Franklin Electric Co Inc

NASDAQ:FELE

Earnings Call Analysis

Franklin Electric's Resilient Q2 Amid Sales Decline

Despite a 5% year-over-year decline in sales to $543.3 million, Franklin Electric achieved near-record earnings in Q2 2024. The company improved gross profit margins to 36.8%, driven by manufacturing productivity and favorable product mix. Water Systems saw a 23% rise in operating income to a record $62.3 million, while Fueling Systems achieved a 35.6% operating margin, its highest ever. However, Distribution struggled with continued wet weather, resulting in lower sales and higher SG&A costs. The company maintains its full-year sales guidance but reduced EPS expectations to $4.16-$4.34 due to ongoing macroeconomic pressures and weather-related challenges.

Introduction and Context

Franklin Electric's second quarter of 2024 exhibited resilience in the face of macroeconomic challenges and adverse weather conditions. Despite a 5% decline in consolidated sales compared to Q2 2023, the company achieved near-record earnings, highlighting the strength of its diverse product lines and global reach【4:0†source】.

Financial Performance Overview

The company's consolidated sales for Q2 2024 were $543.3 million, down from the previous year's $569.3 million. However, the gross profit margin improved to 36.8%, up by 370 basis points. Operating income was $79.1 million, slightly down by 2%. Franklin Electric's EPS stood at $1.26, closely mirroring the prior year's $1.27【4:1†source】【4:3†source】.

Segment Analysis: Water Systems

Water Systems saw a 2% decline in sales but achieved a record operating income of $62.3 million, an increase of 23%. This success was driven by gains in the residential groundwater and surface pump businesses, as well as improvements in manufacturing productivity and cost management. Operating margins for this segment reached 19.7%【4:1†source】.

Segment Analysis: Fueling Systems

Sales in the Fueling Systems segment dropped by 9% to $73.1 million, primarily due to lower volumes and a $10 million backlog resolved in the previous year. Despite the sales decline, operating margins hit an all-time quarterly high of 35.6%, up by 240 basis points, thanks to favorable product and geographic mix【4:3†source】.

Segment Analysis: Distribution

The Distribution segment faced a 1% decline in sales, amounting to $190.5 million, impacted by persistent wet weather across the U.S. This segment's operating income fell significantly by $8 million to $9.8 million, due to higher SG&A costs【4:1†source】【4:3†source】.

Challenges and External Factors

The company continues to face challenges including a 44% decline in large dewatering equipment sales in the U.S. due to the cyclical nature of the business, and ongoing adverse weather conditions, which have impacted order rates. However, improvements were seen in other product lines such as water treatment products (up 12%) and surface pumping equipment (up 11%)【4:2†source】【4:4†source】.

Looking Ahead

Franklin Electric remains optimistic about the second half of 2024, despite lowered EPS guidance from $4.16 to $4.34 for the full year. Sales are expected to fall between $2.10 billion and $2.17 billion. The company plans to focus on operational efficiencies, cost management, and leveraging its global footprint and M&A pipeline for future growth【4:3†source】【4:11†source】.

Leadership Transition

CEO Joseph Ruzynski, who recently took over from Gregg Sengstack, expressed his commitment to building on the company's strong foundation. He emphasized opportunities in faster-growing markets, use of data and analytics, and an optimistic outlook for future growth【4:11†source】【4:13†source】.

Earnings Call Transcript 2024-Q2

[Operator]

Hello, and welcome to the Franklin Electric Reports Second Quarter 2024 Sales and Earnings Conference Call. [Operator Instructions] Please be advised that today's conference is being recorded.

It is now my pleasure to introduce Chief Financial Officer, Jeff Taylor.

[Jeffery Taylor, executive]

Thank you, Andrew, and welcome, everyone, to Franklin Electric's Second Quarter 2024 Earnings Conference Call. With me today are Joe Ruzynski, our Chief Executive Officer; and Gregg Sengstack, our Executive Chairperson.

