Axalta Coating Systems Ltd. (NYSE:AXTA) Q3 2023 Earnings Call Transcript
Axalta Coating Systems Ltd. (NYSE:AXTA) Q3 2023 Earnings Call Transcript November 1, 2023
Axalta Coating Systems Ltd. beats earnings expectations. Reported EPS is $0.45, expectations were $0.38.
Operator: Ladies and gentlemen, thank you for standing by. Welcome to Axalta's Third Quarter 2023 Earnings Conference Call. All participants will be in a listen-only mode. A question-and-answer session will follow the presentation by management. Today's call is being recorded and the replay will be available through November 8. Those listening after today's call should please note that the information provided in the recording will not be updated, and therefore may not longer be current. I will now turn the call over to Chris Evans. Please go ahead.
Chris Evans: Thank you, and good morning. This is Chris Evans, VP of Investor Relations. We appreciate your continued interest in Axalta, and welcome you to our third quarter 2023 financial results conference call. Joining me today are Chris Villavarayan, CEO and President; and Carl Anderson, CFO. We released our quarterly financial results this morning and posted a slide presentation to the Investor Relations section of our website at axalta.com, which we will be referencing during this call. Our prepared remarks, the slide presentation and our discussion today may contain forward-looking statements, reflecting the company's current view of future events and their potential effect on Axalta's operating and financial performance.
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These statements involve uncertainties and risks and actual results may differ materially from these forward-looking statements. Please note that the company is under no obligation to provide updates to these forward-looking statements. Our remarks and the slide presentation also contain various non-GAAP financial measures. In the appendix of the slide presentation, we've included reconciliations of these non-GAAP financial measures to the most directly comparable GAAP financial measures. For additional information regarding forward-looking statements and non-GAAP financial measures, please refer to our filings with the SEC. I will now turn the call over to Chris.
Chris Villavarayan: Thank you, Chris. Good morning everyone and welcome to our third quarter 2023 earnings call. I'm pleased to report on a great third quarter. I want to thank the entire global team for their tremendous efforts in delivering an exceptional result. I'm proud that Axalta is back on track with the momentum we began earlier this year, both commercially and operationally we have made many notable accomplishments this quarter that I will highlight for you. I'm particularly pleased that the North American ERP implementation issues we experienced last quarter are now resolved and production volumes at our refinish facility in Virginia are ahead of pre-implementation rate. Q3 net sales increased by 6% year-over-year to $1.3 billion, a new company record.
The top line improvement was led by a solid quarter from Mobility Coatings, which delivered double-digit organic net sales growth. Price mix increased by 6% year-over-year with strong contributions from every end market. This was a great outcome for the team. We will maintain our pricing discipline going forward as we face pressure from higher labor costs and strive to recover margins to pre-pandemic level. Adjusted EBIT of $188 million and adjusted EBITDA of $261 million increased by 27% and 24% respectively year-over-year and both were near record levels. Mobility Coatings drove the majority of the improvement in earnings and the segment is now at a quarterly run rate consistent with 2019 levels. The team has done a great job prioritizing margin recovery, while also building an attractive book of business wins in high-growth areas.
Company adjusted EBIT margins improved by 240 basis points year-over-year to 14.3%. This improvement largely stems from raw material deflation, cost discipline and continued pricing effort. Sustained margin improvement remains a key priority for us going forward and will remain an important target heading into 2024. Free cash flow increased by $131 million year-over-year to $182 million. This positive trend is a direct result of our ongoing focus to reduce working capital. We believe that we are well positioned to deliver approximately $400 million of free cash flow for the full year 2023. Given this degree of earnings and cash flow growth, our balance sheet has now strengthened considerably. Axalta's net leverage ratio continues to improve and is significantly lower than Q3 of last year.
Given our strong commercial and operational performance, we have increased our full year financial guidance. This updated forecast puts us on pace to deliver record adjusted EBITDA in 2023. The pieces are coming together at Axalta. But before giving you more color on the quarter, I want to briefly discuss leadership updates on Axalta's Board of Directors. Steve Chapman who has been a Director since 2020 has chosen not to seek re-election. We extend our gratitude to Steve for his significant contributions to Axalta. His wealth of experience, specifically his global operational insight has played a pivotal role navigating our journey through the pandemic and post pandemic dynamics over the last several years. Also, we're delighted to welcome Mary Zappone to our Board, effective October 25.
The Mary will serve on the audit and the Environment Health Safety and Sustainability Committee. Mary is currently the CEO of Sundyne, a leader in design and manufacturer of mission-critical pumps and compressors for the chemical, industrial and energy markets, a position she has held since 2021. Mary brings a wealth of experience to our team with more than two decades in senior leadership positions, including CEO of BRACE Industrial Group and Service Champ. She has a proven record in industries directly relevant to Axalta. I'm confident that she will make a meaningful contribution to our Board. Let's now go to Slide 5 with the highlights of several notable accomplishments this quarter. In October, we acquired André Koch a long-term Refinish distribution partner.
