Hammond Power Solutions Inc. ($HPSA)

Good morning, ladies and gentlemen. Welcome to Hammond Power Solutions Fourth Quarter and Year-End 2025 Financial Results Conference Call. Certain statements that will be discussed in this conference call will constitute forward-looking statements. The forward-looking information and statements included in discussion are not guarantees of future performance and should not be unduly relied upon. Forward-looking statements will be based on current expectations, estimates and projections that involve a number of risks and uncertainties, which could cause actual results to differ materially from those anticipated and described in the forward-looking statements. Such information and statements involve known and unknown risks, uncertainties and other factors that may cause actual results or events to differ materially from those anticipated in such forward-looking information and statements. These factors include, but are not limited to, such things as the impact of general industry conditions, fluctuations of commodity prices, industry competition, availability of qualified personnel and management, stock market volatility and timely and cost-effective access to sufficient capital from internal and external sources. The risks just outlined should not be construed as exhaustive. Although management of the company believes that the expectations reflected in such forward-looking statements are reasonable, it can give no assurance that such expectations will prove to have been correct. Accordingly, listeners should not place undue reliance upon any of the forward-looking information discussed in this call. I'd like to hand the call over to Mr. Adrian Thomas, Chief Executive Officer of Hammond Power Solutions. Mr. Thomas?

Good morning, everyone, and thank you for joining us today. I'm pleased to share Hammond Power Solutions Fourth Quarter and Full Year 2025 results. Joining me is our CFO, Richard Vollering. When we look back on 2025, it was truly a defining year for HPS. As I noted in my letter to shareholders, this was a year where accelerating demand met the capacity and operational foundation we've been building for several years. Our theme, expanding our horizons reflects both our progress and our growing role in global electrification and digital infrastructure. 3 factors define the year: strong demand across key markets, continued expansion of our manufacturing capacity and disciplined execution across our operations to support growing customer requirements. Let me start with the numbers. For the full year, revenue reached $898.3 million, up 13.9% from 2024. Growth was broad-based, but most pronounced in the U.S. and Mexico, where sales increased 18.1%, driven by strong results in distribution, private label programs and especially custom-engineered solutions in data center and technology applications. Canada grew 8.6%, supported by infrastructure, utilities and industrial activity. India shipments were down. However, it continues to contribute positively to our business as we remain disciplined prioritizing margin over volume. In the fourth quarter alone, we generated $254.1 million in revenue, reinforcing the demand we're seeing for higher-value custom solutions, a theme that has been consistent all year. But perhaps the strongest indicator of our trajectory is backlog. By year-end, backlog was up 122% year-over-year and 74% versus Q3, reaching the highest level ever in our company's history. This includes several large multiyear custom projects in the data center ecosystem, which give us strong revenue visibility as we move into 2026. Now turning to margins. Gross margins for the year was 30.3%, down from 32.8% last year. This change reflects higher input costs, tariff impacts and unabsorbed overhead associated with ramping up new manufacturing capacity. These are primarily timing-related impacts and we expect factory absorption to improve as utilization ramps in 2026. Even with these pressures, earnings remain stable. Net earnings came in at $72.2 million and adjusted EBITDA reached $133.3 million, up from last year. This resilience speaks to careful management, linking pricing discipline and cost management to operating leverage and commercial focus on driving demand. As I already commented on new manufacturing, 2025 was also a major investment year for us. We successfully brought over $100 million of new capacity online at Monterrey 4, ahead of schedule and on budget, providing us a facility that is already contributing to backlog conversion. We also approved additional projects that will lead to a combined $100 million in custom transformer capacity across our footprint through 2026 and early 2027 to ensure we stay ahead of demand. We expanded our North American logistics network with our new Dallas distribution hub, and we fully integrated Micron Industries, including the final ERP cutover, improving service levels responsiveness and efficiency across the region. These steps strengthen our platform for scale and support long-term margin expansion. Now I'd like to talk about our portfolio because this is an area where we are taking a major strategic step forward. As announced earlier this year, we signed a definitive agreement to acquire AEG Power Solutions for CAD 365 million. This is a transformative addition to HPS. AEG is a global leader in industrial UPS, uninterruptible power supplies, rectifiers, inverters and power conversion technologies with approximately CAD 326 million in revenue, more than 780 employees and 5 manufacturing facilities across Europe and Asia, AEG significantly expands our scale and global reach. Just as important, AEG brings a substantial installed base and with it, a meaningful recurring services and aftermarket revenue stream. This further diversifies and stabilizes earnings while deepening long-term customer relationships. The acquisition also broadens our exposure to high-growth end markets like transportation electrification, industrial infrastructure and data centers and energy transition projects, markets that are experiencing long-cycle structural demand. When you add AEG to our existing transformer and power quality portfolio, along with the expanded capacity we brought online this year, HPS becomes a more diversified, more resilient and more globally relevant integrated electrification solutions provider. Our portfolio becomes broader, our end market reach becomes deeper and we establish a significant recurring revenue base. Looking ahead, 2026 will mark 25 years since HPS became an independent public company, and we're entering that milestone year with record revenue, historic backlog, expanded capacity and a significantly strengthened product and technology offering, including soon AEG Power Solutions. Before I turn the call over to Richard for the financial review, I want to thank our employees for their dedication, our customers for their trust and our shareholders for their continued confidence in our long-term strategy. Richard, over to you.

