Crane Company (NYSE:CR) Q1 2023 Earnings Call Transcript May 11, 2023

Operator: Greetings and welcome to the Crane Holdings Company First Quarter 2022 Earnings Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. I would now like to turn the call over to your host, Jason Feldman, Investor Relations for Crane Company. Thank you. You may begin.

Jason Feldman: Thank you, operator and good day, everyone. Welcome to our first quarter 2023 earnings release conference call. I’m Jason Feldman, Vice President of Treasury and Investor Relations. On our call this morning, we have Max Mitchell, our President and Chief Executive Officer; and Rich Maue, our Executive Vice President and Chief Financial Officer. We’ll start off our call with a few prepared remarks, after which we will respond to questions. Just a reminder that the comments we make on this call may include some forward-looking statements. We refer you to the cautionary language at the bottom of our earnings release and also in our annual report 10-K and subsequent filings pertaining to forward-looking statements.

Also, during the call, we’ll be using some non-GAAP numbers which are reconciled with the comparable GAAP numbers and tables at the end of our press release and the accompanying slide presentation, both of which are available on our website at www.craneco.com in the Investor Relations section. Now, let me turn the call over to Max.

Max Mitchell: Thank you, Jason and good morning, everyone. Thanks for joining the call today. While here we are, the separation is complete and an entirely new beginning for Crane Company. We last gave you an update at our March 09, Investor Day as we approached our successful separation on April 03, followed by the honor of my representing our global team by ringing the opening bell of the New York Stock Exchange on the 4th. It seems just like yesterday that we laid out the case for separation in March of 2022, but here we are 14 months later having successfully executed on schedule. The separation was the logical next step in our multi-decade journey from a holding company to an integrated operating company and now into two separate strong and focused independent businesses; technology leaders, each well-positioned to outperform in its respective markets and each equipped with strong management teams to drive continued success.

I’m incredibly proud of how the corporate organization executed on the separation, on schedule and according to plan. My sincere thanks to the entire corporate team for their incredible efforts over the last year and now moving into post separation support. And a quick reminder on why we believe Crane Company is such an exciting opportunity today. We have delivered decades of consistent and differentiated execution. We have an accelerating growth profile after years of relentless investment in our technology roadmaps, each aligned with key secular growth drivers in our end markets. We have a long track record of creating value through acquisitions and capital deployment more broadly, and we have a very strong balance sheet today, giving us significant financial flexibility.

Now that the separation is complete, Crane Company is a streamlined and more focused leading technology business. The market’s reaction since we announced the separation in March of last year, validates our strategy with substantial value already unlocked and we are confident that even more significant value creation lies ahead. The new Crane Company, as we described on Investor Day, has about $2 billion in sales and $335 million in adjusted EBITDA this year, a 4% to 6% long-term core sales growth rate from resilient and durable businesses that derive about 40% of strategic growth platform sales from the aftermarket, with substantial operating leverage on top of already solid margins today, and that should lead to double-digit average annual core profit growth with potential upside from capital deployment and starting with net debt to EBITDA at about 0.2 times the capital deployment opportunity is significant.

Turning to the first quarter, we had a great start to the year, positioning us extremely well for the coming quarters and years ahead. As you saw in our press release last night, we reported adjusted EPS of $1.25, 8% core sales growth, a record 18.5% adjusted operating margin, and we raised the midpoint of our adjusted EPS guidance by $0.20 to a range of $3.60 to $3.90, and we feel very confident in this outlook for the year. We delivered those results in an environment that hasn’t changed much since the second half of 2022. We still see continued solid demand across most end markets, but we continue to remain guarded, watching carefully for any signs of softening, particularly in our shorter cycle businesses. From a cost and inflation perspective, as you can see from our continued margin strength, we have been appropriately assertive with pricing actions across all of our businesses and we continue to fully offset the impact of inflation on both a dollar and margin basis.

