Q2 2022 Timken Co Earnings Call
Cash flow year to date has been modest and impacted by both seasonality and supply chain challenges, but we expect to generate significant cash in the second half of the year.
Receivables will decline with seasonality and we're focused on improving inventory management as the supply chain stabilize.
Our balance sheet remains strong and combined with the cash flow, we expect capital allocation to contribute meaningfully to next year's results.
Turning to the outlook short term uncertainty remains elevated.
I won't run through all of the macros that have moved significantly this year, but there are clearly a lot of them and many of them are concerning <unk>.
Despite the concerns I would say that we have not seen any meaningful change in customer sentiment or behavior since last quarter.
In total demand for timken products and technology remains strong and we are innovating and winning in the marketplace.
Orders in the second quarter continued to come in at a pace slightly ahead of revenue levels and customers are generally preparing for growth both in the second half and next year.
At the midpoint of our outlook, we will grow revenue, 9% organically for the full year and 7% after netting off the impact of currency and acquisitions.
From an EBITDA perspective, we feel good about the price cost dynamic for the rest of the year and mix is also trending favorably.
The step down of 200 to 400 basis points in EBIT margin from the first to the second half is normal for us and the midpoint of our guide implies around 300 basis points.
Revenue inventory and costs all play a role in this margin seasonality.
<unk> seen from the last few years it does not imply that margins won't bounce right back up in early 'twenty three.
The midpoint of our guide would result in earnings per share of about 20% greater than last year's record.
In summary, we remain on track to deliver record sales and earnings for the year in this dynamic environment.
And when you look at Timken financial performance over the longer term you can see the strength and consistency in our results.
I'd like to point out slide nine in our earnings material, where we've summarized our performance over the last four years plus estimates for 2022 at the midpoint of guidance.
As you know through this five year period, we've been faced with a wide variety of macroeconomic conditions. Many.
Many of those conditions were favorable and many were unfavorable.
And the last five years, we've had industrial market conditions that have range from bad to excellent.
A pandemic or in Europe tariffs tax policy changes labor shortages inflation supply chain challenges are more.
Through all of the good and bad market conditions over the last five years Timken has consistently performed at a high level.
With one in the marketplace with our products, our technical sales model and our excellent service and we are steadily deployed capital back into the business and directly to shareholders.
2018 was a strong industrial market globally timken delivered a breakout year with earnings over 30% higher than our prior record.
And off that challenging comp we are on track over this five year period to grow revenue, 24% grow earnings, 35% and operate between 17, 4% and 19, 2% EBIT margins.
Five years of extremely dynamic market conditions, and only 180 basis points of margin variation in four years of record revenue and earnings.
And so we look forward to the next five years Timken is a stronger company in 2022 than when we entered 2018.
We are better positioned to win with a more diverse and attractive end market mix and a broader product portfolio.
And financially, we're a larger company generating more EBITDA and more cash flow and we have ample opportunities to continue to deploy that capital into value creating opportunities.
Yeah.
As Neil just mentioned, we recently announced that we'll be holding an investor day, virtually and in New York in September and.
And we look forward at that event and sharing more with you on what the next five years could look like for Timken.
We have proven our ability to consistently create value through industrial cycles through evolving technologies and a variety of macroeconomic conditions.
We've put ourselves in a great position to accelerate that performance and we're excited about the opportunities in front of us and confident in our abilities to capitalize on them.
That concludes my remarks, and I'll now turn it over to Phil.
Okay, Thanks, rich and good morning, everyone.
For the financial review I'm going to start on slide 11 of the presentation materials.
With a summary of our strong second quarter results.
Revenue in the quarter was $1 2 billion up eight 5% from last year and an all time quarterly record for the company.
We delivered an adjusted EBITDA margin of 20% for the second quarter in a row.
And we achieved all time record adjusted earnings per share of $1 67.
An outstanding quarter, all the way around especially considering the choppy environment, we faced during the quarter.
Turning to slide 12, let's take a closer look at our second quarter sales performance.
Organically sales were up over 11% from last year, reflecting solid growth across both segments and most end market sectors.
As well as the impact of net positive pricing.
