Ingersoll Rand Inc. (NYSE:IR) Q2 2023 Earnings Call Transcript

Ingersoll Rand Inc. (NYSE:IR) Q2 2023 Earnings Call Transcript August 3, 2023

Operator: Thank you for standing by. My name is Kayla Baker, and I will be your conference operator today. At this time, I would like to welcome everyone to the Ingersoll Rand Q2 2023 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speaker’s remarks there will be a question-and-answer session. [Operator Instructions] I would now like to turn the call over to, Vice President of Investor Relations, Matthew Fort. You may begin.

Matthew Fort: Thank you, and welcome to the Ingersoll Rand 2023 second quarter earnings call. I am Matthew Fort, Vice President of Investor Relations. And joining me this morning are Vicente Reynal, Chairman and CEO and Vik Kini, Chief Financial Officer. We issued our earnings release and presentation yesterday and we will reference these during the call. Both are available on the Investor Relations section of our website. In addition, a replay of this conference call will be available later today. Before we start, I want to remind everyone that certain statements on this call are forward-looking in nature and subject to the risks and uncertainties discussed in our previous SEC filings, which you should read in conjunction with the information provided on this call.

Please review the forward-looking statements on slide 2 for more details. In addition, today’s remarks, we will refer to certain non-GAAP financial measures. You can find a reconciliation of these measures to the most comparable measure calculated and presented in accordance with GAAP in our slide presentation and in our earnings release, both of which are available on the Investor Relations section of our website. On today’s call, we will review our company and segment financial highlights and provide an update to our 2023 guidance. For today’s Q&A session, we ask that each caller keep to one question and one follow-up to allow time for other participants. At this time, I will turn the call over to Vicente.

Vicente Reynal: Thanks, Matthew, and good morning to all. I would like to begin by thanking and acknowledging all of our employees for their hard work in helping us to deliver another record quarter in Q2. Our employees continue to deliver on our commitments, despite the constantly changing macroeconomic environment, and consistently exemplify our purpose while thinking and acting like owners. I would also like to welcome, our new employees from our recent acquisitions. Together, we have a great opportunity to build upon our strong complementary brands, products and capabilities, providing customers and the industry with a broader spectrum of solutions. Beginning on slide 3, fueled by our competitive differentiator, IRX in the second quarter, we delivered double-digit growth in revenue, adjusted EBITDA, adjusted EPS and free cash flow.

We recently published our 2022 sustainability report, where we yet again delivered industry-leading results, while remaining on track to meet our 2030 sustainability goals. Finally, based on our continued robust performance in Q2, we’re once again raising our 2023 full year guidance. As we move to slide 4, our economic growth engine is the key, to how we deliver compounding annual results. During our last Investor Day in Q4 of 2021, we presented this model and highlighted our organic, inorganic and quality of earning growth enablers. We remain committed to our strategy and our long-term Investor Day targets outlined in this page. On the next slides, I will provide you with deeper insights into our organic initiatives, which are centered, around product innovation and innovative value also known as i2V.

In addition, we will provide an update on our progress towards our inorganic goals. Turning to slide 5, we start with our organic growth initiatives. Here, we have some examples of how in China, we have leveraged products localization as well as i2V to drive organic growth. On the left-hand side of the page, we show how localization has created new product offerings and enabled channel expansion all with a focus on high-growth sustainable end markets. Since the Gardner Denver and Ingersoll Rand merger, our blower and vacuum product lines have grown organically at a 17% CAGR. On the right-hand side of the page, we have an example of organic growth through the combination of recently acquired M&A and i2V. As you can see in the pictures at the bottom right-hand side of the page, the Asia Pacific team conducted a turndown event with legacy products, recently acquired M&A and competitive technologies.

