Earnings Transcript for PLOW - Q1 Fiscal Year 2023

Operator: Good day, and welcome to the Douglas Dynamics First Quarter 2023 Earnings Conference Call. [Operator Instructions] Please note, today’s event is being recorded. I would now like to turn the conference over to Nathan Elwell, Vice President of Investor Relations. Please go ahead.

Nathan Elwell: Thank you, Rocco. Welcome, everyone, and thank you for joining us on today’s call. Before we begin, I would like to remind you that some of the comments that will be made during this conference call, including answers to your questions, will constitute forward-looking statements. These forward-looking statements are subject to risks that could cause actual results to be materially different. Those risks include, among others, matters that we have described in yesterday’s press release and in our filings with the SEC. Joining me on the call today is Bob McCormick, President and CEO; and Sarah Lauber, EVP and CFO. Bob will provide an overview of our performance, followed by Sarah reviewing our financial results and guidance. After that, we’ll open the call for questions. With that, I’ll hand the call over to Bob. Please go ahead.

Bob McCormick: Thanks, Nathan. Good morning, everyone. The story this quarter is simple. Snowfall was well below the 10-year average overall, and the East Coast saw its lowest snowfall season in decades. This really impacted volumes and attachments and caused our results to come in well below our initial expectations, hence, our pre-release and guidance update a few weeks ago. The silver lining is we have been successfully managing through weather-driven challenges for over 75 years. We know what needs to be done and how to do it. This one snow season doesn’t impact our commitment to reach $3 of EPS in 2025. This is a short-term issue, and we remain on track. As far as other headwinds we are facing are concerned, chassis supply is still inconsistent and unpredictable. OEMs remain cautious when talking about the potential timing of chassis flow improvements, and we aren’t planning on any major increases this year. Overall, I would say component shortages have improved slightly, but it’s product specific. Certain items such as hydraulics are still an issue globally, which impacts our Solutions businesses. However, I am pleased to report that while material price inflation remains a factor in some areas of the business, it has certainly improved when compared to recent years. Also, while labor markets continue to be challenging, we are seeing the benefits of ideas and programs, our amazing HR teams have implemented. Overall, while significant uncertainty still exists, the situation is starting to look brighter over the medium to long term. We have always prided ourselves on our determination and ability to adapt to changing business conditions, and we’ll continue to find creative solutions to these macroeconomic challenges. Now, let’s discuss the segments in detail. Beginning with work truck attachments. The numbers speak for themselves. It was a difficult quarter for attachments, but nothing we haven’t dealt with before. You’ve heard us say this a lot, and many of you have experienced it yourselves, but it really didn’t snow in major cities along the East Coast this winter. Dealer inventories are above the 5-year average at the end of the season, which will impact preseason orders as they restack for next winter season. In talking with our dealers at the NTEA Work Truck Show in March, they are in good financial shape and their sentiment remains generally positive, because like us, they’ve managed through this situation before. Quite frankly, compared to the more atypical headwinds we faced in recent years, the pandemic, chassis and supply chain disruption and rapid inflation, low snowfall was at least a no entity and a temporary one at that. As you would expect, we have already implemented our low snowfall playbook to mitigate the impact. In fact, Mark Van Genderen and his team are taking the low snowfall playbook to another level this year. Safe to say, we’re pleased with the execution and leadership shown by our team under the circumstances, especially the newer team members that haven’t been through a winter like this before. Our team is certainly proving their work during this tough time and the future remains bright. Remember, there are new demand dynamics shifting in our favor in snow and ice control, driven largely by 3 factors