Currency was a notable headwind on the topline in the quarter, while acquisitions, including the spin acquisition, which closed at the end of May contributed modestly.
On the right hand side of this slide you can see organic growth by region.
So excluding both currency and acquisitions.
All regions were up in the quarter versus last year with the Americas, leading the way.
Let me provide a little color on each region.
We were up 29% and Latin America, driven by strong growth broadly across most sectors led by industrial distribution.
In North America, our largest region, we were up 14% with most sectors up led by distribution off highway and automotive.
In EMEA, we were up 8% as we saw strong growth in distribution off highway and general industrial offset partially by lower renewable energy and rail revenue.
And finally in Asia Pacific, we were up 5% as.
Sales were down in China due to the impact of Covid, lockdowns, but up significantly across the rest of the region.
From a market standpoint, the rail and industrial sectors were notably up.
While renewable energy was lower.
Turning to slide 13, adjusted EBITDA was $231 million or 20% of sales in the second quarter.
Compared to 200 million or 18, 8% of sales last year.
Adjusted EBITDA was up $31 million and margins were up 120 basis points.
As we delivered an incremental margin of 34% on the higher sales in the quarter.
Looking at the change in adjusted EBITDA, we benefited from higher volume and favorable price mix.
Which more than offset the unfavorable impact from material and logistics costs net manufacturing performance and higher SG&A other expense.
Let me comment a little further on a few items.
As I mentioned price mix was positive and a key driver to the strong results for the quarter.
Pricing was meaningfully higher in both mobile and process industries, reflecting our pricing actions over the past 12 months.
Mix was also positive driven mainly by strong distribution sales.
Moving to material and logistics as expected, we saw significantly higher costs in the second quarter compared to last year.
Driven by inflationary pressures and ongoing supply chain challenges.
On the manufacturing line, we were negatively impacted by higher energy labor and other costs.
As well as continued operating inefficiencies.
Which more than offset the benefit from higher production volume in the quarter.
And finally on the SG&A other line costs in the second quarter were up in dollars driven by higher compensation expense and other spending to support increased sales levels.
But SG&A was down slightly as a percentage of sales as we continue to leverage our cost structure.
On Slide 14, you can see that we posted net income of $105 million or $1 42 per diluted share for the quarter on a GAAP basis.
This includes 25 of net expense from special items, driven mainly by pension re measurement in Russia related charges.
On an adjusted basis, we earned $1 67 per share in the quarter up 22% from last year, and a new timken record for any quarter.
You'll note that we had 4% fewer shares outstanding in the second quarter compared to last year, reflecting our buyback activity over the past 12 months.
Interest expense was up slightly from last year due mainly to our recent bond issuance.
A portion of which was used to fund the <unk> acquisition.
And finally, our second quarter adjusted tax rate of 25, 5% was in line with expectations.
Now, let's move to our business segment results, starting with process industries on slide 15.
For the second quarter process industry sales were $610 million up more than 7% from last year.
Organically sales were up about 10% drill.
Driven by growth across most sectors with distribution and general industrial posting the strongest gains.
Heavy industries and industrial services were also up.
Marine was down modestly due to supply chain constraints affecting the timing of revenue recognition.
And renewable energy was also lower year on year, although sales were up sequentially from the first quarter.
Pricing was positive.
Currency translation was a headwind in the quarter.
Process industries adjusted EBITDA in the second quarter was $165 million or 27% of sales.
Compared to a $142 million or 25% of sales last year.
The increase in segment EBITDA margins was driven mainly by positive price mix and the impact of higher volume, which more than offset higher operating costs in the quarter.
Okay.
Now, let's turn to mobile industries on slide 16.
In the second quarter mobile industry sales were $544 million up 10% from last year.
Organically sales increased 13%.
Off highway posted the strongest gains.
Were also up double digits in the rail heavy truck and automotive sectors.
While aerospace was down modestly due to lower defense revenue.
Pricing was positive while currency translation was a headwind in the quarter.
Mobile industries adjusted EBITDA for the second quarter was $80 million or 14, 6% of sales.
Compared to 69 million or 13, 9% of sales last year.
The increase in segment margins was driven mainly by positive price mix.
And the benefit of higher volume.
