Franklin Electric Co., Inc. (NASDAQ:FELE) Q1 2024 Earnings Call Transcript

Franklin Electric Co., Inc. (NASDAQ:FELE) Q1 2024 Earnings Call Transcript April 30, 2024

Franklin Electric Co., Inc. misses on earnings expectations. Reported EPS is $ EPS, expectations were $0.74. FELE isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Hello, and welcome to the Franklin Electric Report’s First Quarter 2024 Sales and Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speaker presentation, there will be a question-and-answer session. [Operator Instructions]. Please be advised that today’s conference call is being recorded. It is now my pleasure to introduce Chief Financial Officer, Jeff Taylor.

Jeff Taylor: Thank you, Andrew, and good morning, everyone. Welcome to Franklin Electric’s first quarter 2024 earnings conference call. With me today is Gregg Sengstack, our Chairperson and Chief Executive Officer. On today’s call, Gregg will review the first quarter business highlights, and I will provide additional details on our financial performance. We will then take questions. Before we begin, let me remind you that as we conduct this call, we will be making forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements are subject to various risks and uncertainties, many of which could cause actual results to differ materially from such forward-looking statements.

A discussion of these factors may be found in the company’s annual report on Form 10-K and today’s earnings release. All forward-looking statements made during this call are based on information currently available and, except as required by law, the company assumes no obligation to update any forward-looking statements. With that, I will now turn the call over to Gregg Sengstack.

Gregg Sengstack: Thank you, Jeff, and thank you all for joining us. Our first quarter results were slightly below our expectations, while the business generally performed as expected. The Franklin team executed well and managed costs during the quarter, despite much wetter weather and expected and continuing commodity price pressures. As we have previously communicated, the first quarter is seasonally our slowest quarter as it relates to demand. However, underlying activity in our core markets remains healthy. Compared to our record first quarter of 2023, net sales were down $24 million, or 5%. We had an exceptional start in 2023, particularly for large dewatering equipment and Fueling Systems, which made for a tougher year-over-year comparison.

Largest contributing factors were the decrease in large dewatering equipment sales in the U.S. to our fleet rental customers, which accounted for approximately two-thirds of the decrease and lower sales in Fueling Systems as demand and order patterns have normalized. Even with more moderate demand, we delivered improved gross margin versus the prior year driven by favorable mix and continued cost control. As expected, SG&A expenses were higher than prior year due to inflationary pressure, investments in recent water treatment and distribution acquisitions, and the addition of new distribution branch locations. Turning to our segments, Water Systems first quarter sales and operating income declined 7% and 4%, respectively. As I previously mentioned, volumes were lower in large dewatering equipment, creating a difficult year-over-year comparison against the first quarter record sales in 2023.

Additionally, demand in the U.S. for our groundwater pumping systems was impacted by continued unfavorable weather patterns. Operating margin improved to 16.4%, up 40 basis points versus prior year at 60 basis points versus the fourth quarter of 2023. This was driven by a favorable product mix and lower freight expenses. Fueling system sales and operating income decreased 15% and 10%, respectively, versus the prior year. We are encouraged to see that the destocking activity which impacted the business in the back half of last year has mostly diminished at this point in time. As with large dewatering equipment, Fueling Systems record first quarter fiscal ’23 created a difficult year-over-year comparison. That said, Fueling Systems first quarter operating margin came in at 30.3%, an increase of 170 basis points compared to the prior year.

Improved margin was a result of favorable product mix and operating expense management. Sales in the distribution business increased 3% from the prior year primarily due to the incremental sales impact from our 2023 acquisition. The business, similar to the Water Systems, was negatively impacted by unfavorable weather across many parts of the United States, delaying the start of contractor installations. Operating margin was 1.2%, a 210 basis point decline versus the prior year due to lower margins on commodity-based products as well as increased operating expenses from continued investment and growth via the recent acquisition of new branch locations announced in 2023. Considering the impact of these investments, we are encouraged to have achieved a 50 basis point sequential improvement in operating margins for distribution for the fourth quarter of 2023 on seasonally lower sales.

Our sales team maintains line of sight to our contractors, customers’ project pipelines and as a result, we are confident we will see improving performance in sales and margin as weather improves as we enter the groundwater drilling season. Our continued focus on the management of working capital has resulted in more normalized inventory levels with our March inventory balance at $532 million, close to $70 million lower than the same period in the prior year, although up from the end of the year in anticipation of normal seasonal demand. Consequently, our cash flow improved approximately $10 million in the first quarter of 2024 compared to the prior year. We remain committed to a balanced capital allocation strategy. We continue to make internal investments focused on bringing additional production in-house and enhancing the integrity of our supply chain.

We are also actively monitoring the M&A environment where we have seen an uptick in activity. We’ve invested approximately $0.5 billion since 2017 to build our distribution business and our water treatment platform. We will continue to build these businesses through bolt-on acquisitions, while we are actively looking to grow in a couple of other areas. The first is manufacturers of larger pumping systems where they focus on commercial and industrial end markets globally. The second is to add to our critical asset monitoring capabilities in the grid business as the demand for electricity continues to grow. With effectively no net debt, we are well positioned to take advantage of opportunities as they present themselves. Finally, we remain committed to returning capital to our shareholders through regular dividends and opportunistic share repurchases.

