Generac Holdings Inc (GNRC) 2010 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Q1 2010 Generac Holdings, Inc.

Earnings Conference Call.

My name is [Kiana], and I will be your operator for today.

At this time, all participants are in a listen-only mode.

Later we will conduct a question-and-answer session.

(Operator Instructions) As a reminder, this conference is being recorded for replay purposes.

I would now like to turn the conference over to your host for today, Mr.

York Ragen, CFO.

You may proceed.

Good morning, everybody, and welcome to our first quarter 2010 earnings call.

I'd like to thank everyone for joining us this morning.

With me today is Aaron Jagdfeld, our President and Chief Executive Officer.

We will begin by stating that we'll make a number of forward-looking statements on our call today.

Certain statements made during this presentation as well as other information provided from time to time by Generac or its employees may contain forward-looking statements and involve risks and uncertainties that could cause actual results to differ materially from those in these forward-looking statements.

Please see our earnings release and our SEC filings for a list of words or expressions that identify such statements and the associated risk factors.

With that, I'll now turn the call over to Aaron Jagdfeld to discuss our Q1 2010 results.

Aaron?

Thanks, York.

Good morning, everyone.

In spite of challenging headwinds in certain of our end markets, we are pleased with our financial results for the first quarter of 2010, as we were able to grow our adjusted EBITDA year-over-year during the quarter.

In addition, we successfully completed our initial public offering and subsequently paid down a significant portion of our debt during the quarter giving us greater flexibility to execute our growth strategies in the future.

With difficult year-over-year comparables in our residential markets and continued softness in our industrial markets, our net sales for the quarter totaled $130.7 million, a 6.9% decrease from the first quarter of 2009.

However, we are seeing some level of stabilization in sales as evidenced by moderation in our year-on-year sales declines versus the prior quarter.

Now looking at net sales by product class, our residential power product sales declined $4.5 million, or 5.1% to $84 million in the first quarter of 2010 from sales of $88.5 million in the first quarter of 2009.

This sales decline is the result of a more severe 2009 winter storm season with respect to power outages as opposed to the 2010 winter storm season.

If you recall, the first quarter of 2009 had several major ice storms that caused severe outages affecting a significant portion of the United States.

The 2010 winter storm season had fewer major outage events and was more concentrated in the Northeast and MidAtlantic.

The less severe 2010 winter storm season versus prior year impacted our portable generator sales, in particular, during the quarter.

Despite the decline in portable sales, we did see a modest year-over-year increase in residential home standby generator sales as a result of increased distribution and awareness for those products.

As we have done over the last decade, we continue to add new dealers, retailers, and wholesalers, which are helping to drive sales growth in this category.

In addition, we have increased our marketing and advertising efforts to promote the awareness of home standby generators.

Given that we have grown sales of these products during a period of reduced consumer durable spending, we believe that we have benefited significantly from these initiatives.

Industrial and commercial power product sales declined $6.8 million, or 15% to $38.3 million from sales of $45.1 million in the first quarter of 2009.

Continued declines in sales to our industrial national account customers contributed to this decline, as those customers have reduced their capital spending.

In addition, softness in non-residential construction spending has negatively impacted the market for commercial and industrial generators as well.

Our initiatives to add new private label accounts and increase international distribution have helped to partially offset these declines.

In addition, we are seeing increases in our light commercial products, where we offer a low-cost, standardized backup power solution that runs on natural gas or propane for small footprint retail applications.

I'll now turn the call back over to York Ragen who will discuss margins, capital structure, and cash flows.

York.

Thanks, Aaron.

Looking at our gross margins, gross margins for the quarter were 39.3% of net sales compared to 33.8% of net sales in the first quarter of 2009.

That's a year-over-year increase of 550 basis points.

Gross margins improved year-over-year due to lower material costs for our primary commodity inputs; namely, steel, copper, and aluminum.

