Atkore Inc. (ATKR) Earnings Call Transcript & Summary

Good morning. My name is [ Jill Mob ], and I am the Industrials Analyst at that JP Morgan's fixed income team. This morning, we're pleased to have Atkore. From the company, we have David Johnson, CFO. David, I hand it over to you.

Thank you very much, and I appreciate the opportunity for presenting Atkore. So those of you following along on the -- or with the presentation. I'll start with Slide 4. I'll have about 20 minutes of opening comments about the company. So our foundation is around the Atkore Business System. And I know a lot of companies have business systems. Ours is a derivative of the Danaher Business System, which fundamentally how we do everything within Atkore. So if you think around people fundamental strategy and process, think about lean deployment, standard work and then continuous improvement on everything we do. And typically, I know a lot of companies work on the back end, like within the manufacturing footprint and what have you around standard work. But we also do this commercially in the front end of our business. So again, if you think about a standardization system, a continuous improvement system, that is really the basis of how we operate at Atkore. If you move on to the next slide, which will be Slide 5. In -- the company was founded in 1959. We have a total of about 65 global facilities. In 2020 or fiscal year-end in September, so our September fiscal 2020 numbers were about $1.8 billion in sales and our adjusted EBITDA is about $327 million. The thing we're really proud of is despite COVID and all the challenges around the markets and what have you, we were able to actually grow our EBITDA net income in FY '20 over '21 -- or over '19 and then our guide for FY '21 has a continuing expansion of EBITDA going forward. The business, if you step back, it's 2 main segments. You have the Electrical segment is about 3/4 of the business. So simple way of thinking about the Electrical business would be these electrical infrastructure of some sort of a building or basically building data centers, warehouses, those sort of facilities. And then the safety and infrastructure will be products around safety like Engineered Bollard, you might see in Times Square or what have you, along with some products that support markets like the solar industry. Geographically, we're about 11% international. That 11% is basically Western Europe. In addition, we also have some business in New Zealand and Australia. And then probably the one that gets the large amount of interest from investors, what have you, is our end market diversity. And so we do have, like I said, 11% of international. The OEM business is, again, mainly in safety and infrastructure business, selling to OEMs and solar and what have you. We do have 14% of our business is residential. Obviously, pretty strong right now in the residential markets. And then the rest of the business is in non-res construction, broken down between new construction and renovation. When you look at the non-risk construction, we can break that down into 8 to 10 subsegments. The segments that are doing pretty well right now would be like data centers, warehouses, in some cases, health care. And then you also had segments like retail office buildings and what have you that would also be in non-res construction piece. If you move on to Slide 6, just a little bit of Q1, which we announced, had a very strong Q1. Q1 was very strong, mainly due to the residential exposure we have in our PBC business and you can see we went up 14% in revenue, and net income was up 145%. Again, very strong numbers here for the beginning of our FY '21. I spend a little bit of time on Slide 7. So this is a -- somewhat of a fictitious building that tries to depict most of our projects and kind of how they are used in a structure. You start way at the bottom, you can see something called PVC electrical conduit. And literally, this is PVC conduit in the ground, which the electrical field will go into some sort of a building. The thing that's important to note about the PVC business is, is the first thing to go into any kind of new construction, a site. And really, nothing can be done until the PVC is implemented. And then as the building is being built, you will see some of the other electrical infrastructure products being used things like cable tray up -- on upper left, metal conduit kind of in the bottom, and then eventually, you'll see armor cable up to the right being deployed. What's important to note about this is that we participate in all structures. So adding structure that needs electrical content of some sort, we participate in that building construction. And then we also participate more or less through the entire cycle. So we're not just at the beginning of the building or at the end of the building, we're through the entire cycle. So when you look at a particular facility, maybe like an airport or something, a terminal that takes 3 or 4 years to actually build out, we will participate through that entire cycle. So it gives our business a little bit of balance between, again, where we are in that construction project and also, depending on the type of structure, there's a little bit more of a content fuel between, which ones are more important to us like a data center. But what's the most important is takeaway, we participate through the whole construction cycle and every building will need our products. If you move on to Slide 8. I won't spend a lot of time on this. It's just that to show the fact that we had a pretty really good track record in the last 5 years. And then I think as you add FY '21 guidance on top of this, you'll see a continuation of this. Really strong return on capital and free cash flow in the business. Going a little bit deeper into each segment on Slide 9. See the key products to the left, we have the PVC conduit. We're #1 in that business. And by and large, that business is a local business because a lot of our products are large, they don't travel very well, especially PVC conduit, it's only economical to ship them within 400 to 500 miles of a manufacturing facility. So the PVC market, #1. There's like another competitor, and together, we make up over 80% of the market share of that market. When you start going down the steel conduit, we're #2. In total, there's 3 competitors in that market that makes up about 90%, 95% of that market. Armored cable, we're #2. There's another 2 competitors, and together, we make up 80-plus percent of that market. So really good competitors, really nice business that get shipped into electrical distribution. So all these products got the electrical distributors. And then they are eventually used by electrical contractors. So they are the ones that are actually using the products through electrical distribution. So really a strong business, key brands up at the top, some of our brands like Atkore AFC Cable Systems, it's been around over 90-plus years. It's important for the electrical contractor that knows that they can believe in the brand, the quality, on-time performance and what have you of our products. Can we move on to the next slide, Safety & Infrastructure. This segment basically has a few very important products when you look at like cable tray, #2 in cable tray, metal framing. So when you're in a parking garage or something like that, underneath the building, you see all this metal structure, a lot of that will be metal framing, you might also see the cable tray in a data center where we have literally what looks like aluminum ladder most of the times