Tennant Company (NYSE:TNC) Q3 2023 Earnings Call Transcript

Tennant Company (NYSE:TNC) Q3 2023 Earnings Call Transcript October 31, 2023

Operator: Good morning. My name is Krista, and I’ll be your conference operator today. At this time, I would like to welcome everyone to Tennant Company’s 2023 Third Quarter Earnings Conference Call. This call is being recorded. [Operator Instructions] Thank you for participating in Tennant Company’s 2023 third quarter earnings conference call. Beginning today’s meeting is Mr. Lorenzo Bassi, Vice President, Finance and Investor Relations for Tennant Company. Mr. Bassi, you may begin.

Lorenzo Bassi: Good morning, everyone, and welcome to Tennant Company’s third quarter 2023 earnings conference call. I’m Lorenzo Bassi, Vice President, Finance and Investor Relations. Joining me on the call today are Dave Huml, Tennant’s President and CEO; and Fay West, Senior Vice President and CFO. Today, we will provide you with an update on our third quarter performance. Dave will provide you an update on our operations and enterprise strategy, and Fay will cover our financials. After our prepared remarks, we will open the call to questions. An earnings press release and slide presentation that accompanies this conference call are available on our Investor Relations website. Before we begin, please be advised that our remarks this morning and our answers to questions may contain forward-looking statements regarding the company’s expectations of future performance.

A team of professionals prepping for a training seminar, using professional cleaning products produced by the company.

Such statements are subject to risks and uncertainties, and our actual results may differ materially from those contained in the statements. These risks and uncertainties are described in today’s news release and the documents we filed with the Securities and Exchange Commission. We encourage you to review those documents, particularly our Safe Harbor statement, for a description of the risks and uncertainties that may affect our results. Additionally, on this conference call, we will discuss non-GAAP measures that include or exclude certain items. Our 2023 third quarter earnings release and presentations include the comparable GAAP measure and a reconciliation of these non-GAAP measures to our GAAP results. I’ll now turn the call over to Dave.

Dave Huml: Thank you, Lorenzo, and hello, everyone. On the call today, I will be discussing highlights from the third quarter, our outlook for the remainder of 2023, our performance against our current enterprise strategy targets, and the framework and transition to our new planned enterprise growth strategy. I am very pleased to report our strong Q3 results, which built on the momentum we generated in the first half of the year. This was the fourth consecutive quarter our global team delivered strong organic net sales and adjusted EBITDA growth above our expectations. Our performance puts us on pace to deliver a record-setting year. I could not be prouder of the teams who have worked diligently to execute our enterprise strategy, manage the supply chain crisis and serve Tennant’s customers around the world.

In the third quarter, we achieved net sales of $304.7 million, bolstered by organic sales growth of 13.9%. Orders have remained resilient, and we reduced backlog meaningfully for the third consecutive quarter. We continued to reduce lead times and deliver the exceptional products and services our customers expect from Tennant. Backlog levels have returned to normal in nearly all product lines, except for those industrial products that are exclusively produced out of our Minneapolis plant. We expanded gross margins to 43.3% and delivered adjusted EBITDA of $45.9 million. Our price realization efforts, along with a moderating inflation environment, drove our strong operating performance. Additionally, we converted over 100% of net income to free cash flow, as we continued to make improvements in working capital.

See also 25 Most Atheist Countries in the World and 12 Best Internet of Things (IoT) Stocks To Buy.

Q&A Session

This enables us to focus on making strategic investments and return capital to shareholders through dividends and share repurchases. Based on our performance during the quarter and outlook for the fourth quarter, we are increasing our full-year 2023 net sales guidance to between $1.23 billion to $1.25 billion and adjusted EBITDA guidance to between $190 million and $200 million. Both of these establish record highs for the company. We expect that order rates will remain resilient and that parts availability and inflation will remain at current levels, allowing us to deliver exceptional results for 2023. Fay will talk about our new guidance in more detail as she discusses our financials. Over the last several years, we have provided regular updates on Tennant’s enterprise strategy.

Developed in 2019, this strategy focused on driving structural improvements into our business to deliver expanded profitability. Its three pillars are: one, winning where we have a competitive advantage; two, reducing complexity and building scalable processes; and three, innovating for profitable growth. These pillars were designed to drive shareholder value and increase adjusted EBITDA margins to 15% by 2024. I am happy to announce that based on our anticipated full-year results, we believe we will meet each of our key financial targets by the end of 2023. We targeted annual net sales organic growth rate of 2% to 3% net of divestitures. We expect to deliver an organic growth rate of approximately 3%. We targeted annual adjusted EBITDA growth rate of 6% to 10%.

