Alamo Group Inc.
Q2 2021 Earnings Call Transcript

Published: 8 Aug 2021

[Operator:]

Good day, everyone. Welcome to the Alamo Group Inc. Second Quarter 2021 Conference Call. Today’s conference is being recorded. At this time, I would like to turn the conference over to Edward Rizzuti, Vice President, General Counsel and Secretary. Please go ahead, sir.

[Edward Rizzuti:]

Thank you. By now, you should have all received a copy of the press release. However, if anyone is missing a copy and would like to receive one, please contact us at 212-827-3246 and we will send you a release and make sure you are on the company’s distribution list. There will be a replay of the call, which will begin 1 hour after the call and run for 1 week. The replay can be accessed by dialing 1888-203-1112 with the passcode 5523668. Additionally, the call is being webcast on the company’s website at www.alamo-group.com and a replay will be available for 60 days. On the line with me today are Jeff Leonard, President and Chief Executive Officer; Richard Wehrle, Executive Vice President, Chief Financial Officer and Treasurer; and Dan Malone, Executive Vice President, Chief Sustainability Officer and Head of Investor Relations. Management will make some opening remarks and then we will open up the line for your questions. During the call today, management may reference certain non-GAAP numbers in their remarks. Reconciliations of these non-GAAP results to applicable GAAP numbers are included in the attachments to our earnings release. Before turning the call over to Jeff, I would like to make a few comments about forward-looking statements. We will be making forward-looking statements today that are made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements involve known and unknown risks and uncertainties, which may cause the company’s actual results in future periods to differ materially from forecasted results. Among those factors which could cause actual results to differ materially are the following. Market demand, COVID-19 impacts, including operational logistics and supply chain disruptions, competition, weather, seasonality, currency-related issues, geopolitical issues and other risk factors listed from time-to-time in the company’s SEC reports. The company does not undertake any obligation to update the information contained herein, which speaks only as of this date. I would now like to introduce Jeff Leonard. Jeff, please go ahead.

[Jeff Leonard:]

Thank you, Ed. We want to thank all of you for joining us today. Dan will begin our call with a review of our financial results for the second quarter 2021. I will then provide more comments on the results. Following our formal remarks, we look forward to taking your questions. So Dan, go ahead, please.

[Dan Malone:]

Thank you, Jeff. The key takeaways from our second quarter 2021 results are

[Jeff Leonard:]