on that side and the cables whatever being deployed across the data center. That's mainly where those product lines are used. And then we do have a security platform, which is basically our security bollards business. We have a Sign business, new technology around signs, and we have our razor wire or barbed tape business where we're #1. Some of the brands that we've got in here, this is Atkore Razor Ribbon coated aluminum stripes. So moving on to Slide 11. We have, again, high market share in a lot of our product lines, but we do have a lot of organic growth opportunities. And those range in new product innovation and by and large, our new products are around saving contractors time to install. And so we have a lot of labor savings products out there. We also, in a way, also provide more safety. So if you're able to do something quicker, so you're on a ladder, 30 feet up in the air, and you can do something quicker, it's a safety to be able to do that in a very quick way. Some of our new products lately, if you look at our cable business, we have a new cable line, it's called MC Glide. And again, if you go out there and want to look at a Youtube video, you'll know this. What's unusual about this is it's able to be pulled through the metal stripes very quickly. So again, it's a safety and very time savings for contractors. So a very nice value prop for, again, those contractors and then we'll buy that through distribution. We're also investing pretty heavily in digital. So we're doing that on a couple of different fronts. One being is BIM models. So we actually came up with models for all of our products. So as large contractors, designers are developing buildings and designing buildings, they can actually use our BIM models to make that building design much easier and make sure that there's no issues as far as physical space or getting in a way of duct work or whatever. So it's a lot more, I would say, efficient for people to use BIM models. Again, all of our products are electronically in BIM. So it's very easy to be used for Atkore. So again, that's a very important one for kind of contractors and designers. We're also investing pretty heavily on any front-end efficiencies that we can do through our agents or distributors. So again, all these kind of add up to where we think we have opportunities for outgrowth in our markets. If you move on to Slide 12, and you look at the business over time, we have definitely then to work around just the portfolio of the business. And some of the quick facts up to the upper right, you can see that we exited since 2012, but with $400 million of, I'd say, breakeven or worse businesses. And I would say that also derisked the profile from a geographic standpoint and also derisked the profile from a commercial liability standpoint and what have you. So again, since 2012, quite a few divestitures, but then we've added about the same level of revenue with some very attractive businesses. And one of them being rolled up the PVC business we have today, obviously, seeing a lot of value. Our targets tend to be smaller tuck-in type nature. We just announced another one last week. And again, extension of our product lines, usually privately held, usually not a banker involved, and that's where our M&A strategy has been and will continue to be we see here in the near future. Probably one other thing to note on this chart is when we start getting into like 2017, you see Marco and Flexicon, in 2019, you'll see Vergokan. Those are the international acquisitions we made, which is the basis of that international business, which now makes up approximately 11% of the business. Chart 13 is a chart we're pretty proud of. When we -- before 2019 or so, our net debt ratio was over 3x, and we had determined at that point in time, when we look at capital deployment. We generate a fair bit of free cash flow. We're very efficient in our cash flow use. So we decided then to deleverage and work our net debt ratio down. Some of this was us comparing against other electrical companies and some of it was just what was the optimal capital structure for us. And you can see we've deleveraged quite a bit since Q1 of 2019 to where our last quarter, we were at a net debt of 1.3x. When we look at the 1.3x, it's probably a level that we are comfortable with. But I don't want to get too far below that number. We do think that there's some more room on the gross debt of $764 million work that down a little bit over time. But then our capital deployment strategy going forward is going to be certainly a little bit less on reducing debt and more on tuck-in M&A. And then we did just get another $100 million authorization from our Board for stock buybacks for the next 2 years. So between tuck-in M&A and return to the stockholders through stock buybacks, by and large, that will be our capital deployment strategy going forward. If you look at Slide 14. Again, something -- another thing we're pretty proud of is we just issued our first sustainability report recently. I think a lot of work through a lot of the folks. But the thing that I take away from that is, Atkore has always done a lot of things well, regards to safety and usage of utilities and reduction in greenhouse gas and so just we had never organized it in a way to have a sustainability report. So we're pretty proud of the sustainability report, but it's just the beginning. We have a lot of initiatives around our people and community, energy and in environment and certainly diversity and inclusion going forward. So again, I think it's something we're really proud of. You can see some of the numbers. These numbers get harder and harder going forward, but we are investing in as part of the Atkore Business System, every strategy ends up having a deployment plan, it has actions around it and funding around that. And certainly, ES&G will be one of those tenants going forward. So just wrapping up here, a quick overview of Atkore, and then we'll open it up for some questions. We -- a couple of takeaways, disciplined operational focus. I think when you look at the way that we handle everything from pricing to voice of customer, in the whole way through our supply chain manufacturing systems in the floor, again, very disciplined operational focus with a very value-based organization. Track record of success, we went over some of the numbers, but we also had success around just on-time performance and being a really good choice for our customers. Market leadership. We talked about that around the brands, working with distributors and contractors. And then we believe we have a very strong profile financially. We've enhanced that through our debt reduction, and we think going forward, we will continue to generate that cash and to deploy it in a manner that makes the most sense for Atkore and our investors. And then probably the thing to take away here is just see opportunities for growth. And one of the things we say at Atkore is we're not counting on like the one big initiative to take off and all of the sudden, organic growth. For us, it's a lot of small new product introductions, tuck-in M&A, we also believe when you look at, in general, just the macro environment of more things being moved to Electrical. You will see more electrical content being needed and then better for the need for our products are greater. So in general, we think that. Solar, we believe that business can continue, and that's a really good organic growth opportunity for us to continue. And again, we think the future for Atkore is very strong. So with that, I'd like to move on to questions.

