CNH Industrial N.V. (NYSE:CNHI) Q2 2023 Earnings Call Transcript July 28, 2023
CNH Industrial N.V. misses on earnings expectations. Reported EPS is $0.43 EPS, expectations were $0.48.
Operator: Hello, and welcome to the CNH Industrial Second Quarter Earnings Conference Call. I would now like to hand the call over to Jason Omerza, Head of Investor Relations. Please go ahead.
Jason Omerza: Thank you, Kevin. Good morning and good afternoon to everyone. We would like to welcome you to the webcast and conference call for CNH Industrial’s Second Quarter Results for the period ending June 30, 2023. This call is being broadcast live on our website and is copyrighted by CNH Industrial. Any other use recording or transmission of any portion of this broadcast without the expressed written consent of CNH Industrial is strictly prohibited. Hosting today’s call are CNH Industrial’s CEO, Scott Wine; and CFO, Oddone Incisa. They will use the material available for download from the CNH Industrial website. Please note that, any forward-looking statements that we might be making during today’s call are subject to the risks and uncertainties mentioned in the safe harbor statement included in the presentation material.
Additional information pertaining to factors that could cause actual results to differ materially is contained in the company’s most recent annual report on Form 10-K as well as other periodic reports and filings with the U.S. Securities and Exchange Commission and the equivalent reports and filings with authorities in the Netherlands and Italy. The company presentation includes certain non-GAAP financial measures. Additional information, including reconciliation to the most directly comparable U.S. GAAP financial measures is included in the presentation material. I will now turn the call over to Scott.
Scott Wine: Thank you, Jason, and thanks everyone for joining our call. In the second quarter, we delivered a solid set of results with record margins in both agriculture and construction. The impact of our CNH business system is accelerating and we recorded our highest ever level of price over cost both in dollar and percentage terms. Profitability was particularly strong in the second quarter with results exceeding our 2024 margin targets. Our ability to deliver record margins with moderate revenue growth is indicative of the earnings power we are building. In June, our EMEA team delivered record retail sales providing helpful momentum as we enter the second half. We also achieved our highest production of North American high horsepower tractors since 2015, but are still aggressively working to reduce backlog and restock our dealers in this fundamental product category.
Across the business strong execution and focus on serving customers drove our success. Our Lean Manufacturing programs are developing more efficient processes across the company. These initiatives are rooted in expanding productivity, improving quality and eliminating waste and have become a tenet of our culture. Make it simple is one of my favorite cultural beliefs and it is helping us streamline our business, and you can see the early results in our earnings strength. Consolidated revenue for the company was $6.6 billion, up 8% over last year’s second quarter. Industrial net sales were up 6% year-over-year reflecting a 19% increase in construction sales and improved shipments of high horsepower tractors in North America. Agriculture saw less robust sales growth in Q2, but we still see solid overall ag fundamentals.
Our lighter ag sales in the second quarter were primarily driven by two factors: first, while our team in South America delivered strong retail share performance in the quarter and year-to-date, much like earlier in the year the demand environment in the second quarter was shaky. With short-term demand in Brazil slightly lower than expected we reduced shipments to maintain lean dealer inventories; second, shipments of our new patriot sprayer were delayed due to production ramp-up issues and quality considerations. We will get those products to our customers in the second half. In North America first half combined demand was exceptionally strong. We are proactively working with our dealers to spur retail sales of both new and used combines in the coming quarters to mitigate potential inventory growth.
We remain confident in our full year sales guidance even with targeted production cuts. Industrial EBIT was up 26% on strong price over cost as we finished the quarter with an EBIT margin of almost 14%. Earnings per share was $0.52 for the quarter and $0.87 for the first half marking our best ever start to the year. Derek Nielson and his agriculture team set new quarterly records for gross and EBIT margins. This is not just a record second quarter but a record for any quarter. Their impressive execution across products brands and distribution coupled with the determined elimination of waste from our production processes enable us to better serve our dealers and customers. Our Construction segment also recorded record results in the second quarter, for the first time generating net sales over $1 billion.
