MSA Safety Incorporated (MSA) Earnings Call Transcript & Summary

Good morning, everyone. Thank you all for tuning in. My name is Stanley Elliott. I work here at Stifel covering construction materials and machinery and some other industrials here. I'm pleased to have you all join the 2020 CSI Conference virtually. We're also very pleased to have the management of MSA Safety. With us today, we have Nish Vartanian, Chairman, President and CEO; as well as Ken Krause, Senior Vice President and CFO; and then Elyse Lorenzato, who's heading up their IR group. We'll try to keep this pretty informal. [Operator Instructions] Depending upon time [indiscernible] and we'll be happy to ask those on your behalf. So with that, everyone, thank you all for joining us. And Nish, Ken, I'll let you guys start with some opening comments.

Sure. And this is Nish. And Stanley, thank you. Thanks for your time, and thank you for everybody for your interest in MSA. I just wanted to open things up with a few comments, and then we'll open things up for a question-and-answer session. First and foremost, I just want to voice my deep appreciation for the MSA workforce. The team has done an incredible job, and I'm really proud of their dedication to our mission of protecting people's lives and the way they work with speed and agility to support our customers. And it's really reflective of the strong culture we have as an organization and a top workplace. We've been recognized several times as one of the top workplaces in Western PA. And I think that the work and the activity that our workforce has done here and around the world is just reflective of the culture we have as an organization. So we're really focused right now on 4 key priorities for the near term. And number one, our top priority is protecting the health and safety of our workforce. That is consistent with our mission and the internal safety culture we have as an organization. We continue to follow CDC recommendations for social distancing and disinfecting in our factories and work sites. We have enhanced cleaning protocols, instituted temperature monitoring, we have modified work cells to ensure proper distancing and our associates are working at home wherever possible. We'll probably start phasing some of our workforce back after July 4, those people who can benefit by being back in the offices, predominantly the engineers who need access to equipment and then start to phase in the workforce over the next several months is our game plan. Then we're also working hard to protect our communities. As an organization, we've donated a lot of equipment to local communities around the world and certainly trying to participate in that manner. Number two, we're enabling business continuity. As a leader in safety, MSA is an essential business. Our products that protect the world's first responders, energy and utility workers and so many other front lines of the COVID-19 outbreak. MSA's factories throughout the world are open, and our supply chains are moving. We have been addressing supply chain challenges on a case-by-case basis, and we have not seen any disruptions to date. Number three, we're expanding manufacturing capacity for existing air-purifying respirators that we have in our portfolio. MSA produces elastomeric half mask full-facepiece respirators and powered air-purifying respirators with a full complement of filtration capacity. These products have been part of MSA's portfolio for many, many years. And they're commonly used for industrial applications, and we've seen an increased demand there, as you're all aware. So in response to the urgent need and the market need and the surge in respiratory orders, we're investing between $11 million and $13 million of CapEx to significantly ramp up the manufacturing capacity for respiratory products at our Jacksonville, North Carolina plant. We expect production to uptick in the second half of 2020 as we advance with the process of getting the equipment in, conditioning that equipment and obviously, hiring associates that we're training now and getting that all in place. And then number four is managing our operating expenses and liquidity. We've implemented discretionary spending controls and have maintained policies through the second quarter in effectively managing our expenses. We have a very flexible cost structure, and we're committed to being proactive operators through this crisis. And we've identified cost levers that align with scenario models for 2020. So our net leverage is less than 1x our EBITDA, and that was as of March 31, 2020, and no material upcoming debt maturities and with $120 million in cash and more than 2 turns of EBITDA available under our current debt covenants, MSA has ample liquidity and flexibility to maintain its balanced capital allocation strategy. And I'm sure we'll talk a bit more about that. So as you know, we have a very diverse product portfolio, variable cost structure and strong balance sheet, which positions us well to manage through a challenging environment for the near term. And hopefully, this is not the case if COVID comes back in a strong way in the fall, certainly much longer term. So we're well positioned to get through this. We're well positioned to enhance our business as we go forward. We've got a strong product portfolio. We're enhancing that with NPD and investment, investment in our organization with expanding our APR production, and we're pretty optimistic about keeping our model intact as we come out of this COVID issue, mid single-digit growth and 1.5 to 2.0x leverage on our profitability line from that growth. So that all remains intact. So with that, Stanley, I'll turn things back over to you for any questions you might have.

