Ecolab Inc. (NYSE:ECL) Q3 2023 Earnings Call Transcript

Ecolab Inc. (NYSE:ECL) Q3 2023 Earnings Call Transcript October 31, 2023

Operator: Greetings. Welcome to Ecolab’s Third Quarter 2023 Earnings Release Conference Call. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Andy Hedberg, Vice President, Investor Relations for Ecolab. Thank you, Mr. Hedberg. You may begin.

Andy Hedberg: Thank you, and hello, everyone, and welcome to Ecolab’s third quarter conference call. With me today are Christophe Beck, Ecolab’s Chairman and CEO; and Scott Kirkland, our CFO. A discussion of our results, along with our earnings release and the slides referencing the quarter results are available on Ecolab’s website at ecolab.com/investor. Please take a moment to read the cautionary statements in these materials which state that this teleconference and the associated supplemental materials estimates of future performance. These are forward-looking statements, and the actual results could differ materially from those projected. Factors that could cause actual results to differ are described under the Risk Factors section in our most recent Form 10-K and our posted materials. We also refer you to the supplemental diluted earnings per share information in the release. With that, I’d like to turn the call over to Christophe Beck for his comments.

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Christophe Beck: Thank you so much, Andy, and welcome to everyone on the call. “Building on our momentum with strong and reliable growth.” That’s the headline for Ecolab third quarter. Thanks to exceptional execution by our team, Ecolab delivered a very strong quarter as our momentum continued with 7% organic sales growth, which was actually exactly as expected and 18% growth in adjusted earnings per share, reaching the high end of our expected range. Against unpredictable macro conditions, we drove continued strong pricing, new business, accelerated volume trends and continued robust margin expansion. Our focus remains on offense, which we are best at, continuing to fuel strong and consistent double-digit earnings per share growth.

We maintained strong organic sales growth with pricing increasing by 7%. This increase reflects both, the value-based pricing we put in place last year and the new pricing we’ve implemented this year, reflecting the enhanced value we offer to our customers. Our volume trends continue to strengthen as well, which is great news, with new business helping to accelerate volumes despite softening in global end market demand. Organic operating income margin continued its impressive expansion, up 160 basis points compared to last year, reaching 15.5%. This notable progress reinforces our path towards achieving our long-term margin goal of 20%. In the third quarter, our adjusted gross margin expanded 360 basis points to 41.3%. This strong expansion is a result of our value-based pricing strategy, improved volume trends and a slight decline in delivered product costs.

While global energy prices remain dynamic, we’re confident in our value-based pricing strategy and is absolutely necessary, our capability to implement energy surcharges. We continue to take a prudent stance on the trajectory of delivered product costs as costs remain up nearly 40% compared to pre-inflation levels. Assuming the current high energy price environment persists and our costs ease only slightly in 2024, we continue to expect very strong gross margin expansion in the quarters ahead. This will help us make progress in achieving our historical 44% gross margin and our 20% OI margin target over the next few years. Underlying productivity also remains strong as we continue to leverage our leading digital capabilities. As expected, SG&A expense was relatively stable versus second quarter levels.

The year-over-year comparison reflects the rebuild of incentive-based compensation, a result of our strong sales and earnings growth and the strategic investments in our growth engines. We also expect SG&A dollars in Q4 to remain very consistent with second and third quarter levels. Our performance further strengthened across our businesses. The highlight was Institutional & Specialty. We grew organic sales double digits and organic operating income, 28%. Organic OI margin was up 260 basis points to 19.3%, approaching its historical 20% level. Our Industrial segment also performed well, especially comparing to an extremely strong Q3 last year, led by attractive growth in Food & Beverage and in Water as our unique ability to bring end-to-end water and hygiene technologies to customers continues to drive strong share gains in this segment.

Operating income growth is the best in the third quarter, reflecting the incentive-based compensation rebuild as mentioned in the last call. And importantly, we expect this segment’s operating income to return to double-digit growth in Q4. Our Healthcare bifurcation strategy is progressing well. Strong pricing and new business had to improve underlying sales growth and operating income. The business also benefited from larger than normal surgical sales, which is not expected to recur. While we are pleased with our progress, delivering sustainable and profitable growth remains a focus for me and for our team. Life Sciences growth also improved to mid-single digits despite continued short-term pressure for everyone in this market as our team continued to win share.

While we expect the market to remain under pressure for the next few quarters, our ongoing investments in additional new product capacity and keen capabilities will allow us to capitalize on attractive long-term high-growth, high-margin opportunities. In summary, in the third quarter, we delivered as expected with strong sales and solid earnings growth. Now looking ahead, we expect our strong performance to continue in the fourth quarter with adjusted earnings per share increasing 17% to 24% versus last year, which is above the mid-teens growth we had guided to during our second quarter call and will bring the full year EPS north of 2019’s EPS. This performance is expected to be driven by new pricing, volume growth and robust gross margin expansion expected to be up 250 to 300 basis points versus last year.