The outcome of that turndown event is the development of a new oil-free screw vacuum pump. This new product will expand our addressable market by over $350 million, and will go from development to launch in approximately six months. Next, on Slide 6, M&A continues to be at the forefront of our capital allocation strategy. We are thrilled to highlight our recently signed M&A deal Roots. This iconic Roots brand is a leading provider of low-pressure compression and vacuum technology. This brand is synonymous with blowers in the same way that clinics and Bandaid are recognized in consumer markets. We’re very excited to acquire this iconic brand, which has been in business for almost 200 years. The acquisition also expands our capabilities in both low-pressure technology and centrifugal technology.

And this technology is a critical component in the process of green steel manufacturing. Our M&A funnel remains strong. And as of today, it continues to be over five time larger than it was at the time of the R&D. We currently have seven transactions at the LOI stage. And more importantly, we have several other transactions in process, which are close to the LOI stage. Based on acquisitions to date, the seven transactions under LOI at our current M&A funnel, we are reaffirming our commitment to an additional $200 million to $300 million in annualized inorganic revenue to be acquired in 2023. On Slide 7, we recently released our 2022 sustainability report, showcasing the commitment and results of our strategic imperative leads sustainably. We have made significant progress in establishing ourselves as a top quartile ESG company by leveraging our competitive differentiator, IRX to deliver results in a very short period of time.

In fact, we have received several industry-leading sustainability acknowledgments of our efforts, including being named to both the Dow Jones Sustainability World Index and the Dow Jones Sustainability North America Index. Ingersoll Rand was ranked as the number one performer in the IEQ machinery and electrical equipment industry in North America and number four globally in 2022. As a very close 2023, Ingersoll-Rand received an ESG risk rating of low at 12.8% from Morningstar Sustainalytics. We also received an ESG rating improvement to AA in 2023 from MSCI and ranked as a leader among 47 companies in the industrial machinery category. More important, we’re also leading the way in the social aspect of ESG with our employee ownership model. We believe employee ownership creates economic opportunity for our employees and their families while driving increased employee engagement as our long-term shareholder.

To that end, we have awarded approximately $275 million since 2017 in equity to our employees, employees that are not already on the management equity program. This has increased to over $660 million in value as of June 30, 2023. We will continue to offer our ownership works program that grant equity to all new employees after the 1-year anniversary. Our employees are a critical element of our business and making life better for them begins with opportunity. Through their engagement and commitment, we are on track to meet our 2030 sustainability objectives. With this, I’ll turn now the presentation over to Vik to provide an update on our Q2 financial performance.

Vik Kini: Thanks, Vicente. On slide 8, fueled by IRX, we again delivered solid results in Q2 through a balance of commercial and operational execution. Total company organic orders and revenue increased 5% and 12% year-over-year, respectively. Book-to-bill was 1.03, and we remain encouraged with the strength of our backlog, which is up approximately 12% year-over-year and up approximately 5% sequentially. The backlog is approximately 45% higher than it was at the end of 2021, which gives us good visibility and momentum as we move into the back half of 2023 and start to look into 2024. The company delivered second quarter adjusted EBITDA of $425 million, a 27% year-over-year improvement and adjusted EBITDA margins of 25.2%, a 190 basis point year-over-year improvement.

For the quarter, adjusted diluted earnings per share was $0.68, up 25% versus the prior year. Free cash flow for the quarter was $204 million, despite ongoing headwinds from inventory due to the need to support backlog as well as continued global supply chain challenges. Even with these headwinds, free cash flow was up 24% versus prior year. Total liquidity of $3.2 billion at quarter end was up approximately $1 billion sequentially. This increase was driven in large part due to the recently amended, extended and upsized revolving facility, which took place in early Q2 of this year. Our net leverage continues to remain near all-time lows. At 1.0 turns, we are 0.1 turns better than both the prior year and prior quarter. Finally, I’d like to highlight an example of the power of our ownership mindset and the effectiveness of our competitive differentiator, IRX.

