Good morning, and welcome to the twenty-second annual CL King Best Ideas Conference. I am Tom Hayes, Senior Industrial Analyst here at CL King. We're very pleased to have the management team at Donaldson with us today for a fireside chat. Representing the company, we have Scott Robinson, CFO. Good morning, and again, thanks for joining us.
For those of you in the audience online, we will if you wish to ask a question, you can type that question into the Ask a Question box at the bottom of your webcast screen. These questions will be sent to me, and I'll work to integrate them into the discussion this morning. So with that, again, Scott, appreciate you participating today.
I know you have a slide presentation, so we can jump into that.
Yeah, thanks, Tom. Good morning, everyone. I have about 10 introductory slides to Donaldson, so I'll run through those, and then we can move to the Q&A. So starting with slide one, you know, in terms of Donaldson, there's always five things we think are important to remember. And so I'll run through those quick.
One is, you know, Donaldson's been around over 100 years. We are a leader in filtration. We are a technology-led filtration company, and we want to sell solutions that are built on our technology of filtration. We believe we have best-in-class technology, so we've been developing some of these technologies for decades and decades, and we work every day to add to our core science of filtration, which is really the lifeblood of the company.
You know, we have 2,800 active patents, and we work to create and protect new technology every day. We believe we are an enabler of the new green modern economy, really by helping our customers achieve their goals through advanced filtration.
We believe we have a clear strategic and balanced growth strategy, and so we have two very strong businesses that have been around for decades and decades, and a new Life Sciences business that is penetrating some new markets for us. Lastly, you know, we are making progress on our Life Sciences business. You know, our engine business has been around since day one of the company. We now call that Mobile Solutions.
Our industrial business has been around since the '70s, and now the next move is really into Life Sciences, and I'll explain that a bit later as we move into the presentation. A little bit of history on Donaldson. Like I said, you know, we were founded in 1915, over 100 years ago. 14,000 employees, 140 locations, nearly 2,800 active patents. Y
ou know, a long-term dividend CAGR of 12%. We've been paying a dividend for over 65 years, and increasing that dividend for over 25 years. So Donaldson is a member of the S&P High Yield Dividend Aristocrats fund. You know, and that's a record that we're obviously proud of and something I wanna, you know, make sure we keep going. If you look at our businesses, you can see we're split 62% Mobile Solutions, 30% Industrial, and 8% Life Sciences.
You know, our model is really razors to sell razor blades, and we are 66% replacement products and 34% first-fit products. You can see our revenues have grown from $2.8 billion in 2021 to almost $3.6 billion in FY 2024. I'll remind you, our year-end is July 31, so we are just now embarking on FY 2025. We'll get to the guidance here in a moment.
You can see earnings per share adjusted $2.32 in 2021, all the way up to $3.42 in FY 2024. So a nice four-year run for the company, with strong revenue growth and also strong earnings per share growth. And I'll show you the operating margin growth here in a bit, but you know, the financials have, I think, trended nicely for Donaldson Company.
If you think about Donaldson, you know, and our worldwide organization, you know, we're very blessed to be around, you know, over 100 years, and blessed to have a global business, you know, with global footprint, global distribution, global manufacturing. You know, we generally produce in region to support region.
And, you know, that's been built up over 100 years, so we really have a good ability to leverage, you know, our footprint. As revenues grow, we really don't need to add any subsidiaries or any shipping channels or any production facilities, so we're blessed to be in good shape there. If you think about our markets, you know, you can see we span, you know, a large, diverse set of markets, but the biggest would be construction.
You know, next is on-road truck, industrial air, mining, agriculture, you know, and then on down the line. So we span many different markets, which serves to really stabilize and diversify the company. A little more on financial highlights, including this year's guidance. So again, we're projecting record levels of sales and record levels of profits after records the last several years. You can see, you know, revenue at the midpoint is expected to grow 4%, you know, into the $3.7 billion range.
