Q3 2024 Enerpac Tool Group Corp Earnings Call

Participants

Travis Williams; Director of Investor Relations; Enerpac Tool Group Corp

Paul Sternlieb; President, Chief Executive Officer, Director; Enerpac Tool Group Corp

P. Shannon Burns; Interim Chief Financial Officer; Enerpac Tool Group Corp

Ross Sparenblek; Analyst; William Blair

Tom Hayes; Analyst; CL King & Associates

Steve Silver; Analyst; Argus Research

Presentation

Operator

Ladies and gentlemen, thank you for standing by, and welcome to the Enerpac Tool Group's third quarter fiscal 2024 earnings conference call. As a reminder, this conference is being recorded June 25, 2024. It is now my pleasure to turn the conference over to Travis Williams, Director of Investor Relations. Please go ahead, Mr. Williams.

Travis Williams

Thank you, operator. Good morning, and thank you for joining us for Enerpac Tool Group's third quarter fiscal 2024 earnings call. On the call today to present the company's results are Paul Sternlieb, President and Chief Executive Officer, and Shannon Burns, our Interim Principal Financial Officer. Our slides and a recording of today's call will be available on Enerpac website in the Investors section. Today's call will reference non-GAAP measures. You can find a reconciliation of GAAP to non-GAAP measures in the press release issued yesterday. Our comments will also include forward-looking statements that are subject to business risks that could cause actual results to be materially different. Those risks include matters noted in our latest SEC filings.
Now I will turn it over to Paul.

Paul Sternlieb

Thanks, Travis, and good morning. We continue to be pleased with the strategic progress we made in the quarter, particularly our ability to capture further margin expansion as we enhance operational efficiency and SG&A productivity. While we saw a sequentially slower growth in the third quarter of fiscal 2024, we believe we have continued to outpace the soft general industrial marketplace. Moreover, we demonstrated solid and continued progress toward our long-term financial objectives and the positioning of Enerpac as a premier industrial solutions provider.
Let me turn the call over to Shannon to review our third quarter performance and our refined full year guidance. Then I'll speak about geographic trends our exciting progress on innovation and our continued growth in e-commerce. I will also provide some additional color on our targeted vertical end markets.
Shannon?

