Earnings Call Transcript - ROCK Q2 2023

Operator, Operator

Greetings, and welcome to the Gibraltar Industries Second Quarter 2023 Financial Results Call. As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Carolyn Capaccio with LHA. Please go ahead.

Carolyn Capaccio, Host

Thank you, operator. Good morning, everyone, and thank you for joining us today. With me on the call is Bill Bosway, Gibraltar Industries Chairman, President and Chief Executive Officer; and Tim Murphy, Gibraltar’s Financial Officer. The earnings press release that was issued this morning as well as the slide presentation that management will use during the call are both available in the Investors section of the company’s website at gibraltar1.com. Gibraltar's earnings press release and remarks contain non-GAAP financial measures. Tables of reconciliation of GAAP to adjusted financial measures can be found in the earnings press release that was issued today. Also as noted on Slide 2 of the presentation, the earnings press release and slide presentation contain forward-looking statements with respect to future financial results. These statements are not guarantees of future performance and the company’s actual results may differ materially from the anticipated events, performance or results expressed or implied by these forward-looking statements. Gibraltar advises you to read the risk factors detailed in its SEC filings, which can be accessed through the company’s website. Now I’ll turn the call over to Bill Bosway. Bill?

Bill Bosway, CEO

Thank you, Carolyn. Good morning, everyone, and thank you for joining today’s call. We’ll start with an overview of our second quarter results. Tim will then take you through our financial performance, and I’ll walk you through our 2023 outlook, and then we’ll open the call up for some questions. So let’s start on Slide 3, titled Second Quarter 2023 Results. We executed well in the quarter and are building on solid performance momentum we created coming out of the first quarter. New bookings continued to improve and our backlog increased 15% sequentially and also turned positive versus prior year, up 1% at the end of the quarter. For the quarter, on an adjusted basis, operating income increased 18%, EPS increased 23%, and free cash flow reached 20% of net sales. We continue to improve execution across the business as we accelerate more 80/20 and productivity initiatives, improve our service levels, launch new products, manage our price costs, and optimize working capital. Our full-year revenue plan for modest growth remains intact. And as mentioned in our last earnings call, it assumes revenue increasing in the second half. Our end markets have also evolved as expected and, in general, have solid momentum going into the second half. And here’s just the current situation for each end market segment. Let me start with renewables. Customer demand and project development activity continue to be strong. The industry is making steady progress with solar module importing through the UFLPA, and we expect this to continue in the second half as well. The industry still requires more module manufacturers to demonstrate consistency and success importing their panels. Our revenue plan assumes our customers will continue to see improvement with module supply. Customers have also been recently dealing with the permitting approval process. This seems to be mostly related to local government offices needing to ramp up capacity to support increasing project demand activity, and we expect this to improve in the second half and beyond as well. In our residential market, channel inventory rebalanced as expected and demand started to improve as seasonality for the market returned and normalized, and customers began their restocking process. As anticipated, end market demand slowed significantly versus prior year but remained positive in the quarter. We continue to see positive point-of-sale results for our products with end customers and expect this to continue. On a macro basis, we expect the ongoing demand-supply imbalance for housing, single-family and multifamily homes, as well as interest rates and the current U.S. economic outlook to continue playing an important role in the strength of the residential market in 2023 and beyond. Switching to AgTech. The order pipeline and growth activity remains very active for the produce market as long-standing commercial growers look to expand capacity to meet consumer demand for indoor-grown produce. Growers are also focused on supporting increasing demand for additional varieties of fruits and vegetables, which tend to be developed and grown indoors as well. We signed a large $30 million produce project in the quarter, which we will start designing and building in the second half. This $30 million project represents Phase 1 of the overall project, and it is the smaller of 2 phases. Once completed, we expect the second phase to begin shortly thereafter. The produce market activity is currently offsetting a slower commercial market, particularly in the retail and car wash structures businesses. We expect these businesses to start improving later in the year as customers have adjusted to the current interest rate environment and gained more clarity on their financing solutions and overall project returns while seeing relatively positive end market demand. Finally, in infrastructure, the Infrastructure Investment and Jobs Act continues to provide a strong tailwind for the market, as well as good spending support visibility for state DOTs over the next 3 to 4 years. There is strong demand for our expansion joint systems and structural bearing solutions used for bridge applications, as well as compression joint sealants and coatings for pavement applications. Management expects end market demand to keep pace for the rest of 2023 and continue beyond this year. So to summarize, we delivered a strong second quarter and first half by executing our key initiatives and staying focused on delivering for our customers. Given our performance to date and our assumption that end markets will evolve as expected, we are raising our earnings guidance for the year, which we’ll discuss in a few moments. Now let’s turn to Slide 4, and I’ll give you an update on the solar module supply. As I mentioned, the solar panel supply is improving as more module suppliers gradually come up the UFLPA enforcement learning curve. Additional panel suppliers beyond the Tier 1 suppliers are now fully engaged with the U.S. Customs and Border Protection Agency learning the necessary requirements and steps for consistent importation success. However, the industry needs to see more progress with this process to effectively support current and future demand in the U.S. market. We believe the flow of imported panels will improve and be more consistent for our customers in the second half and generate positive momentum as we enter 2024. Additionally, the industry continues to watch for the Department of Commerce’s final ruling on antidumping and countervailing duties, which is now expected sometime in August. It is important to note that the DOC’s preliminary ruling found 4 of the 8 panel suppliers based in Southeast Asia were not circumventing duties or dumping, and these suppliers can continue to export to the U.S. without penalty. Also, module suppliers with non-China wafer supply are not subject to duties either. The administration’s executive order instructing the DOC to waive tariffs on all modules exported from Southeast Asia for 2 years will continue through June 2024 and may be reevaluated at that time. With that, let me turn it over to Tim for a review of our financial results.

