Enerpac Tool Group Corp. (EPAC) Earnings Call Transcript & Summary

Thank you, everyone, for joining UBS Industrial Conference this year. We are super excited to have Enerpac Tool Group and its key leadership here at UBS Industrial Conference this year. For everyone's benefit, Enerpac Tool Group, formerly known as Actuant, is with the New York Stock Exchange with ticker E-P-A-C, EPAC. With revenue well over $600 million in fiscal year 2019, Enerpac is a premium industrial tools and services company with global leadership in high-pressure hydraulic tools, controlled force products and other various components that provide solution for precise positioning of heavy loads, helping customers with safety and just kind of mission-critical applications. So before we kick off our fireside chat session here, I do want to note that Enerpac has August fiscal year-end, so it just completed the quarter ending in May. So the company is in quiet period currently. So for those who are submitting questions for the management team today, please note that the management team cannot discuss or make comments on current market conditions. So without further ado, we're joined here by Randy Baker, the Chief Executive Officer; Rick Dillon, the Chief Financial Officer; and lastly, Barb Bolens, Executive Vice President, EPV (sic) [ EVP ] and Chief Strategy Officer. So thank you, Randy, Rick and Barb, for joining us here today virtually. And then we'll get started here.

Great, and it's a pleasure to be here. Thanks.

So Randy, Rick and Barb, so for those who aren't familiar and may not be familiar with Enerpac entirely, you guys have taken a journey to really become what you guys call premier industrial tools company. If you guys don't mind, it'll be great to again spend a few minutes talking about where Enerpac is today from a product portfolio standpoint, end market mix and also kind of what strategic steps Enerpac has taken so far to get to kind of where you're here today.

Great. I'll try to give you an overview of the company and just a quick insight on the portfolio and products that we're making and selling to date. The company, as you mentioned, is the pieces of the Actuant company that we began to take apart several years ago and completed last summer and the formation of a pure-play tool company. And in doing so, we've created a very high-margin and very high-quality company with the sort of earnings, cash generation and growth expectations, I think, our major shareholders expected and knew that could be done and -- in the creation of the company. So our product line today is in the heavy industrial tool sector. And to be clear about the tool industry, it -- we view it as about a $70 billion industry. And it spans everything from consumer and commercial tools, which we don't participate in; to vehicle repair tools and vehicle assembly tools that we do participate in a light manner; and then getting into light industrial tools and then heavy industrial. And the 2 biggest sectors that we participate in are in the light and heavy range. We think that, that market is comprised of about $9 billion of servable revenue. And within that sector, we are the larger or the largest competitor in that space. So very unique company. The Enerpac brand is not new. It was created in the '60s. So the company itself was formed in 1910 as a hydraulic tool and equipment provider, and over time, it became Enerpac in the '60s. And over the course of several decades, it has created one of the largest, most complete tool distribution channels in the world, which is one of the key strengths of the Enerpac business and the fact that we have become one of the premier brands in any heavy industrial market. Vertical markets we serve, we view 13 verticals. And those verticals primarily sit in civil construction, certainly oil and gas, general and repair and maintenance operations that occur on any industrial business and very, very broadly in through mining and aerospace and power generation, on- and off-highway vehicle repair and then other manufacturing. And finally, we also view military as a key vertical market. So very, very broad company in terms of companies and types of businesses we can serve. And the types of tools we sell can be anything from lifting and positioning to cutting, bending, torquing and tensioning, and so very highly specialized products. And one of the natures of these highly specialized products and tool applications is they tend to have quite good margins so that we look at our margin profile that the bulk of our product line as margins in excess of 50%. And when you segment our products and the types of things we do, we sell obviously tools. We also do service, and we rent products throughout the world. But the composition of our revenue is really about 75% of our revenue comes from pure product sales. About 15% of the remainder is -- or the 25% remainder is either a service or it's a rental. And of that, that's split about 50-50. Rental is also very profitable for us, and that's comprised of about -- as I mentioned, about 15% of the total revenue. When you add all that together, we have in excess of 85% of our revenue coming from a margin profile greater than 50%. So that's one of the high qualities of our company. As we stated in our Investor Day, we have a lot of organic growth plans as well as M&A plans. We were able to execute our first real acquisition in February of this year. We announced it in January and then spoke about it in our second quarter earnings. And that really was step 1, reasonably small acquisition, but it set the stage for what we're planning to do in the future. So hopefully, a quick run-through of the company. But as we walk through the questions, I'm sure we'll bring more clarity.

