This article was first published in the Industrial Automation INSIDER Newsletter for December. The Newsletter is a monthly subscription publication, see http://www.iainsider.co.uk
It’s been an eventful month for the Invensys Group, all in all. First came the announcement that the Invensys Rail and Siemens consortium had won the GBP50m six year contract from Crossrail to deliver the signalling and train control solution for the core Crossrail area. Crossrail will provide 21km of new railway under the heart of London in twin-bore tunnels, allowing trains to cross London and then run onto the existing rail networks. Included in the press release was the comment that Invensys and Siemens plc have a long and successful history of collaboration on significant infrastructure projects which dates back more than a decade and includes partnership work in Puerto Rico, Spain, Algiers and the United States.
The next day came the announcement of the Invensys Group half year results to end September. These were comparable with H1 last year: Group sales and orders were 4% down, 2% at constant exchange rates, operating profit the same, and EPS up 10%.
The comments from ceo Wayne Edmunds said that Operations Management (IOM) “Performed well, with growth in revenue and operating margins”. In fact Rail faced delays in contracts and Controls experienced softening in demand, so the good IOM performance was crucial, once again. The significant growth in IOM was quoted as helped by areas such as Simulation and HMI, to produce a 17% rise in the Software business, to GBP120m.
A similar comment was made this month by Honeywell, in a press release advising that various sectors of the process industries are turning to Honeywell Unisim technology to provide industrial operator training and process design solutions. Honeywell has signed ten new simulation projects, valued at a combined total of $20m, driving growth for its process simulation business. Honeywell’s UniSim offers a series of unified simulation solutions to support improved performance throughout the lifecycle of a plant – from off-line use in steady-state design simulation, control check-out, and operator training, to on-line use in control and optimization, performance monitoring, and business planning. (For further information see the INSIDER Newsletter for December, page 5)
Siemens buy the rail business
For Invensys, two weeks later the announcement came that the Invensys Rail business, with sales of GBP775m last year and OPBIT of GBP116m, would be sold to Siemens, for 15x the OPBIT, or GBP1.742Bn. Of this sum, GBP625m is to be returned to shareholders, GBP625m goes to sorting out the whole of the Group’s UK pension fund deficit, and the remainder, around GBP500m, is to be used mainly to invest in the future of the IOM business, in terms of acquisitions and R+D.
The Siemens deal is planned for completion in Q2 2013, after the end of the current Invensys financial year. The first thing to say is that Invensys has achieved a good price for the Rail business, possibly a third of the overall group (but then it has been sold with none of the Rail pensions liability, which might have been a pro-rata cost of GBP300m).
Second Edmunds and David Thomas, the cfo, also have produced a creative solution to the financial problems of the UK pension fund deficit, which even has the potential to bring back some cash to the company after 2018.
Giving Rail a future
The logic for the Rail divestment was that having doubled in size over the last five years, with 3200 employees, the rail signalling business had hit a ceiling, and needed to be consolidated with a partner. Siemens Mobility and Logistics Division see Invensys Rail as a good fit, with the well established business in UK, Spain, USA and Australia: their sales are GBP1.1Bn with 6500 employees. Edmunds insisted that there were no discussions with Siemens about widening the acquisition to include any possible deal to acquire IOM as well.
After the announcement the Invensys share price rose to around GBP3.10, adding more than the 76pence on offer as a future cash return, and valuing the Group at GBP2.5Bn. Analysts such as Andrew Carter of RBC Capital immediately suggested that removing the pensions liability and the Rail business make Invensys far more attractive as a straightforward industrial automation acquisition: the comments added some further volatility to the share price. The poorly performing Invensys Controls, GBP440m sales, achieving a low margin, is presumably ignored.
So what does this mean for IOM?
