Dorman Products Inc

NASDAQ:DORM

Earnings Call Analysis

Strong Q2 Performance and Increased 2024 Earnings Guidance

In Q2 2024, net sales rose 5% to $503 million, with a 430 basis point increase in adjusted operating margin. Adjusted diluted EPS surged by 65%. Light Duty saw a 9% sales increase, while Heavy Duty faced an 11% decline. Specialty Vehicle sales dropped 2%, but margins improved. Free cash flow was $51 million, and $25 million was spent on share repurchases. Full-year EPS guidance was raised to $6-$6.20, a 32%-37% increase, and net sales growth is expected at 3%-5%.

Strong Financial Momentum

Dorman Products demonstrated robust financial performance in Q2 2024, with consolidated net sales reaching $503 million, up 5% year-over-year. This growth was primarily driven by the Light Duty segment, which saw a significant increase due to strong vehicle repair demand. Notably, the adjusted operating income rose 45% to $79 million, illustrating effective cost management and productivity enhancements. Adjusted diluted EPS also surged an impressive 65%, signaling improved profitability and shareholder value.

Segment Performance Insights

In the Light Duty segment, net sales climbed 9% to $385 million. The growth stemmed from increased customer demand and successful new product launches, showcasing Dorman's innovative capacity. The operating margin for Light Duty improved by 550 basis points to 17.1%, reflecting lower cost inventories and efficient operations. Conversely, the Heavy Duty segment faced challenges with net sales down 11% year-over-year to $61 million, attributed to soft market conditions. However, a sequential improvement in operating margin by 440 basis points to 4.4% suggests recovery efforts are gaining traction. The Specialty Vehicle segment saw net sales decrease by 2% to $56 million, with operating margins increasing to 17.8% due to cost-saving measures.

Strategic Initiatives and Innovations

Dorman is actively investing in automation and innovation, committing $14 million to enhance warehouse operations with advanced systems and autonomous mobile robots. These investments are expected to yield annual savings of approximately $8 million and improve efficiency in the long term. The company also launched approximately 1,700 new products, of which around 30% were new to the aftermarket, underscoring its commitment to innovation in responding to market needs.

Updated Financial Guidance

Given the strong performance in the first half of 2024, Dorman recently raised its earnings guidance, now projecting an adjusted diluted EPS between $6.00 to $6.20, a 32% to 37% increase over the previous year. The company confirmed its net sales growth guidance of 3% to 5% for the full year, indicating sustained momentum across its segments despite challenges in Heavy Duty and Specialty Vehicles.

Financial Position and Capital Strategy

Dorman maintains a solid balance sheet with a net debt of $500 million and a net leverage ratio of 1.44x adjusted EBITDA, comfortably below its long-term target of 2x. With total liquidity at $576 million, the company is well-positioned to support ongoing growth initiatives and shareholder returns, including a recent share repurchase program.

Future Outlook and Market Position

As Dorman navigates sector challenges, particularly in Heavy Duty, the company expects conditions to remain soft until early 2025. Nevertheless, positively trending market conditions in Light Duty and ongoing investments in product development and automation position Dorman favorably for future growth. The management's focus on innovation and operational efficiency suggests a strategy geared towards overcoming current market headwinds while enhancing customer value.

Earnings Call Transcript 2024-Q2

[Operator]

Good morning, and thank you for standing by. Welcome to the Dorman Products Second Quarter 2024 Earnings Conference Call. [Operator Instructions] Please note that this conference is being recorded. I'd now like to turn the conference over to Alex Whitelam, Dorman's New Vice President of Investor Relations and Risk Management. Sir, please go ahead.

[Alexander Whitelam, executive]

Thank you. Good morning, everyone. I'm excited to join the team here at Dorman, looking forward to working with you all. Welcome to Dorman's Second Quarter 2024 Earnings Conference Call. I'm joined by Kevin Olsen, Dorman's Chief Executive Officer; and David Hession, Dorman's Chief Financial Officer. Kevin will provide a business update, then David will review the quarterly results, followed by closing remarks from Kevin. After that, we will open the call for questions.

By now, everyone should have accessed to our earnings release and earnings call presentation, which are available on the Investor Relations portion of our website at dormanproducts.com. Before we begin, I would like to remind everyone that our prepared remarks, earnings release and investor presentation include forward-looking statements within the meaning of federal securities laws.

We advise listeners to review the risk factors and cautionary statements in our most recent 10-Q, 10-K and earnings release for important material assumptions, expectations and factors that may cause results to differ materially from those anticipated and described in such forward-looking statements.

