discoverIE

Fully focused on Design & Manufacturing

discoverIE Group 11 November 2021 Update
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discoverIE Group

Fully focused on Design & Manufacturing

Sale of distribution business

Tech hardware & equipment

11 November 2021

Price

1,012p

Market cap

£959m

€1.17:$1.35:£1

Net debt (£m) at end FY21

47.2

Shares in issue

94.8m

Free float

96%

Code

DSCV

Primary exchange

LSE

Secondary exchange

N/A

Share price performance

%

1m

3m

12m

Abs

(3.8)

(5.1)

65.9

Rel (local)

(7.0)

(6.8)

40.3

52-week high/low

1,262p

560p

Business description

discoverIE is a leading international designer and manufacturer of customised electronics to industry, supplying customer-specific electronic products and solutions to original equipment manufacturers.

Next events

Interim results

30 November 2021

Analyst

Katherine Thompson

+44 (0)20 3077 5730

discoverIE Group is a research client of Edison Investment Research Limited

With the proposed sale of Acal BFi, discoverIE is taking the final step to exit the Custom Supply business. Gross proceeds of £50m will be used to reduce debt, providing further headroom for Design & Manufacturing (D&M) acquisitions. We estimate that moving away from this lower-margin business will boost group underlying operating margins from 8.2% to 10.2% in FY22 and from 8.6% to 10.6% in FY23. The disposal leaves management fully focused on the growth of the D&M business and increases exposure to structural growth markets.

Year end

Revenue (£m)

PBT*
(£m)

Diluted EPS*
(p)

DPS
(p)

P/E
(x)

Yield
(%)

03/20

297.9

27.3

25.1

3.0

40.3

0.3

03/21

296.6

27.0

22.3

10.2

45.3

1.0

0322e

358.2

33.5

25.9

10.7

39.0

1.1

03/23e

380.2

37.3

28.0

11.0

36.2

1.1

Note: *PBT and EPS are normalised, excluding amortisation of acquired intangibles, exceptional items and share-based payments. Continuing operations only (PBT and diluted EPS for FY20 and FY21 are Edison estimates until full disclosure is available).

Selling Acal BFi for £50m

discoverIE announced that it has agreed to sell Acal BFi, its electronics distribution business, to private equity buyers for £50m (£45m cash upfront and £5m deferred). The deal is subject to various consultation requirements and regulatory approvals and should complete by the end of FY22. Following the recent sale of the smaller Vertec SA business, this will complete the exit from the Custom Supply business. In FY21, Custom Supply generated 35% of group revenue and 13% of underlying operating profit contribution.

Estimates reflect D&M continuing operations

We have revised our estimates to treat Custom Supply as a discontinued business (both historicals and forecasts). Removing the lower-margin Custom Supply business (underlying operating margin 3.6% in FY21 and FY22e) results in the group underlying operating margin increasing from 8.2% to 10.2% in FY22 and from 8.6% to 10.6% in FY23. The company estimates that post disposal, pro forma gearing would reduce from 1.4x to 1.0x. By the end of FY22, we estimate that this will have reduced further to 0.8x, leaving ample headroom for further acquisitions based on management’s target gearing range of 1.5–2.0x.

Valuation: Reflects D&M growth potential

The stock trades towards the upper end of its peer group on a P/E basis, in our view reflecting the group’s potential to drive earnings growth through accretive acquisitions. The disposal of the Custom Supply business provides the company with resources to fund further acquisitions and frees up management to fully focus on the growth of the D&M business.

Exit from Custom Supply

On 9 November, discoverIE announced that it has agreed the sale of Acal BFi, the electronics distribution business that makes up the bulk of Custom Supply revenues. The business is being sold to H2 Equity Partners, and the existing management team will remain with the business. discoverIE will receive gross proceeds of £50m (on a debt-free, cash-free basis), with £45m upfront and £5m deferred for three years (earning interest at 5% pa). Acal BFi will continue to sell discoverIE's D&M products. The deal is subject to certain consultation requirements and regulatory approvals, with completion expected by the end of FY22.

The company announced in early October that it had sold Vertec SA, the other business within Custom Supply, for ZAR25m/£1.25m. The sale of Acal BFi will conclude the exit from the Custom Supply business.

