Q1 2022 Modine Manufacturing Co Earnings Call
Your line.
Good morning, ladies and gentlemen, and welcome the Modine manufacturing company's first quarter fiscal 2022 earnings conference call.
At this time all participants are in a listen only mode.
Later, we will conduct a question and answer session and instructions will follow at that time.
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As a reminder, this conference call is being weak or the.
I would now like to turn the conference over to your host.
Ms Kathy powers Vice President.
Treasury.
Investor Relations and tax.
Good morning, and thank you for joining our conference call to discuss the Marines first part of fiscal 2022 result.
None of this call by Neon Brinker of our President and Chief Executive Officer, and Mike Lucarelli, Our executive Vice President and Chief Financial Officer, Bobby I think 5 for today's presentation, which can be accessed either through the webcast link or by accessing the PDF file posted on the Investor Relations section of our website Modine Dot com.
On slide 2 is our notice regarding forward looking statements. This call will contain forward looking statements as outlined in our earnings release as well as in our company's filings with the Securities and Exchange Commission with that it's my pleasure to turn the call over to Neil.
Thank you Kathy and good morning, everyone.
Before reviewing our first quarter results I would like to provide an update on our most important strategic initiatives and provide some additional information on our recently announced leadership changes.
Start off I would like to provide an update on our automotive exit strategy and the current status of the sale of our liquid cooled the automotive business to Dana.
As I mentioned last quarter, the regulatory process in Germany has taken longer than originally expected.
In response to the concerns raised by the authorities, we voluntarily withdrew our regulatory filing in may.
We then work with Dana to revise the transaction and have resubmitted the filing in Germany, reflecting the new transaction we.
We will continue to work through this regulatory process. The cannot provide an estimated date of completion or guarantee any outcome.
Both companies are committed to completing the sale, but at this point it remains subject to approval by the German regulatory authorities.
Now I would like to move on to the state of our markets.
In general we continue to enjoy a robust business environment, which is positive for revenue, but it is creating inflationary challenges.
The number of items negatively impacting the first quarter, including incremental material and supply chain costs, along with continued impact of the tight labor markets.
Metals costs have continued to rise with aluminum copper and steel prices up substantially for the prior year.
In addition, we are working through mill capacity constraints.
<unk> impacts, both our direct spend and supplier availability.
We are relying on alternative sourcing when necessary.
Our recovering inbound premium freight costs wherever possible.
From a logistics standpoint, we are doing with the shortages of sea containers out of China, which is also driving up costs and our routing international inbound shipments to alternative ports in order to minimize the impact of the west coast congestion.
Like many others, we are definitely experiencing temporary cost issues and inefficiencies driven by all of the supply chain issues.
We have dedicated resources, managing our supply base and logistics prioritizing our greatest needs and establishing dual sourcing where possible.
To address labor shortages, we are sharpening our demand planning process. So that we can more efficiently manage our manpower requirements and avoid overloading our daily capacity.
We're also using <unk> to differentiate lead times by product in the region.
And finally, we continue to monitor the impact of the chip shortage, particularly related to our automotive business.
This is an evolving situation and we are developing plans and actions on how to mitigate the potential impact on our operations.
I would now like to discuss our recently announced leadership changes and give an update on our business transformation.
I am very pleased to have Adrian piece, and Eric Mcginnis join our executive management team.
Both Eric and Adrian have over 25 years of global industrial leadership experience and a proven track record of driving profitable channel growth.
Adrian will be leading our CIS segment and comes to Modine with a tremendous amount of global leadership experience executing on business turnarounds and driving operational excellence.
<unk> expense 23 years with GE, where he served as president and CEO of their consumer and industrials business in Latin America and prior to that served as president chemicals, the monitoring solutions, North America, GE water and process technologies.
From there we moved on to Grainger and was tasked with leading our international growth strategy and lastly to Republic services, where he served as the senior Vice President of emerging business operations and led the sustainability initiatives.
Our 80.20 work in the <unk> segment will provide a roadmap of priorities for Adrian and I'm confident that he will be able to improve margins in this segment by focusing our resources on our most important products and customers.
This includes improving pricing on low volume products, removing complexity through product line simplification and implementing precision selling techniques to differentiate how we engage commercially.
I know the he is up for this challenge and his leadership will allow us to achieve our goals.