P. Shannon Burns

Thanks, Paul. With a more challenging industrial environment and backdrop, Enerpac still delivered modest organic revenue growth in our industrial tool and services business or ITMS. with a 1.8% year-over-year gain in the quarter. Product revenue growth of 1% was impacted by a shortfall in HLT. revenue in the Asia Pacific region. Service revenue, which can fluctuate quarter to quarter based on project timing, was strong and expanded 7%.
As Paul will discuss, our top line performance varied by geographic region. IT&S growth was partially offset by a 14% year-over-year decline at Cortland biomedical as such on an organic basis, which excludes divestitures and the impact of foreign exchange overall sales increased 1.2% year over year. Due to the sale of Cortland industrial in late fiscal 2023. In total, net sales for the company declined 3.8% year over year.
Slide 5 reflects the continued progress we've made in improving operating efficiency and SG&A productivity. In the third quarter, gross margins expanded 200 basis points year-over-year to 51.8%. The improvement was driven by operational benefits related to the Ascend transformation program as well as pricing actions, a favorable sales mix and the disposition of Cortland industrial. Looking forward, we expect to benefit from additional lean initiatives in our manufacturing operations, supply chain rationalization and low-cost country sourcing.
Similarly, we continued to benefit from initiatives that improved SG&A efficiency. Adjusted SG&A expense, which excludes Ascend and other one-time charges for both periods, declined 6% year over year. As a percentage of sales improved 50 basis points to 27.0%. And we believe there are further opportunities for improvement, including additional organizational efficiencies, indirect spending rationalization and further leveraging our shared service center operation.
Turning to slide 6, with both top line growth and continued gains in operating efficiency and SG&A productivity. Adjusted EBITDA increased 5.9% year over year. Adjusted EBITDA margins improved 240 basis points from 24% to 26.4%. On a GAAP basis, diluted earnings per share from continuing operations totaled $0.41 in the quarter. Adjusted EPS increased 21% to $0.47, which benefited from a lower effective tax rate and a lower share count.
In the third quarter of fiscal 2024. Cash provided by operations was $30 million compared to $17 million in the year-ago period. And the improvement was due to higher net earnings, lower Ascend related cash payments and continued improvement in working capital management.
As noted on Slide 7. Year-to-date organic revenue increased 2.8% year over year, with IT&S ahead 3.4%. Adjusted EBITDA is up 13% representing a margin of 25.3%. Year to date, we generated free cash flow of $32 million, an increase of 66% over the year-ago period. Please keep in mind, our fourth quarter is typically our largest cash generation period. As we previously discussed, Enerpac liquidity and balance sheet remained strong at the end of the third quarter.
Net debt was $63 million, resulting in net debt leverage ratio of 0.5 times adjusted EBITDA, total liquidity was approximately $530 million, but we remain focused on a disciplined capital deployment strategy to enhance returns and create shareholder value.
Moving on the guidance, with three quarters of fiscal 2024 now behind us, we have adjusted our full year revenue guidance to reflect new FX assumptions with a roughly $5 million headwind and we tightened the range. We now anticipate organic revenue growth of 2% to 3% and net sales of $585 million to $590 million.
As for adjusted EBITDA, we have narrowed the range and raised the midpoint. We now project full year adjusted EBITDA of $147 million to $150 million compared with the previous guidance of $142 million to $152 million.
The new guidance translates to an adjusted EBITDA margin of 25.1% to 25.4% for the full year. Lastly, we are expecting lower CapEx spending this year and now project CapEx of $8 million to $13 million, down from the previous guidance of $12 million to $17 million. Lower CapEx projection is driven mainly by the timing of our company headquarter relocations, downtown Milwaukee, with a significant portion of the spend now scheduled to fall into the first half of fiscal 2025. All other guidance remains unchanged. With that, let me turn the call back to Paul.