Due to the team’s resiliency in overcoming the cybersecurity incident, the Q2 revenue and adjusted EBITDA risk associated with the incident was mitigated within the quarter. This is no small task, and I would like to thank all of our employees that were involved in helping to overcome this impediment, enabling us to deliver tremendous results in Q2. Turning to slide 9. For the total company, Q2 orders grew 10% and revenue increased 18%, both on an FX-adjusted basis. Total company adjusted EBITDA increased 27% from the prior year. The ITS segment margin increased 200 basis points, while the PST segment margin improved 240 basis points. Notably, both segments remain price cost dollar and margin positive, which speaks to the nimble actions of our teams despite persistent inflationary headwinds.

Corporate costs came in at approximately $43 million for the quarter, driven by continued investments to support growth in areas like demand generation and IIoT as well as the impact of incentive compensation adjustments. Adjusted diluted earnings per share for the quarter was up 25% to $0.68 per share. This $0.14 year-over-year increase includes a $0.04 headwind from interest expense. And finally, the adjusted tax rate for the quarter was 24%. Moving on to the next slide. I want to highlight that the company was assigned an investment-grade first-time issuer default rating from Fitch. We have now received investment-grade ratings from two of the three major rating agencies, and we remain committed to becoming an investment-grade rated across all of our rating agencies.

Free cash flow for the quarter was $204 million, including CapEx, which totaled $25 million. Total company liquidity was $3.2 billion based on approximately $1.2 billion of cash and $2 billion of availability on our revolving credit facility. Cash outflows for the quarter included $49 million deployed to M&A and we returned $64 million to shareholders through $56 million in share repurchases and $8 million in dividends. M&A remains our top priority for our capital allocation, and we continue to expect M&A to be our primary usage of cash for the foreseeable future. We continue to have an active and healthy funnel of inorganic growth opportunities. This funnel consists primarily of bolt-on M&A relatively similar in size, scope and nature to the assets we have acquired over the past two to three years.

I will now turn the call back to Vicente to discuss our segment results.

Vicente Reynal: Thanks, Vik. On Slide 11, our Industrial Technologies and Service segment delivered strong year-over-year organic revenue growth of 14% with volume growth slightly outpacing pricing. Adjusted EBITDA increased 29% year-over-year with an adjusted EBITDA margin of 27.4%, up 200 basis points from the prior year with an incremental margin of 38%. We continue to see solid demand for our products with organic orders up 8% and a book-to-bill of 1.05. Note that on a two-year stack, ITS organic orders have grown 19%. Moving to the individual product categories. Each of the figures exclude the negative impact of FX, which year-over-year was approximately a 1.5 percentage point headwind across the total segment on both orders and revenues.

Starting with compressors, we saw orders up in the low double digits. We continue to see oil free product orders outpace oil lubricated products. Orders were up low double digits in the Americas, with North America also up low double digits, demonstrating that we continue to see momentum from secular trends around ESG, on-shoring and near-shoring as well as continued investments on energy savings. EMEIA demand continued to be above market with orders up high single digits. The Asia Pacific team continues to deliver a great performance with order growth in the mid-teens, driven by continued solid execution from our team in China where they saw orders up in the low 20s. Today, we showed on Slide 5, an example of how the team in China continues to outperform the market conditions with our own self-help initiatives.

Vacuum and blower orders were up mid-teens and every region saw positive orders with good strength from Europe. Orders in the power tools and lifting business was up low single digits. Moving now to the innovation and action portion of the slide, we’re illustrating an oil free hydrogen compressor recently launched in EMEIA. This product is a perfect example of how we continue to focus our portfolio on high-growth, sustainable end markets with region-for-region manufacturing. The EMEIA team collaborated with a clean energy tech startup in the Netherlands to develop and build a system for our innovative hydrogen process, and the first unit was shipped in July. Turn to Slide 12. Revenue in the Precision and Science Technology segment grew 5% organically.

