carryover, and as you know, it's probably a bit more pricing in hydronic and a bit less in critical. Off that base, our expectation is we will need to move pricing further in 2023, and that's more down, as Roy Twite already just mentioned, the labor pressures and labor inflation. We'll look to make sure we manage that and clearly use all of the productivity as well to manage that as well.
Looking for further price, movement as we get through 2023.
Yeah. I'll just add to that. Dan, I think Dan's absolutely right. I think pricing this year will be mid-single digit, Andy, and it'll be obviously predicated more on labor inflation.
Yeah.
Last year it was more material inflation. As Dan said, probably, you know, at least 2% of that is carryover, and actually most of the rest of it is now agreed.
Yeah
you know, we're pretty sure that, you know, is gonna come through. Then Growth Hub, I think was your last question. Yeah, you know, I mean, first of all, delighted with what's happening with Growth Hub. I think it's really cultural, Andy. It's the most important thing, right? Because we can look at those orders and they're important from those teams, really important to us that we can generate market-led innovation, that we can go out, solve customer problems, create solutions quickly. As I've, you know, showed some examples. I love that little Halo-B example because the teams reacted so quickly. You know, the German government said 19 degrees in municipal buildings because they need the energy saving. Our team reacted, scaled up, you know, more than 10 times.
It was a bit like the ventilator challenge in my mind.
Mm-hmm.
The team's so responsive, so market-facing, that's what's key. Actually even that Halo-B order, it was about GBP 4 million, is not even in the Growth Hub numbers, right? Because it wasn't done through all of the Growth Hub techniques, but it's another indication of how the culture is changing in the company. That's why I'm actually trying to move away a little bit, Andy, from just a Growth Hub target because I want the whole company to react like that, right? Deeply cultural, deeply based on our customer's needs. Not on what we've got and trying to sell that, much more on, you know, we can solve your problem, we react to you. That's why obviously the Net Promoter Scores, customer satisfaction scores are going up. That culture for the company will lead to higher growth.
That, you know, that's what we wanna keep accelerating that overall growth level, Andy. so yeah, no, really good news and, yeah, we're pleased with it. Does that answer your questions, Andy?
Lovely. Yeah. That's great. Great work. Thank you very much.
Thanks a lot.
Cheers.
Thank you. The next question goes to Christian Hinderaker of Goldman Sachs. Christian, please go ahead. Your line is open.
Yes. Good morning, everyone, and thank you for the opportunity to ask questions. I just wanted to come back to the margin expansion that you see across all three of your divisions. That's obviously encouraging. We know about the GBP 20 million of restructuring savings, and you talked a little bit about pricing. I guess just to narrow in on that a little further, you mentioned wage inflation. You know, some companies here in the sector are talking about 5%, 6%, 7% cost inflation on the labor line. You know, what do you see in terms of that inflation rate? Also, more broadly, are there any considerations in the bridge to think about with regard to, say, M&A, in terms of those margin expectations? Then I'll come back to the other two.
Yeah. No, thanks, Christian. I think obviously, you know, we're seeing similar levels of labor inflation, right? We wanna keep all our best people. We want stability in our workforce, and broadly, that's what we've got now. We wanna keep that. It's very, very valuable to us. Yeah, similar levels. As I said, pricing matching that, though we expect to win the overall inflation equation. We are seeing a bit of relief on some materials. You know, that will help us compared to the higher levels of inflation last year. You know, that's good news on the materials side. Roughly, our P&L is sort of just over 30% labor, just over 30% materials. That's pretty equally balanced. A bit of a relief on materials is good.
Of course we've got our own efficiencies that we're driving as well, plus the GBP 20 million, you know, from the programs. The good news on the programs is the vast majority of that is now done for the GBP 20 million, which is great. That was three big site consolidations in Precision, and I think Beth and the team have done a great job in terms of making sure those projects have been done on time, to budget. We're starting to see the savings coming through in the P&L already. You know, that's encouraging, Christian. I think, you know, overall in terms of inflation, you know, the bridge, yeah, it will be helped by obviously the accretive margins on the acquisitions. In the overall scheme of things, you know, that's relatively small.