Paul Sternlieb

Thanks, Shannon. Revenue growth across our three regions was mixed. Revenue in the Americas was down in the low single digits that said, we are very encouraged by the early benefit we are seeing from the rollout of our Enerpac commercial excellence, or ECX. program in the Americas. ECX gives us the tools and discipline to track activity with end users and focus on generating a solid pipeline of demand from project-specific opportunities.
On a near-term basis, given the challenging industrial environment and cautious distributor sentiment. We continue to anticipate low single digit revenue growth for the full year in Americas distributor inventory in the region is at expected levels. In the Asia Pacific region year-over-year revenue declined in the low double digits. While we were certainly disappointed in the performance, we continue to believe we can capture outsized growth opportunities in the region.
In the third quarter we experienced softness in the mining sector in Australia, which is one of our larger end markets in the A-Pac region. We also experienced weakness in our Heavy Lifting technology or HLT. product sales, specifically the larger more custom products, we're addressing that issue by upgrading and expanding commercial support and sales coverage in the region. We are also cultivating close relationships with engineering and construction firms to identify and drive specification into large infrastructure projects.
Finally, we are adding new channel partners that drive increased focus on our growth verticals from an inventory perspective in the region, we believe it is at appropriate levels, while distributor sentiment remains cautious.
On a very positive note, we continue to enjoy strong performance in the Emir region with low double digit revenue expansion. The gains were broad-based across end markets. Of note, HLT. had a particularly strong quarter due to success on several large projects as did the service business. We believe distributor channel inventory in the region is at normal levels. As Shannon noted earlier, revenue at Cortland medical declined again in the third quarter. We resumed shipments to the customer that was on hold in the second quarter, and we are running at capacity to replenish that customer's inventory.
On the other hand, we continue to experience softness in demand related to certain surgical procedures utilizing Cortland product. Importantly, this is not a market share related issue for us, but rather driven by end market demand for our customers' products and certain medical applications. That said, we're continuing to invest in the business both to increase capacity and add capabilities that expand the addressable market.
In the third quarter, we completed qualification for another orthopedic product with a planned fourth quarter launch, and we continue to see new opportunities enter the funnel supporting our bullish mid and long-term outlook for Q1. As part of Enerpac four pillar growth strategy. We have targeted four key vertical markets, rail infrastructure, wind and industrial MRO. I'll talk more about two of those today.
On the infrastructure front, we are excited that Enerpac hydraulic solutions have been selected as part of the farm and belt project. This project, which will connect Denmark to Germany, represents the largest global infrastructure project and the longest and most tunnels spanning 11 miles of subsea construction. I encourage you to check out a short video on youtube, about the massive scale of this project. Enerpac hydraulic solutions were selected for a critical aspect of the construction to precisely align the 78 concrete tunnel elements, each weighing 79,000 tons. It's yet another example of our products in mission critical applications. Applying our technology to help customers address complex challenges for safety and reliability are paramount.
Regarding the wind market, we are encouraged by the new US Federal Energy Regulatory Commission rules that overhaul how the electric grid is planned and funded. This change could spur thousands of miles of new high-voltage power lines and make it easier to add more wind and solar energy to the grid, eliminating a barrier to new project development.
And on the product front, one example of Enerpac success is our tower flange alignment tool or TFA. TFA's designed specifically for wind towers are used to mitigate the impact of misalignment of tower sections and solve design and manufacturing errors. Our TFAs have now been widely employed by a major wind turbine manufacturer. And in the third quarter, another major turbine OEM approved usage of Enerpac TFAs because of their compact integrated solution and safety features. We were excited to see that just one day after this approval and the addition to their catalog, we received price increase from all over the world, confirming this as a critical product for the installation of onshore and offshore turbines.
On the innovation front, we continue to enjoy strong market reception to Enerpac innovative new products. In April, we introduced our first battery-operated handheld torque wrench, adding an important product line to Enerpac portfolio. Our entry into this important and growing category includes the rollout of a full range of sizes. Moreover, we've entered the market with clear competitive advantages.
Our battery-operated torque wrenches feature meticulous calibration at 60 distinct points. Far beyond the standard seven points have many competing products and an impressive plus or minus 5% torque accuracy across their entire operational range, but perhaps the most significant differentiator is our tools, ease-of-use. As reflected in our tag line ready set torque. Our products are designed for easy setup in contrast to many competitive tools that can have rigorous configuration requirements and complex features that often make them extremely difficult to operate.
Our array of battery-operated torque wrenches is already ramping well with a broad application across many of our end markets, including the wind segment. At the same time, the products we introduced earlier this fiscal year, including the 100 ton hydraulic block, grid polar the 40 ton hydraulic pin Polarcus and the two new battery-powered portable pumps have been well received by the marketplace.
Overall, we are pleased with the progress on our innovation program and the very positive reception we are seeing from customers.
Finally, as we have discussed, one of Enerpac growth pillars is digital transformation. To date in fiscal 2024, e-commerce revenue is up 35% in the Americas. We continue to see strong return on advertising spend or ROE as from our investments here. We're also benefiting from our outbound targeted advertising for new products and our vertical marketing campaigns in rail and wind. In fact, since launching these digital campaigns, we've generated well over 20 million impressions and nearly 1,000 leads.
In the third quarter we also launched our e-commerce site in Europe and are now live in 18 countries even before promoting through our digital marketing campaign. We've seen good transaction flow from Europe while e-commerce still represents a relatively small portion of our overall sales, the continued strong growth is establishing a meaningful channel. Moreover, the direct connection we gain provides valuable customer insights that we incorporate into our marketing and product innovations.
I'm proud of the ongoing initiatives, including product innovation, e-commerce, new commercial tools and ongoing efficiency gains that continue to fuel Enerpac performance and advance our long-term growth and profitability objectives. And it's our people around the globe that make it happen every day.
I want to express my sincere thanks to our team for all their dedication and hard work in serving our customers every single day.
With that, we'd be happy to take questions.

Question and Answer Session

Operator

Thank you. (Operator Instructions)
Ross Sparenblek, William Blair.

Ross Sparenblek

Good morning, gentlemen.

