ESAB Corporation (NYSE:ESAB) Q4 2023 Earnings Call Transcript

ESAB Corporation (NYSE:ESAB) Q4 2023 Earnings Call Transcript February 29, 2024

ESAB Corporation beats earnings expectations. Reported EPS is $1.13, expectations were $1.03. ESAB isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Good morning. My name is Christa and I’ll be your conference operator today. At this time, I would like to welcome everyone to the ESAB Corporation Fourth Quarter 2023 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. [Operator Instructions] Thank you. I will now turn the conference over to Mark Barbalato, Vice President of Investor Relations. Mark you may begin your conference.

Mark Barbalato: Thanks operator. Welcome to ESAB’s fourth quarter 2023 earnings call. This morning I’m 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 may 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 mentioned during the call today, the accompanying reconciliation information related to those measures can be found in our earnings press release and today’s slide presentation. With that, I’d like to turn the call over to our President and CEO, Shyam Kambeyanda.

Shyam Kambeyanda: Thank you, Mark. Good morning everyone and thank you all for joining us this morning. ESAB has made excellent progress in 2023 and we finished the year and the fourth quarter on a high note. As always, let me take a moment to thank our dedicated associates for their hard work and commitment to our goals. Our 2023 performance demonstrates the power of EBX to drive growth, improve margins, and generate strong free cash flow. During Investor Day this past December, we announced our strategic vision to become a focused premier industrial compounder and setting our 2028 targets to become a $4 billion in sales, 22% in EBITDA margin enterprise, that generates 100% free cash flow conversion. The event also showcased our innovative products and solutions within our FABTECH and Gas Equipment businesses, allowing us to highlight the power of our portfolio and workflow solutions that are helping our customers solve their most challenging needs.

Some of the other highlights from 2023 was the extraordinary progress we have made to enhance our equipment portfolio both in FABTECH and Gas Control. We completed our light industrial lineup and introduced the game-changing Renegade Bolt. Our battery-powered welder the first of its kind was a hit in the marketplace. An interesting news item for you on this product, it is now featured in the March Edition of Popular Mechanics as The Best Tool for the Trade. We also made significant progress on our heavy industrial line of products. With the launch of our new Warrior Edge. This product specifically addresses the robotics and automation market. The Warrior Edge, combined with our digital solutions, has created a competitive edge for ESAB as we focus on growing our equipment sales.

In addition we developed and introduced the first AI algorithm-enabled fully autonomous adaptive welding solution with the renewable industry. And within our Gas Control business, the innovation machine continues to deliver. The Vitality Index in our Gas Control business is a strong 33%. The team has introduced new valves for Industrial, Specialty, and Medical Gas, focused on the North American and Middle Eastern markets. Additionally, our Gas Control team successfully integrated two bolt-on acquisitions positioning us for continued growth in the coming years. ESAB is also benefiting from macro tailwinds related to onshoring, infrastructure upgrades, energy transition, agricultural investments, and medical and lab infrastructure improvements.

And that’s not all, we have added to our EBX toolkit. We initiated a few targeted AI-driven activities focused on improving our operations and are encouraged by the initial results. As we enter 2024, we just wrapped up our leadership meeting and rallied our team around growth bolt-on acquisitions and taking EBX up another notch. We have a proven and simple formula at ESAB; use EBX to drive growth, expand margins, and improve our cash flow within our base business, add accretive bolt-on acquisitions, and then use EBX to make them stronger. As a result, we’re shaping ESAB into a less cyclical, faster-growing and higher-margin enterprise. To talk specifically about the fourth quarter, let’s turn to Slide 3. Another strong quarter and another step forward in the direction of our 2028 goals.

As mentioned earlier, we delivered record fourth quarter results. Total sales grew by 600 basis points, adjusted EBITDA margins expanded to a record 19.4%, and our end markets continue to be resilient, with particular strength in India and the Middle East. We continue to be encouraged by the growth performance of our Cobot’s and Gas Control business. Our Cobot business experienced close to triple-digit growth, in the quarter and our Gas Control business grew low double digits. All our regions continue to benefit from infrastructure investment and energy transition projects. General fabrication activity remained solid. This was partially offset by softness in retail. Our teams are making positive strides, towards a more profitable product mix.

