IMI PLC

LSE:IMI

Earnings Call Transcript 2018-Q1

[Operator]

Thank you all for standing by ladies and gentlemen. Welcome to today's IMI plc Interim Management Statement Conference call. [Operator Instructions] Please be advised that the call is been recorded today, Thursday 3rd of May 2018. I would now like to hand the conference over to your speaker, Mr. Mark Selway. Thank you. Please go ahead.

[Mark W. Selway, CEO & Director]

Thank you, Paul, and good morning, ladies and gentlemen. Thanks for taking time out of your busy schedules to talk with us today. I have with me Dan Shook, Roy Twite, Massimo and also Phil Clifton. Hope you've had a chance to read through the IMS statement. I don't propose that I'll read it through in verbatim, but I'll cover off a couple of the highlights and then we'll be happy to take your questions. Overall, I think key message is the year started absolutely in line with expectations. Conditions have continued pretty much the same as they were in the final quarter, with Critical remaining stable, Precision benefiting from continued good demand and Hydronic already starting to respond to the early improvement action. So overall, we're continuing to expect that EPS in the full year will be in line with current consensus. And for the avoidance of doubt, we read that at [ 70.6p ] for the full year. We continue to make good progress within the businesses. In Critical, some of our markets continue to be tough, particularly in Power generation. And we're still expecting to see H1 order intake to be lower than last year after the very strong Petrochemical order wins in the first half of 2017. However, reorganization activity is progressing well. Savings generated will help the second half, and we are expecting that we will grow margins in the full year and see a broadly flat revenue base in the full year, also. In Precision, demand for both Industrial Automation and the Commercial Vehicle sectors has remained good. And we're still expecting good performance in the first half and then new products providing further momentum through the latter part of the year. In Hydronic, it has responded well to early improvement actions and there remains still much work to be done. But the negotiations in terms of pricing, in terms of rebate and certainly, in terms of new products, are going well. The first half is expected to be broadly similar to last year. Focus for this division remains on delivering a marked improvement in performance in the full year, and our focus clearly is on growing margins and seeing high-teen margins return in the second half and that could include some overhead reductions between now and then. So in conclusion, I'm pleased to confirm that we are making good progress. We're confident that we're on course to deliver the expectations for the full year. And I think with that, we'd be delighted to take any questions that people may have.

[Operator]

[Operator Instructions] The first question is from the line of Max Yates from Crédit Suisse.

[Max Yates, Research Analyst]

So just a couple of questions I had were firstly on Critical. And obviously, as we look forward over the next couple of years, the mix of this division is likely to shift a bit, there'll probably be less Power, probably more from Petrochemicals, Oil & Gas and then, thrown into that sort of more Value Engineering. And I just wanted to think about given whether the businesses is in terms of capacity, the rightsizing that you've gone through. How do you think about the recovery in margins here if we do get back to a sort of mid-single digit organic growth level? Are we thinking about sort of mid-teens margins? What kind of scenario do we have to see to get back to mid-and high teens based on how the mix may look going forward with Value Engineering? Just maybe if you could comment on how your thinking is around that?

[Mark W. Selway, CEO & Director]

Yes, Max, I'll get Roy to take that question. Roy?

[Roy M. Twite]

Yes, thanks, Max. Max, I mean, obviously, there are a lot of moving parts in it. You're absolutely right. We see the mix will move towards Oil & Gas. Within that mix, as you say, quite rightly, Value Engineering is going to form a very big part of that. This year, we think we'll do over half of our new construction orders using Value Engineering, and that could well be GBP 150 million, which will be improving the margins in that area. I think the other thing you've got to watch out for, Max, in the last Oil & Gas cycle -- and it always depends how quickly the CapEx comes through. But in the last Oil & Gas cycle, we saw price increases averaging something like 10% on our valves. So there's plenty of moving parts in there. When we model the division, we've looked at about GBP 850 million, 50-50 new construction and aftermarket gets us back to 20% margin. So wherever you sort of plot your model along that line, if you like, will give you a rough guidance in terms of where we expect the margins to turn out.

[Max Yates, Research Analyst]

And would you need to see sort of -- have you modeled in some sort of price, quite significant pricing recovery? Or is that sort of more -- I mean, do we need to see pricing go back to the prior peaks of the cycle to get back to those sort of higher margin levels? Or do you think sort of this pricing never quite gets back, that's still based on efficiency, Value Engineering, we can still get back to those high-teen levels?