You know, operating margin is something that we've really been focused on, and we always say we're committed to higher levels of profitability on higher sales. So that means, you know, we have to march that operating margin percent up as our revenues grow.
And you can see we've had a nice run over the last few years, and we expect to continue to increase the operating margin again this year after strong growth last year, and we'll get to our longer term targets, but we expect to continue to do that the following year. And that brings you to EPS growth. You can see good EPS growth over the last three years, and, you know, we expect continued EPS growth again this year on higher sales.
A little more on Donaldson, and you think about really our attributes. You know, as I said, we've been around for 100 years, and Frank Donaldson, you know, invented the first air filter for a tractor. He worked for Bull Tractor Company, believe it or not, 100 years ago.
And his tractors kept dying, so he basically formed an air filter to stop the field dust from going into the engine. And that was really the introduction or the birth of Donaldson Company. We are expanding, as I said, into opportunities in life sciences.
You know, as the world becomes, you know, more green and, you know, we're all worried about how we treat the planet, filtration is just really a super place to be for that. Because we can help, you know, remove harmful products, we can help equipment run more efficiently, we can help equipment, you know, use less energy. So filtration really plays right into the heart of that. You know, aftermarket is always a very strong attribute of Donaldson.
We wanna sell first-fit systems to capture the aftermarket, and like I said, two-thirds of our business is really replacement parts. So, you know, we've been around a very long time, and we have the confidence of our customers that they know our products and have a very strong brand reputation. So that aftermarket really supports, you know, the Donaldson financial model, and as we slowly gain market share, it just slowly drives the company up.
In terms of customer relationships, you know, we've had some of our OE customers for 75 years, and we are willing to work with them every day to help determine what sort of problem they're trying to solve. We wanna bring our solutions to them really long before it gets to some sort of procurement situation.
We wanna help them develop their new lines and make sure that our filtration solutions, you know, are ready to serve them, so when it does get to the big time, we have a strong leg, you know, in being awarded that business. As I said, we're very diversified. We're blessed to have, you know, a very global footprint and a very broad geographic reach and customer presence, and lastly, you know, we have over 50 manufacturing facilities. You know, many have been around for a long time.
They really are spectacular at building filters and making sure we're building the best and lowest cost filter that's possible, you know, to help maximize our pricing to our customers, and that's the long history of Donaldson in cost improvement activities.
If you think about our portfolio, just maybe a few points about each. You know, we have Mobile Solutions, and, you know, we wanna continue to improve the efficiency of the equipment and make it run more cleanly, more efficiently, generate more power, utilize, you know, less resources on the input side.
And we have great opportunities, continue to have opportunities in construction, agriculture, and mining, you know, as the world kind of continues to grow up, especially in places like maybe China and India. Industrial Solutions, you know, we're really focusing there on connecting our products. So we wanna make sure that we can help our customers and their factories with Connected Solutions, such that we can help them maintain that equipment and make sure it's running at its optimal point.
We can help them, you know, ensure they're managing energy consumption to help them with their footprint reduction ideas. And there's just always a strive or a drive to, you know, improve efficiency, reduce cost, and our filtration solutions can help that.
And finally, in the life sciences, you know, there is a great opportunity for Donaldson to bring some of our filtration expertise into this, and we're not really looking to compete with existing processes. We're looking to leverage filtration into many of these processes, where we think we can improve yields, improve productivity, and help our customers really manage their cost and improve their production output.
In terms of, you know, we sell some filters into cloud storage facilities, and, you know, that's just ever-growing in terms of microelectronics and disk drives. Life Sciences is a bit more on, so you can see listed here, there's a $21 billion market, and those are the acquisitions that we've completed to help, you know, increase essentially our technology that we have to offer, and you know, we've invested, you know, about $370 million into this business to help drive it forward. We feel like we're sitting in a good position with good technologies. You know, there is a time period to ramp those businesses...
But we feel like we really have some good technologies that we can leverage, and we have some existing products that we brought into that portfolio, and then some new products that we've acquired, which has really given us a great opportunity long-term for the company to really increase our TAM and provide technology filtration solutions into this Life Sciences sector, so we feel pretty good about that.
