MSA Safety Inc Q2 FY2020 Earnings Call

Good day. And welcome to the MSA Second Quarter 2020 Earnings Conference Call. All participants will be in listen-only mode. After today’s presentation, there will be an opportunity to ask questions. Please note, this event is being recorded. I would now like to turn the conference over to Elyse Lorenzato. Please go ahead.

Thanks, Drew. Good morning, everyone. And welcome to MSA’s second quarter earnings conference call for 2020. Joining me on the call today are Nish Vartanian, Chairman, President and CEO; and Ken Krause, Senior Vice President, CFO and Treasurer. I would like to note that we are all remote this morning joining the call from our respective home offices. We don’t anticipate any technical issues, but please bear with us should any occur. I’d like to remind everyone that the matters discussed on this call, excluding historical information are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements include, but are not limited to, all projections and anticipated levels of future performance. Forward-looking statements involve risks, uncertainties and other factors that may cause our actual results to differ materially from those discussed here. These risks, uncertainties and other factors are detailed in our filings with the SEC, including in our most recent Form 10-K filed in February of this year. MSA undertakes no duty to publicly update any forward-looking statements made on this call except as required by law. We have included certain non-GAAP financial measures as part of our discussion this morning and the applicable non-GAAP reconciliations, as well as our Q2 press release are available on our Investor Relations website at investors.msasafety.com. And now, I will turn the call over to our Chairman, President and CEO, Nish Vartanian.

Thanks, Elyse, and good morning, everyone. This morning, I will provide an overview of the various demand trends we are seeing across our portfolio and how we are executing in this environment. Then I will hand it over to Ken for a financial review and we will start the Q&A session. While the COVID-19 pandemic continues to impact our families, communities, workplaces and our economy, the team at MSA continues to execute very well. Despite the many challenges we have all faced in the first half of 2020, our associates' dedication to MSA’s mission of protecting lives, as well as our high-performance culture was clearly evident in our quarterly financial results. We remain focused on providing our employees with a safe work environment, while advancing our mission and providing our customers with products and services they need each and every day, investing in growth opportunities and driving improvements in productivity. We had a number of accomplishments in the quarter. Despite having a challenging macroeconomic environment, we reported a strong quarterly adjusted operating margin of 18.7%. I’d be pleased with that result in any quarter, but I thought it was particularly noteworthy here, because we achieved that performance despite an 8% decline in revenue. The operating leverage was driven by strong results in strategic pricing, discretionary cost controls, reductions to variable compensation and returns from our International segment restructuring programs that we have actioned over the past 12 to 18 months. We did a great job of controlling the controllables and our results reflect the diversification and resiliency of the MSA business model. As expected, and as we had indicated on a number of webcasts in June, the industrial PPE area of our business, notably fall protection, head protection and portable gas detection, is where we saw the greatest challenges in the quarter. These products protect the individual worker, so they are largely tied to employment levels in the energy, construction, utilities and general industrial markets. These areas were collectively down 25% as work sites shut down and the economy came to a screeching halt. In the fire service market, our SCBA business was a source of growth. Revenue was up 3% on momentum in China and Europe and solid execution in the U.S. as we worked through several strategic orders. Our order pace was strong to start the quarter, but we did see some delays beginning in May as evaluations and decision processes were pushed back due to social distancing measures. Nonetheless, our pipeline is as strong as it’s ever been, both in the U.S. with G1 and internationally with the M1 SCBA. As always, with the fire service, the outlook for the second half will be somewhat dictated by the timing of AFG funding in the third quarter. Our nation’s first responders have been instrumental on the lines of the COVID-19 pandemic. For this reason, it’s encouraging to see recent government stimulus packages such as the CARES Act provide firefighter funding at the federal level. As fire departments resume their evaluations and decision-making processes, we expect they will secure the funds required to purchase mission critical equipment. Continuing through the portfolio, our air-purifying respirator line was clearly the standout in the quarter. These products reflect 10% of Q2 sales and increased more than 60% from a year ago. Year-to-date, air-purifying respirators or APRs as we often refer to them, have provided $23 million of incremental revenue for MSA. While the surge order pace that we saw on the onset of the pandemic moderated through the quarter, we continue to post double-digit order growth through June. We discussed that working down the backlog in this area would take time and that continues to be the case. Our APR backlog remains elevated and we expect to make further progress in reducing lead times in the second half. While the increase in APR demand is primarily from existing customers and markets, there are a few new growth opportunities we continue to target. First, we made inroads with several healthcare systems by providing elastomeric respirators for use in hospital settings. There was an interesting article in the New York Times published in May on the many benefits of reusable elastomeric respirators in healthcare as a complement to N95 masks. As you may have seen on our website, MSA has invested in a number of marketing initiatives and campaigns to educate potential customers on the advantages of reusable respirators for emergency preparedness applications and because we manufacture respiratory protection in the United States, Germany and Brazil, we are able to localize manufacturing for each of those markets. The CapEx investments we are making in our APR manufacturing operations will prepare us to respond well to future demand and our payback period on those investments remains very attractive based on our results to date and existing backlog. Most importantly, we are proud to fulfill our mission of protecting lives and health at a time when the world needs it most. Another area where we are seeing attractive returns on strategic programs is in the International segment of our business. As many of you know, we have been heavily focused on improving commercial excellence and executing a cost reduction roadmap, mostly in our European region. It’s encouraging to see International margin expansion of 240 basis points year-to-date. We have discussed the focus on pricing as part of our International margin improvement plans at our 2019 Investor Day. We are indeed seeing improved price realization across International and SG&A is declining at a much faster pace than revenue as a result of previous restructuring programs. Bob Leenen and the entire International team have done a great job executing. And we see continued opportunity ahead and we will give you more insight into the additional restructuring investments we are making to drive further improvements on our cost structure. While MSA’s long-term growth algorithm remains intact, the near-term outlook is more unclear; much depends on the timing and shape of an economic recovery. Beyond that, a number of other factors could impact how the second half of the year unfolds. These factors include the extent of a virus resurgence in the U.S. and other parts of the world, conditions in the energy market and employment levels in construction and manufacturing, the timing and extent of AFG funding, as well as the passage of additional government stimulus programs, and how the demand patterns evolve for our respiratory protection business as we continue to target new opportunities. What we do know is that MSA has a diversified portfolio and a very strong balance sheet that position us well for these challenges. We are also accelerating certain strategic programs to drive further productivity improvements across our business. With that, I will now turn the call over to Ken to take you through our financial results.