Heatmiser obviously does help Hydronic. Probably that's the big one really, Christian, in your models. That is worth about 100 basis points for Hydronic.
For Hydronic.
For Hydronic. It's obviously not for the group.
Yep.
It's not, it's not that big, unfortunately. Yeah, for Hydronic, it's worth 100 basis points. Dan, anything I missed in that bridge?
No, no. I mean, that's why I presented it. I think we see a clear shot to getting ourselves up to that 20% through the cycle. I think also that gives us, as we continue to deliver close to that, the opportunity to continue to invest in the business to drive the top line growth as well, organically. I think that's the key for us. As we approach that number and get there, we'll wanna make sure we're continuing to invest in the Growth Hub teams, but across the business in the Better World segments.
It's a really good point, actually, Dan. It's a point I should have made. You know, we've improved profits by nearly GBP 100 million over the last 3 years, despite a lot more investment.
Yeah
... in the business, despite the fact that 800 people have been contributing over that period of time into Growth Hub. Despite the fact that R&D as a percentage of sales has gone up from just over 2% to just over 3%. Yeah, I mean, we are investing heavily. We want this business to grow faster.
Yes.
I mean, that's our main activity, and that obviously contributes towards achieving those 20% margins.
Thank you both. Maybe just turning to, you mentioned ongoing supply chain issues, I think in Critical and Precision. I just wondered if you could elaborate on that in terms of magnitude, whether it's specific product categories or any regions in focus. It seems that peers in the market have seen a better situation in supply relative to, say, six months ago.
Sorry, I sort of missed the early part of that question.
Just elaborating on the supply chains.
Yeah.
Certainly the boats are moving a lot faster around the world now, and the ports have kinda caught up. We're not necessarily seeing lead times come down across all the elements. Well, I would say, though, that in certain parts of our business, our customers have started to destock 'cause they get confident 'cause of our performance. As you know, Christian, we are moving more and more towards a local for local supply chain. We continue to look for ways to bring our products and produce them in country. I suspect we're continuing to watch it. It's still within, I'd say, elements of Hydronic, some components that we do take out of China into other parts of the world.
In Precision, there are some elements that do cross the long-term borders. It is improving, but we're not gonna declare victory just yet. We're gonna continue to maximize and focus on giving the customers the right on-time delivery, the right performance. Having said that, I suspect as we go through the year, subject to all of that, we'll look to bring some of those stock levels down and deliver, you know, an improved cash conversion for 2023.
Yeah, completely. Right. Does that cover your question?
Yeah, it's not specific, say, to commercial vehicles within Precision or particular end markets...
No, I'd say-
...more sort of a shipping issue, is that right?
Yeah. I'd say electronics are still the most-
Yeah
... affected components, right? As Dan said, that affects parts of Hydronics, parts of Precision. Outside of that, as Dan said, Transport lead times have come down, no doubt.
Yeah.
As Dan said, the boats are definitely much better, right? Transport costs have come down. In terms of supplier lead times, we are not seeing a dramatic reduction in supplier lead times yet. Some suppliers are still reporting, you know, hard to get hold of additional labor, but they are also reporting that they would like to start quoting for more new business as well, right? Which is always a sign that they think capacity is gonna get freed up, you know, in the short-term future, Christian, right? I think what we're gonna see, I'm certainly talking to one of our lead supply chain directors, he was thinking sort of end of Q2, Q3, we probably start to see the effects of shorter lead times.
He did put one proviso in, which is that China opening up, which is obviously a good thing in terms of markets, doesn't, you know, suddenly soak up a load of capacity. That's the only rider on that, Christian.
Thank you both. Third and finally, Dan, you touched on cash conversion. I just wondered what level of free cash improvement we might expect along with the margin expansion this year. I think you've had around GBP 136 million of cash out from working capital in the past 2 years, and then prior to that, an inflow of around mid-teens in terms of the million-pound mark. What would be a reasonable expectation for working capital improvements as we move through this year?