Looking ahead to the remainder of this year, we are mindful of the continued macroeconomic and geopolitical pressures we have to contend with. However, given the results in the first quarter and our current outlook, we are maintaining our full year 2024 sales guidance to be in the range of $2.1 billion to $2.17 billion in sales and our EPS guidance to remain between $4.22 and $4.40. Before turning the call back over to Jeff, I’d like to take a moment to recognize Franklin Electric and our employees for being named in Newsweek’s 2024 list of America’s most trustworthy companies for the third consecutive year. I would also like to refer you to our recently published 2024 sustainability report, detailing the company’s efforts to positively and responsibly impact our communities over the past year.

The work that we do is essential to people’s lives, advances global access to clean water and improves the safety and availability of energy worldwide. I’m also proud of the culture this management team has stewarded, one that balances focus across efficiency, sustainability and reliability with the well-being of our employees. I will now turn the call back over to Jeff. Jeff?

Jeff Taylor: Thanks, Gregg. Overall, our first quarter was largely in line with our expectations, as Gregg highlighted. While we started off the first quarter with sales down from our record levels last year, the Franklin team executed well with a focus on delivering for our customers and cost management, which resulted in an improvement in our gross profit margins. And fully diluted earnings per share were $0.70 for the first quarter 2024 versus $0.79 for the first quarter 2023. First quarter 2024 consolidated sales were $460.9 million, a year-over-year decrease of 5%. The benefit to sales from our 2023 acquisitions were more than offset by lower volumes in Water Systems and Fueling Systems. Water Systems sales in the U.S. and Canada were down 12% compared to the first quarter of 2023 due to volume declines.

Sales of large dewatering equipment decreased 50% compared to record quarterly sales in the prior year quarter and sales of groundwater pumping equipment decreased 8%. These sales declines were partially offset by the incremental sales impact from our recent water treatment acquisition. Sales of all other surface pumping equipment were flat compared to the first quarter 2023. Water Systems sales in markets outside the U.S. and Canada increased by 4% overall as sales increased in all major markets; Latin America, EMEA and Asia Pacific. Water Systems operating income was 47.1 million in the first quarter of 2024, down 1.9 million or 4% versus the first quarter 2023. Operating income margin was 16.4%, a year-over-year increase of 40 basis points.

The decrease in operating income was primarily due to lower sales. Operating income margin improved due to favorable product mix shifts and lower freight expenses. Distributions first quarter sales were 147 million versus the first quarter 2023 sales of 143 million, a 3% increase. The distribution segments operating income was 1.8 million for the first quarter, a year-over-year decrease of 2.9 million. Operating income margin was 1.2% of sales in the first quarter 2024 versus 3.3% in the prior year. Income was negatively impacted by margin compression from continued lower pricing on commodity-based products and investments in new branch locations. Fueling system sales in the first quarter of 2024 were $62.1 million. Sales decreased 10.6 million or 15% compared to the prior year.

Fueling system sales in the U.S. and Canada decreased 11% compared to the first quarter 2023. The decrease was across all product lines as customer buying patterns have normalized after record first quarter sales in 2023. Outside the U.S. and Canada, fueling system sales decreased 16% due primarily to lower sales in Asia Pacific. Fueling systems operating income was 18.8 million compared to 20.8 million in the first quarter 2023. The first quarter 2024 operating income margin was 30.3% compared to 28.6% of net sales in the prior year. Operating income margin increased primarily due to price realization, lower freight costs and a favorable product-sales mix shift. Franklin Electric’s consolidated gross profit was 163.6 million for the first quarter 2024, a 1% year-over-year increase.

Gross profit as a percentage of net sales was 35.5% in the first quarter 2024, up 200 basis points versus 33.5%. In the prior year, the gross profit margin was favorably impacted in 2024 by product mix and lower freight costs in Water Systems and Fueling Systems, partially offset by margin compression from unfavorable pricing of commodity-based products from the distribution business. Selling general and administrative or SG&A expenses were 115.6 million in the first quarter 2024 compared to 109.5 million in the first quarter 2023. The increase in SG&A expenses were due to the incremental expense from recent acquisitions, new branch locations and distribution, and higher compensation costs. Consolidated operating income was 47.9 million in the first quarter 2024, down 4.7 million or 9% from 52.6 million in the first quarter 2023.

The decrease in operating income was primarily due to lower sales. First quarter 2024 operating income margin was 10.4% versus 10.9% of net sales in the first quarter 2023. Below operating income, higher foreign exchange expense, primarily due to hyperinflation in Argentina and Turkey, was partially offset by lower interest expense, which equates to a decrease of approximately 0.02 in earnings per share. The effective tax rate was 22% for the quarter compared to 21% in the prior year quarter. The company purchased approximately 78,000 shares of its common stock in the open market for about 7.4 million during the first quarter 2024. At the end of the first quarter, the remaining share repurchase authorization is about 839,000 shares. Last week, the company announced a quarterly cash dividend of 0.25 that will be paid May 16th to shareholders of record as of May 2nd.