Thanks, Nish, and good morning, everyone. Before I begin the P&L review, I want to step back and provide a few performance highlights. The team executed well in a difficult environment. On the revenue decline of 8%, we drove 30 basis points of adjusted operating margin expansion. Returns from International segment pricing improvements and restructuring programs, global discretionary cost controls and reductions to variable compensation collectively drove strong leverage despite the lighter sales volume. Year-to-date, adjusted operating income is relatively flat on a 3% revenue decline, great to see both our short-term and long-term cost structure actions helping to mitigate the impact of challenging business conditions across our end markets. We have maintained our balanced approach to capital allocation through this pandemic and our quarterly cash flow conversion of more than 150% highlights our proactive efforts to manage working capital. We continue to invest heavily in our business, announced an increase to our dividend in May and are maintaining an investment grade balance sheet. Our strong financial position is allowing us to invest in a number of organic initiatives that position us well for the long-term as we navigate the challenging business environment. We are positioned very well to go on the offensive in terms of M&A as business conditions and visibility improve. Now I’d like to walk you through our second quarter results. As reported, revenue was down 10%, while local currency revenues declined 8% on weakness across our industrial portfolio, partially offset by strong shipments of SCBA into fire service and growth in respiratory revenues. The 2% foreign currency headwind on revenue was related to a weaker Brazilian real and euro versus the same quarter a year ago. While it is hard to predict the shape of the economic recovery and the rebound in shorter cycle areas, our overall backlog remains healthy and should provide support in the second half. Backlog is relatively consistent from the end of the first quarter just as we had expected. While there is uncertainty, especially here in the United States and in Latin America, what I can tell you is that our China-based business has been a bright spot for us in the second quarter. We started to see a rebound back in the latter part of March. Revenues were up 9% in the quarter and incoming orders were up 16%. What is especially encouraging is the growth was broad based across most of the portfolio, including fire service and FGFD. Gross profit declined 110 basis points from a year ago, as we incurred about $3 million of higher costs related to the pandemic, coupled with a less favorable product mix. These additional costs were related to lower throughput in our factories, higher freight costs and implementing measures associated with COVID safety protocols across our work sites. These items had a significant impact on our Americas segment margin. Price realization remains very healthy across the business and pricing remains a major focus for our organization. The focus is evidenced by the improvements in margins in the International segment in the quarter. International segment gross margins have improved nearly 200 basis points for the quarter and year-to-date periods. SG&A expense of $69 million was down 18% on a reported basis or 14% in constant currency organic terms. We continue to realize the expected returns from previously executed restructuring programs, particularly in International where quarterly operating margin is up 310 basis points. For this segment, constant currency SG&A was down 11% on the revenue decline of 4%. And we continue to see solid leverage in the Americas segment SG&A as well. We delivered $6 million of savings from previously executed restructuring programs and discretionary cost savings in the quarter, which include reduced travel, controlled hiring, reduced advertising and trade show expenses, professional services and other costs as well. We plan to maintain discretionary cost controls through the third quarter as we manage through the uncertainty. We also reduced our variable compensation accruals by $5 million in the quarter, with the most significant impact in the Americas and Corporate segments of our business. From a longer-term perspective, we continue to invest in programs that streamline our cost structure and optimize our footprint. We incurred just under $9 million of restructuring expense in the second