Yeah. I'm gonna shy away from giving an absolute target number. What I can say is, you know, we delivered 80% cash conversion this past year, and again, continue to put the stocks in to cover off the supply chains. I'd expect as we go through the year and based on what we see today, the cash conversion for 2023 is gonna be kind of in the 90% range. Again, we are gonna make the investments also on the CapEx side and continue to deploy capital that way as well. Yeah. I think that's probably where we want it to get to, so we make sure we're continuing to invest in the business. Yeah.
A target of cash conversion kind of, as everything normalizes at around the 90% range feels about right. That's what we're targeting right now, Christian.
Okay. Thank you.
Brilliant.
Thanks.
Thanks.
Thank you.
Thank you. The next question goes to Andrew Wilson of J.P. Morgan. Andrew, please go ahead. Your line is open.
Hi. Good morning, everyone. Thanks for taking my questions. I'll stick to two. I wanted to start on maybe a follow-up to a couple of comments you made, one in your, I guess, prepared comments and one to Andy Douglas' question. Just on Hydronic in terms of the destocking which you talked about, can you talk about where you think customers are in that and if you've seen any change? And I guess linked to that, have you seen any of the same effects in Precision? 'Cause I'm conscious that clearly that kind of moved around a little bit and maybe customers had restocked earlier in the year. Just trying to get a sense of kind of both of those dynamics, please.
Good point, Andy. I mean, Hydronic, you saw Hydronic slow significantly in the fourth quarter. That was certainly wholesaler destocking. You know, we've also had conversations with those wholesalers, and they have their own cash targets to achieve. Dan actually met personally with one of those wholesalers. We've got, you know, pretty good data on what happened. The good news, Andy, is that as we've come to January and February trading, that has clearly stopped now. I wouldn't say it's definitely all gone.
Yeah.
As far as we can tell, the vast majority of the destocking in Hydronics is done, which is obviously good news. As Dan said, you know, Phil and the team just done a tremendous job. I mean, they've kept on-time delivery-
Yeah.
Pretty much throughout COVID at around 95%, you know, always over 90%. That was partly because of what they did operationally, and you'll remember they consolidated 3 warehouses into 1, which gives us better stock profiles, better coverage, but also operationally they're doing a fantastic job. You know, very, very good. That's where we wanna be. Their Net Promoter Scores are fantastic. Customer service scores are fantastic.
Yeah.
You know, obviously that means that our wholesalers can take stock-downs and be comfortable that we'll still deliver. That's definitely what happened in Hydronics, and that definitely reduced Hydronics growth last year. I would think, Andy, a similar thing has happened in Precision. Obviously, Precision way up in IA in the first half last year, pretty flat in the second half. Because we're a component supplier, we're on the end of the supply chain, and it always happens if you look at Precision's history. On the way up, you know, we'll get better growth. On the way down, you know, remember, you know, part of what we do, particularly in IA, is through distribution.
Yeah.
They will tend to adjust stocks accordingly when they see tougher times are coming. Yeah, I think you're absolutely right in terms of what's happened there, Andy.
Thank you. In terms of Critical and just thinking about the outlook for 2023, obviously easy to provide, but again have provided very helpful comments by sort of end market last year. I'm just interested in terms of the thought processes in terms of the big end markets for Critical in terms of orders. 'Cause clearly there's very good momentum in 2023. You know, how sustainable is end of the year growth if we think about specifically orders? Obviously sales very well underpinned, but orders for Critical in 2023.
Yeah. I mean, our plan is for orders, you know, all things being equal, to be up again this year on last year. Again, you know, Jackie is winning. I mean, you could see fourth quarter super strong, right? This is why we think sort of sales up this year, high single-digit rather than the full order book, because obviously, as you know, you know, a lot of those orders will be 12 months, a bit longer, you know, fall into 2024. You know, we think Critical's in great shape. Aftermarket strength as well, Andy, you know, really coming through very strong. Part of that's on the back of the Growth Hub work that Jackie has absolutely driven and actually improved.
It's what I love about that team, is that, you know, take the concepts and actually take them forward, very, very quickly. Yeah, we actually think orders will be up this year. Clearly, you can see it's oil and gas strength. Talking to Jackie, he feels that, you know, this year will be another strong year for LNG upstream. Similar to last year, there's projects out there. We're getting high hit rates. Then what normally happens is, and I think Jackie's right in this, is that, you know, you then get downstream strength, right? That sort of follows on for the period after that. As you know, we're strong in both areas, and we feel pretty good.