Thank you, Dan. First, I’d again like to thank everybody who’s joined the call today, my first quarterly earnings call as President and CEO of Alamo Group. It’s an honor to succeed Ron Robinson, who has had an exemplary 22-year period as our CEO. I’d like to take this opportunity to thank Ron for his highly successful stewardship of the company over so many years. This is certainly an interesting time to step in as CEO with the many positive and challenging trends that are influencing business at the moment. Over the past few months and certainly throughout the second quarter, coronavirus vaccination rates steadily improved across many countries, economies reopened and people became more confident about returning to more normal daily routines. While recovery from the pandemic is not yet evident in all of our markets, North America and Europe have rebounded strongly, and we experienced a further resurgence of activity in our markets in the second quarter. Customer ordering activity remained at a healthy level, and our backlog increased to another new record at the end of the quarter. Unfortunately, many raw material suppliers and industrial component manufacturers have not been able to add capacity fast enough to meet the higher demand. Certain critical components such as computer logic chips remain in severe shortage, and logistics networks are strained. Manufacturers such as Alamo Group rely on a stable supply chain and efficient logistics network to allow us to meet our customers’ needs in a timely manner. A shortage of skilled workers has further limited the ability of manufacturers to add capacity, most notably in North America. Finally, the combination of shortages and high demand has led to cost inflation in the raw materials and components that are needed to support our production requirements. For example, steel prices continue to rise sharply and were up by double digits again in the period. Like most manufacturers, Alamo Group is not immune to these issues, and our teams have had to work flexibly and creatively to deliver another solid performance for the quarter. Continuing the trend of the last several quarters, our agricultural division produced strong second quarter results. The ag market has consistently held up better during the pandemic, largely due to the combined effects of several positive trends. First, after several years of soft conditions, dealer inventories were low when demand began to accelerate, and they remain low now as demand continues to outpace deliveries from OEMs to dealers. Also, crop prices have been steadily rising since August of 2020, giving professional farmers the confidence to invest in maintenance or replacement of their equipment. Similarly, livestock prices have been rising given the same increased confidence to ranchers. Finally, the pandemic has led to more people to seeking rural lifestyles, increasing investments in land and the essential equipment to maintain it. As a result of these combined trends in the market, in the second quarter, our agricultural division enjoyed steady growth in orders and sales, not only in North America and Europe, but also in markets such as Brazil and Australia. Thanks to timely and well-planned price actions implemented by the division’s leadership teams, margin compression was minimalized and the division achieved a very good level of profitability in spite of the cost and availability pressures in the supply chain and logistics network. The industrial division also reported solid improvements in both sales and earnings in the second quarter. The impact of the pandemic on governmental budget has not been as severe as previously expected, and activity in this market continued to improve sequentially during the period. Municipalities in the United States benefited from the very strong real estate market that has increased property taxes that are a major source of their revenue. Also, stimulus actions taken by national governments in North America and Europe helped agencies at the state and local level offset lower revenue from income taxes and fees as employment fell as a result of pandemic. During the second quarter, the industrial division sales to governmental agencies continued to accelerate but they’ve not quite fully recovered to the levels achieved before the onset of the pandemic. Non-governmental markets for the industrial division’s products also improved in sectors such as forestry land clearing, petrochemicals, utilities and steel during the second quarter as most world economies took steps to reopen. This was evident in improved sales of the division’s large wood grinders, vacuum trucks and excavators. Also, by the end of the quarter, utilization of our vacuum truck rental fleet was very close to pre-pandemic levels. The industrial division was impacted by sharply higher steel costs, shortages of important hydraulic components, logistics delays and skilled worker shortages. While this division also took significant price actions to protect margins, the longer delivery cycles associated with the division’s products means that it will take somewhat longer for the higher prices to be fully evident in its results. Considering the many operational challenges we faced in the second quarter, I’m pleased with the results we’ve achieved. I’m also proud that our teams quickly reacted to these challenges to mitigate the impact on our results to the fullest extent possible. I’m also pleased that we further reduced our debt this quarter and continued to strengthen the company’s balance sheet. This positions the company well to take advantage of acquisition opportunities that may arise, and what’s proving to be an active M&A season. With Alamo Group’s record order backlog of nearly $504 million, the company’s outlook continues to look promising although it doesn’t now appear that the cost pressures, component shortages and tight labor market are likely to meaningfully improve during the remainder of 2021. One issue that remains of concern is the spread of the de-strain of COVID that has emerged over the past few weeks. Although evidence suggests that vaccinations reduce both the frequency and seriousness of COVID infections, another significant wave of coronavirus illness could adversely affect our performance. On balance, though, I remain confident that our teams will continue to react appropriately as conditions in our operating environment involved, and that Alamo Group will continue to deliver solid results this year. This concludes our prepared remarks. We’re now ready to take your questions. So operator, please go ahead.

[Operator:]

Thank you very much. We will take our first question from Chris Moore from CJS Securities.

[Chris Moore:]

Hey, good afternoon guys. Thanks for taking few questions.

[Jeff Leonard:]

Good afternoon.

[Chris Moore:]

Good afternoon. So, industrial sales, up 27%, ag, up 35%. Can you breakout even roughly volume versus price on those?

[Jeff Leonard:]

Dan, do you want to take a crack at that?

[Dan Malone:]

Yes. The price increases have been double digits. Because of just the variety of products that we sell, it’s really kind of hard. And in different units, we’re taking different levels of price increases. It would – it’s a difficult analysis. I can just tell you that the price increases were double digits in both the industrial and the ag side of the business.