We also reference certain non-GAAP measures. Reconciliations of these non-GAAP measures to the most directly comparable GAAP measures are contained in the schedules attached to our earnings release and in the appendix to this earnings call presentation, both of which can be found on the Investor Relations section of Dorman's website.

Finally, during the Q&A portion of today's call, we ask that all participants limit themselves to 1 question with 1 follow-up and to rejoin the queue if they have additional questions. And with that, I'll turn the call over to Kevin.

[Kevin Olsen, executive]

Thanks, Alex. Good morning. Thank you for joining us on our second quarter 2024 earnings call. I'm going to begin today with a discussion on the highlights of our quarterly performance on both a consolidated and segment basis. I'm also going to spend time discussing some of the exciting investments we've made in our operations over the last few years and invite you with insight into how Dorman is innovating, not only in product development across our entire enterprise.

Turn to Slide 3, you are following along with our deck. The momentum we saw in the first quarter of the year continued through the second quarter, as we delivered another strong set of financial results. Consolidated net sales increased 5% year-over-year to $503 million, and we achieved a 430 basis point improvement in adjusted operating margin.

This margin improvement was a result of higher sales volume, the continued abatement of inflationary costs and productivity initiatives that drove cost savings. Adjusted diluted EPS increased an impressive 65% over the same period last year. Free cash flow of $51 million continued our positive trend, and we utilized it to repay $15 million of debt and repurchased $25 million of our shares.

Most importantly, our performance through the first half of the year along with our outlook for the balance of 2024, prompted us to increase our full year earnings guidance. David will cover this in a moment. Moving on to Slide 4, I'll provide some segment observations. In Light Duty, we continue to be encouraged by positive overall market trends. In addition to the long-term underlying growth trend in the prime VIO vehicles aged 8 to 13 years, which are in the sweet spot of Dorman's repair profile.

Vehicle miles traveled grew year-over-year, and we saw hotter-than-average temperatures across the U.S., which often precedes strong periods of vehicle repairs and parts sales. POS sales of Dorman's Products by our customers to end users grew high single digits in the quarter and generally was aligned with Dorman shipments. Excitingly, a large customer made the decision to transition a majority of spend from private label to Dorman branded packaging because they recognize the immense value the end customers place on our brand.

We see this as a validation of the investments we continue to make in innovation and the quality of our products and in the market's awareness of the benefits that Dorman brings. Additionally, our Light Duty business continues to drive significant value through its innovation strategy. During the quarter, we deployed hundreds of new products, including a number of new to the aftermarket parts. One good example from the complex electronics portfolio was the keyless entry keypad.

This component is designed to match the fit function and performance of the original exterior keypad. Finally, we took several critical steps in our continued DC automation journey that I'll discuss in a bit. Turning to Heavy Duty. The freight industry continued to be challenged. We're expecting this sector softness to remain through the rest of the year with few signs that we'll see an improvement before early 2025. Sequentially, however, for the second straight quarter, Heavy Duty sales performance was better than the prior quarter.

In terms of initiatives, our execution on the new to the aftermarket playbook in Heavy Duty is showing strong traction. Our new product development team continues to ramp up its exclusive product releases. A recent product launch that exemplifies this is our diesel particulate filter muffler housing kit, which is a product new to the HD aftermarket and conveniently provides a complete repair kit with all required plants and gaskets.

Also during the quarter, we launched an improved new product commercialization process in our Heavy Duty business, that will allow our customers to deploy the benefits of Dorman's innovations quickly and broadly through their customer bases, helping our customers grow new product sales and driving growth for Dorman. Finally, in Specialty Vehicle, we're focused on gaining share in a sector that continues to face headwinds.

Our strategy of driving growth from new dealers has increased sales year-on-year in this channel. Similar to our other 2 segments, new product development, particularly in nondiscretionary categories has also quickly become a reliable source of growth in the Specialty Vehicle business. On the new product front, we added hundreds of new products into the market during the quarter. Exciting recent launch was a SuperATV Black Ops Ready-Fit Winch, which includes machine fitted mounts and all wiring pre-installed.

For customers or dealers, this cuts down the installation time from 3 hours to just 30 minutes. Additionally, in the quarter, we saw productivity initiatives that drove margin improvement. We remain confident that demand for new vehicles, accessories and repair parts will rebound once customers become comfortable as volatility and inflation in the overall economy levels out. We believe we are beginning to see light at the end of the tunnel with Specialty Vehicle manufacturers signaling that inventory destocking efforts at dealers are nearly complete.

