Aaon Inc (AAON) 2022 Q1 法說會逐字稿

Welcome to the AAON Inc. First Quarter 2022 Earnings Conference Call. (Operator Instructions).

I would like to turn this event over to your host, Mr. Joseph Mondillo, Director of Investor Relations. Mr. Mondillo, Please go ahead.

Thank you, operator. Good afternoon and thank you for joining us for AAON's first quarter 2022 earnings conference call. A press release announcing our first quarter 2022 financial results was issued after market close today and can be found on our corporate website aaon.com. A recording of this call will also be posted on our website following the call.

Joining me on the call today are Gary Fields, our President and CEO; and Rebecca Thompson, our CFO. Shortly. I'll be handing the call off to Rebecca, for her to go through the first quarter results. Gary will then provide further insight on the quarter along with our current outlook, and then we'll open up the call to Q&A. Prior to that though, we begin with our customary forward-looking statement policy.

During the call any statement presented dealing with information that is not historical is considered forward-looking and made pursuant to the safe harbor provisions of the Securities Litigation Reform Act of 1995, the Securities Act of 1933 and the Securities Exchange Act of 1934, each as amended. As such, it is subject to the occurrence of many events outside of AAON's control that could cause AAON's results to differ materially from those anticipated. You are all aware of the inherent difficulties, risks and uncertainties in making predictive statements. Our press release and Form 10-Q that we filed this afternoon details some of the important risk factors that may cause our actual results to differ from those in our predictions. Please note, that we do not have the duty to update our forward-looking statements.

With that, I'll turn the call over to Rebecca.

Thank you, Joe. I'd like to begin by discussing the comparative results of the 3 months ended March 31, 2022, versus March 31, 2021. Net sales increased 57.8% to $182.8 million from $115.8 million. Organic volume growth contributed approximately 21.3% to net sales and the acquisition of BasX Solutions contributed 18.1% with the remainder coming mainly from price increases. A record backlog at the beginning of the quarter, along with improved production rates drove the robust volume growth. Record production rates in the first quarter reflect an easing of supply chain issues, greater production capacity and strong performance from our operational team.

Our gross profit increased 38.9% to $46.1 million from $33.2 million. As a percentage of sales, gross profit was 25.2% compared to 28.6% in the first quarter of 2021. Gross margin benefited from a $1.8 million noncash income related to the extending the useful lives of some of our equipment. Excluding this item, gross margin was 24.2%. Compared to the first quarter of 2021, gross margin was impacted by higher material costs, along with multiple wage increases and supply chain issues that continue to adversely affect operational efficiencies.

On a sequential basis, gross margin improved substantially from the fourth quarter of 2021. We are still not where we want to be, but the first quarter was in line with our internal expectations, and we are on track to achieving target margins later this year. Selling, general and administrative expenses increased 56.9% to $23.1 million from $14.7 million in 2021. As a percentage of sales, SG&A decreased 12.6% from 12.7% in the first quarter of 2021. Including BasX, SG&A expenses totaled 9.7% of sales, down 300 basis points from a year ago. Overall, we are doing a good job at managing our operating expenses, particularly in the inflationary environment we are in.

Income from operations increased 24.6% to $23 million or 12.6% of sales from $18.5 million or 15.9% of sales in 2021. Our effective tax rate increased to 20.9% from 11.4%. The effective tax rate in Q1 of 2021 was unusually low due to excess tax benefits related to stock awards of $2.9 million versus $0.5 million in the current quarter. The company's estimated annual 2022 effective tax rate, excluding discrete events, is expected to be approximately 24.9%.

