Columbus McKinnon Corporation (CMCO) Q2 2018 Earnings Report, Transcript and Summary

Good day and welcome to the Columbus McKinnon Second Quarter Fiscal Year 2018 Conference Call and Webcast. All participants will be in a listen-only mode. [Operator instructions] After today's presentation there will be an opportunity to ask questions. Please note this event is being recorded. I would now like to turn the conference call over to Ms. Deborah Pawlowski, Investor Relations for Columbus McKinnon. Ms. Pawlowski, the floor is yours, ma'am.

Thanks Mike and good, everyone. We certainly appreciate your time today and your interest in Columbus McKinnon. I have with me here Mark Morelli, our President and CEO; and Greg Rustowicz, our Chief Financial Officer. You should have a copy of our second quarter fiscal 2018 financial results that were released earlier this morning. If you don't, you can find them on our website at cmworks.com. You will also find alongside the slides that are accompanying today's conversation. So, with those slides if you’ll turn to Number 2, I will review the Safe Harbor statement. As you’re aware, we may make some forward-looking statements during the formal discussions as well as during the Q&A session. These statements apply to future events, which are subject to risks and uncertainties as well as other factors that could cause actual results to differ materially from what is stated here today. These risks and uncertainties and other factors are provided in the earnings release as well as with other documents filed with the Securities and Exchange Commission. These documents can be found on our website or at sec.gov. During today’s call, we will also discuss some non-GAAP financial measures. We believe these will be useful in evaluating our performance. You should not consider the presentation of this additional information in isolation or as a substitute for results prepared in accordance with GAAP. We have provided reconciliation of the non-GAAP measures to comparable GAAP measures in the tables that accompany today’s release and slides, for your information. So, with that, please turn to Slide 3, and I’ll turn it over to Mark to begin. Mark?