Thank you, Adrian, and good morning, everyone. Let me start by acknowledging that 2025 began with a fair amount of market uncertainty. As the year unfolded, we encountered several unexpected challenges due to shifts in the global trade environment. Notably, we saw copper prices rising in tariffs, both direct and indirect, putting pressure on our input costs. In the fourth quarter, the Section 232 tariffs had a direct impact on our finished goods, which contributed to the decline in our gross margin as the year progressed. Despite these headwinds, I'm pleased to report that we delivered a strong outcome for the year. Our sales increased by 13.9% year-over-year, led primarily by robust growth in the U.S. where data center activity continued to lead overall economic activity. Our Canadian operations also performed well under challenging circumstances with infrastructure and data center projects remaining particularly strong. These positive trends continued into the fourth quarter with sales reaching a record $254 million. This quarter's growth was driven by strong underlying demand, the shipment of projects that have been delayed from the third quarter and the benefit of price increases we put in place in September. Gross margin for the quarter came in at 29.2%. This was impacted by the Section 232 tariffs implemented in August and by unabsorbed overhead from ramping up our new facilities in Mexico. While we took pricing actions to help offset these costs, we weren't able to fully recover them in the quarter. SG&A expenses totaled $168 million for the year and $52 million for the quarter, reflecting the higher share-based compensation and increased sales volumes, particularly in the U.S. distribution channel. If we exclude share-based compensation, SG&A for the quarter was $43 million. Adjusted EBITDA reached $133 million for the year. including $38.7 million in the fourth quarter. For the year, this represents a 2% increase over 2024's adjusted EBITDA of $130 million. We also made progress on working capital, which improved by $9.5 million in Q4 despite higher sales volumes, thanks in part to inventory reductions. As a result, our net debt position improved to $15 million at year-end, down from $28 million at the end of the third quarter. Cash provided by operations was $32 million in the fourth quarter. Capital expenditures for the year were $35.5 million, which is within our expected range of $35 million to $40 million. These investments focus primarily on expanding capacity on our Monterrey III and IV and Guelph facilities as well as maintenance capital. During the fourth quarter, we made minority investments in Verdyn and SmartD totaling $3 million. These strategic investments allow us to partner with innovative technology leaders and open new opportunities for HPS in the power quality market. In summary, 2025 was a challenging year that required us to adapt and recalibrate in several areas. Thanks to our engaged and agile team, we navigated these challenges effectively. As we move into 2026, our strong backlog and expanded capacity position us well to maintain the momentum we built at the end of 2025. Thank you. I will now hand the call back to the operator to take any questions from our participants.

[Operator Instructions] Our first question comes from the line of Matthew Lee with [ CGM ].

Backlog, very impressive this quarter. I know there were some lumpier contracts in there. But maybe talk to us about the level of demand you're seeing right now, the bidding activity? And how we should be thinking about backlog growth as you work through the year?

Thanks, Matt. It's Adrian. We continue to see good quotation activity. We were able to attract a number of large projects as we opened up Mont IV because of immediate capacity. But we continue to see large projects. Particularly in the data center business, I would say that quotation activity for custom remains high.

Okay. Any pockets of weakness in terms of that demand? Like I mean, I think earlier last year, there was some talk about commercial and industrial maybe being a little slower. Are you seeing similar trends today?

I think that's a similar trend, Matt, that sort of commercial construction, more office tower work and things of that nature tends to be slower. We do see pockets of infrastructure spending, things like water treatment health care and hospitals depending on the region, have some activity, but generally, commercial construction, light industrial tends to be a little bit lighter from what we see.

