Lincoln Electric Holdings, Inc. (LECO) Earnings Call Transcript & Summary

All right. Great. Thanks, everyone, for joining us. My name is Adam Seiden. I'm the U.S. machinery and construction lead at Barclays. We're pleased to have with us at this session Lincoln Electric. Joining us from Lincoln Electric on stage with me is Chris Mapes, Chairman and CEO; as well as we have in the audience Gabe Bruno, Chief Financial Officer; and Amanda Butler from the IR team. So the format of this session is going to be a fireside chat, think Chris and I. We do, though, invite your participation in the event here. If you have any questions, there are -- there is a QR code now, the first time for us at Barclays on your desk where you could scan in, submit your question. You will report to Chris and I right here, and we're happy to ask it on your behalf. Otherwise, if you prefer the more traditional route, there are mic runners that are -- that would be happy to give you a mic, and I'll let you ask directly to Chris. So with that, Chris, welcome back to Miami, and thanks for being here.

Yes. Thanks, Adam. It's great to be here again.

Great. Well, so where I want to start out is, I want to start out a little bit on the broader industrial cycle. Now irrespective of some of the geopolitical things that are in place certainly in the headlines today, I want to think -- talk out loud a little bit about where do you see us in today's cycle given that if you look at Lincoln over the last number of years, really 10-plus years, cycle lengths have varied quite a bit in length. So curious what you think -- how you think today's industrial cycle is turning out? And how sustainable is it?

Yes. Adam, I think that we've been talking like electric about the industrial cycle for the last couple of quarters. We're probably 3 quarters into the industrial cycle. And probably the favorable elements of that industrial cycle for us are also that we saw energy move favorable in the back half of '21, which is an important segment within Lincoln Electric that was really the only segment that was really lagging a little bit as we started to see the economies around the world really move forward. When I think about this particular industrial cycle, being 3 quarters in, I really feel that this cycle is in its early stages. And when we look at the dynamics around the cycle, the likelihood that this cycle is elongated is probably more positive than not, although always difficult to determine what a cycle will look like. We feel like that because we have so many of these segments that are moving positively. Historically, these cycles have gone from 7 or 8 quarters to 12 quarters or so. And we certainly believe that we're in the early stages of an elongated cycle. The supply chain challenges that have been out there probably will be a catalyst to extending this particular cycle to the higher end of the range. And then there's been an enormous global inventory drawdown. And at some point in time, that will have to be replenished and that replenishment should elongate the cycle. And then for Lincoln Electric, look, our automation businesses today are at a run rate of around $500 million. So that automation business and the tail on that automation business is much longer than the core portfolio, which in itself should elongate out the favorability of the market for us, and that's beyond really the secular trends around automation that we think are favorable. So many of the elements that we look at are setting up for a more favorable industrial cycle and probably an elongated industrial cycle when we think about the historical trends.

Got it. So it certainly seems like we're setting up for something that could potentially be a bit more elongated here. And I think as we think further out, there are a bunch of thematic trends out there that could certainly influence your business, both today and in the future. And you guys have been talking a little bit about whether it's reshoring in renewables and infrastructure. The list goes on kind of. So curious, when you think about those broader dramatic trends, what's impacting orders today versus as we look out to the future.

Yes, Adam, I think that's one of the interesting things about Lincoln Electric and that we participate around the world in so many various segments that most of these thematics that people are talking about from a demand driver perspective are impacted by Lincoln Electric. So whether we're talking about electric vehicles, where we're currently today doing automation cells for the upstart EV manufacturers or quite frankly product portfolios for existing OEMs, the potential for reshoring, the potential opportunity that we see long term around infrastructure, all of those elements are favorable for us, either across our portfolio or in one of the major segments that we participate with. I would tell you personally that when I think about the company, probably the thematic that I'm most excited about is the continued long-term secular trends that will impact our automation business. And the reason for that is our automation business already has a growth rate that's about 2x our core business. We expect that growth rate to be in the high single to low double-digit rate. But that automation business is impacted across 2 or 3 of those categories, those thematics that you talked about. So look, EV is a new technology. It requires new capital investment, both on the automation side as well as the product side. Individuals and customers that are reshoring, they're reshoring that back in, but if they're reshoring they're not looking at doing that with labor content. Today, they can't find that labor content and that labor content minimizes their competitiveness. So they're looking to drive automation into those processes to be able to effectuate the reshore. So when we look at a host of those themes, I see them impacting our automation business even at higher rates than maybe the core business, but I think we're well poised when we talk about those as we're moving forward over the next few years.