Tim Murphy, CFO

Thanks, Bill, and good morning, everyone. I’ll take you through our consolidated and segment results, starting on Slide 5. Adjusted net sales were flat at $364 million, with organic growth in residential and infrastructure and the acquisition of Quality Aluminum Products offsetting slower sales in the renewables and AgTech segments. Overall, sales were in line with expectations going into the quarter and our first half sales results are also consistent with the full-year sales plan. Backlog at quarter end was $412 million, up 1% versus the second quarter of 2022 and up 15% sequentially as the pace of business accelerated through the first half of the year as expected. Adjusted operating income and adjusted EBITDA dollars each increased 18% in the second quarter, with adjusted EPS up 23%. Margin improvement in the quarter was driven by strong execution, price-cost alignment in all segments, solid field operations, implementation of additional 80/20 initiatives, along with a favorable business and product mix. Weighted average shares outstanding decreased 6% for the second quarter to 30.7 million shares in the second quarter. I’ll review our share repurchase program in a moment. Now let’s review each segment starting with Slide 6, the Renewable segment. The decline in sales was driven by schedule changes, which impacted the timing of revenue recognition of active projects during the quarter. Scheduled changes were mainly related to module supply and local permitting delays. The permitting process is expected to improve as local government offices ramp capacity to meet increasing demand. The pace of new order and contracting activity continued to accelerate, and new bookings more than doubled in the quarter. As a result, backlog increased 17% sequentially and is up 6% year-over-year. As a reminder, our backlog consists only of signed contracts with deposits. We do not include purchase orders without a signed contract and deposit, MSAs without specific work orders, or global agreements with customers in our new bookings or backlog. Segment profitability improved with adjusted operating and EBITDA margins of 11.7% and 14.8%, respectively, increasing 470 and 550 basis points versus the prior year. Our team executed well across the business, improving supply chain, material cost reduction, field operations, and price-cost alignment. Sequentially, margin improved 790 and 700 basis points, respectively. We expect to deliver improved sales and margin performance in the second half of the year, assuming module supply improves further and the permitting process capacity continues to accelerate. Let’s move to Slide 7 to review our Residential segment. Segment sales increased 14% versus the prior year, with organic contributing over 1% and the acquisition of Quality Aluminum Products providing the remainder. Organic growth was driven by participation gains across the business and contributions from new customers, which more than offset the impact of prior quarter’s market price adjustments in response to decreasing commodity prices and some remaining channel inventory right-sizing. Quality Aluminum Products' performance delivered to our expectations. The residential end markets have returned to normal seasonality and are building expected volumes in the second and third quarters. Channel inventory destocking appears to be complete and demand remains solid in our end markets. We continue to see opportunities to successfully gain additional market participation in 2023 as we have in recent years. Adjusted operating EBITDA margins of 19.3% and 20.5%, respectively, expanded 80 and 90 basis points as volume improved from last year, price-cost was better aligned, we implemented additional 80/20 initiatives, and the product line mix is favorable. We expect these items to drive continued strength in segment margins during the second half of the year. QAP's market performance was in line with expectations and continues to improve profitability towards Gibraltar levels as the integration proceeds. Additionally, after quarter end, we completed the acquisition of a small $8.5 million revenue Utah-based building accessories manufacturing distributor for $10.4 million, a little less than 6x 2022 EBITDA. This business will improve our market coverage and service levels in the Northwest region, reduce logistics costs supporting the region, and utilize an asset-light operating model that we may also deploy to drive