[Roy M. Twite]

Precisely. I think that's exactly right. We don't need it, that full 10%. Some pricing recovery will be good, as you know, right now, all of our competition are chasing very few projects and that leads to really tough pricing. So we can -- we need -- and actually as the market recovers, we need some pricing recovery, but nowhere near that 10%. The -- in terms of our footprint, you know that we've invested heavily in China, South Korea and India. We've done a lot of lean activity as well in terms of efficiency. We modeled what capacity we're going to have when we finish the footprint program. And actually because of lean, it's slightly more capacity than when we started this program. So it's taken a lot of complexity out in terms of the number of sites, in terms of improving the sites, but we're actually going to have slightly more capacity and most importantly, will have that capacity in the right markets.

[Max Yates, Research Analyst]

Okay. And maybe just briefly one on Precision. Obviously, one of the things that has impacted the Commercial Vehicles growth was the rolling off of contracts, which I think has been more than offset, by obviously very positive underlying activity. But could you just talk a little bit about to what extent you've been able to win new larger contracts to replace those ones that have rolled off? And when we might see a sort of positive effect from that? Because I think it was, sort of, reasonably significant in the context of overall Commercial Vehicles business.

[Mark W. Selway, CEO & Director]

Yes, look, it will be about GBP 10 million of further contract rollovers this year. We have outlined and we have got a GBP 25 million contract with Kongsberg. That will start production. In fact, it started production already, but it will start off relatively slowly before you see the full impact of that. We've been very successful with some Scania contracts recently, not likely to impact the revenue line until 2019 and that's the second half of it. So you've got to wait for the new truck launches until you start to see these come on-stream. But we've got a terrific quotation level in terms of CV. We've got to be very careful that we don't affect the mix by taking on too much CV. But it's good business, overhead recovery through the factory improved as a consequence of it coming on-stream. And as I said, Max, you'll see GBP 10 million of drop off this year against about GBP 14 million last year.

[Max Yates, Research Analyst]

Okay. And I guess, on that mix point. As it stands when you look at Q1 organic growth and may be extrapolating that through to sort of what Q2 will look like. Obviously, you haven't changed the margin guidance, but should we be aware of the mix for the first half or are you pretty comfortable with?

[Mark W. Selway, CEO & Director]

No, we're pretty comfortable with where we're at. I mean, the mix does have an impact in terms of what percentage of the drop through hits the bottom line. But net of all of it is we're happy. We're starting to see drop through particularly in April. Because the first quarter comparative was quite a tough for Massimo, but April really started to see us hit our stride, and hopefully that's something that will continue in terms of the mix as we move through this second quarter.

[Operator]

The next question is from the line of Mark Troman from Bank of America.

[Mark Antony Troman, Head of the Pan Europe Capital Goods Research]

Question, Mark, on Hydronic. I think 4% lower sales growth in the first quarter. Yet you seem -- obviously, your good operating improvements coming through there. Wonder if you'd go through what's driving that 4% decline? And what gives you some confidence that, that can recover in coming quarters? And maybe just a bit more detail on the improvement actions and the confidence of margin delivery in Hydronic?

[Mark W. Selway, CEO & Director]

Thanks for the question, Mark. Look, we're doing a lot in Hydronic. As you know, we were disappointed with the -- particularly the margin performance in the second half of last year, and Phil Clifton came in, has been doing a review of the performance of the business. So there was a number of things that we have already taken actions on. A price increase is needed to come through and we're starting to see that. They are coming through the system progressively from March. The second thing is our discounts and rebate negotiations with wholesalers, they were getting too much of the purse as a consequence of any revenue movement. So Phil has renegotiated those. What you have seen is February, while those negotiations were going on, was very light for us in terms of new orders. That has recovered. And I can tell you the first flash on April, we had a year-to-date 4% down in March. That has reduced to a year-to-date 2% down at the end of April. So orders are starting to flow as you'd expect. But to be clear on it, Mark, our focus on this business is to be more selective with the new contracts that are being quoted, be nimbler in terms of our negotiations and making sure we're recovering price increases. Phil will probably take some overhead out between now and the second half. But we are absolutely focused on making sure that the second half is back to high-teen margins. And if the revenue line is broadly flat, that would be a great outcome for the year. So progress is good. The actions we're taking to improve those margins are on track. And I'm very pleased with the way it's progressing.