Additionally, the PST team delivered adjusted EBITDA of $90 million, which was up 16% year-over-year with incremental margins of 66%. Adjusted EBITDA margin was 29.2%, up 240 basis points year-over-year. The year-over-year improvement in adjusted EBITDA margin is driven primarily by price cost improvements, synergy delivery on acquired businesses like Seepex, and the impact of China lockdowns in the second quarter of 2022, which did not repeat. Organic orders were down 10% year-over-year with a book-to-bill of 0.95 times. It is important to note that the book-to-bill was one-time for the first half of the year. The primary driver of the organic order decline related to larger frame orders not repeating in the life science businesses, as well as the expected decline of longer cycle orders in the Agritech platform.

Our book and ship business was solid, and we believe that the core business within PST remains very healthy. For PST innovation in action, we’re highlighting our new peristaltic pump technology that is used for water treatment, industrial and life sciences market. This product innovative design provides a robust alternative for chemical dosing and transfer applications. The products are IoT-ready and complement our already strong portfolio of products for water treatment and chemical applications offering customers the opportunity to choose the best technology for each application. Leveraging this technology across both Albin Pump and LMI brands, we continue to execute our multi-brand, multi-channel strategy while expanding our addressable market by over $250 million.

Moving to slide 13. Given the solid performance in the first half and continued momentum from backlog, we’re again raising our 2023 guidance. As you may recall, during Q1 earnings, we guided an anticipated impact of approximately $20 million of adjusted EBITDA moving out of Q2 and into the back half of the year due to the cybersecurity incident that we experienced in late April. As Vik mentioned earlier, this risk was mitigated within the quarter and no significant revenue or adjusted EBITDA is now expected to have been pushed into the back half. We have included some additional commentary on the bottom right-hand side of the page, outlining the increase in full year guidance incorporating the impact from the Q2 outperformance and the improvement in organic growth expectations in the second half of the year.

For the full year, total company revenue is expected to grow overall between 12% and 14%, which is a 200 basis point improvement versus our previous guidance. We anticipate organic growth of 8% to 10%, where price and volume is split approximately 60-40. FX is now expected to be a slight headwind, however, approximately flat on a full year basis. Our revenue from M&A has increased $30 million to approximately $300 million. This increase reflects the impact from all completed and closed M&A transactions as of August 1, 2023. Corporate costs are planned at $165 million and will be incurred relatively evenly per quarter throughout the year. Total adjusted EBITDA for the company is expected to be in the range of $1.69 billion and $1.74 billion, which is up 2% versus prior guidance and up 7% versus our initial guidance.

At the bottom of the table, adjusted EPS is projected to be within the range of $2.70 and $2.80, which is up 17% year-over-year at the midpoint. No changes have been made to our guidance on the adjusted tax rate, total interest expense or CapEx spend as a percentage of revenue, all remain in line with both initial and prior guidance. Turning now to slide 14. As we wrap today’s call, I want to reiterate that Ingersoll Rand remains in a strong position. We continue to deliver record results and our updated guidance is reflective of our Q2 performance and ongoing backlog momentum. We remain nimble. We continue to monitor the dynamic market conditions, and we’re prepared for the challenges that may come. To our employees, I want to thank you for an excellent first half of the year.

These results show the impact that each of you have as owners of the company. However, we’re still a long way to go, and we need to remain focused on our commitment to meeting our financial targets and executing our economic growth engine through the use of IRX. Thank you for your continued hard work, resiliency and focus action. As we continue our track record of market outperformance, our balance sheet is as strong as ever. And with our disciplined and comprehensive capital allocation strategy, we remain resilient and have the capacity to deploy capital to invest with the highest return. With that, I’ll turn the call back to the operator and open the call for Q&A.

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Q&A Session

Operator: [Operator Instructions] Our first question comes from the line of Michael Halloran with Baird. Your line is open.

Michael Halloran: Hey, good morning, gentlemen. So can we just talk about how the underlying trends you saw through the quarter, maybe any sequential commentary and a focus on where you saw any changes positively or negatively, or is the demand environment essentially cadencing how you would have expected — on an underlying level?