On today's call, Gregg will review our second quarter business highlights. I will provide additional details on our financial performance, and then Joe will share some initial thoughts on his first few weeks with Franklin. We will then take questions.

Before we begin, let me remind you that as we conduct this call, we will be making forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements are subject to various risks and uncertainties, many of which could cause actual results to differ materially from such forward-looking statements.

A discussion of these factors may be found in the company's annual report on Form 10-K and today's earnings release. All forward-looking statements made during this call are based on information currently available and, except as required by law, the company assumes no obligation to update any forward-looking statements.

With that, I will now turn the call over to Gregg.

[Gregg Sengstack, executive]

Thank you, Jeff, and thank you all for joining us. Our second quarter results were solid but fell below the record levels reach in the prior year period.

Macroeconomic challenges and wet weather across the U.S. continued to pressure sales, but our performance held up well as we delivered near record high earnings during the quarter. Further, strong execution by our global teams, along with the diversity of our product lines, geographic presence and customer base demonstrated the resilience of our business as we drove margin expansion on lower sales.

The second quarter represented a sequential step-up in sales due to seasonal factors. However, this impact grew to be a bit softer during the quarter as compared to prior years. Consolidated sales were down 5% or $26 million compared to our second quarter 2023, reflecting the ongoing challenge of project delays in part due to adverse weather, particularly in the United States and within our Distribution segment.

Similar to the first quarter of 2024, one of the main factors pressuring sales was a decrease in large dewatering equipment sales in the U.S. to our fleet rental customers, coming off record sales activity in the prior year during which our customers built up substantial inventory.

Outside of these lower large dewatering volumes in the U.S., the rest of our U.S. Water Systems business delivered solid growth. Outside the U.S., excluding the impact of foreign currency translation, we saw positive performance in water systems, including robust growth in Asia Pacific and steady demand in MENA and the Southern Hemisphere.

The strength in our manufacturing business, however, was offset by order softness in distribution in the United States. As we mentioned before, we are experiencing some of the wettest weather patterns on record in the U.S., which negatively impacted sales. We achieved strong margin performance in the quarter, led by our Water and Fueling Systems Manufacturing segments.

Consolidated operating margin was 14.6%, representing an improvement of 40 basis points overall compared to the prior year period. We're encouraged by the increased productivity across our operations and stabilizing input costs.

Turning to our segments. Water Systems second quarter sales declined 2%, but operating income increased 23% to set an all-time quarterly record for the segment. As mentioned, much of the sales decline can be attributed to a continuation of lower volumes due to the cyclical nature of our large dewatering business. However, our residential groundwater and surface pump businesses continue to grow, and we're gaining wallet share with both new and existing customers.

Overall, operating margins in Water Systems improved to 19.7%, up 390 basis points versus prior year, driven by favorable product mix as well as operational efficiencies and lower freight expenses.

Fueling Systems sales and operating income decreased 9% and 3%, respectively, versus the prior year driven by lower volumes. However, in the second quarter of last year, the team worked through close to $10 million of backlog. With backlogs at normal levels, orders entered in Q2 of 2024 were actually up about 5% over Q2 of last year. This supports what we are hearing from major marketers.

The build season has progressed largely as expected outside weather-related delays, which is encouraging for the back half of the year. Despite softer sales, Fueling Systems operating margin was an all-time quarterly record of 35.6%, representing an increase of 240 basis points compared to the prior year.

Margin improvement was favorable -- is a result of favorable product and geographic mix. Sales in the distribution business decreased 1% from the prior year, primarily due to the continued negative impact of wet weather across the U.S. that delayed contractor installations. Starting in June, weather began to drive in the Western U.S. and order rates increased commensurately.

Operating margin was 5.1%, a 410 basis point decline versus the prior year due to higher overhead costs. At the end of the quarter, we took actions to reduce our operating and SG&A expenses within the Distribution segment. We expect the financial benefit from these actions in the back half of the year.