The impact of our EBX growth tools, and product line simplification is reflected in the adjusted EBITDA margins, improving 200 basis points and free cash flow improving by 39%, year-over-year. Moving to Slide 4, and reflecting on the full year and sharing a bit more on our financial metrics. Sales reached a record $2.62 billion and our core revenue rose by 800 basis points, with standout performances in India and the Middle East regions. Adjusted EBITDA, improved by 160 basis points to a record $483 million for the full year. And most importantly, we exceeded sales, adjusted EBITDA and EPS guidance, demonstrating our ability to consistently deliver on our commitments. Our full year free cash flow reached $305 million, with a record free cash flow performance in the fourth quarter.

This again, underscores ESAB’s commitment to financial discipline and continuous improvement. Moving to Slide 5, to discuss our fourth quarter performance in more detail. Quarterly sales hit a record $650 million. Adjusted EBITDA was a record $126 million, expanding 200 basis points year-over-year to reach an all-time high of 19.4%. As expected, we saw our Americas business return to positive volume, and our EMEA and Asia PAC business continue its positive momentum. In the quarter, we did benefit from FX favorability of about $2 million and about $1 million in promotional activities that shifted out to the first quarter in 2024. Turning to Slide 6, in the Americas, organic sales grew by 900 basis points, strong price performance of 800 basis points, volume adding 100 basis points of growth and acquisitions adding another 100 basis points.

We did have a small FX headwind in the quarter. Our investments in new products and solutions especially, our light industrial line focused on distribution, along with our Cobots focused on automation and robotics, are fueling significant growth opportunities. I had a chance to interact with a few of our distributors in December, and their reaction to our product line was remarkable. Several complements on our Renegade Volt and our new Ruffian engine-driven welder. The distributors are thrilled, with the new ESAB products. Additionally, our Gas Control business continues to perform well in the region. Both FABTECH and Gas Control contributed to an overall, 200 basis points improvement in adjusted EBITDA margin. Turning to Slide 7. Our EMEA and APAC regions continue to perform as expected, with total sales growing by 400 basis points.

Volume grew 200 basis points. Acquisitions contributed 100 basis points of growth. Our team in Europe, India and the Middle East, continue to execute well in the market. Our Gas Control team continues to win key projects, in lab and hospital expansion projects. The region has made great strides in selling our equipment line, and our fully autonomous adaptive welding solution. To add, the effective utilization of product line simplification and EBX, are driving the region’s adjusted EBITDA margins up 200 basis points to a record 19.3, underscoring our ability to drive growth and expand margins. On that positive note, let me hand it over to Kevin for Slide 8.

Kevin Johnson: Thanks, Shyam. We delivered another strong quarter of free cash flow, up 39% versus 2023 to a record $305 million. Key to our improved performance was a 0.3 turn improvement in working capital, as we continue to successfully deploy our EBX business system. This strong performance enabled us to delever better than expected and we ended the year with net leverage of less than 1.9 turns. In 2024, we continue to see opportunities to use EBX and leverage AI to drive even stronger cash flow to support our compounding journey. Turning to Slide 9. We provide our 2024 guidance. Total sales growth of 1.5% to 3.5%, which includes a point of FX headwind on organic growth of 2.5% to 4.5%. We have also provided our 2024 seasonality by quarter on the slide.

We expect year-on-year incrementals to be in the low 30s with an adjusted EBITDA guidance of $495 million to $515 million. This guidance includes $10 million of restructuring benefits and $15 million of additional investments in our business to support the commercialization of our innovative new equipment portfolio. Interest expense is guided to $74 million to $77 million adjusted tax rate between 23% to 24% and offshore client [ph] around $62 million. Overall unadjusted EPS guidance of $4.65 to $4.85. Finally our cash flow conversion guide is greater than 95%, which includes two one-time capital investments of around $10 million, we’re making to support future growth. To assist with modeling we have included a more detailed guidance slide in the appendix.

With that let me hand back to Shyam on Slide 10 to wrap up.

Shyam Kambeyanda: Thank you, Kevin. In conclusion, our teams are focused on executing our strategy, propelling us closer to our goal of becoming a premier industrial compounder. We exit 2023 with momentum, as our innovative new products ignite enthusiasm within our customers and our sales team. We’re putting a robust cash flow to good use reducing debt and adding strategic bolt-on acquisitions. Our M&A pipeline is the strongest it’s ever been, positioning us favorably to augment organic growth. We’re taking EBX up a notch with the presence kaizen event occurring every quarter. We’re off to a good start in 2024 and our focus is on delivering the year as we have guided and positioning ESAB to realize our 2028 objectives. We’re just getting started and as I said at Investor Day, it’s a great time to be an investor in ESAB.

This team is poised to continue to deliver significant value for our customers, associates and shareholders. With that operator let’s open the lines for questions.

