Columbus McKinnon Corporation (NASDAQ:CMCO) Q3 2024 Earnings Call Transcript
Columbus McKinnon Corporation (NASDAQ:CMCO) Q3 2024 Earnings Call Transcript January 31, 2024
Columbus McKinnon Corporation beats earnings expectations. Reported EPS is $0.74, expectations were $0.69. CMCO isn't one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).
Operator: Greetings, and welcome to Columbus McKinnon Third Quarter Fiscal Year 2024 Financial Results. [Operator Instructions]. As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Kristy Moser, Vice President of Investor Relations and Treasurer.
Kristy Moser: Thank you, Rob. And good morning, everyone, to Columbus McKinnon's fiscal third quarter 2024 earnings conference call. The earnings release and presentation are available for download on our Investor Relations website and at investorrelations.cmco.com. On the call with me today are David Wilson, our President and Chief Executive Officer, and Greg Rustowicz, our Chief Financial Officer. In a moment, David and Greg will walk you through our financial and operating performance for the quarter. But before we begin our remarks, please let me remind you that we have our safe harbor statement on slide two. During the course of this call, management may make forward-looking statements in regards to our current plans, beliefs, and expectations.
These statements are not guarantees of future performance and are subject to a number of risks and uncertainties and other factors that can cause actual results and events to differ materially from the results and events contemplated by these forward-looking statements. I'd also like to remind you that management will refer to certain non-GAAP financial measures. You can find reconciliations of the most directly comparable GAAP financial measures on the company's Investor Relations website and in its filings with the Securities and Exchange Commission. Please see our earnings release and our filings with the Securities and Exchange Commission for more information. Today's prepared remarks will be followed by a question and answer session. With that, let me turn it over to David.
David Wilson: Thank you, Christy, and good morning, everyone. The third quarter was another quarter of strong net sales as we leveraged our playbook for growth and gained traction with commercial initiatives. In fact, we delivered over $1 billion of net sales on a trailing 12-month basis for the first time in our history. With continued category resilience and healthier supply chain dynamics, we improved operating performance in areas that matter most to our customers and reduced our lead times. This improvement in operational performance enabled us to further reduce our past two backlog levels and delivered improvements in customer experience. In the third quarter, we drove 10% top-line growth, which translated to even stronger growth in operating profit, as we expanded gross margin, benefited from leverage on our growth and remained focused on performance improvement through CMBS and our 80-20 process.
Adjusted gross margin expanded by a robust 160 basis points year-over-year, even as we lapped pricing actions from the prior year. Improvements over time have been driven by progress in capacity planning, material costs, direct labor productivity, factory overhead rates, pricing, and the acquisition of Montratec. Although we delivered strong margin expansion year-over-year, it fell a bit short of our own expectations due to a few unique items that Greg will unpack shortly. While those dynamics had an impact in the third quarter, we expect to accelerate year-over-year adjusted gross margin expansion in the fourth quarter. We have line of sight to 200-plus basis points of expansion with potential upside opportunities and remain on track for our 40% gross margin target in 2027.
That exceptional operating performance is all thanks to the hard work and strong execution of our 3,500 Columbus McKinnon team members. I couldn't be more proud of how our nimble and innovative team has continued to deliver on behalf of both our customers and our shareholders. More consistent and improving execution by our team, combined with our differentiated business model, has delivered a strong record of performance over time and across a variety of economic environments. While we're growing and generating cash, which provides dry powder to reinvest in our growth framework where we have multiple levers to drive scale, we also remain focused on using our significant cash flow generation coupled with adjusted EBITDA growth to naturally deleverage our business.
Our net leverage ratio now sits at 2.6 times and we're on track to achieve approximately 2.3 times by the end of the fiscal year. We're off to a solid start in the fourth quarter, powered by the resilience of our differentiated business, growing momentum with our commercial initiatives, and strong track record of our execution. If you'll turn to slide four, we delivered order growth of 8% in the third quarter, positioning us to deliver on our fourth quarter sales guidance, which Greg will discuss shortly. Orders remain strong across all geographies and we saw a particular strength in EMEA as demand remained resilient despite the broader macroeconomic and geopolitical headwinds. Underpinning our growth was strength in precision conveyance and lifting, which were up 23% and 7% respectively.
Even excluding Montratec, precision conveyance was up 9%. Overall, demand for both our project and short cycle businesses remained healthy. Project orders grew double digits in Q3, reflecting our customer-centric focus, targeted end market growth initiatives, and channel diversification efforts. And on a quarter-to-date basis through last week, short cycle orders continue to expand and are up 11% versus the same period last year. We are capitalizing on megatrends within the vertical market, leading to project wins in areas related to electric and hybrid vehicle advancements, e-commerce and package delivery solutions, pharma's ship-to-home trends, and increasing demand for prepackaged meals, where we are delivering customized solutions for our customers to address their unique needs and exact specifications.