There's also actually a lot of conventional power going into China as well over the next 3 or so years, and we're well placed with that because that's gonna be the most sophisticated sort of power stations where, you know, we're very competitive, as you know. Yeah, our installed base went up last year, parts went up, you know, and that I think we're doing about GBP 250 million now worth of parts business a year at, you know, at very good margins, as you know, Andy. Yeah, all in all, I think we feel good about Critical, and we feel good that, you know, orders should go up again this year.
Very clear. Thank you, guys.
Thanks, Andy. Thanks, Andy.
Thank you. The next question goes to Mark Fielding of RBC. Mark, please go ahead. Your line is open.
Yeah, morning, guys. Thanks for taking the question. Just actually first, can I just follow up on, you know, talking with Andy there about the critical outlook. I suppose, you know, I'm curious on a bigger picture. I mean, your Capital Markets there a couple of years ago, obviously, it was the lowest of the 3 growth targets you set for the divisions. You know, the world has obviously taken a significant shift since then, in terms of energy crisis, et cetera. Just thinking about how you think about the sorts of medium-term growth dynamics of that business now.
Then maybe a more specific question on that, which is if the OE orders that are coming in now and things are more about 2024, just I suppose, how do we think about the margin dynamic over the next couple of years? Because at the minute, as you said, a big part of your list of 20% margins or one part of that list is the critical aftermarket growth, but there is this period where, not a bad thing in any way, OE might accelerate ahead of the aftermarket.
Yeah, it's a good point. Yeah. Yeah. Yeah, I think, well, first of all, in terms of critical outlook, since the Capital Markets Day, yeah, it's changed quite fundamentally. I think energy security has risen to the top of the list for many, many countries. You know, and obviously, LNG, you know, as a, as a cleaner transition fuel has become a fundamental part of that, and one of our real strengths is LNG. You know, I think, yeah, you'd have to say the outlook for the medium term is good, actually. I've seen some numbers from one of our big peers projecting huge increase in LNG capacity up till 2030, and it's hard to sort of disagree with that now.
Yeah, I think if we were doing that capital markets day again, Mark, we'd probably, you know, have a slightly different view. You know, I think where Critical is great. I think, you know, beyond the medium term, Critical strategy is to really make sure that we win in the install base. That's what they've done fantastically. I mean aftermarket orders last year up 16%, as you know, Mark.
I think, you know, that's still a fundamental thing, and we drive so much of the, you know, future profits of that business from the aftermarket that if we can grow that way beyond any, you know, next oil and gas surges on new construction, then that business has got, you know, I think a fantastic future, because we think the install base will obviously be there for decades, right? That's gotta be good news. The other thing I would say is that the factories are in really good shape. You know, during Mark's time, as you know, we focused heavily on the factories. Within Critical, we consolidated the number of factories. We basically halved it, right? We went from sort of 30 to about 16, I think it was.
The 16 we put it in were the better factories. Obviously, they were more operationally efficient, they're better at continuous improvement, they're more customer-focused. You know, as we drop new construction business in there, it will flow through to the bottom line. I don't see a massive dilutive effect from that, actually. What I do see is an accretive effect from the increase in aftermarket, you know? Plus, as you know, we talked about this year's GBP 20 million worth of rationalization benefits. Actually, remember that in total, we've got about GBP 42 million to come, as Dan said when he presented his chart, and a big chunk of that second GBP 22 million is gonna come in Critical.
You know, and we see that really starting to kick in next year, you know, to really underpin their margin performance as well into the future. No, I think we feel good about Critical, and we feel good about a 20% plus margin target in Critical, you know, through that medium term. Yeah, I think it's in a good place.
Great. Thanks. Actually, can I just ask a sort of slightly related follow-on in terms of the wider restructuring plan? I mean, it feels like, you know, you snuck out another roughly, you know, adding in the 2022 and the other years, about another GBP 5 million of extra benefits from the plan in the announcement today. I suppose, do you feel like once you get to the end of this, you know, 2024, a little bit in 2025, Always, there's obviously continuous improvement. Will that be, you know, largely it when we're thinking about though restructuring benefits and also restructuring costs?
