Welcome to the Fiscal 2025 Fourth Quarter Earnings Call for Applied Industrial Technologies. My name is Carly, and I will be your conference operator for today's call. [Operator Instructions] Please note that this conference is being recorded. I would now like to turn the call over to Ryan Cieslak, Director of Investor Relations and Treasury. Ryan, you may begin.

Okay. Thanks, Carly, and good morning to everyone on the call. This morning, we issued our earnings release and supplemental investor deck detailing our fourth quarter results. Both of these documents are available in the Investor Relations section of applied.com. Before we begin, just a reminder, we'll discuss our business outlook and make forward-looking statements. All forward-looking statements are based on current expectations subject to certain risks and uncertainties, including those detailed in our SEC filings. Actual results may differ materially from those expressed in the forward-looking statements. The company undertakes no obligation to update publicly or revise any forward-looking statement. In addition, the conference call will use non-GAAP financial measures, which are subject to the qualifications referenced in those documents. Our speakers today include Neil Schrimsher, Applied's President and Chief Executive Officer; and Dave Wells, our Chief Financial Officer. With that, I'll turn it over to Neil.

Thanks, Ryan, and good morning, everyone. We appreciate you joining us. I'll begin today with perspective and highlights on our results, including an update on industry conditions and expectations going forward. Dave will follow with more financial detail on the quarter's performance and provide additional color on our fiscal 2026 guidance, I'll then close with some final thoughts. Before I discuss our fourth quarter results, I want to take a moment to acknowledge our Applied team. I'm extremely proud of what we accomplished in fiscal 2025 within a muted demand backdrop. We achieved new records for sales, EBITDA and EPS. Full year EPS growth of 4% exceeded the high end of our initial guidance. Gross margins expanded nearly 50 basis points and surpassed 30% for the first time in our history. We also delivered another record year of cash generation that enabled meaningful capital deployment. This included the strategic acquisition of Hydradyne our largest M&A transaction in 6 years. Overall, our performance in fiscal 2025 provides further evidence of our operating resiliency and value creation potential and builds on our compelling track record over the past 5 years. This includes compounded annual growth for EBITDA and EPS of 14% and 22%, respectively as well as gross margins and EBITDA margins expanding 130 and 330 basis points, respectively. I'm honored to be a part of our incredible Applied team and the financial performance we continue to deliver. Our progress in fiscal 2025 ended on an encouraging note with several positive trends developing. Fourth quarter sales and EPS exceeded our expectations. Our team once again executed well against an ongoing muted end market backdrop. Sales exceeded the high end of our fourth quarter guidance by 2.5% and returned to modest positive organic growth. Underlying organic sales trends strengthened across both segments as…

Thanks, Neil. Just as a reminder before I begin, as in prior quarters, we have posted a supplemental presentation to our investor site for your additional reference. We hope that you will find this useful as we recap our most recent quarter performance and initial fiscal 2026 guidance. Turning now to details of our financial performance in the quarter. Consolidated sales increased 5.5% over the prior year quarter. Acquisitions contributed 6.5 points of growth, which was partially offset by a negative 40 basis point impact from foreign currency translation and a negative 80 basis point impact from the difference in selling days. Netting these factors, sales increased 20 basis points year-over-year on an organic daily basis. compared to a 3.1% decline in the third quarter. As it relates to pricing, we estimate the contribution of product pricing on year-over-year sales growth was over 100 basis points for the quarter and slightly above the contribution from last quarter. Moving to consolidated gross margin performance as highlighted on Page 7 of the deck, gross margin of 30.6% was down 9 basis points compared to the prior year level of 30.7%, but was directionally in line with our guidance and up 15 basis points sequentially. During the quarter, we recognized LIFO expense of $2.9 million, which was up slightly from the third quarter. In the prior year fourth quarter, we recognized LIFO expense of only $0.3 million which, as you may recall, was favorably impacted by a later liquidation benefit. On a net basis, this resulted in an unfavorable 21 basis point year-over-year impact on gross margins during the quarter which was directionally in line with our guidance. Excluding the adverse impact of LIFO, gross margins increased over the prior year, reflecting positive mix contribution from our recent Hydradyne acquisition as well as…