We wanna leverage, you know, the science that we have and continue to add to it, so we really don't look or think about what product we want to sell. We look at what core science or what filtration technology are we really good at, and then we think about, you know, where can that help?
And so we just gotta continue to slowly expand our near adjacencies into our near adjacencies and really capture those sales. If you think about capital deployment, you know, we've invested or deployed about $1.4 billion over the last three years, and you can see the makeup of that investment, so it's pretty well-balanced. Y
ou know, Donaldson is a very strong cash generator, so we're kind of lucky to have that, and we're able to, you know, buy back shares, pay dividends, while investing in the company. You know, we think we can easily manage our CapEx to be approximately 3% of sales, even with the adding of life sciences. So there's plenty of cash.
We've been able to buy back 2% of our shares over the last several years, and you might have noted this year's guidance is actually 2%-3%. Our net debt-to-EBITDA ratio currently sits at 0.5, so it's been slowly trending down, even after some of the recent acquisitions. So we have had to recognize that and increase the share buyback from 2% target the last several years to 2%-3% this fiscal year. A little more on the balance sheet.
You know, our general net debt-to-EBITDA ratio, you know, we generally say our target is 1. Right now, we're at 0.5, you know, so we've made some acquisitions, and still the debt has driven down due to, you know, profit growth as well as strong cash conversion. You can see 85% is our long-term average of cash conversion.
We've been above that the last few years, with strong working capital management and just, you know, good performance on behalf of the company. We do have quite a bit of liquidity available if the right larger acquisition, you know, really were to come along, you know, we would certainly consider that, and we certainly have the balance sheet strength, to be able to, you know, take a run at something big if it was the right fit for Donaldson. Here's our long-term targets.
This is my last slide. So we did modify these a little bit with our last year-end. You know, the biggest reason was, you could see our mobile solutions and industrial solutions were significantly ahead of their '26 operating margin targets.
So we brought those up to kinda recognize the strong progress that we've made. We expect those operating margin targets to continue to ramp up, albeit at a little slower rate after the really strong growth the last couple of years. You can see we kept the sales flat for Mobile Solutions and Industrial, so two to six for Mobile, or four for midpoint, and four to eight for Industrial, or six for the midpoint.
Life Sciences, we still feel like we have really good growth opportunities there. And that profitability story is really a scaling story. So as the revenues grow, you know, the operating margin will increase. We did buy two pre-revenue companies. You know, so obviously they have no profit, just expense, but as their revenues, you know, start to kick in, that operating margin will come.
And so we backed those off a little bit, but still feel, you know, really good about our life sciences investment. And personally, I think, you know, 10 years from now, that will be a very strong return for the capital that we've put into it, because we have pretty good growth prospects.
We're involved in over 140 drug trials or drug, you know, activities, so we feel like that's good base that we're building. And those obviously can take a long time to ramp, but we need to continue to increase that every day, because as those products, you know, some percentage of them come to light, you know, that's strong revenue growth for Donaldson. So we are investing in life sciences now.
You know, we said it's gonna be a, you know, just about a break even for the year, and as revenues scale and that profit will come into play. So, you know, last few years, we've generated record levels of sales and record levels of profit, you know, while investing in life sciences.
So certainly, our profit could be higher if we weren't investing anything in life sciences, but it's just such a natural adjacency for Donaldson, you know, that I feel it's important to continue to capitalize on those adjacencies and bring our technology to market, even if it takes a little bit. And I feel especially good about that while we're still, you know, generating record levels of profits. So that's my dog and pony show.
Hopefully that gives you a little bit of background, you know, on Donaldson. You know, and at this point, we'd be glad to take a few questions from the group.
Scott, that was a great overview. I appreciate it. Just wanted to go back to one of your earlier or first comments that, you know, you say you're a technology-led filtration company. You know, how does that allow you to kinda win in the marketplace, and what does it mean for your customer base?