participation in other adjacent markets. We also continue to invest in and implement a common ERP system for the Residential segment. This common system will provide operating efficiency, speed, agility, and scalability for more profitable growth. Let’s move to Slide 8 to review our AgTech segment. Adjusted net sales decreased 16.1% as the commercial business experienced customer delays in project starts. New orders in the Produce business helped increase backlog 16.2% sequentially, which is expected to drive improving sales in the second half of 2023. The project pipeline and growth activity in this business remains robust. Segment adjusted operating EBITDA margin of 9.5% and 12.9%, respectively, is an improvement of 280 and 350 basis points driven by 80/20 actions, supply chain optimization initiatives, and improvements in project management systems. We continue to expect margins to strengthen as volume improves. The exit of the processing equipment business resulted in a GAAP operating loss in the segment during the quarter, and liquidation is essentially complete with only nominal costs remaining. Let’s move to Slide 9, which covers our Infrastructure segment. Segment sales increased 12.6% driven by strong demand, participation gains, and the positive impact of the Infrastructure Investment and Jobs Act. Momentum on orders continues with backlog increasing 46% year-over-year as state departments of transportation access federal funding and strong demand persists in both fabricated and non-fabricated product lines. This business performed very well during the first half of the year, and we expect continued strength for the remainder of the year. Adjusted operating income doubled, and adjusted operating and EBITDA margins of 24.1% and 27.6%, respectively, improved 1,070 and 1,030 basis points driven by execution, 80/20 productivity, supply chain efficiency, and product line mix. This team is executing very well, and we expect continued strength and profitability for the remainder of the year. Let’s move to Slide 10 to discuss our balance sheet and cash flow. At June 30, we had $384 million available on our revolver and cash on hand of $19 million. During the quarter, we generated $76 million in cash from operations through a combination of margin improvement and $33 million generated from reductions in working capital. We collected cash from inventory reductions and benefited from increases in accounts payable as purchase activity normalized and other liabilities as project-related deposits and billings accelerated, with accounts receivable rising on increased sales. As a result, our free cash flow generation during the second quarter was an exceptionally strong 20% of sales. Free cash flow in the first half of the year benefited from an approximately $40 million reduction in our investment in working capital. While we expect continued contribution of cash flow from margin expansion, the impact of working capital improvements is not expected to be significant in the second half of the year. We used cash generated, along with cash on hand to pay down $40 million on our revolver during the quarter. At quarter end, we had $12 million outstanding on our revolver, and net leverage is $0. As I mentioned earlier, at the beginning of July, we invested approximately $10 million in a Utah-based building accessories business. Given our results to date, we’re confident we can drive continued strength in our operating cash generation on stronger profitability in 2023 with careful working capital management and continue to target free cash flow in excess of 10% of sales for the year. We continue to expect to use generated cash flow to repay outstanding borrowings, fund investments in organic and inorganic growth, along with our opportunistic stock repurchases, supplemented as needed by the use of our revolver depending on the timing of any M&A or repurchases. Let’s move to Slide 11 to update you on our share repurchase program. During the second quarter, we repurchased approximately 368,000 shares with a market value of $17.8 million or an average price of $48.40. We funded this repurchase through operating cash flow. From the inception of the buyback to the end of the second quarter, we expended approximately 56% of our $200 million authorization. At quarter end, we had 30.4 million shares outstanding with the weighted average shares outstanding of 30.7 million during the second quarter. I’ll turn the call back to Bill.