So to wrap up, fiscal 2025 was another meaningful year for Applied. We executed well in a slower demand environment while positioning the company for long-term success through several acquisitions and internal growth investments. The year culminated in significant capital deployment, enhancing our long-term earnings power while continuing to drive strong shareholder returns. Our market cap today exceeds $10 billion and we've delivered total shareholder returns that have more than doubled primary market benchmarks over the past 3 and 5 years. A strong testament to the power of the Applied team and our differentiated strategy. Moving into fiscal 2026. We're encouraged by recent sales momentum, which could accelerate given the underpinnings of various secular tailwinds and deferred customer spending the past 18 months. That said, we're taking a prudent approach to our initial outlook pending greater clarity on trade policy, interest rates and broader macro conditions. Our track record shows we can manage through various macro and trade scenarios as they develop and have company-specific growth and margin tailwinds that could strengthen into fiscal 2026. In addition, we expect to remain active in M&A, share buybacks and dividend growth. And lastly, our technical industry position, manufacturing domain expertise and aligned strategy provide a compelling long-term growth and margin expansion opportunity as various secular and structural tailwinds continue to develop across the U.S. industrial economy. We believe this backdrop, combined with our compounding cash generation algorithm and balance sheet capacity support double-digit compounded earnings and dividend growth long term. We look forward to building on our performance in fiscal 2026 and beyond as our evolution continues to unfold. With that, we'll open up the lines for your questions.

[Operator Instructions] Your first question comes from the line of Christopher Glynn with Oppenheimer.

I had a couple. Just first on Hydradyne, you talked about 12% sequential sales growth and 30% EBITDA. I don't know if that reflected integration costs that you incurred in the third quarter that diminished in the fourth? Or just wanted to dimensionalize that a little bit.

I think it's a combination. Relatively similar integration costs, if I think about Q3 versus Q4, Chris. So what it really points to is the kind of the leverage that we saw on the SD&A falling through to EBITDA. The stronger margin performance is obviously a contributing factor there as well as very pleased with the progress we've made to date in terms of quicker realization of synergy benefits. So we're actually ahead of where we anticipated at this point in terms of synergy realization and continue to work that angle. So really all those factors combined, I'd say the integration costs quarter-over-quarter were -- really didn't play heavily into that improvement.

I would say, as we thought about synergies going in, we said roughly 80% from cost and margin and as well as 20% sales opportunity. And to Dave's point, we're pleased on both, including the interaction with the teams and the cross-selling opportunities, especially in service and repair opportunities throughout that Southeast geography as well as things that we can do in key growth verticals around data centers and the technology segment. So pleased about the performance and our start and look forward to continuing that momentum.

Great. And then just on the market for kind of break-fix MRO and idea of any kind of pent-up coming through. It sounds like you might be starting to see some of that with the national accounts, but not so much with the locals. So another thing just asking to dimensionalize a bit.

Yes. So as we look at breakdown the sales, we were pleased in the last month on local accounts being positive as well as SA in the month of July. So I think that's a good indicator that things could be firming and build from here.

Okay. Great. And then just the midpoint of the year doesn't have any acceleration versus the first quarter at all, but you do have easy comps. I know there's a little shift when you get to the fourth quarter. And then the ADS halfway through the quarter, really outpacing the outlook. You referenced comps. I don't know if there's a major kind of hockey stick in the September comp a little bit. But is there just a couple of layers of prophylactic caution in there with potential month-to-month volatility around behaviors. Is that how we should think about the guide?

Yes. There is a ramp in the prior September. And I just think overall, Chris, it's taken our view of, hey, kind of the right prudent approach given some of the macro, and we believe some of those firm up as we move through these summer months. But that's what comes into our approach to have a -- be prudent in the guide and the outlook and the specific detail we provide around the first quarter.

Your next question comes from David Manthey with Baird.

My first question is related to pricing. I think you said 100 basis points in the quarter and an expectation that, that would slowly increase ahead. I'm hoping -- if you didn't, I didn't hear it, but could you scale that more narrowly for us and talk about sort of what benefit from price is baked into the first quarter guidance and the overall 2026?

Yes. I would say, Dave, for the first quarter, I would say, to be similar, and we talked about a little over 100 basis points in the quarter. So in the first quarter, similar. But with the expectations that it ramps as we move through the year in the perhaps 150 to 200 basis points as we look at all of fiscal '26. And if the demand environment is strong and there's additional supplier inflation and increases of that, perhaps it will be higher than that number for '26.

Okay. Got it. And second, ES trends looking really good. You mentioned technology and automation. First question, and then I've got one after that. But could you give us examples of when you say technology as a vertical, can you talk about what you mean by that as an area you're seeing growth today?

Yes. So that would include the data center. It would include semiconductor manufacturing in the side. So I think those would be the most significant components of that tech vertical. And we're broadening our participation. And so we've historically had a strong presence with Fluid Power. But today, we're doing more with fluid conveyance and also our automation business participates in that vertical well.