Thank you, Deb. We had a great first half of fiscal 2018 by delivering another solid quarter. I believe that this is indicative of the potential of our franchise as we continued the strong momentum from the first quarter. Our sales in the quarter rose 40% to $212.8 million with strong organic growth of 8.5% compared with the prior year excluding the impact of favorable currency exchange rates. Compared with many others, we got off relatively light with the hurricanes. Nonetheless, we had to work hard to get our products to the port of Houston to get to the customers on time. Another fact of the help drive demand was improved availability of our products. I believe this was an excellent demonstration of the commitment and professionalism of our employees to execute a growth roadmap and work through issues. Our new operating system helped us deliver results but putting structure and discipline around the regular review process and deep deployment in the organization we clarified our targets and developed roadmaps to achieve our goals. This structure has led to more effective polarization, better decision-making and improved execution. The performance in the quarter also highlight the relevancy of our product lines and a wide variety of workflow market segments and how they fill the need for high quality, professional grade products and solutions. Let's first discuss our robust organic growth of 9.5% for the quarter in our U.S. market. This was strong than we anticipated and the market tailwinds from industrial capacity utilization improvement and the approximate 3% GDP growth in U.S. this past quarter were certainly welcome. However, we're also better addressing customer needs by reducing lead times and improving responsiveness which helps ensure our success in the market. It's important to understand too that our products relevant in several key vertical markets enable our performance in the quarter. Sales to utilities were robust. As I mentioned with the hurricanes, we were able to effectively manage our operations and logistics. We quickly re-stocked some of our hand tools and hoists used for pulling and restringing power lines. As utilities deploy equipment to recover from natural disasters, they also replenish stock in preparation for the likelihood of future events. Construction in the U.S. continues to be strong as there was a steady increase of commercial and industrial construction that drives our tool business particularly in the summer months. The construction boom has impacted many cities throughout the U.S. The material industry particularly steel production is driving demand for Magnetek products as producers look to refurbish and upgrade facilities. Our Magnetek controls provide measurable energy savings for these customer as well. The mining sector is also improving and as a result beginning to drive demand in the industry for our products. The automotive market has helped to drive demand for our products as well. Automotive OEMs making model changeovers require them to retool their operations. This drives demands for our products such as unified rail, Lodestar hoist, and Magnetek controls. The entertainment segment in the U.S. has also helped the business particularly through the summer months. Our leading serving the entertainment industry or used for hoisting and lifting for summer festivals, touring acts, as well as theater. Also, notably the U.S. government has been placing orders particularly for products like attachments used for applications such tie downs for aircraft vehicles and other assets. Outside the U.S. we had strong organic revenue growth 6.5% with EMEA up 5.5%. Increase in industrial capacity utilization in Europe has helped drive demand. We've been successful selling actuators for a large bridge construction project in Russia, screw jacks for aircraft engine manufacturing and explosionproof manual hoist for midstream and downstream oil and gas in the Middle East. In addition, Latin America had experienced significant growth as that region comes out of recession. We've been successful in localizing several products that are now manufactured in Mexico and selling into local markets. We're seeing growth in automotive, metal working, capital equipment and durable goods manufacturing in that region. Strong sales translated into GAAP net income of $12.5 million or $0.54 per diluted share for the quarter. For the fiscal half of fiscal 2018, we generated $1.05 per diluted share. We continue to demonstrate our strong cash engine and generated $20.3 million in cash from operations in the quarter. We used the cash to pay down $16.3 million in borrowings. In the first half of fiscal year, we have generated $35 million in cash and have paid down $30 million in debt ahead of our scheduled debt repayment plan. Before I turn the call over to Greg to walk you through the results of the quarter, let me provide some brief commentary on our focus on our industrial technology capabilities. As we discussed in our last earnings call, we're accelerating the evolution of Columbus McKinnon from a legacy industrial company into an industrial technology leader. The acquisitions of STAHL and Magnetek increase our product portfolio of engineered products and solutions. And once again this quarter, we can see that our business is with highly engineered products performed very well with better than average markets. For example, STAHL explosionproof hoist in crane solutions drove growth with its engineered solutions for applications in the midstream oil and gas market and energy infrastructure, such as LNG terminals and power generation. Magnetek growth was again driven by penetration into the steel and automotive industries and these and other markets, end-users, customers, specified Magnetek controls for their specific features and high quality and reliability which enables high up time. Customers also appreciate our outstanding technical and after sales support. Similarly, Lodestar holds a leading market position in the entertainment industry because of its technical functionality in a unique and demanding role and the high-performance design and the unified industries rail system provide higher yields and greater productivity for leading companies in the automotive industry. Following Greg, I'll provide some outlook on fiscal 2018 and discuss what to expect with our strategic plan that we will introduce in the beginning of the calendar year. So, let me turn the call now to you Greg.

