Ladies and gentlemen, thank you for standing by and welcome to AAON’s Third Quarter 2022 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. Thank you. Joe Mondillo, Director of IR, you may begin your conference.

Thank you, operator, and good afternoon, everyone. A press release announcing our third quarter 2022 financial results was issued after market close today and can be found on our corporate website aaon.com. Joining me on the call today are Gary Fields, our President and CEO; and Rebecca Thompson, our CFO and Treasurer. Shortly, I’ll be handing the call off to Rebecca, for her to go through the third quarter results. Gary will then provide further insight on the quarter along with commentary on our outlook, and then we’ll open up the call to Q&A. Prior to that though, we begin with our customary forward-looking statement policy. During the call any statement presented dealing with information that is not historical is considered forward-looking and made pursuant to the Safe Harbor provisions of the Securities Litigation Reform Act of 1995, the Securities Act of 1933 and the Securities Exchange Act of 1934, each as amended. As such, it is subject to the occurrence of many events outside of AAON’s control and that could cause AAON’s results to differ materially from those anticipated. You are all aware of the inherent difficulties, risks and uncertainties in making predictive statements. Our press release and Form 10-Q that we filed this afternoon detail some of the important risk factors that may cause our actual results to differ from those in our predictions. Please note, that we do not have the duty to update our forward-looking statements. And with that, I will turn the call over to Rebecca.

Thank you, Joe. I’d like to begin by discussing the comparative results of the three months ended September 30, 2022 versus September 30, 2021. Net sales increased 75.1%, $242.6 million from $138.6 million. The largest driving factor to the growth was organic volume, which contributed 26.9%. Volume growth reflected the Company’s strong backlog and a third straight quarter of record production. Improved productivity, along with an approximate 18% increase in organic headcount helped drive the increased production. In addition to volume, pricing contributed 24.4% and the acquisition of BasX contributed 23.8%. Similar to the legacy business, BasX performed extremely well in the quarter. BasX realized record sales and EBITDA of any quarter in its history, while increasing its backlog 33.8% from the end of the second quarter of 2022. Our gross profit increased 82.1% to $65.6 million from $36 million. As a percentage of sales, gross profit was 27%, compared to 26% in the third quarter of 2021. The expansion in gross profit margin was driven by higher pricing and improved productivity, partially offset by higher costs and adverse effects of supply chain issues. Gross profit was the highest since the second quarter of 2021. Similar to the trends realized in the second quarter of 2022, gross profit margin improved throughout the third quarter. Selling, general and administrative expenses increased 81.7% to $28.9 million from $15.9 million in the third quarter of 2021. As a percentage of sales, SG&A increased to 11.9% from 11.5% in the third quarter of 2021. Excluding BasX, SG&A expenses increased 41.5% and totaled 10.7% of sales, down 80 basis points from a year ago. We continue to do a good job of controlling these expenses. Income from operations increased 82.3% to $36.7 million, or 15.1% of sales from $20.1 million or 14.5% of sales in the third quarter of 2021. Our effective tax rate increased to 23.3% from 22.5%. The Company’s estimated annual 2022 effective tax rate excluding discrete events is expected to be approximately 25%. Net income increased to $27.5 million or 11.3% of sales, compared to $15.6 million or 11.2% of sales in the third quarter of 2021. Diluted earnings per share increased 75.9% to $0.51 per share from $0.29 per share. Turning to the balance sheet, you’ll see that we had a working capital balance of $193.9 million versus $131.3 million at December 31, 2021. Unrestricted cash totaled $10.7 million on September 30, 2022, and total debt at the end of the quarter totaled $76.3 million. Within the quarter, we paid down approximately $30 million on our line of credit, lowering our leverage ratio to 0.65 from 1.06 at the end of the second quarter. Capital expenditures for the first nine months of the year were $41.6 million. We now expect capital expenditures for the year to be approximately $73.3 million. We monitor our growth trajectory and capacity regularly and we continue to invest in long-term growth. The Company had stock repurchases of $8.9 million during the nine months ended September 30, 2022. Shareholders’ equity per diluted share is $9.72 at September 30, 2022, compared to $8.68 at December 31, 2021. I’d now like to turn the call over to our CEO and President, Gary Fields.

