AIMC (2020 - Q4)

Ladies and gentlemen, thank you for standing by, and welcome to the Altra Industrial Motion Q4 2020 Earnings Call. At this time, all participants are in a listen-only mode. After the speakers' presentation, there will be a question-and-answer session. I would now like to hand the conference over to your first speaker today, Ryan Flaim, please begin. Ryan Fla

Thank you. Good morning, everyone, and welcome to the call. To help you follow management's discussion on this call, they will be referencing slides that are posted to the altramotion.com website under Events and Presentations in the Investor Relations section.

Thank you, Ryan. And thank you all for joining us today to review our Q4 and 2020 full year results. What was abundantly clear through the events of 2020 is that our people are our greatest asset and I would like to begin by expressing my sincere thanks to every member of the Altra team. I am incredibly proud of the resilience and agility that you all demonstrated throughout the year as you served our customers, maintain business continuity and delivered exceptional financial results, all while navigating through the unprecedented circumstances we faced. Since the onset of the pandemic, we have remained disciplined in our focus around four top priorities, putting the safety of the Altra team first, managing our operations to minimize customer disruption and ensure continuity of supply for our customers including those responsible for supplying critical components and equipment to help in the fight against COVID-19.

Thank you, Carl. Good morning everyone. Our strong fourth quarter results were highlighted by careful cost management, strong cash flow generation and significant progress de-levering the balance sheet. In addition, we once again demonstrated the resilience of our balanced portfolio of OpCos. Let’s start with a review of our top-line performance in the fourth quarter. Sales were up 2.6% compared with the prior year period. Excluding FX effects, sales grew modestly year-over-year at first in 2020 as price contributed 90 basis points. Foreign exchange rates had a strong positive effect of 230 basis points. Excluding the effects of foreign exchange, net sales for the PTT segments were down 7.6% as key end-markets like oil and gas, mining and metals continued to be very weak. And net sales for the A&S segment were up 8.2%, compared with the same quarter last year driven by strong top-line performance across several end-markets, in particular our ventilator business in the Medical segment. Taking a closer look at our performance by geography, Asia and the rest of the world, once again was a strong performer with revenues up 20.8%, primarily driven by strong sales into the Class 8 truck market in China and the Chinese wind market. In Europe, sales declined 5.7%, while sales in North America declined 4.4%.

Thank you, Christian. Please turn to Slide 12, and as we look ahead to 2021, we have complete confidence that we have the talented people, financial discipline and market strength to drive strong performance, build critical customer relationships, nurture an engaged employee experience and advance our strategic priorities to thrive and grow as a world-class premier industrial company, long after the pandemic is behind us. I will leave you with four reasons we continue to feel extremely positive about the long-term opportunities for Altra. Our efficient cash generative business model continues to prove to be highly resilient; the combination of our legacy PTT businesses with our A&S businesses has continued to prove to be an exceptional strategic move; we expect a benefit from demand across several of our diverse end-markets, particularly as the economy recovers and Altra’s value proposition continues to resonate deeply with our customer base. As always, we are grateful for the ongoing support of our customers, partners and shareholders and I would like to once again thank the Altra team for all that we were able to accomplish together during an extraordinary year. With that, we’ll now open the call up for questions.

Your first question today comes from the line of Jeff Hammond with KeyBanc. Please proceed with your question.

Hey, good morning guys. How are you?

Well. Jeff, how are you?

Good. Good. Just want to go through kind of the EBITDA bridge. It looks like you got kind of nominal growth in the guide. Just wanted to get a sense of what’s built in the guide in terms of how much of that $40 million of cost is coming back? Are there any kind of carryover restructuring or synergy savings that you are building in? And what kind of the underlying business incremental margins you are assuming?

And so, I think, Jeff, there are couple components. Three main components I think. First, about 270 basis points of top-line growth is FX-related in our assumptions and we assume that those incremental sales dollars FX-related have incremental margins of 20%. We currently assume that the $40 million will come back in full and that will be not be able to offset a meaningful amount of that potentially in the neighborhood of $5 million. And then on the incrementals, outside of the $40 million and the FX we assume 35% incremental margins.

Okay. But the term costs are going to all come back this year, right? Because you don’t really have T&E through as much T&E I guess, through the first half?