Moving away from lower-margin distribution

The company disclosed that Acal BFi generated revenue of £148.7m and PBT of £4.0m in FY21 and that the sale price valued the business at 7x average underlying operating profit pre-COVID. Custom Supply generated revenue of £168.5m in FY20 and £157.7m in FY21, with adjusted operating profit of £7.3m and £5.6m respectively. This equates to margins of 4.3% in FY20 and 3.6% in FY21 compared to Design & Manufacturing margins of 12.8% and 12.7% respectively. Custom Supply has always been a cyclical business, and with lower operating margins, had less room for manoeuvre in weaker economic environments.

We note that divisional profits are reported before taking into account central costs. In FY21, D&M alone (including central costs) would have generated an underlying operating margin of 10.0%, compared to the reported group operating margin of 7.7%.

Full focus on Design & Manufacturing business

Sale proceeds will be used to reduce net debt and to progress the design and manufacturing growth strategy. The company estimates that the disposals will result in pro forma gearing1 of 1.0x as at the end of September (down from 1.4x reported), giving further headroom for acquisitions and allowing management to focus solely on the growth of the D&M business.

Net debt divided by underlying EBITDA (on pre-IFRS 16 basis, annualised for acquisitions).

Increased exposure to structural growth markets

The company’s strategy is unchanged:

Grow sales well ahead of GDP over the economic cycle by focusing on structural growth markets that form discoverIE’s target markets: renewable energy, medical, transportation and industrial & connectivity. While 75% of D&M revenue came from these markets in FY21, the contribution was only 50% for Custom Supply.

Move up the value chain into higher-margin products, with group operating margin now above 10%.

Acquire businesses with attractive growth prospects and strong operating margins. The company has acquired five businesses in the last 12 months, all with operating margins above 20%.

Further internationalise the business by developing operations in North America and Asia. Post recent acquisitions, c 40% of D&M revenue comes from these regions.

Changes to forecasts

We have updated our estimates to treat Custom Supply as a discontinued operation, assuming the deal completes at the end of FY22. For clarity, this means Custom Supply is excluded from our normalised and underlying EPS forecasts and included on a net basis in our reported net income and EPS forecasts. For FY20 and FY21 historicals, we have estimated the split between the two divisions at the PBT and net income level – we will update this when the company reports financials on this new basis. We have factored in net sale proceeds of £40m in FY22, deal-related exceptional costs of £3m, debt/cash adjustments of c £2m and slightly higher central costs.

Exhibit 1: Changes to forecasts

Year end March (£m)

FY22e old

FY22e new

Change

y-o-y

FY23e old

FY23e new

Change

y-o-y

Revenues

529.6

358.2

(32.4%)

(21.1%)

556.0

380.2

(31.6%)

6.1%

Design & manufacturing

358.2

358.2

0.0%

20.8%

380.2

380.2

0.0%

6.1%

Custom supply

171.4

0.0

(100.0%)

(100.0%)

175.8

0.0

(100.0%)

N/A

Gross margin

33.9%

33.9%

0.0%

(0.3%)

33.9%

33.9%

0.0%

0.0%

EBITDA

57.8

51.0

(11.7%)

19.1%

62.9

55.4

(11.9%)

8.7%

EBITDA margin

10.9%

14.2%

3.3%

4.8%

11.3%

14.6%

3.3%

0.4%

Underlying operating profit

43.3

36.5

(15.7%)

23.2%

47.9

40.4

(15.7%)

10.8%

Underlying operating margin

8.2%

10.2%

2.0%

3.7%

8.6%

10.6%

2.0%

0.5%

Normalised operating profit

45.1

38.3

(15.1%)

24.7%

49.7

42.2

(15.1%)

10.3%

Normalised operating margin

8.5%

10.7%

2.2%

3.9%

8.9%

11.1%

2.2%

0.4%

Normalised PBT

40.3

33.5

(16.8%)

24.1%

44.2

37.3

(15.6%)

11.2%

Normalised net income

29.9

24.8

(16.9%)

20.5%

32.5

27.4

(15.6%)

10.5%

Normalised diluted EPS (p)

31.2

25.9

(16.9%)

16.0%

33.2

28.0

(15.6%)

7.9%

Underlying diluted EPS (p)

29.8

24.5

(17.7%)

14.5%

31.8

26.6

(16.3%)

8.6%

Reported basic EPS (p)

18.2

15.3

(16.2%)

12.8%

21.0

15.7

(25.5%)

2.6%

Dividend per share (p)

10.7

10.7

0.0%

5.4%

11.0

11.0

0.0%

2.8%

Net (debt)/cash

(78.2)

(39.6)

(49.4%)

(16.1%)

(70.6)

(34.6)

(51.0%)

(12.7%)

Net debt/EBITDA (x)

1.4

0.8

1.3

0.7

Source: Edison Investment Research

Valuation

The table below compares discoverIE’s financial performance and valuation metrics to peers, which include electronics designers and manufacturers and acquisitive industrial companies. The stock trades towards the upper end of its peer group on a P/E basis, in our view reflecting the group’s potential to drive earnings growth through accretive acquisitions. The disposal of the Custom Supply business provides management with resources to fund further acquisitions and frees up management to fully focus on the growth of the D&M business.