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Q&A Session

Operator: [Operator Instructions] Your first question comes from the line of Tami Zakaria from JPMorgan. Please go ahead.

Tami Zakaria: Hi, good morning. Thank you so much and excellent margin performance in the quarter. So my first question is along that topic. The in-flight incremental EBITDA margin in your 2024 guide seems to be in the mid-30% and your 2028 target to get to the 22% EBITDA margin would imply – would require you to have an implied incremental of about call it high 20%, meaning it seems like you’re running ahead of that target. So should we think about the target as pretty conservative and easy to get to? Or was it originally adopted assuming that incremental margin over time later towards the 2028 timeline slows down and it was always going to be front-end loaded? So any thoughts on the incremental margin, please?

Shyam Kambeyanda: So first good morning. Always good to hear from you, Tami. Well, first thank you. I think we did have a great quarter both on the growth side and on the margin side of the business, really proud of how the team has performed, thrilled that we finally saw us peak out the positive volume in North America and continue our momentum in the rest of the world. To answer your question, we did really like our margin performance in the fourth quarter and how we finished out the year. As you know, as you look out your window, there’s many things that can come at you, headwinds or tailwinds as we look at 2028. What we’ve always said is that our team is very confident in delivering the margin growth targets that we’ve set within the business and then focusing on augmenting our organic growth with inorganic opportunities and acquisitions.

I mentioned earlier, we’ve got a really strong funnel. So we feel that both in 2024 and the rest of the time, we really have a chance to accelerate the growth line within organic opportunities, but continue to keep the pace on how we see our margin expansion continue. So, bottom line, I think we’re right where we need to be. And I think we’re driving the ship forward with some momentum.

Tami Zakaria: Got it. Great to hear. So my second question is, I just wanted to understand the full year outlook in terms of sales. It seems like the first half is expected to be modestly lower than the second half. And then the growth acceleration in the fourth quarter is much heavier than what’s implied for the first quarter. So, what’s really driving this expectation of like of a slower start? And then what gives you visibility that growth is going to accelerate in the back half?

Shyam Kambeyanda: Yes. I think I mentioned we’re off to a good start to the first quarter. But I think we did have weather in the Scandinavian region of Europe and also North America that was a bit severe. We’ve also had the Chinese New Year falls squarely in February. Then we expect Easter to land completely in the first quarter of this year as well. So there’s a bit of what I’d call headwind that is just related things outside the control of the business this year versus last year. And so, you’re seeing some days adjusted plus holidays kind of kick into that first quarter number. And then the rest of the year kind of shapes out the way we see it today. Now, what it doesn’t include is any acquisitions that we make in that period and that would obviously be positive upside to both growth and our intent obviously is to acquire businesses that are accretive to margin. So in both ways, we expect to sort of continue that positive momentum.

Tami Zakaria: Wonderful. See you in a couple of weeks.

Shyam Kambeyanda: Thanks. Thanks, Tami.

Operator: Your next question comes from the line of Mig Dobre from Baird. Please go ahead.

Mig Dobre: Yes. Good morning. I also want to ask about margin and I can appreciate the discussion on incrementals that are baked into the guide for ’24. But performance in Q4 was quite strong, right north of 19% and that’s frankly above the high end of where you’re guiding margins for 2024. So, I’m sort of wondering, kind of how we should think about seasonality here? Why for instance should we see a step down in margin relative to Q4? Anything to know about that?

Shyam Kambeyanda: Yes. First, we were also very happy with how both of our regions performed and really all across that Gas Control and across almost all regions which sort of gives us great confidence as how people are inculcating EBX into their daily standard work and how our teams are sort of working towards what is our ultimate goal that we’ve set up for 2028. I did mention we had a few good guys come at us in the fourth quarter. I mentioned a little bit of favorability of a couple of million with FX and about $1 million in sort of marketing and some other activities that pushed out to the quarter. And then Kevin briefly mentioned, we’re going to continue to invest as we drive equipment sales across all geographies of about $15 million of additional investment.

And so those are the factors that you should probably look at and then take a look at the guide as we go into next year. We absolutely believe that now as the flywheel is turning at ESAB, we can take some of that dollars and invest it back in the business with some of the activities that will fundamentally reshape us over the next three years, Mig.

Mig Dobre: Appreciate the color there. And I apologize, I don’t know if I missed this, but when we’re looking at your organic guidance to 2.5% to 4.5%, can you maybe put a finer point here on how we should — how you’re thinking about pricing versus volume? And do you foresee any differences between your two reported segments?

Shyam Kambeyanda: Yes, do you want to take, Kevin?