Yes. No, that's great, Randy. And you guys used the word current premier. And I mean just looking at kind of the gross profit margin step change with the divestiture and kind of that being kind of the stepping point for Enerpac's kind of evolution, I mean certainly, the gross profit margin, from my perspective, really falls into premier category. But I was kind of curious to hear kind of how you guys think about the definition of premier. And kind of thinking about the future, kind of what additional qualities, and I guess both from a qualitative standpoint, also quantitative standpoint, do you think Enerpac needs to kind of strengthen and gain in order to kind of solidify your reputation as a premier industrial tools company?

Well, I think the main thing that drives shareholder return obviously is margin expansion and a consistent growth, whether it's organic growth or from acquisitions that support the strategy and really grow the company where you can see a progression over time. So if you think about the building blocks of what we believe is a premier company, as we stated in our Investor Day and as we've talked about in the prior earnings call, our stairstep is we exited and divested away from a multi-facet, diversified industrial business to a pure play. As we got stranded costs out and then rightsized the business, that we were generating an EBITDA margin that was marching towards that 25% goal that we had stated. And as we said in our second quarter earnings call, that we had all the pieces lined up absent the revenue that we've seen in the second quarter, and obviously, everybody in the industries are feeling in the market today, that we were well on our way to be in the high-teens into the low 20s as we entered our fiscal 2021. The remaining piece of that had to do with some structural changes in the manufacturing footprint, which we'd already begun. And then certainly, as we drive volume, any great company has a very high operating leverage. And as we've stated, the Enerpac Tool Group has an operating leverage between 35% and 45%, which really lends itself to great margin expansion as you grow. The other piece of the equation that we've worked for the last 4 to 5 years on is really driving a very solid R&D department and bringing different new products to the market quickly. And we've been able to take our business from having relatively low new product contribution to our revenue. And now as we exited the second quarter, we had exceeded our 10% goal, which I think is a great attribute of any great company, is they are bringing new products that drive margin expansion as well as revenue expansion, which drives shareholder value. And third, we believe that having a very strong cash generation is something that is extraordinarily consistent with great companies. And we've always had a tradition of converting cash at greater than 100% and doing it in a manner that we don't tie up a lot of invested capital in the business. So -- and if you think about the final piece is having a high return on capital employed, we believe that a 20% target is well within our grasp. So if you look at the 5 pieces, at growth rates that are capable of moving above the market and driving high efficiency to get to a high EBITDA margin at around 25%, generating strong cash flow and then ultimately giving a very strong return on capital employed is, I think, the key elements to driving TSR for a shareholder.

Got it. That's great. And you talked -- you touched on focus on R&D. And maybe we can talk about sort of new products that Enerpac will be introducing in the near term. And you guys did an exceptional job kind of going through some of the product -- new product introduction and NPV cadence in the last Investor Day. But if you don't mind, can you talk about sort of new product that you guys will be introducing that you're excited about and, I guess, some of the key product features that really Enerpac is focused on based on customer feedback and some of the things that we're all kind of seeing in various end markets?