Eric Mcginnis will be leading our building HVAC segment and is coming to us for Regal Beloit, where he most recently served as the president of their industrial systems segment.
As many of you know <unk> been at $8.20 journey for several years and has undergone a successful business transformation, both improving businesses and through a successful growth and acquisition strategy.
Eric has experience with 80.20 and his prior role as Vice President of business development, where he led Regal M&A and strategy group, making the perfect candidate to lead our building HVAC segment.
Eric will be responsible for leading our transformation in the segment, which share some of the fastest growing end markets for motive.
Using the 80.20 framework, we have been focusing on segmentation, which involves creating market based verticals led by general managers, who can operate entrepreneur early while improving speed and accountability.
Each of these general managers will have a supporting organization structure designed to focus commercial resources and drive end market demand and share growth.
We are currently focusing on several attractive markets, including data centers.
Heating and indoor air quality for schools and commercial buildings.
As I shared last quarter, we are expecting the strong growth in our data center markets to continue and are providing the leadership and resources necessary to allow the continued success of this business.
We plan to launch of new computer room Air handling unit in both Europe and the U. S. Later this year that will provide higher system efficiency and flexibility through customization and controls targeted both the co location and Hyperscale markets.
The support these initiatives, we have shifted our plant in Spain from our Crs organization to building HVAC to provide additional capacity for growth in the data center market.
This is an exciting time for modine as we build the foundation for our future.
We're getting our leadership team in place to strengthen our commercial and operational organizations. So that we can reduce complexity and accelerate growth.
Now I'd like to turn the call over to Nick who will review our results for the quarter and provide the segment updates.
Thanks, Neal and good morning, everyone. Please turn to slide 5.
Now I'll kind of extend the underlying trends and results I'll for.
Focus today on adjusted earnings our.
Our press release and appendix included additional information U S GAAP results and complete reconciliations.
During the quarter, we included $11.1 million of adjustments, which are comprised of 3 main categories.
First we incurred of $6.6 million loss on the sale of the air cooled automotive business in Austria, which was completed during the quarter.
Also as part of our auto exit plan, we had a number of items that netted to nearly zero, including other divestiture cost and the net impairment reversal.
Next we recorded $3.5 million of environmental charges related to of previously owned U S manufacturing facility.
Third we incurred 900000 of reorganization and restructuring costs.
First quarter sales and earnings were quite strong as expected. Despite a number of obstacles within the supply chain, mostly relating the tight labor market and material prices and shortages.
Like many companies of our first quarter sales growth was quite strong due to significant impact from the pandemic last year and favorable foreign exchange rates.
Sales were up 42% and over 35% on a constant currency basis as all segments reported significant improvement.
<unk> adjusted EBITDA was up 62% driven mainly by the higher sales volume.
On the right side of the slide we show of the major components of the $12.8 million increase in adjusted EBITDA.
Our gross profit margin showed 150 basis point improvement.
Partially offsetting the strong volume the quarter was impacted by the material inflation, along with higher supply chain costs.
Despite our price adjustment mechanisms we.
We absorbed approximately $13 million of higher material costs.
We're up 11%.
The market has remained strong and our order book shows higher growth levels for the balance of this year with our new product offerings and increase manufacturing capacity.
As we anticipated adjusted EBITDA was relatively flat versus the prior year, despite the higher sales.
The gross margin was lower than the prior year due to the rapid increase the metal prices, particularly steel.
Our teams are already adjusting pricing plans and mechanisms to offset the negative impact.
In addition, temporary cost savings actions in the prior year helped to boost the profit margins.
Last we are adding resources in this segment to support data center growth in line with our strategy.
This contributed to higher costs, it will be more than offset with the planned revenue growth given all of these factors, we anticipate an increase in the second quarter profit margin and for the balance of the year.
Please turn to page 7.
The EIS sales were up 30% or 24%, excluding a favorable currency impact the increase was primarily driven by a 38% increase the commercial HVAC customers.
And of 44% increase in the refrigeration market.
Similar to building HVAC, we are adjusting our commercial strategies to address rising commodity costs, which will lead to further margin improvement.
As a reminder, we are in the process of consolidating our global data center business under 1 organization.
Which will reside under building HVAC.
In July we began moving the financial reporting for data centers from Cif to building HVAC. This will not only in line our internal teams, but help our investors to better file of the future growth trends.