Paul Sternlieb

Good morning. How are you?

Ross Sparenblek

I'm not too bad. Could we just start off with the price versus volume during the quarter and maybe expectations for an outlook there end of the year?

Paul Sternlieb

Sure. Yes. Thanks for the question. Ross Yes, we had a mix in the quarter. It was a combination of both price and mix for us. Volume is a little bit more challenging as a comparison because as you may know, we sell over 30,000 SKUs. I mean they can range in price from $50 to low millions. So the reality is that in any given year, we don't necessarily sell the same skews with a lot of overlap. Some of them are more common, some are not. So volume is not always a valuable way for us to measure growth because a lot of our skews are very similar and substitutes for each other. So we do talk about both price and mix, but we did have favorable mix in the quarter, which effectively means that we were selling more higher ticket items for the quarter. And I think that is our expectation going forward here in Q4.

Ross Sparenblek

Okay. And then on the new products in that contribution and mix? I mean, is the expectation that these are all going to be accretive? And maybe just help us conceptualize how this relates to like your product vitality index and your overall skew rationalization strategy?

Paul Sternlieb

Yes, sure. So generally speaking, our overall product business, it is margin accretive to the company. And as a general rule of thumb I'd say for the most part, our innovation also tends to be margin accretive because, as I referenced in my remarks, really what we're developing are very differentiated solutions that are really customer back from innovation perspective, identify needs or pain points or problems that we're solving for customers. So these are products with a real market need out there. And obviously, customers are willing to pay at good value for that. So we do see that reflected in the margin profile. And certainly as the volume picks up, we'll see volume leverage from those.
As far as our SKU rationalization goes, I mean we that's an ongoing process. We continue to apply an 80 20 framework to many aspects of this business, including our product lineup as you know, we've taken a number of SKUs out over the last two years. We continue to look at that every single year. And yes, our innovation does add some skews, but I would say that's a relatively small portion in comparison to the roughly 30,000 that we still have in our lineup.

Ross Sparenblek

Okay. That's very helpful. And then just maybe sticking on the on the new products in your second brand launch in the A-Pac region, low double digits potentially decline. You noted Australia mining was weaker. Can you provide an update on how the adoption of that second brand is going?

Paul Sternlieb

Sure. Yes. So as you know, and Asia-Pac growth, one of our key growth pillars, we still have a very firm belief in the opportunity in that region. And we continue to execute on our second brand strategy, utilizing our large app brand, we can see continue to see good traction in terms of distributor sign and sign on and buy-in of the product and good market, I would say, sentiment for our second brand strategy in Asia Pac. So we continue to execute on that despite some of the growth that we're experiencing from that second brand strategy in A-Pac that was really over kind of overweight by the and the impact that we saw from the mining sector in Australia, which is a significant part of our business in that country. And it also just some of the lumpiness, as I referenced on the each up to your heavy lifting technology business.
Having to have that. I mean, again, as I've said, as I referenced in my remarks, we have several key actions underway, addressing those opportunities and really getting after them what we see is more growth potential in the market there.

Ross Sparenblek

And Paul, would you be willing to frame what that growth look like for the second brand in the quarter?

Paul Sternlieb

Yes. I mean, we haven't shared details specifically on the second brand, but you know, it's it's obviously smaller since we're just starting out growing in that region, but we do expect it to be meaningful over time.
As we have said previously, really, the second brand strategy is focused at effectively targeting what we call the mid-tier segment of the market, which essentially is a segment that we have really never meaningfully participated in before with Enerpac is really a premium position brand. And we believe from a dollar perspective that that mid-tier segment of the market is very sizable, could be potentially as large as the premium segment on a dollar basis. So we have, we believe, plenty of room for growth there.

Ross Sparenblek

Thank you guys. I'll hop back in line.

Paul Sternlieb

Thank you.

Operator

Tom Hayes, CL King.

Tom Hayes

Thanks hey good morning Paul. Hey, I was just wondering, could you maybe discuss how you saw your overall business conditions change as the quarter progressed? And were those changes generally in line with your expectations.