Yes, [ Ted ]. I think one of the things that we've done a really good job at is identifying new product types and bringing them to the market quickly and really driving that new product vitality index. So if you think about where we were in 2015, as -- we measure our product vitality like every other company does, or most every other company, which is essentially on a 3-year rolling average. It cannot be simply paint and details or a refresh of a current product. We eliminate that from our calculation. It has to be a truly new product to the catalog. So in 2015, we were running at about a 3% to 3.5% rate. And as I mentioned, this year, we had a goal of hitting 10%. We've hit that goal, and we appear to be doing pretty well versus that goal going forward. So for this year, we've had a lot of new pump product lines, very, very new and creative pumps that have come out. We look at specific applications for those pumps, whether it's applying pressure for torquing applications or lifting applications that allow the operator a safer, more compact product and allows more control to the operator. And so they can do a better, more precise job. We've also come out with some really unique lifting applications. As you know, one of the cornerstones of Enerpac has always been able to lift and position extremely heavy products and doing it in project environments that just don't lend themselves to mobile cranes. And so when you think about our product range, we do a lot with high-tonnage lifting applications, and we brought a lot of those new products to the market this year. Couple of them that are very creative, our Cube Jack system is something that is extremely creative and allows for up to 400 tons of lifting capacity in a very compact environment that can be moved easily and by a construction company or a civil engineering firm and be able to lift things as large as a major bridge and abutment and do it in a manner that they can load it up and move it to the next jobsite easily. We've also launched completely new lines of torque and tension tools for wind energy. Some very specific things we've done in the wind energy market, particularly for the raising of major wind towers and then also for how you position those towers once they're in place and then maintaining them. So a lot of very specific tools there that hadn't been done before that make those jobs simpler and ultimately safer for the company that's using our equipment. We've also launched lines of new cutting equipment. One of the areas we really believe is an interesting new product for us is in the cutting and bending line, something we haven't ever had before. So if you're cutting rebar on a jobsite, you can do it several ways. You can do it with cutting torches or you can do it with cutting grinders. And we believe it's a faster and safer application to do with hydraulic cutting tools. They can cut large pieces of steel quickly, either rebar or chain or cabling. And so that's been launched through the product line, starting to gain some traction. So as you think about our M&A targets as well as our product development targets, they usually fall into that same pattern. And so that's why with the HTL acquisition, we wanted that product line to expand our bolting participation not only in the U.K. market but to completely fill out our torque and tension product line. So now we have a full 3-tier product line, and we have products that are fully compatible with other competitors in the field. So some really good things that have been launched this year, and there's more to come.

That's great. That seems like there's a lot of exciting kind of product in the pipeline, and the end users should be really excited to kind of see the new products. That's fantastic, Randy. Just -- you talked about products being sold, kind of diverse end markets. And if you look at Enerpac's kind of geographic exposure, I mean it is truly global. Just kind of thinking about kind of the pandemic situation, I mean how did your kind of global footprint help the company kind of navigate through some of the challenges that you guys were facing? And I mean pretty much a lot of kind of industrial companies were facing from a supply chain perspective, but will be curious to hear your perspective here.

Well, as we talked about in our second quarter, one of the things that we were able to do, as China really was hit hard with the pandemic and certainly, is we saw that in our second quarter, we had about half of our quarter where China was completely shut down. So our facility in the suburbs of Shanghai was one of those affected, but we also have a very good sourcing team located there. And the team in Singapore as well as in Shanghai were able to look at how they can reroute either components or complete goods and then anticipating where they were going to be needed. So luckily, we didn't see supply disruption in our second quarter. And our team did a great job of moving that material early and then thinking of different ways that they can resource it from different locations in the event that there were additional problems. I think one of the things that helped us through that was when we had the tariffs that were hitting us hard in last year's numbers, we were thinking creatively on how we can move and resource product differently. And I think the team had already done a lot of thinking around those lines. And I really couldn't commend our team more for what they did in the first and second quarter to accommodate the company's requirements. And it really taught us how we can move through a pretty rough environment quickly.

Got it. Okay. Got it. And just kind of continuing on this topic here, you guys gave an update on April 8 around the business kind of operational status and cost-cutting actions that you guys took immediately. Is there -- were there any additional kind of actions that the company implemented after the April 8 announcement kind of globally and regionally?