SG&A increased this quarter due to the lack of COVID-19 savings, but declined as a percentage of sales.
Adjusted EBITDA improved $4 million on higher sales, resulting in the 90 basis point profit margin improvement.
Please turn to page 8.
The heavy duty equipment markets are experiencing very robust recovery from the pandemic levels.
Sales in the HPE segment were up 63% with higher sales in all of our end markets.
Medium and heavy duty truck sales were up nearly 80% with significant increases across all regions.
Boston and specialty vehicle sales increased over 50% with the largest growth in the Americas region.
Our off highway sales were up nearly 50% globally with the largest gains recorded in the Americas and Europe.
The gross margin improved 200 basis points to 11, 2%, which is the lower than our recent run rate.
This was primarily due to the significant rise of materials freight and packaging costs.
As a reminder of our HPE and the auto segment are generally more susceptible to material fluctuations and the timing of related pass through agreements.
We are working diligently to maximize the recovery of all costs.
We anticipate that will take another quarter before we see it flow through.
SG&A was up approximately 13%, but well below the rate of revenue growth.
As a result, adjusted EBITDA was up $9.9 million, including a 310 basis point improvement in the EBITDA margin.
Please turn to page 9 and.
And I will shift to the automotive segment.
First quarter sales were up 28% excluding of $7 million positive currency impact driven by higher market demand primarily in Europe.
Adjusted EBITDA for the segment was $2.3 million of 900000 from the prior year, primarily due to the volume increase largely offset by higher material costs and the impact of Covid savings in the prior year.
We anticipate more difficult comparisons in our auto business.
During the balance of the year.
Last year auto sales rebounded quite quickly after the initial COVID-19 wave and remained relatively strong for the full year, making sales comps more difficult.
In addition, we benefited from a number of Covid cost savings initiatives last year, especially across Europe.
Lastly.
We are seeing some reductions in orders due to supply chain shortages of semiconductors.
Bear in mind that the balance of the year will exclude the air cool business, which was sold in our first quarter.
The estimated annual revenue the impact will be approximately $55 million to $60 million.
Now moving to the balance sheet, please turn to slide 10.
As anticipated our first quarter free cash flow was negative which is normal for our first fiscal quarter.
This was due to the planned increases in working capital and the timing of the incentive compensation payments.
The first quarter of last year was unusually strong from a cash flow perspective, due to COVID-19 related cash preservation efforts.
Along with the drop of in working capital due to the lower sales.
Our Q1 leverage ratio of 2 times comfortably within our target range.
And we expect our free cash flow to show sequential improvement as the year progresses.
As a result, we anticipate that full year free cash flow will be positive, but below the record levels of produced last year. This is mostly due to the increase of working capital required to support the sales recovery.
Along with the higher capital spending.
Now, let's turn to slide 11 for our fiscal 'twenty 2 outlook.
We are holding our full year outlook based on the continued strengthening of across our core market.
While the higher sales volume and to adding more supply chain challenges, it's helping offset the related inflationary impact.
As I cover last quarter, our largest challenge remains the raw material costs within the vehicular businesses.
The metals are up significantly over the prior year with aluminum and copper of $40 to 50% and most deal up over 100%.
We currently anticipate the total net impact of material and supply chain of inflation could exceed $25 million this fiscal year.
I would also like to remind everyone that our guidance includes the full year of our auto segment, including the business that is pending the sale to Dana.
With regards to other key assumptions, we expect the annual interest expense in the range of $14 million to $15 million and.
And the adjusted tax rate to be in the mid <unk>.
Based on all of these factors, we continue to anticipate consolidated sales growth of 12% to 18%.
And an adjusted EBITDA range of $170 million to $185 million.
We anticipated that our first quarter would represent a low watermark from an earnings and the margin perspective due to the inflationary challenges.
For the time it takes the fully pass through these cost increases.
It's important to point out that we do not expect the step function change in our earnings between quarters due to the nature of our commercial agreements.
Rather we project flow steady improvement in both margins and earnings as each quarter progresses.
With that we'd be happy to take your questions.
Thank you.
If you have a question at this time the express the Star then the number 1 key on your Touchtone telephone.
Thanks for your question, that's been answered or you wish to remove yourself from the queue. Please.
Of these spreads for the balance sheet.
Our first question is from Matt Summerville.
Of D a davidson.