Yeah. I think, you know, as you know, we set out a plan, you know, and we've increased the margin targets, and we increased the spend a bit on that plan. Fundamentally, it was the plan we set out back in 2019, and that will dramatically reduce the complexity of the business. As I said, in terms of the number of sites, right? Putting it into our best sites does so much more than deliver those benefits in the P&L. It massively reduces our complexity. You know, I can remember a chart back in, I think it was 2013, showing our supply chains, and, you know, much of that is being consolidated. That big German plant that we just consolidated into Brno was a huge part of that supply chain complexity.
You know, so it's much more than about those short-term benefits. It's about the long-term growth and success of this business. We will As Dan said, we will always look for opportunity. I don't think, you know, there'll be up, you know, we'll be spending the sort of money that we've been spending per year. You know, could we spend, you know, something like, I don't know, GBP 15 million, Mark, on a project that would, again, give us more benefits? Of course, we could do that, and we wouldn't walk past it because, again, we wanna grow faster, right? We wanna keep taking the complexity out of the business. Largely, this particular program will be done, yeah.
I'd just say, you know, as we go forward, M&A sometimes gives rise to further moves as well.
Yeah.
I mean, in the Adaptas case, we acquired a wonderful business and a wonderful campus, and we've actually been able to move some of our activity into Palmer, Massachusetts, and that's gone really, really well. That's the other caveat I'd say, Mark, as we bring further bolt-ons into the family, that could be another option.
Yeah, if they're multiple site. I mean
Yeah.
You know, the ones that are single site, obviously-
Yeah.
We're buying them for their tech and for their growth. You know, Heatmiser, we absolutely wanna build on-
Oh, yeah.
That site and invest in it.
Oh, yeah.
It's just fantastic in terms of smart building. Yeah, multiple site, those sort of complex acquisitions, we'd certainly look at the opportunity, yeah.
Great. Thank you very much.
Thank you.
Thanks, Mark.
Thank you. The next question goes to Jonathan Hurn of Barclays. Jonathan, please go ahead. Your line is open.
Hey, guys. Good morning. I have three questions, please. Just one on Industrial Automation and two on Critical. Firstly, just on Industrial Automation, can you just talk about the 40% of sales that are taken from aftermarket and essentially how that aftermarket trades through the cycle? Is there a lot more resilient for you versus the OE? That was essentially.
No, Jonathan, absolutely it is. You know, it's higher margin, and it's definitely more resilient, right? You definitely, you know, find that our people, you know, are obviously keeping their own kit running. They're not necessarily involving, investing in new production lines. You know, generally, unless it's a super severe recession, I can only think of one of those, they continue to buy all the spare parts, absolutely. That 40%, you know, is part of the reason that we think that Precision would be a, you know, more resilient business this time.
Yep. That's very clear. The same question is just on Critical. Just coming back to the margin there. I think if you look at the chart that you put up on slide 8, obviously you've got about a GBP 15 million of savings to come through from that over the next few years. If you kind of put that into Critical, it would kind of imply a margin of around about sort of 21%. I know your target is 20, but I think the ultimate question is that, you know, basically, you know, can Critical be a 21%, 22% margin business over time? Is that what you feel can be achieved?
I mean, Jackie is now listening. He's probably gonna kill me, Jonathan. I mean, you know, you. It spends on the cycle as well, right? You need a bit of help from the markets. We're not putting a lid on margins, as I've said on previous calls, right? As aftermarket strength continues, as it delivers the complexity reduction, you know, of course, you know. If the markets are good, of course, you know, margins can go up +20%. There's no doubt. As I said, we will continue to invest in the business for growth.
Yeah.
I don't want anybody to think, you know, that we're not gonna be doing that. We're certainly gonna be doing that. You know, that will obviously constrain margins in the short term slightly, but can we do 21%-22%? You certainly couldn't rule it out, Jonathan?
Basically, Critical Engineering is a 20% margin, a 20%+ margin sort of business rather than the sort of, I suppose, the 20% target that you have out there, really?