Thank you, David. [Operator Instructions] David, I guess, maybe if we could start with a discussion on the end markets. As you've shown on Slide 5, if you look at the various end markets that you're exposed to, where do you see the best opportunities? And where is outlook less certain?

Very good question, and we get this question a lot, as you can imagine. And so right now, I think, we've seen strength in data centers. I believe personally that, that's a strength we're seeing for quite some time. The need for data -- Zoom, the meeting we're on today and all the necessary back office needed to drive digitalization of anything. I think data center is going to be strong. And why that's important for us is, it's the electrical intensity of data center. So that is going to lead a lot of our products on a per square foot basis versus maybe like an office building or a retail establishment. So data centers are dense for us and are also growing. So I think that's an important segment. I think warehousing, again, has been important. And the other thing that's probably more important, and we're seeing growth in warehousing is changing a little bit to where there's more automation, and we're seeing some warehousing owners eventually getting ready to change their fleet over to electrical vehicles. So all that means more content of our products for a warehouse than it was maybe 5 years ago. So again, automation, you need more electrical content and then moving to electrical infrastructure so needing charging stations and all that, you need more and more products. So I would say those are the 2 large ones. Going on the other end, I'd say retail is the most uncertain, but it was also the most uncertain going into the pandemic. So I don't think that, by and large, a lot of things have changed there. What you will see, I think, is historically, retail picks up a little bit depending on how residential goes. It's kind of lags the residential market. Residential has been really strong. So we'll see if retail picks up in the near future. We're not counting on that. And then probably the one we got the most debate on is offices. So there's a lot of discussions around, are people ever going to go back to the offices or offices going to be built differently? Are they going to be in the suburbs versus downtown and what have you? So there's a lot of, I would say, uncertainty around office construction in the near term. So that would probably be the one that I think we're going to have to wait and see how that manifests itself.

