Linde Q3:2024 Earnings:
Linde’s third quarter 2024 sales increased 2% driven by a 2% price increase on flat volume. Adjusted operating margin improved 130 basis point to 29.6%. This drove adjusted operating profit growth of 7%, and then share buybacks helped to drive adjusted EPS growth of 9% from the same period in the prior year.
Linde generated a return on invested capital (ROIC) of 12.1% (up from 11.6% year-over-year), an adjusted ROIC of 25.8% (management’s calculation), and a free cash flow (FCF) margin of nearly 20%. It grew its backlog by $2 billion to $10 billion as it signed it largest ever industrial gas project in history with Dow Chemical. The deal is its typical long-term take-or-pay “over-the-fence gas supply contract” providing contractually-secured cash flows, cost pass throughs, and (I suppose) Linde’s typical low double digit ROICs for its on-site business. Linde’s CFO Matt White (one of the best in the business) called out the stringency with which Linde calculates its backlog: “As a reminder, the Linde project backlog only contains growth projects underpinned by a customer contract, with fixed fee returns that are protected with termination provisions. Our definition is unique and the most stringent across the industry.” Of the $10 billion in backlog, 72% is scheduled for the Americas region and 59% is dedicated towards clean energy projects.
During the quarter Linde returned $1.32 billion to shareholders through dividends and buybacks compared to $2.1 billion returned in Q2:2024 and nearly $1.7 billion in Q1:2024. Year-to-date it returned $5.1 billion to shareholders, $3.1 billion of which was share repurchase and $2 billion as dividends.
It lowered the high-end of its full-year 2024 adjusted EPS guidance to $15.40 – $15.50 (down from $15.40 – $15.60). The updated guidance implies full-year EPS growth of 8% – 9% (or 9% – 10% on a constant currency basis). Given still-sluggish industrial related end markets, this is, in my opinion, impressive per-share growth and emblematic of Linde’s highly resilient business that is able to grow profitably it most environments. On the call Linde’s CEO Sanjiv Lamba said that Europe and EMEA were weaker than North America (including Mexico) and India, but stressed “across the world, we see broadly the industrial recession or industrial weaknesses.” He also said, “there has been this long weakness in the industrial space.” Europe has been particularly tough, but Lamba said, “currently, we’ve not heard from any of our major customers in Europe discussing major closures” and even if a big European client wanted to get out of a contract, remember these are take-or-pay contracts with contractual cash-flows and ROICs built in. As Lamba puts it, “let me reiterate that when the customers do decide to undertake that part of shutdown, we have solid contracts in place that will ensure that we protect our investment. And I think that’s part of our model, and that’s part of the contracting discipline that we bring about in every project that we undertake. So I feel pretty good about where we stand at least in terms of protecting the interest of our investors.”
To deal with current “concerns regarding continued economic weakness” Linde’s management is getting even more aggressive on cost cutting initiatives, including laying off about 2% of it global workforce. As expected, the weakness is coming from the industrial sector and that is being offset by Linde’s more resilient end markets including food & beverage, healthcare, and electronics. Here is how Linde’s CEO Sanjiv Lamba explained it on the call:
“The combination of geopolitical tension and economic uncertainty has suppressed large ticket purchases, which tend to correlate with industrial markets such as steel, glass and chemicals. Currently, we don’t see any meaningful catalyst to reverse this trend for the remainder of this year and thus have embedded this view in our guidance…Conversely, consumer-related end markets are slightly positive versus second quarter with continued growth in food and beverage and stability in health care. Electronics was up high single digit over previous year. As expected, recovery in electronics continues to move forward, but at a lower clip. While recovery is slow, we fully expect electronics to provide sequential growth in the next quarter, including project backlog ramp-ups. Taken together, these trends point to a stagnant or slightly declining economic backdrop.”