As we lean into customization, an increasing proportion of our portfolio requires unique equipment and parts, creating recurring revenue streams for our business that will also be a tailwind to gross margin over time. While still early, we see a growing pipeline of project activity this quarter, and have already had wins in categories benefiting from megatrends that provide tailwinds to our business, such as pharma automation and logistics. We are not immune to the macroeconomic environment, we remain cautiously optimistic about our near-term outlook, given the resilience of our customer relationships, the visibility we have into our sales funnel, and our efforts to improve our customers' experience. Through our acquisitions and our commercial growth initiatives, we are adding new customers and expanding into new markets, markets that have attractive tailwinds.
This has muted impacts from pockets of softness in industrial CapEx spending. Importantly, we remain encouraged by our funnel for both short cycle and large project orders. As I mentioned earlier, we remain highly focused on improving our operational performance and enhancing our customers' experience. As a result of these efforts, our backlog decreased by 6% from the prior quarter, driven by reductions in past due backlog, which decreased 26% in the period. Going forward, we expect backlog to further normalize from current levels. While this may impact near-term shipment flexibility, we expect to benefit from improved lead times and customer satisfaction levels, which we believe will create tailwinds to order frequency and volume over the midterm.
In addition to customer experience, we continue to make significant progress on all aspects of our transformation, delivering on productivity enhancements and simplifying our business, including foundational progress with the footprint rationalization plan that we mentioned in our last investor day. As part of that effort in January, we opened our state-of-the-art manufacturing center of excellence in Monterey, Mexico, pictured on slide five. A 165,000 square foot facility that will enable productivity enhancements and growth over time; this investment is directly aligned with our 80-20 process and will cultivate a culture of innovation as we expand our R&D capabilities in the region. We expect to incur approximately $26 million of CapEx associated with this phase of the project.
We also expect factory consolidation costs of approximately $2 million related to the closure of our Santiago, Mexico facility and our consolidation of that facility into Monterey in the fourth quarter. We expect to achieve productivity benefits related to this investment over the course of fiscal '25, but we anticipate that those benefits will be offset by overlapping production costs while we ramp production volume in the new factory. Pulling up on slide six, we're encouraged with the progress we're making and by the potential of our business as we advance our strategic transformation to become the global leader in intelligent motion solutions for material handling. We remain highly focused on executing our strategic plan and achieving both the near and long-term objectives we've established for the business.
I remain confident in the long-term trajectory of Columbus McKinnon powered by our differentiated business model, track record of execution, an encouraging funnel of opportunities, and our acquisition strategy. We are just beginning to scratch the surface in terms of the value our precision conveyance business can deliver. The expansion of our total addressable market through our proven playbook provides a long and attractive runway for growth with a focus on targeted sectors that are benefiting from tailwinds associated with megatrends related to automation and the scarcity of labor resources, the near shoring of manufacturing capacity, infrastructure, and defense spending, as well as electrification. Our continued execution, growing momentum, and the strength of our business model give us confidence that we will remain on track to meet our long-term financial objectives.
With that, I'll turn it over to Greg to take us through the financial results.
Gregory Rustowicz: Thank you, David. Good morning, everyone. Turning to slide seven, we delivered sales in the third quarter of $254.1 million, up 10.3% from the prior year period, or 8.5% on a constant currency basis. This was at the high end of the guidance we provided last quarter, supported by strong execution from the team and continued resilience in demand. The Montrotec acquisition contributed $15.5 million to net sales, accounting for 6.7% of the net sales increase. Montrotec had a very strong quarter, reflecting the timing of several large project deliveries, namely to Airbus and a large German automotive company in the EV space. We realized pricing gains of $6.5 million, or 2.8%, which was in line with what we were anticipating as we lapped last year's November price increase.
Volume decreased by $2.4 million, or 1%. This was largely in our precision conveyance platform, which was impacted by lower order rates earlier in the fiscal year. As David discussed, the funnel is healthy for this platform, and we saw strong order growth of 23.5% in Q3. Foreign currency translation was a benefit this quarter of $4.1 million, or 1.8%. We saw robust growth outside of the U.S., with sales increasing by 30%. This was the result of a combination of both Montrotec revenue and high single-digit organic growth. In the U.S., sales decreased 2% on lower volumes, primarily in our precision conveyance platform as just referenced. On slide eight, we recorded gross margin of 36.9% in the third quarter. On an adjusted basis, gross margin was 37.2%, up 160 basis points year-over-year.
As expected, we saw adjusted gross margin decline sequentially by 150 basis points, which includes normal seasonality. While gross margins were the highest we ever had in a third quarter, we came in a little behind our expectations. This was primarily driven by a COVID outbreak in December in our Kunstleslau, Germany, factory that impacted labor productivity. In addition, at Montrotec, we had higher purchase components for a particular project that carried a lower margin, which we have addressed and should not repeat. Q4 margins will rebound, and we remain on our path to achieve 40% gross margins in fiscal '27. Gross profit increased $11.8 million, or 14% versus the prior year. This was driven by several factors, which you can see in the table.
