Q3 2020 Lincoln Electric Holdings Inc Earnings Call

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Greetings and welcome to Lincoln Electric 2023rd quarter Financial results Conference call. At this time, all participants are not listen only mode and this call is being recorded it is my pleasure to introduce your host Amanda Butler, Vice President of Investor Relations and communications. Thank you you may begin.

Thank you Howard and good morning, everyone welcome to Lincoln Electric's, 2023rd quarter Conference call. We released our financial results earlier today and you can find our release as an attachment to this call's slide presentation as well as on the Lincoln Electric website at Lincoln Electric Dot Com in the Investor Relations section.

He me on the call today is Chris Mapes, Lincoln's Chairman, President and Chief Executive Officer, and gay Bruno our Chief Financial Officer.

This will begin the discussion with an overview of our quarterly results and our cost reduction initiatives and gave will cover our third quarter financial results in more detail following.

Following our prepared remarks were happy to take your questions, but before we started a discussion. Please note that certain statements made during this call may be forward looking and actual results may differ materially from our expectations due to a number of risk factors a discussion of some of the risks and uncertainties that may affect our results are provided in our press release and then.

<unk> SEC filings on forms 10-K and 10-Q.

In addition, we discuss financial measures that do not conform to U.S. GAAP a reconciliation of non-GAAP measures to the most comparable GAAP measure is found in the financial tables in our earnings release, which again is available in the Investor Relations section of our website at Lincoln Electric Dot com and with that I'll turn the call over to Chris Me Chris.

Thank you Amanda good morning, everyone.

I'm pleased to report strong third quarter results as we continue to navigate the issues associated with the global pandemic it.

It is important and I'd like to highlight once again that our organization did an outstanding job operating safely in a challenging environment, well servicing our customers and generating long term value for our stakeholders I'm very proud of our entire team.

As we move to slide four our third quarter performance exceeded our expectations sales declines narrowed to 8.5% due to strong recovery momentum and retail channel strength.

We held adjusted operating income margins relatively steady versus prior year at 12.6% on improved operating leverage price management and $27 million of cost savings benefits.

This resulted in a 12.3% decremental margin in the quarter.

Adjusted earnings per share increased one cents to $1.10 cents and we generated top quartile returns on invested capital at 18.4%.

Cash flow generation was strong at $90 million with 117% free cash flow conversion.

We continue to invest in the business to support our long term strategic goals and remain focused on growth projects and operational efficiency.

We returned $29 million to shareholders through our dividend.

Our balance sheet remains strong with increased liquidity and reduced debt levels.

And our confidence in the business model allows us to invest in the long term growth increase our dividend and resumed share repurchases as part of our capital allocation strategy.

Moving to slide five.

The business saw sequential improvement in demand trends through the third quarter across all reportable segments.

While the pace of recovery has deferred by geography.

All geographies improved in the quarter.

Led by steady year over year performance across the broader Asia Pacific region.

Mid single digit percent declines in Europe, and mid teens percent declines in the Americas.

By products demand for our standard equipment systems remain the most resilient declining at a mid to high single digit percent rate, while consumable and automation declines improved to a high single digit percent rate.

By end sector, approximately 45% of our revenue was exposed to growth with general fabrication and infrastructure construction sector sales up in the quarter.

Our automotive declines narrowed substantially as us and Chinese auto production recovered to prior year levels in the quarter driving higher demand for consumables.

Capital spending in the sector remain challenged.

Heavy industry and energy compressed further in the mid 20% range on weak capital investments and low oil prices.

Additionally increased strength in the retail channel was notable in our Harris products group segment in the quarter driven by the DIY sector.

As we approach the fourth quarter, we have ongoing concerns over the reemergence of co bid.

OEM activity at the end of the year with their production plans and typical seasonal slowing that we have seen in October across all segments.

We expect fourth quarter, our organic sales to decline at a similar rate as the third quarter.

Turning to slide six give.

Given the uncertainty in the shape of the recovery, we maintain stringent temporary cost controls in third quarter and recognized increased permanent cost savings, which resulted in $27 million in savings in the quarter.

This substantially exceeded our initial savings plan of $10 million to $15 million.

As a result, we now expect to generate $80 million to $85 million of cost savings in 2020 with.

With approximately $20 million of savings in the fourth quarter split relatively equally between temporary cost savings and a $10 million to $11 million exit run rates in permanent cost savings.

We expect this will result in fourth quarter decremental margins of high teens to low 20% range.

Looking to 2021, we expect to generate 20% to $25 million of incremental permanent cost savings in 2021 substantially in the first half of the year and an incremental $4 million of temporary cost savings in the first quarter.

These actions combined with improving markets to generate topline growth position us to deliver our normalized 20% to 25% incremental margins in 2021, even with higher wage and incentive compensation costs next year.