Got it. And I think you mentioned a little bit about working with some of the newer, smaller EV companies that are out there. And just curious if you could talk a little bit about that on EV specifically and automation they're seeing there and so forth. But are the EV wins that you're seeing, are they concentrated more with the small start-ups? Or are you seeing some of the larger big 3s of the world [ hard ] to do business [ with you guys involved ]?

Yes, Adam, I would tell you is we're winning across the board, but there are different types of wins, and that's logical when we think across our business. So you take someone like Ford or General Motors, which we have a relationship with. Those are very established manufacturers, very established OEMs, and we know the others that are out there around the world. When they're talking about transitioning towards EV, they're transitioning with an underlying asset base. When you're talking about the upstarts in the marketplace, they have no assets. So those customers are not only talking about asking us to assist them in developing the welding solutions or the process solutions, but then they're asking us to build those automation cells. So that relationship looks different than some of the other relationships that we have with more established manufacturers around the world. But we see that increase in those discussions and those opportunities across the portfolio.

Got it. And maybe just a makeup of that relationship with yourself and versus how you traditionally have done business with the larger automotive manufacturers and so forth. As we transition into this EV world or even expanding it further into broader clean energy, is there any difference in the type of the amount of consumables consumption versus what you have seen traditionally on more [ ice ] as promised?

Yes. I don't know that there's a real significant difference in the mix. But what I will share with you is there's a much different shift in the conversation. And what I mean by that is that, look, these green technologies, these green energy applications, many of them are very, very innovative. Quite frankly, it may be the first time individuals are looking at building some of these technologies. And in doing that, that's where I believe we have an advantage because people are needing assistance, they need technical assistance. This isn't just taking the current process and replicating the process. So many of the discussions are very different with those OEMs, although the product portfolio change other than there being probably a larger portion in automation because of it being new in my earlier comments around the fact that they need to develop the assets. The discussions are different because these are individuals that are looking to Lincoln to be able to develop those technologies.

Got it. And I want to traditional little bit talk about infrastructure because everyone here, and we all see that there's some large stimulus dollars that have been passed here in the U.S., North America. But one of the concerns that I always get from investors is, is there going to be the folks out there to build it? And in order to build a whole lot of infrastructure, there's a good amount of welding that has to come with it. So curious, labor shortages are something that you guys have spoken with about a little bit on the -- or increasing labor penetration into the welding field is something you guys have talked about. So just curious where you see the labor market today from a welder's perspective? And does that put any bottlenecks on getting some...

No, I'd say a couple of comments and then comment on the welder, which is -- you're right, Adam, we've had processes and educational tools out there for a long period of time to assist individuals in being able to develop the steel balder. But the first comment I would make that when I think about infrastructure before I get to the welder, I think about the permitting process and quite frankly, how many of these projects are really shovel-ready projects. But there is no question that certainly here in the U.S. market, we have a deteriorating infrastructure that is going to require investment. And that investment, we believe, will be coming. I think that because of the challenge of whether they are shovel-ready projects as well as potentially some headwinds associated with broad labor, not just welders, but broad labor, that's probably just another catalyst that should lead us to believe that the cycle should elongate because there's probably going to stretch that demand out a little longer than what people had expected. As it relates to the welder, there still is a shortage of welders in the U.S. But that shortage is being addressed really 2 ways. These are through advanced education programs. We provide those. The American Welding Society provides those, certainly community colleges that we support provide those. And there is a strong effort in trying to provide more wealth and competencies in the marketplace. But the other side of that is, quite frankly, the minimization of the welder through use of cobots, which is an automation technology that minimizes the need for the welder or other automation processes, where the welder is a different individual. It's a different type of skill set to be able to complete that process. I see those technologies continuing to advance to minimize the risks associated with not being able to find the skilled labor.

Got it. And then something that may be a bit harder to quantify, but if anyone is going to know the answer with you guys. And that is -- is there a way to triangulate dollars in certain trades like infrastructure, construction and welding activity?