As explained by group ceo Edmunds, this divestment creates a group free of past pensions liabilities, focused on industrial software and control equipment. What’s more the group has around GBP500m to invest in acquisitions and targeted development in these areas. Edmunds sees the future acquisitions as numbering 3-4 per annum, and similar in profile to the recently acquired Spiral Software, costing GBP30-50m, and in a relevant high margin and high growth market area.
For shareholders the benefit will also include the cancellation of the need to pay GBP50m annually, to help cancel the old pension deficit – and a saving in having simplified group overheads of GBP25m a year, unfortunately not starting until 2015, both boosting the available return.
The obvious threat is that the group is vulnerable to acquisition by any predator seeking a good industrial automation business, and recognizing these potential future benefits: but hopefully the shareholders will stick with the existing management to make the value in the company more obvious!
Edmunds then presented a business analysis that led to the suggestion that the future areas for investment could be in software such as simulation and optimisation, industrial equipment acquisitions to fill gaps in the IOM offering (as in the Foxboro and Eurotherm ranges), and into R&D for Triconex and systems support and upgrades, “to maintain the strong market position”.
Some of the background data this was based upon showed the remainder business to be 25% consumer cyclical (the “Controls” separate division), 23% oil and gas, 20% general industries, 10% utilities and power, 6% discrete and 4% petrochemicals – a different set of categories to typical presentations, but still apparently a different profile to the competitors. Petrochemicals seems low, and where are chemicals, pharma and biotech?
In fact, the recent ARC pressure transmitter worldwide outlook only mentions Invensys Foxboro as significant in such instruments in the chemical industry, sharing sixth ranking with Honeywell, at 3.3/3.4%. Foxboro is not quoted in the oil and gas sector, for pressure sensors, so must be less than 2.5%. This illustrates perhaps that Invensys is made up of many different businesses, not all with the same market profile.
Systems are 43% of the business, showing a 14%pa growth, but criticized by Edmunds for their high single digit margins. The overall margin in systems is impacted by 1% because of the zero return to date on the China nuclear projects, and the main projects won recently have been green field projects – obviously with IOM software and equipment sold as a consequence. The overall contracts contain significant values of bought in items, which cannot be passed on at normal margins. However it should be remembered that Invensys and Triconex have a real future potential in the nuclear industry, when it starts up again. So I think Edmunds gave systems a raw deal in his assessment, rating it as his third priority level.
Focus on software
Highest priority was given to the software business, which has showed a 16%pa growth rate, and a mid-20s margin percent. But software is only 13% of the business, and has already had various repeated acquisition additions over the last few years. We will not know what return Invensys will actually achieve from the GBP38m spent on Spiral Software, to take a recent example, but a further similar high tech high growth software company might be acquired at a price/earnings ratio of say 20:1 (giving a 5% return).
After a year, the better Invensys sales structure might grow the volume 50-100%, to achieve a doubling of the operational profit, and make a 10% return on the original investment. The remaining bits of Invensys, based on current performance, have typically made an operating profit of 5%, as a percentage of the market value of the company if sold, estimated at GBP3Bn. So working in figures like this does make a growth software company acquisition look a good idea, unless that company turns out to be all smoke and mirrors of course!
The view from IOM – in America
The main IOM management, as in the ceo and the systems and software operations management, are based in the USA, near the major systems customers in Houston. In contrast the Equipment Division president, responsible for Eurotherm and Foxboro within IOM, is Rob Rennie, based in West Sussex, UK. So the operational side of IOM is rather separated from the head office and financial staff structure under the group ceo Wayne Edmunds, in London.
In addition the geographical division of sales for the remaining IOM and Controls business is 6% UK (and 23% Europe), 34% North America, 8% South America. The remaining 29% is Asia, Africa and the Middle East. So really IOM has the profile of a US Group rather than a UK operation.
The main IOM objective currently is to reassure customers that their services and presence have not changed in any way, it is business as usual – and indeed their resources if anything have been strengthened. IOM has new resources to continue developing and improving their products and software, and will be seeking the best new developments to acquire for their businesses.
But none of these resources will be available until after next April!