Net income increased to $18.1 million or 9.9% of sales compared to $16.4 million or 14.1% of sales in the first quarter of 2021. Diluted earnings per share increased by 10% to $0.33 per share from $0.30 per share. Looking at the balance sheet, you'll see that we had a working capital balance of $169.5 million versus $131.3 million at December 31, 2021. Unrestricted cash totaled $5.6 million at March 31, 2022. Our current ratio is approximately 2.5:1. Our capital expenditures were $14 million for the quarter. We expect -- we continue to expect capital expenditures for the year to be approximately $100.4 million. The company had stock repurchases of $3.3 million during the 3 months ended March 31, 2022. Shareholders' equity per diluted share is $8.90 at March 31, 2022, compared to $8.68 at December 31, 2021.

I'd now like to turn the call over to our CEO and President, Gary Fields.

Good afternoon. First off, I'd like to state that I'm very happy with the first quarter's performance. In general, the overall results were in line with our internal expectations. And with the organic sales, excluding price increases and BasX sales were up over 20%. This definitely reflected the strong backlog we entered the year with, but also reflecting how well we are performing. I'd very much like to commend our operations team as our production rates were the highest level of any quarter in the history of the company.

Supply chain issues have eased some, but it's definitely still an issue. We're also ramping up our headcount, which comes with challenges. All considered record production levels certainly reflect how well this team is performing. Margins were down year-over-year, but they were in line with our internal expectations and what we indicated on our fourth quarter call. Sequentially, we saw a considerable improvement. We're still not where we need to be, but we're on track to returning to target margins later this year. Considering what we're seeing with material costs, this is a very positive aspect.

To give you a sense, our material and freight cost, excluding the effect of organic volumes being up, we're up approximately 50%. In other words, if our volumes were flat from a year ago, our material and freight costs would have been up 50%. All things considered, I was happy to see the sequential improvement in gross margins. We're also doing a good job at managing our SG&A expenses, as Rebecca just walked you through. Now the backlog, March 31, it was $461.4 million, that's up from $260 million at the end of December and $96.7 million at the end of first quarter '21. Organically, the backlog was up 305% from a year ago.

Orders in the quarter were up year-over-year 150% organically, which represented an acceleration from the 67% growth we recognized in the fourth quarter and the 55% growth we saw in the year of 2021. In fact, the year-over-year comp in this past quarter was the toughest we've seen in 2 years, and we still recognize significant acceleration in growth. Growth is certainly much greater than what the market is growing out, so we're definitely taking market share. Let me tell you what's enabling that. Key driver is lead time. Our lead times are by far the best in the industry. Another testament to how well our operations are performing.

All the work we've done over the last 18 months with inventory management, productivity improvements and increasing our manufacturing capacity, including both plant and equipment and labor is paying off. Lead times are a big factor to the share of the gains we're seeing. Also a handful of other factors that are playing a role. Our sales channel is performing at a very high level. The quality of our sales channel partners has never been better. The alliance between us and them is as strong as it's ever been. We're supporting them with more products and services than ever before. So we've never been this well aligned with our sales channel in the history of the company, it's the best it's ever been.

But we still have a little bit of work to do there. We're working on that every day to improve that sales channel. The heavy lifting is behind this, but we've got just a little tweaking to do here and there. New products are a bit of a factor. The last 2 calls, we talked about our water source heat pumps and low ambient air source heat pumps. Both have been very well received by the market so far. As you may recall, we redesigned and introduced a second line of water source heat pumps that we call ProFit. And those heat pumps were to be backwardly compatible with the large installed base out there for replacement.

It's been very well received, moving along nicely with that. The decarbonization efforts have really picked up the interest in our cold climate capable air source heat pumps. So the macro environment is trending very positively for us. Replacement demand is -- continue to be very strong. Demand from 2020 downturn and a focus on indoor air quality continue to be factors. We're also starting to see stimulus dollars drive accelerated demand within the educational vertical.

New construction demand is accelerating after a slow '21. ABI has been above 50 the benchmark for growth for 14 straight months, including the latest reading of 58, which is the highest since May of last year. And according to the American Institute of Architects, projects backlog and architecture firms are also at an all-time high. So new construction demand is improving. That's where our lead times are helping us as well. Some of these are fast-track projects. Overall demand for all the verticals continue to be fairly broad-based and consistent with what we've talked about in the recent past.