Overall, we continue to execute extremely well and we have proven that we can operate successfully in a wide range of market conditions. At aerospace and electronics, demand remains very strong. We have seen no slowdown and sales are still somewhat constrained by the supply chain, particularly around active and passive electronic components needed for printed circuit boards. The supply chain status is generally unchanged compared to last quarter, too mildly improving in some areas. We do expect supply chain constraints to ease over the course of the year, but at a very gradual and measured pace. We remain very comfortable with our forecast and outlook for this business. Over the last three weeks, I’ve visited nearly all of our aerospace electronic sites with Alex Alcala and Jay Higgs to check in on the fantastic progress our teams continue to drive.

Just a few examples of what we saw include our landing brake control solution, that continues to track to plan on the new F-16 brake control upgrade design that requires unique packaging requirements to meet the needs of an existing space envelope and our technologists have clearly differentiated themselves from the competition by developing an innovative solution for that challenge while delivering on significant performance improvement. And the factory is progressing with readiness plans to ramp up to immediate full rate production in 2026 with annual sales of roughly $30 million in the first year, and in an expected life program life of five to seven years. In our modular power business, our team continues to win in new space applications, while also continuing to make progress on our development roadmap for a complete family of power conversion products with wide input voltage ranges across high and low power families and using modular architecture across multiple standards and features focused on military and space applications with radiation harden and high reliability designs.

This business has a target to capture more than $125 million in cumulative sales over the next decade with these newer products and in the interim, we’re driving enhanced channel management to take share with our existing product offerings. In our defense high power solution, we also reviewed our technology roadmaps and development as well as the facility readiness plans, which are on track to support the significant ramp-up in support of the four large AESA radar wins we have secured to date, all ramping up over the next few years as well as significant traction in progress working on a funnel of new opportunities, many related to defense, electric vehicle readiness, where we already have a substantial presence on demonstrator programs and prototypes, winning our seventh such demonstrator this week with a 120 kilowatt bidirectional DC-to-DC converter.

In our fluid management solution, we continue to benefit from steadily increasing aftermarket demand for pump and fuel flow transmitter products used on commercial jet engines and airframes, and we continue to successfully progress our many technology demonstrated programs for the sixth generation fighter fuel, coolant and lubrication systems, as well as for platforms focusing on demonstrating hybrid and pure electric propulsion. We’re also preparing our site for the expected higher volume of repair activity on DTF pumps related to the A320neo engine overhauls ramping up over the next several years. And in our microwave business, we reviewed our continued strong progress on existing program wins with more complex integrated microwave assemblies at higher increasing demanding frequencies, as well as our ramp up plans for increased demand from the Patriot Missile Program, just an incredible and exciting set of visits with our teams.

The outstanding passion they have for the business and the technology investments we continue to drive, supports our 7% to 9% growth rate in this business moving forward. At Process Flow Technologies, we are seeing some moderation in order rates as expected and consistent with what we communicated in March. Core orders still increased about 4% in the first quarter and we have very strong backlog, but those order rates have decelerated from double-digit rates in the second half of last year. Most of the slowing has been in the UK and Europe with other regions remaining fairly solid, but the growth story is no different at Process Flow Technologies, where we’ve continued to invest for the future with new product introductions released at record pace and with significantly higher margins.

New product vitality metrics continue to improve year after year and an extremely strong position in core target markets of chemical, pharmaceutical, water wastewater and industrial automation. And those key markets now comprise nearly two thirds of the business with accelerating new product development, focused on increasing exposure to these target markets and giving us high confidence in the 3% to 5% growth profile through the cycle and the substantial opportunity to further expand margins, a lot of exciting developments in this business as well. We are outperforming the market and gaining shared driven by new product innovations. For example, you may have seen the press release issued yesterday morning by Chart Industries, highlighting a new cryogenic valve for liquid hydrogen applications that we introduced and that chart tested and validated.