Overall, we’re extremely pleased with third quarter results, record sales, production, EBITDA, earnings and record backlog. The Company is performing very well, particularly compared to where we were just a couple of quarters ago. Gross margin is still not where we want it to be, but we have made substantial progress. Gross margin and operating margin in the third quarter was the highest since second quarter of 2021. I’m very pleased with our operations and the overall team and want to continue to commend their performance. The last 18 months have been an extremely challenging environment. And to be able to say we just realized a third straight quarter of record production is truly commendable. Organic volume growth at 26.9% that was realized in the third quarter is pretty much unheard of in this industry. And the comp was not easy. Volume in the third quarter of the year-ago period was down 1% from a record third quarter in 2020. On a two-year stock, volume was up 25%. This performance is a result of several factors. First, as Rebecca mentioned, headcount of the legacy company was up 18%. We continue to do a good job with onboarding new employees. Second, productivity has improved significantly. When we look at our unit sales on a per day per production employee basis, the third quarter was the highest it’s been all year, and that’s when eliminating all the price increases. The legacy operation is operating at a much improved level. And I can say that this trend continued through October. Lastly, the volume growth is also a reflection of our premier sales channel and the backlog our rep partners have been able to generate for us. I’d like to thank all of our channel partners, as well as all of our internal sales support. Our sales channel has never been as strong as it is right now. And we’re seeing it through the share gains we’ve been realizing. Before diving deeper into the backlog and our sales channel, I want to discuss our pricing and gross margins. As we’ve discussed in the past, dealing with hyper-demand and hyperinflation while at the same time maintaining best practices with our channel partners has been challenging. We’ve been saying the margin profile or the backlog has been on track to drive a recovery in gross margins. I’m thrilled to report that’s exactly what we saw in the third quarter. The 27% gross margin realized in the quarter was up 430 basis points from the second quarter and up 100 basis points from the year-ago quarter. It was the strongest gross margin since the second quarter of 2021. We’re very happy to see that. We’re still not where we need to be but gross margin improved throughout the quarter. The margin profile of the current backlog is the best it’s been in over a year, so we’re going to continue to see productivity improvements going forward. Our gross margin is well on track to fully recover. This improvement is largely related to a normalization of price versus cost. In addition, improved productivity is also a contributing factor. You can specifically see this at our AAON Coil Products segment, but it’s happening throughout the organization. In the third quarter, AAON Coil Products generated almost the exact amount of gross profit that it realized in all of 2021. It’s not only a result of pricing; productivity improvements have been a driver to gross margin as well. We expect that factor will continue, especially as supply chain issues ease. Returning to the backlog and what we’re seeing with demand. Overall demand remains strong. Total backlog was up 183.1% from a year ago and up 10.9% for the end of the second quarter. Organically, backlog was up 109.6% from a year ago and up 4.7% from the end of second quarter. The fact that backlog continues to increase sequentially is a sign that demand remains strong, particularly because our production is also increasing. Organic bookings in the quarter were up year-over-year 28%. Sequentially, they were up 36.7%, which is mostly volume-driven. Demand is very strong at BasX. Bookings at BasX compared to the second quarter were up 67%. Backlog at BasX is up 267.1% since the end of 2021 and up 33.8% from the end of the second quarter. While both the legacy business and BasX continue to increase production to record levels, backlog continues to grow. Our lead times remain a contributing factor to growth in bookings of both the legacy business and BasX. Demand continues to be fairly broad-based as far as end markets; lodging and office buildings remain soft. But outside of that, most sectors are quite strong. Data centers and semiconductor markets are very strong, education remains solid, and healthcare and manufacturing are still good. We’re seeing robust demand in the Grow facility. Warehouse seems to be slowing a bit, but remains still pretty