Stefano Pampalone and his team introduced a plethora of new products at ConExpo and they are increasing manufacturing throughput to improve customer delivery. We continue to see solid benefits from our Sampierana acquisition. We started taking orders in North America for model year 2024 products, in June, and production slots for 2023 are full for most products in most markets. High horsepower tractor production is now fully booked and assigned to retail customers throughout 2023, and global demand for this segment remains high. We are taking orders into 2024 now, and we see order backlog like pricing normalizing above pre-pandemic levels. Our customers are increasingly asking for our suite of precision technologies. Precision Components net sales contribution increased 21% year-over-year in the second quarter, with a steady growth of factory-fit elements.
We continue to accelerate development and delivery of improved technical solutions for our customers. We launched the New Holland Straddle Tractor specifically designed for narrow vineyards that require stream maneuverability and compact dimensions. These new tractors will bolster our commanding presence in the orchard and vineyard segments, when they ship later this year. We also published our 2022 sustainability report during the quarter. The multiple initiatives illustrated they provide proof that our commitment to world-class environmental and stewardship for our company our communities and our end-customers. The construction team is making impressive progress in their pursuit of profitable growth. Our 2024 construction EBIT margin target of 5.5% to 6.5% was a significant stretch from our previous low baseline, but we surpassed that at 6.8% in the second quarter and we will likely be in that target range for the full year.
Sampierana is proving to be the right investment for us. It gives us both mini excavator IP and enhanced electrification capabilities that we are already integrating into other products. We recently opened a new assembly facility in Central Italy, expanding our production capacity for many excavators and the new many track loaders both of which we will soon export to North America. Construction continued to benefit from strength in the North American market, especially for Light Equipment. We are leaning into the customer synergies we have with our ag distribution network to create incremental construction sales opportunities with our New Holland brand. All this, plus, much more value we’re working to unlock to take margins still higher in years to come, demonstrates why our construction business is an important part of our portfolio.
Our company strategy is centered around, five key pillars: customer-inspired innovation, technology leadership, brand and dealer strength, operational excellence and sustainability stewardship. Today, I want to focus on our advances in operational excellence, especially our CNH Business System or CBS which is a key contributor to our $550 million plus cost reduction target, by 2024. CBS’ set of tools and an aspiration to leverage lean to constantly improve the way we run our business and serve our customers, and a commitment to using Kaizen to engage our employees and drive sustainable improvements. Whenever I travel to our plants around the world, I see consistent use of our daily management system to prioritize and solve systemic issues. Our leadership team uses strategy deployment to ensure rigorous execution of our most important priorities to achieve breakthrough results.
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The overriding goals of CBS are margin expansion through operational excellence and revenue growth through constantly improving execution and innovation. What does this mean in practical terms? As an example for revenue growth, we are accelerating our time to market by eliminating waste and rework and our new product development processes. For margins, we are improving our module design concepts and Friedrich Eichler, our new Chief Technology Officer brings a wealth of experience to help drive that effort. Across our manufacturing plants we are empowering our teams to refine processes to improve throughput and quality. I would like to highlight a recent example at our Contagem plant in Brazil, where the team held a Kaizen to improve their production throughput.
They addressed logistics bottlenecks and implemented a standard inspection checklist, making the process significantly more efficient. The result was a 58% decrease in fleet inventory buildup, a 14% increase in the daily line rate and a total annual cost benefit of $2.3 million. This is only one example of the many Kaizens we’re doing across the company and more than twice the rate of 2022 and we are starting to see the impact in our results as CBS continues to expand our results will as well. I will now turn the call over to Oddone to take us through the financial results.
Oddone Incisa: Thank you, Scott and good morning good afternoon to everyone on the call. Second quarter net sales of industrial activities of almost $6 billion were up 7% year-over-year at constant currency. This was mainly driven by favorable mix and pricing in both equipment businesses and by higher shipments in construction. Adjusted net income for the quarter was $711 million with adjusted diluted earnings per share of $0.52, up $0.09 on the back of the ongoing strong operating performance. The effective tax rate was 24% in the quarter and the full year tax rate will likely be in the 25% to 26% range. Free cash flow from industrial activities in the quarter was nearly equal to last year, up $386 million while the first half cash absorption is about $370 million lower than last year.