So, right. We assume that this year about 40% of 2019’s level, expenses will come back and 60% will still be – we are not going to be traveling much in the first half of the year at least. So, the vast majority, outside of travel of cost will come back. When we look at the $40 million, what are the components of the $40 million. This is around $26 million of that is people cost. That includes European government support for sure which I think and retention credits in some foreign jurisdictions that we received to keep people on the payroll. Those will disappear. Furloughs have disappeared. We had, in some jurisdictions where people were asked to take temporary pay cuts. If you add that all up, it’s $26 million. And that will come back next year. The $4 million of medical savings and we assume that those medical savings, people will go back and have surgeries, maybe not all of that $4 million will come back, but right now, the guidance assumes it will. And the remaining $10 million is related to facility cost. Remember, we got some rent concessions for several leased properties. Those have expired. It’s the element of T&E that will come back and then other cost reductions or temporary price concessions we got from service providers and some of our suppliers. That’s the nature of the $40 million and therefore those will come back. There will some be, like I said travel will be the exception we have. We currently assume 40% of travel will come back.

Okay. Great. And then, with your FX assumption, it looks like your core growth is kind of 2% to 4%. Can you just talk about which end-markets you think are going to outgrow or meaningfully outgrow kind of the overall range? Thanks.

So, I’ll kick off and then Carl will give you more color. One of the big headwinds we are facing is the second half of 2021 where between Class 8 trucks demand softening in China given that, what I call a cash flow contest program will expire by the end of June. We are doing that and the strong respirator sales that we had this year, component sales that go into respirators, that is a $31 million top-line headwind in the second half of next year. And that’s about – that’s a meaningful headwind. While the rest of the businesses enjoy a strong second half performance and show some good growth, that’s a headwind where we don’t want in the guidance depending on where you are in that range, we make certain assumptions around that headwind and how much of that we can compensate. And then, color on the markets, Carl will add some other upside.

So the way I think we are looking at 2021, Jeff, is that it’s a transition year. And I thought last year was difficult to kind of predict what was going to happen and give guidance. We did give guidance and I think we came pretty darn close to the guidance that we gave. This year was as difficult, if not more difficult to put together because there is so many variables that are going to influence it. So, are the COVID variants that are out there are they going to have an impact. Is the vaccine roll out going to – are the vaccine is going to work fully and are they – is the roll out globally going to go well. And the tariff exemptions and what kind of relationships are we going to have with China. The semicon industry and the chip shortages that are now impacting the automotive industry. It’s just so many headwinds that we are facing. And on the other side, there is some really good potential tailwinds. Are we going to get an infrastructure build that will drive some demand? Will we start to see CapEx from some of our OEMs? Will that start to occur? Will their customers start to spend CapEx again. We will see the medical industry start to do better. We are expecting to see a delay between when the COVID-related equipment drops off and CapEx in the hospitals and the elective procedures start to come back. We expect to see some delay there. You know what? Interest ratio remain low and have a good impact on people being able to make investments in the future. Material inflation, what’s going to happen with material inflation and we are very good at getting pries to offset material cost increases. But what’s going to happen with material inflation. Some of the later cycle markets, if commodity cost go up, will mining come back quicker than we had anticipated? Oil and gas, the oil price is up now and will that continue to improve. So this is just so many factors. And one other that I like to kind of joke about, but not really is, as it opens up, if you look back after the 1917’s pandemic, you have the roar in 2020s. Are people going to want to go out and celebrate that this is over and travel again, that’s a real wildcard. The expectation is that they won’t, but certainly a possibility. So we think it was just a really difficult year to predict. Now, what markets do we think have the potential to do well next year? We think that the automation space and when that continues, even semicon, I think it was down a little bit for us this quarter, but we think that’s going to come back in the long-term have good growth. If we see capital investment again, things like forklift trucks were relatively weak. That, if people start to invest in their factories again, things like forklift trucks could come back. We’ve seen good order recovery in Europe, relative to the – to where it was midway into the pandemic. We started to see some recovery there. So, I have some optimism, but I think that’s just – there is so many potential headwinds and we are remaining cautious.

Okay. Good color. Thanks, Carl.

Your next question comes from the line of Bryan Blair with Oppenheimer. Please proceed with your question.

Thanks. Good morning, guys.

Good morning, Bryan.

Very good color there. Obviously a lot of moving parts. To help us gauge the – gauge your top-line outlook and what is contemplated in that guide. What are you seeing on an order basis to start the year? How does that relates to the sequential momentum you’ve had throughout the second half? And then, given the end-markets outlook and the moving parts that you walked us through, how should we think about your segments growth relative to that 4% to 6% range consolidated?