... Yeah, I mean, that's, you know, I would say that's really the lifeblood of our company, is our technology. And you know, if you walk around here, you get a chance to go through our labs, I think you'll quickly pick up on, you know, the number of amazing people we have that are really, you know, either in an existing businesses like Mobile Solutions, where they're making sure they're meeting with our big OEs to understand, you know, what solution they need, or generating new breakthrough research and development ideas.
So we wanna make sure that when a customer comes to us with a filtration solution or a filtration problem, that we have we have a solution for them. And if we don't, we certainly think about, could we develop that? And so I really think that's critical to the company.
I think it ensures our long-term success. We look to protect that. As I said, we have, you know, almost 2,800 active patents around the world, you know, so I think that's evidence of the amount of technology the company has under its umbrella, and we're really the only global diversified technology-led filtration company in the world, so we have many strong competitors that we'll compete with in an individual business line.
B ut we don't often compete with the same competitor across three different lines, for example, and Donaldson, I think, gets the benefit of often learning something in one business that we can leverage in another business.
You know, for example, the technology in our disk drive business will really be the technology that we deploy if someone is interested in building a hydrogen fuel cell for a heavy-duty, you know, piece of equipment.
And so we get this ability to leverage our technology across our lines, and, and we wanna have that technology ready, so when customers come to us, you know, we have the solution waiting for them.
That was great. I think along those roughly same lines, I think one of your pillars was, you know, as you know, supporting the movement towards more sustainable solutions, kind of the greener view. Could you just remind me how you guys win along that vertical as well?
Yeah, maybe I'll let Sarika start with that one. She's actually the leader of our ESG group, along with investor relations. She's doing a great job, so maybe I'll let her start there.
Sure. So, you know, just inherently, our mission as a company is advancing filtration for a cleaner world, being a diversified filtration company. It is just part of the ethos of, you know, everything we do, our products, and how we operate. When we did our Investor Day in fiscal 2023, we laid out some 2030 ESG ambitions.
One was, you know, to reduce Scope 1 and Scope 2 greenhouse gas emissions by 42%, and we are well on our way to doing that. We also, from an S point of view, with the social piece, have goals of increasing the number of women in leadership positions, promoting health and safety, and then also charitable giving through just consolidated giving from a Donaldson Company point of view, and through our foundation.
And then, I think, you know, we have various different product examples of how we try and enter into the market from a sustainable, point of view. We have an alternative power program within our mobile solutions business, where we think about fuel cell technology. In our life sciences business, we think about, you know, battery electric venting for those types of vehicles.
And obviously within, you know, cell and gene therapy and drug development, there's just, you know, filtration for a thriving and cleaner world inherent in those products and services as well. So, you know, it is definitely a part of Donaldson, and it's part of everything that we do.
No, I appreciate that. It's helpful. Maybe, Scott, maybe provide a little bit more color on your most recent acquisition. You took a 49% stake in Medica. Maybe you could add some additional color on how that fits into the broader life science business.
Yeah, so, you know, we've known Medica for several years now, gotten to know, the family who owns it very well, the leadership team very well. We've been collaborating with them on certain-
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... technologies. In fact, in December of last year, we signed a joint development agreement. So we became attracted to Medica because of some of their very strong technologies, that they have. And the biggest one would be these hollow fiber membranes. So we have a materials research center that we've put up just to the north of the building I'm sitting in here, that you might have seen, and that's been really working on our membrane technologies.
And Medica is really good at some of these membrane technologies, and especially hollow fiber membranes. They have some technologies for dialysis that are very impressive, and we've been working with them on some joint development agreements, and have always been very impressed, with them. So we recently acquired a 49% stake in that company.
You know, their management team is very motivated and driven to continue to succeed. And we're excited about them, and we want them to be very successful. So we bought 49%. We have an option to purchase the remaining 51% in about four years, based on a predetermined, you know, EBITDA calculation.