The largest item driving gross profit expansion were contributions from the Montrotec acquisition, which contributed $6.7 million to gross profit, and pricing net of manufacturing cost changes, including material inflation, which added $4.6 million. Montrotec was accretive to gross margins by 40 basis points this quarter, with an overall gross margin of 43%. Moving to slide 9, our SG&A expense was $59.5 million in the quarter, or 23.4% of sales. This was improved 70 basis points from a year ago. The year-over-year increase was largely from the addition of Montrotec to the portfolio and the impact of FX, which added 800,000 to the total. We continue to invest in R&D, which added $1.4 million to the total, but this was more than offset by an acquisition earn out in the prior year that did not repeat and lower selling costs as we realigned the business a year ago.
Turning to slide 10, we generated operating income of $26.9 million in the quarter, or 10.6% of sales. This represents an increase of $6.7 million, or 33% over last year's third quarter. Adjusted operating income was $29.7 million, or 11.7% of sales. On an adjusted basis, operating income grew $6.3 million, or 27%. This reflects the strong operating leverage we have in the business and demonstrates our long runway for margin expansion over time. Excluding the Montrotec acquisition, which was additive to our results, our business drove 47% adjusted operating leverage. As you can see on slide 11, we recorded GAAP earnings per diluted share for the quarter of $0.34, down $0.8 versus the prior year. This was due to a $4.6 million non-cash pension settlement expense, which impacted EPS by $0.12 per share.
We are in the process of terminating one of our U.S. pension plans. We paid lump sum payments to a certain class of current and former employees who elected the lump sum settlement. The remaining liability will be sold to an insurance company later this calendar year. When we complete that transaction, we expect another non-cash charge of approximately $28 million to $29 million that we will record. At that point, the pension plan will be off our books. We had a similar termination back in fiscal year '21. We have adjusted this out for purposes of calculating adjusted EPS. Our tax rate on a GAAP basis this quarter was 29% as we repatriated overseas cash to accelerate debt repayment, which resulted in dividend withholding taxes. Year-to-date, our tax rate was 26%, and for the year, we still expect our tax rate to be approximately 25%.
Adjusted earnings per diluted share of $0.74 was up $0.2 from the prior year. This higher adjusted operating income more than offset the negative impact of higher interest expense and the increased tax rate year-over-year, which together impacted EPS by about $0.10 per share in the quarter. On slide 12, our adjusted EBITDA margin this quarter of 16.3% improved by 160 basis points from a year ago. On a trailing 12-month basis, our adjusted EBITDA margin was also 16.3%, a 50 basis point improvement from where we finished fiscal year '23. Our return on invested capital continues to improve and was up 30 basis points from fiscal year '23 to 7%. We expect to realize a low double-digit ROIC by fiscal year '27. Moving to slide 13, quarterly free cash flow was $23.1 million in the period.
This includes cash provided by operating activities of $29.1 million and CapEx of $6 million. Year-to-date, our free cash flow is $12.3 million, which is an increase of 66% from a year ago despite the higher CapEx, largely tied to our new Monterey, Mexico facility. Q4 historically is a strong cash from operations quarter for us, and we would expect that trend to continue. Turning to slide 14, our capital structure continues to improve as our net debt leverage ratio was 2.6 times on a financial covenant basis. As we have previously discussed, we have a covenant-like credit agreement. We continue to accelerate our debt reduction plans as we pay down another $15 million of debt this quarter. We are planning to pay down an additional $15 million in Q4, which will bring the total to $55 million of debt this fiscal year, up from the $40 million discussed at the beginning of the fiscal year.
We expect to report a net leverage ratio of approximately 2.3 times as we exit fiscal year '24. Turning to guidance on slide 15, on the back of solid growth and orders in Q3, we expect to continue to grow net sales between 2% and 6% to between $260 million to $270 million in Q4. We also expect roughly $60 million of our SG&A expense, $10 million of interest expense, a tax rate of 25% for the full year, diluted shares outstanding of $29.1 million. We expect to continue to be highly cash flow generative with free cash flow conversion of approximately 90% for the full fiscal year. This is inclusive of Q4 CapEx of approximately $14 million to $19 million, which is elevated due to the opening of our Monterey facility. We expect to use our cash flow to continue to de-lever our business.
As a result, we expect our net leverage ratio to improve to approximately 2.3 times by the end of the fiscal year. As I wrap up my review of our financial performance, let me emphasize that our guidance reflects the strength of our results here today, initial trends in the fourth quarter, and our ongoing confidence in our differentiated business model. Rob, we are now ready to take questions.
Operator: Thank you. At this time, we'll be conducting a question-and-answer session. [Operator instructions]. Our first question comes from Matt Summerville with DA Davidson. Please proceed with your question.
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