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Edited Transcript of GNRC earnings conference call or presentation 2-May-18 1:00pm GMT

Q1 2018 Generac Holdings Inc Earnings Call

WAUKESHA May 4, 2018 (Thomson StreetEvents) -- Edited Transcript of Generac Holdings Inc earnings conference call or presentation Wednesday, May 2, 2018 at 1:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Aaron P. Jagdfeld

Generac Holdings Inc. - President, CEO & Executive Chairman

* Michael W. Harris

Generac Holdings Inc. - VP of Finance

* York A. Ragen

Generac Holdings Inc. - CFO & CAO

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Conference Call Participants

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* Brian Paul Drab

William Blair & Company L.L.C., Research Division - Partner & Analyst

* Charles Damien Brady

SunTrust Robinson Humphrey, Inc., Research Division - MD

* Corinne Jenkins

Goldman Sachs Group Inc., Research Division - Research Analyst

* Jeffrey David Hammond

KeyBanc Capital Markets Inc., Research Division - MD & Equity Research Analyst

* Ross Paul Gilardi

BofA Merrill Lynch, Research Division - Director

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Presentation

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Operator [1]

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Good day, ladies and gentlemen, and welcome to the First Quarter 2018 Generac Holdings Incorporated Earnings Conference Call. (Operator Instructions) As a reminder, this conference is being recorded.

I would like to introduce your host for today's conference, Mr. Mike Harris, Vice President of Finance. Sir, please go ahead.

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Michael W. Harris, Generac Holdings Inc. - VP of Finance [2]

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Good morning, and welcome to our First Quarter 2018 Earnings Call. I'd like to thank everyone for joining us this morning. With me today is Aaron Jagdfeld, President and Chief Executive Officer; and York Ragen, Chief Financial Officer.

We will begin our call today by commenting on forward-looking statements. Certain statements made during this presentation as well as other information provided from time to time by Generac or its employees may contain forward-looking statements and involve risks and uncertainties that could cause actual results to differ materially from those in these forward-looking statements. Please see our earnings release or SEC filings for a list of words or expressions that identify such statements and the associated risk factors.

In addition, we will make reference to certain non-GAAP measures during today's call. Additional information regarding these measures, including reconciliation to comparable U.S. GAAP measures, is available in our earnings release and SEC filings.

I will now turn the call over to Aaron.

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Aaron P. Jagdfeld, Generac Holdings Inc. - President, CEO & Executive Chairman [3]

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Thanks, Mike. Good morning, everyone, and thank you for joining us today. Overall, first quarter results provided a great start to 2018 with robust year-over-year organic sales growth leading to strong improvements in margins and cash flow.

Specifically, overall net sales increased 20% compared to the prior year with core sales growth of approximately 17% when excluding the favorable impact from foreign currency. This sales growth drove an overall 230 basis point improvement in gross -- gross profit margin, 400 basis point improvement in adjusted EBITDA margin and a significant improvement in operating and free cash flow as compared to the prior year.

The fundamental demand environment for residential home standby and portable generators continued to expand, benefiting from another quarter of elevated power outages, which contributed to strong growth in both in-home consultations and end-user activations.

Shipments of domestic, commercial and industrial products also experienced significant growth during the quarter driven mainly by the ongoing replacement cycle for mobile products. Sales once again grew organically within the international segment, which resulted in a year-over-year improvement in margins as well.

Additionally, with the improving demand trends in several of our end markets, we were opportunistic buyers of Generac shares during the quarter, investing $26 million under our current buyback program.

First quarter results continued to benefit from the increased awareness of home standby -- the home standby product category, primarily from the afterglow demand generated by the active 2017 hurricane season and elevated baseline outage activity experienced during the prior year. Accordingly, shipments of home standby generators during the first quarter increased significantly compared to the prior year.

In addition, baseline power outage activity remained strong during the first quarter of 2018 from a series of storms that impacted the Northeast region and led to a peak of nearly 5 million utility customers without power.

Importantly, the higher outage environment in recent quarters is allowing us to make further progress with optimizing our targeted marketing and PowerPlay in-home selling solution to generate more sales leads, improve close rates and engaging new dealers. Increased awareness drove significant increases of in-home consultations or IHCs as we call them during the quarter, a good leading indicator of future home standby demand. And we also saw an all-time high in the overall count of residential dealers at the end of the quarter.

In addition, end-user activations for home standby generators remained very strong during the quarter, with activity in the Southeast and Northeast regions growing substantially compared to the prior year levels. Shipments of portable generators also grew substantially compared to prior year and were higher than expected due to the Northeast storm activity and benefited additionally from retail channel replenishment resulting from the elevated outage environment experienced in recent quarters.

Demand for domestic mobile products, primarily serving the rental markets, continued to experience a strong recovery. Recall that we started to see the beginning of a strong cyclical rebound in this market last year after the severe downturn experienced during 2015 and '16, and this continued during the first quarter of 2018 with significant year-over-year growth in shipments. Additionally, new orders for these products further accelerated during the quarter, with optimism around a continued fleet refresh cycle, the prospects of an oil and gas market rebound and tax reform impacts, all contributing to the increased demand.

We continue to believe the current fleet replacement cycle is primarily being driven by the overall age of existing rental equipment, with oil- and gas-related capital spending still in the early stages of recovery. However, with oil prices further rising in recent months, we believe a meaningful recovery in the purchase of mobile equipment for use in the domestic energy sector could begin to gain traction.