Well, as we said when we started, we'll give you a complete and full rundown of all our activities in the third quarter at our earnings call coming up. But just to speak to those -- the actions we took, they were done to take immediate cost and have an immediate impact on our current quarters. We could see that we needed to take some costs out quickly, and we did. So as painful as it has been for ourselves and our employees, it was something that had to be done. Our primary concern coming through the current situation the world's in right now is, number one, keep our employees safe. And it has been really, really our primary objective to make sure that our plants are safe and the people that are working remotely are doing it efficiently. And I think it's really proven to a lot of companies that we're capable of running our businesses remotely and doing it in a reasonably efficient manner. I think it's going to permanently change how we view business travel and the necessity for having face-to-face meetings when we can do a global industrial conference via either Webex or through call -- the conference call. So clearly, those costs, many of them are temporary in nature. But I really believe that some of the actions we have taken will clearly have a long-lasting effect on how not only our company but everybody else runs.

I think we're also -- we are -- in those actions, and much like everyone else, we're really focused on managing liquidity. And we took those temporary actions because they both had an expense impact but, probably more importantly, a cash flow impact. And that's been one of the areas we've been keenly focused on. As we talked about on our call, we entered this whole pandemic with a very strong balance sheet, having sold the ECS business, used proceeds to pay down debt. We were sitting at an incredibly low leverage point, which positioned us nicely as we went into kind of the economic shutdown. And so we've been taking actions to do everything we can to protect that position and leverage where we are. So we talked about the temporary actions, which Randy was referring to. We also made a minor amendment to our credit agreement to give us additional breathing room on the interest coverage ratio for another 12 months, kind of extending somewhat of a holiday there. And then we recently announced our intent to use our revolver to pay off our high-yield bonds that are callable here in June. They're not due until 2022 but seizing the opportunity here to take advantage of very low interest rates and, again, generating what could be $10 million of interest and cash savings. And so really focused on managing through, managing liquidity and positioning ourselves to be financially strong as this thing turns around.

Got it. Taking -- let's kind of switch gears here and talk about kind of the importance of distributors from Enerpac's business model. I mean you guys have relationship with many, many distributors, and it seems like they're very sticky. Can you just talk about that relationship with the distributors and how your relationship is really differentiated compared to some of your competitors?

I think one of our strongest attributes is our distribution channel. We have somewhere around 2,500 distributors globally and well over 4,000 points of sale. And as I mentioned, that took years, decades to create. And so if you think of the vertical markets I mentioned, of the 13 verticals, all distributors don't cover all 13. Specialized distributors cover certain vertical markets, whether it's civil construction, they focus on roadbuilding, ship -- bridgebuilding, things that are civil engineering, and are very good at that. There are others that are fluid power that -- meaning hydraulic distributors. They build and distribute hydraulic components as well as other things that Enerpac provides. Then you get into ones that are specialized in machine tools or aerospace or oil and gas, in some cases, mining. So it's a very diverse distributor footprint, and it's something that's taken a long time to create. But it's important to us. Our relationship with those distributors is extremely important because they have choices. And many of them, when they refer to what they call their line sheet, which is the products they distribute, they will put their dollars where they believe they have the most support and the best chances for margin generation and making money as a dealer. So from our perspective, that's why when I took over almost 5 years ago now, we took a lot of effort to improve our channel and how we support those distributors, changing the concentration of our in-field reps so that they can, in fact, cover those dealers more effectively. One rep cannot cover 40 or 50 distributors. We know that to be very good at it, you probably should have about 20 distributors in your primary coverage. And one of the things we've seen throughout the pandemic is that our people in the field have become very creative of driving not only training but new product introductions and keeping those contacts and those relationships with our distributors very, very wide open. And so since -- we typically have a very rigorous training program that we do in a year. As of the shutdown, the global shutdown that we've seen, we've trained thousand -- I think the last number, Barb, was somewhere around 7,000...

That's right.

People have been taken through our training program. A number like that typically would be done in an entire year. But that's how our concentration of sales reps and how they view those distributors as their primary path to the customer is extraordinarily important. We try to provide the best possible support to them and make sure that they know that this is not just a commodity tool that you can buy anywhere, take it out of the box and use it. To really get the most out of it, you need to be trained and to have that technical advice when you need it. So I think that's -- our dealer channel is extraordinarily important.