[Mark Antony Troman, Head of the Pan Europe Capital Goods Research]

Fantastic. And If I could just follow up maybe briefly on Precision. Obviously good demand running through, looks like trucks are going -- Commercial Vehicles are going very well. In terms of margin leverage, should we expect margin leverage, I guess, to pick up as we go through the end of '18 and into '19 to drop through? Or how should we think about it? I guess, Commercial Vehicles is probably a little bit of a -- little bit negative on mix versus automation. But how should we think about leverage of Precision as we move to the end of the year and into '19?

[Mark W. Selway, CEO & Director]

Yes, look, we -- as I said, the first quarter was a tough comparator. We had a pretty strong quarter -- so quarter-to-quarter comparators have an impact on it also, Mark. But at the end of the day, we're expecting drop through on average to be 30%, 35% through the year. And as I've said, April was particularly strong for Massimo. So the mix does help him, but it also hurt him in some months when we see too much in way of CV and the balance in IA is a bit different. So generally, we'd expect about 35% as a drop through target for the full year. Does that cover it off, Massimo?

[Massimo Grassi]

Absolutely.

[Operator]

The next question is from the line of Mark Davies Jones from Stifel.

[Mark Davies Jones, Associate]

Two unrelated questions, if I may. Firstly, can I just come back to the Hydronic issue. Because I think when you're explaining the margin drop through the back end of last year, it was partly about diversifying into geographic and product areas where you were somewhat weaker and you were struggling to make the returns, and there was something of a retreat from those businesses. And so in some ways I'm kind of surprised you're guiding to a fairly flat revenue outlook. I can see the margin picture as the key focus, but may there not be some requirement to drop some of the revenue to get to that point? So, that's question number one. And then a quick one for Roy. Clearly, the Power market is still very difficult, but we are seeing some, rather more encouraging noises around the LNG market, I know it's very early, but are you seeing any improvement in inquiries and leading indicators from your LNG business?

[Mark W. Selway, CEO & Director]

Good morning, Mark. Pleased to talk with you, mate. In terms of the Hydronic, at the end of the day, we've taken the decision that the real ambition for us is to get the margins back to a level that we're happy with. So we'll be more selective on particularly some of the new building contracts that we get the opportunity to quote. As I said, on a year-to-date, end of April, we're about 2% down. Market is still doing reasonably well. We've got great brands there. At the end, if we finished out flat with an improved margins would be happy with that performance. But if it ends up being a wee bit down in revenue and the margins are improved, I wouldn't be disappointed with that as an outcome. But it's not going to be massive in the overall scheme of things in terms of revenue movement, Mark.

[Mark Davies Jones, Associate]

Okay.

[Roy M. Twite]

I think in terms of the market, you shouldn't take the fact that we were lower in order intake in February and early March. There is an indication the market coming off. It isn't, the market is pretty much okay, particularly in Germany.

[Mark W. Selway, CEO & Director]

Yes, and then just [ do you want me to stay on the ] LNG question, yes. Mark, so on LNG -- yes, quote activity is improved on LNG. As you know, they've recycled a few projects and looked for most cost reductions sort of over the last year, I suppose. But yes, North America, Mozambique definitely more quote activity going on, more engineering activity. And we've got our first sort of material order from the North Sea last month for the first time in a long time. So I think, yes, there is more quote activity. As far as I can see, the customer CapEx numbers haven't yet lifted, they're not yet spending. But yes, it's sort of early signs, I think, of an improvement. As we said last time we spoke, expect first half orders in Critical to be something like 15% down. So we expect to recover a chunk of that in the second half for the full year orders to be sort of flat to slightly down. That's where my head is at the moment, Mark.

[Operator]

The next question is from the line of Andrew Caldwell from Barclays.

[Andrew Francis Caldwell, Research Analyst]

I have got a couple of questions around Precision. Could you talk a bit more generally around the market environment you're seeing through the quarter and what you expect for the second half? And then if you could talk about how the Bimba acquisition is going? And what the sort of margin expectations are for that '18 and '19, if possible?

[Mark W. Selway, CEO & Director]

Massimo, if you can.

[Massimo Grassi]

Sure. Good morning, Andrew. With regard to the market, I would say from a geographical point of view, we are experiencing very favorable conditions in Asia, where we are very pleased with our performances and the market growth. North America favorable conditions. And we had quite a good surprise about the increased volume in CV. And overall, we are pleased with our growth and the market conditions. And in Europe, a bit disappointing with regards to CV, but Industrial Automation is doing as expected. So across the board, quite favorable market condition. With regards to the verticals, CV is doing better-than-expected. Industrial Automation, we're pleased. And we're also nicely growing in all other verticals like CV -- sorry, like Life Sciences, like Rail where we keep on having largely 2-digit growth. And so overall, we're quite pleased. Bimba integration is doing very well. We are working hard to execute on our plan. And for the moment, Bimba as well is benefiting of favorable market condition in North America. So very positive so far with regards to Bimba.

