Rotork plc: Quality company, encouraging momentum

Rotork is a market-leading global provider of mission-critical flow control and instrumentation solutions for Oil & Gas, Water and Wastewater, Power, Chemical process and Industrial applications. Its shares have a premium listing on the London Stock Exchange (symbol: ROR), have a market cap of £2.1bn and are a constituent of the FTSE 250 index.

We were delighted to welcome new CEO Kiet Huynh and Andrew Carter, Director of Investor Relations, to the latest Yellowstone Advisory webinar to provide an update on the first half performance and the groups priorities going forward. A recording of the webinar is available here.

The presentation began with an introduction to new CEO, Kiet Huynh (pronounced Gig Win). Originally from Vietnam, Kiet has been in the UK for many years and joined Rotork 4 years ago. He has led both the Chemical, Process & Industrial division and the Water & Power division before being appointed as CEO in January of 2022. Kiet is a mechanical engineer and has spent his whole career within the flow control industry.

By way of a brief history, the company was founded in 1957 at the dawn of the industrial automation revolution. Prior to this point valves had been operated by hand but the electronic actuator invented by Rotork helped to change that and electronic actuators remain core to the Rotork offering now. Very early on its history the company expanded internationally and overseas growth and sales are extremely important to the company.

The origins of the business are in the Oil & Gas segment but the over the years the company has expanded into Water and Waste Water, Power, Chemical and Industrial markets. Rotork products provide automation and control that improve operational efficiency and reduce the environmental impact of facilities. The products are able to operate in harsh environments including withstanding extreme temperatures, often have triple redundancy so that if things go wrong there are two potential safety nets and may have battery back-ups.

Rotork operates in four different product segments: Electrical Actuators, Pneumatic and Hydraulic Actuators, Gearboxes and Instrumentation. The origins of Rotork are Electric Actuators and they are the leading player in quite a concentrated market with a c20% market share. The Pneumatic and Hydraulic Actuator industry is less concentrated and as the name suggests the power to open or close valves is provided by fluid power. The Instrumentation sector is closely related to the actuator businesses and includes products like precision valves, position indicators and controllers. Some of the Instrumentation sales are internally to the company’s own actuator businesses. Finally, the Gearbox business has an extensive range of valve gearboxes and they are the Global No.1 with player with a c20% market share.

Rotork products are used in demanding applications that are critical to operations. The cost of failure is very high, sometimes plant downtime can cost hundreds of thousands of dollars for every hour of downtime and so it’s imperative to have reliable products. Products may look straight forward but they need to be certified to industry and national standards. Many larger customers have their own certification requirements as well. This creates quite a useful barrier to entry to anyone wanting to enter the market. These high standards also mean that customers require a first-class service level to accompany the products. Rotork provide this through a global service network.

The aftermarket is a very important part of the Rotork business. There are 400 staff across 50 service centres and they generate c20% of group revenues. There are lots of opportunities available for this business and it is expected to grow faster than the overall group growth and it also generates higher margins.

Kiet then outlined the attractive investment case. The company is extremely customer focussed and Kiet described their customers as being at the heart of everything they do. Rotork identifies their flow control challenges and provides them with innovative solutions. This approach places Rotork as a trusted partner and is seen as the No.1 electric actuator business with good differentiation with competition. They are committed to enabling a sustainable future and have taken their technology into new energy markets that will help deliver a decarbonised economy as well as improve energy security. They are also committed to providing a safe environment for a diverse workforce to grow and thrive. Lastly the strong balance sheets is able to fund investment in the business and M&A.

The presentation then moved on to the five drivers that will enable good growth. The company reorganised in 2019 to focus on three key end markets: Oil & Gas; Chemical, Process and Industrial; and Water and Power. This has enabled the company to build strong customer relationships within these end markets. Site Services is a key differentiation and through their service network they have fantastic coverage to deliver excellent aftermarket services. The third element is a focus on high growth regions. The fourth driver is innovation and NPD and Rotork prides itself on delivering great differentiated solutions. The final growth driver is entering into adjacent market places like Methane Emissions reduction, Hydrogen, Biofuels and Waste to Energy. These are high actuator intensive markets and Rotork is looking to grow their presence here.

Rotork has delivered good revenue growth over time but has not been immune to the cyclical slowdowns that impacted the Oil & Gas market in 2015 and the Covid slowdown of 2019/2020 followed by the supply chain disruptions sales have declined over the last couple of years. However, the company believes they are well positioned to grow going forward. The macro trends should provide a good tailwind to growth especially the energy security trends which should see an uptick in the Oil & Gas cycle. There is also accelerated spend in alternative energies and they are well positioned here.

Rotork has a great track record in delivering high margins and despite some of the sales declines, margins have remained over 20%. The ambition is to deliver mid 20’s adjusted operating margins over time. Recent initiatives to improve margins have had a lot of success and the small drop in 2021 was caused by supply chain disruptions to chips. Margins are expected to be stronger in the second half of the year as the strong order book is converted into revenue.

Sustainability and the environment have always been important to Rotork. Throughout 2021 work was carried on the net zero targets and the results were reported in March 2022. The company is looking to reduce greenhouse gas emissions for scope 1 and 2 by 2035 and on a scope 3 basis by 2045. Work is ongoing to reduce the energy used by products during their operation and also working with suppliers to reduce emissions. A lot of work has been carried out on this and the costs to achieve this will not be any higher than business as usual costs.

In terms of products and sales produced by Rotork the company estimate that at least 30% have specific environmental benefits. These include products that go into Water & Waste Water, Methane Emissions reduction and New Energies & Technology industries (particularly carbon capture and LNG).

Towards the end of the presentation Kiet outlined the strategic focus for the next 5 years. The first pillar of the strategy is a focus on the faster growing sectors that will benefit from the global megatrends that they have identified: Developing markets grow faster than developed markets; automation, energy efficiency, electrification drive premium growth rates; infrastructure modernisation and investment; and climate change/energy transition. The second component is making sure customers receive great value. Specific initiatives to maximise this value include: Building on strong customer relationships to improve growth in targeted segments; building a more resilient supply chain to improve transportation networks and reduce lead times; making it easier to do business with Rotork so that the customer experience is improved; and leverage the site services network to provide more aftermarket services to customers. Finally, the third strategy pillar is continuing to lead the way in innovative products and services. Future innovations will be aligned to targeted segments. Combined Kiet is confident that these strategy pillars will enable the company to deliver on their growth ambitions going forward – which is high single digit sales growth and mid 20’s adjusted operating margins over time.

Moving onto look at the performance in the first half there was good momentum in the order book which grew 12% with all three divisions having increased bookings. However, supply chain disruptions mean this was not translated into sales which fell 4.8%. Operating margins of 19% were delivered and ROCE was 27% both strong numbers albeit slightly lower than the previous year due to the reduction in sales. The company enters the second half of the year with encouraging momentum and potentially revenue can catch up if the supply chain disruptions do not reoccur. There is good visibility in the order book and H2 is expected to have a greater than normal impact on the FY performance.

In summary Rotork is a high-quality business with market leading positions in a number of attractive market segments. Despite the difficult economic conditions, the company delivered strong margins and returns in the first half, numbers that many companies would be extremely pleased to achieve, although lower than the previous year. Without the supply chain disruptions both sales and margins would have been comfortably higher and management seem confident that the second half will produce a much-improved set of results.

A recording of the webinar is available here. If you would like further information on other webinars organised by Yellowstone Advisory, please contact info@yellowstoneadvisory.com