Yes. I was hoping you'd give me that answer, Adam, because look, when we think about the trades, we certainly have a strong relationship with the trades, but it's very difficult for us to even get data sets that tell us how many mill rights are out there on job sites that, quite frankly, we could use that as a day to look at broad demand. So we struggle with thinking about that. We look at permitting, we look at a host of other data points to try to assist us. But I can't tell you that we have singular data points that we have a lot of confidence in. We usually have to look really across the host of data points and then talk to those large contractors and customers that we have to get a feel for that level of activity.

Got it. And maybe the last one is talking more about broader teams and so forth. But on additives, not a big part of the business today in terms of dollar amount, but certainly can grow as you think about it here. Can you talk a little bit about the strategy here? And is it -- how do you view it as a complementary and cross-sell? how are you looking at?

The additive business at Lincoln Electric is a wire-based additive business. Those of you that are familiar with the additive recognize that there's powder-based applications, there's bed-based applications, there's laser centering. There are a host of methodologies associated with process. Lincoln Electric uses a robotic arm and wire-based technologies to be able to deposit the metal to build parts. The other thing is that we have no desire to make parts of the size of the water bottles that are sitting in front of you or the coffee cups. We want to make parts that require hoist to move them, bigger than a microwave. I was at our additive facility the other day, and we were manufacturing a part that was a little over 800 pounds. So we're looking at utilizing that technology to make larger parts. Why do we like larger parts? Because with a robotic arm, you can deposit that metal much more effectively, much more quickly. So that's the process that we're using. Today, Lincoln Electric, I believe, has the only wire-based additive manufacturing plant in the world. And we have that set up in Cleveland, Ohio, where we have 18 to 20 cells that are actually manufacturing those parts for us today. And today, we would take a CAD file or we would look at a particular part or we would scan that part and then we would utilize that technology to be able to develop the component for the customer. Today, it's a components business. And I get asked often, "Well, Chris, why is it a components business?" And today, it's a components business because, quite frankly, the technology's so new and quite frankly, difficult. We've got it in a controlled environment, and we can manufacture those parts very well, but we're not sure that if we just sell that to various customers, that they'd be able to accomplish what we can accomplish for them. We do have a handful of the cells that are out in R&D centers around the United States. Those of you who might have seen when President Biden was in Pittsburgh a few weeks ago and unfortunately, the bridge fell while he was in Pittsburgh, but he also went to Carnegie Mellon and there were pictures of him there in front of a Lincoln Electric sculpt print device, and that is our additive cell, which is at Carnegie Mellon. So we like the technology. We've got our burn rate right now of about $5 million a year on a -- that burdens our P&L today of expense going in to build that out. But we're very excited about the technology longer term. And why we're confident about that technology is -- at the end of the day, that additive process is really being able to manage the software engineering side of being able to deposit that metal and build forms, and that really comes down to the software engineering that we've been enhancing and improving probably for the last 6 or 8 years from a development perspective and then the material science side. Because you need to be able to do that in a host of metals to be able to meet the requirements of the customers. Customers could be individuals of let's talk about large municipal pipes, maybe where you have a large T joint that, quite frankly, was manufactured years ago, and it's broken and you need another one. You would see those also in refineries. We believe there's a really strong energy play associated with that. We would see that in heavy industry construction. Any place where you're previously buying large castings or, quite frankly, going through large multistep processes to build a part, we can build that part with a CAD file and start manufacturing it in days. And I do like the long-term adoption rate for additive. And I think it's the right investment for Lincoln Electric. It's right in our core competencies. And I really believe that 5 to 7 years from now, it can be a more significant piece of our business, but we need to continue to show we can make those components into various key competencies and industries and then just continue to build that adoption now.

I appreciate that explanation. And definitely know a lot more now about it, which is good. So we're going to transition here a little bit more to some of the day-to-day business and near-term stuff here. But I did want to remind the audience, if you do have a question, certainly feel free to stand and you can ask a question, as well as raise your hand and we'll go to you, too. So thinking a little bit about pricing, right? Pricing clearly has been pretty strong as of late. And what we're trying to do is we're trying to get a handle on how sustainable pricing could be. Because when you look back on the negative side, you don't see periods where there's periods of price decreases, or sustained period of that ever really. And then on the other side, though, we haven't really seen periods of sustained double-digit price increases like we have now. So just curious where you shake out on pricing? Is there the ability for Lincoln, for the industry, to keep, to maintain pricing in order to keep pricing at healthy levels in the [indiscernible] price point?