This acquisition is immediately accretive and aligns neatly with our strategy to diversify and expand our Refinish offerings. It also increases our presence in Switzerland an attractive region for us. We're excited to welcome the André Koch team to Axalta. Next, we were recently named the exclusive supplier for BMW Group's private Inc. label in 15 European countries plus South Africa. This agreement includes BMW's network of 730 franchise dealership repair shops and adds to the existing supplier agreements with BMW Group in other regions. We're thrilled with this expanded relationship. It speaks to the strength of our deep customer relationships and the Refinish team's dedication to the highest standards of quality, efficiency and sustainability.
Innovation is critical to the health of our business long term. This is why I'm excited about our new partnership with Xaar to introduce Axalta's NextJet, an advanced paint application tool that allows for precise pain placement. This emerging technology enables in-line customization of color schemes, including two toning and striping. NextJet is being tested with customers today and we plan to bring it to limited commercial use in 2024. This is an excellent example of how we are working with our customers to understand their requirements and developing technology to meet those needs. Lastly, I want to highlight the official opening of our new Mobility coatings, manufacturing facility in Cheland, China. This site produces waterborne and solventborne coatings for the automotive OEM space adding local capacity enables Axalta to meet the growing demands for the China market, where we have continued to expand our position and see sustained long-term growth.
Let's move to slide 6. My main focus since joining Axalta has been to drive improved efficiency and performance across the portfolio. Our financial performance is beginning to reflect the operational initiatives underway that are driving these improvements, across the enterprise, including managing price. We have instituted a more rigorous pricing approach, which is helping margins return to target levels across all end markets. Pockets of opportunity are being pursued as well and we will remain disciplined given the inflationary pressures in labor and select raw materials. Next, we have been focused on cost optimization. We have initially prioritized this opportunity in procurement given the costs we have incurred in the past two years, and the favorable buying environment.
In the last nine months we have bid out more than two-thirds of our total $2.5 billion of spend and have driven substantial savings. This is a direct result of our consulting initiative we put in place earlier this year. We have invested in our manufacturing capabilities. As I said earlier, our North American operations have made great strides following our ERP implementation. Production volumes at our Virginia plant are ahead of pre-implementation rates, and we're making good progress at reducing the backlog. And finally, we have improved inventory levels to drive better free cash flow. We have reduced inventory by approximately $80 million year-to-date. This is yet another consulting initiative that we have seen great return on investment.
I'm pleased with our progress, but this will be an ongoing effort with more actions underway. I look forward to sharing our strategic plan for the company at our Capital Markets Day early next year. I could not be more excited for what the future has in store for Axalta and all our stakeholders. I will now turn the call over to Carl for a review of our financial performance.
Carl Anderson: Thank you, Chris, and good morning, everyone. I am thrilled to have joined Axalta at this opportune moment, as we set out to transform the company and unlock our full potential. There is incredible talent at Axalta, and I look forward to working with the entire team to drive value for our stakeholders. Let's turn to slide 7. In the third quarter, net sales increased 6% year-over-year to $1.3 billion with positive sales contributions from both segments and strong price/mix improvement in every end market. Volumes were 3%, lower as growth in Mobility Coatings was offset by declines in Performance Coatings. Adjusted EBIT improved $188 million from $148 million in the prior year period, a 27% increase. Adjusted EBIT margin improved by 240 basis points to 14.3%, led by a significant step-up in price cost recovery.
All end markets are now price/cost positive on a cumulative basis from 2021. Raw material deflation was a benefit for the second consecutive quarter as a consequence of a few factors. First, as Chris mentioned, our teams have done a great job negotiating with suppliers. They have driven significant savings and improved contract terms to help solidify these benefits. Second, softening demand in adjacent markets alongside improved global arbitrage has moved supply-demand balances in favor of Axalta across many of our input categories. On a regional basis, we have seen considerable relief across much of Asia Pacific and expect these markets to be balanced going forward. Trends in EMEA and North America are expected to remain favorable into the fourth quarter.
In addition, pricing discipline remains critical as labor inflation persists globally and was again a significant headwind this quarter offsetting a portion of the raw’s relief. In the quarter, we also continued to incur costs associated with our productivity investments and ERP implementation, which totaled $15 million in the period. We expect these costs to start trending down in the fourth quarter and will be mostly behind us as we cross into 2024. Adjusted diluted earnings per share increased 15% year-over-year to $0.45, despite an approximate $0.08 headwind from the net change in interest expense and tax rate. Free cash flow in the quarter totaled $182 million compared to $51 million in the third quarter 2022, an increase of 257%. Targeted working capital improvements were the primary driver of this result.
Moving to slide 8. Performance Coatings third quarter net sales were $856 million, a 2% improvement year-over-year. Refinish organic net sales improved by low-single-digits year-over-year. This was driven by strong price/mix growth as well as from Irus Mix enrichment given the near-term deprioritization of low-margin product categories such as thinners this quarter. Volumes in our core premium and mainstream customer segments were above expectations led by strength in EMEA. However, declines in the economy customer segment and non-core areas led to lower reported volumes year-over-year in Refinish. We continue to see a favorable backdrop for our industry-leading products and services. This is exemplified by the BMW win mentioned earlier as well as ongoing market share opportunities in mainstream economy segments and adjacent markets.