Although we have seen recent quarter-over-quarter market increases in commodities, in the first quarter of 2010 we are still realizing commodity levels that are lower on a year-over-year basis.

In addition, gross margins improved year-over-year as we implemented price increases during the first quarter of 2009 across certain of our residential, commercial, and industrial products and benefited from cost-reduction initiatives driven by improved engineering and sourcing of component parts and products.

Operating expenses for the first quarter of 2010 were $36 million, a $2.2 million, or 6.7% increase over the first quarter of 2009 and included $12.8 million of noncash intangible asset amortization and $1.2 million of noncash stock-based compensation expense.

As a reminder, the intangible assets on our books relate solely to the CCMP acquisition back in November 2006.

As a result, the intangible amortization expense reflected on our income statement relates solely to the CCMP transaction.

The $1.2 million of stock-based compensation is related to the issuance of stock-based comp in the form of stock options, restricted stock, and other stock awards, which were granted in conjunction with our February 10, 2010, IPO.

US GAAP requires that the value of the stock-based compensation awards be expensed over the corresponding vesting period.

For the balance of 2010, we expect to record approximately $1.7 million in stock-based compensation per quarter related to these stock awards.

In addition to the $1.2 million of stock-based compensation expense, operating expenses for the quarter increased year-over-year as a result of additional investments in product development, marketing activities, and new public company administrative costs.

These operating expense increases were partially offset by decreases in variable operating expenses as a result of lower sales volumes.

As a result of these factors, adjusted EBITDA increased 10.2% to $31.8 million in the first quarter of 2010 as compared to $28.9 million in the first quarter of 2009.

On a margin basis, adjusted EBITDA margin improved 24.4% in the first quarter of 2010 as compared to 20.6% in the prior-year period.

Improvements in gross margin partially offset by additional operating expense investments were the primary drivers of this 380 basis-point, year-over-year expansion in adjusted EBITDA margin.

Turning to our capital structure, on February 17, 2010, we completed our initial public offering of 18,750,000 shares of our common stock at a price of $13 per share.

In addition, our underwriters exercised their over-allotment option and purchased an additional 1,950,500 shares of our common stock on March 18, 2010.

We received approximately 247.6 million in net proceeds overall from the IPO and underwriters exercise -- after deducting underwriter discounts and estimated expenses related to the offering.

Additionally, in connection with the IPO, we adopted an equity incentive plan on February 10, 2010.

At the time of the IPO, 4,341,504 stock options and 456,249 shares of restricted stock and other stock awards were granted to employees and board members of the Company pursuant to this equity incentive plan.

Following the conversion of our pre-IPO share structure into common shares, the IPO, the underwriters over-allotment exercise, and the issuance of awards under the equity incentive plan, we had 67,529,290 total common shares outstanding.

Our earnings per share as disclosed in the earnings release reflects our share structure prior to our IPO on February 10, 2010, and our new share structure after February 10, 2010.

Because multiple share structures existed during the quarter, the earnings per share metrics are not directly comparable.

Following our IPO, we used the net proceeds generated together with a portion of cash on hand to make a $360.1 million prepayment on our term loans.

The prepayment was first used to pay down our second lien term loan in full with the remainder used to pay down a portion of our first lien term loan including future amortizations of principal on the first lien term loan.

As of March 31, 2010, the outstanding balance of the first lien credit facility has been reduced to $731.4 million, and the second lien term loan has been terminated.

A ratio of consolidated debt less consolidated cash versus our last 12 months adjusted EBITDA was 4.1 times at March 31, 2010, a significant reduction from December 31, 2009.

Additionally, we have no borrowings outstanding under our revolver, which has approximately $146 million of availability net of outstanding letters of credit.

We expect this significant reduction in debt to have a favorable impact on our cash flows as a result of lower interest expense in future periods based on current LIBOR rates.

Now looking at our cash flows for the first quarter of 2010.