Thank you, Mark and good morning, everyone. Turning to Slide 4, consolidated sales in the second quarter of $212.8 million was up 40.1% from the prior year. STAHL was a strong contributor in the quarter adding $45.8 million of sales which represented 30.2% of the quarter's sales growth. We also grew organically $12.9 million or 8.5%. Sales volume was up $12.2 million or 8% and pricing was up by $700,000 or 50 basis points. Overall, we saw sound organic growth in the quarter as the U.S. and Latin American markets continue to show strength and markets improved in Canada and EMEA. Foreign currency translations shifted to a tailwind and increased sales in the quarter by 1.4% largely the result of a stronger euro and weaker U.S. dollar. For the quarter, U.S. sales were up $14.4 million or 14.6% compared with a year ago period. STAHL contributed $5 million to our U.S. sales. Sales outside of the U.S. were up $46.5 million or 86.8%. STAHL contributed $40.8 million to our international sales. Latin America saw double-digit organic growth while Canada and EMEA saw mid-to high single digit organic growth in the quarter as the business environment improved in these two regions. On Slide 5, our second quarter gross profit increased by $21.9 million or 44%. Adjusted gross profit was $69.9 million an increase of $20.2 million or 40.6% versus the prior year. Our adjusted gross margin percentage was 32.9% compared to 32.7% in the prior year an increase of 20 basis points. STAHL was accretive to adjusted gross margin, posting an adjusted gross margin of 36.7%. This demonstrates the value of a highly engineered, ATEX-certified product line, which is consistent with our plans to transform into an industrial technology company. The reconciliation for adjusted gross margin can be found on Page 16 of this presentation. Let's now review the quarter's gross profit bridge. The increase in gross profit was the result of two primary drivers the STAHL acquisition and higher sales volumes. STAHL added $16.8 million of gross profit, higher sales volumes contributed $3.7 million of gross profit. In addition, we also received a $1.7 million partial payment from an insurance carrier for ongoing litigation regarding insurance coverage for asbestos claims. This item is adjusted out of gross margin as a pro forma item. Other items positively affecting our gross profit, included foreign currency translation, which added $600,000 of gross profit and the impact of higher pricing, net of raw material inflation, which positively impacted gross profit by $500,000. In addition, product liability costs were lower by $400,000 compared to the prior year. STAHL integration cost negatively impacted gross profit by $100,000 and is also a pro forma item. We also saw negative productivity, net of other cost changes in our plants this quarter of $1.7 million, which decreased gross profit. This was due to higher benefit and other cost changes of $1.1 million for Medical and Workers Comp cost, stock compensation costs and annual incentive plan costs, compared to one year ago. In addition, we had unfavorable inventory adjustments this quarter, which more than accounted for the balance of the negative deviation. As shown on Slide 6, selling expense in the second quarter was higher than the prior year by $6 million. STAHL added $6 million to selling costs including integration costs. Unfavorable foreign currency translation also increased selling cost by $300,000 and that was offset by cost savings measures. G&A expense increased $5.5 million from the prior year. STAHL added $2.5 million in G&A expense this quarter. STAHL integration cost added $500,000 to G&A as well. G&A cost also included two pro forma items $1.3 million for legal cost related to the insurance claim previously mentioned as well as a $400,000 accrual for legal cost expected to be incurred related to a former subsidiary of Magnetek. Unfavorable foreign currency translation added $100,000 to G&A. The remainder of the increase is largely due to higher annual incentive plan cost expected in fiscal year 2018 compared to fiscal 2017. R&D costs were $3.7 million compared to $2.5 million in the prior year. STAHL added $900,000 to R&D expense. R&D expense represents 1.7% of sales and we see this investment growing in the coming year. Our quarterly forecasted RSG&A run rate remains unchanged and is expected to approximate $46 million per quarter excluding the STAHL integration costs and other pro forma items. Turning to Slide 7, adjusted income from operations was $20.2 million or 9.5% of sales. This compares to adjusted operating income of $12.6 million or 8.3% in the prior year. STAHL added $5.5 million of adjusted operating income, which represents an adjusted operating margin of 11.9%. STAHL amortization is estimated to be $8 million for the year at current FX rates. The reconciliation for adjusted operating margin can be found on Page 17 of this presentation. As you can see on Slide 8, GAAP earnings per diluted share were $0.54 versus $0.33 per diluted share in the prior year period. Adjusted earnings per diluted share for the second quarter of fiscal 2018 were $0.51 compared to $0.40 in the previous year, an increase of $0.11 per share or 27.5%. STAHL contributed $0.04 of accretion to adjusted EPS this quarter and year-to-date has added $0.09 of accretion. The reconciliation of GAAP earnings per share to adjusted earnings per share can be found in Page 18 of this presentation. All adjustments are tax affected at a normalized tax rate of 22%. On a GAAP basis, our effective tax rate in the current quarter was 14.1%. This was lower than our previous guidance as a result of the new GAAP accounting standard impacting the tax accounting treatment of equity compensation. Given this change, we now expect the full year effective tax rate to be in the 18% to 22% range. Turning to Slide 9, our working capital as a percent of sales decreased to 18.5% compared to 21.2% at September 30, 2016 and 18.6% at March 31, 2017. Working capital as a percent of sales decreased 270 basis points from the prior year quarter, reflecting improved inventory turns. Inventory turns were 4.1 turns compared to 3.5 turns as of September 30, 2016. We are committed to managing inventory turns as we look to generate cash to pay down our debt. On Slide 10, net cash from operating activities in the second quarter was strong increasing to $20.3 million compared to $18.4 million in the prior year. Free cash flow was also strong at $16.2 million, which is higher than one year ago. The hallmark of this company has always been its ability to generate cash and we expect this to continue in fiscal 2018. Our guidance for capital expenditures has been lowered to $15 million to $20 million for fiscal 2018 as we continue to evaluate our priorities for the use of capital and focus on paying down debt. Turning to Slide 11, as a result of the STAHL acquisition, our total debt was $392.3 million and our net debt was $322.8 million as of September 30, 2017. Our net debt to net total capitalization was 45.5%. We repaid a total of $16.3 million of debt this quarter. We continue to demonstrate our ability to de-lever very quickly to a more normal net debt to net total capital level of 30%. We expect that we will repay approximately $55 million of debt in fiscal 2018, which has been increased from our original plan and we're targeting to be less than three times net debt to EBITDA by the end of fiscal 2018. We're currently 3.3 times leverage on an LTM adjusted EBITDA basis, which reflects only eight month of EBITDA from STAHL. As a reminder we have a covenant lite term loan B which has no leverage maintenance covenant as long as the revolver is undrawn. With that, I'll turn it back over to Mark.