Exhibit 2: Peer financial and valuation metrics

Share price

Market cap

Rev growth (%)

EBITDA margin (%)

EBIT margin (%)

EV/sales
(x)

EV/EBITDA
(x)

EV/EBIT
(x)

P/E
(x)

Div. yield (%)

(p)

(£m)

CY

NY

CY

NY

CY

NY

CY

NY

CY

NY

CY

NY

CY

NY

CY

NY

discoverIE

1,012

959

20.8

6.1

14.2

14.6

10.7

11.1

2.8

2.6

19.7

18.2

26.3

23.8

39.0

36.2

1.1

1.1

Diploma

3,200

3,986

42.9

8.7

21.1

20.8

19.0

19.0

5.5

5.1

26.0

24.3

28.9

26.6

38.3

35.3

1.2

1.3

Gooch & Housego

1,180

295

2.6

3.1

16.3

17.0

10.4

11.4

2.5

2.4

15.1

14.0

23.7

20.9

31.7

28.3

1.0

1.1

TT electronics

249.5

437

10.3

4.8

10.9

12.0

7.6

8.7

1.1

1.1

10.5

9.1

15.1

12.5

16.9

14.1

2.2

2.6

XP Power

5,440

1,069

4.6

5.2

24.1

25.0

19.1

20.4

4.5

4.3

18.6

17.0

23.4

20.9

28.1

26.0

1.7

1.7

Avon Rubber

1,944

603

17.4

30.0

17.0

21.3

10.6

15.3

2.6

2.0

15.2

9.3

24.3

12.9

36.6

19.6

1.7

2.1

Halma

2,990

11,355

12.0

7.1

24.7

25.1

20.8

21.3

7.9

7.3

31.8

29.2

37.8

34.4

47.7

43.2

0.6

0.7

Spectris

3,730

4,133

-0.9

2.9

20.1

21.1

16.1

17.3

2.9

2.9

14.6

13.6

18.3

16.5

25.5

22.9

1.9

2.0

Spirax-Sarco Engineering

16,275

11,984

13.6

5.6

29.2

29.2

24.9

24.9

9.0

8.5

30.9

29.3

36.2

34.2

49.7

47.1

0.8

0.9

Average

12.8

8.4

20.4

21.4

16.1

17.3

4.5

4.2

20.3

18.2

26.0

22.4

34.3

29.6

1.4

1.5

Source: Edison Investment Research, Refinitiv (at 8 November)

Exhibit 3: Financial summary

£m

2020

2021

2022e

2023e

Year end 31 March

IFRS

IFRS

IFRS

IFRS

PROFIT & LOSS

Revenue

 

 

297.9

296.6

358.2

380.2

Cost of Sales

(197.8)

(195.2)

(237.0)

(251.3)

Gross Profit

100.1

101.4

121.3

128.9

EBITDA

 

 

43.6

42.8

51.0

55.4

Operating Profit (before am, SBP and except.)

 

31.6

30.7

38.3

42.2

Operating Profit (before am. and except.)

 

29.8

29.6

36.5

40.4

Amortisation of acquired intangibles

(9.0)

(11.1)

(11.6)

(11.6)

Exceptionals

(4.3)

(3.4)

(7.0)

(3.6)

Share-based payments

(1.8)

(1.1)

(1.8)

(1.8)

Operating Profit

16.5

15.1

17.9

25.2

Net Interest

(4.3)

(3.7)

(4.8)

(5.0)

Profit Before Tax (norm)

 

 

27.3

27.0

33.5

37.3

Profit Before Tax (FRS 3)

 

 

12.2

11.4

13.0

20.2

Tax

(3.3)

(3.4)

(3.4)

(5.3)

Profit After Tax (norm)

21.8

20.6

24.8

27.4

Profit After Tax (FRS 3)

8.9

8.0

9.6

14.8

Discontinued operations

5.4

4.0

4.5

0.0

Net income (norm)

21.8

20.6

24.8

27.4

Net income (FRS 3)

14.3

12.0

14.1

14.8

Ave. Number of Shares Outstanding (m)