quarter related to two areas. The first is the continuation of the European cost reduction activities. We accrued for steps that we plan to take later this year that will drive savings for 2021. These programs are part of the European cost reduction road map that we laid out at Investor Day last fall and we have accelerated the timeline based on COVID demand challenges. As I had indicated earlier, we have seen tremendous returns and leverage from the European restructuring initiatives that we have executed over the past several years. The other program relates to global manufacturing footprint optimization. If you recall, we had discussed the opportunity to streamline manufacturing operations at our Investor Day last November, and in June, we announced plans to expand our Cranberry Township gas detection center of excellence through the construction of a new facility. As part of the program, we have recently announced to our workforce that we plan to close our Lake Forest, California manufacturing operations in the third quarter of 2021. These steps we are taking to advance our global gas detection global center of excellence are expected to provide $3 million to $4 million of cost savings in 2021 and will enable further actions in savings in 2023. We continue to evaluate additional programs we can implement and drive further savings in 2021 and beyond. We have often talked about our portfolio of margin expansion opportunities and it’s encouraging to see the wheels moving on these important long-term projects. Quarterly adjusted operating margin improved 30 basis points to 18.7% of sales. Year-to-date adjusted operating margin is running at 18.7%, up 50 basis points despite a number of headwinds that are impeding revenue growth this year. Adjusted earnings were $1.11 per share or 9% lower than a year ago. We indicated on the February call that we expected an $8 million full-year headwind in 2020 from non-cash pension expense. That had a $0.03 per share impact on adjusted earnings in the quarter as we had expected. Free cash flow conversion was strong in the quarter at more than 150% of net income. We continue to apply best practices to drive improvements in receivables and payables. These efforts fully offset the investments we are making in inventory as we ramp up our respiratory manufacturing operations. Our second quarter results include $5 million of CapEx investments associated with the respirator ramp-up projects in Jacksonville. Our balance sheet is very strong and our capital allocation priorities remain balanced. In the first half, we generated free cash flow of $63 million, paid down debt by $9 million, funded $33 million in dividends and deployed $28 million for share repurchases to offset dilution. Leverage was 1.2 times on a gross basis at the end of the quarter or less than 1 times on a net debt basis. We remain well-positioned to continue to focus on advancing organic opportunities during this downturn that will drive long-term growth and profitability improvement. We also continue to be very active with acquisition pipeline development and are staying close to attractive targets. When the time is right, we will be well prepared to go on the offensive and invest in organic growth. Doing a quick look back on the Sierra Monitor acquisition, which we lapped here during the second quarter, I’m very pleased to note that this business has reported more than 20% EBIT margins in the second quarter. If you recall in 2018, before the acquisition, Sierra’s business had a 60% gross margin but just barely broke even on the EBIT line. To wrap up, it was good to see the strong level of profitability in the quarter. From a demand perspective, the environment remains very challenging, and order trends have been choppy for much of the second quarter and into the third. There are shoots of hope in different areas of the business, but with the virus resurgence and related economic challenges, it’s difficult to put a fine point on the outlook for the second half. Our backlog continues to be healthy as we enter the second half, but we remain vigilant in managing our cost structure and executing on long-term margin improvement projects. We have been very proactive through this crisis and we are committed to continuing that approach. We are well positioned to manage through and emerge from this downturn as a stronger organization. With that, I will turn the call back over to Nish for some additional commentary.