Which more than offset the impact of higher operating costs.
While mobile continues to be more negatively impacted by cost headwinds in process I would point out that price cost was positive in mobile this past quarter for the first time since 2020.
Turning to slide 17, you can see we generated operating cash flow of $78 million in the quarter.
And after Capex free cash flow was $37 million.
The decline in free cash flow from last year was expected and reflects higher working capital to support the strong sales growth we.
We expect a significant step up in free cash flow over the course of the rest of the year.
Taking a closer look at our capital structure. We ended June with net debt to adjusted EBITDA at two times, which is up slightly from the end of March and reflects the <unk> acquisition.
Our leverage is well within our targeted range and we remain in great position to continue to drive our strategic priorities going forward.
Right.
From a capital allocation standpoint during the second quarter, we raised our quarterly dividend by 3% to <unk> 31 per share.
Our 400 consecutive quarterly dividend and repurchased 750000 shares of company stock.
Year to date, we've repurchased almost two 3 million shares or about 3% of total shares outstanding.
Our share buyback activity demonstrates our confidence in the long term earnings power of the business and our commitment to consistent and accretive capital allocation.
Okay.
Now, let's turn to the outlook with a summary on slide 18.
We're raising our full year earnings estimate based on our strong first half performance and our outlook for the rest of the year.
As you can see on the slide we're now expecting adjusted earnings per share in the range of $5 50 to $5 80.
Which would be up 20% from last year at the midpoint and a new record for timken.
The midpoint of the earnings outlook implies a full year adjusted EBITDA margins will be up just over 100 basis points from last year, which is an improvement from our prior guide.
We expect strong year on year margin performance in the back half of the year.
Driven by positive price cost dynamics and continued strong execution.
And our outlook implies full year incremental margins in the mid thirties.
Turning to revenue.
We're now planning for revenue to be up around 7% in total at the mid point versus last year.
Compared to 8% and our prior guide.
Organically, we now expect sales to be up 9%.
Customer demand and sentiment remain robust across most sectors and our strong backlog supports our outlook.
We now expect currency to be a two 5% headwind to the top line for the full year.
Which is based on June 30 spot rates and reflects the strengthening of the U S dollar versus key currencies since the beginning of the year.
And finally, we added seven months of finance sales to the outlook, which now has acquisitions contributing around 50 basis points to our topline growth.
Moving to free cash flow for the full year, we estimate conversion of around 65% of net income.
This percentage is consistent with our prior outlook, but it would imply modestly higher free cash flow dollars for the year on the increased earnings.
We continue to expect Capex in the range of four to four 5% of sales with.
With the spend fueling our long term growth and operational excellence initiatives.
Finally for the full year, we anticipate net interest expense to be roughly $70 million.
Which reflects the expectation for higher short term variable interest rates.
And we estimate that our adjusted tax rate will be around 25, 5% unchanged from our prior guide.
So to summarize the timken team delivered truly outstanding results in the second quarter and first half of the year.
We achieved 20% EBITDA margins and continue to win new business in this dynamic market environment.
We raised our full year earnings outlook, and we remain in great position to continue to drive profitable growth.
And advance our strategic initiatives over the rest of 2022 and beyond.
This concludes our formal remarks and we.
We'll now open the line for questions operator.
Thank you if you'd like to ask a question. Please signal by pressing star one on your telephone keypad. If you are using speaker phone. Please make sure. Your mute function is turned off Tobias had military chocolate and that once again the press star one to ask a question, we'll pause for just a moment to allow everyone an opportunity to signal for questions.
Well go first to Stephen Volkmann with Jefferies.
Hey, good morning, guys.
So maybe ill.
Maybe I'll just lead us.
It seems to be kind of moving in the right direction, but obviously the market is kind of on pins and needles about.
The big <unk> and the one thing I guess that.
Sort of went the other way was your outlook for organic growth is down slightly and I guess I'm splitting hairs, a little bit, but just anything to see there is there any sort of demand destruction, that's starting to pop up.
Well I'd say it was a pretty small adjustment currency played a role in the total number.
What I'll say, China was significantly lower in the second quarter than what we would have hoped and we're not expecting to be able to make that up.