Also, utilization rates for several of the product categories hit hardest during the oil and gas downturn continue to trend favorably, which gives us confidence that the mobile product category may have further room to grow in the future.

Shipments of stationary C&I products in North America during the first quarter were up slightly as compared to the prior year. However, we expect improving year-over-year growth trends in the near term given strong project quotation levels and order trends experienced so far in 2018.

Historically, major outage events and periods of elevated baseline activity have been a catalyst for our domestic C&I products by increasing the awareness of having backup power for businesses, institutions and other critical infrastructure. In the past several months, we've begun to see early signs of interest resuming in the telecom market, as certain national account customers are placing more importance on protecting the uptime of their wireless networks.

Also, during the first quarter, the state of Florida passed legislation requiring the nursing homes and assisted living facilities have sufficient backup power to maintain safe environmental temperatures for a minimum number of days following a utility outage. We are currently engaged directly with several national account customers on a number of projects as well as working with our distributors, dealers and wholesale channel partners on developing a pipeline of opportunities with other long-term care providers in the state. While still in the early stages, we are optimistic about the potential for incremental business in the coming quarters as a result of this new regulation.

In addition to a strong domestic market, our international segment once again experienced solid organic sales growth of approximately 5% and margin expansion of 70 basis points as compared to the prior year first quarter. We remain encouraged by the ongoing improvement in the financial performance of our international businesses, which have demonstrated attractive broad-based core sales growth over the past several quarters. Importantly, the international segment has also expanded margins on a year-over-year basis in each of the past 3 quarters due to a variety of factors, most notably from the improved sales mix and leverage of fixed manufacturing and operating expenses on the higher sales volumes.

We believe these favorable trends in financial performance will continue throughout 2018, as we focus on gaining market share in the regions around the world where we operate as well as further optimizing the margin profile of these businesses.

Recall that in February, we announced the signing of a purchase agreement to acquire Selmec. Founded in 1941 and headquartered in Mexico City, Selmec is a leading designer and manufacturer of diesel and gaseous fuel industrial generators ranging from 10 kilowatts to 2.75 megawatts.

We believe Selmec's experience in standby energy solutions, specifically for telecom, data center and other mission critical applications, is an excellent complementary fit within Generac's Latin American strategy. In addition, Selmec offers a market-leading service platform and specialized engineering capabilities together with well-developed integration, project management and remote monitoring services that provide for higher margins. Acquiring Selmec should allow us to dynamically scale our existing Ottomotores business, leveraging both the distribution and operational footprints of the combined businesses to offer the Latin American market a broader portfolio of products and solutions.

The specific date for closing this transaction is still undetermined pending regulatory approval, but is likely to occur during the second quarter of 2018. Importantly, once closed, we will include Selmec in our guidance, which is expected to be accretive to the international segment's margins and only slightly dilutive on a consolidated basis.

I'd now like to turn the call over to York, to provide further details on our first quarter results. York?

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York A. Ragen, Generac Holdings Inc. - CFO & CAO [4]

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Thanks, Aaron. Before discussing the first quarter results in more detail, I'd like to point out that effective January 1, 2018, Generac adopted the new revenue recognition accounting standard that all companies are required to follow. For comparability purposes, the full retrospective method was elected under this standard which requires application to all periods presented and the prior year first quarter of 2017 results that we are discussing this morning have been restated accordingly. However, the adoption of this standard did not have a material impact on our financial statements.

Now looking at our first quarter results in more detail. Net sales for the quarter increased organically, 20.3% to $397.6 million as compared to $330.5 million in the first quarter of 2017. Core sales growth, which also excludes the impact of foreign currency, was approximately 17% over the prior year.

Looking at our consolidated net sales by product class, residential product sales during the first quarter increased 23.5% to $190.5 million as compared to $154.2 million in the prior year quarter. As Aaron mentioned, the quarter saw strong growth in shipments of both home standby and portable generators, as end-market demand for these products continues to be robust as a result of the elevated power outage environment.

Looking at our commercial industrial products, net sales for the first quarter of 2018 increased 16.2% to $175.1 million as compared to $150.8 million in the prior year quarter, with core sales growth being approximately 11%. This core growth was primarily generated by very strong shipments of domestic mobile products driven by the continued fleet replacement cycle from our rental account customers.

In addition, our international segment, which is predominantly C&I related, benefited from nice organic growth from our Pramac, Ottomotores and Motortech businesses.

Net sales for the other products category, primarily made up of service parts, increased 25.5% to $32 million as compared to $25.5 million in the first quarter of 2017. This strong growth was primarily due to increased demand for replacement parts as a result of the elevated level of power outage activity experienced during recent quarters, as the installed base of our products continues to grow.

Gross profit margin expanded 230 basis points to 35.2% compared to 32.9% in the prior year first quarter. This attractive margin growth was driven by a more favorable pricing environment and a more favorable sales mix relative to prior year. The improved leverage of fixed manufacturing costs and the significantly higher organic sales volumes were mostly offset by higher commodity levels, resulting in costs being largely neutral to gross margins versus per year.

Operating expenses increased $5.7 million or 7.4% as compared to the prior year. As a percentage of net sales, operating expenses excluding intangible amortization declined 180 basis points versus the prior year due to improved operating leverage on the higher organic sales volumes. The increase in operating expense dollars over the prior year was primarily driven by an increase in employee costs, including higher incentive compensation recorded during the quarter and the impact from a stronger euro as compared to the prior year. These increases were partially offset by lower promotional costs benefiting from the higher power outage environment as well as lower intangible amortization expense.