Okay. That's helpful. And then maybe just in terms of capacity, I think you mentioned $100 million in additional capacity from recent initiatives. My math suggests that puts you like $1.3 billion to $1.4 billion of capacity today's pricing. But if you think about how data centers are emerging and other emerging markets are evolving, it seems like you could probably reach that capacity as early as maybe 2028. How are you thinking about adding capacity right now, and how long would it take you to add, say, $100 million of capacity if you'd announce it today through a new facility?

So our capacity outlook is something we continually look at, Matt, and you saw that even with the addition of Mont IV, we anticipated that there would be some additional. So we -- as you mentioned, we added some CapEx for equipment and as well as some productivity actions to give us additional capacity. We will generally think about capacity additions in 2 ways. So adding equipment to existing footprint is usually -- depending on the backlog from equipment vendors is something that would usually take 9 to 12 months to ramp up. Building a new utility is probably something in the order of magnitude of 2 years. And so Mont IV, we were able to do that quicker, working closely with the developer we'd work with in the past and having a building that was ready to be ready to be transformed. So anywhere between that 9 months to 2 years time frame is sort of what you should be thinking about in terms of time to add capacity.

And do you feel like you have -- still have space to add additional equipment to the facilities you have today?

Yes. I think that if we need more capacity, then we'll pull the trigger on additional capacity expansions.

Our next question comes from Nicholas Boychuk with ATB Cormark Capital Markets.

Sticking with the capacity question and relating to the margins. You mentioned here that there were 140 basis point negative impact this quarter just from unabsorbed factory overhead. I'm curious how fast that's going to be utilized and if it already has given these new orders into the start of 2026, how should we be thinking about gross margins for the rest of the year?

Yes, great question, Matt. I'll hand that one over to Richard to answer.

Yes, it is a good question. So Mont IV, we talked about it being 2 factories, Mont III and Mont IV. Mont IV is starting to ramp up in Q1, and we should see that really take hold in the second quarter. And as for Mont III, we should see that linger a little bit longer into the year, and that's just due to the nature of the product that's made in that particular factory. And we are making some -- Adrian talked a little bit about our ability to add equipment and create additional capacity that way. That's one of the things that we're looking at for that particular facility. So that's going to take some time to work through. And we should see that hopefully by the tail end of the year, something like fourth quarter. So yes, that about sums it up.

Okay. Understood. And is it split roughly 50-50 between the 2 is 140 basis points may be tied a little bit more to one of the two facilities?

It's probably split evenly between the two.

And then sticking again with margins, but switching down to the OpEx line. There were a bit of an increase this year just given higher freight costs and some additional warehouse costs. How should we be thinking about that relative to new capacity that comes online potentially outside of Monterrey, Mexico? Is there going to be an advantage, either given the source of some of the demand that you're seeing and where those pockets might be geopolitically or sort of geographically, where you would be more incentivized to build a facility outside of Mexico? And if you've started to do preliminary work, where that might be and what that might look like?

That's all under evaluation right now, Nic, I don't have an answer for you. But once we've worked out how much capacity is required, then we determine where to put it. And so the -- when we have answers for you, you'll be sure to communicate that.

Okay. And I guess just if I could ask you in a different way, does AEG happen to have any domestic presence in North America. If you can remind us if they've got something here that might make things a little bit faster or closer to that 9 months instead of 2 years?

No. AEG's production capacity is all in Europe and Asia Pacific.

Our next question comes from Baltej Sidhu with National Bank of Canada.

Just on the additional $100 million capacity expansion that was announced. How are conversations going with respect to taking orders to fill that capacity? And have you started to sign or onboard customers there?

Baltej, it's Adrian. I think similar question to what Matt asked earlier just in terms of quotation activity. We see a lot of demand for custom products. Our standard products continue to grow and that capacity we had previously added capacity into Monterrey and other areas to serve that. So we still have capacity for our standard products as we look out for custom products, certainly, data center, but we see diverse industries as well. So across all the sectors that we've been servicing our customers, so whether it's mining, oil and gas, other electro-intensive industries, we continue to see that demand for custom products. So that's how we see going forward. There is still a fair diversity in terms of the customers that we serve. And so traditionally speaking, a lot of that is more of about a 6-month sort of backlog time frame, Baltej. So that's sort of the visibility we have there.

Great. And then just turning over to the margins and I think this was touched on earlier, but it seems that Q4 could represent a trough and sequentially expand, just given where commodities are, aluminum is still running, but copper has kind of stabilized. Is that a fair assessment when we're looking forward?

Richard, why don't you take that one?