Thanks Greg. Turning to Slide 12, I'll provide some considerations as we look at the remainder of fiscal 2018. With solid year-over-year organic growth with orders up 5.5% overall. Sequentially this was down from the very strong quarter levels we had in the first quarter. Our backlog while down 6% from the second quarter was a strong $162.7 million and about 5% higher than September 2016, adjusted for the STAHL acquisition. As we look at the remaining two quarters in fiscal 2018, our third quarter is seasonally our weakest quarter and we would expect the fourth quarter to rebound from there. Our organic growth has certainly been encouraging and we expect 3% to 5% organic revenue growth for the December quarter. At this point it's difficult to tell what the relative strength could be for a typical uptick in the fourth quarter given uncertainty on the sustainability of our industrial recovery, but we're confident that fiscal 2018 will be a good year. Let me update you on the progress with our near-term priorities. The STAHL integration is on track to provide $5 million in synergies in fiscal 2018 and we captured approximately $2.54 million year-to-date. We are capturing savings for organizing synergies, supply chain efficiencies and leverage as well as the elimination of transfer service agreement. Our partner team for leveraging Magnetek Technology has further defined a roadmap for smart hoist products. We've taken advantage of several near-term opportunities to pick up demand for our products. A key component to strengthening our core is creating organic growth opportunities. As I've mentioned, we're working toward better product availability and improved customer responsiveness in many of our operations, in part by improving lead times. Greg, spoke about the success we're having with our debt reduction goal. While we do generate strong cash, there is still potential to reduce our working capital requirements. Finally let me offer what you should expect for our strategic plan discussion at the beginning of the new calendar year. We spent quality time as a global leadership team developing our longer-term goals and strategies to get there. While we will discuss our thoughts in greater detail on our next earnings call, I am encouraged with the potential we have inherent in the runway for the business. Expect our plan highlight the importance increasing our earnings power. One of the drivers for strong earnings power as we've discussed with you before is our new operating system, that which we call EPAS, or earnings power acceleration, which is a system which embodies tools a set of tools and processes. Within our organization, we deployed this operating system that has redefined the case of work and setting new standards of accountability. By clarifying targets and expectations, EPAS is also driving accountability and our team has developed clarity around the progress. EPAS also provides for more frequent checkpoints along the path. So, we can monitor and manage both risk and opportunities. As we move forward, we'll be adding new tools and processes to EPAS, which will help us accelerate our earnings power. Another critical element of our plan to drive stronger earning power is a greater focus on our industrial technology company as I discussed earlier. We believe with proper execution of our plan, we can drive EBITDA margin expansion, which we will expect to translate into multiple expansions. Focus on profitable growth will center on install, continued strengthening of the core business, ramping our product development engine and operational excellence. STAHL has been a great acquisition for us. Culturally they represent a good fit as we both primarily sell to independent crane builders. They have a highly engineered product that is relevant in a wide set of industrial markets. We have the opportunity to position multiple brands in the market, better leverage product platforms and create a more globalized sales force. We're excited to build upon this platform. A key part of our growth this fiscal year comes from strengthening our core businesses. Going forward, our stocking programs and lead time reduction initiatives will continue to pay off. Customers look to Columbus McKinnon for our trusted brand for professional grade applications. If we do not have a product with excellent availability they're forced to go elsewhere. We will continue to focus on this and expect we'll grow accordingly. Also, apart from striking the core is to becomes easier to do business with. We'll simplify our offerings, better leverage online tools and provide more effective content so that customers can better understand how to solve their problems using Columbus McKinnon equipment. We'll also ramp our product development engine. We know that customers appreciate well-made product that's solve tough problems. They're willing to pay for higher uptime and better yields. Our smart voice concept has the ability to solve needs in the marketplace and we believe our approach through greater investment in R&D will bring more effective products to market. Columbus McKinnon has a rich heritage in manufacturing. At the same time, our production in warehousing footprint represent significant opportunities to reduce costs. We can more effectively manage our 19 factories, eight warehouses and approximately 2.5 million square feet to improve our profits. We also have the opportunity to simplify our product lines, drive efficiency through our supply chain and effectively value engineer our products to improve functionality and take out costs. This represents a significant runway of opportunities and we will further leverage tools and processes as part of EPAS to capture greater profits. In summary, we had an excellent first half of our fiscal year. We are concerned as many others are about geopolitical uncertainty and its potential impact on industrial markets globally. However, markets have been favorable and our new operating system has enabled us to capture outsized growth. Our business model emphasizing the industrial technology aspects of our new acquisitions as well as important legacy products and brands also support striving greater value at higher markets. We're striking on our balance sheet ahead of schedule. We have improved team works, collaboration on shared goals with the clarity of purpose and we're all pulling together. Thank you for listening and Mike, we can now open the lines for questions.