Adjusted EBITDA attributable to the company as defined in our earnings release was $70.2 million in the first quarter of 2018 as compared to $45.7 million in the same period last year. Adjusted EBITDA margin, before deducting for noncontrolling interest, was 18.1% in the quarter as compared to 14.1% in the prior year. This 400 basis point increase compared to the prior year was largely due to the previously mentioned improvement in gross profit margin and improved leverage of fixed operating expenses on the strong organic increase in sales.

I will now briefly discuss financial results for our 2 reporting segments. Domestic segment sales increased 21.5% to $300.2 million as compared to $247.2 million in the prior year quarter. The current year first quarter results reflected strong growth in shipments of residential products as we executed on the demand that was generated by increased outage activity. In addition, C&I mobile products grew significantly as rental customers continued their fleet replacement cycle. Also, contributing to the year-over-year sales growth were increases in service part sales. Adjusted EBITDA for the segment was $65.5 million or 21.8% of net sales as compared to $41.9 million in the prior year or 16.9% of net sales.

International segment sales increased 16.9% to $97.4 million as compared to $83.3 million in the prior year quarter, with core sales growth of approximately 5%. The overall growth compared to the prior year was primarily due to the favorable impact of the stronger euro along with broad-based organic growth from the Pramac, Ottomotores and Motortech businesses. Adjusted EBITDA for the segment, before deducting for noncontrolling interest, improved to $6.3 million or 6.5% of net sales as compared to $4.8 million or 5.8% of net sales in the prior year.

Now switching back to our financial performance for the first quarter of 2018 on a consolidated basis. GAAP net income for the company in the quarter was $33.6 million as compared $12.2 million for the first quarter of 2017. The increase in operating income just discussed, together with a lower GAAP tax rate contributed to this increase.

GAAP income taxes during the first quarter of 2018 were $11.4 million or a 25.3% effective tax rate as compared to $7.8 million or a 39.1% tax rate for the prior year. The large decline in the GAAP tax rate is primarily due to the enactment of the Tax Reform Act, which became effective starting with the first quarter of 2018.

Diluted net income per share for the company on a GAAP basis was $0.42 in the first quarter of 2018 compared to $0.20 in the prior year. The specific calculations of these earnings per share amounts are included in the reconciliation schedules of our earnings release. Note that current year earnings per share were impacted by a $7.7 million adjustment to increase the value of the redeemable noncontrolling interest for the Pramac acquisition, resulting in a $0.12 reduction in GAAP earnings per share. Under U.S. GAAP accounting rules, any adjustments to the redemption value are recorded directly to retained earnings, however, the redemption value adjustments are required to be reflected in the earnings per share calculation.

Adjusted net income for the company, as defined in the earnings release, was $46.1 million in the current year quarter versus $24.7 million in the prior year. The significant sales growth and improved operating margins just discussed were the primary drivers of this increase.

With regards to cash income taxes, the first quarter of 2018 includes the impact of a cash income tax expense of $5.4 million as compared to $3.1 million in the prior quarter. The current year cash taxes reflect an anticipated cash income tax rate of approximately 13% for the full year 2018, while the prior year first quarter was based on a cash tax rate of 15% for the full year 2017. The current year cash tax rate benefits from a lower effective tax rate as a result of the Tax Reform Act, partially offset by a higher level of pretax earnings anticipated for the full year 2018.

As a reminder, our favorable tax shield of approximately $30 million through annual intangible amortization in our tax return results in our cash tax rate being notably lower than our GAAP income tax rate of between 25% to 26% for 2018.

Adjusted diluted net income per share for the company, as reconciled in our earnings release, was $0.74 per share for the current year quarter compared to $0.39 for the prior year.

Cash flow from operations was $29 million as compared to a negative $5.2 million in the prior year first quarter; and free cash flow was $23.3 million as compared to negative $8.1 million the same quarter last year. The improvements in cash flow were driven by a variety of factors, including the increase in operating earnings as compared to the prior year and lower working capital usage during the current year quarter, partially offset by higher capital expenditures.

As of March 31, 2018, we had a total of approximately $940 million of outstanding debt and $146 million of consolidated cash and cash equivalents on hand, resulting in consolidated net debt of $794 million. Our net debt leverage ratio at the end of the first quarter was 2.4x on an as-reported basis, a healthy decline from 3.7x as compared to the same period last year and compared to 2.5x at the end of 2017.

Additionally, at the end of the quarter, there was approximately $234 million available on our ABL revolving credit facility.

Finally, we repurchased 560,000 shares of our common stock during the first quarter for $25.7 million under our current share repurchase program. Under the program, a total of $250 million of common stock was authorized for repurchase over a 24-month period. And to-date, a total of 2.7 million shares of common stock have been repurchased for approximately $106 million.

With that, I'd now like to turn the call back over to Aaron, to provide comments on our improved outlook for 2018.

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Aaron P. Jagdfeld, Generac Holdings Inc. - President, CEO & Executive Chairman [5]

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Thanks, York. We are raising our guidance for revenue growth for full year 2018, as we now expect net sales to improve between 6% to 8% over the prior year, which is an increase from 3% to 5% growth previously forecast.

Recall that the second half of 2017 included elevated portable generator shipments from the active hurricane season. With no major outages assumed in our current 2018 guidance, we estimate there's an approximately 4% growth headwind relative to this strong prior year comparison.