Bill Bosway, CEO

Thanks, Tim. Let’s move to Slide 12 to review our 2023 strategy and priorities. At the midpoint of this year, we have better clarity regarding our end markets. I think we’re executing relatively well, and we are confident in raising our outlook for 2023. Our priorities and focus are unchanged, and we will continue with our 5 key initiatives. First, drive growth, quality of earnings, margin improvement, and strong cash performance; secondly, execute 80/20 initiatives and accelerate our participation initiatives. Third, stay the course of our investments in our digital transformation. Fourth, continue to strengthen the organization, add experience and competency, and also continue to optimize the operating structure. And fifth, conduct business in the right and responsible way with discipline and focus. Now let’s move to Slide 13 to review our revised 2023 guidance. Given our first half results and current outlook for our end markets, we expect to deliver a strong second half of the year. Consequently, we are increasing our full-year guidance as follows: Consolidated net sales range between $1.36 billion to $1.41 billion, compared to $1.38 billion in 2022. This is unchanged from our prior outlook. We expect GAAP operating margin to expand to between 11.1% and 11.3%, up approximately 12% versus prior guidance. Adjusted operating margin expansion will range between 12.3% and 12.5%, up approximately 11% versus prior guidance. GAAP EPS will range between $3.46 and $3.66, up approximately 13% versus prior guidance, and adjusted EPS will range between $3.90 and $4.10, up approximately 12% versus prior guidance. Free cash flow as a percent of net sales will remain in excess of 10% compared to 6% in 2022. We delivered a relatively strong first half, and we look forward to a good second half as well. Our team is focused on the things that matter most. Coupled with ongoing execution and 80/20 momentum, we are confident we will continue to deliver positive results. Finally, I am grateful to everyone on the Gibraltar team for the progress that we’ve made and also the opportunities we’ve identified going forward. Now let’s open the call up and we’ll take your questions.

Operator, Operator

Our first question comes from Dan Moore with CJS Securities.

Pete Lukas, Analyst

It’s Pete Lukas for Dan. Congratulations on a great quarter. Just wanted to start with Residential. You touched on it in your prepared remarks, talking about volumes improving and margins improving in the second half. Just, I guess, in terms of remodel and repair, how is that holding up more broadly? And what are your expectations for continued participation gains over the next 12 to 24 months? How do you think about that? And also, you mentioned M&A in the space. How do you think about that going forward?

Bill Bosway, CEO

Okay. Pete, we’ll break that down a little bit. So first and foremost, the industry has gone through this change, getting back to seasonality. So that is playing out like we thought. So Q2 and Q3 are back to the highest quarters. The volume is increasing commensurate with that. I think the other thing that was interesting when you started to hear rumblings of recession back last year, a lot of folks in the industry started to slow down and adjust balance sheets, probably overcorrecting relative to what end market demand was really doing. As we got into the season, we started to see a little bit of that restocking come back into play as well. So I think that’s going to continue carrying forward as we move into the rest of the year. On the front of when you think about remodel and repair, we’re really more focused on repair as opposed to remodel with what we do in residential, and that’s been relatively steady from our point of sale results, where we see every week what our products are selling out to end customers. That really has stayed positive. It came down, as I mentioned in our remarks compared to the previous year as the industry shifted down, and you had a couple of headwinds with market pricing coming down. But in general, demand has stayed relatively solid, and we expect that to continue going forward this year. Regarding participation gains, it’s just a strategy we’ve employed over the last four years of trying to increase our service levels and be agile and responsive to our customers, expand into some geographies that we traditionally haven’t been in, as well as invest in resources where we didn’t have presence. As a result, it’s continuously presented us with opportunities. We’re trying to act swiftly and be that supplier of choice. We still feel really good about the opportunities ahead of us on a participation front.

Pete Lukas, Analyst

And then shifting to AgTech. You kind of touched on it in the prepared remarks. And sorry, if I missed some of it here. But in terms of when would you expect recent growth in the pipeline backlog to translate into faster growth just over the next, call it, 12 months? I know you talked about improving sales in the second half and some projects coming on then in terms of the first phase. But how do we think about that?