Thanks, Ken. And to wrap-up our formal comments, I’m pleased with our team’s strong execution in the second quarter, and we remain very well-positioned to manage through this challenging environment. Our mission has never been more important and we remain committed to investing in our business and executing on productivity initiatives to drive continuous improvement. At this time, Ken and I will be glad to take any questions you may have. Please remember that MSA does not give guidance. Having said that, I will now open up the call for your questions.

The first question comes from Stanley Elliott of Stifel. Please go ahead.

Hey. Good morning, everyone and nice to hear your voice and congratulations on a nice quarter.

Thank you, Stanley. Good to hear from you.

I know you don’t want to get in too much into specifics and you mentioned kind of a choppy order environment. Is there a way to talk about how maybe business cadence trended through the quarter, kind of given all the moving parts, and then you mentioned some green shoots into July. But would be curious to kind of get a flavor for what you are seeing, particularly as it relates to economies reopening and such?

I will answer your question first, and Ken can add anything afterward. Stanley, we experienced strong order activity in April as we previously communicated, but May was very weak for us. In June, we saw some positive signs as the economy began to open up and workers returned, which led to an increase in business. However, early July showed some signs of decline. The overall business environment has been quite inconsistent. We are encouraged by the performance in head protection, which is closely tied to workers returning to their jobs, but the overall situation has been unpredictable. We lack clear visibility into what will happen in the second half of the year due to many factors linked to COVID. Some areas of the business have remained stable and strong. In fixed gas and flame detection, the results were as we anticipated. Although turnout gear numbers appear slightly soft, this is primarily due to production output and supply chain constraints rather than demand, so that area remains stable. Breathing apparatus sales are also on target with our expectations following a strong second quarter, but it depends on the timing of the AFG funds, as usual. It ultimately comes down to the economy reopening and workers returning to their jobs, which will drive demand for our PPE products. Ken, feel free to add anything in case I overlooked something.

The only thing I would add is that, as we mentioned in our public webcast in June, May was a very challenging month. June started a bit slowly, but we saw a strong finish that made it a solid month for us before the virus resurgence in July, particularly in the Gulf Coast and certain other states where we perform significantly better. Generally, we believe we are well-positioned as we move into the second half. Our backlog is very strong, and our pipeline of restructuring activities is progressing well.

And in terms of what’s happening at distribution, do you think that they have kind of taken down their inventory as well. I’d be curious to kind of get your view on what level of inventory you think they are carrying just because, my guess is, they are trying to be conservative in how they are approaching things as well given the lack of visibility?

That’s a great point, Stanley. However, it's important to remember that a significant portion of our product is made to order. This includes items like logoed hard hats and breathing apparatus, which are often assembled as needed. The situation with fall protection is different, as distributors tend to adjust their inventory levels up and down. We observed that in May, distributors significantly reduced their inventory, resulting in a weak pipeline. There was a slight recovery in June, and July has been inconsistent. Some believe there may be a potential increase in construction jobs this fall, depending on the management of COVID, prompting some distributors to consider restocking. Overall, the environment is unpredictable, and I expect distributors to closely monitor their inventory for cash flow reasons. However, we do not believe that destocking significantly impacted our business during the quarter.