Looking at the segments. Agricultural sales were $4.9 billion up 5% at constant currencies supported by strong pricing improved factory deliveries for large equipment and favorable mix. Net sales were up in all regions except South America whose contribution to global agricultural sales is down to 18% from 20% last year. Gross margin was a record 27%, we are continuing our trajectory of very favorable price of our cost as we push now more on cost efficiencies and some of last year’s inflationary headwinds go away. Although we still experienced unfavorable product costs for higher purchasing economics in EMEA and South America. We have lower freight costs and multiple improvements in our operations as a result of our CBS efforts. High carryover pricing and cost inflation are persisting, but we will see both moderates as the year progresses with the price cost relationship remaining positive.
Net prices will revert to the historical level and there is no intention of lowering lease prices. This applies to construction as well. Increases in SG&A are largely driven by labor cost inflations and R&D spend was higher as we invest in the future of our products. Adjusted EBIT in agriculture increased by $158 million to reach $821 million with a margin of 16.8% up 280 basis points mostly driven by the gross margin improvement. Since Scott already spent some time covering our main achievements in the construction business I will focus on the financial KPIs for the last quarter. At over $1 billion construction net sales were up 20% at constant currency, driven by better volume and mix in North America and APAC offsetting lower sales in South America.
Gross margin was 16%, up 220 basis points, mainly due to higher volumes and pricing. Adjusted EBIT was $72 million, up 47% year-over-year with a margin of 6.8%. For our Financial Service businesses net income was $94 million substantially flat compared to the second quarter of 2022. We experienced favorable volumes in all regions, but this was offset by margin compression, higher risk costs, and increased labor costs. We also had a lower tax rate compared to last year. Retail originations were $2.8 billion in the quarter. The management portfolio including JVs at the end of the period was $26 million. The receivable balance greater than 30 days past due as a percentage of receivables was 1.8%, largely driven by delinquencies in Brazil where a large concentration of payments is due every May and creates a seasonal spike at the end of the second quarter.
We are confident that our collection efforts will bring the past dues back to lower levels in the coming quarters. Our capital allocation priorities continue to be investing in our business maintaining a healthy balance sheet and credit ratings and returning money to our shareholders. We completed $98 million of share repurchases during the quarter which is the highest level ever in one quarter and we are continuing to buy back shares in the third quarter under our existing $300 million repurchase program started last year. We have already announced that we intend to have an additional share buyback program in connection with the delisting from the New York Stock Exchange. To event we continue to be confident that the regulation changes needed for a simple delisting with concentration in a time frame allowing us to be single listed on the New York Stock Exchange by the end 2023.
More specific details on the Milan delisting and the related stock buyback program will be shared as soon as possible. Now, we’ll now turn it back to Scott.
Scott Wine: Thank you, Oddone. For our 2023 industry outlook, most of our estimates remain unchanged, but we have slightly lowered our projections in South America for combines and heavy construction. We also expect heavy construction equipment in APAC to be slightly worse than originally expected. On the other hand, we project slightly better full year industry demand for light construction equipment in both North and South America and for heavy equipment in Europe. We are reaffirming our previous guidance levels. We are catching up on our order backlog and staying vigilant to ensure that we keep a tight balance on dealer inventory. It naturally vary seasonally, but we are committed to taking the necessary actions to keep our dealers positioned for success this year and every year to come.
Where we land in the net sales guidance range will largely depend on retail sales levels, which is why retail sales execution is a primary focus in the second half. As previously announced, we have cut factory production on low horsepower tractors which will be down about 20% in the second half. We will of course continue to build as many high horsepower tractors as possible in North America. We are also reaffirming our SG&A guidance of up 5% or less. Admittedly, we saw a higher increase in the first half, but cost of the last two quarters will be in line with or below the cost of the 2022 second half. Last quarter, we said that 2023, we may approach or even meet our 2024 EPS targets from Capital Markets Day of $1.70 per share. With a strong first half behind us, we now have more data to suggest that we will meet or exceed that target in 2023.