Precisely. I think we've already said that, Jonathan, actually. I think 20% plus, yeah.
Yeah.
Thirdly, just a final one. Just coming on or just carrying on with critical. I just wondered if you could talk about sort of nuclear. Obviously, there's a lot of refurbishment activity out there. If we look at your orders in FY 2022, they were sort of +1. Can we see a sort of a step up in terms of that activity coming through? Just can you talk about the dynamics of sort of nuclear aftermarket? Is that really sort of high margin for you? Is that maybe your highest margin segment or is that not the case?
Yeah, I mean, it's high margin. I mean, when we do an upgrade valve in nuclear, which is obviously aftermarket, that's good margin. The parts are very good margin, obviously. The issue on nuclear is always new construction because everybody knows that the aftermarket part stream is good and, you know, you need it to be good because the new construction margins are, you know, it's competitive, I would say, Jonathan. On the aftermarket side, it's good. Yeah, we do see some potential for nuclear. Timing is always tricky on nuclear 'cause these projects always take longer, whether they're upgrades or new construction, as you know, right? Anybody that follows, well, any of the big projects, knows that, you know, it can take longer.
You know, the U.S., for instance, is, you know, prolonging the life of its nuclear power stations. I think we'll see more and more of that. I think France is obviously dedicated to nuclear and is at the moment, you know, talking within the EU about making sure that nuclear is counted as a green fuel. You know, they made some progress on that. They're still obviously talking with Germany, you know, about that. I think so for us, yeah, we see nuclear upgrades as profitable. We see the parts as very profitable, and we do, yes, see some good opportunity there.
Great, guys. That's very clear. Thank you very much.
Great. Thanks, Jonathan.
Thank you. As a reminder, if you would like to ask a question, please press star followed by one on your telephone keypads. Our next question goes to Aurelio Calderin of Morgan Stanley. Aurelio, please go ahead. Your line is open.
Hi, good morning. Thanks for taking my questions. I've got two. The first one is on Hydronic. Historically, if we look at the division, it's been more, and correct me if I'm wrong, but it's been more of a balance between growth and margins. I think now for the first time in several years, we can talk about renovation, we can talk about a structural or a secular, kind of uptake in that business. How do you think about the margin profile going forward? Is it a matter of growth versus margins or can you get both in this cycle?
Yeah, I mean, I think, you know, Hydronic, I think since 2019 has grown about 5%, I think, you know, Phil and the team doing a fantastic job. I also think Aurelio, externally, energy savings definitely come up the agenda, right? For lots of reasons. One is it's got a lot more expensive, energy. Secondly, because of commitments, carbon commitments by big companies, by governments, right? I think to me it's in a really good place versus where it was three years ago. As we look forward, I think energy carbon saving is gonna stay fundamentally important. As I said in the presentation, you know, the German government is doing, you know, faster legislation around energy saving, for instance.
I think, you know, 80%-90% of that business is Europe as well. The business, the culture in the business is fantastic. It's actually got our highest employee engagement scores in the group, you know, which is great. What we do costs the customer about 2% or 3% of the cost of their HVAC system, but it can save them a third of the energy costs, right? 'Cause we help them design the system. We help them actually sometimes reduce the number of pumps in the system. We certainly help them, you know, with the way that the whole system is balanced and require less pumping costs. Yeah, I, you know, I feel like that business is in a good place.
As we said at the Capital Markets Day, you know, we expect sort of 5% growth, you know, long-term, plus, and we expect 20% margins. That was before we acquired Heatmiser, which gives us another 100 basis points.
Yeah.
Again, I'm not trying to constrain the margins. They'll go 20% plus, we are committed to fully investing in that business, again, to help it grow faster, earlier. Yeah, yeah. I think it's in a good place, that business. The outlook, you know, is healthy. I think mid-single digit growth again this year, margin improvement again this year. Yeah, we feel good.
No, that's super helpful. The second question, I'm sorry to labor the point on Critical margins, but I think it's one of the key highlights in my view. I guess if we go back to 2021 in your capital markets, you were talking about kind of 20%-30% of the Critical business that didn't have margins that were attractive to you. I guess the question is more on kind of M&A strategy going forward, especially for Critical. Can we, one is do we see any obvious parts of the portfolio that need to be taken care of? Second part would be, can we find a Heatmiser for Critical?