Another factor driving growth, although not within our backlog is our parts business. Parts sales in the first quarter were up 36.1% to the highest level of any first quarter in company history. First quarter is usually a soft quarter for parts and it begins to accelerate towards the end of the quarter. But we're in line with the quarterly average we saw in the last 3 quarters of '21. So we're really off to a great start with our parts business.

Lastly, I want to talk about our acquisition of BasX. We're now almost 6 months since closing on the acquisition, and we are very pleased with how things have progressed thus far. Their backlog and order trends are strong, revenue synergies seem to be progressing quicker than we even thought. And like us, they're being challenged a bit with supply chain issues and inflation, but overall, they're managing well. We're optimistic heading into the second quarter. Our backlog is strong, our capacity and production rates are rising, price cost is improving. Supply chain issues are easing. In general, using first quarter as a benchmark, we foresee sales margins and earnings will improve throughout the year, with the bulk of the improvement occurring in the back half.

I'd like to open it up to questions and answers.

(Operator Instructions) We have our first question -- caller, Julio Romero.

So I guess to start, the organic order growth is staggering. Just talk about what the drivers of that order growth were and what particular product lines are seeing the surge?

Well, it's absolutely broad-based product family wise. So having the production facility that we built in Longview, we just had an immense amount of production capability there that we're beginning to realize now. The final month of the quarter, we ran about $8 million in finished product out that quarter -- that month. And that's got to be $2 million, $3 million higher than we'd ever run in previous years. So having that production capability, I've always said that the Longview product was more sensitive to lead time than the Tulsa product.

And we've been able to pull that lead time down very attractive, and that's proven true. We're getting some very, very large orders for modular data centers. These are -- they look a little bit like a shipping container that we build 4 AAON split systems in Longview for. And we used to get those orders in tranches of about 60 units at a time. Now we're getting orders for a couple of hundred units at a time. So being able to deliver and be reliable with that, that's a big deal.

In Tulsa, we've been building out our infrastructure here for the last few years. We finally got enough materials and we got headcount. I'll just give you an idea on the headcount, Julio. Our headcount in the legacy business is up 17% year-over-year. That's 457 people that we've added in the legacy business year-over-year. And so those people were by and large on the plant floor. And so that's what's helping us with the lead times. Now decarbonization and indoor air quality are also big drivers.

We have another question from Jean Ramirez, D.A. Davidson.

Gary, it's Brent Thielman, Davidson. Can you just talk about -- Gary, I caught the end of your commentary that you expect to see this sort of book of business really ramp up in the second half of the year. I guess I'm trying to get my head, we just haven't seen this level book of business before. How do we get our heads wrapped around kind of converting this backlog over the course of the rest of the year?

Well, I think the percentage growth we saw Q4 to Q1, that's not sustainable at that same acceleration rate. We were severely constrained in the fourth quarter because we didn't have materials. That's what disrupted our revenue. I think I stated before, our revenue would have been up fairly substantially in Q4 if we could have gotten materials. But October and November were just a rec with that. About mid-December, it started falling out pretty nice. We started getting a flow of those materials.

And really each month we've built considerable. I think that the pace that we're running is going to pick up another -- it will be a double-digit -- small double-digit pace that will pick up for Q2 in revenue production. We've obviously got the backlog to support that. Like you said, we need to burn that backlog down. Orders are still pretty strong. It's amazing, actually. And where we've been able to manage our lead times on this is in this pandemic era, people have gotten accustomed to ordering things much further out than what they normally would. Their normal pace was they said, Well, your lead time is 12 weeks. So I'll put a couple of weeks pad on it, and I'll order it 14 weeks ahead.

Well, we've got projects that are people are ordering they don't want until Q4. And they're priced attractive enough to be able to do that. So we're placing orders to the best of our ability where people want them. And that's allowed us to keep our lead times in check, and we've actually been able to take advantage of some quick ship kind of project needs. So that's -- hopefully, that answers it, if I need to add something else cleared up for me.