Core organic sales growth is now expected to be between 5% to 6%, which is an increase from the previous guidance of 2% to 3%. This increase is primarily due to improving end-market conditions for both domestic residential and C&I products.

Importantly, as previously mentioned, this guidance does not include the Selmec acquisition and does not include any impacts from major power outage activity for the remainder of the year. Our top line guidance also assumes no material changes in the current macroeconomic environment and a baseline power outage severity level for the remainder of the year similar to that of the longer-term average. Should the baseline power outage environment in 2018 continue to be higher, or if there is a major outage event during the year, it is likely that we could exceed these expectations. For historical perspective, an average major power outage event could result in $50 million or more of additional sales depending on a number of variables.

Adjusted EBITDA margins for the full year 2018 before adjusting for noncontrolling interests are still expected to be between 19% to 19.5%. This guidance assumes a benefit from improved operating leverage on higher core sales growth and cost savings from our profitability enhancement program, both which are largely expected to be offset by additional inflationary pressures and, to a lesser extent, unfavorable sales mix.

Consistent with historical seasonality, we expect sales and EBITDA margins in the second half of the year to be relatively -- to be higher relative to the first half. However, given the improved overall demand environment entering 2018, the increase in second half sales and margins are not expected to be as pronounced when compared to the first half. Specifically, regarding the pacing of net sales, the remaining quarters of the year are expected to be more level loaded relative to normal seasonality, with the quarterly run-rate in the second half of the year only modestly higher relative to the second quarter.

For full year 2018, operating and free cash flow generation is still expected to be strong and follow historical seasonality, benefiting from the solid conversion of adjusted net income to free cash flow, which is expected to be over 90% for the full year.

In addition, we are providing an update on certain other guidance details to help model the company's earnings per share and cash flows for full year 2018. Interest expense is now expected to be approximately $44 million given the current rising interest rate environment. Stock compensation expense is now expected to increase to approximately $13 million for the year. Additionally, as a result of the expected improved earnings outlook, cash taxes are now anticipated to be approximately $29.5 million to $31.5 million, which translates into a full year 2018 cash income tax rate of approximately 13%. The remaining guidance items we discussed during the last call are not expected to change.

Lastly, it's worth noting that we achieved organic sales growth of 11% during 2017, as several areas of our business began to recover throughout the year. As discussed this morning, certain key end markets have further strengthened relative to our initial guidance. We believe these favorable tailwinds and the positive top line momentum in our business positions us to achieve continued attractive sales growth and overall financial performance for 2018.

While it's clear that we'll have to navigate through an inflationary environment as the year progresses, we believe the robust demand environment for our products will continue to provide for improved operating leverage in the business and also gives us increasing confidence in our outlook for the year.

This concludes our prepared remarks. And at this time, we'd like to open up the call for questions. Operator?

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from the line of Charlie Brady with SunTrust.

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Charles Damien Brady, SunTrust Robinson Humphrey, Inc., Research Division - MD [2]

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With regard to the portable products in the rental channel, can you just talk a little bit more about kind of where you see as far as the age of the equipment and how long you think that replacement cycle has to go? It's been going on for a while now. It sounds like it's continuing to be pretty strong and it sounds like you're not seeing really expansion yet; it's really all driven by replacement. Can you just please speak to that a little bit?

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Aaron P. Jagdfeld, Generac Holdings Inc. - President, CEO & Executive Chairman [3]

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Yes, I think, obviously, Charlie, it's a great question, and we ask that of ourselves and our teams here on our mobile products business a lot, because trying to gauge -- just -- we know it's a cyclical business. We know there's a lot of variables that go into what drives the cycle, everything from fleet replacement to strength in construction, both road and commercial, to, as we've called out, the domestic energy production sector. Where -- I guess to answer your question directly, that fleet replacement cycle we keep referring to, I would say last year, we were obviously early in that cycle. The equipment had aged. There had been a period of a couple of years there, in 2015 and 2016, where, in particular, our national account customers had kind of hit the pause button on capital spending. And so what that did is it deferred kind of the normal -- we generally would see, with a lighting tower or a generator, about 1/5 of the fleet turnover every year. The average life cycle on those products, 4 to 5 years, something like that, little bit longer for certain customers, little shorter for others, but call it roughly 20% of the fleet would turn over every year. So if you go 2 years without -- with low cap capital purchases, clearly, there were some pent up demand there. We saw that snap back pretty hard last year. That was kind of the early innings of the recovery. What we've been very pleased, though, is throughout the beginning of this year, and really, even as we enter the second quarter here, we've been very surprised at just how strong it's remained. And so then, you ask your question, what drives that, is it still the fleet refresh cycle or is it something more? And we keep thinking that oil and gas is going to start playing a role in the equipment purchases there. But frankly, we look at the utilization rates kind of in the specialty rental channels, where a lot of that equipment goes and utilization rates are starting to recover, they're not fully where they are in the general rental business, though. So we still think that there's legs with the rebound, in particular, as it relates to oil and gas. And I would say, we're probably middle innings on the fleet refresh cycle. So I think we're pretty bullish on that business overall. And in fact, a part of our lift on the guidance this morning is related to mobile products.

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Charles Damien Brady, SunTrust Robinson Humphrey, Inc., Research Division - MD [4]

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That's helpful. And just with regard to the Florida legislation. Just to be clear, is your guidance factoring in any strength or sales coming out of that legislation yet?