Perfect. Let's kind of dig into this -- the APR business a little bit more. I guess it was, what, 8% of revenues in Q1 growing at a super nice clip. How would -- what are the expectations for that business kind of longer term as we think about more markets using that as not necessarily something where it would be kind of a mandatory usage as economies start to reopen on one side, and then two, on the other side, as some of these economies start to reopen and maybe the case numbers aren't quite as bad as feared, what's the risk that some of the backlogs that you all are building up or kind of seeing in terms of inquiry of orders might not end up being there?

So a couple of things. First and foremost, as the economies opened up and the cases and the whole curve has flattened out, we haven't seen any cancellation of orders. So that's first and foremost. And I don't expect that we're going to see any cancellation of orders. In fact, I think that the demand will continue at a fairly strong clip as you go forward. I sat through a meeting, there was a small group of CEOs who met with Secretary Azar, Secretary of Human Health Services, 2 Fridays ago. And he laid out the 6-step plan that the country is taking on to respond to COVID and then also build stockpiles and what we're doing longer term. Two of those areas really impact MSA. Number one is onshoring manufacturing for supply chain related to COVID. Well, we're already there. We manufacture respiratory products, air-purifying respiratory products in Jacksonville, North Carolina and in Murrysville here in Pennsylvania. Secondly, he talked about building our national stockpiles, rebuilding those stockpiles and building those up so we have the appropriate equipment in the event that something like this comes back at us either in the fall or in a year or 2. So certainly, I think we all recognize what -- the pain that's been inflicted on our economy. The U.S. is not going to allow this to happen again without having the appropriate stockpile in place. How much that means for us from an air-purifying respiratory standpoint or powered air-purifying respiratory standpoint? We don't know. Just as we didn't know post 9/11 what impact that would have on us and our business as we went forward. But this feels somewhat similar to that. When you looked at our business pre-9/11, there was about $100 million a year spent with assistance to firefighter grants. That spiked up to $750 million a year. It was over $3 billion in inflated dollars that were spent just for assistance to firefighter grants. And then there was the buildup of our national stockpile of gas masks. And those stockpiles were built by state governments, money that flowed down from the federal government. And what we're hearing with the discussion today, there's certainly some opportunity for that to happen in the future. On top of that, what's different here is our industrial customers, the industrial customers who use air-purifying respiratory products have also increased their purchases, and they're using the elastomeric half mask respirators for more of their employees. In the past, they didn't provide respirators for their employees who went to different job locations to do work. So a utility worker might go do maintenance work at another industrial plant, they weren't wearing respirators. Today, they're wearing respirators. And so that's created some increased demand for us. So we see increased demand through -- certainly through the balance of this year, into '21, and it could be further. So we -- as mentioned, we pulled forward some CapEx expense that we had built in our long-term plan, our 5-year plan. We just pulled some of that forward. We're adding equipment to our plant in Jacksonville, North Carolina. The payback is very attractive on that. And so it's just a really good investment at this point. And we expect that business will continue at an elevated level certainly into 2021.

Yes. That would be my thought, too, as you go through these sorts of major events and structurally, things change when you come out the other side. To me, it feels like the PP&E is going to be kind of more of added norm for a lot of workers in some of these industrial applications, whereas maybe that wasn't the case prior to. You mentioned something as it relates to 9/11 in the funding environment there, that's also spawned kind of the replacement cycle that we're seeing right now on the G1. Can you talk about what you're seeing in the fire service part of the market, which is about 35%, 40% of your business? How is that tracking right now? And what are the views on the replacement cycle there?