This concludes our prepared remarks. We’ll now turn the call over to Andrew for questions.

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Q&A Session

Operator: Thank you. [Operator Instructions]. And our first question comes from the line of Bryan Blair with Oppenheimer.

Bryan Blair: Thank you. Good morning, everyone.

Jeff Taylor: Good morning, Brian. Good morning.

Bryan Blair: I was hoping you could offer a little more color on how orders trended through the quarter and into Q2 and how your team used the relative puts and takes or upside, downside drivers versus the reiterated full year guidance at this point.

Jeff Taylor: Yes. I mean, from how it trended during the quarter, I think it trended pretty much as we would expect it with the normal seasonal profile. Typically, it’s going to start slow and then build as we move through the quarter, so lower in January and then finish in stronger in March. I believe we saw that. Puts and takes there. You know, the one thing that I think impacted the business more than we had expected was the weather. We continued to see much wetter weather in the U.S., and that impacted us certainly in the western part of the U.S., and so that was a factor that was worse than we had forecast or expected. And then the other is, the commodity prices, particularly for pipe, continue to be under pressure. You know, that market has to stabilize at some point, Bryan.

We’ve been waiting for that for a couple of quarters now, but we continue to see, pricing pressures there. And that’s, you know, more than four quarters in a row that we’ve seen those pricing pressures on commodities. So, when you look at it from a year-over-year impact, it does have an impact.

Bryan Blair: Well understood. I appreciate the color. If we could dig into Fueling Systems trends a bit. What was the growth in critical assets monitoring in the quarter, and at this point, how mixed and creative is that build-out? Obviously, the segment margin, came in at least relative to our model, ahead of expectations, and the optics are quite favorable there.

Jeff Taylor: Yes, I would say that the grid solutions business performed pretty much in line with the way the fueling business did, in terms of it was down on a year-over-year basis. And so, while that business has been growing, strong double digits, and we expect it to continue to grow strong double digits, I think it went through some of the same dynamics that we saw on the fueling side, where people had built up inventory, restocked, and now with supply availability, lead times improved, people are waiting. They’re not placing their orders as early as they did in prior year. And so, we saw a year-over-year decline in grid solutions.

Bryan Blair: Okay, understood. And one last one, if I may. Any color on the integration of action manufacturing and commentary on the M&A pipeline? It seems optimistic. Any color you can offer on the opportunities over the near-term potential actionability, whether in water treatment distribution, the typical focus areas for you, or you called out a couple of new, potential areas for investment as well.

Gregg Sengstack: Yes, Bryan, on action, integration has gone on schedule. We actually have pulled up, bring them onto our ERP system. We’re actually doing that tomorrow. So, we are good in both distribution and in water treatment. We’re able to get businesses on to our system very quickly and get them aligned in our business practices layout to their warehouses and their assembly locations. And so, we improved flow. And action’s right on plan, actually, a little bit ahead of plan on top line and bottom line. We have the platforms we need to operate in both distribution and water treatment, groundwater distribution and water treatment. But as people decide to exit the business, we’re available to be an acquirer in that business and we’ll continue to do so.

We are also being more intentional now that I think, the world’s accepted higher interest rates, particularly in the United States, and valuations that I think the sellers and buyers are getting a better understanding of what valuations are in this new interest rate environment. We’re just seeing higher deal flow in manufacturing assets. And at its core, you know, Franklin’s a manufacturing company. Our distribution decision was afforded a great – and a channel that we’re a leader in the United States in groundwater. So, at their core, we’re a manufacturer. At our core, we’re a global company. And so, we’re looking, again, at opportunities to acquire, companies that, have larger pumps to augment what people recognize as us being a leader in residential and Ag. So, we want to be intentional about that.

And that’s where we’re seeing also greater deal flow and deal activity. And also, with adjacencies and being mindful that, we’ve grown this company over time through intentional expansion of adjacent markets, but thoughtfully doing that so that they’re adjacent to make logical sense from the standpoint of either distribution, common customers. And so, we’re looking at that as well. But definitely, we’ve seen just more deal flow over the last several months, last couple quarters than, say, maybe a year ago.

Bryan Blair: Appreciate all the color. Thank you.

Gregg Sengstack: Thank you, Bryan.

Operator: Thank you. One moment, please, for our next question. And our next question comes from the line of Walter Liptak with Seaport Research.

Walter Liptak: Hi, good morning, guys. Thanks.

Jeff Taylor: Good morning, Walt.

Walter Liptak: So, considering the slightly weaker than expected first quarter and, related to the wetter weather, you maintain the guidance for the full year. Can you talk about, your confidence levels, what has to go right second quarter and the back half to get to your guidance?