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Aaron P. Jagdfeld, Generac Holdings Inc. - President, CEO & Executive Chairman [5]

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Yes. So we actually -- we had kind of a line of sight on this from late last year after the storm. So actually, our February guidance, our full year guidance that we gave initially did include some lift. And again, as we said in the prepared remarks, historically, whenever you get an active hurricane season, like we had last year, typically, that bodes well for our C&I business. It's just -- it's a longer sales cycle. There's planning, there's permitting, there's budgeting and so you don't see the -- you don't see the visceral reaction you get in the residential market. The C&I market generally will be several quarters afterwards before it kind of lights up. And we're starting to see that now. But we did have -- to be clear, we did have some of that Florida legislation pending. It was pending legislation at that point. We had it in our guidance in February, but we took it up for the remainder of your, once it became clear that, that was going to become law, which it did. And now, as we've started to really have some serious conversations with both partners at the national level, people who own and operate those facilities on a national level, but also -- I mean, frankly it's a very fragmented market, there are a lot of facilities, a lot of small facilities across the state. And so, it's a lot of conversations. There's a lot of engineering work to be done. We found that we can be very useful and helpful in providing a lot of that engineering work and connecting those firms to resources, whether they be our distributors -- our industrial distributors. But I think the other advantage we may have there is that because of our broad approach to the market from a distribution standpoint with electrical contractors as well as wholesalers and other channel partners, I think in particular, the small bed facilities may not buy from an industrial distributor, they may end up buying from a smaller -- their needs are smaller, they're looking for a smaller product, they can just as easily get that product direct from an electrical contractor, who could be a dealer of ours. So we've opened up the product offering to those channel partners in a way that I think puts us in a position to see some nice lift from that. And that's what we included in our upward guidance this morning.

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Charles Damien Brady, SunTrust Robinson Humphrey, Inc., Research Division - MD [6]

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Just one more for me, on the -- just the inventory level in the channel on portables, as a replacement of the portables, obviously, from the sellout in Q1 storms, where's that level today? Is it still -- is it back to normal or is it still being replaced?

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Aaron P. Jagdfeld, Generac Holdings Inc. - President, CEO & Executive Chairman [7]

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We've been constantly trying to catch up, really since the hurricane season. And the amount of portable generators that we've put in the market over the last several quarters is -- it's amazing. I mean, we're running flat out in our facility here in Jefferson, Wisconsin. We've got our supply chain ramped up very hard. But every time we think we're getting ahead of it, then we get one successive storm after another in the Northeast this -- in the month of March. So really, where I would say, if we were to kind of quantify where inventories are at today, at least from a qualitative standpoint, they're low in channel and they're low in our own warehouses. Now we're replenishing and we're coming into a very critical part of the season here in Q2 where what we've historically seen happen is that people will generally get -- they'll get a lot of confidence in ordering for the upcoming season, if they've had a good season last year. And so we would expect that -- we would expect some pretty strong order patterns here in Q2 and our guidance reflects that around portable gens and really probably even into Q3. But we're scrambling to get stock and we're building as much as we can. And it's good to see that market come back. And we went through a period of protracted low outages and seeing it come back to this level. We've also been successful in getting a little more market share this year. Line reviews are coming out right now and we've -- we're starting to kind of calibrate ourselves around some of the winds that we've got. On a net basis, we're up year-over-year. We're going to be up. It's really a question of timing around when those products get placed, are they placed ahead of season, in season or after season. So we're working with some major retail partners now. But we're -- on a net plus there, we're pretty bullish on -- our performance last year really led us to the point of winning some additional business this year, so that's a net positive.

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Operator [8]

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And our next question comes from the line of Jeffrey Hammond with KeyBanc.

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Jeffrey David Hammond, KeyBanc Capital Markets Inc., Research Division - MD & Equity Research Analyst [9]

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So just on -- I guess as you assess Irma and some of the hurricanes last year, what are you seeing relative to expectations on home standby follow through and carry over? And then, just any early feedback that you're getting also on home standby visibility activity from some of these East Coast storms?

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Aaron P. Jagdfeld, Generac Holdings Inc. - President, CEO & Executive Chairman [10]

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Yes. So obviously, the active season last year, Jeff, as we had said, in particular, I think we made the comment, I believe it was on our fourth quarter call, that we had never seen in-home consultation levels that we saw after the storms. And that's a big leading indicator for us. And what we weren't sure of is just how that would translate in follow through here, in the first half of -- certainly, the first quarter of 2018. We've been really happy with that. And I will say this, when you look at it regionally, obviously, we said in the prepared remarks that activations in the Southeast and Northeast are up dramatically year-over-year. We actually -- there's a couple regions, like the Midwest where, because of the really poor weather conditions, really through -- I'll be honest, I think the snow just melted here a couple days ago in Wisconsin, but the really tough weather conditions, in particular, in the Upper Midwest have made it difficult to put products on ground. And so, activations were a little bit more muted in the Midwest region in the first quarter. But even in the last few weeks, we're starting to see that come back up pretty aggressively. So we are really bullish that the spillover effect of very active hurricane season in 2017 is going to continue to drive the regions that were directly impacted by that. But then also, we also see this kind of afterglow effect around the rest of the regions. And then, more specifically, your question about the Northeast. Again, IHCs in home consultations are elevated and they've remained so. It's been a great test of our PowerPlay selling systems. I mean the amount of dollars we're putting through that system, the amount of quotations, the visibility that we're getting to not only individual dealer performance, but regional performance around win rates and around just raw activity going into the areas really gives us a lot of confidence and again, is a big part of the overall story in raising our guidance. And dealer account also being up all-time high here at the end of the quarter. Those are all good things for us. And I think they're directly related to the higher outage environment. So we're very bullish on it, Jeff.