I remain confident in Lincoln's position navigating into 2021, and our ability to capture growth as regions and end markets rebound.

This challenging year has demonstrated the strength of our global team our business model and our ability to invest in long term value creation through a cycle, while returning cash to our shareholders. It.

It is these strengths that are the hallmark of Lincoln 125 year legacy and brand.

Before I turn the call over to Gabe I would like to congratulate Steve headland on his expanded role as president of both Americas welding and international welding.

Steve has been with the organization for over 12 years. During his tenure he has been instrumental in the development and growth of our strategy.

We've opted to centralize the leadership of the two welding segments under Steve to accelerate our higher standard 2025 strategy, which leverages standardized processes consistent global customer experiences shared back office services and product development platforms. After.

After several years of investments to align the regional welding strategies, we felt that we're in an excellent position to leverage a more efficient leadership structure as we execute on our 2025 higher standard strategy.

And now ill pass the call to gave to review third quarter financials in more detail.

Thank you, Chris moving to slide seven our consolidated third quarter sales declined 8.5% as a 1.2% benefit from price was offset by 9.5% lower volumes and 20 basis points of an unfavorable impact from foreign exchange.

Our gross profit margin decreased 40 basis points to 32.2% as benefits from cost reduction actions and price management were offset by the unfavorable impact of lower volumes price cost was relatively even in the third quarter.

Our EPS Gina expense declined, 11.4% or $17 million, reflecting savings from our cost reduction actions and $2 million in lower incentive compensation EPS.

DNA as a percentage of sales decreased 70 basis points to 19.6%, we expect an increase of approximately $1.5 million in year over year incentive compensation expense in the fourth quarter.

Reported operating income decreased 12.1% to $77.8 million or 11.6% of sales operating income results included $6.3 million of rationalization charges. The quarter also included a $3.2 million.

Pension settlement charge in the Americas segment, excluding special items, adjusted operating income declined 8.3% to $84 million or 12.6% of sales.

10 basis point increase versus the prior year.

Adjusted operating income benefited from $27 million in cost savings and $2 million in lower incentive compensation expenses.

Our decremental adjusted operating income margin was 12.3% in the quarter.

Our third quarter effective tax rate was 20.2% due to our mix of earnings and discrete items. This compares with 21.1% in the prior year period.

We now expect our full year 2020 effective tax rate to be in the low 20% range subject to the mix of earnings and anticipated extent of discrete tax items.

Third quarter diluted earnings per share decreased 17.1% to 97 cents compared to a $1.17 in the prior year, excluding 13 cents of EPS from special items adjusted diluted earnings per share increased one cents from the prior year period to a dollar.

10.

Now moving to our reportable segments on slide eight.

Americas welding segment's third quarter, adjusted EBIT declined 20.2% to $59.1 million. The adjusted EBIT margin declined 90 basis points to 14.7% as benefits from cost reduction activities lower disc.

Aggression, aerie spending and lower incentive compensation expense were offset by the impact of lower volumes looking at the topline Americas welding reported a 16.2% decline in organic sales, reflecting growth in general industries construction and infrastructure.

As well as improving demand trends in automotive.

The segment's price performance was reasonably steady with a 20 basis point decline in price.

Moving to slide nine.

The international welding segment's adjusted EBIT increased 31.9% to $13.4 million and the adjusted EBIT margin increased 180 basis points to 6.7% benefits from cost reduction activities lower discretionary spending.

To help mitigate the impact of lower volumes.

Organic sales decreased 5.3%, reflecting ongoing recovery in key European and sectors and relatively steady organic sales performance in Asia Pacific compared with the prior year.

Moving to the Harris products group on Slide 10.

Third quarter, adjusted EBIT increased 59.3% to 17.6 million.

Adjusted EBIT margin increased 400 basis points to 17.2% strong.

Strong growth in the retail channel price management and cost reduction actions drove record margin performance.

Growth in the North American retail channel and broad improvement in Harris's other end markets resulted in a 12.8% an increase in volumes price increased 11.6% on rising commodity costs, notably in silver and copper.

Moving to slide 11.

We generated $90 million in cash flow from operations and a 117% cash conversion ratio from strong free cash flow.

Working capital remained intentionally elevated but improved sequentially as we continue to leverage previously built inventory established to support the recovery.

We expect our working capital ratio to improve sequentially in the fourth quarter.

We strengthened our liquidity position and maintained a strong balance sheet profile in the third quarter.

As highlighted on slide 12, we have maintained an investment grade profile balance sheet with no near term debt maturities we.

We further reduced our short term debt by $48 million in the quarter.

Which increased liquidity to $602 million.

Our strong cash flow generation and lower use of working capital in the fourth quarter is expected to deliver continued strong cash conversion performance.

Moving to slide 13.

