Earnings Call Transcript - TWI Q2 2022

Operator, Operator

Good morning, ladies and gentlemen. And welcome to Titan International, Inc. Second Quarter 2022 Earnings Conference Call. At this time, all participants have been placed on listen-only mode and we will open the floor for your questions and comments after the presentation. It is now my pleasure to turn the floor over to Todd Shoot, Senior Vice President, Investor Relations and Treasurer for Titan. Mr. Shoot, the floor is yours.

Todd Shoot, Senior VP, Investor Relations and Treasurer

Thank you, Elliot. Good morning. And welcome everyone to our second quarter 2022 earnings call. Joining me on the call today are Paul Reitz; Titan’s President and CEO; and David Martin, Titan’s Senior Vice President and CFO. Just a reminder that the results we are about to review were presented in the earnings release issued yesterday, along with our Form 10-Q that was also filed with the Securities and Exchange Commission yesterday. During this call, we will be discussing certain forward-looking information, including the company’s plans and projections for the future that involve risks, uncertainties, and assumptions that could cause actual results to differ materially from the forward-looking information. Additional information concerning factors that, either individually or in the aggregate, could cause actual results to differ materially from these forward-looking statements can be found within the Safe Harbor statement included in the earnings release attached to the company’s Form 8-K filed earlier, as well as our latest Form 10-K and Forms 10-Q, all of which have been filed with the SEC. Today’s remarks may refer to non-GAAP financial measures, which are intended to supplement, but not be a substitute for, the most directly comparable GAAP measures. The second quarter earnings release is available on our website, and a replay of this presentation will be available soon after the call within the Investor Relations section on our website. A copy of today’s call transcript will be made available on the Investor site afterwards as well. I would now like to turn the call over to Paul.

Paul Reitz, President and CEO

Thanks, Todd, and good morning. As a reminder, we updated our expectations for 2022 in mid-June. At that point, that was a reflection of the momentum we saw in our business continuing in a positive direction, and I have to say our Q2 results certainly did not disappoint on that front. This quarter Titan had sales of $573 million, up 31% from last year, with a strong adjusted EBITDA of $82 million, which compares to $37 million last year. I think we also did a good job of translating the earnings into cash flow, with our free cash flow coming in at $56 million for this quarter. As indicated with updates to our 2022 forecasts and also with our Q2 results today, we feel good about our business, our end markets, and really the overall performance level of the Titan team. Our Titan team has done a very good job adjusting to the challenges of the past few years and our results clearly have supported that. We have a strong foundation in place with our people, our products, and our production footprint that is well-connected to our customers. Combined with a management team that’s going to continue running hard, we feel good about the direction of where the company is going. David will share more about the financial information and I’m going to switch gears now to the market landscape. In simple terms, our position remains bullish. There are a number of positive aspects that support this both within Titan and externally in the end markets, aligning well for 2022 and even beyond. Our press release issued yesterday afternoon shows results and updated guidance that illustrates that belief. Despite some recent noise around agriculture and construction, the outlook looks good for the future. The Farmer Sentiment Index and Ag Capital Spending Index have slipped in recent weeks, primarily due to corn and soybean commodity prices dropping from record highs, in conjunction with input cost inflation and OEM supply chain concerns impacting sentiment. However, while these statements may be accurate, they do not illustrate the complete picture. Farmers are clearly going to make a lot of money this year, and indications from the USDA suggest that will continue in the coming years. The rising input costs are not going to seriously impact farmer income, which is expected to compare favorably to historical figures. Additionally, farmer balance sheets are in good order, with ongoing government support in the Ag sector globally. The primary grains' global supply/demand economics look favorable not just for this year, but into the future as well, supporting elevated commodity prices and strong farmer income. The combination of these economic factors and an aging Ag fleet that needs updating, especially to leverage improved technologies, will continue to drive consistent demand for large Ag equipment. We expect strong aftermarket demand reflecting the needs for replacement tires amidst shortages and constrained OEM delivery due to production challenges. This creates a strong demand cycle for large Ag. Now, shifting to our Earthmoving and Construction segment, over 35% of our business, we saw excellent performance from ITM, driven by solid OEM demand in all major geographies and good growth in our aftermarket business. The outlook looks promising due to a strong order book, and we also see continued growth in mining replacement parts supported by production activity. Infrastructure investments expected to kick in will provide further backing for demand. Similar to Ag, production pressures at OEMs to meet current orders create a longer demand cycle. To wrap things up, our expectations for 2022 remain strong, with anticipated topline and bottomline expansion relative to prior year. We have consistently demonstrated our ability to navigate and adapt to challenges. Most importantly, our confidence in the quality products our people build around the world remains high. Given our strong Q2 performance and current visibility into the second half, we now expect full-year sales of around $2.2 billion and have increased our adjusted EBITDA target to be between $240 million and $250 million, along with improved free cash flow performance expected in the range of $90 million to $100 million. With that, I’d now like to turn the call over to David.