Sarah Lauber: Thanks, Bob. As you saw in our pre-release in mid-April and full earnings release yesterday, our results this quarter came in below our initial expectations. The first quarter typically accounts for only 10% of attachments to annual net sales and is often slightly unprofitable as we level set our costs equally across the year. However, as Bob described, the significantly below average snowfall was the factor impacting results this quarter, which led to pre-release in mid-April and pull down the top end of our guidance range. The 2022 to 2023 snow season created a temporary situation impacting our expected results for 2023. However, we’ve navigated low snowfall years many times before the company’s long history and it doesn’t impact the medium to long-term outlook for the segment. The Solutions segment, on the other hand, turned in a good quarter and continued to make progress improving profitability. With that said, let me walk through the numbers for first quarter 2023. On a consolidated basis, we delivered net sales of $82.5 million and gross profit of $11.3 million compared to net sales of $102.6 million and gross profit of $21.1 million during last year. Those numbers were lower based on lower volumes due to a lack of snow, which were only partially offset by volume and profitability improvement at Solutions. SG&A expenses were $25.1 million, about $1 million higher when compared to $24 million during the first quarter of 2022. The increase was largely due to inflationary pressures with higher labor costs at the top of the list. Interest expense was $2.9 million for the quarter compared to $2.1 million incurred in the same period last year due to interest related to higher borrowings on the revolver. We recorded GAAP net loss of $13.1 million or negative $0.58 per diluted share compared to a GAAP net loss of $3.9 million or negative $0.18 per diluted share in 2022. On an adjusted basis, we generated net loss of $12.5 million or negative $0.55 per diluted share compared to an adjusted net loss of $2.3 million or negative $0.11 per diluted share. Similarly, we generated consolidated adjusted EBITDA of negative $7.4 million compared to positive $4.6 million in the corresponding period of the prior year. Again, the short story on profitability is that it was greatly impacted by lower sales volumes and attachments, partly offset by improvement in execution. Let’s look a little closer into earnings information for the two segments. Work Truck Attachments segment generated net sales of $19.3 million compared to $45.8 million for the first quarter of 2022. Adjusted EBITDA was negative $10.2 million during the first quarter compared to adjusted EBITDA of $3 million recorded in the prior year. As Bob explained, results were impacted by low snowfall in our core markets, which leads to lower volume. The snow season ends at approximately 14% below the 10-year average and our East Coast core market experienced the lowest snowfall season in decades. While the first quarter is the seasonal low point for attachment, this year’s snow was an anomaly, which will likely also impact our preseason orders as dealers respond to elevated inventory levels at the end of the snow season. Without diminishing the impact of the recent weather, the medium to long-term outlook for attachments remains very positive. We are implementing our low snowfall playbook to mitigate the impact wherever possible. This includes curtailing discretionary spending, limiting some hiring practices, including hiring freezes, setting a higher bar for spending approval and putting certain investments temporarily on hold. Turning to Work Truck Solutions where net sales increased 11.4% to $63.3 million from $56.8 million in the same period last year based on higher volumes and improving price realization. Adjusted EBITDA almost doubled this quarter from $1.6 million in the first quarter last year to $2.9 million this quarter. Consequently, adjusted EBITDA margin increased from 2.8% in the first quarter of 2022 to 4.5% this quarter due to higher volume, better price realization and slightly favorable product mix over last year. While our results were still impacted by inefficiencies from chassis and component supply shortages that hindered production, we’re pleased to see the improvements we’ve worked hard for start to show up in our financials. Demand remained positive in Solutions, and that we know the last quarter, we entered the year with record backlog. We still have a ways to go to double-digit EBITDA margin, but I’m pleased to say that demand remains positive, backlog is still at near-record levels and things are moving in the right direction at Solution. Now I’ll turn to the balance sheet and liquidity figures. Net cash used in operating activities for the quarter was negative $56.9 million compared to negative $26 million in the first quarter of 2022. Free cash flow for first quarter of 2023 was negative $59.7 million compared to negative $28.2 million in the same quarter last year. The changes were driven by three things

Operator: Thank you. [Operator Instructions] Today’s first question comes from Tim Wojs with Baird. Please go ahead.

Tim Wojs: Hey, everybody. Good morning.

Bob McCormick: Good morning.

Tim Wojs: Maybe just to start off, maybe bigger picture. Obviously, the snowfall is kind of a near-term issue, and you’re kind of reiterating the – kind of your long-term guidance around getting to $3 per share in 2025. Is there a way maybe relative to ‘23 to kind of bridge that kind of gap of improvement for investors just as they kind of look over the next couple of years, how do you kind of get from ‘23 guidance to 2025?