Thanks, Mick to to get back to the $25 million and you just referenced is that the growth or a net number in terms of offsets and is it possible to try and split that out a little bit of across the businesses just to give us the feel for how that impacts the vehicular side versus the other pieces.
Good morning, Matt.
When we go through the.
Of the detail for that $25 million I gave you the vast majority of it fits within our vehicular businesses.
Probably the about $20 million or more of that will fit within.
HPE and automotive.
And that's primarily based off.
On the lag effect based on our pass through arrangements and agreements with those customers. It is the net number.
So we're.
We are clearly there is a significant number I talked the last time about based on the and not in the amount of material, we buy in pounds millions of pounds of aluminum copper steel the growth cost increases are well greater that the gross costs there.
In the $50 million to $100 million range.
And that net number.
It is at a loss number it's going to be of catch up though when we look through the fiscal year, assuming the <unk> metals eventually level out we will catch up to that but we're anticipating now that there will be that lag. So the 25 is the net number.
The vast majority of it fits and HPE and auto.
Got it.
As a follow up Neil I was hoping you could just do a little bit more of a deeper dive now that you've been here for a couple of quarters.
For what you've been doing with 80.20, specifically in the data center, but across the company.
More broadly so looking for a deeper dive there and the Mick if you can also comment on free cash in terms of what should be a realistic conversion rates. This year. Thank you.
Sure Hi, Matt Good morning.
As you know, we piloted and started 80.20 in data center deliberately of that is the.
An area, where we have the highest potential of growth we have strong market position the good customer base and products that differentiate and as we've evolved over the last couple of quarters, we've reorganized and we're starting to the consolidation of our engineering efforts, our commercial efforts and most recently as we announce.
<unk>.
Today on the operations side, where we've moved the Spain plant from Cif into the building HVAC group to help.
Increase our overall capacity globally.
Also through our 80.20 work, we're dialed in with some of our customers, particularly of the co location market.
And especially the ones that are thinking about single tenant usage and we're doing this through further capacity expansion not only in Europe, but in the.
North America, as well in Virginia, particularly where we're utilizing our our HVAC plant 2.
The capacity so a lot of effort and energy at the beginning of 2020 has been focused on data centers, because that's where the growth is.
And.
We're doing quite well.
And we're to the point now it is our own capacity expansion because we have of strategy in place that supports our 80.20 initiatives and we're moving forward now with that said, we with the success of the so far we are now starting to roll into the other areas of the organization, where we started the segment around our market based verticals and in order to.
To do that we needed to get some leaders in place that have strong P&L experience and Thats, where Adrian and Eric come into play that are going to be extremely important. The next level is bringing in general managers and additional P&L support so that we can rollout the.
Data Center type 80, 20 approach with other parts of the business. So we've collected the data were well on our well without of lag.
Seen the success of data centers, and we're going to contribute the cash paid that throughout the organization.
Matt I'll jump in on to you and ask the question just about cash flow.
So and as we look full year, the Capex, we talked about being higher this year and part of that will depend on where we end up with timing of the the automotive divestiture, but we're planning on higher Capex. This year in that $60 million to $70 million range, and then with the volume coming back.
Higher working capital as well for months.
As the year progresses, we're anticipating each quarter will get sequentially better from a cash flow standpoint, improving in Q2 over Q1.
And then a much stronger second half of the year based on 2 things the XE to imagine, though we're working capital of level out pluses. We worked through a lot of the supply chain logistics challenges, we're planning to work down some excess working capital.
And then.
From a conversion standpoint, we're going to be positive free cash flow. This year below last year last year was the just an awesome year based on the combination of the Covid cash preservation and some other items going on but probably the way to think about it would be the ratio of the sales will probably be in the 2.5.
Half the 3% range.
The good target for us the shoot for this year.
Got it thank you guys.
Thank you. Our next question is from speeds of ferrous Zhang from Sidoti <unk> Company.
<unk>.
<unk> co earnings call.
Q1 of the basketball for guidance, because certainly is worth the latter stages of earnings season, I think there's been the acknowledgment.
Materials costs and supply chain issues are less transitory that were expected 3 months ago, and everyone's sort of adjusting their outlook for the year based on.
Acknowledging that maybe there is more pressure there in the back half of the year that were expected I'm trying to think long. If you agree with that and then true of PQ <unk> are there other things you have seen that a more positive over the last 3 months of enables us to maintain that guidance.
