ESAB Corp

NYSE:ESAB

Earnings Call Transcript 2022-Q1

[Operator]

Good morning, ladies and gentlemen. My name is Abby, and I will be your conference operator today. At this time, I would like to welcome everyone to the ESAB Corporation's First Quarter 2022 Earnings Conference Call. Today's conference is being recorded. [Operator Instructions] Thank you.

And at this time, I would like to turn the conference over to Mark Barbalato, Vice President of Investor Relations. Mr. Barbalato you may begin your conference.

[Mark Barbalato, executive]

Thanks, operator. Welcome to ESAB's First Quarter 2022 Earnings Call. This morning, I am joined by our President and CEO, Shyam Kambeyanda; and CFO, Kevin Johnson. Please keep in mind that some of the statements we are making are forward looking and are subject to risks, including those set forth in our SEC filings and today's earnings release. Actual results might differ, and we do not assume any obligation or intend to update these forward looking statements except as required by law. With respect to any non-GAAP financial measures made during the call today, the company reconciliation information relating to those measures can be found in our earnings press release in today's slide presentation.

With that, I would like to turn the call over to our president and CEO, Shyam Kambeyanda.

[Shyam Kambeyanda, executive]

Thank you, Mark, and good morning, everyone. Thank you for joining us today. Let me start by reminiscing a bit. April 5 was a fantastic day for ESAB being listed on the New York Stock Exchange was a source of profound pride for all of our global associates. Over the last 5 years, we've made solid progress and have confidence in our strategic direction moving forward. As a team, we're focused on taking our ESAB business system that we call EBX up a notch to continue to drive innovation, growth, margin expansion, better cash flow and breakthrough strategies to deliver long term shareholder value.

Turning to Slide 3. I am pleased to report another quarter of strong results. We extended our outperformance on volume growth and improved our margins year over year. I am very proud of our team's focus and determination as we successfully navigated headwinds due to COVID restrictions in China and the war in Ukraine. In terms of financials, in the first quarter, we delivered a record of $648 million in sales, 18% year over year, organic growth, which reflected strong price realization and a broad based demand for innovative solutions. EBITDA climb to $109 million, a 16% increase year over year. Our margins expanded 30 basis points to 16.9%. We continue to introduce exciting new products and as I mentioned before, we have taken our EBX efforts up a notch, and I will share more on both these topics in the next 2 slides.

Now moving the Slide 4. We launched 28 new products in Q1 and continue to prioritize investment in R&D. Our open innovation process has allowed ESAB to accelerate the pace of innovation. For the full year we are on target to launch approximately 110 new products. And we take a bit of time to highlight some of them. RobustFeed, this is an award-winning feeder that is used in heavy industrial applications. during the quarter, we redesigned the unit so that it can connect to any power source, helping us expand the market for this product.

The fabricator has new and upgraded technology that simplifies our product line and provides a competitive offering to our customers. I have mentioned product line rationalization in the past. This accelerates our rough efforts to rationalize our SKUs and improve margins going forward. Our gas control bus business also launch some exciting new products in the first quarter, the druvaPUR, High Purity and MediVital, these are great examples of us designing the best in class technology and expanding into new geographies.

Moving to Slide 5. I'm really excited about the next phase of EBX. And I wanted to share with you some examples of Kaizen as we completed in the first quarter, we continue our EBX journey to improve safety and productivity while reducing our footprint. In the first quarter, we completed 10 major Kaizen in North America, which resulted in $3 million in productivity savings. These Kaizens also freed up over 5,000 square feet of manufacturing and assembly space.

The main tenant of our Kaizen is to improve quality, productivity and safety with minimal capital investments. And that's exactly what we did in the example I'm sharing with you. At our Denton facility, one of our key product lines, we increased sales per month by over 40% and improved productivity by 42% gain manufacturing space and improved safety. I will be visiting the Denton facility later this month to celebrate with our team.

Moving to Slide 6. First quarter 2022 sales rose to a record $648 million, a 14% increase year-over-year, 18% organically. This reflected a volume increase of 4%, a price increase of 14 and a 400 basis points of currency impact. We continue to experience healthy demand across most geographies. A real highlight to this quarter was record equipment sales at ESA. The regions where we experienced lower sales were Russia as expected and China due to COVID lockdowns.

Our teams continue to do a fantastic job managing price to offset the impact of inflation. With our focus on margin expansion, EBITDA increased to $109 million up 16% and expanded margins, 30 basis points to 16.9% with a strong year over year performance from our America's unit.