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Jeffrey David Hammond, KeyBanc Capital Markets Inc., Research Division - MD & Equity Research Analyst [11]

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Okay, great. And just one more. Margins seem -- certainly were better than my model and maybe that speaks to home standby mix, but I notice with the revenue change, you're not changing your EBITDA margins. Just talk about puts and takes there and any contingency or conservatism in the guide around that.

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York A. Ragen, Generac Holdings Inc. - CFO & CAO [12]

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Jeff, this is York. So on the margin guide, we did hold our margins to that 19% to 19.5% EBITDA range for the full year. And as you can imagine, with where steel is going and all this discussion about the uncertainty with tariffs and the weaker U.S. dollar that we're experiencing and wage pressures and whatever it -- there's a lot of inflationary pressures that a lot of companies are experiencing. So we've evaluated that, we've included some incremental inflationary pressures relative to the previous guide. But the operating leverage we're getting by adding roughly $50 million in sales to our guidance, which is that extra 3% is really helping it to offset that. So I think we're pleased that we're able to hold that margin guidance, despite the -- some of the inflationary pressures we're seeing.

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Operator [13]

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And our next question comes from the line of Ross Gilardi with Bank of America.

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Ross Paul Gilardi, BofA Merrill Lynch, Research Division - Director [14]

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My apologies if you've addressed any of this. I just jumped on from another call. But your ability to raise prices in home standby, Aaron, in this environment and in C&I, can you -- due to compensate for higher input cost, can you address that a little bit?

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Aaron P. Jagdfeld, Generac Holdings Inc. - President, CEO & Executive Chairman [15]

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Yes, it's obviously a question on, I think, the minds of anybody who's running a company today with the inflationary pressures we're seeing. We went to the market with some price earlier this year. There's kind of an annual cadence around C&I, so I'll start with that market. C&I is -- a lot of the major players in that industry will come out at the beginning of the year or at the end of the previous year with some couple percentage points of price. What we've seen on top of that kind of normal cadence and we followed suit with that kind of in December, January, but we've seen now some of the major players in that industry, in the C&I space, come back and they're taking a second bite at the apple here. And we're evaluating how we want to do that. Obviously, we know that these input costs are going to continue to rise, but at the same time, we like our position as one of the value providers in the marketplace. But I don't think I -- I think we're going to end up having to do something there and are evaluating kind of what that would look like on the C&I side. Residential, it's interesting. One of things we talk about with residential is the importance of affordability. Affordability is kind of an important leg of the stool when it comes to growing the penetration rate for home standby. That being said, straight price increases, typically, you don't take the same model and just layer on a price increase. We generally take a different tact when it comes to residential products and, in particular, home standby. This year, as an example, the way we approached price, we have a new model that's just now coming off the production line and starting to get into the marketplace. It's a model that has WiFi connectivity as standard in every product. And there's -- obviously, there's a bit of a cost for that. And obviously, we worked hard to offset some of that cost, but there's still a net cost. But that coupled with the inflationary pressures of materials, wage inflation and other things, we went and recalibrated our entire product line based on some of these new features in the new product line with a different price, so it has a different price point going into the market. We still think that there's a lot of value for homeowners. And we think that, in particular, some of the additional features we've given people, like the connectivity, are quite valuable. So in that case, that was a way to get price in the market was to introduce new products and new innovative features. What we have to evaluate, which I think is your question, is do we go back again, now that the inflation -- we can get a better line of sight on what's going on. In particular, with some of the tariff discussion, other things, we just are kind of waiting to see what's going to happen there. We may need to go again. But I guess on the one hand, everybody in our industry has the same kind of concerns, right? Everybody uses a lot of steel, aluminum and copper, when you build a generator. And many of us have similar supply chains in terms of where the sourcing comes from. So I look at that and I say, boy that's -- somebody -- if inflationary pressures rise that fast, then we'll have to address the price; we may have to go after it again a second time. I don't think there's any question that we'd be able to get that. I think we've got a lot of cover for that. Talking to our customers, our distribution partners, they understand it, they're seeing their own business in a lot of different ways. So I think, unfortunately, where all this is going to manifest is probably higher prices at the street level at the end of the day.

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Ross Paul Gilardi, BofA Merrill Lynch, Research Division - Director [16]

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Got it. And then, in holding your EBITDA margin guide, you were saying that operating leverage can offset raw materials, I think, amongst some other comments. But are you making any assumptions on weather patterns in the second half of the year when you say that? Or do you -- is the operating leverage your -- you're counting on, basically, in your order book right now?

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Aaron P. Jagdfeld, Generac Holdings Inc. - President, CEO & Executive Chairman [17]

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Yes, I think the -- so the operating leverage, as we remarked and -- as we remarked in our comments is really calibrated around the upward guide that we did this morning. So kind of on that level. I will say this on your comment about weather and how much of that do we have baked into our guide. So this is -- this is -- the thing with this business that I've always said is pretty -- it's kind of an interesting element of our business in that we don't include any major events in our guidance. So there could be additional leverage, there could be additional top line. As we said, a major event could add upwards of $50 million or more into the top line. I'll also say this: the baseline power outage environment, which is an important kind of item that we use to calibrate our -- the remainder of the year kind of view on residential, we're picking a level that's closer to the long-term average, quite a bit below where it's been, specifically well below where it was in Q1. So we're actually saying in our guidance this morning that we're looking for a lower power outage environment for the balance of the year. And that yet still translated to a higher guide -- an increase our guidance. So is that upside? I don't know. We're trying to take a conservative approach to how we forecast outages. We've been down this road before. We just don't know when they're going to happen or where they're going to happen. We do know over the long term they do happen and they do impact that business. So we leave it to you guys and to others who watch the company to kind of pick a point on a curve and say where you're going to be. But that would only be an additional tailwind in terms of additional leverage from a margin standpoint.