This suggests that wholesale shipments to dealers are coming back in line with retail sales to customers with current inventory stock levels back to pre-COVID levels. Next, as I mentioned in my opening remarks, I'm excited to share with you how we're deploying innovation not only in new product development but across our entire enterprise. In late 2020, we undertook a strategic review of our operations footprint with the goal of ensuring that our assets and capabilities were aligned with the ambitious commercial growth plans that we have set.

We recognize that our business was becoming more complex, as customer volume and service level demands were growing. This required excellence in multiple modes of operations fulfillment in order to continue serving our customers at a level that they rightfully demand. It quickly became clear that our old ways of operating were not sustainable in this new environment. And that without innovation, we would be facing space and labor constraints that could curtail our ability to scale and grow.

We decided that we needed to evaluate implementing best-in-class capabilities and automation to maintain our operations ability to execute our commercial growth. Turning to Slide 6. I'll discuss some of the solutions that we've implemented. First, let me say that 2 of our largest warehouses in Portland, Tennessee and Warsaw, Kentucky have been transformed in terms of how the flow and processes of the sites have been organized and optimized.

I'm truly proud of our operations, contributors creativity and reimagining their processes, their endorsement of what could have been a threatening set of changes, their alignment with and receptivity of their reimagined workflow. They embrace these investments as a force multiplier, allowing them to do their job more quickly, accurately and safely. We have deployed a fleet of autonomous mobile robots to reduce the time our contributor spend traveling through our countless rows of products.

These AMRs are on track to complete 200,000 miles of travel this year, with each mile representing approximately 15 minutes of labor that can now be applied by our contributors to higher function tasks. We have also deployed a set of vertical lift modules that operate like massive parts vending machines. These machines substantially reduce our parts storage footprint requirements and also improve fixed cycle times by approximately 38%.

Maybe most exciting, we are in the process of implementing a state-of-the-art warehouse execution system software package. It ties all of our investments together, allowing us to combine both automation equipment and people seamlessly and is expected to provide the scalability and flexibility to grow and manage our increasingly complex business going forward. All told, we've invested $14 million in capital and 3 years of research, design and implementation of these systems to provide our warehouse contributors and customers with substantial benefits.

Once fully utilized and optimized, we expect these projects will yield an annualized net savings of approximately $8 million and provide operational efficiency benefits to Dorman far into the future. While today, we're in the early innings with these projects, we're already seeing modest savings improvements compared to last year. As Light Duty Q2 total operations expense, as a percentage of net sales, was 80 basis points lower than last year.

The team is working hard to continue integrating these systems, and we expect to accelerate the savings over time. Now I'll hand off to David to review our Q2 financial performance.

[David Hession, executive]

Thanks, Kevin. Turning to Slide 7. Q2 consolidated net sales were $503 million, up 5% year-over-year. This growth was driven by increased demand in our Light Duty segment, including higher sales of new products. Partially offsetting this growth was this soft market conditions that continue to impact our Heavy Duty and Specialty Vehicle business.

I'll dive deeper into each of the segments in just a moment. Adjusted gross margin for the quarter was 39.6%, 450 basis point increase compared to last year. The year-over-year margin improvement was driven by the easing of inflationary pressures across the businesses to favorable cost savings initiatives, including the ones that Kevin discussed.

Adjusted SG&A expense was 24% of net sales, relatively flat compared to the same period last year. Adjusted operating income was $79 million in the quarter, a 45% increase from the same period last year. Adjusted operating margin was 15.6%, up 430 basis points year-over-year, primarily due to the improvement in gross margin. And finally, adjusted diluted EPS in Q2 was $1.67, an impressive 65% increase versus last year.

The growth was mainly due to the increase in adjusted operating income, coupled with the lower interest expense and share count reduction, partially offset by a higher tax rate. Next, let me provide updates on the quarter for each of our business segments, starting with Light Duty on Slide 8. Q2 Light Duty net sales were $385 million, a 9% increase year-over-year.

Shipments were generally aligned with customer POS during the quarter, growing high single digits. Our new products continue to drive meaningful sales for the segment. Light Duty operating margin was 17.1% in Q2, a 550 basis point improvement year-over-year. As with the overall business, lower cost inventory and cost saving initiatives continued to improve margins for the Light Duty segment.