We are continuing to maintain our disciplined capital allocation strategy, we invested $12 million in capital spending and now expect full year capital spending to be in the range of $50 million to $60 million.

We returned $29 million to shareholders during the third quarter through our dividend program and last week, we announced our 20 fiveth consecutive annual dividend increase by 4.1%.

Given the strength and confidence of our cash flow generation balance sheet and top quartile return performance, we are maintaining M&A activity as part of our growth strategy and we are now resuming share repurchases on an opportunistic basis with that I would like to turn the call over for questions.

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Howard could you lead us into the queue of questions.

Im sorry, I was on mute, ladies and gentlemen at this time, we will be conducting a question and answer session.

Good question during the session you will need to press Star then one on your telephone keypad. If your question has been answered or you wish to remove yourself from the queue simply press the pound cake.

Sure that everyone has an opportunity to participate we ask that you ask one question and one follow up question and then return to the queue.

Our first question or comment comes from a line of saree Boroditsky from Jefferies. Your line is open.

Thank you good morning.

Whereas our appliance came in better than expected and you noted that you're building inventories resuming share repurchases, but it also looks like you missed initiated a voluntary separation program with potentially claims to the continuation of lower volumes.

Talk about how you're thinking about a recovery at this plant I know, there's a lot of uncertainty, but maybe how it differs by region.

Well sorry. This is this is Chris look I think that when we when we think about the business on the recovery to your point the recovery still looks very choppy I mean as you saw from our results are up our Harris products business segment had an outstanding quarter and their business really position towards the hvdc market as well as the retail do it yourself.

Shelf market place and we saw very strong demand from that particular area of the business. Our Americas business continued to improve through the quarter, but is trailing a little bit some of the recoveries that we're seeing and other areas of the world and Southeast Asia has started to recover more quickly and we were very pleased with our performance.

In the international space, especially in Europe, but I believe that's really a follow up to the conversations we've been having with you relative to putting the inventories in place and ensuring that our customer service models could support our customers. During this recovery and I believe we are benefiting from that and that particular marketplace.

As we shared with you by segment.

It's still also a little bit choppy, we saw some improvements and now we've got 45% of that revenue exposed to what we believe are growing in sectors, but we still see some of the challenges associated with the oil and gas markets as well as some of the heavy industry markets that are out there. Although we certainly believe that that could be an opportunity for us as we are migrating.

Through 2021, especially the latter parts of 2021, so it's still a very choppy demand marketplace, but very happy with the way our teams executed in managing the business in the quarter and still very opportunistic about believing that we're going to continue to see improvements in the business moving into 2002.

21.

Thank you and then Harris, obviously had a very strong volume growth and this quarter could you talk about what you're seeing retail demand for.

Yes, you are selling very your actual customer demand with any of this relates restocking and then maybe any guidance on how we should think about pricing in Harrison, our fourth quarter and 2021.

Wallet gave talk a minute about the pricing or with era, but as it relates to the demand outlook. We work very closely with the with those channels and at the end of the day. There wasn't anything that was unique other than the unique this it's driven by the demand model from consumer behavior centered around the pandemic.

And obviously I wouldn't expect it to repeat at that level next year, nor do I expect it to necessarily repeat at that level as we are migrating into Q4.

But great execution by the team in being able to meet that surge in demand that we saw in Q3, we.

We still think that this is a very good business for us and we're very happy with the continued improvements we've made at the Harris business, but I wouldn't expect necessarily that that demand that we've seen in Q3 in that particular channel would replicate in wouldnt necessarily replicate at that level in Q4, although we would expect it would be above.

Q4 of 2019.

If this is really just to add a comment on pricing as Chris mentioned so.

And we have a very disciplined pricing mechanism in place.

As commodity.

Prices change so the pricing changes that you saw in the third quarter were driven by the escalation in silver and copper prices, which.

Can't predict where that will head, but in general as prices move on those commodities. We also have the discipline to adjust pricing as appropriate.

Great. Thanks, Dave My question Scratch places on the quarter.

Thank you.

Thank you. Our next question or comment comes from the line of Nathan Jones from Stifel. Your line is open.

Hi, good morning, everyone.

Good morning, good morning.

Follow up on sorry.

Questionnaire on has particularly on pricing.

Copper is certainly up but you know.

It's been very recent that copper has has really shown any any inflation here and this story I've always thought from you guys is that it's fairly difficult to push pricing through the DIY channel the customers there but.

Pretty good pricing power.

You think the little bit of taking advantage of some of the strong volume to be able to push pricing through there and given that the pricing in the first half the Harris pretty flat should should we expect if commodities maintain why they are the savings on to pricing leverage for Fourq you had in the first half of next year as well.

When it Nathan just to be clear and then on the retail channel you're right has a different dynamic in terms of its product mix and the combined.