good. Overall, demand is quite strong across the board. While we continue to monitor for the slowdown that it seems everyone is anticipating, we do not see it. Sentiment among our channel partners remains very positive and the macro data we track is also encouraging. Construction spending is back to pre-pandemic levels. And all of the leading indicators that we track such as the ABI, the Dodge Momentum Index, and construction starts are suggesting the next 12 months will continue to be strong. Our biggest challenge right now is ramping up production fast enough. While everyone is happy to see backlog growing, we’d actually like to see backlog start to come down, led by improving lead times, which I think we’re going to start to see in 2023. The team is doing a great job with adding headcount while improving productivity at the same time, and we’re continuing to invest in capacity. Our CapEx this year is probably going to be about 8% of sales, and CapEx both on an absolute basis and as a percent of sales will most likely increase in 2023. We want to continue to provide our channel partners and customers with the best lead times. To do this, we’re going to continue to invest in the business. We feel strongly that we have the best product offering at the best value to accommodate the increasing demands related to decarbonization, energy efficiency, and indoor air quality. As we continued to deliver at a very competitive lead time, we’re going to set our channel partners up for maximum success enabling them to continue to take share. I want to provide a little color on our water source heat pump business and the decision we made to exit a couple of product lines. In 2015, prior to my arrival, the company entered this market organically with the thought that it would complement our product portfolio of energy-efficient equipment and that the market had vulnerabilities we could capitalize on. We’ve determined to terminate a portion of this business, specifically our horizontal and vertically configured indoor units. This equipment is very standard and has minimal pricing power, and we haven’t been able to generate profit margins that we expect. Furthermore, the upcoming refrigerant regulations would require a capital investment we decided would not be the best use of capital. It’s not unusual for an innovative company like AAON to make changes like this. And as we’ve always done, we’ll continue to monitor the financial performance of our product portfolio. This portion of the business generated approximately $10 million of sales in 2021 and is on track to do similar in 2022. So, it’s only about 1% of sales. We wouldn’t normally address something so immaterial to revenue, but we’ve openly discussed the water-source heat pump business since inception. As such, we felt it would be appropriate to provide some information on what we’re doing. Also, by doing this, it’s going to lend more capacity for high-margin, high-growth equipment. We will repurpose headcount and equipment once the production of this product line has wound down, which will be in early 2023. I also want to touch briefly on our parts business; parts still make up a small percentage of sales at 6.6%. But it’s something we’ve been focusing a lot on, both internally and with our channel partners. We’ve been having great success. Parts sales in the third quarter were up 31.4% and were a quarterly record for the Company for the second straight quarter. The 31.4% growth was against a comp of 15.4% growth realized in the third quarter of 2021. Compared to 2020, part sales were up 51.7% this past quarter. Parts generate some of the strongest gross margins in our company, so growing this business will continue to be a strong focus of ours. Before finishing up and handing off the call for Q&A, I want to provide some information on our outlook for the rest of the year. Based on the size of the backlog, the improving margin profile of the backlog, and the increasing production capacity and productivity, we anticipate we will finish off the year on a high note. Sales in the fourth quarter most likely will be comparable to the third quarter due to the holidays we see in the quarter. Margins and earnings will continue to improve sequentially. We expect gross margins will finally fully recover to the target range of 28% to 32% that we’ve been talking about. Looking out to 2023, still early, but we remain optimistic. Backlog will be entering the year up substantially from a year ago. And we will continue to realize more price, which should pave the way for continued margin improvement. Long-term, we’re continuing to invest in capacity and growth. In closing, I want to finish by thanking all of our employees, sales channel partners, and customers. Thank you. And I will now open up for Q&A.