This is just another step in building the hydrogen business we discussed at this year’s Investor Day event and we are in the process of launching five additional new product lines over the next 12 months, all targeting a market that is growing at more than 15% annually. We are already working closely with several key customers to introduce these products to help solve our customer’s ongoing performance challenges. In wastewater, we continue to see adoption of our new high efficiency NV [ph] motor platform and we are on track to triple NV sales this year with further upside in 2024 after we launch a larger size range up to 75 horsepower late this year, further strengthening our position in this billion dollar served market. And in addition to new products, we are gaining traction with our front end investments, leveraging our improved product portfolio to upgrade our distribution network into municipal and commercial markets.

In the chemical space, we have great momentum with orders up in the double digits with growth led by our portfolio of new valve and specialty pipe solutions that have differentiated ceiling technology to solve reliability challenges in corrosive, abrasive, toxic and hazardous environments. Our innovative L Torque product has just been launched and it is already installed by key customers in the Americas in Asia. Our recently launched FK-TrieX valve has also continued to gain traction with our project funnel doubling so far this year, given the valve’s unique ability to solve leakage and flow problems in severe service applications. In our pharmaceutical business, we continue to strengthen our position by expanding our product portfolio to solve leakage and reliability problems in process media, steam sterilized applications and bioprocessing.

New products launched this year will include a new hygienic ball valve and an expanding offer of diaphragms targeting the high growth bioprocessing segment and delivering accretive margins, just continued excellent momentum in process flow technologies and in Engineered Materials, really no change to our view for the year. So again, off to a fantastic start post-separation and poised to drive accelerated growth, margin expansion, with optionality from our balance sheet strength. Hey, let me turn the call over now to Rich for some more specifics on the quarter.

Rich Maue: Thank you, Max, and good morning, everybody. Overall, an outstanding quarter with 8% core sales growth, driving 27% adjusted operating profit growth and once again, achieving record adjusted margins at 18.5% at improved 460 basis points compared to last year and driven by excellent performance across all businesses. I will start off with segment comments that will compare the first quarter of 2023 to 2022, excluding special items as outlined in our press release and slide presentation. At aerospace and electronics, first quarter sales were very strong, increasing 15% compared to last year to $180 million and segment margins of 20.9%, increasing 300 basis points compared to last year, primarily reflecting strong leverage on the higher volumes as well as strong pricing and productivity gains.

Despite the impressive increase in core sales growth, we along with the rest of the aerospace industry still remains somewhat capacity constrained due to continued supply chain issues as we properly planned for in our guidance. The combination of supply chain constraints and strong demand drove our backlog up another 27% to $645 million. In the quarter, total aftermarket sales increased 21% with commercial aftermarket up 32% and military aftermarket down 5% on program timing and OE sales increased 12% in the quarter with 17% in commercial and 8% in military. At process flow technology, sales of $271 million decreased 13% driven by the 20% impact from the divestiture of crane supply in May of last year, and a 3% impact from unfavorable foreign exchange.

Core growth for Process Flow Technologies was very strong at 10% and was broad based across the segment. Record adjusted operating margins of 23.4%, increased 710 basis points from last year, primarily reflecting strong pricing, leverage on the higher volumes and delivering on productivity gains, continued excellent execution by our teams in all areas and supporting an 80 basis point improvement to our full year margin guidance, which is now 18%. Compared to the prior year, core foreign exchange neutral backlog increased 9% and FX neutral orders increased 4%, sequentially, compared to the fourth quarter, FX neutral backlog decreased 2% with FX neutral orders up 1%. At Engineered Materials, sales of $62 million decreased 12% compared to the prior year as expected.

Operating profit margins decreased 70 basis points to a solid 18.3%, driven by lower volumes, but an impressive deleverage rate. Transportation and building products markets remained strong offset by RV, which declined in line with industry production rates. Moving on to total company results; in the first quarter, adjusted free cash flow was negative $69 million consistent with normal seasonality. We are emerging from the separation with a strong balance sheet and robust free cash flow generation, and our post separation capital structure is the same as when we described it earlier this year. After separation-related transactions, Crane Company’s only debt was a $300 million prepayable term loan with cash on hand of approximately $235 million.