Moving to Slide 7 and talking specifically about our America segments. The America segments performed well as sales climbed to $272 million, a 21% growth organically. This reflected increases in volume of 3% and a price of 18% with a slight currency headwind. We are continuing to make good progress, our new and improved product offering our driving growth in the channel. EBITDA increased by 32% margins expanded by 150 basis points, reflecting strong execution as our team successfully managed through inflation and supply chain constraints.

Earlier, I shared our lean activities and I am very proud of our team and what we are building together. We have lots of exciting new products under development, which will drive future growth and margin expansion. And I'll share more in due time.

On to Slide 8. Now talking about our EMEA and APAC segments. Our EMEA and APAC segments perform well despite headwinds in the quarter from COVID in China and the war in Ukraine. First quarter sales increased 10% and climbed 16% organically. This reflected a volume increase of 4% of price of 12 and a 600 basis points of currency headwind. This region also saw record equipment sales. Another highlight in the quarter was the momentum we are building in robotics and well cloud solutions, driving growth in both our funnel and auto backlog. EBITDA increased 7% in the quarter. EBITDA was 17.4%. This included approximately 4 million provision related to Russia without which margins would have increased 50 basis points year over year. I'm very proud of our teams in Europe, Middle East and Asia during these challenging times, they have performed extraordinarily well and have built great momentum.

Moving to Slide 9. Let me turn it over to Kevin.

[Kevin Johnson, executive]

Thanks, Shyam. On today's call, we are confirming our 2022 guidance. As we discussed at our investor day, this guidance has been updated to reflect the impact on our Russian business. In the first quarter, Russia contributed around 6% of sales as we had expected and our guidance for the rest of the year, we have removed any further sales and profit from Russia. Our business excluding Russia is performing really well. And we continue to expect organic growth of 9% to 12%. We did have some pressure in China in the first quarter, as Shyam mentioned, sales down approximately a hundred basis points due to the recent wave of COVID lockdowns. But our main manufacturing facility in China is now open. And we expect things that are to improve in the second quarter. We are still operating in a highly inflationary environment and are closely monitoring this.

If we experience any further inflation, we will respond quickly with price increases. Our team has made good progress on our manufacturing consolidation and transformation project in the first quarter. We remain on target to deliver around $20 million of savings this year. EBITDA is guided to $400 million to $420 million, which includes approximately $35 million of additional public company expenses. Around $6 million of which we incurred during the first quarter. Our adjusted EPS remains in line with our previous guidance at $3.85 to $4.05. We continue to be on target to deliver free cash flow of greater than $210 million. In the first quarter free cash flow at $22 million was in line with expectations. Lower than the prior year due to additional investments we have made in working capital to support growth and mitigate supply chain risk.

We expect to see free cash flow improve as we progress through the rest of this year. In the near term, our priorities are focused on paying down debt and we are considering initiating a modest quarterly dividend. To assist with modeling, we have included some additional slides in the appendix, a more detailed guidance slide, an additional quarterly historical financials by segment.

Let me now hand back to Shyam on slide ten to wrap up.

[Shyam Kambeyanda, executive]

Thank you, Kevin. We're off to a great start as a public company, our team continues to manage price to offset inflation and successfully mitigate supply chain risks. EBX is in our DNA. The planned activities in lean manufacturing, coupled with our business process improvements provide a clear path to growth, margin expansion and improved cash flow. The team is in place we are on target to deliver our long term strategic goals.

With that, I want to thank you again for joining us. Operator, can we please open the line for questions?

[Operator]

[Operator Instructions] And we will take our first question from Chris Dankert with Loop Capital.

[Christopher Dankert, analyst]

I guess first off, congrats on all the hard work that got you guys here. So I guess first question here, kind of looking at everything, speaking to Europe specifically, maybe you can kind of just tell us the lay, the land, what you're seeing in terms of order rates demand. Just kind of give us an update on what you're seeing there kind of in the context of, of the conflict and kind of economic concerns there.

[Shyam Kambeyanda, executive]

Chris, thank you for the question. So what I would say to you is that the momentum that we had in the first quarter continues into the second quarter. That being said, we are closely monitoring our daily sales rates, our order rates. And as of now, we are not seeing anything that changes our view or anything to our forecast that we have already issued in the press release and in the presentation.

[Christopher Dankert, analyst]

Got it. Okay. Glad to hear. You are kind of comfortable on, on that market. That may be kind of a bigger picture question. I mean, roughly half the markets historically have been lower labor cost regions, I guess, thinking with that backdrop, how do we think about automation solutions kind of within the ESAB portfolio and maybe kind of what is the mix of automation sales today and kind of where that's headed?