And lastly for me, very nice work on International year-to-date, can you help parse out kind of how much of the improvement that we have seen has been more discretionary cost saves versus restructuring versus the pricing improvement that you are seeing in the channel? Just trying to get a flavor for what sort of cadence we are on, on improved mix trajectory here?

So I will answer that first and then, Ken, maybe you can give a little more color on that. But the team has done a fantastic job. We have talked about this for a couple of years. We showed some improvement. We are a little frustrated with the time it’s taken to get to where we are today. But clearly, the team has done a great job. We talked about this at the 2019 Investor Day, and Bob and his entire team have really built a culture of looking at their cost structure on a monthly basis and looking for opportunities to restructure and drive productivity improvements as an organization, so we have done some nice work and the restructuring, for the cost to come through, it takes a little bit of time in Europe, and we are starting to see that. And as we talk about our pricing strategy, we were able to execute really well in the Americas going back to 2018 and ‘19, and that took a little more time to put the processes in place and get the discipline in place around pricing. So we have seen some real strong results around that. And then we have a new operations director for International, who’s just done a fantastic job from an operational standpoint and driving some improvements. That’s been another leg of improvement as an organization, and then, of course, we have a number of restructuring initiatives going into the future. So we are optimistic about the path we are on for International. The team has done a nice job. We certainly feel we will meet some of those internal goals we set for ourselves, and I think, we stated 500 basis points of improvement over a five-year period. We are well on track for that. So we are really pleased with what we are doing there. Ken, I don’t know if you can parse that out a bit more for Stanley.

I would focus on the SG&A aspect of the business. In the quarter, we observed a reduction in compensation accruals amounting to about $5 million, primarily from the Americas and Corporate segment. As a result, there was a couple of hundred basis points improvement in the International segment related to SG&A, and a similar improvement in the gross profit line. Most of this positive change is driven by our restructuring activities, which are yielding strong returns on the investments we are making in that area.

Perfect guys. Thank you very much for time. Appreciate it. Best luck.

Thank you, Stanley.

The next question comes from Richard Eastman of Baird. Please go ahead.

Thank you. I have a couple of questions about the product lines. The portable gas business declined more than we expected. Can you provide some insight into whether this is due to distribution issues or if it's a direct decline?

No, Rich, good morning. That’s really a direct business and it’s directly related to what’s happening in the marketplace. You don’t see much portable gas detection in the pipeline. Those are assembled to order for customers, who might buy different variations of the product, which is impacting the budget. We observed this with employment cuts and project delays. On the portable side, it was probably down a bit more than we expected, but that’s not unusual considering what we saw during the initial downturns in 2015, 2016, and 2008, 2009. We expect that to moderate somewhat. It's interesting to note that it's still a very small part of our business, but with Safety IO, our subscription service for portable gas detection, we achieved our best quarter ever. We met our internal plan in the second quarter for the number of contracts signed and secured some significant orders that contributed to our gas detection business. We're encouraged by that, as we're monitoring workers and advancing our path with Safety IO. We believe we’re on a solid track, so we are well positioned. Typically, as things start to bounce back and work increases, we anticipate that business will also pick up.

Okay. And then just a question, I want to just dig into International a little bit further. Could you maybe clarify and speak a little bit to, how Europe did, I’m kind of looking at this 7% decline. I’d say, I guess, a reported decline in revenue for all of International, I guess about 3 points of that was currency. But let me just ask you, how did Europe perform versus rest of world, I would think the rest of world piece, yeah, maybe just kind of deal with that a little bit. I am curious how sales were kind of rest of world versus Europe?

Sure. I will open it up and then Ken will provide some more detail. At a high level, Rick, our Asia business was actually very good. China is ahead of last year. China business bounced back very nicely in the second quarter. The business the order pace has been real strong in China. We are up in China year-to-date and we were up in the second quarter. So the outlook is really good in China. We were kind of hoping that we would see a similar recovery for Europe and the Americas that we saw in China due to their quick recovery from COVID. But that hasn’t materialized yet. Then we started to see some good recovery in Europe and now that’s petering out a bit, I think, a couple of countries are tightening back up again. But we are seeing growth in our Chinese market. And Ken, maybe you have some more detail for him on U.S…

Yeah. The…

… and other pieces.