Bill Bosway, CEO

Yes. The project I referenced in the remarks that we just signed will actually start generating revenue in the third quarter and into the fourth quarter and carry into next year. It really depends on the size of these projects. This is a relatively large one. Once they are signed, they tend to start having an impact for us relatively soon, typically the next quarter or so as things ramp up. As the backlog continues to build, you’ll start seeing more of a steady stream of growth come from that backlog on a consistent basis in subsequent quarters in front of us.

Pete Lukas, Analyst

And last one for me on renewables. Margins have historically been quite lumpy. What are the keys to driving margin expansion going forward? Is it the module supply? Or how do we think about that?

Bill Bosway, CEO

Yes. I think the industry has been really lumpy the last 2.5 years with all these trade issues that we’ve been dealing with. I think as some of this settles into a consistent pattern, it gives everybody a chance to operate more consistently. From our perspective, as volume gets a little bit more predictable, that’s always helpful. But really where we’ve been focused is trying to find ways to improve and challenge some of the paradigms around how we traditionally operate the business. I think that’s what’s paying off for us now. For us to generate EBITDA margins close to 15% on lower volume gives you some indication of the operating performance changes that we’ve been able to make. We don’t want to be volume-dependent on margins; we would like that to be incremental as the volume comes back. As panel supply becomes more consistent, that’s the thing that matters most. That will help us be more consistent as well and continue to grow our margins. The permitting process, we mentioned, is really related to the increasing demand that’s come back online for a lot of local government offices; it has created a backlog of permits that need to be processed after a two-year hiatus of much slower demand. So it’s just about building that capacity again, but it’s not a structural issue per se.

Operator, Operator

Our next question comes from the line of Alex Hanneman with Sidoti & Company.

Unidentified Analyst, Analyst

This is Alex Hanneman on for Julio Romero. Congrats on a nice quarter. My first question is on renewables. Could you speak to the pace of activity and bookings you saw during the quarter? And was that trending upward as you ended the quarter?

Bill Bosway, CEO

Yes. Good question. If you recall from our last quarter, our bookings coming out in Q1 were substantially better than we thought they would be going into the quarter. We were up sequentially almost 100% and getting close to getting our bookings and backlog ahead of actual last year. In the second quarter, we were up off of that strong quarter, up another 17%. Our sequential bookings put us over the top on a year-over-year basis, which was, from our perspective, really positive because it suggests the industry might have hit the bottom and is now starting to recover. In the second quarter, we’re seeing year-over-year backlog growth, and therefore, I think that will translate into growth getting back on plan for the industry as well as for our business. We see that momentum turning into the third quarter as well.

Unidentified Analyst, Analyst

Very helpful. I have two more questions. The second on residential. Could you talk about where we are in terms of price costs? Would you say that’s complete or close to complete?

Bill Bosway, CEO

Yes, I think it is. We had said, if I recall, back in Q3 of last year, that Q4 and Q1 of this year would be correction quarters for the industry as commodity prices fell swiftly. There was a lot of inventory on hand for everybody in the industry due to supply chain challenges over the previous two years, and it took about two quarters for that inventory to flush itself out and for new pricing to align with better input costs. I think we’ve done a good job managing that, and we said we would flip the tide in Q2, and we did generate better margins year-over-year in Q2. So while I wouldn’t say it’s 100% complete, we’ve positioned ourselves much better in Q2 leading into the rest of the year. A lot of hard work, but the team has done a great job getting us to this position.

Unidentified Analyst, Analyst

Got it. And last question from me is on infrastructure. The margin that you posted there was pretty impressive. In the press release, you noted execution 80-20 productivity, supply chain, and product mix as being the main drivers. Could you help rank those or kind of help us understand which is the most significant there?

Bill Bosway, CEO

Yes. Honestly, it’s really relatively equivalent across the board, and it’s not something new. The team has been making progress on the margin front and the growth front really over the last three years. We mentioned last year that the build would start to be impactful towards the end of ’22 and help us start accelerating into 2023, which has been the case on the top line, and we’re pleased with the backlog increasing significantly, etc. The margin story has been a combination of 80/20, with significant work on product line simplification and customer simplification. We’ve also made investments in some of our processes and equipment that have made us much more productive and reduced our costs. Additionally, as we’ve broken into some new opportunities, we’ve been able to mix in higher-margin products while making those products higher margin through all the 80/20 work and productivity initiatives. So it has been a multifaceted journey towards getting the business to its current success, which has been ongoing for the last three years, not just something unique to this quarter.