[Shyam Kambeyanda, executive]

Yes. I don't think we have given out specific numbers related to automation or as a percent of our sales Chris, but what I would say to you is that what we are seeing, even in emerging markets and adaptation of sorts, as you see the labor market in terms of welders minimized, we do see adoption for automation and especially the solution that we're looking at. I've talked about this many times before with the octopus acquisition what we have today within our portfolio is the ability to program robots within hours on an offline basis. And so what I would say to you on that particular front, we see a strong trajectory for growth within our business, in both the emerging markets and the developed markets for this. Now remember countries like Brazil and India have already made a significant foray into automation. And I think this just allows for an accelerated adoption of that particular technology.

[Operator]

[Operator Instructions] And our next question comes from Walter Liptak with Seaport.

[Walter Liptak, analyst]

And Mike, congratulations too. And all the hard work to get here. Want to ask about the gross margins and how you're feeling about the inflation rates that you're seeing right now and selling price increases. And what do you think about the later half of this year and where your margins might be?

[Operator]

And ladies and gentlemen, just one moment, please, while we reconnect our speakers.

[Walter Liptak, analyst]

Can you hear me?

[Shyam Kambeyanda, executive]

We're back on.

[Operator]

We can hear you.

[Walter Liptak, analyst]

Yes. I don't know if you heard my question, but yes, basically the, yes, the gross margin looked like they were down a little bit and I understand that you're raising prices to offset the inflation, but is there a point at which you think that gross margin can be up on a year-over-year basis?

[Shyam Kambeyanda, executive]

Yes. And so to answer that question in full, so I think one of the things that we're very confident about is our pricing process. What I'd say to you is that we've mentioned before that we have 3 very strong processes, one to deal with inflation, two, to deal with the innovative new products in terms of value pricing and the third one being product line, life, cycle management. And so we're sort of executing across all those 3 processes, and we feel confident that going forward we can continue to move prices based on inflation and then kind of do more on the second due processes that I talked about.

In terms of gross margins, we feel that we've got about a 200 basis points compression based off of what we call this price cost piece and compression happening because of inflation as well as price. Going forward, what I'd say to you is that we continue to see some inflationary and headwinds as we go into the second. And third quarter, we may see that ease into next year, a little bit. But that being said, we're doing a lot of work with EBX leaning out our factories, looking at additional footprint opportunities going forward. And so we remain confident about our journey upwards when it comes to gross margins.

[Walter Liptak, analyst]

Okay. Great. And that kind of leads into maybe on the cost side, more of the overhead SG&A costs, how are you feeling about your corporate expense and your SG&A this quarter and as a public company, are there more adds that you have to do to have the right people to run the company? And I guess we're yes. Okay. Go ahead.

[Shyam Kambeyanda, executive]

No, so, so I think, I think the, the short answer to that is that we have our full team in place. We do not need any more resources to run a public company. Kevin mentioned earlier that the assumption that we've made and given to all of you as 35 million on a full year basis out of which 6 million was already part of our Q1 results. So you could expect the remaining portion of it to come through in the remaining quarters. That being said, we continue to look at business process improvements that I talked to you about in terms of EBX and looking at our entire operating expense structure to kind of figure out how to digitize, improve processes going forward. So from a start perspective, we're set, we're ready. 35 million is a number that we have out there, but that being said, we continue to work on it to find improvement opportunities and, and continue to get OpEx to the most optimal place possible for the business.

[Operator]

[Operator Instructions] And we will take our next question from Vlad Bystricky with Citigroup.

[Vladimir Bystricky, analyst]

So Kevin, I think you mentioned about $100 million of headwind in China in the quarter related to the lockdowns, but that your facility's back up online now. I guess one, did I hear that right? And two, can you just, yes, give us a little more…

[Kevin Johnson, executive]

It wasn't. Yes. So just to hundred basis points, hundred basis points. Yes. Not 100 million.

[Vladimir Bystricky, analyst]

Okay. That's great. That makes more sense. So 100 basis points. So can you just give us more color on what you're actually seeing on the ground in China? I know you said your facility is back up, but just sort of broader supply chain impacts and how you expect recovery to sort of unfold here over the quarter.

[Shyam Kambeyanda, executive]

Yes. Let me take that, Vlad, so I think what, what we saw was to the back end of the quarter, you saw Shanghai sort of shut down and several other cities along with it. April is kind of stayed in that particular realm, but we are now seeing into May things opening up, business coming back, factories opening up, ports kind of continuing to function. So what we see is that throughout the quarter, there will be sort of a move back to some amount of normalcy within China.