You look at the rest of the year so.
That's certainly a factor and then we're getting a little more cautious on Europe in the in the outlook.
I would say our business in Europe to your point continues to be quite good.
And we're not.
Forecasting the R word to use your term, but we are a little more cautious as the year.
It goes on in Europe , but I would say.
It's a pretty small adjustment in total.
Okay Fair enough and then maybe I can just take you back to your slide nine since you sort of pointed it out there and I guess I'm trying to just think through it I'm guessing you don't want to say much about 23, yet, but if you have anything I'll take it but.
How should we think about the potential if we were to have some sort of a modest slowdown I can see a scenario, where decremental margins might be pretty minimal given what's going on with price cost normalization and so forth, but I don't want to put words in your mouth, just how should we think about kind of.
What the risk of some sort of modest our word might look like let's not say it all up.
So I think one of the reason for putting that in and obviously teasing out the investor day here in a couple of months, but.
You know, obviously, we're not hoping for a recession and hoping and really planning for 'twenty three to be up as I said in my comments I think.
Yes, certainly not ready to say directionally, but the customer sentiment planning et cetera still.
It would be up for and where we do a lot of polling engaging of that.
And I think whether it's whether that happens or the other scenario happens.
We think we can pull in from the other one, but we will do fine and the other scenario as well and over two or three year period, it'll bounce back and we will be able to.
Peak to peak trough to trough of an industrial cycle grow grow the earnings and grow the revenue.
I think as you look at next year, obviously, we've been.
Reasonably active year to date in share buyback and a modest M&A and I think that will be a offset contributor or an adder, depending on which economic scenario.
That we're in.
And.
Beyond that probably not ready to certainly not ready to talk about decrementals after coming off an 11% organic growth number.
Okay Fair enough I'll wait for September I'll see you there.
Okay, great. Thanks, Steve.
We will go next to Bryan Blair with Oppenheimer.
Thank you good morning, guys.
Morning, Brian .
Solid quarter all around.
Obviously encouraging to see the transition to favorable price cost, especially in mobile.
Sounds like you will have some acceleration in contribution in the back half just wondering given your your.
Your price traction in current visibility on costs, how we should think is there.
Order of magnitude cadence in terms of Q3 and Q4 impact.
Certainly on a year on year basis, the optics should be quite favorable.
Yes.
Yes, certainly the year on year is a much easier comp we went price cost negative in the fourth quarter of 'twenty, but it was reasonably modest in the <unk>.
First couple of quarters of it and then a little bit bigger in Q2 last year, and then Q3 and four pretty significant so as you look back.
A year ago at this time Q2 pretty significant price cost thought we overestimated the amount of transitory part of that cost.
Projected at that time, it costs would ease in the second half not only did they not he's they they went up a lot. So our price cost went pretty negative.
As mentioned, we went positive this quarter in both segments and in total.
So as I said, we definitely see the costs leveling off.
I think in general the projections, we'll probably be theyre going to ease in the second half but.
We are projecting their grandma largely hold and there's certainly some puts and takes within that we as I said, we've seen some easing we've seen some other things.
Go up and then we will have.
More price realization.
Sequentially from Q2 to Q3 and Q3 to Q4, it will certainly be more modest than the Q4 to Q1 step up that we had in price realization, but we implemented pricing in the second quarter that really isn't in the second quarter results yet it will start showing up in the third quarter and will implement more.
In the third quarter, so I would expect the.
The price cost to look quite favorable with the price feel very good about and probably the bigger variable is do cost level off do they received or is.
Is there another is there another tick up in cost.
Okay understandable I appreciate the.
The detail there.
Hoping you could offer a little more color on.
So early stages for that integration.
On the risk side, I'm curious whether European macro is.
Meaningful headwind or potential headwind for near term contribution and then in terms of catalysts in the strategic upside of the deal.
How quickly can your team drive geographic expansion understandably called out Asia is a major opportunity last quarter.
But it's the team is already all over it.
Got you.
All the diligence you can <unk> and obviously, you're familiar somewhat with the product and reputation in the marketplace. I would say you know again, a couple of months and very pleased with what we've seen now that we're getting a look under the hood.
The reality, though is.