I guess, maybe if we can move on to a discussion around your certain products that you have and your competitive positioning. And as you've talked about, you're a market leader in some key products, can you maybe discuss what differentiates Atkore versus some of your key competitors in some of your most important markets?

Sure. I think it's a very good question. I mean I think one, I would start with just the brand and the brand reputation is very important on these pipelines. But the other thing to kind of take away is, when you look at our prime product lines, our competitors only provide that product line. So they don't provide the breadth of product in the distributor in this electrical infrastructure market. So they might have metal conduit. That's all they have. They don't have all the other products. So where that gives us a little bit of advantage is we're able to provide certain logistics and what have you that other folks can't do. So we can have what we call 1 invoice, 1 shipment for a customer. It just makes logistical easier for distributors. And so I think that's a major advantage for us. It also gives us more of a shared wallet for distributors. So when we go and we're talking about future and their strategy and what have you, we're able to work with them I think a little closer than to some of our competitors. That being said, I will say we did have good competitors, too. So I mean, I think everyone keeps each other on their toes. Everyone does a really good job on quality. It's just -- I think that customer service and that ability to bundle is an advantage that we have at Atkore.

I guess related to that, can you talk about where the company is on its lean manufacturing journey?

Yes. I think it's a very good question. I typically go to a baseball analogy on this question so maybe third inning, fourth inning, I think some of our product lines always is a little bit better. So when you're looking at PVC, I think we're kind of leader there. But on the rest of it, we still have a lot of work around standard where we look at our footprint on a regular basis. Typically, we reduce the rooftop, maybe 1 or 2 per year, so we will continue to do that. And there's always ways we're looking to automate, and I'll give you an example in our PVC business, we've moved to basically automation of the mixing process versus manual. And that's done a few different things, it saves money on the modern material that we use. We're able to use a better mix of material. We need less folks as during COVID, and we were able to keep up and running a little bit easier perhaps in the facility that had more labor. So again, we're looking at this constantly, not only in the back office but also in the front office. So we've recently implemented several robots and robot process automation. So we're looking at all those non-value work around reporting and helping our customers, customer service and what we can do to automate that. And I would say that we're just in the early innings of that journey.

And I guess maybe following on a somewhat related topic, we're hearing a lot about supply chain issues and manufacturing, input costs and inflation. As we go into sort of a bit of a recovery this year and next, can you comment on any supply chain constraints that you're thinking about or worried about? And also cost inflation, what are you seeing on that front?

Okay. Thank you. I'll probably answer it in reverse. So first, I'll start with the inflation. A lot of our input costs, you'll have -- steel is major contributor to our input costs, then you'll get into copper and PVC resin and then, of course, freight. I think in all cases, they're up significantly year-over-year. Our pricing is dynamic. So we're able to price on a daily basis depending on the product line, the region, the competitive nature in that region and what have you. So by and large, we get ahead of our cost increases very early, and we're typically able to hold on to those as commodities moderate over time. And so I would ask anyone interested, he can go over the last 4 years or so in all of our earnings announcements, we provide a very detailed reconciliation of our pricing versus cost. And I would say in the last 4-plus years, in every quarter, we've been positive price versus cost, except for maybe a quarter where it might have been slightly negative. That's the electrical business. On the Safety & Infrastructure. It takes a little bit longer. We have more index contracts and this sort of thing with our OEMs. So that will moderate over time. And when steel goes and doubles in a short period of time like it has, you'll see a particular quarter like we just had where EBITDA margin is a little bit lower. We expect to make that up in the back half of the year. So I think the competitive positioning of the business, the daily pricing that we have in the electrical, really, the commodity pricing isn't as much of an issue to us, it's perhaps just availability. And I will say that on the steel supply side, in the last, I would say, last 3 or 4 months, availability is becoming the more -- the larger concern, I would say, we have really good relationships with steel mills, we're usually positioned really pretty close to our supply chain partners in the steel industries, so we're able to react pretty quickly. But that being said, I do think the overall supply chains are being stressed in the market. I think they're bringing stress in residential construction also, which I do think dampens a little bit the activity, although there's a lot of activity still out there.

And in terms of, I guess, the constraint on the supply chain side, what do you attribute that supply stress to?