And as you can, as you probably have heard, they expect to kind of get back to normal sometime in the middle or the later part of May with their sort of zero COVID policy going forward. So that's the assumption that we're making. The second thing that I would say to you on that particular front is China's already announced that they are going to continue to sort of figure out ways to stimulate the economy as they come out of this many crisis that they've had with COVID. So what I would expect out of them is that we would probably come out really strong towards the end of Q2, continue that strength into Q3, and then go back to normal levels sometime in Q4 and Q1 of next year.

[Vladimir Bystricky, analyst]

Okay. That's really helpful color. Appreciate it. And then just a follow up, now that you've -- now that you've separated, I guess, any update or color in terms of how you're thinking about balance sheet leverage in the current environment going forward.

[Shyam Kambeyanda, executive]

Yes. So what I'd say to you is that we've said publicly, that we want to stay within the -- we are going to start off at about 2.75 as you know, and, and our goal is to always stay between 2 to 3. One of the things I said in my summary statements is that our focus is on reduction of that debt as we go out and if any opportunities come up with acquisitions or something like that, we would consider it. But right now, our focus really is set on strong cash generation, reducing our debt and setting up strongly as we move into 2023.

[Operator]

We will take a follow up question from Chris Dankert with Loop Capital Markets.

[Christopher Dankert, analyst]

I guess did want to kind of circle back on Russia here. So again, out of the guidance, but just any comments you can give us on how we're looking at that on a go forward basis here, are we exploring strategic options? Is it more a matter of, hey, we're going to ride this out and just kind of keep running the business and operating things and, and hopefully at some point they can kind of get brought back into the guide, just how we're thinking about Russia, maybe beyond just this year.

[Shyam Kambeyanda, executive]

Yes, I think the best way to think about that, Chris is what we put out on our website a few weeks back, our thoughts about figuring out how to transition out of Russia is the best way to look at it. What I'd say to you is that we've already announced that we have not made no more capital investments we've stopped support. And so our primary focus right now is the safety and security of our associates, and then figuring out the right way to exit the region in an appropriate way. So, so that's the best way to think about it. And in our guidance, that's, what's reflected where we're saying that we do not expect any more profits from that region going forward, if anything changes, we'll let you know, but that's really where we're set today.

[Christopher Dankert, analyst]

Okay. And I appreciate that. And then just the last one from me, I guess, as we think about data capabilities, whether it's the ability to kind of change, to understand customer purchasing habits or data on sourcing and the ability to control inventory, just any comments on how you feel about the, the state of data and analytics in the company today and kind of what the opportunity is there.

[Shyam Kambeyanda, executive]

Yes. It's something that personally I feel very strongly about. I think we've had great systems, great data, as you know within Colfax or ESAB brand a separate in opco. So our data capability data gathering capability was strong, but since then, we've actually engaged with the data mining company to kind of get real-time data, to sort of look at exactly where we were both from a customer perspective along with understanding where our data material flow material purchasing aspects were within the business. And we see that as a really strong opportunity to continue to gain momentum in our margin expansion story going forward. So more to come on that particular front, but I see that as a large opportunity for ESAB to continue to change the game. And as we look at margin expansions and generating better cash flow, it's absolutely in our crosshairs.

[Operator]

And we’ll take a follow up question from Walt Liptak with Seaport.

[Walter Liptak, analyst]

I wanted to ask about the guidance and the organic revenue growth of 4% to 7%. You're at 18% in the first quarter, so that implies, I guess, some difficult comps in the second half. Are you expecting to stay volume positive throughout the year across the regions? What are some of the assumptions going into that organic of 4 to 7?

[Shyam Kambeyanda, executive]

Yes. I think the best way to think about that one is that we did give the guidance earlier at our investor day. And it's just been a few weeks since we gave that guidance. So it was more important for us to reaffirm our guidance going forward. What I would say to you is that we are cautiously looking at the rest of the year to see where things end up, but we felt it was more prudent this time around to sort of hold our guidance rather than to sort of put anything else into that particular piece going forward. But that being said, we are off to a good start in Q2. We'll see how the next couple of months play out. We're confident in the guidance that we've given. We sort of read and look at the same things that everybody else is, and we'll see if an update is needed at the appropriate time.

[Operator]

And ladies and gentlemen, there are no further questions at this time. I will now turn the call back to Mark Barbalato for closing remarks.

[Mark Barbalato, executive]

Thank you for joining us today and we look forward to speaking to you on our next call. Have a good day.

[Operator]

Ladies and gentlemen, this concludes today's call. We thank you for your participation and you may now disconnect.