Cash flows from operations were $18.4 million in the first quarter of 2010 compared to $0.1 million in the first quarter of 2009.

A $12.6 million decrease in cash interest paid along with a $1.6 million increase in income from operations and a decrease in overall working capital levels contributed to our increased cash flows from operations.

Cash interest expense declined year-over-year during the first quarter of 2010 due to debt repayments, lower LIBOR rates, and the termination of certain interest rate swap agreements.

We expect our cash interest expense to decline further in the second quarter of 2010, as we realize the full benefit of the first quarter 2010 debt repayment and the January 2010 termination of our interest rate swap agreements.

For the balance of 2010, we anticipate quarterly cash interest expense to be approximately $5 million to $6 million based on current LIBOR rates.

Overall, primary working capital levels, accounts receivable plus inventory minus accounts payable provided a source of cash of $12.2 million during the first quarter of 2010 as we monetized inventory levels after a weaker summer storm season.

As previously discussed, we currently do not pay federal income taxes and expect cash taxes to remain minimal for the balance of 2010.

Capital expenditures increased to $1.6 million in the first quarter of 2010 compared to $0.4 million in the first quarter of 2009 due to timing of expenditures.

Our expectations have not changed with respect to CapEx spending for 2010.

As a result of our strong margins, improved capital structure, favorable tax attributes, and low capital expenditures requirements, we expect to generate substantial cash flow as we continue to execute on our growth strategies.

With that, I'd like to turn the call back over to Aaron to provide some additional comments.

Thanks, York.

We continue to believe that the aging and under-invested electrical grid has become ever more susceptible to power outages.

As a result, emergency backup generators for residential, commercial, and industrial applications will continue to grow in popularity.

With regard to our residential products, we remain bullish on the long-term growth prospects, particularly with regard to our home standby generators due to their low awareness and low penetration rates.

However, overall demand for our residential products is still dependent on power outages.

As we have said previously, we typically see a surge in demand for portable generators during and immediately after an outage event, while our home standby generators generally see increased levels of demand for a more extended period of time after an outage event.

Outage events help drive overall awareness of our products, which creates additional distribution opportunities and allows us to further build the market for home standby generators.

It is difficult for us to predict with any certainty when and where significant power outages will occur.

As a result, we have designed our business model with a significant amount of flexibility to accommodate spikes in demand for our products.

Our flexibility and scale relative to our direct competitors allows us to capitalize quickly on increases in demand for our residential products.

With regard to our light commercial and industrial products, we continue to see softness in our end markets.

We view these as late cycle products as emergency standby generators are typically one of the last items to be purchased and installed during a project.

As a late cycle business, we believe that improved demand for these products will lag improvements in capital spending and non-residential construction improvements.

From a short-term perspective, we believe we will continue to see year-over-year sales trends similar to those we have seen over the last few quarters resulting from weaker storm activity relative to prior year and continued softness in non-residential construction.

However, as previously mentioned, we are seeing some level of stabilization with regards to year-over-year sales declines.

Looking out further, we have important initiatives that we are focused on to drive awareness of both the Generac brand as well as overall awareness of our products.

These marketing initiatives are focused on expanding awareness of home standby products primarily through a combination of targeted advertising, increased retail displays, and post-outage advertising campaigns.

We believe that our efforts regarding these initiatives have been critical over the past two years in offsetting weakness in consumer durable spending and reduced investment in residential housing.

In addition to our marketing initiatives, we continue to focus on new product development.

In the first quarter of 2010, we launched our redesigned industrial diesel product line, and in April we launched a completely redesigned line of air-cooled home standby generators with enhanced controls and load management capabilities.

Over the next 12 months, we will introduce several important enhancements and new products to both our residential and industrial product lines as we continue to lead our industry in innovation, technology, and breadth of product offerings.

We also continue to add partners to our distribution channels in the way of new guardian dealers, retail customers, wholesale branches, and private label accounts.