Thank you, Sir. We'll now begin the question-and-answer session. [Operator instructions] The first question we have will come from Matt Koranda of ROTH Capital. Please go ahead.

Hey guys. Good morning.

Good morning, Matt.

So just wanted to go ahead with the organic revenue growth guide for Q3 here, it's ahead of where we would have expected, but wondering if you could just provide a little bit more detail on why the relative deceleration versus the first half? Is it just conservatism or are you guys seeing something specific in the channel that causes you to throttle it back a bit versus the first half?

Hey Matt, it's pretty typical of our business that we would see a seasonality decline in our Q3. So, I think if you look back historically into our rates and trends, there is a couple things that happen particularly as we approach the holiday season at the end of the year. We also have less working days that have also impacted. So, I think it's very much characteristically in line with the slowdown we would expect. I think we received some outsized growth that are probably well beyond what you expect from our business. So, we've been really pleased with we've been able to do so far. But I think going forward we really want to get responsible guidance that I think reflects what the seasonality is as well as we see reflective in the order rates that we're able to understand or recognize at this point.

Okay. And you Mark in your prepared remarks some impact from the hurricane in terms of logistics, is all of that buttoned up now and maybe if you could also just tie in some comments on any expectation of residual impact? It sounded like you are alluding to maybe utilities potential, is there going to be any material impact to revenue over the next couple of quarters?

Yeah, we think the hurricanes impact is pretty much been impacted already in our quarter. Our quick-cycle business with some of these hand tools. You either have it out of availability or you're able to sell it and position it or folks have got to go elsewhere. So, I think that that's pretty much been reflected and resolved. Once again, I think we're pretty pleased with how we're able to manage things. Obviously, we had some disruptions there we're able to with some hard work and some luck, we're able to manage through and we really came out of that unscathed. We did see a small bump or small impact to us restocking orders and getting some equipment on time, but other than that, I don't think you should expect anything else going forward.

All right. And then maybe one for Greg on debt repayments, nice job there, but wondering are you guys pulling forward some of the expected repayment from fiscal '19 or should we expect the same rate of debt repayment heading into next year as well?