As we move into the back half of the year, we are encouraged by our results in Agriculture and Construction segments. We are well positioned to build off this momentum, as we continue to optimize our business. Our new product offerings and tech stack are consistently improving and continuously expanding their contribution to profitable growth. These developments take time however, so our short-term growth is more reliant upon market share performance and dealer inventory management. We held firm in market share in the first half and expect to gain in the rest of the year and we are confident that we are controlling dealer inventory and stressing retail execution as well as anyone in the industry. We will increase the pace of CBS strategic sourcing and SG&A cost reduction programs which will accelerate into 2024 and beyond.
In closing, I would like to thank our entire CNH team for their dedication hard work and inspiration. That concludes our prepared remarks and I’ll open the line for questions.
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Q&A Session
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Operator: [Operator Instructions] The first question today comes from Nicole DeBlase of Deutsche Bank.
Nicole DeBlase: Yeah. Thanks. Good morning, guys.
Scott Wine: Good morning.
Nicole DeBlase: Maybe just starting with what happened with the North America spur production in the quarter. Can we just get a little bit more detail on why the delays start to production and whether or not you think you can kind of make up for that in the second half?
Scott Wine: Sure, Nicole. I’m really proud of Vilmar Fistarol who took over the North American business this year. We did a transition from the old sprayer to the new Patriot sprayer which we were really, really excited about the features and benefits that it brings. The model year changeovers are often challenging, we’ve had a much higher turnover in our Benson factory than we would normally have had and the transition did not go as well as expected. Rather than take risk on shipping products to our dealers that didn’t meet our quality standards. We halted production, ensured that we had everything right they’re now — we are now shipping those products. We’ll get them all out in the second half, but really just a prudent effort by Vilmar and his team to ensure that we’re delivering the highest quality.
When you introduce a really good new product like that. You want to make sure that that’s what’s delivered to our customers, not something that doesn’t perhaps meet their standards or hours. But really pleased that those are already starting to be delivered and we’ll fulfill that in the third and fourth quarter.
Nicole DeBlase: Okay. Understood. Thanks, Scott. And then maybe just secondly on what’s going on in South America. Are you guys now happy with your current dealer inventory levels there, or would you say there’s more to go with respect to inventory curtailment?
Scott Wine: No. Certainly nothing more we need to do on inventory curtailment there. I mean, we took our medicine in the quarter. We really feel like — remember the fundamentals in Brazil are still quite strong. It’s still a strong ag economy. The farmer income was pressured a little bit because of the dollar weakening and some soft commodity prices weakening. But overall the fundamentals for the market are quite solid and we are very well-positioned. We still have company inventory because we didn’t ship it to our dealers. So it’s not like we are at any risk of losing market share. We had really good market share there in the quarter, gained share in combines, held our own in tractors. And we feel like we’re very, very capable of performing better in the second half as we’ve already taken the — we’ve leaned out our inventories going into the second half.
Nicole DeBlase: Thanks Scott. I’ll pass it on.
Operator: Our next question comes from Mig Dobre of Baird.
Mig Dobre: Yes. Good morning, everyone. Thanks for taking the question. I guess, I’m looking for a little more color if I may on how you see demand in large ag playing out. Any insight into how farmers are thinking into 2024, as well that would be helpful? Thank you.
Scott Wine: Mig, what we’re seeing in cash crop really globally is still continued positive demand signals as we said in our prepared remarks, we’re going to make as many high horsepower tractors as we possibly can. The second half is always better for us in combines. There is — what we’ve heard from dealers, the used inventory not of our products, but our competitive products on combine specifically has gone up at a much higher level than it has been previously. So we are being careful to make sure we’re dialing in the retail programs, not only for new but for used products as well with our dealers. And Oddone’s financial services business is really capable of and smart about how we do those things. But there’s been a little bit of caution not to deal — our dealer inventories are in good shape for — on our combines across.