Over the last decade, we have invested heavily in building the largest and best-trained residential dealer organization in our industry providing our customers with sales, installation and after-sale support, which is second to none for these types of products.

We continue to believe that expanded distribution is important for growing the market for residential home standby generators.

This concludes our prepared remarks.

Thanks again for joining us today.

At this time, we'd like to open up the call to questions.

Operator?

(Operator Instructions) Jerry Revich, Goldman Sachs.

Aaron, can you please update us on when you expect to ramp up production of your private label industrial generator product?

And can you say more about which industrial end markets are showing packs of strength?

Is that mostly telecom or are you seeing any other areas?

Thank you.

Yes, two questions.

The first question is when will we ramp up private label industrial?

That was an arrangement that we signed last year so, actually, that's been ramped up.

The end markets for those products are the same as what we're seeing in our end markets, which is general softness in the commercial industrial segment pursuant to the remarks that we made in the prepared remarks.

But in terms of pockets of demand within the C&I industry, health care remains somewhat a beacon of hope in terms of just some strength -- overall strength -- obviously, government spending.

So we do see certain municipalities continuing to spend -- schools, in particular, wastewater treatment plants, those areas.

Data centers continue to be an area of strength in the C&I business in terms of seeing demand outpacing the general softness that we see in C&I, in general.

And, Aaron, you had some nice inventory reduction in the quarter.

Was that mostly portables?

And can you talk about whether there was any absorption impact from the reduction in the quarter?

It was mostly portables, and I wouldn't say -- there might have been a slight absorption impact as a result of that.

Thank you.

And, lastly, the third quarter is a big seasonal production quarter for the residential standby business.

I'm wondering if you could just give us your initial thoughts on how you think a production schedule might look based on what you currently see in the market?

Thank you.

Sure.

We're preparing, as we would this time of year, for the upcoming, more active seasonal patterns that we see in our end markets and particularly on the residential side -- so portable generators as well as residential standby.

I would tell you that with less active, as we said in our prepared remarks, with a less active winter season in 2010 and obviously not having a major landed hurricane event last year, portable inventories are tending to be a bit higher.

Not only our inventories, but we believe the retailers are pretty well set as well.

So in terms of preparing our ramp up and production for those products, probably not as heavy this year as last year, as inventories were more depleted last year going into the season.

Our residential standby products, we're preparing similar to how we would prepare in advance of any season.

So, again, very difficult to tell with any degree of certainty what kind of weather we're going to get, although current forecasts have placed a -- once again, placed a number out there in terms of landed storms that's greater than the long-term average.

So we are taking a more conservative approach at this point to our buildup and planning for demand that we see is more in line with normal storm seasons as opposed to higher than normal.

Jeff Hammond, Key Capital Markets.

I'm just trying to dig in a little bit more on the near-term guidance.

It sounds like you're saying near term down sales, but is it right to think about maybe the trend into 2Q is closer to the 1Q down, mid-singles versus the previous couple of quarters that were down double digits?

Yes.

As we said, our sales decline trend is moderating from the Q3 2009 to Q1 2010.

So we've seen stabilization there.

So I guess I think your statement is accurate.

We feel it's more on the lower end of that decline range that we've seen in the last -- in Q1.

And as we go into the second half, it seems like the comps certainly get easier.

Do we see some modest growth into the back half of the year?

Yes.

Again, a lot of that, Jeff, is going to be dependent on what kind of outage events we get.

So it's certainly -- if we get some outage events, those comps are going to be very easy, in our minds.

But we still have, not having had an active pattern of weather here the last several quarters, it obviously gives us pause.

If that were to continue, certainly, that makes the second half of the year less exciting in terms of exceeding the prior-year numbers.

Yes, having said that, the second half is easier comps versus the first half.

Right.

Okay, perfect.

And then you mentioned EBITDA margins should improve sequentially just on the basis of seasonal strength, higher production levels.