Your first question comes from the line of Chris Moore with CJS Securities.

AAON historically has been priced at roughly 15% premium to the market. Even with your recent price increases, that pricing delta looks to be maybe in high single digits, in some cases close to parity. Can you maybe talk a little bit about what’s driving that closing gap? And do you expect this to be the new normal?

Well, we’re watching that carefully. We’ve always kind of managed the margin, not so much to market. But I think we need to pay attention to that because we are a value over most of our competitors. So, I think that the equipment definitely warrants a bit of a premium. As I’ve said in past calls, quite a while back, at a 15% premium, there’s a fair amount of work that goes into proving the value. And in the past, it took some pretty strong talents in the sales channel to do that. As that premium comes down to 10%, it becomes much easier to explain, and people begin to take notice of it much better. So, I’d like to make sure that we stay in that range, but we’ve also added a lot of marketing tools that help explain that value. We have a new building that’s going to be opening up probably first quarter of 2023 where we’ll have our equipment along with different competitors' equipment sitting side by side, and the visual representation is quite strong by itself without a lot of calculations.

Got it. Very helpful. Maybe just one more. You guys have introduced some cold climate air source heat pumps. Maybe a few questions there. How is the market reacting to them? How significant are they relative to the whole decarbonization trend? And lastly, how do the capabilities compare to the rest of the market?

I’ll start with your first point. The market is responding positively. Recently, we had significant building owners in the laboratory to observe the performance testing of our units. We have already demonstrated their effectiveness, and we keep a unit available for display to show the empirical data rather than just model data. A particular client has been in the news lately for not building as much as they initially planned. However, they are reevaluating some existing buildings to align with their decarbonization goals. We have multiple clients considering this approach. Although e-commerce warehouses and new construction have slowed down, our impact in this area is growing significantly. I believe a lot will change. When I joined the company six years ago, we were at about 50% new construction and 50% replacement. I stated that our goal was to increase the replacement percentage while also growing new construction. We have achieved that successfully. I don’t have the latest figures, but it’s now over 60%, nearing 65% for replacements the last time I checked, largely driven by our cold climate-capable air source heat pump. Regarding your third question on capabilities, I’ll need you to repeat the second one.

Yes. The second was just how significant these products are relative to the whole decarbonization trend?

Well, they’re very significant. When you look at the portion of the United States or North America for that matter, that a zero degree Fahrenheit capable air source heat pump with good efficiency and good capacity applies. It’s significant. We have development ongoing with new technology that will take us down to minus 25 Fahrenheit. But that’s going to also be completed in conjunction with the refrigerant changeover. So, at this point in time, we’ve opened up a lot of possibilities with zero degree capable, and we’re seeing strong support for that. As we get the new parts and pieces that are required for minus 25, I think it’ll be very, very significant. And I’ve forgotten your third part. Give me the third part again.

Just in terms of...

Is it compared to the rest of the market? What else is out there? Yes. According to the research from my team, most air source heat pumps currently available, particularly in package rooftops, have limited selections and often struggle to operate effectively below 30 or 35 degrees Fahrenheit. Capturing that range from 30 degrees down to zero degrees represents a large number of operating hours in regions that aren't in the Sunbelt. This is quite significant. With the research we have, there are products that have already been laboratory tested with prototype materials. As these become commercially available, we will be able to attract a substantial number of customers interested in decarbonization.

Your next question comes from the line of Brent Thielman with D.A. Davidson.

Hey Gary. It looks like you got about 24% from price of the 75% in total growth. I was wondering if any of the March price increase, which I think was 7%, is represented in the revenue you’ve reported today? And I guess you’ve still got the 1 percentage point increases thereafter?

Yes, I don’t have the exact percentage, but Rebecca might have that information. I’ll ask her to find it and provide you with the percentage for the quarter. I know that in October, we’re experiencing a notable increase in market prices. We evaluated how this happened, and at one point, I was informed it could be up to 7%, but we saw about 5% in October. This change started to impact the quarter, although it was towards the very end. There’s still a significant amount of increase to be realized. As you mentioned, starting June 1st, we implemented a 1% increase per month, and that remains in effect; we have not discontinued it yet.

And then Gary, last quarter, you guys talked a bit about all the inroads that BasX is making and maybe some opportunity to produce product out of Longview for a customer or maybe set of customers. Is there any update on the progress on that front?

The first prototype units have been built, and one is currently en route to the laboratory for final testing. It may have arrived by now as it was completed last week. The manufacturing facility in Longview is ready to begin operations. We have evaluated the process and constructed three prototypes to determine the most manufacturable design that meets client expectations. We ended up providing the client with a more manufacturable unit than we initially anticipated. We do not expect to begin full-scale production until around January 1st. In the meantime, we will be assessing and refining the manufacturing process. Keep in mind that you design and build these units once, and then produce them hundreds or even thousands of times. They are very customized, so it is important to optimize everything as much as possible. That is what we are currently focused on completing.

Hey Brent, I can circle back to you on that pricing question. For the March price increase that was 7%. We saw about 1% of it in August, almost 3% of that in September, and a little over 6% of that in October. So we got to...