No. That's great, Gary. And I take from that commentary that I mean you're comfortable with this backlog level given all the things you put in place here in the last few years to support it. I mean it seems to me you're comfortable here and don't see it to me to necessarily draw down.

Well, I would like to draw it down just because I like to see the revenue. But I don't want to draw it down from the fact that I'm not getting orders in the door. If you go back 2 or 3 quarters ago, one of you guys asked me when I was going to rein in the orders. And I said, well, that's a great question. You all know I'm a horsemen, so I'm going to use a Horsemen's term. Fact, no, I'm not going to rein in the orders, I'm going to lay the spurs to production. Well, that's what we did. And gently though.

And production has taken this very well. The preparations have been here for a good while to do this, Brent. It's the materials that were giving us the biggest issue. And now with the new leader in our HR efforts, Casey Kidwell, just doing a phenomenal job getting people in the door for us and getting our retention rates improved so much. Our turnover rates are way, way down since some of the things that he brought in here. And that's material because if you can get people to stay here 90 days to 6 months, then they tend to stay here for a very, very long time. We were having tremendous difficulty prior to him, getting people to stay the first month, let alone, 90 days.

And so this turnover rate has gone down. Well, now those people become more efficient. And we measure this by the number of people on the plant floor and how much they produce on a daily basis. And we've got that metric in mind. We look at it every day. And so that's one of our efficiency measures that our production team uses, and they've been able to add people and keep that number relatively linear. And when we add people, we get that much more dollars per day on a fairly linear basis.

And so we were going over this earlier today. Our target hiring is to hire another probably 250 people in the 2 locations throughout this later spring and early summer. And we look for that to increase the production on a linear basis daily because those 250 people are all going on the plant floor. We're not looking to add any overhead personnel at all.

Okay. Really helpful, Gary. And then just getting back to the 28% to 32% margin sort of by the end of the year. The overriding factor -- is the overriding factor there that you've got these price increases out there that you should realize over the course of the next few quarters that catches up to the cost you're experiencing the business. Maybe just kind of help me understand if you got evidence in getting back to that level, especially with so much going on out there right now.

Yes. We've debated that considerably. And our historic algorithm for inputs and outputs has been challenged with things that are outside the box abnormal with the way costs have been. But to the best of our ability to forecast and things have begun to stabilize, while they're elevated, they're stabilized. And that makes it more predictable. So now that they've begun to stabilize, at least in our viewpoint, they have, then we feel fairly confident in our forecasting and what we're doing. We're going to have sequential margin percentage improvement each quarter throughout this year. And that's primarily because we've got a handle on our cost.

We know where we're going with that with a fairly high degree of confidence. And then we've got this backlog that we know what price level it is and how much of that's on the plant floor and exactly which day. So we've gone through that algorithm. We're very confident that we're going to be improving. We're not going to get to that target level next quarter, but we're going to get closer to it. I think that the second half of the year, we're going to be right in the center of that range. I feel good about somewhere around 29%, 30% for the last part of the -- last half of the year.

And bear in mind, we're doing everything we can to increase the production rate too. I don't want to get too excited about that because there are still some challenges out there that we deal with on a day-to-day basis. But barring anything different than what's occurred in the last several months, we've learned how to navigate a lot of potholes and this team has just done a phenomenal job of doing that and getting units out the door. So yes, I'm confident we're on growth, top line growth, bottom line, a good solid number throughout the year.

Yes. I appreciate that. Last one, I guess, just on the SG&A, especially the sales dollars pick up here, do you expect to see a little better leverage over that as we advance through the year, this 12.5-odd percent a good ballpark?