[Andrew Francis Caldwell, Research Analyst]

Okay. And then have you seen any change in trend in the Industrial Automation business? Sort of year-to-date, is it stable or is it starting to slow? What are your customers saying?

[Massimo Grassi]

We are hearing, Andrew, that some is expecting potentially a slowdown in the second half. For the moment, we are quite happy. We don't see tangible negative signs of slowdown. We are quite pleased with the first overview of April. So we are quite positive.

[Mark W. Selway, CEO & Director]

Yes, in real terms, if you -- we got relatively short visibility in terms of the market. But it has accelerated a bit in the first quarter against even the last quarter of last year, six consecutive periods of growth in Industrial Automation. And I don't not see anything in the inquiry levels or order books that would indicate that's going to change anytime soon.

[Operator]

The next one is from Jonathan Hurn from Deutsche Bank.

[Jonathan Hurn, Research Analyst]

Just a few questions for me. Just kicking off with two questions for Roy, please. Can you just sort of give us a little bit more info, a little bit of depth on what you're seeing in coal and gas power? I know the markets are tough, but you're managing to offset that weakness through Value Engineering. That was the first question. And the second one is just coming back to your sort of comments on restructuring. Can you just remind us what restructuring benefits are coming through in Critical in '18 and also '19, please?

[Roy M. Twite]

Yes. So Jonathan, coal power is very tough. And you've seen what's happened to GE and Siemens and that's continuing. So yes, through Value Engineering, our hit rate is exceptionally high, it's at an all-time high in terms of the market share. But that kind offset what's actually happening in that market, which is well down, from where it used to be. I mean, if you just take China, which was 40% of the fossil power new construction market. That's come down by about 60%, something like that over the last few years. So there is just no way, Jonathan, that even using and becoming much more competitive, we can offset all of that downward movement. I think, in terms of gas power, that is slightly better. And we -- as you know, we are developing more product, making up for a much more competitive to more than double our content into gas power. And that's actually continues with some success. And we --again, we've had very high hit rates on gas with some of these really important customers. In terms of restructuring. We're spending GBP 10 million this year in Critical, and we're going to get GBP 8 million of benefit. Obviously, a big chunk of that is from the Belgium closure. And I'm very happy to say, as Mark indicated, that's actually slightly ahead of plan now and we'll be completely out of Belgium by the half year.

[Jonathan Hurn, Research Analyst]

Great. And just maybe one sort of last question. Just for Massimo on the Precision side. Just one, in terms of verticals, that one you didn't mention was Energy. I mean, I think that was hadn't really picked up for you in H2 '17. Has that trend reversed in the first quarter, please?

[Massimo Grassi]

Yes, I think -- good morning, Jonathan. Yes, it did. We are slightly positive on Energy for the division, couple of points percentage positive, with very good results in Asia. So we are relatively optimistic for the Energy business this year. Last year has been quite disappointing even if, I am convinced, we have been gaining market share. We know that we have been operating in a very tough market condition. But we are very pleased with the results so far in '18 for Energy and we are quite confident for the rest of the year.

[Operator]

And the next question is from the line of Edward Maravanyika.

[Edward Maravanyika, Vice President]

My question, I guess, is a follow-up on that Oil & Gas question. Are you seeing anything in terms of large project orders, especially on the sort of Petrochem and on the Refining side?

[Roy M. Twite]

Yes. So Edward, this is Roy. Edward, our issue with Petrochem is the comparator to last year. So you must bear that into mind, Edward. Because last year, our Petrochem orders were 53% up and in particular, we won 2 very large orders in China on CATOFIN and a very large refinery in the U.S. in Houston, which was a [ refer ] project to take the sulfur out of the diesel. So that's what you've got to bear in mind when you're looking at our orders. But yes, there are more downstream projects like that, which we think will come to fruition either second half of this year or potentially first half of next year. Because Petrochem, there is good opportunity, but our experience is some of those projects have been delayed by 6 months order period.

[Operator]

The next question is from the line of Jack O'Brien from Goldman Sachs.