Thanks, Rebecca. Yes. And then, maybe just another one. Gary, you mentioned the potential for backlog to come in here at some point in 2023 as your lead times improve. So, some of the competition out there has talked about continued stretched lead times in the industry. Maybe you could just talk around that. And I guess, what you see, in terms of visibility for 2023 and even ‘24, if you can comment on at this point?

I want to reflect on the beginning of my tenure as President of AAON, which started six years ago last week. When I took on this role, I assumed responsibility for sales, engineering, and manufacturing, while the back office continued under Norm’s oversight. Upon my arrival, Norm indicated that the company was capable of producing more than we could sell. This prompted me to work closely with the sales team to address various issues that were hindering their success. Ultimately, we disproved Norm's assertion. In 2017 and 2018, we faced significant challenges, but by the third quarter of 2019, we began to resolve our manufacturing issues and demonstrated that we had the capacity to produce effectively. This process has been thoroughly documented, with clear objectives that we continually monitor, giving us confidence in our capacity. We have made substantial capital investments to expand our capabilities, which you can see reflected in our operations. For instance, we constructed a new facility in Longview, which went into production in February 2023, and its output has more than doubled compared to before. I was confident that there was a demand for our equipment, supported by what our sales team demonstrated in 2017 and 2018. They have consistently done an excellent job, and we have been attentive to their feedback regarding product positioning and capabilities that could help them sell more effectively. Our investments in these areas are now starting to yield results, evident since the fourth quarter of 2019. However, the pandemic temporarily slowed our progress. Currently, the supply chain has significantly improved, allowing us to increase headcount and access previously scarce components. We already had the necessary manufacturing infrastructure in place, which will enable us to ramp up production. Demand remains strong, so if there is any reduction in our backlog, it will not be due to a decline in orders but rather to an increase in production.

Your next question comes from the line of Julio Romero with Sidoti.

If you guys could just talk about the customer reception to the shift in pricing strategy to that 1% monthly. And secondly is the order number you put up in the quarter kind of a cleaner order number with less noise, so to speak?

Let’s discuss the 1% price increases. I took that advice from Norm, who experienced inflation in the 70s and successfully implemented that strategy before. We needed to make significant adjustments to stay within the proper range. Once we were confident we had stabilized, with inflation close to 10%, I believed that a 1% increase each month was suitable. Our sales channel really values this approach; they find it predictable and know exactly what to expect. We haven’t discontinued this strategy yet, as inflation is still ongoing, evidenced by rising wages and electronic component prices. While some raw materials have decreased in price, component costs have not. We feel that managing a 1% increase monthly is effective, and we plan to continue this until we see improvements in our margins, which could potentially happen in 2023 if we maintain these price increases. We also monitor the bookings rate to ensure we haven’t hindered bookings, and with the increased backlog, it’s clear we haven’t slowed down. Overall, we are pleased with our pricing strategy. What was your second question, Julio?

Yes. On the order number, I was just looking to see if, my thought process is with the monthly price increase, it’s very predictable, as you said, you would see less kind of spikes ahead of a price increase. So just trying to see if that order number is more indicative of underlying demand for at least on a relative basis than prior quarters?

On a relative basis, it is. We’re not seeing much pull forward with the 1% price increase as we did with previous increases of 3%, 5%, 7%, or 8%, which caused a significant pull forward. For instance, January 1st had an exceptionally high pull forward, totaling nearly 200 million, which negatively impacted our margins for a few quarters. However, with the 1% increase, the pull forward is fairly insignificant, albeit not completely absent. I believe the bookings rate has normalized now, going back to June. This has been consistent for several months, and our projections from the sales department align closely with what is actually happening, without any surprises on either end.

And I guess, with that change in pricing strategy, talk about where you are with price-cost alignment. I think you mentioned that some of those component costs are still, if not rising, at least not coming down?

Yes. So, we’ve put together an FPNA team. And I’m very happy with the information they’ve been providing to all of us. It’s something that we were probably in need of. If the market is very stable and FPNA a team’s job is pretty boring, it’s when it’s so dynamic, like it’s been for the last couple of years, that their value is just absolutely proven. With what they’re telling me, our margins are going to continue to strengthen. What we see in 4Q looks like we’ll be well into that 28% to 32% range. And then, we might possibly see something a little stronger than that first quarter if things stay the way they are. So, we’ll just have to monitor this along. But I’m very confident that we’re in that range and that we’re capable of staying in that range.