As we shared with you at our Investor Day in September, we see continued strong momentum in ‘24. Even as global uncertainty remains with softening macro demand, we continue to expect mid-teens or better growth in adjusted earnings per share in 2024. As always, we’ll remain good stewards of capital by continuing to invest in the business, increasing our dividend, reducing leverage and returning cash to shareholders. Most importantly, with the best team, science and capabilities in the industry, we will continue to grow our share of the stable and high-quality $152 billion market we serve. I believe that Ecolab’s long-term fundamentals are stronger than ever, and I am confident in our outlook for continued strong performance as we work to deliver superior shareholder returns.

So, thank you for your continued support and your investment in Ecolab. I look forward to your questions.

Andy Hedberg: Thanks, Christophe. That concludes our formal remarks. Operator, would you please begin the question-and-answer period?

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Q&A Session

Operator: [Operator Instructions] Our first question comes from the line of Tim Mulrooney with William Blair.

Tim Mulrooney: So, I see you eclipse 19% OI margin in institutional in the third quarter, which was great to see. If you go back to pre-pandemic times, you’re doing about 21% OI margin every year on an annual basis. I think there’s some debate amongst the investor community about whether or not Ecolab will ever get back to that 21% OI margin days or if the business has structurally changed. I’d love to get your perspective on that, Christophe, how long that might take, particularly given the good momentum that we’ve seen this quarter?

Christophe Beck: Thank you, Tim. I have no doubt in my mind that we will get there. We have a great team running a great business and a great trajectory. And as mentioned many times, Tim, the P&L of I&S will end up in a better place post the cycle versus previous years like 2019. Just for perspective, o in Q4, as mentioned during Investor Day as well, our OI dollar will already be back to the 2019 level. So I really expect to cross that 20%, 21% line in the next few years while we drive new business innovation, price, the advantage of the new organization as well with the focus on sales and service and leverage as well digital technology, as we’ve done over the past few years. So, of all the opportunities we have in front of us, all the challenges that we might be facing, I think Institutional is going to be probably one of the best promises that we have ahead of us.

Operator: Our next question comes from the line of Seth Weber with Wells Fargo.

Seth Weber: You mentioned a few times in the slides in the release and your comments just about new business wins. I’m just — can you talk to the selling environment, your sort of traction with new wins and how we should think about new ads going forward? Thank you.

Christophe Beck: Thank you, Seth. Well, selling new business is what we’re best at and what we like the most doing. So we shift to offense over the past few quarters is delivering results because our team is really focused on driving new business with our customers, in more difficult environment, and it’s always been the case at Ecolab, well, our customers are looking for ways to improve their operating performance, which is what we’ve always done for them and that they need the most, right now. So they’re very receptive to what we can do as well for them. At the same time, we’re bringing as well all the offerings from the company, especially Water and Hygiene in Industrial segments, but also in Institutional which are very well received by our customers, and we have innovation as well, which has made a step change over the last few years, which are addressing customer challenges or opportunities that they have.

So all in, the team focused on what they truly like with the right tools, right innovation, right new products, and customers that are open to what we can do for them, speak, improving their operating performance. Ultimately, that’s all driving better performance in terms of new business, which is really good.

Operator: Our next question comes from the line of Josh Spector with UBS.

Josh Spector: Hey Christophe, and a question along the similar lines and particularly just related with just volume expectations. I mean you were pretty confident a couple of months ago that you’re going to deliver positive volumes in 3Q. I guess it rounds down to zero or maybe flattish is the best way to describe how that came in. You’re talking about positive volume in the fourth quarter. I guess, I don’t know, did 3Q change versus your expectations of where it would come in? And the backlog combined with — or the new wins combined with base earnings, I guess, how do you envision volume moving into early next year? Thanks.

Christophe Beck: Volume is the most important driver, obviously, for us. And Q3 happened pretty much as expected. We can talk about rounding, obviously here, but we were in positive territory, which is good. And if we exclude Europe, which is the most difficult place in terms of volume, we are at plus 1% already. And I feel confident that in Q4, we will have a 1% volume growth overall also for the company. So when I look at the trajectory that we’re having on volume, especially with all the pricing that we’ve done over the past few years and in a market that’s not exactly booming right now, I feel really good with what we’re doing, where we’re heading. And to your point, for ‘24, while it’s the best way we can close the year with good volume momentum in order to start ‘24 in whatever environment we’re going to find with a company that’s having good sales momentum, which is our number one priority as a company right now.

Operator: Our next question is from the line of Mike Harrison with Seaport Research Partners.

Mike Harrison: Congratulations on a nice quarter here. Just in terms of the Healthcare and Life Sciences business, I’m curious, if we saw any of the benefits from some of the changes that you’re making on the Healthcare side of that business already in Q3, or are those actions still to come? And then, just curious on the onetime 6% sales benefit, did that also help margins come in higher or was that kind of an average incremental margin contribution?

Christophe Beck: Thank you for your nice comment, Mike. It’s three comments on your question. So focused on Healthcare, not Life Science, I know that they all combined, obviously, but two very different stories, as we know. So, first, if we saw some results of the organizational changes in Q3, the short answer is yes, but it’s early. I’ve been really impressed with how the team has executed this bifurcation, truly leveraging the market strength, the breadth, the critical mass of Institutional, both in terms of selling to new customers or existing institutional customers, the healthcare portfolio and at the same time, getting the costs down. The team has moved very fast, very well, and I’m really pleased with where we are right now.