84.0

88.8

92.6

94.8

EPS - normalised & diluted (p)

 

 

25.1

22.3

25.9

28.0

EPS - underlying, diluted (p)

 

 

23.5

21.4

24.5

26.6

EPS - IFRS basic (p)

 

 

17.0

13.5

15.3

15.7

EPS - IFRS diluted (p)

 

 

16.5

13.0

14.7

15.1

Dividend per share (p)

3.0

10.2

10.7

11.0

Gross Margin (%)

33.6

34.2

33.9

33.9

EBITDA Margin (%)

14.6

14.4

14.2

14.6

Operating Margin (before am, SBP and except.) (%)

10.6

10.4

10.7

11.1

discoverIE adjusted operating margin (%)

10.0

10.0

10.2

10.6

BALANCE SHEET

Fixed Assets

 

 

236.4

245.0

280.2

269.9

Intangible Assets

182.2

191.2

225.0

213.8

Tangible Assets

46.3

45.9

47.3

48.2

Deferred tax assets

7.9

7.9

7.9

7.9

Current Assets

 

 

197.4

183.6

211.2

222.1

Stocks

68.4

67.7

78.5

83.3

Debtors

90.1

84.9

99.1

105.2

Cash

36.8

29.2

31.8

31.8

Current Liabilities

 

 

(103.6)

(107.8)

(126.0)

(133.1)

Creditors

(94.0)

(102.2)

(120.4)

(127.5)

Lease liabilities

(5.3)

(4.8)

(4.8)

(4.8)

Short term borrowings

(4.3)

(0.8)

(0.8)

(0.8)

Long Term Liabilities

 

 

(129.7)

(112.0)

(98.1)

(85.0)

Long term borrowings

(93.8)

(75.6)

(70.6)

(65.6)

Lease liabilities

(14.7)

(16.7)

(16.1)

(15.5)

Other long-term liabilities

(21.2)

(19.7)

(11.4)

(3.9)

Net Assets

 

 

200.5

208.8

267.3

274.0

CASH FLOW

Operating Cash Flow

 

 

48.0

56.8

41.8

49.6

Net Interest

(3.7)

(3.1)

(4.2)

(4.4)

Tax

(6.4)

(7.2)

(8.7)

(9.8)

Capex

(6.3)

(3.9)

(8.5)

(8.5)

Acquisitions/disposals

(73.6)

(20.5)

(50.1)

(5.0)

Financing

53.9

(6.6)

46.7

(6.7)

Dividends

(8.1)

(2.8)

(9.5)

(10.1)

Net Cash Flow

3.8

12.7

7.6

5.0

Opening net cash/(debt)

 

 

(63.3)

(61.3)

(47.2)

(39.6)

HP finance leases initiated

0.0

0.0

0.0

0.0

Other

(1.8)

1.4

0.0

0.0

Closing net cash/(debt)

 

 

(61.3)

(47.2)

(39.6)

(34.6)

Source: discoverIE, Edison Investment Research. Note: Treats Custom Supply as a discontinued operation; FY20 and FY21 historicals are Edison estimates until full disclosure is available.


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This report has been commissioned by discoverIE Group and prepared and issued by Edison, in consideration of a fee payable by discoverIE Group. Edison Investment Research standard fees are £60,000 pa for the production and broad dissemination of a detailed note (Outlook) following by regular (typically quarterly) update notes. Fees are paid upfront in cash without recourse. Edison may seek additional fees for the provision of roadshows and related IR services for the client but does not get remunerated for any investment banking services. We never take payment in stock, options or warrants for any of our services.

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This report has been commissioned by discoverIE Group and prepared and issued by Edison, in consideration of a fee payable by discoverIE Group. Edison Investment Research standard fees are £60,000 pa for the production and broad dissemination of a detailed note (Outlook) following by regular (typically quarterly) update notes. Fees are paid upfront in cash without recourse. Edison may seek additional fees for the provision of roadshows and related IR services for the client but does not get remunerated for any investment banking services. We never take payment in stock, options or warrants for any of our services.

Accuracy of content: All information used in the publication of this report has been compiled from publicly available sources that are believed to be reliable, however we do not guarantee the accuracy or completeness of this report and have not sought for this information to be independently verified. Opinions contained in this report represent those of the research department of Edison at the time of publication. Forward-looking information or statements in this report contain information that is based on assumptions, forecasts of future results, estimates of amounts not yet determinable, and therefore involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of their subject matter to be materially different from current expectations.