And then just last one for me, you just mentioned on that higher margin backlog that’s flowing through. I don’t know, what are your thoughts on the duration of that higher margin backlog? Like how long does that tailwind potentially go on for you guys?

Well, if you look at absolute run rate and absolute backlog, you’re looking at about six months, it’s in the house. And orders have not slowed down a bit. Historically, the company had a bit of a bell curve on bookings; the first quarter and the fourth quarter were always a little slower than the second and third quarter, we’ve not yet seen that. This has been a steady slope up. And I think a lot of that is the better product that we’re putting together, like the cold climate capable air source heat pumps, the growth and opportunity as a result of acquiring BasX. All of these things are keeping that going forward and up. And with regards to the margin, again, we’ve got that margin where we want it, and it’s going to continue to strengthen a bit.

Your next question comes from the line of Jon Braatz with Kansas City Capital.

One question, you’re moving a lot of products out the door. And I think you indicated that headcount was up 18% in the quarter year-over-year. And as you look at the production opportunity or the sales opportunities going forward, what kind of additional headcount might you need for next year? Obviously, productivity is improving, but do you need that type of increase in headcount next year too?

We’re monitoring the manufacturing facility's overall capacity, which is likely around 40% surplus. We need to assess our headcount, and the optimal increase is probably between 15% and 18%. If we hire too quickly, it could lead to turnover or reduced productivity. Currently, we’ve reached an 18% increase in headcount, and productivity has improved. Our onboarding and training processes have advanced significantly compared to a few years ago. Right now, we’re focused on the supply chain. As parts become available, we inform HR to increase staffing. We’ve been adjusting our hiring based on the availability of parts. Our main concerns for 2023 are ensuring we don't add staff too quickly and avoiding having employees idle without parts to work with. We produce a significant portion of our equipment in-house. A few years ago, we acquired WattMaster Corporation, now AAON Controls, in Parkville, Missouri. We tasked them with designing and building more electronic components for our units, and they have succeeded in that. We have better control over these components now than ever before. Additionally, we previously acquired the intellectual property and manufacturing tooling from our fan supplier, who used to provide us with 35,000 to 40,000 fans annually. They are now training us to manufacture the fans ourselves in Tulsa, which we expect to start in about a month. Some delays are due to major equipment purchases affected by supply chain issues, but our purchasing team assisted them in obtaining parts that helped expedite our equipment delivery. Building our own fans allows us to better manage supply concerns. We are continually exploring vertical integration and considering what other constraints exist that we can address creatively and innovatively. Some of our capital expenditures for 2023 will be allocated to further increase our in-house manufacturing capabilities.

Okay, Gary, I have one more question. BasX had a strong quarter, and while I previously viewed them mainly as a data center company, we discussed some semiconductor opportunities. Is this a new and emerging area for them, and have they previously worked with semiconductor manufacturers?

The founders have a background in semiconductors. Dave Benson started his career at Intel and moved on to Brod & McClung PACE Company in Portland, where he built units for Intel. He has nearly five decades of experience in this field. While I don't have an exact figure, I believe they generate about 30% to 35% of their revenue from semiconductors and clean rooms, and this area is growing. The partnership with AAON is enabling them to secure large orders that they previously couldn't fulfill due to limited physical infrastructure, despite having the necessary technological capabilities. Their new building, constructed before our acquisition, along with the existing AAON facilities, has improved their capacity. This presents a significant opportunity for them, as they are highly respected in the industry for their skills, and now they have a solid foundation to leverage these opportunities.

If things continue well for BasX, do they have the capacity, combined with your legacy business, to potentially double sales?

Easily. What we’re able to do for them in Longview, just in the data center itself, doubles their sales.

There are no further questions at this time. I’d like to turn the call back to Mr. Joe Mondillo for closing remarks.

All right. I’d like to thank everyone for joining on today’s call. If anyone has any questions over the coming days and weeks, please feel free to reach out to myself. Have a great rest of the day. And we look forward to speaking with you in the future. Thank you.

This concludes today’s conference call. You may now disconnect.