Yes. So, when I look at the order trends, I think that the fourth quarter, probably starting in September, we saw the orders pick up and they’ve maintained kind of at that level since then. And into the – into G&A we are in the beginning of February. So, I think the order trend has been pretty stable at a reasonable level and supports our guidance quite well. And so, I think the back half of the year, next year, or this year, the back half of 2021, and the headwinds that Christian mentioned that’s where the uncertainty is and will the order rates pick up if the general industrial economy comes back to more than offset what we are going to see as declines in some of the COVID-related medical equipment, the Class 8 trucks in China where that was stimulated by the Chinese government. So the order trend is pretty solid and stable since that September timeframe.

Yes, and Bryan, if I can add to that, if you look at that order trends that Carl just described, so I would point you to the first quarter. Sequentially, flat to maybe up a little bit which would be even 4% to 5% top-line growth year-over-year and when we come to the second quarter, we have easy comps. So, we expect probably low double-digit growth in that quarter. And then the second half is that one where we have that high degree of uncertainty in our guide that we’ve talked about to the Class 8 truck in China, the medical side of the business. So those are the two big variables and then there is a little bit of wind. And I am in the camp just like Carl where we don’t believe that certainty as we turn to financial forecasting at this point of time, there is still a lot of noise. If you look at continue with an extended lockdowns in Europe and the slow vaccination roll out in Europe, there is still a lot of noise.

Okay. That’s perfectly fair. Carl, you mentioned material inflation.

Yes.

Is there a specific price cost figure that you can cite that’s baked into your current guide?

No, you know the main commodity we procure is copper, where, in a lot of cases we pass that through to our customers through surcharges that goes both ways. After that it’s is probably steel. And then, the majority of what we buy is, our machine components or components that already have some value-add in the processing. And as Carl said, I think in the past, we’ve done a good job in passing through those input cost to our customers.

So, I think in that regard, Bryan, we usually assume that the price increases that we are going to get will offset whatever material cost we see based on the fact that we can react pretty quickly. It takes a little while for our suppliers to push through the price increases to us, it is converted material. So we buy castings, machine castings, with lots of parts, forgings. And so, by the time we get the price increase, we already see it coming and pass the price increase along to offset that. So that’s one of the disciplines we have to have this year is to make sure that we push through the price increases to offset that. And the other big wildcard is to – well, it’s not a wildcard, it’s the wage increases that we need to have pricing to offset the wage increases that we are seeing. Delayed the wage increase last year by six months. So effectively, this year we have, I don’t know, maybe a wage increase in a half that we have to offset.

Okay. Understood. And then, one more just kind of the housekeeping one as we update 2021 modeling, what should we factor in for working capital movement in a base case scenario?

We have tremendous working capital performance in the fourth quarter. We don’t think that we will be able to repeat that. But I would say, $10 million to $15 million of reduction in working capital is what we are targeting.

Got it. Thanks again guys.

Thanks, Bryan.

Your next question comes from the line of Mike Halloran with Baird. Please proceed with your question.

Hey. Good morning, guys.

Hey, Mike.

So, a couple here. One, maybe just some thoughts on supply chain channel inventory levels. I know you said, the supply chain headwinds I think it was wind side, but maybe some more broad commentary there. And then also, where you think channel inventory to stand as we sit here today?

Yes. So the supply chain, that’s one that’s like the whack of all game where, right now Malaysia has got some things shutdown. I think just some things in Taiwan and this is kind of go wherever the disease is impacting some place. We’ll see a particular supplier shutdowns, we just have to keep working those. And in the case in the wind, that was not – that did not impact us. It impacted, there was another supplier into some our OEMs that was unable to keep up with the demand. So, kind of slowed things down a little bit. And I think that’s just going to continue until we get the disease really under control. So we just keep pushing back. India has been an issue with getting parts out of India. I think you’ve seen their logistics are an issue. So the supply chain requires extreme management right now. And our teams are doing a great job taking care of that. And then, the inventory in the channel, we think is in pretty good shape. I think I have said it before that we didn’t see a big build up or cutback in our inventories. Maybe a little bit of a reduction in inventories last year, but not tremendous. So I don’t think there is a big potential pop in demand because of trying to build back inventory in the channel. And our supply – and our ability to supply has gotten so much better as a result of our business system implementations that, I don’t think our channel partners feel like they need to have excess inventory. Our demand has been very consistent and very good. So, I think we are – our supply has been exceptional for them.

Okay. And then, sub 3.2 times net leverage, and then you are going to be below 3, which is in the target range as you get middle of the year. Maybe talk about how you guys are thinking about and when you start pivoting and what cash uses look like? Are this becomes a little more balanced in debt paydown and playing a little more offense and I suppose the related question is, how are you guys preparing for that swing? And are you starting to – just to see what’s in the channel from an M&A perspective or it’s just too early at this point?