Yes, so -- this has happened before. I mean, it is somewhat reminiscent of what happened post pandemic when we had quick changes in our input costs. In this case, input cost is one element and tariffs are another element. And in terms of taking pricing actions, things always get behind simply because price changes take time to implement. And so I think that's one element that affected Q4 and then, of course, the under absorption. So those are 2 things that we will be keeping an eye on as we move into 2025. And I think all other things being equal, we would hope to see those 2 things improve barring any other changes. And of course, we may have more tariff changes coming down, which we can't really say how that might affect us, but I think it's safe to say that to the extent that tariffs go up, that will create another lag in margins. So more to come, but I think all of the things equal, I think those are sort of the 2 main things that we're keeping an eye on going into 2026.

Okay. And then of the current backlog, how much do you expect to realize within '26 versus '27? And can you provide any details on the percent exposure to customer and data centers. It seems like the backlog would be heavily skewed to that?

So yes, the split between -- one thing that's -- I think one of the dynamics of the backlog is that it is extending longer than it has in the past, and that's simply because we have larger projects. So there is a portion of that backlog that does a significant proportion that extends into 2027. And so I think we've always sort of talked about the tenure of the backlog. There's sort of short-term backlog, which turns around in 6 to 8 weeks. There's the standard lead time backlog, which kind of turns around in roughly 2 quarters, and now we've got this element that stretches sometimes into 4 quarters and beyond. So the tenure of the backlog has definitely gotten longer from that respect. And sorry, Baltej, the second question was?

Just the percentage exposure to customer data, but I think you hinted on that just given there will be longer lead time items?

Yes. I mean it's getting closer to 30% now. It was sort of -- in the past, it's sort of been 10% to 15% roughly. Now it's getting -- it is definitely getting higher. And that really just -- frankly just stems back to the level of economic activity that drives from particular business more generally.

And sorry, could you confirm that? You noted that 30%, would that 30% be the percent of the backlog that's attributed towards data centers? Or would that 30% relate to kind of the sales volume?

The sales volume, yes. Backlog growth is probably more heavily weighted towards data centers.

[Operator Instructions] Our next question comes from Jim Byrne with Acumen.

You mentioned the investments in SmartD and I think Verdyn. Maybe just give us an update on how SmartD has been a couple of years. How are they progressing? And kind of what products are they focusing on?

Sure. Jim, it's Adrian. Both of those investments were part of our interest in products that are helping customers solve power quality issues. I would say there's a small product base and then there's large system base. And so SmartD is the small product-based approach and Verdyn is more of the large project-based approach. So with SmartD, their primary product is a harmonic-less drive, variable speed drive or a motor controller. This is very important in a couple of applications. One retrofits where you have existing infrastructure that can't handle the harmonics from a traditional drive, and so that enhances retrofit applications. It can also reduce complexity and cost of installations for new projects and particularly projects that are susceptible to harmonics, whether it critical infrastructure or if it's things with situations that create difficulties with harmonics such as having very long table lengths to the motor. So SmartD is really a niche drive supplier, and it's sort of in start-up mode and developing opportunities with customers. Verdyn takes a slightly different approach. Verdyn is addressing larger scale, I would say, industrial facility-wide power quality issues, issues that are difficult to identify and difficult to mitigate. And so they work sort of on a turnkey basis almost, helping the customer identify where the problem is stemming from, how to create a solution for that? And with Verdyn, developing that systems basis, we share some mutual customers as well as many of their projects utilize transformers and other electromagnetics. So there's sort of a natural synergy there.

Yes, that's great. And maybe it's been, I guess, about a month here since the announcement on AEG. Any update on the firm closing date or any update with AEG?

No. The plan is still -- we're anticipating closing in Q2, Jim, and things continue to progress.

Okay. That's great. And then, Richard, maybe a couple for you. CapEx came in kind of at the low end of expectations, I think, for 2025. What are you seeing for '26. And then on the working capital side, what should we expect over the course of the year?

So on CapEx, I think going into 2026, we're talking about roughly the same as 2025. We've got more capacity projects included in the plan. So I don't anticipate too many changes in that respect. In terms of working capital, I think, number one, that's going to depend on -- it's going to depend on growth. But some things we are taking a harder look at in terms of inventory levels. And I think that's somewhere where there's some opportunity for us going into the year.

That concludes today's question-and-answer session. I'd like to turn the call back to Adrian Thomas for closing remarks.

Thank you, operator, and thank you for everyone joining us today. I would like to just make a comment again, thanking our employees and customers and investors for your trust in our vision of the electrification. We continue to invest in the future, and we look forward to providing more updates as we go further. Thank you.

This concludes today's conference call. Thank you for participating. You may now disconnect.