Overall, global inventory levels are favorable compared to the prior year period, though higher sequentially, which is typical for the second quarter as we build inventories to the busier summer season. We are mindful that after a rather historic post-pandemic multi-quarter decline in channel inventory levels, we need to be positioned to respond to any surge in demand as channel inventories continue to settle out. That said, we continue to forecast our free cash flow will again exceed our net income for the year.

With that, I will now turn the call back over to Jeff.

[Jeffery Taylor, executive]

Thanks, Gregg. Overall, our second quarter was solid. While sales were below the record sales levels of last year, we were able to improve our gross profit margins to record levels.

Our fully diluted earnings per share were $1.26 for the second quarter for 2024 versus $1.27 for the second quarter of 2023, the second best quarterly EPS in the company's history. Second quarter 2024 consolidated sales were $543.3 million, a year-over-year decrease of 5%. The benefits to sales from our 2023 acquisitions were more than offset by lower volumes and the negative impact from foreign currency translation.

Water Systems sales in the U.S. and Canada were down 5% compared to the second quarter of 2023 due entirely to volume declines in the sales of large dewatering equipment, which decreased 44%.

All other major product lines increased with sales of water treatment products increasing 12%. Sales of all other surface pumping equipment increasing 11% and sales of groundwater pumping equipment increasing 6% compared to the second quarter of 2023.

Water Systems sales in markets outside the U.S. and Canada increased by 3% overall. Foreign currency translation decreased sales by 4%. Outside the U.S. and Canada, sales in the second quarter of 2024 increased in all major regions, EMEA, Asia Pacific, and South and Latin America, excluding the impact of foreign currency translation.

Water Systems operating income was a new record for any quarter at $62.3 million in the second quarter of 2024, up $11.5 million or 23% versus the second quarter of 2023. Operating income margin was 19.7%, a year-over-year increase of 390 basis points. The increase in operating income and improved margin was due to improved manufacturing productivity, favorable product mix shifts, and cost management.

Distribution second quarter sales were $190.5 million versus second quarter 2023 sales of $193.1 million, a 1% decrease. Continued wet weather through the second quarter dampened sales, notably in the West, Northeast and Midwest regions of the U.S.

The Distribution segment's operating income was $9.8 million for the second quarter, a year-over-year decrease of $8.0 million. Operating income margin was 5.1% of sales in the second quarter of 2024 versus 9.2% in the prior year. Income was negatively impacted by lower sales and higher SG&A cost.

Fueling Systems sales in the second quarter were $73.1 million. Sales decreased $7.3 million or 9% in the second quarter of 2024. Fueling Systems sales in the U.S. and Canada decreased 4% compared to the second quarter of 2023. The decrease was across all major product lines. Outside the U.S. and Canada, Fueling Systems revenues decreased 7%, primarily due to lower sales in EMEA and Asia Pacific.

Fueling Systems operating income was $26 million compared to $26.7 million in the second quarter of 2023. The second quarter 2024 operating income margin was 35.6% compared to 33.2% of net sales in the prior year. Operating income margin increased primarily due to improved manufacturing productivity, price realization, and cost management.

Franklin Electric's consolidated gross profit was a record $199.8 million for the second quarter of 2024, a 6% year-over-year increase. The gross profit as a percentage of net sales was 36.8% in the second quarter 2024, up 370 basis points versus 33.1% of net sales in the prior year. The gross profit margin was favorably impacted in 2024 by improved manufacturing productivity and utilization with fewer supply chain disruptions, lower freight costs, cost management across the company and a favorable product mix shift.

Selling, general and administrative or SG&A expenses were $120.6 million in the second quarter 2024 compared to $107.4 million in the second quarter of 2023. The increase in SG&A expense was due to the incremental expense from recent acquisitions, higher compensation costs and increases in advertising and marketing expense.

Consolidated operating income was $79.1 million in the second quarter 2024, down $1.8 million or 2% from $80.9 million in the second quarter of 2023. The decrease in operating income was primarily due to the distribution segment.