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Operator [18]

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And our next question comes from the line of Jerry Revich with Goldman Sachs.

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Corinne Jenkins, Goldman Sachs Group Inc., Research Division - Research Analyst [19]

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This is Corinne Jenkins on for Jerry. Can you please frame where the mobile genset business is relative to the 2014 oil and gas peak? And what's the lead time on orders today and how much you expect production to ramp in the second half of the year?

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Aaron P. Jagdfeld, Generac Holdings Inc. - President, CEO & Executive Chairman [20]

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Yes, so they're good questions. 2014 was a very unique year, with not only the fleet refresh cycle kind of in the late innings, but also oil and gas. So we're still off of that peak and, in particular, as I mentioned before, we really haven't seen utilization rates in the specialty rental markets that serve oil and gas. We haven't seen them kind of hit their stride yet. So we believe there's room to run yet, as it relates specifically to oil and gas. So the product lines that we serve that market with, both the specialty lighting towers, the specialty gas and diesel generators for that market and heaters, really have not come back to the levels nowhere near what they were in 2014, for those specific product categories. As far as lead times for products, they are starting to stretch and we've always said that that's a business, the mobile products business, you want to have some inventory on the ground. Because projects come up time and again, you want to be able to capitalize when a project does happen, a new project hits the street. Unfortunately, what we're seeing is lead times are going out because there isn't -- we're running 3 shifts in our factories there. I wouldn't say we're approaching full utilization, but we're pretty close in terms of capacity at our facility there. But our -- actually, our biggest constraint is engine availability. So the world engine for -- or the world market for the diesel engines that go into products like that, smaller displacement diesel engines, also go into the same type of small construction equipment. And so, skid steers and backhoes and things like that, which also, obviously, is a very robust demand environment right now. And so that's putting pressure on the major engine manufacturers and they're, obviously, recalibrating their own factory scheduling to fix that. But fortunately, we got in early. We could see this happening and we've been down this road before, in terms of cycles. And I think we're in pretty decent shape with engine supply. We've taken some additional steps there, but we're flat out trying to make as much product as we can. But lead times are going out.

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Operator [21]

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And our next question comes from the line of Brian Drab with William Blair.

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Brian Paul Drab, William Blair & Company L.L.C., Research Division - Partner & Analyst [22]

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Is there any way that you could size that Florida opportunity with the assisted living facilities? Is it closer to $20 million? Or is this like a $50 million plus opportunity? And does it carry into 2019? What's the timing do you think in the end around these guys becoming compliant with the regulation?

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Aaron P. Jagdfeld, Generac Holdings Inc. - President, CEO & Executive Chairman [23]

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Yes, great question, Brian. I mean we've done a lot of math on this to try and quantify the size of the market opportunity there. And there's a lot of factors that go into that. The existing facilities that are there, what do they already have, in some cases, they already have some type of backup strategy. And it's not -- there's not a lot of great information when a facility has backup power versus not. Is that backup power adequate to carry HVAC loads, which is really the critical change to the legislation here that happened. But if we just kind of step back and we look at it, we would estimate the overall kind of size of the prize there, including installation, so -- and this is a retail price point, is probably somewhere in the neighborhood of a couple hundred million dollars. Now when you strip away the generator and transfer switch components of that at kind of wholesale levels, is that a $100 million to $125 million opportunity? That's probably a reasonable estimate. And then you put a market share on that, what we should -- we believe we should get our rightful share at a minimum and then maybe there's a little bit more because of the breadth of our distribution, because we have a better position with natural gas, which was also allowed under the regulation, which was a change from previous regulations, so I would say that if you're to size that, is it somewhere between -- I think you hit the numbers, somewhere between $20 million and $50 million. In terms of timing, I think it's interesting. There may be a problem with trying to get all that equipment built and installed by the state's deadline. Certainly, it's not going to happen by July 1. And then there's extensions that the state has agreed to grant, as long as facilities can show a credible plan to the state regulators, to AHCA, as it's referred to in Florida. If they can show the state regulators a credible plan, they'll give them a potential extension until the end of the year. We think that this is something that could kind of eclipse the full year and get into 2019, just simply because of the amount of equipment. You've got to get permitting -- Florida is a notoriously long-cycle market, when it comes to everything from a home standby to a C&I product. It just takes a long time to get permitting done, to get the contractors lined up and to get the work performed. And so we believe that, that could push this opportunity around the horn. We think our guidance appropriately reflects that. And again, some of our guidance had that, kind of this piece already in the initial full year for us in February, but we've raised that since because it's now become -- obviously, it's very clear that this is a new law and it's going to have a positive impact, at least in our industry.