[Jack O'Brien, Equity Analyst]

Jack from Goldman here. Changing tack slightly. First question is just on free cash flow expectations for the year. I think a trend we've seen through the first quarter reporting season has been generally pretty weak free cash flow. So just would be interested in your thoughts there perhaps with respect to both working capital, but also other potential charges. And I know there are some accounting changes as well? So that's the first question.

[Mark W. Selway, CEO & Director]

Yes, Jack, just in terms of free cash flow, obviously, we are building inventories in Massimo's market, it's doing well. So there's some inventory buildup respond to that area. Roy's business is quite lumpy, as you know. So first quarter, [ debtors ] are up, but there is more project work going through. So we'd expect that. We generated, I think, it was about GBP 218 million of operating cash flow last year. We expect it's probably going to be a bit stronger than that this year, but look a long way to go yet. I don't think particularly, you can look at a quarter-to-quarter basis on free cash flow and see the moving bits work. It's the full year really that you got to take the gauge, and we're expecting operating cash flow to be stronger this year than it was last year.

[Jack O'Brien, Equity Analyst]

And just thinking about sort of the accounting changes, IFRS 15, 16, et cetera. Are those expected to have an impact on the reporting?

[Daniel Shook, Finance Director & Director]

No, Jack, it's Dan. Not really. I mean, the one you're probably referring to is the leasing change, which will put operating leases on to our books from our perspective probably about GBP 100 million of assets that will come on as a result of that when we make that change. But obviously, it also changes our profitability and importantly EBITDA. For me, our main bank covenant is around debt-to-EBITDA and that's not going to change dramatically. So no real impact there.

[Jack O'Brien, Equity Analyst]

Okay. And perhaps just a final point of clarification. Roy, you mentioned a GBP 10 million restructuring cost and GBP 8 million benefit. Can you just clarify for the other 2 divisions what we're expecting this year in terms of restructuring both costs and benefits in light of sort of actions you're taking?

[Roy M. Twite]

Yes, look, we've said GBP 15 million in the full year. And that's Project Janus, we continue to work hard on that and Massimo has seen the benefits come through from improved supply chain. The -- probably the only thing that could be in addition to that is if Phil takes some overhead out of his organization, we haven't finished the business planning on that. But roughly, roughly, we've said about GBP 15 million of restructuring this year. The only movement you'd see above that is if Phil had some charges related to bringing down some overhead costs.

[Operator]

The next question is from the line of Glen Liddy from JPMorgan.

[Glen Liddy, Analyst]

For Precision, could you give us an update on new product launches? At the Hanover fair last year, you had a clutch of launches. Have you carried on with new product launches this year in a major way?

[Massimo Grassi]

Yes. Good morning, Glen. And, here is Massimo. Yes, we are. We presented last week at the Hanover fair 2 new major products, 1 being the new line of electric activation. And this is a combination between our new developed product, we developed it in Alpen, in our Center of Excellence for Linear Motion in Germany. And also we presented some products that we can benefit from the acquisition of Bimba. So for the first time, we presented a credible range in electric activation, and we presented also a clear answer to the request of our customers [ in terms ] of Industry 4.0 and Internet of Things. So our pipeline of great new products continue very positively. And with regards to what we presented last year at Hanover, we are very pleased about the output. Even if we need to remember that the percentage of new products in the overall revenue -- within the overall revenue is limited to around 10%. But we are very pleased with the contribution of new products.

[Glen Liddy, Analyst]

Okay. And for the Critical business. You're flagging the margin and the order backlog is starting to edge higher. Is that a combination of the self-help and Value Engineering? Or is the pricing climate less hostile now?

[Roy M. Twite]

Glen, it's Roy. No, I mean, the pricing climate is certainly not less hostile now, on new construction, the pricing climate is still tough. We still got few projects and all the competition chasing them. But what is happening is, we are using Value Engineering now in the aftermarket as well. And we are starting to marginally improve prices in some areas in the aftermarket. So you're seeing a higher content of aftermarket in our order book, which is helping the order book margins. You're also seeing slightly better margins in that aftermarket in our order book. And in fact, just at the moment, new construction margins are also just a smidge higher. But I'd say, on new construction we'll do well to hold the margins throughout the year because we're going after some bigger projects. And obviously, as we win those, that will take those margins back down, I'm sure. So the overall pricing environment of new construction is still tough and aftermarket is slightly better in some areas.