So we wish them well. We currently own the 49% stake, and are very excited about some of the technologies that brings into Donaldson. When we look at some of our strengths, and we look at some of their strengths, you know, we're pretty excited at what that can bring in the future for our Life Sciences segment.
Maybe building on that a little bit, in your slide deck, you mentioned that in the life sciences business, you have some revenue-generating companies, you got some pre-revenue generating, you know, companies.
I guess a two-part question. One, your strategy going forward, you know, if you decide to add more companies to the life science business, doesn't sound like you have a preference whether it's revenue generating or pre-revenue. But secondly, is there the ability, like, I'm assuming you can in your other segments, where you have technology sharing across the businesses that you've put into the life science businesses?
Yeah, so, you know, when we sat back and we did a bit of a redesign for the company, probably two years ago now, whereby we wanted to really create this third segment, and we wanted to go public with it, to both give our investors information about it, and, you know, really push the company further in this direction.
So what we did is we sat back and looked at, you know, what pieces of our business do we already have that we think could play? And one thing we came up with is we have a lot of membrane-based businesses, okay? And these membranes, and these technologies, some we just talked about with Medica, are really important to the life sciences business. So we took all the membrane-based activities, and we put them in life sciences.
And we had a lot of organic things going on. We had, you know, ostomy bags that we sell filters into. We have disk drives that are membrane-based technologies. We have a lot of different venting applications. Sarika mentioned, you know, the new battery electric vehicles have a lot of venting requirements for the batteries or the transmissions.
We have a food and beverage business, which sells membrane-based filtration products into food and beverage. So we had a lot of different businesses that were already strong in those technologies, and we took all those out of industrial, they were sitting in industrial, we moved them over into life sciences to give life sciences a core, and now they're building on that through acquisition, you know, and through organic development. And I think it did two things.
It really gave the Life Sciences business unit a start with, say, $240 million of revenues, but I think it also helped our industrial business, because you took some of these small pieces, and you moved them out, so they could kind of focus more on their, their true core industrial applications, and so to me, it was kind of a win-win.
I think industrial has done better as a result, and you can see their strong performance, and we created this third seg with some really good technologies, and that's kind of how the sharing kind of happens here. Like I said, we'll still share across. Even the disk drive filtration will be what will be used in advanced power for hydrogen fuel cells, so there's still all sorts of sharing.
No, that, that was great. Maybe shifting gears a little bit to the industrial products side. I think you mentioned that some of your technology is allowing you to connect the products together in a digital nature. Maybe expand on that a little bit, and how that is a value helper for the clients, customers.
Sure. So we've been working on this for the last several years, and at this point, you know, if we have a dust collector that is connected, and any sort of dust collector you might think of in a factory, in an organization, we really have a very strong ability to understand how that dust collector is operating, and help the operator with just knowledge they could never have owning one or a handful of dust collectors,
versus a company that's been selling them for 60 years and has hundreds of thousands of them out in the field. So we've accumulated that knowledge over a long time, and now really what we're doing is when we sell new dust collection equipment, it is sent out into the world with embedded technology.
So you can think of it as like when you get your car, and it comes, you know, ready with OnStar, right? And it's already on, you get three months free. You know, we're kind of doing a similar thing with our equipment, which is just to send it out with a module, so when it gets turned on, unless a customer says they don't want it, okay, it will automatically start feeding information back.
So we give the opt-out option to the customer, but at this point, our customers are generally choosing to leave that in, and then we get a chance to work with the customer, and they get to see, you know, how that works. And what we find is the customers generally are pleased by it, and want the rest of their equipment connected.
So it starts to kind of grow on itself, either our equipment or other people's equipment, and we just think that's a really good strategy for the company, because we end up with more revenue when we get Connected Solutions.
Okay, that makes sense. Maybe going back to your legacy, the Mobile Solutions business. You know, I think as you reported Q4, you talked about maybe some headwinds from the slow sales of new vehicles, which probably impact your First-fit business. Just, could you remind me what you communicated in regards to, you know, that level of activity and your expectations for this year and your guidance?