Okay. And then on automation, which you said grew mid-single digits. There, too, I guess you sort of touched on that as saying that data center and technology getting more applications in those verticals, but as it relates to ES overall, are you seeing a benefit? Are people talking about this bonus depreciation is helping mainly on the flow control side, which seems like a higher ticket maybe. I mean any color you can give us on that would be helpful in terms of -- you mentioned some of the growth tailwinds, and I'm just wondering if that's one of them that you're hearing about or not.

And so as we think about where the businesses participate even in automation doing well in some other segments, be it food and beverage, life science and pharma, I would say, yes. We have a full pipeline of projects with customers. They have great return profiles. We've talked about in prior quarters, perhaps the approval process of those had elongated while still strong returns. And our view of customers are in a very good cash position. I think the opportunity for accelerated depreciation on those will be a further stimulus of those projects being acted and converted. So as we look out over '26, that could be a positive development for our pipeline.

Your next question comes from Ken Newman with KeyBanc Capital Markets.

So maybe the first one, Neil, I just wanted to go back to the low end of the full year organic sales growth guide. I think it kind of implies that volumes at the low end are kind of assuming down 50 basis points year-over-year organic on what's a pretty easy comp throughout the entire year. I guess the question is you're assuming 1% to 2% of price contribution outside of maybe the timing of comps in the first quarter that you talked about, is there anything else structural that's kind of assumed within that low end of the guide or anything that we should kind of be aware of?

I think, again, Ken, as we think about the full range of the guide, including the low end, we just want to be prudent in the approach given still some of the uncertainty that would be out. If we think about more the midpoint, that's going to assume some headwinds continue on the macro and the tariff environment and some of that uncertainty in the first half and then with those headwinds abating somewhat into the second half. And so that's when more of the approach and the consideration going in.

And then for my follow-up, maybe just help us fine-tune the comments about normalizing LIFO and AR provisioning through the year by segment. Obviously, ES EBIT margins kind of took a bigger hit sequentially year-over-year. I think part of that was the AR provisioning and Hydradyne mix. How should we think about segment margins implied at the midpoint of the 1Q guide and how that trends through the rest of the year?

Yes. Just a little bit of clarification in terms of our Q4. The majority of that AR provisioning was more skewed to the U.S. service centers as opposed to the engineered solutions. Again, that's a formulaic process kind of based on several variables in terms of credit ratings, age balances. I don't see anything problematic there. We had a couple of customers that were just kind of delayed on some payments. The -- if you look back, I look and kind of benchmark our -- as I said, our DSO has maintained stability. Our provisioning as a percent of sales for the year was at really the midpoint of right where we've been in the last 5-year average. So we've made some good progress in terms of the initiatives yielding some kind of improvements in terms of past dues and just this timing issue. Unfortunately, a lot of that unfortunately, I should say, maybe the -- a lot of that came back in like the first 2 weeks or so of July. So we'd see that normalize. In terms of the EBITDA margins, we talked about in the service centers, they are also impacted this past quarter by -- that's where the deferred comp mark-to-market adjustment hits and then gets offset in other income and expense. So that also distorts things. I would expect the margins to normalize as we talked about kind of as we think about '26, the LIFO will read through proportionately. And then we'll continue to see the mix up benefit from Hydradyne and improvement in the drag that it is right now on the Engineered Solutions segment EBITDA margins as we continue to realize the synergy benefits, which, as we discussed, are coming quicker than we had anticipated. So like the progress there.

Yes. Ken, I'd just add, if we think about the quarter-over-quarter comparison, I mean if we reflect back last fourth quarter in Engineered Solutions, I mean, it was really strong, 16% record high. We benefited from strong mix of solutions going across. So I think that demonstrates the strong potential to Dave's point on Hydradyne. We're pleased with the progress but he touched on or talked about the 60 basis point headwind in EBITDA margins there. So if we think about the potential around Engineered Solutions on the full year, we were very cost accountable and OpEx and expense down 5% into that side, but with EBITDA margins up on lower organic daily sales of 4% in that side. So as we see an inflection coming in growth and that opportunity, we feel like, hey, we're well positioned.

And of course, that Q4 noise just really distorted some the underlying stronger performance between the AR provisioning, which I see getting back, obviously, as we move into '26, the deferred comp noise. And like I said, the -- if you look back at last year, the quarter performance on gross margins across the business Q4 was the only one that even started in the 30s, right? Everything else was -- started with less than a 3. So at 30.7% comp in the prior year quarter, that was a very, very challenging comp. And even with the LIFO that we rolled through this quarter versus the favorability last year, within 9 basis points of that, I think, was a pretty good story.

Your next question comes from Sabrina Abrams with Bank of America.

You guys have given some helpful color on Hydradyne but maybe I guess what I'm just going to ask, could you disclose, I guess, Hydradyne contribution in dollars to EBITDA in the quarter? And maybe any color from either an EBITDA or EPS standpoint, what's in fiscal '26 guide?