The only thing I would add is that it's interesting how our business reflects the spread of COVID around the world. In the second quarter, we saw good growth from China and Asia, with a 9% increase. The Middle East and Africa performed somewhat better than Europe, which experienced a decline of about 7% during the quarter, while the Middle East and Africa saw a decrease in the low-single digits. So, our business responded similarly to the outbreak of the COVID virus worldwide in the second quarter. However, as Nish mentioned, we are pleased to see that our Chinese business has bounced back so quickly.

Okay. Understood. I have a quick question about the third quarter. Typically, this quarter has some seasonality, especially in Europe, but we experienced a very weak May. How do you feel about revenue growth into the third quarter compared to the second? Considering all the factors, do you believe we should see some sequential revenue growth across the businesses and geographies compared to the second quarter?

The situation is quite unclear, as a significant portion of our business operates within a two-week timeframe. Therefore, it's challenging to predict how August and September will unfold. The third quarter usually experiences a slight dip due to holidays in Europe, which we are currently observing. Additionally, there's a lull in the demand for breathing apparatus as fire departments are waiting to see how their funding pans out, leading them to conduct quick evaluations before making purchases. This generally picks up toward the end of the third quarter and into the fourth quarter. We anticipate this pattern will persist and hope that the second quarter represents the lowest point. However, predicting this is difficult due to the volatility of the business and the fluctuating economic conditions, especially in our strong markets in the South, including the Gulf Coast and Texas, Louisiana, and Alabama, which appear to be tightening a bit.

Okay. Yeah.

… at this point.

Yeah. I got you. Okay. Okay. And if I can just sneak one more in, in the M&A pipeline, what does the opportunity set look like, Nish? I mean, maybe handicap the potential for a bolt-on acquisition to drop in by year end?

We continue to have good conversations with a number of targets and opportunities. One of the difficulties today with the lack of travel would be integration and that’s one area that concerns us. As you go down the path and you look at acquisition opportunities, how do you get the integration work done with the lack of travel and COVID? So that plays into it. The International opportunities would be even more difficult. But we continue to cultivate that pipeline. We have a number of active situations where we have good discussions with some targets and that remains open. We are well-positioned, as you know, to act, we have had a lot of success with acquisitions. So it’s a key part of our asset allocation and our strategy as we go forward. So we will be very active there as things open up, Rick.

Okay. All right. Very good. Thank you.

Thank you, Rick.

Thank you.

The next question comes from Dan Moore of CJS Securities. Please go ahead.

Good morning, everyone. This is Brandon filling in for Dan. I wanted to ask about fire safety. You mentioned the challenges of reaching customers due to social distancing. I understand there’s some seasonality that typically impacts the latter half of the year. Is there a backlog forming because of the inability to get work done, or is everyone just waiting for funding?

The backlog is really within our opportunity pipeline. We are currently matching our opportunity pipeline of business for both G1 and M1 SCBA on an annual and monthly basis, and the pipeline looks fantastic right now. We are well-positioned with various opportunities. Several departments are conducting live evaluations with the product, but they've postponed these a bit. We expect that to continue, and once they secure their funding, they will likely expedite getting those evaluations completed, leading to renewed activity. The positive aspect is that the pipeline remains robust for both G1 and M1. The timing of the AFG grants and completing evaluations where customers are considering competitive conversions will be crucial. Currently, we don’t see funding as a major concern. Breathing apparatus is an essential item for fire departments, critical for firefighters who need equipment for life-threatening situations. From a funding perspective, we haven't received signals from fire departments indicating they plan to delay purchases when it's time to replace their breathing apparatus, which has been encouraging. It's essentially a matter of timing now.

Okay. Great. And then, with the CARES and Heroes Acts, have you seen any benefit or impact from that yet or is that still too early to tell?