Second quarter 2024 operating income margin was 14.6% versus 14.2% of net sales in the second quarter of 2023, driven by strong operating margins in our manufacturing businesses. The effective tax rate was 23% for the quarter compared to 19% in the prior year quarter. The company purchased about 379,000 shares of its common stock in the open market, were approximately $37 million during the second quarter of 2024. At the end of the second quarter 2024, the remaining share repurchase authorization is approximately 460,000 shares.

The company ended the second quarter of 2024 with a cash balance of $58 million and generated $35 million in net cash flows from operating activities during the first 6 months of 2024 versus $43 million in the first 6 months of 2023. The company is focused on improving its cash flow and working capital requirements through improvements in customer and vendor terms in addition to managing inventory levels.

Earlier this week, the company announced a quarterly cash dividend of $0.25 that will be paid August 15 to shareholders of record as of August 1.

Looking ahead, despite ongoing macroeconomic pressures and what we believe to be transient weather-related challenges, we hold an optimistic view for the underlying demand in our core markets. We are maintaining our full year sales guidance to be in the range of $2.10 billion to $2.17 billion. However, we are lowering our full year EPS guidance to between $4.16 and $4.34, which incorporates our first half performance and our outlook for continued solid execution in the second half while maintaining strong margins similar to the first half.

I will now turn the call over to Joe.

[Joseph Ruzynski, executive]

Thank you, Jeff. Thank you, Gregg, and good morning, everyone. I would first like to express my deep gratitude to Gregg. Gregg, thanks that, for the exceptional leadership and contributions to Franklin Electric over these past 35 years and the past 10 years as CEO. Under Gregg's stewardship, Franklin Electric has achieved remarkable growth and maintained a strong reputation in our industry. I'm excited to build on this legacy and lead Franklin forward.

From this strong foundation established by Gregg and the entire Franklin team, I'm confident in our ability to capitalize on numerous opportunities ahead of us to drive differentiated growth as a global leader of Water and Energy systems. As I've joined and spent time with our team, I'm particularly excited about the opportunity to bring our expertise and solutions to adjacent faster-growing markets, our use of data and analytics to increase our ability to bring new products to market with velocity, our strong global footprint to take advantage of the biggest needs around the world for clean water and a robust M&A pipeline. I also see that we're in a great position to accelerate productivity to fuel and to fund our growth opportunities.

I look forward to closely working with our talented team and stakeholders to continue to deliver value to our shareholders and meet the incredible demand for Water and Energy around the globe.

This concludes our prepared remarks, and we will turn the call over to Andrew for questions. Andrew?

[Operator]

[Operator Instructions] Our first question comes from the line of Mike Halloran with RW Baird.

[Unknown Analyst]

This is [ Pat ] on for Mike. Gregg, I just wanted to take a second and congratulate you on a fabulous career and tenure and thank you for all the help that you've provided over the years. Maybe, Joe, I want to kind of touch on a comment you made at the end there. You talked about numerous opportunities to drive differentiated growth, talk about pivoting towards higher-growth markets, implementing data and analytics and a robust M&A pipeline and funnel. Obviously, all of that sounds fabulous.

Maybe talk a little bit about how you see Franklin down the line, maybe talk a little bit more about your vision for the business as it stands today and maybe some of those avenues for differentiated growth that you see as you're stepping into the role.

[Joseph Ruzynski, executive]

Yes. One nice thing about starting what I have is during the strategy cycle. So I see a lot of the seeds for those opportunities and growth already that the teams are working on. When I look maybe a couple of examples in wastewater and mining, as really good examples of new products and recent acquisitions we've made around the world for faster-growing markets, and I think can give us some good natural hedges to some of the weather and the other things that we're seeing in the world today. Some of those opportunities for acquisitions are taking advantage of Franklin's tremendous channel.

And I think bringing products that we see needs for locally that we acquired globally and getting those to our customer. With the comment on data and analytics, a tremendous system architecture in a very clean look at data here. I think Franklin Electric's opportunity to use data end-to-end, the intimacy we have in our end markets through our distribution channel, as an example, really gives us that opportunity to understand our customers, what they're looking for and to respond faster than anyone else in the industry. So I think really a lot of nice opportunities that I look forward to working on with the team to develop and execute.