But just given -- I guess given the stock comp expense coming in, given maybe some commodity inflation, do you think as we move into 2Q EBITDA margins still have an opportunity to go up year-on-year?

In our calculation of EBITDA, we are adding back those noncash, stock comp expenses, so that wouldn't have as much of an impact.

So, having said that, we would see -- we feel that EBITDA margins could tick up here in the coming year, offsetting operating leverage and seasonal mix offsetting the commodity increases that are out there in the marketplace.

Commodities are only slightly above where we pegged them for the year at this point.

So I think York's comments are correct -- that there is more -- there's some potential EBITDA margin expansion there as a result.

And then just a last finer-point question -- you said cash interest expense, $5 million to $6 million.

What does that deferred financing cost line look like for the rest of the year -- or I guess -- or total interest expense?

I'm having a $300,000 number in my head per quarter, but let me get that --

Okay, yes, if you want to go through the other Q&A, or we can follow-up offline.

Thanks a lot.

(Operator Instructions) Phil [Griese], JP Morgan.

I know you don't break this out, but can you give us a sense of -- the resi standby was up in the quarter.

How does that compare with prior quarters?

Is that stable?

Is there any kind of modest acceleration?

Given last fall you didn't have a lot of storms.

So I'm just trying to get a sense of what's going on there?

Obviously, that's a seasonal category, so there's seasonality that plays into that, Phil.

So just to look at the sequential quarter-over-quarter numbers is a little bit difficult.

It really doesn't mean much.

But I would just comment to say we like where Q1 came in in terms of being stronger than last year.

That tends to leave us as genuine optimists on the categories we've continued to be.

This is a big-ticket purchase.

It's an investment in people's homes, and both of those items -- residential spending -- residential home investment and consumer durable spending -- have really gotten beaten up in the great recession here.

So to have this category of product continue to perform the way that it has, I think continues to lend credibility to our macro thesis here that this is a penetration story with only 2% of US households that have this product; that there is just a tremendous amount of opportunity as people get introduced to it.

So our challenge, as a company, as it has been over the last several years is to get people introduced to it.

And we do that through the number of initiatives that we talked about in our prepared remarks.

Right.

Could you give us -- the 7-kilowatt product comes out this summer, I think.

So can you give us a sense of how that factors into your plans, production-wise, marketing expense-wise?

I know also, like, R&D ticked up in the quarter.

How are you expecting that to flow through the rest of the year?

Yes, I think the R&D run rate, you're going to see that run like what you saw in Q1 in terms of being higher.

We continue to expand our spending on R&D.

As I mentioned in our prepared remarks, we have a slate of new products scheduled over the next 12 months here -- really, the next 12 to 24 months.

A lot of new products in the pipeline for us, one of which, as you mentioned, is this 7KW core power system, which is a new entry-level price point in the residential standby category.

Our production, the way we're looking at that category is we're being conservative out of the gate.

We were expecting, as we mentioned before, sometime late Q2, early Q3 launch on that product.

But at this point we're being somewhat conservative in our estimates for numbers for first year.

That is all about getting placement at retail, so you have to get through, generally, a line review with retail customers.

You've got to get it introduced to our dealer partners, our wholesalers have to take some stock in that product.

So we think the second half of the year will be the rollout.

And so as far as advertising expenses is related, we have no special ad campaigns right now targeted specifically to core power, but we are looking at what we want that rollout plan to look like from an ad support standpoint.

So you might have some increased expenses in the second quarter as you ramp that?

Potentially, but they wouldn't have a material impact.

With no further questions, I would now like to turn the conference over to Mr.

Aaron Jagdfeld for final remarks.

You may proceed.

Well, thank you, everybody, for joining us today.

We certainly appreciate it, and we look forward to speaking with you next question.

Take care.

Thank you for your participation in today's conference.

This concludes the presentation.

You may now disconnect and have a great day.