Yeah good question. Thanks Matt. So, we would expect in fiscal '19 to be at the $55 million level for debt repayment as well, which is comparable to our new guidance for this year.

Got it. Okay. That's helpful. And then I'll just sneak one more on the STAHL and the synergies, it looks like you got an incremental $1.6 million in synergies by my calculation. So maybe you can provide a little bit of color on where that specifically came from during the quarter? And then what's the visibility like to just achieving the remaining $2.6 million for the rest of the year?

Yeah so Matt, part of the savings came in the sourcing area. There is some operations items that add to the synergies in the quarter, a little bit of savings from some subsidiary consolidations that we're going through. TSAs the Transition Services Agreements, we're getting off of those faster than we had originally anticipated. A lot of those are IT related. So, the combination of all those puts us at about $2.4 million year-to-date. So, we feel very confident about the $5 million we're cracking clearly towards that $5 million number this year.

All right guys. I'll jump back in queue thanks.

[Operator instructions] Next, we have Mike Shlisky of Seaport Global Securities.

Good morning. This is Jordan Bender on from Mike this morning. I guess going back to organic growth, were you guys surprised with any of the organic growth there in the second quarter maybe to the upside or even the downside?

Yes, so I think there was certain level of surprise in the number. As we headed into the quarter, obviously things have been strong for us and as we started piecing together our roadmap, we just started figuring out things. We have some headwind early in the quarter we had to begin to offset with some of the businesses. We had the hurricane issues that came up and we get line things up. We have a pretty regular review process where we build our roadmaps for the quarter and then we try to manage the risk and opportunities and I am very pleased and very proud that the team really came through on many fronts. So sometimes you put your hand on the wheel but your foot on the accelerator and you go a little bit faster than we had thought we might end up getting to, but I think it's a real testament to what the team was able to achieve in the quarter.

Okay. And then a quick modeling question here. Your organic growth outlook in that third quarter, does that include current or does that exclude it?

That excludes currency. So, at current exchange rate levels, there might be a little bit of a positive benefit on translation.

Okay. And then pricing going forward, I was kind of wondering if there's improvement anticipated there, any pricing improvement?

Yeah, we would expect we have about 50 basis points of pricing so far and we would expect that to continue in the third quarter.

All right. I appreciate it guys, thanks.

[Operator instructions] Next, we have Christopher Hillary of Roubaix Capital.

Hi. Good morning.

Good morning.

Can you give us your perspective on kind of the medium-term demand outlook given that we see this continued strength in the manufacturing surveys and more recently bit of a more constructive oil price?

So, I think we see from our business pretty wide set of applications and verticals as I spoke about in my script, where we're definitely seeing the industrial markets recovered. We have tracked industrial capacity. It's sort of marginally just uptick a bit. So, what we've seen has certainly been I would say quite encouraging. I think it's really tough for us to say will happen in the midterm. It's difficult to understand how the markets will play out from an industrial setting. But I have visited some customers and I have toured their factories. We've seen capital equipment going in. We've seen them retooling and refurbishing and these are all at times but very difficult for us to tell how this will play out going forward given that you have political uncertainty in the political environment. There can be a number of twists and turns it's difficult for us to predict, but we're going to continue to build our roadmap and take advantage of whatever market opportunities that present themselves and hopefully we'll continue to get outsized growth accordingly.

Okay. Great. Thank you.

Well, at this time, I am showing no further questions. We'll go ahead and conclude the question-and-answer session. At this time, I'd like to hand the conference back over to the management team for any closing remarks.

Well thank you for participating today. I think this is an exciting time for Columbus McKinnon and for executing this strategy that builds greater value into what already is a highly durable and high-quality franchise. I believe we're making great progress and I look forward to discussing with you our new strategy, goals and objectives. Thank you for participating and enjoy your day.

And we thank you sir and to the rest of the management team for your time also today. The conference call has now concluded. At this time, you may disconnect your lines. Thank you again everyone, and take care.