David Martin, Senior VP and CFO

Thanks, Paul, and good morning to everyone on the call today. The momentum we have seen in our business is significant. Our sales remain robust, and our margin performance was noteworthy along with cash flow meeting our expectations. Here are a few key stats for this quarter’s performance. We achieved our eighth consecutive quarter of sequential sales growth, marking the strongest sales quarter since Q2 of 2013. Net sales grew 3% sequentially from Q1 and 31% from Q2 last year. Keep in mind, we sold the Australian business at the end of March, which had a 2% impact on sales this quarter. Our gross profit grew by 78% from last year, and our margin reached 19%. Our adjusted EBITDA was $82 million, which increased by $25 million from last quarter and $45 million from Q2 last year. On a trailing 12-month basis, adjusted EBITDA now stands at $210 million. Our cash balances increased this quarter to $117 million, complemented by strong operating and free cash flow. Free cash flow for the quarter was $56 million, which gives us a significant boost for this period. Our net debt decreased significantly to $368 million, down from $424 million last quarter. Our debt leverage now stands at 1.8 times adjusted EBITDA on a trailing 12-month basis, attributed to improved profitability and strong working capital management. Now, I’d like to address margin performance in the second quarter and throughout the year. This is a testament to our team's strong efforts in managing supply chain, production scheduling, logistics, and sales management amidst inflationary pressures. Every business unit across all regions is performing well with no exceptions. Paul provided a solid overview of the current market conditions and outlook. Now, let’s discuss performance at the segment level, starting with Agriculture. Our Agricultural segment's net sales accounted for about 56% of total sales this quarter, reaching $319 million, which is an increase of $87 million from Q2 last year and nearly $9 million sequentially from Q1. We had robust growth in both aftermarket and OE this quarter, balanced by healthy production. We continued to see growth influenced by volume and the impact of higher pricing reflecting raw material costs and inflation. Currency devaluation impacted sales by 3% in the quarter, similar to the first half. Our Agricultural segment gross profit in Q2 was $62 million, up from $35 million in the prior year, illustrating a 75% year-over-year improvement. The gross margins for Ag in Q2 were 19%, an increase from 15% in Q2 last year and 15.5% last quarter. Overall, our strong gross profit margin growth reflects improved efficiencies across our production facilities, coupled with favorable pricing and product mix, particularly in LSW and other new product lines in the U.S. Our Earthmoving and Construction segment also experienced a solid quarter, with overall net sales in EMC growing by $34 million or 19% from Q2 last year, which is also a sequential improvement of $9 million or 4.5% from Q1. All major geographies experienced year-over-year growth during the quarter, with the largest growth coming from ITM's undercarriage business which grew 20% from Q2 last year, marking its strongest revenue quarter in history. Gross profit within Earthmoving and Construction for Q2 was $36 million, reflecting a $14 million or 63% improvement from last year. The gross profit margin in the EMC segment was significantly better at 17% compared to 13% the prior year, driven largely from increased sales in ITM undercarriage. The Consumer segment saw Q2 net sales up 44%, amounting to $13.5 million compared to Q2 last year. Our specialty product growth initiatives, particularly our custom mixing of rubber stock in the U.S., played a key role. The gross profit in the segment for Q2 was notably strong at $11 million, a $7.6 million increase from last year with gross margins improving to 26%. Our SG&A and R&D expenses for Q2 totaled $37 million, representing 66.4% of net sales, down from last year and last quarter. The decrease reflects our variable spending in compensation due to increased sales and profitability. Year-to-date, these expenses have dropped 180 basis points as a percentage of sales compared to last year. In Q2, we recognized $22.5 million related to indirect tax credits in Brazil from a successful legal action regarding non-income indirect taxes charged and paid earlier, which will significantly improve our tax outlook for the future. Although we incurred a recorded tax expense of $90 million in Q2, this was offset by the tax credit recognition. Our cash balance saw improvement this quarter, rising to approximately $117 million from $98 million last quarter. Operating cash flow stood at $67 million, attributed to a healthy increase in our bottom line alongside diligent working capital management despite sequential sales growth. Capital spending was close to $12 million, leading to $56 million in free cash flow for Q2, bringing our year-to-date free cash flow to $29 million. Our expected full-year capital expenditure target remains around $45 million to $50 million, the same as our initial guidance, aligning with investments to enhance efficiencies and select capacity expansions. We anticipate full-year free cash flow in the range of $90 million to $100 million as profitability improves and we maintain a focus on working capital management, evident in the first half of this year. At the end of Q2, our liquid working capital as a percent of annualized sales was 19%, an improvement from Q1 and significantly better than the same time last year. Our management team is committed to cash flow generation, and our concerted efforts have resulted in this favorable outcome. Our debt leverage has improved to 1.8 times trailing 12-month adjusted EBITDA from 2.9 times at year-end, showing marked progress as we paid down $34 million in debt this quarter due to strong free cash flow generation. We're in a strong debt position, poised for future growth. The topic of capital allocation remains a priority as we manage our debt, target CapEx, and assess shareholder returns. While we still have $25 million left on our authorization, it’s not our highest priority currently as we continue to focus on growth opportunities. Our leverage targets are more flexible now, allowing us to pursue favorable growth opportunities while keeping a conservative posture. Finally, our observations suggest favorable market conditions that could lead to sustained demand during the multiyear period ahead due to agriculture and mining sector activity. Our order books remain strong, and our teams are dedicated to understanding market trends and adequately preparing to meet customer needs. Our strong Q2 results illustrate Titan's best quarter in history, with growth promising and our overall outlook stable as we move forward. Thank you for your time, and I’d like to turn the call back to Elliot for questions.