Moving on to Heavy Duty on Slide 9. Net sales were $61 million in Q2, down 11% compared to last year. Like last quarter, Q2 was up against a strong prior year comparable as the COVID-driven inventory restocking peaked in the second quarter of 2023. We are encouraged that the Heavy Duty business has again managed to drive sequential quarter-over-quarter net sales growth in this environment, partially attributable to the investments we've made in new product development for HD.

Operating margin for Heavy Duty was 4.4%, down 50 basis points from last year's second quarter, but up 440 basis points sequentially. Heavy Duty's margin was impacted by the delevering of fixed costs on lower net sales volumes and the investments we have made to drive top and bottom line growth over the long term. Sequential improvement in net sales and operating margin are encouraging signs that the team is driving improvements in the business in a challenging market environment.

Shifting to Specialty Vehicle on Slide 10, our Q2 net sales were $56 million, a 2% decrease compared to last year. Similar to last quarter, we continue to see higher financing rates and general economic uncertainty, creating demand headwinds for the sector. With that said, we believe the business continues to capture share, as our sales outpaced the estimated mid-single-digit sector decline.

As we mentioned in our last call, we remain confident in the long-term opportunity for the Specialty Vehicle product, as alternative transport vehicles continue to generate strong enthusiasm so we believe this is a temporary challenge. Despite slightly lower sales year-over-year, Specialty Vehicle delivered solid margin growth. Q2 operating margin for the business was 17.8%, a 100 basis point increase over the same period last year, driven primarily by cost savings initiatives.

Turning to Slide 11, let me take a moment to cover our cash flow. Free cash flow was a healthy $51 million in the quarter. While free cash flow was down 5% compared to last year, this was partially due to cash used for inventory in 2024 versus cash provided in 2023 from significant inventory reduction, offset partially by higher net income. In line with our capital allocation strategy, consistent with the last several quarters, we invested $12 million in capital expenditures during Q2.

We also repaid $15 million on our credit facility and returned $25 million to shareholders with the repurchase of 272,000 shares at an average price of $91 per share. I'll turn next to our balance sheet and liquidity on Slide 12. As of June 29, net debt was $500 million, a reduction of $28 million from Q1. Our net leverage ratio was 1.44x adjusted EBITDA, down from 1.61x in the first quarter of 2024 and 1.87x at the end of last year.

Our current leverage is comfortably below our long-term target ceiling of 2x or less than 3x in the first year following an acquisition. Additionally, we had $576 million of total liquidity, including cash on hand. We remain confident in the strength of our balance sheet and the capacity we have available to execute our strategic initiatives. Now I'd like to discuss our updated guidance for 2024 included on Slide 13.

As I mentioned, Light Duty shipments generally were aligned with customer POS throughout the second quarter, and our guidance assumes that the 2 remain in sync throughout the balance of the year. Favorable market conditions are expected to continue in the second half with Light Duty sales growth consistent with our first half results. Our Heavy Duty business continues to be negatively impacted by a soft trucking market, and we expect this softness to continue through the balance 2024.

And finally, Specialty Vehicles and markets continue to face challenges, but we expect the team to continue to focus on taking share the new product launches geared around nondiscretionary repair products, adding new direct-to-consumer customers, building new dealer relationships. As a result, we expect Specialty Vehicle sales to be flat to slightly higher in the second half. Based on these expectations, we are confirming our consolidated full year net sales growth guidance of 3% to 5%.

We are raising our 2024 adjusted diluted EPS guidance range, $6 to $6.20, representing a 32% to 37% increase over the prior year. As we have discussed previously, we've made significant investments in productivity initiatives over the past several years. These efforts drove higher cost savings than we anticipated in the second quarter, which we expect to continue in the second half of the year. Our earnings guidance was also updated to reflect the impact of shares repurchased in the first half of the year.

With that, I'll turn it back over to Kevin to conclude. Kevin?

[Kevin Olsen, executive]

Thanks, David. We're proud of our second quarter and year-to-date results. Our strong first half results and positive outlook for our combined businesses through the balance of 2024, provided us with the confidence to raise our full year earnings guidance. Our teams in the Specialty Vehicle and Heavy Duty businesses have done an admirable job navigating market headwinds. Our Light Duty team continues to drive above-market growth.

We remain committed to investing for the future and capitalizing on our innovation strategy, develop new product solutions that allow our customers to succeed. This includes continuing to invest in automation capabilities in our operations to meet our customers' service level requirements and support our internal growth objectives. We're confident that our growth and innovation strategy, coupled with the dedication and hard work of our contributors will enable us to continue to drive momentum for our customers and other stakeholders.