Right. So when we look at our pipeline for breathing apparatus and fire service business, so our opportunity pipeline, that we call it, the opportunity pipeline this year, today, looks very, very similar to what it looked like in 2018 and '19. So same levels, there's the same level of optimism with our fire service sales manager. So the business is there. There's $350 million that will be released through the assistance, the firefighters grant money, and that's what we anticipated. Those dollars will be released from now through September. And then it becomes a matter of timing. It becomes a matter of timing of when the dollars are actually released, when the municipalities make their spend, fire departments do some short evaluations. So our fire service sales managers have to get in front of those departments to do those evaluations and obviously close those deals, but they're pretty optimistic about the opportunity we have in the pipeline. So the business looks good. What was a little surprising to us, and I think we missed it a bit, when we looked at our bookings, our business, the month of April was really strong with the fire service, surprisingly strong. And then it was surprisingly weak in the month of May. And what happened was, the municipalities just weren't -- there weren't social gatherings. The municipalities weren't meeting to approve purchases. Our fire service sales managers and distributors couldn't get in front of customers to close deals. And so the business went into hibernation for about 30 days and really slowed down. But that's not business that's lost. It's business that's pushed out into the right. And certainly, we expect to see that business as you go forward.

What are some of the things that you're doing from a sales aspect to make sure that you're touching customers, getting in front of them to kind of capitalize on the trend that will eventually come down the pipe, but just to make sure that MSA is still top of mind.

We're doing a great job from a marketing standpoint. Our marketing teams through our CRM program and some of the tools that we have and in keeping our customers up to date, either through social media or e-mail blast out to customers. So as you know, FDIC is a big conference for us. We weren't able to have that in April. We were going to have a big splash with LUNAR and launch that into the fire service at FDIC. So we had our own internal campaigns to do that. What's also really interesting for us is the incredible participation we've had in training. So we do online training and also have done some seminars online, and the participation has just been off the charts. We've also worked with some customers. It was a big -- for fall protection, a very large national scaffolding company that was own seminar for the industry and talking about safety at hikes number one and also social distancing as we get back to work, and we work closely with them to build their program as they're a customer of ours. And they were shocked. They had 1,200 people participate in that seminar that they put on. Many competitive companies of theirs and other people in the industry. So we're reaching out to our customers through training. We're doing live online training through MSA University. And so we've done a nice job of reaching out to people. What's lacking, Stanley, is -- and what's difficult is, is some of the products that we've launched, like the ALTAIR 360, the A360 is a real exciting product for us. It's that hybrid gas detection device that's between a fixed gas and flame detection unit and a portable instrument that we're just really excited about with the features we have and the product we have there. And that's a product you just have to get in front of customers with. They have to test it, evaluate it. It's a critical product for their infrastructure and the safety of their people. And we haven't been able to do that. So that's a product that's been kind of on hold and we haven't seen the benefits of it. Other products like the H1 helmet, we know that, that's going to be a success for us. And a lot of those things have really slowed down as far as being able to penetrate the market and get the gains for these new products that we're bringing to market. So we hope that things open up a bit, and we're able to get back on track with that.

And the weakness in May, we get some questions sometimes that SCBA is probably the second largest capital purchase for these fire departments behind fire trucks. Is there any risk that you're seeing from state local budgets in terms of their willingness to put money into the fire departments? Or is it the grants, the CARES Act and things like that are providing a little bit of a bridge?