We have. There’s been through the CARES Act, there was approximately $100 million for fire departments for COVID-related products. And so where we fit in that category is we have an air-purifying respirator adapter that plugs into the M7 and G1 face piece and the M1 face piece for that matter, and that converts that face piece into an air-purifying respirator that you could put a high efficiency or an N95 type filter on there for COVID. And so a number of departments who hadn’t purchased that in the past got some funding and made those purchases. So we did see some of that business come through. I believe last I looked about $40 million of the $100 million has been allocated to fire departments. So there’s still a little bit of money left in that pipeline. There is money in the Heroes Act, quite a bit of funding for fire departments going forward and I would imagine that there’s going to be some level of funding for those firefighters that will come in the next round of funding however that looks. So we are keeping a close eye on that, and certainly, that would be helpful.

Okay. And then changing gears to International segment, your impressive margin performance. Is this level kind of how we should think of looking forward, obviously, not exactly, it obviously fluctuates, but is this kind of a level that you think International can do from now on, pending an extreme drop in sales or something of that nature?

Sure. We've discussed this topic before. I believe we have a 15% operating margin in this area, which we see as a long-term target. The second quarter performance was on the higher end. We have some favorable factors affecting our SG&A expenses. The most encouraging aspect is the permanent cost reductions we've implemented, along with improvements in pricing discipline from the team, which has led to better pricing in the market. We are beginning to see positive effects from these efforts. Although it will take time to see full operational benefits and adjustments, we are moving in the right direction. I don't anticipate maintaining this level for the rest of the year, but we are well-positioned to meet and potentially exceed our goals. Ken, feel free to add anything.

No. I think you hit all the key points, Nish. Thanks.

Great.

Thanks, guys.

Thank you, Brandon.

The next question comes from Larry De Maria of William Blair.

Hi. Good morning, everybody. I wanted to clarify if you mentioned that orders were up 16% year-over-year, and also, what is the book-to-bill at the end of the quarter?

Yeah. The 16% increase is in China. That’s the Chinese order pace and so we saw good order flow there. And as we had said on the call, Larry, in the prepared comments, the backlog remains relatively steady with the end of the first quarter. So orders and book-to-bill is hanging in there at a pretty healthy level.

Okay. Thank you. Thank you for clarification. And secondly, obviously, the nice margin performance, especially International, were temporary furloughs a big factor like we have seen with other companies and are all workers back now? In other words, that big tailwind, I don’t know if it becomes a headwind or just more in line with what it should be. I’m just curious about the temporary furloughs and levels of employment looking into the second half?

Yeah. Larry, we haven’t had temporary furloughs for our workforce. We held off on that, quite frankly. We took a hard look at, pay cuts for management and furloughs for some management and other key people. And we have got a fantastic workforce with a great culture and we have done a nice job from a profitability standpoint and have been able to manage through this thing without cutting 401(k) contributions or pulling the lever on any of those. So we haven’t done that and really what you saw was the cost savings from T&E and the lack of travel that we have had. And then, obviously, the bonus and some of the incentive plans, those are not going to pay out at 100% because revenue is down and so we unwound some of that. There were some in that area. But we have not done any furloughs of our management team and workforce or any other pay cuts at this point.

Thanks for that update. I'm glad to hear it. My main point is that I understand there's a lot of uncertainty in the second half of the year, but you all seem quite optimistic, especially regarding APRs and the firefighter business. It seems that the second quarter was likely the most impacted by macro conditions and shutdowns. Historically, earnings per share are typically split around 45% for the first half and 55% for the second half. Is there anything that might indicate a significant deviation from that trend in the second half, assuming, of course, that something like COVID doesn't escalate and lead to more shutdowns? Without such a material change, do you think the second half will at least match the first half in terms of seasonality, or would you disagree with that perspective?

Larry, it's really challenging to provide visibility and an outlook due to the impact of COVID and the timing of the AFG funding. Hopefully, a hurricane doesn't occur, as FEMA tends to manage the AFG funding, and such an event usually causes delays as they get sidetracked, which slows down the release of AFG funds. There are just too many variables as we move into the second half of the year. It's difficult to make a definitive statement like that.