With that, I would now like to open the call for questions. Operator?

[Operator]

[Operator Instructions] Your first question comes from the line of Scott Stember with ROTH MKM.

[Scott Stember, analyst]

Very impressive POS growth in Light Duty. A couple of your customers on their second quarter conference call talked about some weakness that popped up notably, I guess, in hard parts or undercar parts. Just trying to get a sense if you saw that within those numbers. And just to kind of parse out market versus share gains for you guys with new products.

[Kevin Olsen, executive]

Thanks, Scott. Good question. I mean if we look at the POS, I mean, we saw a broad-based growth really across all our categories. I'm not really going to talk specific category growth levels, but there was a solid quarter. No question that the macro trends continue to remain favorable there in that segment. You've got more used cars. They're older, miles driven continues to be at solid levels and the sweet spot for us that we've talked a lot about before the 8- to 13-year-old vehicle cohort continues to grow.

We also continue to see a lot of traction with new products. We had a really solid quarter for new products. We launched roughly 1,700 SKUs or so across the enterprise in the second quarter, roughly 30% of those were what we would consider new to the aftermarket, so they don't exist in the aftermarket at the time that we launched it. And that was a 20% growth over the previous Q2. So we feel really good with our strategy to continue to deliver innovation to the aftermarket. And as we've said, we believe that will continue to drive above-market growth.

[Scott Stember, analyst]

Got it. And then my follow-up question on Heavy Duty and Specialty factoring some of the cost containment measures and assuming sales do come back in Specialty later in the year and Heavy Duty next year. What are the margins that we should -- operating margins by segment that you could expect on the incrementals, as things come back.

[David Hession, executive]

Yes, Scott, it's David. It's a good question. So we've seen some really good work. The team has been focused on margin over the last several quarters, and we've made some great progress. As we kind of think about the 3 businesses and where we expect the margin profile to be, we expect the Light Duty to be kind of in that high teens, same with the Specialty Vehicle high teens and then the Heavy Duty business probably more in the mid- to high teens.

So again, if you look at where our Q2 results came in, we're kind of in the ballpark on 2 of the 3. And like I said, I feel good about the progress we've made over the last few quarters.

[Operator]

Your next question comes from the line of Bret Jordan with Jefferies.

[Bret Jordan, analyst]

On the light vehicle, is there a way to sort of look at the same SKU POS? Because that high single digit, obviously, is very strong performance versus your customers' sales. If we take out what was new products driven, could we get a feeling for, I guess, traction in the core SKUs?

[Kevin Olsen, executive]

Yes. I would say, Bret, that we don't publicly break that out. But frankly, most of our growth is driven by new product, whether it was launched 2 years ago, 3 years ago, 1 year ago or this year. So that has been the driving factor of our -- of all our growth, Bret, as you look kind of backwards incrementally to what the market growth is, which we believe is kind of in that low single-digit level.

[Bret Jordan, analyst]

Yes. Okay. And then within Specialty, I guess, do you give any color on the cadence of POS there? Is the consumer and specialty getting incrementally better, as you're sort of looking for some improvement in sell in, I guess, in the second half, does that mean the sell-out is improving?

[Kevin Olsen, executive]

No, I wouldn't say the sell-out improving. I mean that business right now, frankly, has been flattish if you look at the first half of the year. We had some modest growth last year. There is some signs that inventory in the dealer channel is starting to come down back to more normalized levels. That will help as new machine sales growth ramps up.

But we're not going to bank on that, Bret. Our strategy there has been, the market is what the market is, and we're focused on kind of 2 major initiatives there, which is continuing to take share in the dealer channel and increasing our nondiscretionary repair part business, which we've been very successful in.

That's enabled us to kind of drive flattish to modest growth in what we view as a slightly down market. So those are the things that we're going to continue to focus on in addition to productivity initiatives across the business.

[Bret Jordan, analyst]

What's the sweet spot in Specialty? Do you sell more when a new ATV or UTV is sold? Or do you sell more into the maintenance of a 3- to 5-year-old ATV?

[Kevin Olsen, executive]

Great question, Bret. A very high percentage of our sales come within the first 2 years of a new vehicle sale. So for us, when we see new vehicle sales drop, that really does impact the business.

[Operator]

There are no further questions at this time. This will conclude today's conference. We thank you for joining. You may now disconnect your lines.