[Chris Moore:]

Got it. I appreciate that. You talked about dealer inventories remain very low. Is there any way to quantify where those inventories are today versus 6 months ago or 12 or even 24 months ago? Just trying to get a more kind of quantitative sense in terms of the – that still low level?

[Richard Wehrle:]

Chris, I think they have improved since the end of last year. Everybody pretty much reduced their inventory levels down during 2020. But they are actually picking up and they are improving. So they are actually – they seem to be very pleased to have, obviously, product on their lot, but it’s continued to move out to the end user as well. So a nice steady flow.

[Dan Malone:]

Yes. And one of the reasons we know they are down. I mean we get intelligence from the sales force in the ag side of the business. That’s where dealer inventories are most common, but the other way that we absolutely know that they are way down as the receivables. The receivables on the ag side are way down. And as soon as they sell a unit, we don’t have to wait until the third quarter to get paid.

[Chris Moore:]

Got it. That’s helpful. And just looking at backlog, record backlog, in a normal year, what percentage of that backlog, would you typically ship during the balance of the year and how would you compare that against what we’re going through right now?

[Jeff Leonard:]

Yes. I think we’re...

[Richard Wehrle:]

I think – go ahead. Go ahead, Jeff.

[Jeff Leonard:]

Yes. Chris, this is Jeff Leonard. I mean I think, obviously, lead times are a little bit longer than they are normally. But in normal times, a $500 million backlog at the rate we’re currently shipping would carry us to – close to the end of the year. So I do believe most of that backlog, if everything remains stable, should turn. What we can’t predict accurately yet is what the impact of the supply chain is likely to be going forward. While people have asked me a lot of questions about that, I think the supply chain situation is stable. It’s not getting worse. But on the other hand, I haven’t seen meaningful improvement yet. So in the normal circumstances, most of that backlog should turn before the end of the year, but we’re certainly in a kind of a watch and wait and see mode with regard to the supply chain.

[Chris Moore:]

Got it. I will leave it there. I appreciate the time guys.

[Operator:]

Thank you. We will take a question from Greg Burns from Sidoti & Company.

[Greg Burns:]

Yes. Is there any way to quantify – could you quantify the price/cost gap in the quarter? How big that was from a dollar perspective? And in terms of the price increases that you’re passing along, the timing of when we might see the benefit of those and closing that price/cost gap?

[Dan Malone:]

Where we can see the price cost gap is the fact that our volumes are way up. And you would expect that we’d be well above 10% operating margin and well above the 25.4% where we were on the gross margin as well, given the volume leveraging that we should have seen. So I think it’s affecting our margins – but I think it’s affecting our operating margin by at least 100 basis points. And it’s really – this is – again, this is – it’s really a difficult analysis. It’s a moving target. We’re putting in pricing as quickly as we can get it in. And then the costs are just coming in, and they are all coming in differently in different business units.

[Richard Wehrle:]

Greg, several times, we put price increases and then the next week, the cost increases have gone up when the price increase we just did was to cover the cost increase that we did probably a couple of weeks ago. So everything that we’re doing is probably a drag of 45 to 60 days. So if the costs can stay steady for a period of time, price increases we put into effect will definitely help us as we move out.

[Dan Malone:]

Yes. If we just would get any moderation in the cost, then the pricing – we’re putting pricing – we’re aggressive. We’re putting pricing in place as we see costs rise. But when the costs continue to rise, there is a delaying impact. I think it’s at least 100 basis points on the operating margin. Just the timing issue.

[Greg Burns:]

Okay. And then – when we look at the backlog, the lead times extending out, do you see any risk if pricing continues to rise that some of that backlog falls off?