We remain on pace for record Refinish earnings again in 2023. Industrial organic net sales were down year-over-year as better price/mix was more than offset by softer volumes as challenges persisted in construction-related sectors. We see signs of stabilization but certain areas like our Building Products business are still facing customer destocking headwinds. In the meantime, the teams are doing a great job managing costs and increasing profitability, despite volume decline. Performance Coatings third quarter adjusted EBIT was $135 million versus $122 million in the same period last year. Both end markets contributed to improved segment earnings as better price/cost dynamics more than offset lower volumes higher labor and cost allocations associated with enterprise productivity project.
Let's move to Mobility Coatings results on Slide 9. As Chris told you, this was a solid quarter for Mobility. Third quarter net sales increased by 13% year-over-year to $453 million, driven by a balance of better volumes and price mix. Light vehicle organic net sales increased by 12%. Volumes were very strong in the quarter led by above-market mid-teens percentage growth in China. In North America, organic sales were up 12%, as we had a very limited impact in the quarter from the UAW strike. Price/mix improved by 7% year-over-year inclusive of a modest mix benefit. The performance was supported by resilient auto builds and continued execution of a multiyear customer strategy to align with the fastest-growing OEM. Our growth in China was noteworthy and should be further enabled by investments we are making in the region.
We are closely monitoring the UAW strike in North America and our fourth quarter guidance reflects a modest impact but it is important to recognize the diversity of our regional and global sales mix which in 2023 has increasingly been driven by growth in other regions. Commercial Vehicle organic net sales increased by 10% versus the prior year period. The year-over-year improvement was driven by strong price/mix in North America and a mid-single-digit improvement in volume. Mobility Coatings adjusted EBIT improved to $40 million from $4 million a year ago driven by higher selling prices and lower variable input costs. This is a significant improvement and represents a run rate consistent with pre-pandemic 2019 levels. Adjusted EBIT margin also increased by 790 basis points to 8.8%.
Turning to Slide 10. We ended the quarter with $1.1 billion in total liquidity inclusive of a cash balance of $606 million. Note that the acquisition of André Koch. mentioned earlier by Chris, occurred after the third quarter close and as a result, the closing date cash outlay of approximately $108 million will be reflected in our fourth quarter cash balances. Our total net leverage ratio is now 3.2 times, reflecting an improvement from 3.6 times last quarter and almost a full turn from a year ago. Additionally, we still expect to finish the year at a three time leverage ratio inclusive of the impact from the acquisition. Continuing to strengthen our balance sheet is among our highest priorities. We are targeting a net leverage ratio of two to 2.5 times and a gross leverage ratio of 2.5 to three times from a combination of natural deleveraging and continued cash generation.
This quarter we also repurchased $50 million worth of Axalta shares. We see strong value in our equity today and we'll remain opportunistic as we prioritize capital deployment to drive shareholder value return. This prioritization includes the need for incremental CapEx to support operational objectives. Going forward, we will accelerate internal investments with a modest step-up from a recent annual CapEx ranges, as ERP-related spending begins to wind down. We are focused on improving return on invested capital across all areas of investment. I will now turn the call back over to Chris for an update to our fourth quarter and 2023 financial guidance.
Chris Villavarayan: Thanks, Carl. In Q4, we expect net sales to be up year-over-year with an improvement in both segments. We project volume growth to be muted in Q4, due to the growth in Mobility Coatings with a slight decline in Performance Coatings. We expect global Mobility sales to remain strong with the exception of the forecasted impact from the UAW strike. Refinish sales are expected to remain stable, with a slight sequential decline in fourth quarter driven by typical seasonal cyclicality. On the cost side, we anticipate that raw material deflation and significant cost initiatives will drive a high single-digit benefit in the fourth quarter, partially offset by higher labor expense. Margins are expected to be greatly improved year-over-year.
However, we expect a typical seasonal mix headwind quarter-over-quarter, which is likely to drive a modest margin headwind from Q3 to Q4. Fourth quarter adjusted EBIT is now expected to be approximately $180 million or about $250 million in adjusted EBITDA. Full year adjusted EBIT and adjusted EBITDA are projected to be approximately $670 million and $950 million respectively. We're pleased with the trajectory of our earnings into year-end. At these levels, our full year guidance implies 17% year-over-year growth and a potential record adjusted EBITDA. As we look ahead to 2024, we see opportunity for yet another year of solid growth and margin expansion. We expect a supportive environment in our resilient Refinish end market and we expect to outpace robust demand in light vehicle, which together should offset potentially lower volumes in industrial and heavy truck market.
We also see the potential for a weighted benefit in the first half of the year from lower raw material costs, slightly offset by select RMI linked contracts. We are committed to transforming Axalta. The actions that we're implementing are already showing results and this is just the beginning of a strategy that we are confident will bring the positive change we want for the company. This concludes our prepared remarks. Operator, please open the lines for Q&A.
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