So I think that was a huge highlight for us was that with the debt paydown and the de-levering of the balance sheet. I mean, I think you saw, I think, last time we said we thought it would be sub 3.5. So it would be sub 3.2 is a huge accomplishment for us and I think a real highlight. And then, but, what I’ve told everybody is, we are right now working on really portfolio analysis, And what end-markets do we want to go after, what technologies do we want to add to the products that we have and to better serve our customers. And it’s – and that works coming along. And I think by the – certainly by the second half of the year, we will have a very good roadmap as to where we would like to have inorganic growth. Now, whether there is anything that’s actionable is always a question mark. But I think we’ll have that roadmap pretty well detailed by the second half. We’ll have the balance sheet in good shape and certainly by the end of the year, we should be ready to start to move on some acquisitions again and provided that we can find the right partners and find some things that are actionable.

Makes sense. Appreciate it. Thanks.

Thank you, Mike.

Your next question comes from the line of Scott Graham with Rosenblatt. Please proceed with your questions.

Yes. Hi, good morning.

Good morning, Scott.

And I had a couple of questions for you. I was wondering on the conversion of orders into shipments. Has that tightened up, because of demand? Has it spread out little bit, licensed a little bit because of concerns over COVID? Can you maybe kind of characterize what customers are doing?

I would say this from the customers’ standpoint. Their demand has not changed significantly. They have not asked us to do anything either faster or slower than they have in the past. I think what we are starting to see in some areas is, a little bit of a lead time extension from the suppliers. So planning the demand is getting it a little bit more difficult in some areas. It’s not across the board. It’s in some specific areas. But we have seen some extension of lead times from suppliers. And that’s one of the – we’ve just got a plan for that and make sure we can get when we are going to get it and when we are going to be able to assessed by the customers’ demand.

Got it. Thank you. And then, also, the semi side of factory automation and specialty, you said that that was down this quarter. What do you – what your thoughts are?

It’s pretty lumpy for us. And I think I wouldn’t read much into that, Scott. I think we look at semicon and look the expectations are, that’s expected to have growth in the mid-single-digits this year and growth in the mid-single-digits next year and I think when we think about what’s going on to drive that growth, but that’s realistic. So I would just read that as a lumpy business. In each one of our segments, we’ve got so many different segments or markets that we serve there. I am not reading a lot into it.

Okay. Gotcha. I was also trying to maybe – I would like to get at least your comments in the press release, Christian’s comments about this as well, that your guidance is you are kind of starting off the year conservatively which is great and I think understandable. I guess, two questions on that. One would be, what do you need to see to upgrade your guidance? I mean, we know which are your bigger end-markets. I am assuming that an upturn in a couple of those maybe. But maybe that would be one question. But then I would also follow that on by asking this as kind of like counter to that, because you know, when a CEO crosses a transition year, I want to just try to understand what you mean by that, Carl. I do know that there are a lot of moving parts, decisions about cost put backs, timing and all that – get all that. But was – could you mean more towards than that? If there is just like a lot moving parts?

What I meant really was, last year was a extraordinary year, right. With COVID, I think we saw in May our incoming order rate dropped by like 25% then that recovered by the end of the year. And so, this year, I think there is a lot of uncertainty. As you ask what are the drivers and what’s going to make us feel better about the future. Well, one is, if the vaccine roll out starts to go really well and I am way at the bottom of the list. If I can get my vaccine in March, I am going to feel a whole lot better than if I get it in September or October. So that’s one thing. If we start to see CapEx spending from some of our customers and some of the end-markets that our customers serve, then that’s going to make me feel a whole lot better. If we start to see the logistics in the port in LA and then Hong Kong start to free up and start to see stuff moving again whenever we need it, that’s going to make me feel a whole lot better. If we start to see people going back to the hospital and getting elective surgeries, knee replacements and hip replacements and things that drive that elective surgery. If we start to see people get excited about getting out of the house again and traveling and doing some things that are going to drive the general economy, ramping up restaurant activity, just getting the general economy going, then I am going to get excited. So, what I mean is a transition year, those things aren’t certain yet. So, I think we’ve got probably until the back half of the year before we get through some of that uncertainty. So it’s not a transition year for us internally in the company, it’s more of a transition year in the economy in my mind. And then I think, my belief is that 2022 is going to be an awesome year for the industrial world. That’s going to be a blow out. So that’s what I mean by a transition. We were coming out of this 2020 which was awful and just really tough to manage through, I think the stress level of everybody that has been terrible. 2021 is a transition year, where we start to get back to normal life, and 2022 we are off to the races. You are going to have pent-up demand from lots of different industries. So, it’s going to be a super year. So, I think we are right in the – 2021 is a middle year there.