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Brian Paul Drab, William Blair & Company L.L.C., Research Division - Partner & Analyst [24]

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Okay, great. That's, obviously, really helpful. I'm wondering just as you were going through like the variables as to that calculation, what -- and you mentioned share, right? As I was looking at this, I'm trying to figure out do I use your C&I share or do I use your resi share, and it seemed like you used a hybrid of those, if you get to something in between -- around $35 million would be the midpoint of what you talked about and that would be something like 25%, 30% share. It sounds like, I guess, we're leaning more towards the C&I share, obviously. But will you use resi generators in some of these applications?

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Aaron P. Jagdfeld, Generac Holdings Inc. - President, CEO & Executive Chairman [25]

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So we can. The small bed facility, 6 beds or fewer can certainly use a residential style generator. So because of that, Brian, we used a hybrid share number that we believe is reflective of where the larger facilities are going to use, very clearly, a commercial and industrial generator, our share is more akin to that. But then, there are a lot of small bed facilities, where we think a light commercial or a residential product could be used. And therefore, that's transacted through a much broader channel and we have much greater share there. So you're right, we hybridized the share to -- for the purposes of estimating the impact.

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Brian Paul Drab, William Blair & Company L.L.C., Research Division - Partner & Analyst [26]

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Okay, that's really helpful. And then, I'm pretty sure I'm not going to get you to quantify this, but if there's any way that you could help me think about this it'd be great. The baseline outage activity and get a sense for how you're constructing that guidance. How far above the long-term average has outage activity been over the last -- say whatever period you choose, over the last 12 months would be helpful? I'm trying to get a sense for, obviously, how far it's dropping in your guidance, to what level is it dropping?

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Aaron P. Jagdfeld, Generac Holdings Inc. - President, CEO & Executive Chairman [27]

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Yes, it's a good question, Brian. I mean, we haven't quoted like specific numbers around that. But Q1 was meaningfully higher than the long-term average, really kind of think of it as double kind of the long-term average. And so we're dropping it as a percent -- based on the way we're guiding for the balance of the year, we're reverting more to that long-term average. Now, obviously, we had a strong year last year, strong couple of quarters here, we strip out major events when we look at this and we didn't qualify any of the events that occurred in Q1 as major, but it does bring the average up slightly when you look at the long term right, so. But it's still meaningfully below what happened in Q1 and meaningfully below what happened last year. So we think that maybe that indicates there's a sufficient conservatism in our guidance. But again, because we don't know, you can't predict outages, we feel it's the proper way to do that.

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Brian Paul Drab, William Blair & Company L.L.C., Research Division - Partner & Analyst [28]

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Absolutely. Okay. And then one more, if I could. The Motortech, Pramac kind of update, if you could, a little more detail on how that's going in Europe? And I saw the 5% core number international, is that kind of going as expected so far?

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Aaron P. Jagdfeld, Generac Holdings Inc. - President, CEO & Executive Chairman [29]

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It is. Yes, we've been -- we've actually really -- really pleased with our international businesses. The core growth rate in really all those acquisitions has done very well for us. We've -- some of that is the strength of Europe, overall. Some of it is some of the market specifically, like Motortech, that they're focused on combined heat and power OEMs and demand response OEMs and other gas power generation OEMs and that market is growing faster than traditional markets. Pramac has been just a tremendous grower for us, tremendous acquisition in our -- as we've said in these comments, our biggest area of focus with international business is to improve the margins. But we knew what we were buying. Eyes wide open, we went after this with a lot of vigor to give ourselves a much larger global footprint, both from a distribution and manufacturing standpoint. And we knew that doing that was going to be dilutive on margins. And we knew that, in particular, in like a case like a Pramac or an Ottomotores, these companies are generally packagers of products. They're not true manufactures, I would say. They're really packagers. And what we are here in the U.S., the Generac, in particular our C&I business, which is what is most akin to these businesses, we're really a vertically integrated manufacturer. And so there's a lot of value added work streams that we put into the product, everything from manufacturing our own gas engines, to winding out own alternators, to engineering and designing our own controls, transfer switches, all of the components that are critical to the systems we think are really important. The key in these acquisitions has been -- and part of the thesis, is to take and do that in these other businesses. And then to leverage -- by growth to leverage there -- what is a relatively high fixed operating structure because of the coverage that they have. So Pramac has 16 sales branches, these are offices with people staffed across the globe, to get access to the 180 plus countries that they sell into. There's a high cost to that. And the better that we can leverage that and so, we can improve -- make improvements at the gross margin line by making them a better vertically integrated manufacturer. And then we can improve at the bottom line by leveraging the operating expense structure these businesses by growing. And so those have been the 2 things we've been very focused on. And it's working. I mean the last several quarters show it's working. We're seeing some nice improvements and we have a long way to go. We said we want to double the EBITDA margins of these businesses and we've got a line of sight to that. We think we have a solid plan to get there and we're working that plan and it's been -- we've been on our trajectory.

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York A. Ragen, Generac Holdings Inc. - CFO & CAO [30]

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And the gas work.

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Aaron P. Jagdfeld, Generac Holdings Inc. - President, CEO & Executive Chairman [31]

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And the -- focus on gas as well, it's been another area of positivity there.

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Operator [32]

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And I'm showing no further questions. And I'd like to turn the conference back over to President and Chief Executive Officer, Aaron Jagdfeld for closing remarks.

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Aaron P. Jagdfeld, Generac Holdings Inc. - President, CEO & Executive Chairman [33]

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We want to thank everyone for joining us this morning and we look forward to reporting our second quarter 2018 earnings results, which we anticipate will be sometime in early August. With that, we'll bid you a good day. Thank you, very much.

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Operator [34]

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Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program and you may all disconnect. Everyone, have a great day.