Paul Sternlieb

I mean, I think you know, it is. I would say, as a general rule of thumb, our quarters, we tend to finish strong in our quarters. And I think we saw that in Q3. So I would say as per our expectations, I think beyond that within the quarter a month really for us can be fairly lumpy. So I wouldn't read too much more into kind of month over month conditions. But I would say generally speaking, sort of, played out as we expected in the quarter. And again, we went into detail on the call on the remarks around some of the regional dynamics, but we did see kind of softer industrial macro environment.
But I again, would highlight, although that's the environment that we're experiencing and that we have seen and certainly look at other kind of broader industrial peers, our belief is that our Q3 results did outperform the broader market conditions.

Tom Hayes

Okay, great. I know it tends to be be lumpy in nature, but it was it was it done anything really stood out as far as your service revenue? I mean, it was up nicely almost over 7% on a year-over-year basis?

Paul Sternlieb

Yes. I mean, some of it is some certainly a little bit of seasonality, but I would say we've definitely focused on two things. One is, you may recall that last year we talked about applying 80-20 framework and kind of more selectivity to the kind of projects that we undertake in our service business and particularly, I would say, in the Middle East region. And so a fair amount of that's behind us. But I would say probably perhaps even more importantly, we've been kind of actively call to cultivating a fairly differentiated service business and trying to focus on some newer service lines where we've seen good growth year to date. And that's been playing out as we expected as we execute on that part of our strategy on the service business.

Tom Hayes

Okay, great. Maybe shifting gears to the margin front. I know another great job on the quarterly on the gross margin maybe any granularity you can provide on that, you kind of the drivers of that and maybe talk about the sustainability of that rate because you said you had a nice nice run this year.

Paul Sternlieb

Yes, thanks. We're certainly pleased with the progress and I would say effectively ahead of plan. I mean, certainly that's the case with the overall transformation program, essentially a year ahead of plan in terms of the overall impact of the program. And obviously, it has been one key driver and enabler of not only margin, but the growth as well. I think on margin, it really has been driven by multiple aspects. I mean, you have seen gross margin improvement that's been driven by efficiency and productivity initiatives in our in COGS, right, in manufacturing, logistics, distribution, et cetera, as well as some remaining pricing benefit.
And then we continue to see improvement in our overall SG&A, as Shannon referenced on the call from the remarks as well. So I think it really is a mix, which is exactly what we targeted and expected to see. And we do expect to be able to sustain those margins. And frankly, we expect to see that continue to drive additional benefits over time.
I think Shannon mentioned in the remarks we do see several opportunities to drive continued improvement in COGS and frankly, in SG&A and one of the benefits of Ascend, even though it sort of comes to an official close for us as a program at the end of this fiscal is that we have a very substantial active funnel of initiatives that we continue to pursue and not up near, if not nearly all of them have been executed to date. So we have a lot of great things in the pipeline remaining.

P. Shannon Burns

And I just add that looking about that continuous improvement mindset is going to be very important for us going forward and evaluating where those project opportunities are, whether it's low-cost country sourcing, as I referenced or just you know how we can continue to lower our indirect spending through different rationalization projects.

Tom Hayes

Okay. That was great. Appreciate the color. We talked last quarter on channel inventories and I think we call or you guys highlighted that maybe the Americas was a bit above averages and A-Pac was there were pockets of maybe a bit heavy. I was just wondering, kind of where we are as we end the third quarter?

Paul Sternlieb

Yes, I think as we said in the remarks, it is pretty much where we expected inventories to be in effectively relatively normalized levels. I mean that we don't see anything in the data that we have access to that would indicate any concerns from an overall elevated perspective in the channel at this point.

Tom Hayes

Okay. Maybe two more if I could just wanted to ask just a clarification. I think you mentioned, Paul, that you're adding new sales partners was up for the A-Pac region. I missed that part.

Paul Sternlieb

Yes, it is. Yes. So Asia-Pac obviously is part of our growth strategy, multipronged, including the second brand rollout that we talked about earlier. But certainly one key aspect is either upgrading or in some cases, adding additional distribution for coverage gaps that we have in the A-Pac region.