[Unknown Analyst]

That's excellent. And we look forward to hearing more about that and working with you in the future. Switching gears to the quarter, obviously, a healthy performance here. I want to kind of dial in on the margin and price cost. Maybe could we touch on price cost across the three segments? How are we thinking about that Fueling margin? Anything onetime that we should be thinking about as we move into the back half and start thinking about next year?

[Jeffery Taylor, executive]

Yes. I appreciate the question. I mean, really strong performance in the business this quarter from a margin perspective, and certainly focused on the manufacturing businesses within Water and Fueling. And Fueling set a record operating margin for the quarter this year. So we have really good manufacturing costs as supply chains have settled down. We've gotten stability in the input costs for the most part.

The team has been able to really take a lot of the uncertainty out of the manufacturing environment and we're seeing that improvement in our manufacturing costs. That's certainly a piece of it in both Water and Fueling, I would say.

Also within Fueling, we're seeing while volumes are down year-over-year, the mix is still pretty positive and pretty favorable as we continue to focus on higher-value technology products that's continuing to drive our business, but also we have -- a business is a little heavier this quarter in the U.S. than it is outside the U.S. and that's typically favorable for our business on the margin side as well.

When we look at price, Fueling is getting good fair price in the market. So they're in that kind of low to mid-single-digit price improvement and they're also, like I said, their volumes are down year-over-year, but we've seen we're starting to see improvement in order patterns, as Gregg talked about in his prepared remarks.

So we're optimistic there on the back half of the year. For Water, price is low single digits. Markets have, kind of, the competitiveness has increased in the markets, but we're holding price there. And still getting positive price. We have a negative volume in water. That's entirely driven by our large dewatering business, which we talked about as well. And so all of our other major product lines have positive volume and really nice growth, and that includes both inside and outside the U.S. Let me stop there and see what other questions you have.

[Unknown Analyst]

No, no. I don't want to [ bog out ] at the start of the call, so I'll pass it along and hop back in line.

[Operator]

One moment please for our next question. And our next question comes from the line of Walt Liptak with Seaport Global.

[Walter Liptak, analyst]

Great quarter and nice to meet you, Joe over the phone. Yes, with the weather headwinds seem to be really pretty brutal and some of the commodity prices seem to be pretty brutal. And I think what you guys are saying is that in the Water Systems part of the business, you had volume growth, not just price. Is that right? Or were you seeing volume declines in some of the pharma-related products.

[Gregg Sengstack, executive]

So Walt, this is Gregg. What we'd say is that from the lower data, is they look back the last 130 years, we're in the 90th percentile for rain across the country. It's really broad-based. It wasn't kind of -- it started in the West, and then in the northeast and we hit all of our key markets. So certainly, that put pressure on volumes, although we did see in our prepared remarks, you'll see that our ground large business was up and leaning more heavily to the small pumping systems for residential, where is the more replacement market, you don't turn on systems, as you know, in ag markets when it's raining. And so that's where, as you pointed out, we had some pressure on the volume side.

And that's where we felt like we were seeing it drying out in the West starting in June. And as soon as it dries out here, we saw it in Europe, orders start coming in. So that's why we're looking at the back half on a more positive basis.

The volume decline, as Jeff and I both mentioned, really relates to the cyclicality of the large watering pump market, which is more of a capital cycle exposure. These rental companies, they bought a lot of product last year, catching up from the pandemic and just had the challenges getting it out in the field. And so it's just been a delay there. They'll work through that. We still see strong indicators for the end markets that construction is going to do well. But that's what address that piece of the market.

But related to the ag piece is that, it was under some pressure because of just the wet conditions in Q2. And again, as we move to the back half, senses, things will dry out. If you follow El Niño and La Niña, it should be same, we're going to [indiscernible] it's certainly favorable for us, but I'm not a weather predictor, so I don't play further to that. I mean, Jeff, do you want to add on the margin side here.