Well. That’s very clear. Thank you. And, as far as with Tracy, as to when do you get your vaccine, Carl and back up you then.

I am not going to try to jump the line. I am going to wait my turn. But if I can get it in March, I’ll take it. Christian, did you want to add something?

The second part of your question, where is it potentially upsides to the guide. So, as I think as Carl referred earlier, potentially, if the medical market recovers faster than we think, in terms of surgical, the need for surgical equipment, if China, the truck market doesn’t deteriorate as we currently assume in the guide in the second half of the year. Turf and garden could have some upside. Wind business could have some upside. Oil and gas, as Carl mentioned, if the oil price stays above $60, maybe we will see we’ve already seen a modest increase in rig comp up. Maybe we will see some more CapEx spend in that area and maintenance spend. It is just too early to pass because it’s all in the second half. That’s pretty far away and so we want to continue to be cautious.

And you’ve known us long enough, Scott, that if mining and oil and gas and Ag and some of those leaders that are heavier duty equipment businesses come back, those are really profitable for us too, so.

Yes. Sure. But it is all for good to you that you are not counting on those. So, hey, thanks a lot for your time.

Okay. Thanks, Scott.

Your next question comes from the line of Joel Tiss with BMO. Please proceed with your question.

Hey guys. How is it going?

Good, Joe. How are you?

All right. There has been a lot of questions about the end-markets and the guidance and all that. And I just wondered, if you can give us a little sense of maybe some of the lessons you learned through 2020 that, how to may be accelerate some of your structural margin changes. And I am not so much thinking about 2021, but maybe 2022, 2023, 2024, 2025 and is it more investments that’s needed to really drive kind of customer connectivity and capabilities in new products? Or is it more about like reducing costs and layers of management and just any little things you’ve learned?

I think, Joel, it’s going to be a mix. I think we’ve talked about the organizational structure of the company and as we mature, how we think we can simplify that some and that will reduce the cost over time. And facility consolidations, we’ve demonstrated those can have a huge impact. So, with those opportunities exists, we will do that. And then I think, the real driver is the work that we are doing on what are the end-markets, and what technologies do we want to go after that are more profitable and have higher growth that are really going to drive the performance of the company. So, in my mind, there is three factors. One is getting the economy to recover and having some help from the top-line leverage that we get, we get great top-line leverage then driving us into the end-markets, and applications that we want – that we think can be more profitable. It’s going to be very similar to what we do today, niche engineered products, and then working on those business simplification projects to take some cost out.

And that leads me to the next question, which is in terms of acquisitions, your balance sheet is pretty well reloaded. And I wondered, are you thinking more sort of like strategic tuck-ins or are more transformational? And really the secret, whatever the part of my question that’s unspoken and not anymore is just that I am trying to gauge like how long you are willing to wait for the right deal? Are you thinking more like second half of 2021 that you will look for smaller things or maybe wait a little bit longer and do bigger transformational? Thank you.

Yes, Joel, I mean, you know the space well enough that there is really good companies that are in the $20 million to $50 million range, which would be nice tuck-ins. And then, there is some that are in the $50 million to $200 million range that would be really nice additions to our business. There is not that many that would be transformational like we did with A&S deal. So that, I think might – ten years. Although that was a pretty effective transaction for the business. So, that was terrific. So I would expect it will probably be on the lower end initially just until we get the balance sheet in even better shape and we nurture some of the pipeline. And then, I think the sweet spot for us is probably going to have $50 million to $250 million range where it’s big enough to make a difference, but not so big that we are taking a huge risk/ And I think if you look back at the deals that we’ve done, they’ve been very much in line with what we already do today. So, I am big believer in getting involved in businesses that you know and understand and if you don’t know and understand it, and the markets don’t overlap, it’s just too much risk. So, I think that’s probably – we are going to stick to our knitting and probably in that $50 million to $250 million range will be a deal for us.

Okay. Thank you very much.

Thank you.

Thanks.

And there are no further questions left in queue at this time. I turn the call back to the presenters for any closing remarks.

Okay. I just would like to thank everyone for joining us today and we will once again be on the virtual road this quarter and we look forward to engaging with many of you in the months ahead. So, thank you again for your time.

And this concludes today's conference call. Thank you for your participation. You may now disconnect.