Unidentified Analyst, Analyst

And one quick follow-up. How do you expect that margin to trend into the third and fourth quarters?

Bill Bosway, CEO

Well, the business has performed well. I think, like some of our other businesses, you’ll see some differences as we get into the later parts of the year; there’s a little bit of seasonality there, but we continue to expect to see strong margin performance.

Operator, Operator

Our next question comes from Walter Liptak with Seaport Global Securities.

Walter Liptak, Analyst

And nice work on the margins. Congratulations. So that last question, which segment were you guys referring to? I missed that.

Bill Bosway, CEO

Infrastructure. The combination of all that has been driving the journey of margin improvement and in this case, growth as well.

Walter Liptak, Analyst

Yes, that’s great. Okay. Yes. So maybe in a similar way, renewables with the margin improvement, are these sustainable, you think, in the back half of the year with a better kind of fundamental supply chain?

Bill Bosway, CEO

Yes. We think so. I would point to Q3 and Q4 of last year; on lower volume, we ran margins very similar to what we just posted in the second quarter, actually maybe a little bit stronger. As volume returns and starts to become more consistent, I think we should expect these margins to continue and improve as well.

Walter Liptak, Analyst

Okay. All right. Great. And maybe just a couple of follow-ups here. I thought I heard you say that you’re going to implement an ERP system in Residential.

Bill Bosway, CEO

Yes. We actually started on that journey four years ago. For context, four years ago, we began this journey with our renewables business as we integrated across the businesses; we needed a single ERP system. We did the same for the AgTech business and launched the process over a year ago with our residential business. We’re in the process of putting our second one in place, and we hope to complete the group by the end of next year. Each of our large segments now operates on a common system. This journey has been critical for us to scale and reach the next level of performance. It’s a necessary investment we've pursued over the last four years, enabling us for future opportunities, including potential advanced technologies.

Walter Liptak, Analyst

Okay. Great. I don’t remember that there’s any disruption. So you guys must be good at it.

Bill Bosway, CEO

Yes, we’ve been pretty cautious about this. It requires a lot of change management and involves many people, obviously. Effectively, mapping every process and piece of data flow that impacts your business from quote to cash takes time. If we get that right, implementation inherently becomes much easier and more effective. We’re moving through the process carefully, trying to avoid disruption, particularly amid the chaotic macro environment of the last four years. However, we believe the foundation we are establishing will allow us to engage our business going forward much more efficiently.

Walter Liptak, Analyst

Okay. Great. And then maybe the last one for me is, I wonder if you could just give us some more details about the deal that you got in AgTech. I think you said it was $30 million, and it was relatively small. That sounds like a pretty good deal to me. I wonder how much bigger is the Phase II portion to it. Is this something where you can keep growing with that customer? How should we think about future orders?

Bill Bosway, CEO

Yes. This is one of our long-standing customers. They’re expanding and adding capacity around this product, which they’ve been growing in other facilities we’ve built for them in the past. That demand affects what consumers find in their supermarkets. This will be a large site, potentially over 50 acres under roof growing different types of fruits and vegetables. Projects are typically done in phases. We’ll perform the civil work for the entire facility, start with Phase I, then proceed to Phase II, which, in this case, is actually larger than the first. As we complete the first phase, the second will move into final design, and then we'll commence on that. It should significantly bolster our offerings next year, depending on the completion timing of the first phase.

Operator, Operator

Thank you. Ladies and gentlemen, that concludes our question-and-answer session. I’ll turn the floor back to Mr. Bosway for any final comments.

Bill Bosway, CEO

I want to thank everyone again for joining us today. Coming up, we expect to present at the Seaport Global Summer Conference in August and the Sidoti Fall Conference in September as well as a number of other marketing activities. We look forward to updating you on our progress when we report our third-quarter results as well. Thank you, and have a great day.

Operator, Operator

Thank you. This concludes today’s conference call. You may disconnect your lines at this time. Thank you for your participation.