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No personalised advice: The information that we provide should not be construed in any manner whatsoever as, personalised advice. Also, the information provided by us should not be construed by any subscriber or prospective subscriber as Edison’s solicitation to effect, or attempt to effect, any transaction in a security. The securities described in the report may not be eligible for sale in all jurisdictions or to certain categories of investors.

Investment in securities mentioned: Edison has a restrictive policy relating to personal dealing and conflicts of interest. Edison Group does not conduct any investment business and, accordingly, does not itself hold any positions in the securities mentioned in this report. However, the respective directors, officers, employees and contractors of Edison may have a position in any or related securities mentioned in this report, subject to Edison's policies on personal dealing and conflicts of interest.

Copyright: Copyright 2021 Edison Investment Research Limited (Edison).

Australia

Edison Investment Research Pty Ltd (Edison AU) is the Australian subsidiary of Edison. Edison AU is a Corporate Authorised Representative (1252501) of Crown Wealth Group Pty Ltd who holds an Australian Financial Services Licence (Number: 494274). This research is issued in Australia by Edison AU and any access to it, is intended only for "wholesale clients" within the meaning of the Corporations Act 2001 of Australia. Any advice given by Edison AU is general advice only and does not take into account your personal circumstances, needs or objectives. You should, before acting on this advice, consider the appropriateness of the advice, having regard to your objectives, financial situation and needs. If our advice relates to the acquisition, or possible acquisition, of a particular financial product you should read any relevant Product Disclosure Statement or like instrument.

New Zealand

The research in this document is intended for New Zealand resident professional financial advisers or brokers (for use in their roles as financial advisers or brokers) and habitual investors who are “wholesale clients” for the purpose of the Financial Advisers Act 2008 (FAA) (as described in sections 5(c) (1)(a), (b) and (c) of the FAA). This is not a solicitation or inducement to buy, sell, subscribe, or underwrite any securities mentioned or in the topic of this document. For the purpose of the FAA, the content of this report is of a general nature, is intended as a source of general information only and is not intended to constitute a recommendation or opinion in relation to acquiring or disposing (including refraining from acquiring or disposing) of securities. The distribution of this document is not a “personalised service” and, to the extent that it contains any financial advice, is intended only as a “class service” provided by Edison within the meaning of the FAA (i.e. without taking into account the particular financial situation or goals of any person). As such, it should not be relied upon in making an investment decision.

United Kingdom

This document is prepared and provided by Edison for information purposes only and should not be construed as an offer or solicitation for investment in any securities mentioned or in the topic of this document. A marketing communication under FCA Rules, this document has not been prepared in accordance with the legal requirements designed to promote the independence of investment research and is not subject to any prohibition on dealing ahead of the dissemination of investment research.

This Communication is being distributed in the United Kingdom and is directed only at (i) persons having professional experience in matters relating to investments, i.e. investment professionals within the meaning of Article 19(5) of the Financial Services and Markets Act 2000 (Financial Promotion) Order 2005, as amended (the "FPO") (ii) high net-worth companies, unincorporated associations or other bodies within the meaning of Article 49 of the FPO and (iii) persons to whom it is otherwise lawful to distribute it. The investment or investment activity to which this document relates is available only to such persons. It is not intended that this document be distributed or passed on, directly or indirectly, to any other class of persons and in any event and under no circumstances should persons of any other description rely on or act upon the contents of this document.

This Communication is being supplied to you solely for your information and may not be reproduced by, further distributed to or published in whole or in part by, any other person.

United States

Edison relies upon the "publishers' exclusion" from the definition of investment adviser under Section 202(a)(11) of the Investment Advisers Act of 1940 and corresponding state securities laws. This report is a bona fide publication of general and regular circulation offering impersonal investment-related advice, not tailored to a specific investment portfolio or the needs of current and/or prospective subscribers. As such, Edison does not offer or provide personal advice and the research provided is for informational purposes only. No mention of a particular security in this report constitutes a recommendation to buy, sell or hold that or any security, or that any particular security, portfolio of securities, transaction or investment strategy is suitable for any specific person.

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Frankfurt +49 (0)69 78 8076 960

Schumannstrasse 34b

60325 Frankfurt

Germany

London +44 (0)20 3077 5700

280 High Holborn

London, WC1V 7EE

United Kingdom

New York +1 646 653 7026

1185 Avenue of the Americas

3rd Floor, New York, NY 10036

United States of America

Sydney +61 (0)2 8249 8342

Level 4, Office 1205

95 Pitt Street, Sydney

NSW 2000, Australia

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