Yes.
Hey, good morning, Steve its Nick I'll go first of kind of give you some.
Quantitative or view from the forecast standpoint, and the Neal has got a lot more color around <unk>.
Operation side of it and from the business side.
No.
A couple of things, we see going on and Thats, what youre talking about in our guidance was we see sequential improvement 1 is as I talked about at the beginning we have a significant amount of contractual price through to manage and put through in our process on the vehicle.
<unk> side, which is customary as part of our LTA.
Thats.
1 positive element of it the <unk>.
1 is we frankly in our mix of business, we start moving into a much heavier mix in our building HVAC business and.
<unk>, yes so.
Some of the issues, we're seeing around copper aluminum steel.
Our heavily impacting the vehicular business, we talked about the chip shortage on the auto side.
On the data center growth the HVAC growth there are challenges there but.
What we see there is a much better ability for us to manage the cost real time and also manage the supply chain it isn't that there isn't.
Global headwinds and I will let Neil comment on that but I think from our side, we see a combination of.
Passing through prices and our mix of business changes through the year, which would be favorable or help us manage through the you want to add more no. That's a good that's a good answer and good morning, Yes, we are seeing this as well with the supply chain, primarily with the logistics logistics have been extremely challenging for us and we.
Put together of tactical team in order to manages the monitor it on a daily basis. So that is part of our daily management process.
In terms of making sure that we have the right parts of the right place and the right plant at the right time, and then on the supply chain side of their lead times are extending.
We would see improvement.
Previously, but with the labor constraints not only that we're experiencing.
Net with our supply chain as well and with these expanded lead times or having to do.
Yes.
We're having to do unique things in terms of managing our pipeline with the inventory sometimes that includes the increasing our inventory levels for safety stocks. So it is it is.
Net of the challenge, it's extremely tactical right now and its something thats at the forefront of US co organizing daily and weekly.
That's helpful. Thank you.
The first 1 I'm not sure of what you can add for detail in terms of the.
We submitted divestiture of proposal.
Is there any color you can add in terms of the changes you made and why you think that was necessary and why you think.
Any commentary on that.
Sure the neck of you then.
The best update I can.
The.
Can't give details now and give you a little color around it.
The links to our previous announcements debt as we looked at concerns with the German regulatory authorities.
We got together with Dana and agreed on some changes on the perimeter in the perimeter as.
What basically included in non included in the transaction.
And we think based on discussions and feedback from the regulatory authorities. That's why both parties thought it was the right approach given how far we were in the process.
We're not going to give more detail than that right now for 2 reasons..1 is we are clearly in a regulatory review process and.
And 2 we're working through those details.
With Dana as well in parallel as you can imagine prior to this there is a lot of work and effort into a lot of agreements between the parties and then with the change in that it takes time the flow of those completely through.
As soon as we get feedback.
On the regulatory process the <unk> a.
David.
Definitive agreement with the 2 parties then we will provide a more detailed update.
Great Thats helpful for sure.
Just wanted to ask about you announced the leadership changes and just thinking about the 80.20 process.
Union.
Additional leaders.
Is it reasonable to think that there is additional costs before you start seeing the margin improvement.
Can be driven by 2020.
So additional costs.
Can you elaborate on the question sure.
Sure just to announce 2 pretty senior level.
Sure of course.
Understood.
Well.
Maybe temporarily right.
But at the end of the day, what we can do with.
Strong P&L ownership individuals that are driving strategy and helping us win.
The day to day basis, it will pay for itself.
Multiple times over so maybe in the temporary youre correct, but the long term payback in this investment.
Exactly where we want to be.
And then I guess with that filing.
Planning for that would just be if we back out those environmental costs will not of SG&A line mix of that SG&A would be of a reasonable run rate for the year.
Yes, Thats a good.
A good point.
<unk>.
The only items in there.
Yes, that's the right run rate to use the.
Okay great.
Thanks, everyone appreciate all of the responses.
Thank you.
Yes.
Thank you.
I am showing no further questions at this time I would now like to turn the conference back to the Scotty batteries.
Thank you for joining us this morning, a replay of the call will be available through our website in about 2 hours. We hope everyone has a great day.
This concludes today's conference call. Thank you for participating you may now disconnect.
Okay.
Thank you.
Yes.
Okay.
Yes.
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