Okay. I’m just looking historically and I think once in the last five years it was flat first half and second half, every other year seasonally second half is stronger and AFG flows, maybe hurricane could push it into next year, but that obviously would be fairly unprecedented, I think, it will be more likely we will move from 3Q to 4Q, so okay.

The only thing I would add to that, Larry, is that we are very balanced when we consider our business outlook for the rest of the year. We have a strong backlog and are increasing our respiratory manufacturing capabilities. However, we are also confronting the resurgence of the virus and the possibility of further complications, as you mentioned. This uncertainty is likely why you sense some hesitancy in Nish’s response to your question. Overall, we believe we have a balanced perspective. We are focusing on what we can control and implementing restructuring programs to enhance our business efficiency. Yet, there are many unknowns ahead, making it difficult for us to commit to plans for the second half of the year.

Thank you. Regarding mergers and acquisitions, it seems you're eager to re-enter that space. Can you discuss the current state of bid-ask spreads? Are they aligning more closely? I understand that one challenge many companies face is forecasting EBITDA for potential acquisitions. Is that becoming any easier? Please share your thoughts on executing deals in light of bid-ask spreads, forecasting difficulties, and the necessary steps to finalize transactions.

Well, that’s one of the challenges, right? What is the EBITDA of a company you are looking at today, especially when some are experiencing significant drops in their topline, like 30% to 40%? Understanding what the EBITDA would be for a company in that position and how quickly their business might recover is uncertain from a timing perspective. This has become one of the challenges, and hopefully, by year-end, we will gain some clarity that will allow us to make better decisions. Ken, if you want to add something to that, feel free.

From a bid ask spread perspective, they are definitely returning to more normal expectation levels compared to the latter part of last year. However, given the hesitancy around our visibility into our business, it is quite challenging for us to determine what an EBITDA stream might look like for another business at this time. That said, we are seeking strong brands and businesses, and we believe we have a solid pipeline of healthy relationships that we hope to pursue in the upcoming quarters and years, similar to how we have previously rebounded with Latchways after the industrial recession in 2015 and General Monitors after the Great Recession. We feel well positioned for this and are hopeful for future opportunities.

Okay. Yeah. Because that’s what I was trying to understand, I know you guys want to be sort of countercyclical and buy things when they are a little bit out of favor, but it seems like it’s not super imminent, I guess. And then last question, price, you noted was positive in Europe, was it positive in North America and Europe, and can you just give some color on magnitude of positive price?

It was positive. We had positive pricing. We measure our pricing and price increase and track those metrics on a monthly basis. So both the Americas and International did quite well in that area. We were really encouraged. And we talked about the fact that, Europe has really kicked in. Europe and the Middle East, those are two areas that have just taken a lot of work to build discipline and they are starting to come through nicely on the pricing. I want to point out that although our gross profit was down 110 basis points, we identified $3 million in costs incurred during the quarter. When we exclude those costs, we actually see an improvement in the gross profit, which reflects the pricing initiatives that Nish mentioned. Our product mix wasn't favorable, particularly with portable gas and some of our more profitable products declining, but we did observe some pricing improvements.

Very good. Okay. Thanks and good luck guys.

Thank you, Larry.

This concludes our question-and-answer session. I would like to turn the conference back over to Nish Vartanian for any closing remarks.

Thank you. I believe at the end of the day it comes down to this. We have a mission and a passion for protecting lives of people who work in dangerous environments and that mission has never been more important than it is today. Built on our mission, we have a strong corporate culture and very healthy balance sheet that puts us on firm ground to ride through this challenging macroeconomic environment. Around the world, the MSA brand is known for durability and reliability. We excel at delivering sophisticated safety solutions our customers rely on to work in the most challenging work environments known demand. As you have heard today, despite the difficult macro challenges we face, with the diversification of our products and markets, good investment in organic growth opportunities, disciplined cost control for today and an eye for the future, solid cash flow, our strong balance sheet and the support of a good backlog of orders, we are well-positioned to continue to fulfill our mission and continue to create shareholder value. Thank you for taking your time and your interest today in MSA. I appreciate that. Have a good day.

The conference has now concluded. Thank you for attending today’s presentation. You may now disconnect.