That's great. I mean that number you quoted, Randy, I mean that's truly impressive certainly. I mean just from a priority perspective, I mean what are your kind of priority focus areas for the rest of the fiscal year and calendar year? I mean aside from -- you mentioned employee safety. I mean those are very important and -- obviously. But from an operational perspective and from a shareholder return perspective, I mean what do you think are -- or what are kind of current focus areas for you guys?

Well, I think there are 2 ways to look at it. There's the internal focus things that Rick mentioned of making sure we keep our balance sheet absolutely crystal clean and all the operational things we can do to either control cost, accelerate our footprint programs that we know will drive cost savings, position the business as best we can so when the lights come back on globally, we're ready for business and we're there to support our dealers. So looking internally, that's our primary objective, is keep the business whole, keep the contacts with our employees alive and well. And I think as we've gone through this, we've learned of ways to speak to a broader group of employees on a very regular basis. We speak to them weekly. And I think that's been a very important, internally, focus. Now externally, how do we continue to position our business so when things are getting back to normal, we can continue on as a premier tool company? Number one, we're thinking about how we position inventory, making sure we don't have excess inventory for sure but positioning it in the fact that there could be pent-up demand as things come back to life. There'll be a lot of not only maintenance activities but jobsites that have been taken down to a sort of slow crawl as the availability of people in the certain states and/or countries have been shut down. So we think that to the extent that we don't have permanent damage done to certain vertical markets, there should be an acceleration as things start getting back to normal. So from our perspective, our main priority is making sure we're operationally ready to go, that we keep our focus on internal investments and on the R&D effort as well as our marketing efforts to let our dealers know about the product and how to operate it and then how to sell it. And then if we can do that, our main objectives of being positioned well, come out the backside of this as healthy as we've ever been are a higher probable. So that's our main priorities through the remainder of our fiscal year.

Got it. That's very clear. If you don't mind, you guys kind of laid out the 5-year plan and some of the targets that you guys are looking to achieve by 2024. I mean maybe it's a bit premature to kind of revisit those numbers just given what's going on. But nonetheless, I mean how do you guys feel about achieving 25% EBITDA margin kind of growing above market? I mean just given what's going on here, do you guys still feel like that's achievable by 2024?

Well, I think it's largely due to what's the speed of the recovery because with any growth plan, obviously, we're at the mercy of the market. Our ability to grow organically is still vibrant, and as I mentioned, we're still there. And our objective to always outperform the prevailing market, I think, is very achievable. Now as soon as we get back to a normalized run rate of normal orders, then I'm certain that, that will come. As far as the EBITDA margin expansion, we -- as we guided our 2020 plan, which was that $575 million to $600 million range that we guided at the first of the year, under that plan and that revenue base, we knew that we were going to be above, as I mentioned, the high-teens to low 20s as we exited 2020 and well positioned for growth going into '21. So I believe that our margin profile will start accelerating again as the volume starts returning to our world markets. So that's going to be dependent on the impact of the COVID issue that we're dealing with. But all the underlying elements, as Rick has walked through many times, and certainly, he can deep-dive that -- into that again, that we had a step of how we came out of '19, how we positioned into '20, what were the remaining steps to get us into the 2021 plan, which was our restructuring rates, the final trapped costs that were coming out and ultimately the footprint programs that were well underway and then just the final growth that we were expecting above our guide rate for 2020. So Rick, do you want to jump in on that?

No. I think when you just talk about growth, if we start there, to your point, growth -- outgrowing the market and NPD-driven growth, I think those are still the things we're focused on. As Randy talked about, we're continuing our NPD efforts. We continue to launch new products. And going into the second quarter, we were above our 10% target range. And so I feel confident that we'll continue and be able to see sowing the seeds for that growth once the market returns. From a margin expansion perspective, again, we've talked about and announced about $25 million of actions that are essentially done. And we also have talked about footprint optimization savings of $10 million, $5 million which -- of which are done. So in total, we've got about $30 million of cost out and $5 million in process. Those are all the foundational things to that 25% margin walk. And so with all of the kind of self-help or structural actions that we've taken as well as our continued focus on NPD, now we're just waiting for the market to return so that we can see and realize the type of margins that we described in our strategic plan.