Tom Hayes

Okay. And just lastly, on your new product rollout, especially your battery-powered tools, maybe just on maybe provide some and maybe color on customer reactions because it's usually pretty innovative in nature. Thank you.

Paul Sternlieb

Yes, absolutely, Tom. I mean, we're super pleased with the progress our teams made this the battery torque wrench is the third battery driven product that we've launched in this fiscal year after the launch of our two battery power pumps earlier in the year. And obviously, you talked with a number of customers, both distributors and end users and who have expressed a significant amount of excitement and enthusiasm about these products. I guess bear in mind again, we're focused on a relatively significant differentiation, right? We're not trying to be a me-too player in these spaces. So each of these products, including the battery torque wrench out pretty significant differentiation offerings in the marketplace in our view and the torque wrenches is no different.
So on the call, obviously, I talked about some of the technical aspects, but those technical aspects are very, very important for the end users that utilize the tool, particularly the accuracy of the torque and frankly, the simple nature of the operation of the tool, a lot of the tools in this space can be really complex to offer it surprisingly, you don't just pick it up and press the button. And so in our case, that was a key focus, but we've seen really good receptivity and customer response to the product launches to date.

Tom Hayes

Are those are those fully available now?

Paul Sternlieb

Yes, they are. Yes. So you've buy it through our channel of our distribution partners at this point globally. And certainly we also have available for sale on our e-commerce site, Enerpac.com site.

Tom Hayes

Great. Appreciate the color. Thanks.

Operator

Steve Silver, Argus Research.

Steve Silver

Thanks, operator, and good morning and thanks for taking the questions in terms of the divergence of IT. and S on a regional basis, you've already discussed A-Pac, but on the other end, you had double-digit growth in EMEA. I was just hoping you could discuss a little bit about the drivers of that strength and whether you think that's sustainable?

Paul Sternlieb

Yes. Good morning, Steve. Thanks for the question. Yes, I think and we were very pleased with the continued progress and growth that we saw in the EMEA region, double digit growth on our low double digit growth, I should say and really was very broad-based across end markets and frankly, the overall scope of the business. I think that that gives us increasing confidence that this is something we can continue to sustain. And it's really I think driven by benefiting, I would say by frankly, the power of the brand in the EMEA region and the extremely strong channel partner relationships that we have.
And I would say we've seen really significant success to date and some of our targeted vertical market focus. In fact, I mean, we talked about two of them on the call with the fair wind belt project, the tunnel project in Europe and some of the early success that we've had with our tower flange allignment in the wind sector. Those have both been I would say in an outsized way, obviously driven in the EMEA region, certainly the tunnel and even the tower French alignment tool in wind. So we continue to be pleased with kind of the broad base performance in that region.

Steve Silver

That's helpful. Thanks. And one last if I can, if I can. You've projected, I think it was 6% to 7% organic revenue CAGR growth through fiscal '26 with the softness that you're seeing in the industrial marketplace. Just curious if you have any updated thinking on the prospects for achieving that objective?

Paul Sternlieb

Yes, sure. Steve. So at this point, we've not made any modifications to kind of our longer-term financial framework, given that we're now in our Q4 for fiscal '24, we're certainly in the planning phases as we start planning our budget for fiscal '25 and as we think about issuing guidance on our next earnings call, but at this point, no changes to our outlook from a growth perspective or margin perspective. But again, we're pleased with the progress that we've made and effectively largely ahead of plan, particularly on the margin front.

Steve Silver

Great. Thanks again.

Operator

That concludes our question and answer session. I will now turn the call back over to Paul for some final closing remarks.

Paul Sternlieb

Okay. Well, thanks again for joining us this morning. Please note we will be participating in the Seaport Global Conference on August 21 at the Morgan Stanley annual lagoon, a conference on September 12 and the CL King Best Ideas Conference on September 16.
So we hope to see you there. And as always, Travis will be available to take any follow-up questions. Thanks and have a great day.

Operator

This concludes today's conference call. Thank you for your participation. You may now.