Yeah, sure. So you can see our guidance, you know, as on-road down low double digits, and off-road up just low single digits. And so we see some headwinds in some of the first-fit production, but again, remember, we want to sell proprietary solutions. So every time another piece of equipment comes off a line. That's future sales for Donaldson.
And the aftermarket of service parts are what really drive that business, 'cause that's a significant portion of the total business. And in first-fit, if it goes up or down, you know, that's gonna happen, right? The Deeres, the Cats, the AGCOs, they're gonna cycle as they go. But as we're selling proprietary solutions, we're always planting new seeds. So maybe it's less than last year, but the total is still going up because of new seeds being planted.
We try to work to forecast the first fit piece of our business the best we can and give you that guidance. You can probably correlate that guidance with some of the really big customers, you know, the names of which you all know. It's really the aftermarket that we're trying to drive.
Okay, that makes sense. Maybe kind of staying on the outlook for a moment, certainly the last couple years, great performance on the op margin performance, and what are some of the drivers of that that continued, you know, top performance baked into the outlook?
Yeah, I mean, like I said, you know, we were blessed with a very strong company, and, you know, we've been around quite a long. So there's many things that help us drive the operating margin up and give us confidence that we can do so. You know, one is, we gotta leverage the company, right? We can't grow our expenses as fast as we grow our revenues.
We don't need, you know, new subsidiaries and many new things to grow revenues, so that can give you leverage, right? We want to invest in higher-than-average margin opportunities, one of which is life sciences, okay? And so as the higher-margin businesses grow faster, we can mix the company up. So we're really focused on only putting capital or any significant amount of capital in higher-than-average margin opportunities, okay?
And we feel like that gives us the opportunity to leverage the company up. And now that kinda, you know, COVID has died down and supply chain things are dying down, we can get back to our traditional roots of cost reduction. So we need to invest in cost reduction activities to make the company more efficient and reduce our cost structure to help our gross margin. In the fourth quarter, we announced some charges associated with our footprint and cost optimization program, and we need to kinda continue to push back to that.
And so, you know, the world is slowly coming back to normal. There's still a few supply chain problems but, you know, we feel like now is the time to really pivot back to our historical activities of cost reduction versus supply chain, and COVID this, and, you know, shortage that.
And that'll give us an opportunity to drive the operating margin up.
Okay, no, that's fantastic. Maybe just to kind of wrap it up, I know you had a pretty extensive slide on your capital allocation strategy, but maybe just on the organic part of that, 'cause I think that was about a third of what you were looking at. You know, how do you think about, you know, spending internally as far as... 'Cause, you know, cash is certainly not a constraint for you guys.
Yeah, I mean, we're... You know, I'm always very interested in capital deployment. It's kind of one of my favorite things to talk about, and our strategy, one, is invest in the company, right? Either organically, inorganically. Two, pay dividends. Three, buy back shares, right? So the share buyback is what can be variable to help manage your debt levels.
We want to invest, you know, monies where we can get a good return, and we have a lot of projects where we can, you know, kind of easily see the returns, and that's a strong driver for the company. We gotta be smart about the total invested capital we have in the company, and we think about that a lot.
If you look over, you know, the last several years, it's gone up but, you know, not that significantly because we're paying dividends and buy back shares, you know, almost equal to our profit. And so we want to invest monies, but we think we can live with, you know, approximately 3% of sales, and that really funds the needs of the companies.
And so, you know, when you're generating 20% return on invested capital, you just gotta be smart about where you invest. But as we keep the wheel, you know, kind of spinning with... You know, you're gonna have slow returns in the beginning, and then they ramp over time. You know, that's really how the company operates, and we wanna be smart about our invested capital, and continue to invest, but do it smartly.
Hey, I appreciate it. I could talk to you guys all day, but our time here is up. But it's great to learn about a very fascinating story. So thank you again for participating, and hopefully have a good rest of the day.
Thank you very much, everyone. I appreciate your interest.
Thank you.