CFO Matt White also stressed the difficult operating environment as well as the qualities that set Linde apart from the competition, which should allow Linde to continue to outperform the industry:
“global industrial activity has been weak, and we do not anticipate near-term improvement. In fact, geopolitical tensions and regulatory uncertainty only appear to add volatility and potential downside events. However, as Sanjiv mentioned, we’re prepared for this uncertainty. We have the strongest balance sheet in the industry with the most disciplined project backlog at $10 billion, ensuring high-quality growth for years to come. We have a well-honed operating rhythm, enabling our employees to take decisive and timely actions for their respective markets. And we have the densest network across all 3 supply modes to capitalize on every growth opportunity. No matter what the future brings, I have confidence we will continue to deliver industry-leading performance.”
And despite the weak current industrial backdrop Linde still thinks it can generate average annual diluted EPS growth of at least 10% over time. Lamba stresses that, “a combination of actions on pricing, productivity and costs, combined with contractually secured project backlog and robust stock repurchases continue to support our ability to deliver shareholder value regardless of the challenges.”
White went even further to describe the resilient recurring business model that tends to produce even higher free cash flows in stagnant or contracting macro environments (like this year): “And it’s [the Linde business model] very stable, and it’s unrelated to the macro because these are either contractually committed that are independent for the macro or it’s a use of capital for the case of buybacks where ironically, it’s almost countercyclical. So when the macro gets weak, we tend to have more free cash and we have more opportunities for buybacks. So we continue to have a high degree of confidence on that capital allocation and the stability it brings in the [EPS growth] algorithm… So when you think about that algo right now, we are being cautious on the macro from what we’re seeing looking ahead at least to the near term, but we continue to have tremendous confidence on the contribution from our capital allocation and from the management actions that we’re going to take.”
On the call White reiterated that Linde’s capital allocation priorities are to first pay down debt when necessary to maintain a A credit rating, then grow the dividend every year, then reinvest in the business only when projects will generate a double digit after-tax ROIC, and then use all left over FCF (of which Linde generates a lot) to buy back stock. Here is what White said, “Just as a reminder, for those listening in, of what our capital location policy is, I can just reiterate it. We have an underlying mandate to maintain a single A credit rating and raised the dividend every year. So that’s our underlying mandate. And after meeting that mandate, our priority is to invest in the business using our investment criteria. That’s where we want to put our capital, but the projects have to meet our investment criteria. And then whatever is left over or buybacks. So we will continue to apply that approach. Clearly, as we generate more excess free cash flow, buybacks will naturally increase. But as we are seeing our sale of gas backlog rise, which it has now to the $7 billion, that means there will be more CapEx that will have deployment of capital to build these projects. We view that as a good thing. We view that as something for growth that meets our investment criteria. But from that perspective, I still right now feel our buybacks will be consistent next year with this year just because of the excess free cash flow generation.”
Linde is one of the highest quality, best managed, and most important industrial companies in the world. A wide variety of crucial industries from semiconductors to steel to chemical plants to food/beverage, hospitals, and green energy (blue and green hydrogen) all require industrial gases to operate, and Linde is the best provider of these solutions operating in a global oligopoly. A part of its business (on-site) has long-term (10-20 year) take-or-pay contracts with cost pass-throughs that provide recurring revenue and contractually-secured cash flow growth and after-tax ROICs in excess of their cost of capital. The rest of the business (consisting of two additional distribution methods) benefits from the large capex investments it allocates towards its on-site business by distributing excess gases from the on-site plant to a very dense network of customers in the area, providing it with 200 mile local, de-facto monopiles. These other two distribution businesses have annual pricing power in excess of inflation. Linde is doing hard things and doing them very well, and the hard things it is doing are essential to global GDP growth and the transition to a greener economy. This is no secret so Linde trades at a NTM P/E of 27x, but its multiple drops to about 24x on consensus estimates two years out. Despite the optically high multiple I think the shares offer a decent margin of safety at today’s prices.
Official report: https://www.linde.com/news-and-media/2024/linde-reports-third-quarter-2024-results
FOR EDUCATIONAL AND INFORMATIONAL PURPOSES ONLY. The information provided here is for educational and information purposes only. You should not construe any such information or other material as legal, tax, investment, financial, or other advice.