[Glen Liddy, Analyst]

And for LNG and the Oil & Gas world, the aftermarket. Over the last few years, we've had a slow start-up of LNG trains. Are they now sort of mostly coming on-stream and chomping through spares?

[Mark W. Selway, CEO & Director]

Yes, so we had extraordinarily spares last year on LNG. I mean, we had GBP 26 million worth of spares, and we've already indicated Glen, that about GBP 6 million or GBP 7 million of that was start-up spares. So we don't expect to get that this year, that GBP 6 million or GBP 7 million. But for the medium term, absolutely. We have been really pleased, Glen with the amount of spares that we got out of LNG. It's been a surprise actually on the upside over the last few years. Because we thought -- clean gas, we wouldn't get the same content of spares, but actually it's pretty similar to Power in terms of the amount of spares we get per pound of new construction sales. So yes, it's been a pleasant surprise.

[Operator]

[Operator Instructions] The next one is from Mr. Ryan Gregory from Liberum.

[Ryan James Gregory, Research Analyst]

Just couple of questions, please. Firstly, in Precision and Commercial Vehicle. What are your thoughts on the market globally here and the U.S. in particular? I've seen number of companies raising their forecast of 2018 in terms of units, but some are also talking about potential peak of the cycle. So just wondering what your thoughts are on that? And also there is quite a lot of commentary on U.S. trucks in terms of bottlenecks and supply chain constraints. Is that something you are seeing or is that a potential concern for you as you go through this year? And then, secondly, just a quick one on Hydronic. What do you expect in the market to grow at for 2018? And when you think you'll get back to growing in line with the market?

[Mark W. Selway, CEO & Director]

Commercial Vehicle in the U.S. is run particularly strongly. We've upped our forecast, as have most of the analysts in terms of the expectations for this year. There are supply constraints in a couple of markets, but it's certainly not affecting any of the componentry that we need to satisfy our orders in Commercial Vehicle. I think you've got to look at on a quarter-to-quarter basis because it has been bumping around a wee bit. But we're expecting a pretty good year in terms of North American volumes, very much in line with the progress that we've seen in the first quarter at 12%. So that's our best take on it. When you then have a look at the Hydronic market, it's running at about 1% to 2% growth in our core markets, particularly Germany. Our focus, as an organization, very clearly to get us back to high-teen margins in this business. I think we've quoted some stuff, particularly in terms of the emerging markets in the past, which hasn't paid its way. So Phil has been much more selective on those areas. So our chase this year is about margin and overall performance. And if that means we've got a flat revenue line, I'd be pretty happy with that as an outcome, provided we've got stronger second half margin performance.

[Operator]

The next one is from Mr. David Larkam from Numis.

[David Alexander Larkam, Analyst]

Couple of questions, please. Firstly, just raw materials. I think aluminum, maybe in Precision, can you talk about any pressures from that one? And then secondly, on the sort of tariffs, we're hearing potentially in Russia, on just the Energy here, Roy, anything we should know, any particular exposures there that could be a cancelations et cetera?

[Roy M. Twite]

Yes, David, I think raw materials across the board, there is needed to be some price increases across both Precision and Hydronic to recover the cost of materials over the last few -- last 6 to 12 months. And those increases have gone in and we've received the appropriate increases where we needed to. So we would expect that our overall selling price increases will offset our material cost increases during the year. And then, beyond that, the productivity to fall into our margin performance. So I think that's the material side of it. On Russia, David, yes. In our forecast for this year, we have got sales of about GBP 10 million, and we got orders of about just over GBP 20 million. So yes, if that suddenly -- if that did actually shut down and there were complete sanctions on Russia then that would be the sort of scale of it for Critical.

[David Alexander Larkam, Analyst]

Okay. Just going back on that material front. Do you expect to be a lag in terms of the prices coming through to you and passing those through, or, too?

[Mark W. Selway, CEO & Director]

So look, I think we've seen the largest impact of that lag and clearly, we've got hedges in place that cover off that period. And in addition to that, of course, we've got inventories that we have to roll through the system. So it's reasonably complex when you put all that in, but we're expecting selling price increase to offset inflation. And I think that's really the key issue in terms of it impacting the results.

[Operator]

And there are no further questions at this time.

[Mark W. Selway, CEO & Director]

Okay. Well, listen, thank you very, very much for joining us on the call today, and hope you have a great long weekend coming up. All the best.

[Operator]

Thank you. And that concludes our conference for today. You may all disconnect. Thank you all for participating today. Have a great day.