This is sold to Oems designed in so the sales synergies take time, but we're already working on who they sold to who we sold to <unk>.
And in making introductions and bringing the technology together with the platform so and.
And then.
On the market itself.
Certainly all of the supply chain challenges we are seeing.
To the degree there is onshore and all these things fit very favorably into the warehouse automation factory automation markets and long term trends, there and we're making investments in those our customers are making investments in those capabilities and in our own factories I mean, so I think.
Very confident in the long term outlook of that coming back to your short term question.
I think the it is a it's a business it's overweighted to Europe certainly.
As a customer base.
And definitely there is some risk there depending on how Europe goes in the next six to 12 months and then it's also it is a it's again, it's an OEM capital good.
So not just Europe , but also credit markets tightening in the cost of capital going up.
But feel very good about the long term growth prospects and the business got off to a great start financially. The first couple of months, Yes, I was going to add Brian is to that point I mean, we've only owned it a month and typically month, one youre always keeping your fingers crossed because of disruption and things of that nature, but month, one was very strong from a financial standpoint ahead of.
Our expectations and so the team the team there continues to operate very well and integrating.
Our results are quite nicely.
Helpful color. Thanks again guys.
Yeah.
And once again to ask a question on today's call that is star one on your telephone keypad.
We will go next to Chris Dankert with loop capital.
Hey, good morning, guys. Thanks for taking the question.
Good morning, Chris.
I guess to pull the thread on Europe , just a little bit here as you're talking with the team in Romania and elsewhere. How are we planning for winter and kind of what's in and can control in terms of insulating yourself from energy bottlenecks versus things just theres really no control here.
Well, we're working on as I think everybody is contingency plans.
Risk profiles et cetera, we do have.
Probably some better capabilities and some that we have some redundant capacities around the world that should our Romanian plant or Poland plant.
Limited on its gas electric supply et cetera that we could do some things in other parts of the world.
I think if it is a.
If it becomes a worst case type scenario, you're pregnant, we'll probably get a seat in a demand reduction because our customers in Europe would be facing some of the same issues.
I don't think its dampening demand today.
And and I don't think its going to in the near term, but certainly.
A lot of uncertainty out there six months from now nine months from now.
And we're actively working those contingency plans, but I'm.
More concerned about what the risk to the demand profile than I am our ability to supply profile.
Got you that makes that makes sense that makes sense.
And then switching gears on the mobile side I think stronger than I expected, just kind of given that off highway strength any comment specifically on automotive I guess.
<unk> hundred 50 production was less of a headwind than many had feared but just any comments on auto specifically and kind of what youre seeing in that market would be great.
Yes, I think we're still seeing some chip problems.
Both there.
The truck market I think we're seeing.
Some of the supply chain issues smooth and the planning around chip problems.
Get a little better, but I think it's still between that in China, The China Covid situations still constraining, our customers' ability to produce as much as they want and therefore by as much as they want.
With our product mix. So I think our customers are generally trying to wait.
Push their chip capacity into the places where we are again are in premium cars and light trucks.
So we got a.
I'd say, we've got it in our in our 7% for the second half.
It's a little easier comp next year, because the chip problems were pretty significant.
Hey, it's in line roughly in line with that kind of numbers, what we're looking at for the second half, yes. The only I would add there Chris is really what youre seeing in the automotive is really the choppiness on the customer side relative to the chip situations. So yeah. We were up we were up double digits in Q2 year on year, but if you remember we were off in the first in the first quarter. So.
Year to date were up more.
Kind of call it low to mid single digits, and then but we still feel good about the our full year.
Your outlook of <unk>.
Mid single digit.
Growth in that market, So, we'll do a little bit better than that in the second half on.
Easier comps, but it's really a lot of that is just sort of the choppiness quarter to quarter.
Got you I got you. Thank you both so much for the color and then pull that I think we've got some optimism in the back half here.
Thanks, Great. Thanks, Chris.
And at this time there are no further questions.
Okay. Thanks, Jennifer and thank you everyone for joining us today, if you have any further questions. After today's call. Please contact me. Thank you and this concludes our call.
This does conclude today's conference we thank you for your participation.
Yes.