In Q4, Hydradyne contributed just over $7 million of EBITDA, just to help frame it up. If we all-in factor and some lost interest income from financing that deal with cash on hand, about $0.03 contribution. We had said at the time of announcing the deal, we would expect to be $0.15 accretive to EPS in the first 12 months. So really right on track there when you think about still some integration costs at play. We have not framed up necessarily kind of that impact on '26. But here again, like the traction in terms of running ahead on expectations on the cost synergies as well as the kind of the traction that we are seeing on cross-selling. So I would expect it to certainly meet those first 12 months expectations as kind of frame it up as at least a guide for you, if not potentially beat that initial expectation we set for the first 12 months.

That's super helpful. Second point, I guess, second question for me. Maybe if you could give a little color. I know there was some comment on LIFO in '26. But maybe if you could just give some color on what is like the amount of LIFO expense embedded in guide in either dollars or bps. And anything else to sort of call out as we -- other than like, I guess, like organic incrementals as we look at the fiscal '26 margin guide?

Sure. We peg LIFO at $14 million to $18 million in the guidance. So that would kind of work across the guidance range. Obviously, that's a function of tied to obviously the inflationary increases that we see that impact indices as well as inventory levels. So it goes part and parcel with some of the work around the -- kind of what's happening in terms of pricing and inflationary impact.

And then, Sabrina, I'd say on incrementals, at the midpoint, which would be 2.5% growth, we talked about low teens incrementals that includes M&A mix coming in lower in the side, some ongoing growth investments that we'll make into the business. And to Dave's point, that range of LIFO that we laid out. More at the higher end, we'd expect mid-teen incrementals of EBITDA margin on that. So when we think about the outlook, again, we just want to be prudent in the approach. But if we consider the business incrementals ex- M&A and ex-LIFO at the midpoint of our guidance, that's a high-teen incremental, which I think talks to our views, our outlook as we think about year ahead and ongoing business capabilities.

Your next question comes from Chris Dankert with Loop Capital Markets.

I guess just to hold on ES for a second here, fourth quarter, as you mentioned in the remarks, up well ahead of typical seasonality in the fourth quarter. Just wanted to ask, do you feel like there was anything pulled forward or anything onetime in nature that came in, in the fourth quarter? Or is that a fairly clean kind of growth figure you think?

Chris, I would say, hey, no big pull forward, did a nice job recognizing some of that order conversion that we had in doing it. I think is kind of normal as we move through to close the fourth quarter. Sequentially, backlog would be down a little bit. Book-to-bill slightly below 1 into the side, but this year is higher than the prior year in that. And then as we look forward at the start of the year, we're encouraged by the order rates around engineered solutions. So we feel like we've got a very good pipeline to work on and execute across fluid power, flow control and our automation businesses.

Got it. Super, super helpful there. And I guess just as a follow-up, you mentioned some softness in the international markets. Is that principally the Mexico market? Is it the domestic headwinds we've heard about there? Or is it something else going on? And I guess, does that impact kind of what you're seeing at the Grupo Kopar? Any color there would be great.

Yes, Chris, I'd say more related maybe in Canada. And I think there's just a settling out of some tariff impact and what it means for flows of products but also in-country Canadian business industry of that. We feel like business is doing a very nice job. We're well diversified into that segment. But I'd say a little more in Canada than the other geographies.

Those headwinds did less as we moved across the quarter, which was encouraging.

Your next question comes from Ken Newman with KeyBanc Capital Markets.

I just had one quick follow-up, more higher level. Neil and Dave, just curious, what's the thought on potentially kind of maybe adding back some of this intangible amort to the earnings power. It seems like obviously, Hydradyne was pretty solid for EBITDA and despite some of the negative mix in this part of the cycle. But I wonder how much you are maybe getting negatively comped just because some of your peers do add that back and your thoughts on potentially kind of normalizing that to make the earnings power apples-to-apples.

I'd say I think we're pretty transparent in terms of the way we break it out. And I'd prefer to kind of maintain the approach of being consistent there and just continuing to break it out, so you've got that visibility. I mean, to your point, a headline read would maybe skew things. But our focus is on continuing to improve it and make it not a talking point, right? And I think we're hard at work at that with the synergy realization we've seen and driving that cross-selling.

At this time, I'm showing we have no further questions. I'll now turn the call back over to Mr. Schrimsher for any closing remarks.

I just want to thank everyone for being with us today. We look forward to talking with you throughout the quarter. Thank you.

Thank you, ladies and gentlemen. This concludes today's conference. Thank you for participating. You may now disconnect.