We also have a new five year, $500 million revolving credit facility that is currently undrawn, very little net debt. We already repaid $35 million on our term loan earlier this month and a lot of financial flexibility with more than $1 billion in M&A capacity today and reaching as much as $4 billion by 2028. While this is more financial flexibility than we have had historically, our capital allocation strategy is unchanged. We will deploy our capital with the same strict financial and strategic discipline that we have always employed, prioritizing internal investments for growth followed by M&A and returns to shareholders. Of course, the timing of acquisitions isn’t predictable and both actionability and market conditions can change quickly.

However, given our robust pipeline of potential opportunities along with our solid organic growth profile, our internal goal would roughly double the size of our growth platforms over the next five years. Our teams are motivated and re-energized by our future post separation and we look forward to delivering on this vision. We also have a commitment to return cash to our shareholders. As outlined in our press release last night, our initial dividend for Crane Company will be $0.72 per share annually or $0.18 per share quarterly, which reflects a dividend payout ratio of approximately 20%. We do expect to grow the dividend in line with earnings to provide a stable and attractive return to our shareholders, while ensuring that we have the capital flexibility to continue our internal investments and pursue acquisitions.

Now turning to our 2023 guidance, I gave a lot of detail on our guidance call in January, and for the benefit of my voice and your ears today, I’m just going to highlight the changes. For modeling purposes, I would point investors to the detail in the fourth quarter earnings script as well as the details we provided at Investor Day. We now expect 2023 sales to increase approximately 5% up from the prior guidance of 3%. That’s driven by one point of higher core sales growth, along with foreign exchange that is now neutral compared to last year rather than the one point headwind we originally had in our guidance. Segment details is provided in the slides, but while we took up core sales expectations for all three segments, Process Flow Technologies had the largest increase, given the very strong first quarter results.

We expect total company adjusted segment margins of 18% up 60 basis points from our prior view, again, led by Process Flow Technologies, new expectation for higher growth and continued solid execution. Overall, excellent operating leverage across the businesses and the only other notable change was corporate expense now expected to be $70 million for the full year. While there are a few components of this change, the biggest driver is higher compensation expense given our revised outlook. Overall, we expected adjusted EPS of $3.60 cents to $3.90 with adjusted EBITDA of $335 million. So a great quarter, an excellent start to the year, we are extremely well positioned today. Record margins leveraging long-term future, 4% to 6% core growth at 35% to 40%, and an execution track record that demonstrates we can deliver in any environment and a very strong balance sheet and free cash generation to support value creating capital deployment.

Operator, we are now ready to take our first question.

Q&A Session

Operator: [Operator instructions] Our first question comes from the line of Damian Karas with UBS. Please proceed with your question.

Operator: Thank you. Our next question comes from line of Matt Summerville with D.A. Davidson. Please proceed with your question.

Operator: [Operator instructions] Our next question comes to the line of Nathan Jones with Stifel. Please proceed with your question.

Operator: Thank you. Our next question is a follow up from the line of Damian Karas with UBS. Please proceed with your question.

Operator: Thank you. Our next question is a follow up from the line of Matt Summerville with D.A. Davidson. Please proceed with your question.

Operator: Thank you. Ladies and gentlemen, that concludes our question-and-answer session. I’ll turn the floor back to Mr. Mitchell for any final comments.

Max Mitchell: Thank you very much. So a solid start in Q1 and excellent results, life post separation. We approached our corporate conscious uncoupling with loving care, and we remained deep friends with our NXT counterparts. Our associates are fine and coping well, but now it is time to go our own ways in new directions of value creation. As the late great Burt Bacharach, ‘knowing when to leave, may be the smartest thing anyone can learn’. Now post separation, new Crane is now charting a fresh course and ready to deliver on accelerated growth and enrichment. And our first quarter results are a testament to our progress. While we are also dating again and looking for new partners to join our strategic platforms of aerospace, electronics and process flow technologies. Do you like that, Rich? I look forward to speaking to you next on our Q2 call in July. Thank you all very much for your interest in Crane. Have a great day.

Operator: Thank you. This concludes today’s conference. You may disconnect your lines at this time. Thank you for your participation.