Got it. That's clear. And just talk about M&A, and then congrats again on the M&A that was closed in February. Just under normalized circumstances, how should kind of investors think about Enerpac's M&A strategy? And if you can kind of speak through certain potential kind of product categories that you would like Enerpac to expand into or strengthen its position into, just would love to kind of hear your thoughts here.

Yes. As I mentioned in sort of my opening comments, we view the vertical industries as well as the product types and how they serve the light industrial and heavy industrial sector. So if you really think of the charts we presented to the investors back in our Investor Day, we split it out into areas where we're very strong: lifting, pulling, positioning, clamping and spreading. Those are core to Enerpac and primarily are going to be types of businesses that are with -- or types of products that are within the business today that will be from organic growth from R&D efforts. And when you go into cutting and bending, as I mentioned, that's a new area for us. So when you think of cutting and bending and extracting, those things are relatively new and I believe will be definite targets for our M&A activities. Now as I mentioned, we believe in our capital allocation strategy. Our most important elements right now is investing in ourselves, maintaining a strong balance sheet until we get back to normal. So I wouldn't expect us to be announcing any M&A activity in the near term until we see some positive inflection points in this market. The third area, which is really where the HTL acquisition, which is in the torque and tension area. And we believe that, that vertical is around $0.5 billion vertical. And we know that our participation rate in that is going to start climbing, but there are additional products that certainly we will be looking at for M&A activities and that will expand how we do torque and tension. So that's a very, very interesting sector for us. And then the remaining piece is in material preparation and machining. We made some acquisitions on -- in those areas, and I guess it was almost 2 years ago now. But there's still some room to grow there as well. And we've seen that those are high-margin products, and they're very specific applications. So in total, there's many, many different types of tools, but we have a couple of key laneways that we're looking at right now. Then when you think about the vertical market, that's another very interesting one when you split that out in the M&A arena. I think at any time we can participate stronger in things like aerospace and general industrial and repair and maintenance operations, that's very interesting to us as well as applications in the on- and off-highway vehicle repair.

Got it. Understood. We have a few more minutes here. Maybe we'll do one more -- 2 questions and 1 from the audience that I just received. Just kind of looking back the past kind of 10 to 12 weeks, Randy, Rick and Barb, kind of what are the kind of the key lessons learned from your perspective? And was there anything that you guys kind of learned about your organization? And kind of why do you think Enerpac will come out stronger when all the kind of dust settles here?

Well, I think the resilience of the company really shines through. As I mentioned, we speak with our employee base weekly. And in any one call, we can have between 600 and, I think, Barb, it's gone as high as 800 in a single call.

That's right.

We do that weekly. So there's a high degree of interest of how the company is doing, the connectivity with all of our employees all over the world. And that's something that has been a very, very pleasant surprise on how the business has responded to this. I think that there's probably been a lot of companies that have struggled to maintain the contact and continuity of their company. The second thing is that just the creativity of our employees in terms of how they reach out to customers and distributors. We had a couple of instances where they were creating their own movie sets in their garage so they could do a better job of training and creating videos and sending them out on their own, which that goes above and beyond the call of duty, as they say. And I think that's been something I've been very impressed with our team and very proud of how they've responded to this. And then third is just the community outreach. Our teams all over the world have looked at very creative ways to use our equipment and tools to help communities. In fact, we made protection equipment on our 3D printers and donated them to local hospitals. And in our Cortland operations, obviously, we do make medical systems. And we were able to convert some of our high-strength fiber technology into mask technology and made those quickly, and we're able to donate those as well. So the sense of community, I think, I'm very proud of our team that they have really reached out in their local communities and been part of those efforts to help people. And ultimately, we've kept people healthy. And we've been very, very lucky about not having a high infection rate.

That's great. We're kind of right up on time here. So Randy, Rick and Barb, we again thank you very much for participating in our conference this year. And it's great talking to you guys, learning obviously more about the Enerpac. And hope you guys stay safe, and have a great rest of the week. Thank you very much.

Thank you very much. Thank you very much for having us.

Thank you.

Thank you.

And talk to you later.