[Jeffery Taylor, executive]

Well, I was going to add that in the dewatering business, that is concentrated in the U.S. for our fleet customers outside the U.S., we are -- our business is up in our dewatering business. So I think that supports the what we're seeing in our business today.

[Walter Liptak, analyst]

Okay. Great. So the -- so if I'm understanding the outlook, the idea is that, yes, we're -- with this drying out, the weather is going to be harder, I think, in the Midwest, maybe not as much rain, so as some of the irrigation systems get turned on, you might get better pull through into the third quarter and throughout the rest of the year. Is that the way we're supposed to read it?

[Jeffery Taylor, executive]

Yes. I think, that's consistent with the guidance and the outlook that we have, well, and that is that, we'll see some improvement in weather, certainly in the back half of the year. That will pull through on our distribution business and hopefully be helpful in the second half of the year. So that's a part of a strong execution in Water Systems.

Water Systems, as you know, is performing very well in all areas, except for that large dewatering in the U.S., and I would tell you that our view on large dewatering for the back half is -- it's probably a little bit similar to the first half, but I also expect the rest of the business to perform well in the second half. And so that's a good, solid outlook for Water Systems. And in Fueling Systems, as we commented, we've started to see improvement in order entry there, and we're expecting some improvement in the back half there as well.

[Walter Liptak, analyst]

Okay. Yes, that sounds great. When you talk about the La Niña part of it, Gregg, that's interesting because that does, I think, bring in...

[Operator]

We lost Walter's line. One moment, please. Our next question comes from the line of Matt Summerville with D.A. Davidson.

[Matt Summerville, analyst]

And of course, congrats, Gregg. Just a quick question on the distribution business. I think revenue was down a couple of million bucks year-on-year, yet operating profit dollars fell by a materially higher amount. So can you help kind of parse out the main operating income drivers on a year-over-year basis for distribution during the quarter?

[Jeffery Taylor, executive]

Yes, Matt, the distribution business, I think, I had a line on this in my comments, but the distribution business, obviously, on lower volume, if you -- they had an acquisition at the end of last year. And so that was additive to their overall revenue. But their core business was down by that amount plus the miss. So volume is a driver. They also have higher operating expenses in the quarter. We do have investments in the business where we've added, what I'll say, the new locations, some greenfield sites. It takes those greenfield sites about 2 years to get up to speed into a normal operating performance.

And so we do have some higher operating expenses because of some of those investments that we've made overall. And then they continue to see commodity price pressure in the business. And so commodities were down about 4% in this quarter. We are starting to see that stabilize, but it continues to be an environment for us in the business.

[Matt Summerville, analyst]

Got it. And then with respect to the Water Systems, the margin performance there, any unusual sort of benefits beyond mix? It sounded like volume was maybe a touch down a bit, obviously dewatering driven, but help me understand the big ramp we've seen in water margins and how we should think about sustainability given your historical kind of long-term target for that segment?

[Jeffery Taylor, executive]

Yes. We saw a really solid performance in the Water business in the quarter, within the first half of the year, both. And so that business is doing really, really well with the exception of the large dewatering. So strong growth in the water treatment business, strong growth in our surface pumping product lines that we have in that business and then growth in groundwater. And that all contributes to having a favorable mix, but they also benefited from having a nice step up in manufacturing, productivity, and utilization in the quarter.

And so as I commented earlier about those improvements, that certainly benefited the water business the most, because they're the biggest -- they operate the biggest manufacturing footprint in the company. And so we got really good manufacturing productivity throughput. I would say nothing here is popping in by hands in terms of unusual or onetime items that would have driven that strong performance. it's really mix-driven, productivity-driven and volume-driven in all product lines except for large dewater.

[Operator]

Thank you. And I'm showing no further questions. So with that, I hand the call back over to CEO, Joe Ruzynski, for any closing remarks.

[Joseph Ruzynski, executive]

Thanks, Andrew. Well, we want to thank everyone for your time today and your interest in Franklin Electric. We are excited about our future and look forward to speaking with you all at our next earnings call. Thank you.

[Operator]

Thank you for participating. This concludes today's program, and you may now disconnect.