No. I think we'll get some leverage on that. I haven't got an exact figure that we believe it's going to improve. But Rebecca and I had a discussion about that earlier, and she's done some preliminary work on that. And we believe that we're going to begin to get some lever on it because we're holding hard and fast on as much of the overhead aspects of the company as we can. Like I said, we're going to be adding production workers, not overhead workers. And when we add production workers, then that's where that leverage occurs.

We have caller Julio Romero, Sidoti.

Julio, we lost you a while ago.

Never left. I never left. I don't know I must have gone dropped from the queue for now. It dropped me for Jean, I guess. So just a follow-up here. I know you've worked to qualify more vendors and improve supply chain. Are there any other levers you can pull to maybe further improve supply chain? You've obviously got a good balance sheet. Just thinking about how you can derisk it in the future.

I'll let -- I was wondering how we were going to fit this in here, Julio, you just gave me the perfect entree. So for the history of the company, 30 years, there is a fan manufacturer down the road here about 50 or 60 miles that we had purchased fan wheels from. And they're a great company. But when we bought BasX, one of the things that BasX did was manufacture their own fan wheels. And so we were looking at the process and how it's not all that complex. It's very much within our wheelhouse of abilities.

And so a bit over a year ago, even before we closed on BasX, I went to Acme and said, I'd like to purchase from you all of the tooling, the design documentation, the work documentation, the rights to build these fans. I said, You don't build them for anyone else, you build them only for us. There was maybe 2 or 3 part numbers that they use themselves, but the bulk of it, they were building strictly for us. I said I'd like to buy that from you, would you price that? And they did eventually, and we closed that transaction last week.

And so we will be transitioning, moving all the production equipment in here to our plant. And I think the anticipation is that somewhere late Q3, early Q4, we will be building our fan wheels. Well, over the last few years, we've been purchasing nearly 40,000 fan wheels a year, 35,000 to 40,000 from them. And of course, you see we're growing. And so this is just one more place that we can control the destiny of the delivery, the quality and so forth of that product plus gain the margin, this is not an expensive product. So we're not talking anything that's going to be material to the bottom line.

It will help it a little bit. But the main thing was is the vulnerability of someone else supplying while they're a great company and we had no reason to doubt that, it was just something that was in our wheelhouse of abilities to add that to the vertical thought process of we manufacture units, we don't assemble units.

Sounds exciting. And just one more for me. There was a comment in the press release, BasX and you've learned that revenue synergies are better than initially estimated. Can you expand on that at all?

Well, the part that I see is some of these clients that they had were kind of constraining how much they would grant them in an order. How much they wanted to risk with them because it was a huge percentage of their annual production, for instance. And now that they're part of a larger foundation, then they're looking at that purchase from BasX as a percentage of the whole enterprise, not as a percentage of BasX. So they have already attained orders for much higher dollar volume per order than anything that they'd ever experienced in the history of the company.

Fact is, their backlog is up nearly the same percentage as our legacy company. Let's see here, almost 300% year-over-year. And by the way, their head count is up 75% year-over-year. So they've been able to get people there too and produce. But that was one aspect of it. The other aspect was that there were people in AAON's legacy sales channel that had entrees to some of the customer base that is traditionally BasX customer base. And we've been able to leverage those relationships and collaborate and land some work that was both the legacy company provided equipment on it and the new company BasX provided.

So that's where we've leveraged some of that. Then purchasing, the legacy company buys a tremendous amount of steel, for instance. And we were looking at their steel purchasing, and they were not able to use that purchasing power that we had until we got a hold of them. And we've been able to improve their cost basis on steel is just one thing. And I'm sure there's others that are less significant to me or not quite as visible. But that's where I was going with that in that statement. Is that clear that.

It does, it does.

At this point, we do not have any other questions from participants.

Yes, Joe, go ahead and close it out for us, please.

I'm sorry. I'd like to thank everyone for joining today's call. If anyone has any further questions in the coming days and weeks, please reach out to myself. Thanks. And we look forward to speaking with everyone next time.

Thank you. This concludes today's event. You may now disconnect. And have a great day.