Operator, Operator

Our first question today comes from Steve Ferazani from Sidoti. Your line is open. Please go ahead.

Steve Ferazani, Analyst

Good morning, Paul, David. Appreciate you taking the call. I wanted to ask about guidance coming off of such a strong quarter. I know Q2 is typically seasonally your strongest. Given the demand and backlog last year, you really didn't experience seasonality. The guidance raise seems to indicate some expected weakening or increased seasonality. Can you explain how you're anticipating the second half of the year?

Paul Reitz, President and CEO

We believe that we will maintain our traditional performance and that the second half will be solid, with margins expanding relative to last year.

Steve Ferazani, Analyst

Have you heard any shifts from customers, particularly in Europe, that might caution you? And are you still seeing strong replacement demand in mining?

Paul Reitz, President and CEO

No, we're not. We've conducted an extensive review of our order book, ensuring what we expect for the second half and even into 2023 looks strong. The momentum in our business is still very much in place, and our focus is on fulfilling customer needs.

Steve Ferazani, Analyst

In terms of the Consumer segment, you generated a strong margin this quarter. What’s causing that improvement, and how sustainable is it?

David Martin, Senior VP and CFO

The improvement is quite sustainable as our products with higher margins, especially in rubber mixing in the U.S., are contributing significantly. We expect strong order books to push the second half of the year as well.

Steve Ferazani, Analyst

You mentioned strength in low sidewall tires. Are you seeing greater adoption in the replacement cycle?

Paul Reitz, President and CEO

Absolutely. Our LSW product is gaining momentum due to our outreach and investments. Traction is improving among OEMs and end users as equipment performance enhances. Given these factors, we anticipate continued growth without hesitation.

Steve Ferazani, Analyst

Thanks for the insights.

David Martin, Senior VP and CFO

Thank you.

Kirk Ludtke, Analyst

Hello, everyone.

David Martin, Senior VP and CFO

Good morning.

Paul Reitz, President and CEO

Good morning.

Kirk Ludtke, Analyst

Congratulations on the quarter. Can you discuss what types of working capital are in the second half?

David Martin, Senior VP and CFO

We expect no significant changes in working capital assumptions, and our performance should remain strong without major inventory builds.

Kirk Ludtke, Analyst

I’ve noted inventory turns are significantly faster than historically. Is that due to systems improvements, market demand, or both?

David Martin, Senior VP and CFO

It’s a combination of enhanced analysis in production planning and better execution at inventory management. We are seeing improvements across all our business units.

Kirk Ludtke, Analyst

Are these inventory turns sustainable?

David Martin, Senior VP and CFO

Yes, I firmly believe so.

Paul Reitz, President and CEO

Our improvements aren’t due to complicated strategies. Instead, our team has worked hard to enhance our forecasting systems and customer interactions.

Kirk Ludtke, Analyst

On capital allocation, do you still have $25 million left on authorization?

Paul Reitz, President and CEO

Yes, that’s still available. However, our focus is now on various growth opportunities and ensuring we deliver high returns.

Kirk Ludtke, Analyst

Are your leverage targets still 3-4 times?

Paul Reitz, President and CEO

We are maintaining a conservative stance with flexibility in our debt strategy and we’re in a favorable position now, providing us with numerous opportunities.

Kirk Ludtke, Analyst

What’s your outlook on demand sustainability? How far out are orders extending?

Paul Reitz, President and CEO

We see favorable market conditions driving demand and believe we have a multiyear growth runway. Our order books remain strong, and our focus is on being prepared for customer needs.

Kirk Ludtke, Analyst

Thank you very much.

Operator, Operator

This concludes our question-and-answer session. I would now like to turn the conference back over to Mr. Reitz for closing remarks.

Paul Reitz, President and CEO

I want to thank everyone for their time and attendance this morning. We certainly appreciate the results of our Titan team for the second quarter. I look forward to talking to you again for the update in Q3. Thank you.

Operator, Operator

Thank you for attending today’s presentation. The conference call has now concluded.