Yes. I mean, I think some folks, I'm not speaking for everyone, but I can -- and certainly I tested this in the PVC market, took capacity out during COVID. And I don't think they expected demand to recover in some areas like residential as quickly as they expected or maybe -- I'm not speaking for automotive, but automotive -- all these different markets probably came back a little bit quicker than people planned. And taking that capacity back online, I think it's taking some people a little bit longer to get it online because of COVID protocols and trying to have a facility these days with a lot of folks, it's a challenge. You have a lot of protocols. You have to do what's right for your people but it's also a challenge to make sure you're getting the productivity, giving all the additional precautions you need to make.

The next question is on margins. And more specifically, the margin difference between Electrical in the segment and the Safety & Infrastructure. Can you go into the key drivers for that margin delta?

Yes. I think basically in the electrical industry, or the electrical products that we have, those markets are 2 or 3 competitors going through electrical distribution, there's some really nice moats around that business. Really we make in region for a region. So I think that's why you're seeing those percentages where they're at. In the Safety & Infrastructure business, a few more dispersed competitors. So there's just a lot more, I would say, varying amount of competition in that business. I would also say because of the OEM nature of that business, you do have these situations where pricing isn't as dynamic in the electrical. And those would be the 2 main differences I would see in the margin profile. Now a question might be then why do you have Safety & Infrastructure and what have you, there are shared assets between the 2 segments. So when you're doing things like slitting steel, for instance, which is a very important but expensive piece of the process, we share those assets between the segments. And then also because we have Safety & Infrastructure, our steel buy is much greater than it would be without Safety & Infrastructure, and therefore, our costs can be down in both segments because we have this steel buy.

I guess if you look at the relative growth of those 2 segments, I guess, mostly on the inorganic or M&A-driven growth, where do you see capital being invested?

Yes. So historically, I would say that what you've seen is we've invested almost a 100% of our M&A in Electrical. And I do think that going forward, like the acquisition we just announced last week, it is in the electrical market, and I would say, by and large, that's where our focus is. Now that being said, we do have some nice businesses in Safety. So we have an engineered bollard business, we have a Sign business. And as we're looking at the opportunities in Safety, we do think that there's some inorganic opportunities there. But I would step back and say most of our M&A activity is still going to be in Electrical.

And the next question is on, I guess, free cash flow conversion in these 2 segments. Aside from sort of their profitability delta, are there any free cash flow conversion differences, whether that's working capital that makes one business different than the other?

Not really. I mean when you look at them, they're about the same. And so I would say there's really no distinctive differences between the 2. When you look at the business in total for Atkore, I think when we say that we target 100% of net income, there are going to be years where we're ahead of that. And mainly, it's a working capital situation. So not only days, but the cost of working capital right now with commodities being up, there's obviously going to be some investment in working capital where last year, during COVID, we were able to reduce our working capital, and therefore, our free cash flow is very strong.

And you touched on this a little bit. But in terms of capital allocation and leverage, leverage is low. I guess for sort of the right sort of an acquisition, where would you see maximum leverage?

Yes. I probably would like to put limits on it. But if I was 2.5x to 3x very most, and we've also proven that we can reduce leverage pretty quickly in the business. The only thing I could say right now is we don't have anything of that magnitude on our radar. Again, it's mostly these tuck-in M&A opportunities that we have on our radar at this point in time.

And then, I guess, in terms of cyclicality and COVID-related topics, I guess in the post-COVID recovery, this is an unusual cycle of what we've been going through. And the manufacturing, industrial type economy has obviously fared better and is recovering quicker. How is the company positioned for the post-COVID growth that's somewhat different today versus, I guess, in prior cycles?

Yes. I think it's a very good question. I think for us, what's important is the diversity of that is end markets. I know a lot of people look at non-res construction being half of our business, and they would say, you're not diversified, but there's end market segments. So I think what really gets us really excited is our specific new products for some of these markets. And we also feel like because of the Atkore Business System, we're able to get productivity pretty well in even low growth markets. So if we did have a robust growth market, we do feel like we're well positioned to satisfy that through electrical wholesalers. The other thing on that too, I just will mention that. When you use electrical distribution, there is some folks that get concerned about is there channel inventory up or down and what have you, it's very typical in the Electrical business to understand what's in the channel to get ready for that growth. For us, it's not as much of a fluctuation because our products tend to be big and bulky. Therefore, electrical distribution not only handle several weeks of our products, and so we feel like we've a much better, I think, real-time demand profile. And so we're able to react a lot quicker in those cases.

That's all the time we have today. David, thank you very much for your time this morning, and thank you, investors, for listening in. With that, we can close the webcast.

Thank you very much for having us.