We expect to deliver 9%. We targeted annual adjusted EBITDA margin improvement of 50 basis points to 100 basis points, and we expect to deliver on average approximately 75 basis points of adjusted EBITDA expansion per year, achieving an adjusted EBITDA margin of greater than 15%. All of this was achieved a year ahead of schedule amidst the global pandemic and unprecedented global supply chain disruptions. It is a compelling demonstration of the strength of our global team, as well as our organizational agility. As we successfully conclude our prior enterprise strategy, we have been planning the next chapter for our company, a pivot to growth. Over the last four years, we have built new execution capabilities and rigor and have implemented structural changes that provide a solid foundation for Tennant.

We intend to leverage this foundation as we move forward. The long-term prospects for Tennant Company are very bright. And our new growth-focused enterprise strategy, which we will launch in 2024, is centered on strategic pillars for growth, performance and people. Our growth pillar will target differentiated sales growth in the mid-single digits and above-market growth rates. We will expand profit margins and maintain operating efficiency through pricing discipline, prudent expense management and investments in productivity. Our performance pillar will elevate how our business is run in order to optimize cost structure, accelerate decision making, deliver an improved customer experience and embed our sustainability ambitions into our enterprise strategy.

We will achieve this by: standardizing and optimizing global processes informed by our customer value proposition; investing to modernize and consolidate our existing ERP systems to a best-in-class SAP cloud-based solution — over the next two years, this initiative will build a digital infrastructure for Tennant that will scale as we grow, driving incremental operating efficiency and resulting in incremental cost savings; and accelerating our sustainability progress by embedding our Thriving People, Healthy Planet framework across our enterprise to deliver results for our customers, employees and other stakeholders. Our performance goals can only be met if our organization attracts and retains talented people who can drive change and help deliver our exceptional products and services to our customers.

Our people pillar will achieve this by: investing in our employee value proposition so that we can deliver a clear, consistent and compelling promise to employees and prospects about reasons to work at Tennant Company; and accelerating our DE&I roadmap and representation ambitions to create an inclusive environment in which all of our employees can thrive. Through our growth strategy, we will proactively supplement organic growth with strategic acquisitions that enhance shareholder value. Based on our financial strength, compelling value proposition and extendable and winning business model, we believe we are well positioned to drive growth through acquisitions. Tennant has a solid position in an attractive and growing core market, with 13% share of an $8.5 billion addressable cleaning market.

Our first area of focus will be to grow the core through bolt-on acquisitions, closing product gaps and strengthening our channel position in attractive geographies. We will also look to leverage our strengths, capabilities and unique assets to explore attractive adjacencies and expand into non-cleaning mobile equipment. We will focus primarily on mobile equipment companies that have similar supply chain and manufacturing characteristics, similar end markets or channels, and potential cross-selling opportunities with the legacy Tennant footprint. Our ideal targets will provide opportunities to extend autonomy and leverage our service infrastructure and expertise. Lastly, we will focus on the connected autonomy technology stack by identifying products and services we want to either develop internally, source on the open market or acquire directly.

Our disciplined M&A process will focus on those opportunities that provide the right strategic value, operational fit and financial returns. We are shifting our M&A approach from reactive to proactive and are resourcing our organization accordingly. With that, I will turn the call over to Fay for a discussion of our financials.

Fay West: Thank you, Dave, and good morning, everyone. In the third quarter of 2023, Tennant delivered net income of $22.9 million, an increase of $7.3 million from the prior-year period. Strong operating performance was fueled by higher net sales and gross margin expansion. Net sales growth and gross margin improvement were driven by both higher price realization and volume increases. Selling and administrative expenses were higher in the quarter as compared to the prior-year period due to higher variable costs associated with the increase in operating performance. As a percentage of net sales, S&A expense for the third quarter of 2023 increased by 170 basis points to 28.9% from 27.2% in the prior-year quarter. As we discussed during the second quarter, we anticipated an increase in S&A expense and focused our incremental spending on employees and strategic investments to fuel growth opportunities.

Higher interest expense and higher income tax expense also impacted net income, in line with our expectations. Net interest expense increased to $3.3 million in Q3, up from $2.2 million in the prior-year period. The increase was due to rising interest rates on our variable interest rate debt. Our interest rate, net of hedges, was approximately 4.4%. Income tax expense of $7 million was $2.8 million higher than the prior year. The comparison between periods was impacted by a decrease in discrete tax benefits recognized during the quarter, along with unfavorable changes in the mix and forecasted earnings by country. The third quarter’s effective tax rate of 23.4% is in line with full year expectations. Third quarter adjusted earnings per diluted share, which excludes amortization, increased to $1.34 per share from $0.98 per share in the prior-year period, driven by our strong operating performance.