Yes. And look, I think '21 was probably a year that most people don't want to have to manage through as it relates to price cost. I mean inflation was migrating into businesses at the end of Q4 of '20 and then quite frankly, inflation just continued to step up across the portfolio all year. And we continue to see inflation in Q4 as those of you that follow us closely would have seen in our LIFO charge that we had in the business in Q4 of '21. But Lincoln Electric in '21 was price cost neutral, including the margin. So we were able to recapture all of those costs, including the margin on those costs in our portfolio. And look, historically, that's what our teams have been able to do with our solution. And so yes, it was aggressive inflation. But quite frankly, we took the necessary actions, both from a pricing perspective. and driving costs within the business from a productivity perspective to be able to accomplish that. So when I think about, will there continue to be that rate of inflation, well, we've shown the ability to drive the elasticity in the marketplace and be able to recover that. So I've got confidence in that. I think the other 2 models that we think about is what if we continue to have some level of inflation, more moderate inflation, and we would move forward confidently in being able to do inflation adjustments for our customers and provide pricing, that would be historically an area that we've been effective with. But the other really good question, Adam, is what happens if it were to turn? Okay, what happens if it were to turn and quite frankly, we would see a quick shift in the material pricing. Well, look, 60% of our products move through the channel and 40% of our products move through the OEMs broadly. That's a general number. Obviously, your OEMs are a little more efficient, a little more effective and you'll start those negotiations. So you started to see material prices move and they move quickly but you still have a large portion of that goes through the channel, which moves as long as you possibly can. And, quite frankly, in historical areas where we've seen a dynamic like that, we've been able to manage through that cycle very well and you're able to manage through that cycle with a methodology of really recognizing that you deserve to be paid for your solutions. We're adding economic value into those customers. And then you need to have the tools available to manage that inside the business. And it would be my personal opinion that many of those companies that probably struggled in '21, it's probably because either they have long-term contracts that, quite frankly, required them to be able to absorb all those periods of time. We don't have that in large portions of our company at Lincoln Electric, and they probably didn't have the tools available to be able to manage that effectively. And we have exceptional tools and visibility into those changes so that we can react and respond to those very quickly.

Excellent. And on the -- so that addresses the pricing side. And if we think about the volume side, the common refrain that we're hearing both at this conference as well as during the reporting season, is a lot of industrial customers are talking about more of a second half weighted year. So thinking about -- you guys are certainly a supplier for a lot of industrial customers. How does that play out when you think about your own '22 [indiscernible]?

Yes. So look, I think we have segments that, quite frankly, will be more second half driven. There's no question in my mind that the acceleration of the electronics challenges in the marketplace, the chip shortages that many people talk about in Q1 are going to be larger in '22 than what they were in '21. So there are challenges associated with segments that utilize a lot of those electronics, whether that would be automotive, whether that would be elements of heavy industries where, quite frankly, they're utilizing many of those products. I think they'll probably have challenging comparisons on a year-over-year basis. But I will tell you that the other side of that is I see energy is probably more favorable. We said energy churned in the back half of the year. We expect it to continue to move favorably. So we have some segments that I do believe will continue on the trend lines they're on. But in the aggregate, a belief that probably the second half of the year would look more favorable from a volume perspective than the first half is probably accurate, especially since we know we're going to have probably more price in the first half of our year than we have -- than we have in the back half of the year because of the pricing actions that we took in Q4 and some of those anniversarying that we took in '21. So I can probably align with the perspective that the back half will be more favorable than the first half.

Got it. And then on margins, and you guys have your -- some targets out there for 2025 and so forth. Just curious, we talked about a lot of the components here between pricing and the supply chain and so forth. But what bridges from the low to the high range in terms of how you see the business playing out here?

Yes, Adam, you're right. We did just update our 2025 higher strategy vision and strategy for the company and really moved our margin targets up for the company to 16%. We really did that for a couple of reasons. One, we've had a step change improvement in our international business. We've had improvement in our Harris business over the cycle that we needed to really build into our model. And then probably the catalyst, which is also there, which is going to help us get to that next level as the improvements we're making in that automation business. As I mentioned, it was at a run rate of about $500 million. As we move into '22, the margin profile for that business continues to improve. It was in the mid- to high digits in '21. We expect that to be a double-digit performer for us in '22. And then just the continued movements with new products and technologies that we have in the portfolio. And when we aggregate those up, we see great confidence in our ability to extend those targets, and that's why we made that change just in February when we're looking at the business over the next 2 or 3 years.