Vicente Reynal: Yeah, I’ll say, Mike, we saw the sequential cadence in the quarter, very comparable to what we always see, which is typically lower on month one and kind of starts ramping up through the quarter, and we saw that happening pretty well. So nothing that, we will call anything different out of color. So — which obviously continues to show that there is good cadence and momentum and that more important for us to as well is the leading indicators. And particularly as we always talk about the MQLs, those marketing qualified leads that we generate with our demand generation engine. And that continues to see good sustainable pace momentum across the product lines, which is encouraging to see.

Michael Halloran: And on the PST side, can you just put those orders in context a little bit. I certainly understand the Agritech side and some of the larger projects, orders not repeating. But it sounds like things are healthy when you exclude those 2 pieces. And maybe a little bit of help on how you expect the order trends to track from here and recovery curves in some of those markets?

Vicente Reynal: Yeah. Sure, Mike. I mean I think you said it very well. I mean, I think what we continue to see that we get excited is that the book and turn business remains pretty strong in the business, which you could call it the short cycle side of the business. And then what we saw here in the quarter, it was just that lumpiness with Agritech with some of our businesses that last year, we’re doing on some large projects and also some of the oxygen concentration business that kind of similar to what we spoke in the first quarter of kind of large frame orders that happened last year, not this year. So I guess — so with that, I think we continue to stay very encouraged. We see that the trend in the PST segment continues to be to deliver that mid-single-digit plus.

I mean, there’s definitely no over the cycle and over time. So there’s no change in that long-term perspective of what we can achieve here in the PST team with the PST segment, and we anticipate continued momentum here. So, yes.

Michael Halloran: Thanks, Vicente.

Vicente Reynal: Yeah. Thank you, Mike.

Operator: Your next question comes from the line of Julian Mitchell with Barclays Capital. Your line is open.

Julian Mitchell: Thanks very much. Good morning. Maybe first question just around that split of sort of how you see the second half playing out between Q3 and 4. I think the guide embeds are sort of low 70s EPS figure each quarter, but just wondered about how much of that ends up being weighted into Q4 and if there’s any big difference between the two segments from that standpoint?

Vicente Reynal: Yes. Julian, for total Ingersoll Rand on revenue and adjusted EBITDA margin Q3 looks a lot like Q2. And I’ll say for Q3 on a year-over-year basis, remember that comps get increasingly more difficult. And as we think about the segments, ITS, for example, ITS is expected to grow revenue still at low double digit, including the impact of M&A, and as a reminder, I mean, think about that tough comp where Q3 of last year, we grew 19% organically. So that’s kind of what we talk about those tough comps. But we still see a good line of sight to about 100 basis points of margin expansion in ITS. And PST is expected to grow mid-single digits. And as a reminder, that’s on top of 20% growth in Q3 of 2022 and margins to be expected back again into that 30% level of EBITDA.

Julian Mitchell: That’s very helpful. Thank you. And then just secondly, when you’re thinking about the sort of firm-wide orders and backlog trajectory from here across both businesses. Are we thinking sort of orders flattish organically year-on-year in the back half and then the sort of backlog maybe starts to drift down a bit sequentially, just as those lead times shorten. And so sort of customers can adjust their orders a little bit?

Vicente Reynal: Yes. Julian, yes, I mean, clearly, we don’t specifically guide on orders. But again, as a reminder, our Q3 prior year is probably 1 of the toughest comps for orders. As I recall, Q3 last year was roughly 14% organic order growth momentum, so very solid. In terms of the backlog, I’ll say, we do anticipate backlog to drift down a little bit in the back half as we mentioned in the past, I mean, the normal cadence for orders is typically a book-to-bill greater than one in the first half due to larger longer projects and booking in the first half has been — and booking in the second half being kind of less than one due to those larger orders kind of getting shipped most predominantly in the fourth quarter. Having said that, as a reminder, I think the past nine quarters out of 10 quarters, we had a book-to-bill of greater than one, so — which obviously speaks again to the comps that we’re seeing here.