Sarah Lauber: Sure, absolutely. So $3 in 2025, when we look at kind of what our midpoint of guidance for 2023 is now with the low snowfall. I would say there are four kind of main factors that are the key drivers. I mean, there is many drivers, but four key drivers against the $3. First would be a return to average snowfall. So clearly, that’s impacting our earnings in the year and getting back to average would have an impact. And then there are three things that we control more of, which is new product introductions, our baseline profit improvement, and that’s predominantly – it is across the board at the company, but will really show itself in Solutions on getting to their low teens EBITDA margins. And then price versus cost, we expect to continue to improve.

Tim Wojs: Okay. Okay. Good. And then maybe just on the near-term, could you just give us or maybe remind us a little bit how big the East Coast is as a percentage of the Attachments business? And then any sort of, I guess, feedback or expectation around how you’re thinking the preseason does develop? Because I think historically, you’ve probably seen a little bit more activity in the second quarter than the third quarter. So how would you expect that to kind of phase this year?

Bob McCormick: Yes. Okay. Let me make a few comments here, Jim, and then Sarah can talk about how we think the preseason quarters might be laying out. One thing that we know happens in the snow and ice industry is by the time we get to the fall and a brand new snow season starts, dealers will have adjusted their inventories to historical levels, and it’s kind of like you’re starting the game from scratch, right? So with the elevated inventory levels that we saw during this season, you’re going to see those adjustments come in two different timeframes. We took quite a sizable hit in Q1, okay. So, that’s already an indicator of dealers lowering their orders in Q1 to start balancing out their inventories. We expect to take another hit, if you will, during the pre-season order period so that by the time we get to the end of Q3 and into Q4, dealer inventories are back where they historically start the season. So, a decent amount of that hit, we already took in Q1, probably another component of it to come by the time of pre-season order period finishes itself. I will let Sarah to expand a little bit more.

Sarah Lauber: Yes. I guess just to talk to the split, we usually talk to pre-season being around 65% of our years of Q2 and Q3. That’s not far off our current expectation. When we look at Q2 versus Q3, we expect that to go back closer to traditional norms. So, 55%, 45% would be the thought process for the year.

Tim Wojs: Okay. And then maybe just the last one. Just how would you describe maybe the sequential improvement over the last three months to six months or just a sequential trends on the chassis side because this is probably – it sounds like there are still constraints, but this is probably the first quarter and maybe 2 years where you haven’t specifically called out chassis constraints, maybe as much as you have, so just maybe an update on kind of the trends and just the delivery opportunity there.

Bob McCormick: Sure. I think the best way to describe the current situation is it’s still not very predictable. We have seen pockets of improvements in certain types of chassis. Not all the chassis that are core to our business, so it’s still fairly choppy. Logic tells you that the situation will continue to improve as the year progresses. As I have said a number of times, I don’t blame the OEMs for not standing up and shouting from the rooftops, you are going to see significant improvement in ‘23. They have got supply chain challenges just like everybody else. The way to think about it for Douglas is it an important component of us reaching our 2025 targets, sure. It’s an element of solutions group maximizing their performance that will happen at some point. But the thing I noted earlier is probably the most important thing to hang your hat on. And that is that while we are waiting for the trend to show improvement over a longer period of time, we are focused on what we can control. We are focused on improving the baseline profitability of our solutions businesses so that when that chassis velocity improves and moves through that higher profit cost model, that’s when you are going to see this thing take off. So, I think it’s wise for us at this point, not to be counting on significant near-term chassis improvement, we will take anything we can get. We do expect it though, we will improve as the year progresses, and we will see what ‘24 and ‘25 bring.

Tim Wojs: Okay. Great. Thanks for the updates and the color.

Operator: Thank you. And our next question today comes from Mike Shlisky with D.A. Davidson. Please go ahead.

David Johnson: Good morning. This is David Johnson on for Mike this morning.

Sarah Lauber: Good morning David.

David Johnson: Good morning. Quick question. Does reducing your near-term earnings outlook change your attitude towards paying and raising the dividend going forward?

Sarah Lauber: Absolutely not, I mean we have prioritized our dividend for many, many years, and we have also weathered low snowfall before, and we have always had the dividend as a priority. So, I don’t see that changing anytime in the near future.