Got it. And I'd be remiss on a day with so much -- some of the international headlines out there not talk about the international business. Could you just remind us the split of that business from EMEA versus the pack where it sits today? And breaking out, I guess, China and if there's any material exposure to the Russia, Ukraine area, that would be interesting.

Yes. So look, when we look at our international business, it's much more centered towards our European assets than it is towards our Asia Pac assets. And I will tell you, as we talk about Asia Pac, China certainly was one of those areas of the world, which was not -- we did not have the favorable economic recovery in China in '21 that we would have expected. It was more choppy. Part of that was part of the activity that the government has there associated with the Olympics and the way they like to manage the industrial economy during that window. So we'll see how well China starts to respond here over the next few months. But certainly, our Asia Pac business is much smaller than our European business. And then certainly waking up this morning was a tragedy for the world and a tragedy for many individuals that are in the Ukraine. When I think about our businesses there, less than 1% of our revenues are in the Russian business. So obviously, that's not material to us, but it is material to the people that we have in those markets, and we'll manage through those challenges here as we see how it evolves over the next several months. But again, we don't have much of our business that is headquartered in Russia or the Ukraine. But I'll also say, this is now an evolving situation. We'll have to see exactly how it evolves and how those markets are impacted over the next several weeks.

Got it. That is very helpful. And maybe I just wanted to expand a little bit more on China. If you think about your exposure within China as far as the folks that you're interacting with, are those -- those folks, I assume, they're most multinational players versus the domestic. And then does that insulate you guys a little bit for some of the macro volatility?

Yes, they are, Adam. Several years ago, we really transformed that business into more of an OEM direct business, where it's much more centered around the multinationals or the very large Chinese-based companies in that particular market. And it's primarily because they're the ones that desire the solution. They're the ones that are willing to recognize productivity or the solutions that we could be offering and bring those into their manufacturing floor, and areas of the channel there were less exciting to Lincoln Electric. And we decided to really focus and position our solution brands at the OEM level in that marketplace. And most of our activity in China is there. We do have manufacturing facilities there for consumables for the local market. But most of the equipment that we sell into that marketplace is our high-technology product that we've manufactured, including Ohio and we would export into that marketplace.

Excellent. And I just wanted to get a sense within the international business. To achieve those 2025 goals there, are there -- within the context of the regions, is there certain regions where you're looking to expand margins more? And what does the runway look like for that scenario?

Yes, we had a really nice step-up in that business, probably took us a little longer than what I had wanted, but we've executed on that. So I really see 2 or 3 things. We need some volume. We'd like to have volume continue to move to that business. Volume always helps manufacturing. That would be the first step. We have some more work that we're doing on the process side of that business. We'll be able -- that road map is there, we'll be able to execute on those improvements that we see for the business there. And then I really think the other thing is we need to take some of the technologies and migrate them more quickly into that marketplace. So we have some innovation, we have some solutions. We think we can bring those into that market more quickly, especially on the equipment side for us to be able to meet that longer-term target.

Got it. And maybe to just wrap up here. You spoke out at the onset of conversation here, your excitement about the automation business and so forth. So on the call, you guys have talked about the margin progress and so forth you hope to make within that business. And then certainly, it feels like there's still plenty of areas of growth and expansion there. So maybe if you could talk a little bit about how you see the evolving mix of that business and so forth. And does that mean -- is there -- some inorganic solutions that also would be possible to add to that?

Yes, there will be inorganic solutions. A great example of one of those would be what we did with the Zeman business last year when we acquired that business. So there's inorganic ways for us to look at it through the acquisition pipeline, a great solution in the structural steel marketplace. But there are also great organic opportunities. We've launched the cobot line in the U.S. market that we're taking around the world, which is really a new piece of automation for welding that we believe a lot of small fabricators are going to utilize. So it's probably one of the things I'm most excited about within the business because I think it's great when at Lincoln Electric, where we can talk about not only having a global brand like Lincoln, our positioning in the marketplace as the global leader in welding, but we also provide an opportunity for our employees and our other stakeholders to see our automation business as well as potentially the long-term opportunities that our additive business could provide. And we think that, as a portfolio, creates a lot of very positive opportunities for our stakeholders long term.

Excellent. Well, I think that about does it with time here. And I appreciate, Chris, for you attending today as the broader Lincoln folks as well. Thank you very much.

Great. Thank you.