Oh, what a brilliant question, Aurelio. That is brilliant. You know what? It's almost like you were listening to a conversation with Jackie in one of our business meetings, because, you know, we would obviously... Aftermarket's going great, right? If we could even take it to the next level, it will probably be via instrumentation, digital, you know, exactly as you say, right? The Heatmiser equivalent. We would love an acquisition like that to accelerate our progress in Critical aftermarket. Yeah, fantastic.
As we think about Critical, the 30% that we had under review, I think, you know, I mean, the margins are barely diluted now on that 30%, and that's a testament to those teams and to Jackie, because, you know, what they had to do was absolutely flip to get much more aftermarket business, and they've done that. I've visited, you know, both of the major parts of that business in the last six months, the teams are great, right? They're focused on refurb, they're focused on driving upgrade valve, just like we've done in the rest of Critical. I'm really excited about the prospects for that part of the business. Acquisitions, as you say, would tend to be more instrumentation and certainly more at driving aftermarket for the long term, that sort of growth.
That's very helpful. Thank you.
Thank you.
Thank you. Our final question goes to Mark Davies Jones of Stifel. Mark, please go ahead. Your line is open.
Thank you very much. Morning, both. Couple if I may, both on Precision, on some of the moving parts there. Firstly, on CV, what's the view for 2023? Obviously, China was very weak last year. Should be reopening, getting better, but conversely, supply chain's still very tight. Western cyclical market's a bit weaker. How does that balance out, do you think, this year?
Mark, I think you've just described it perfectly. It's exactly how we see it. You know, we should get a rebound from China. Western markets, you know, we think, well, let's say flat to slightly down, you know, is where we've got it. We've got the whole thing at flat to slightly down within our 111 P. You know, let's hope that things improve from there. You know, that's exactly how we've called it.
Okay, great. The other bit was life sciences, about which you are sounding quite excited. Clearly Adaptas is going very well. Can that become a much more material bit of the division? If so, they're fairly niche businesses. Do you need to enter more niches? Is that a big focus of M&A?
I mean, certainly we can grow this life sciences further. There's some good opportunities. Beth, you know, Martin and the team, they're doing a cracking job. I think the talent in that team and the opportunities they're opening up. Beth told me about another couple of contracts that we won by the Adaptas team. just literally the other day, Mark. I feel really good about life sciences. The funnel's good in terms of opportunity. you know, we're trying to do more of what we did with Heatmiser. you know, we did it with Core Solutions. I know it's a lot smaller. yes, they tend to be quite niche. Technically very, very capable.
What we look for is obviously acquisitions that have already established good product market fit. We obviously check with the customers. We know, you know, most of those customers pretty well now that it's a technology or a product that's really, you know, gonna get some traction. It does take a bit of time. It is a very selective process, you know, the funnel has got some interesting opportunities in it, yeah.
Presumably that part of the precision portfolio should be still growing nicely in 2023.
Absolutely.
given the
Absolutely. Yeah. Yeah. Yeah.
We're past all the valve surge stuff now, aren't we? That falls out of the cons.
Yeah. Yeah.
That side of it.
Yeah, as you saw in underlying, you know, that grew about 10% last year and yeah, we're past all the, all the ventilator valve stuff. Well, having said that, we've actually had an order in January to support China on ventilators, quite a large one. Yeah, I mean, but in terms of the real noise, you know, the big stuff, I think we're past it, yeah.
Yep.
Great. Thanks so much.
Great. Thanks a lot.
Thanks, Mark.
Thank you. We have no further questions. I'll hand back to Roy for any closing remarks.
Well, brilliant. I think, you know, from my perspective, it's a good solid set of results. The strategy that we announced back in 2019 is clearly working really well. Customer satisfaction is high, employee engagement is high. You know, we've added, as I said, almost GBP 100 million to profit since 2019. I think we've got great momentum in this business. Actually, you know, as we sit here today, you know, we feel reasonably optimistic about this year. Thanks for joining us, everybody, and, all the best. Thank you.