Bob McCormick: Couldn’t agree more.

David Johnson: Great. Then maybe a last one. If for whatever reason in the fourth quarter, the snowfall is very weak. Do you still anticipate you could reach the low end of your guidance range?

Sarah Lauber: Yes. I mean we do our best to have a range that can encompass different outcomes of snowfall. I mean clearly, when you look at the guidance this year, we have had to narrow our guidance sooner than we typically do just because of the first quarter results and the impact on the pre-season. So, our guidance does assume that we have average snowfall in Q4. I think there is ample room in the guidance to account for low snowfall, but clearly we didn’t expect the Q1 impact that we had, so.

David Johnson: Great. Thank you. I will pass it on.

Operator: [Operator Instructions] Our next question comes from Greg Burns with Sidoti & Company. Please go ahead.

Greg Burns: Good morning. When we look at your inventory levels, how should we think about that evolving over the course of this year? And what’s your outlook for cash flow this year, given where the inventory levels are currently at? Thank you.

Sarah Lauber: Yes. So, I will start out with free cash flow. I mean we still have a projection of decent free cash flow for the year, well above the dividend requirement and above last year. When you look at inventory, we are up, call it, $40 million versus a year ago. And I will put that into two main buckets. One being, work-truck attachments inventory increase, that’s 70% of the increase. And then the other 30% is in solutions. When you think about the attachment increase in inventory, it is by and large, attributable to the low snowfall that we experienced in Q4 of last year and Q1 of this year. So, that puts us in a great position for pre-season and navigating through the rest of this year. So, that will naturally work itself back down to more traditional levels. On the other 30%, that’s really related to supply chain, I would say disruption, timing of receipts of both chassis and components, that’s going to take a little bit longer to work through. We have inventory reduction plans in place that get us quite a bit of improvement in the year, but a lot of that will be willing to be based on what the supply chains deal with. In addition, I guess I will just throw out there, the inventory is also more expensive. So, it embedded in that increase as the inflation that we have experienced, which is call it, 5% to 10% of the increase.

Greg Burns: Okay. Thanks. And then when you were talking about your longer term $3 target, you mentioned new product initiatives. Can you maybe just give us an update on some of the ones you have talked about in the last couple of quarters, non-truck attachments, maybe some of the cross-selling opportunities into the solutions business? And then given the current the environment that we are in, does that slow down some of the investments or some of the projects maybe you had planned in terms of new product introductions?

Bob McCormick: Sure. Probably the one that I would focused on most would be the introduction of the pusher plow that we started speaking to last summer. That has been very well received in the marketplace. And even in this below average snowfall environment, we are continuing to like the order pace that we are seeing there, and we expect that to be a very nice contributor to our path, the $3 a share. Now, have we – from a low snowfall playbook perspective, have we temporarily peeled back a little bit of investment in new product development we have. That’s just being good business people in the short-term. Having said that, we have made sure that those temporary spending holds don’t impact our ability for the new product introductions that are key to us reaching $3 a share in 2025, we have to make sure that we are still on track with those things. So, we are pulling some levers. This is a multi-dimensional chess at this point. But rest assured that the key drivers of our longer term success, we are still on track to reach those targets.

Greg Burns: Okay. Great. Thank you.

Operator: Thank you. And ladies and gentlemen, this concludes our question-and-answer session. I would like to turn the conference back over to President and CEO, Bob McCormick. Please go ahead, sir.

Bob McCormick: Thanks Rocco. Thank you for your continued interest in Douglas Dynamics. Let me finish with these brief thoughts. While the weather didn’t help us this past winter, that happens in this business. We pulled our short-term levers to minimize the impact. And as always, we will exit this temporary situation stronger than we entered. We are encouraged by both segments position in the market today and our long-term growth prospects remain intact. The roadmap for the future is in place, and we will continue to execute on our key initiatives as we march towards $3 per share of adjusted EPS in 2025. Thank you and we look forward to seeing all of you soon.

Operator: Thank you. Ladies and gentlemen, this concludes today’s conference call. We thank you all for attending today’s presentation. You may now disconnect your lines and have a wonderful day.