[Jeff Leonard:]

Yes. This is Jeff. I’ll tackle that one, Greg. We’ve not had any customers cancel orders yet, at least none that I’m aware of. We don’t see any evidence of unusual buying at the moment. And if you look at our two divisions in the industrial division, which is mostly governmental, governmental agencies really can’t buy on speculation. They don’t have the power to do that and they don’t behave that way. In the ag side, the indicator would be when dealer inventory starts to rise and dealers would then start to get cautious about waiting for orders that haven’t been delivered yet, and maybe some cancellations would occur. But we’ve seen no evidence of that to date. And we’ve already talked a little bit about dealer inventories kind of just kind of holding at a low level right now. So we haven’t seen much upward tick there yet. So on the bigger ag stuff, products that are being shipped or being retailed as fast as the dealers receive them at the moment. So in short, we don’t see any risk in the backlog at the moment.

[Greg Burns:]

Okay. And then in terms of the supply chain, chassis have been particular area of constraints. Are you seeing anything there or in any other specific products or components that maybe give you more concern as you look out into the balance of the year?

[Jeff Leonard:]

Yes. I’ll tackle that one again, Greg. On the chassis side, we’ve been very fortunate so far that chassis struggles have not really impacted us too heavily yet. We have good relationships with our chassis suppliers. We do a pretty good job of forecasting for them. And throughout this year so far, they have been able to meet our demands, for the most part. We’ve had to juggle a little bit here and there, but we’ve not had to shut down any facilities, and we’ve not had to turn down any delivery requests from customers, we couldn’t lose any orders over that. The things that are making me more concerned are actually some of the smaller components at the moment. Hydraulics of all types are in very short supply at the moment. And if you place an order for 10 hydraulic motors, you might – if you’re lucky, you get 5, and the lead times are very long for hydraulic components, typically out to about 6 months right now. And then I mentioned the computer logic chip shortage. And people ask me a lot, well, how does that impact you. Well, every chassis that we buy has two to three computer logic chips in it. And tractor is the same because they all have an engine control module that requires on those computer logic chips. And even things like DLC controllers that control the hydraulics and many of the products that we produce contain chips. So we’re watching that very, very closely. But I would say at the moment, hydraulics are the ones that are keeping me up the most at night. But there is other things, even things like wiring harnesses. Getting wiring harnesses made for the equipment that we manufacture is a struggle. There aren’t a lot of suppliers out there for those, and they tend to be a fairly complex and yet low dollar value item that can really put you into a bad spot if you’re not able to get them. So it’s just a variety of things. That’s the way I would describe it right now.

[Greg Burns:]

Alright. Thank you.

[Operator:]

And it appears we have no further questions at this time. I would like to turn the call back over to the – I am sorry, I spoke too soon. We have a follow-up question from Greg Burns.

[Greg Burns:]

Hi, I guess no one else is on. I’ll ask one or two more. In terms of what you’re doing from a capacity perspective, a record backlog, how are you increasing capacity? Are you expanding your footprint? What are you doing to kind of prepare yourself to fulfill that backlog and maybe meet some of the demand you might see from an infrastructure bill if it gets passed?

[Jeff Leonard:]

Yes. A couple of things, Greg. I mean if you look at some of the remarks I made in the press release, we’re investing heavily in robotics at the moment in welding because welders have been hard to come by these days. And that’s been a nice improvement for us, particularly in some of our larger units. We’ve been able to get a hold of and deploy robots a little bit faster than we were able to do previously. So that’s been a good help. We are not facility limited. We’re not floor space limited or machine tool limited or anything else at the moment. Our limitations are the supply chain and manpower more than anything else. And manpower, obviously, we are trying every trick in the book to hire as many people as we can. But we have to then onboard them and train them and get them indoctrinated to the things that we do in our plants, so that takes a bit of time. And I think those are challenges that are going to be there for a while. But we are making headway with it. And the rate at which we’ve been able to generate revenue has been stepping up fairly consistently over the last few months, and I think that’s a trend that’s likely to continue.

[Greg Burns:]

Very good. Thanks.

[Operator:]

We have no further questions at this time. I would like to turn the call back over to the management team for any concluding remarks.

[Jeff Leonard:]

Okay. Well, thank you again everybody for joining us today. We look forward to speaking with you again on our 2021 third quarter call in November. So once again, thank you for joining us today.

[Operator:]

And ladies and gentlemen, that does conclude today’s conference. We appreciate your participation today.