So you're always concerned with that, right? Everybody -- that's top of mind for everybody. Tax receipts are down or the budgets will be down with the municipalities. But when you go back through history and you look at the economic downturn of '15, '16, that was a real strong period for the fire service for MSA. We had some nice growth during -- through that period. And even '08 and '09, municipalities always find budget dollars for those must-have items. When you think about a firefighter, they're the first responders that protect assets in the community and they're protecting people. And when you -- as a city father or any leader in the municipal governments, to tell your firefighters, you're not going to buy them a self-contained breathing apparatus to protect their lives when they go into an atmosphere that's immediately dangerous to life and health, would be political suicide. So you -- these municipalities always find the dollars to replace breathing apparatus. What they push off, they push off some of the expenses such as: maybe some maintenance that needs to be done on the firehouse; possibly keeping a fire apparatus or truck for a longer period to do some more maintenance on it. Some of those other expenses that they can push off a bit, that's typically what they'll push off. They always seem to find money to protect that firefighter. And then you've also seen, through the CARES Act, there was about $100 million that was in that Act for fire departments. And that was really focused on COVID-related products for the fire departments. What we benefited from, we picked up some business with what we call APR adapters. It's, an air-purifying respirator adapter that a firefighter can put on their full facepiece. So if you have an MSA mask, you can plug it into the MSA mask, put a couple of filters on it, and it gives you an air-purifying respirator. So we saw some nice business out of that. That's part of the backlog that we have for our air-purifying respirator business. And then what that also did, it does indirectly help us in that the fire departments were able to buy other COVID-related product and didn't have to dip into their budgetary funds that they have that they didn't plan for to buy those products. So in an indirect way that helps us. And then further, if you look at the Heroes Act, that hasn't -- they're still kicking that around, I don't know, some crazy number of trillion dollars. What's interesting is there's $0.5 billion, there's $500 million in that Act, the Heroes Act for fire departments. Now I don't know that, that's going to get approved. But what that does say to us is that fire department need for dollars and funding is top of mind of our politicians in D.C. So there'll be something there for firefighters, I'm sure, as we go forward to protect them. Certainly, these unfortunate events with the riots and some of the problems, our firefighters are responding to those, and they need equipment to protect themselves. So I think there'll be dollars there to protect them as we go forward, just as we've seen in the past.

And what are you all seeing from some of your short-term cycle kind of businesses, kind of employment driven, given the high unemployment levels or the spike that we saw there. With some of the economy starting to reopen, are you seeing any green shoots? I'd be curious about that? And then also maybe if you could remind us how that business behaved during the last recession.

Sure. So I guess I'll open up and get Ken here to follow-up a bit. So as we talked about, we expect our second quarter to be weaker than the first quarter from a revenue standpoint. And that's clearer now than ever. When we look at that, and it's really about the short-cycle business. When you look at hard hats, fall protection and portable gas detection, those product lines were hit hard and even harder than we anticipated from a booking standpoint in the month of May. As the job sites shut down, whether it was roadway construction or noncommercial construction, when those projects shut down, we saw that business decline significantly in the month of April not being so bad, but May was pretty brutal. We did start to see at the end of May, some of those green shoots. And we're continuing to see some green shoots in the month of June. It's early, but we're continuing to see some things start to improve. What also gives us some encouragement is, is when we look at our business in China. China is a little bit ahead of us in this whole cycle. And we've really seen that business bounce back from a booking standpoint, and we hope that the U.S. and European economies follow that same trend. And if they do, we should come out of this and return to this new normal, whatever that is, at some point here soon, and certainly, things will improve. But we've got some choppiness to get through here in the second quarter. We've talked about that. And certainly, we're going to see that. Ken, do you want to add?

Yes. I mean, all I would say is a couple of things. While we expect -- we fully expected Q2 to be weaker than Q1, and that certainly has come to fruition. It's a macro issue. It's not really an execution issue. We're not losing share or momentum in our NPD efforts or in our product portfolio. It's -- we had anticipated a bit of a reopening in May in the U.S., and we just didn't see that. And so May was certainly a very challenging month for us with respect to these employment-related products. And it was a challenge for us to get in front of our fire service customers. So it was certainly a tough month, and it's playing out. We have a backlog, as we talked about at the end of the first quarter. That backlog should help us as we go into the second half and we should start to ship on some of that backlog and ramp up our manufacturing. But Q2 has been a challenge. Nish has indicated some green shoots out there. But we're making progress and continuing to execute the strategy.

Could you remind us the commentary coming out of Q1 about the backlogs, where they were, maybe what product group specifically?

Yes, sure. It was a fairly broad-based strength in the backlog. The respirator business, of course, that we talked about was strong. Our fire service backlog has been relatively healthy as well. And the numbers that we were seeing were much higher than we've -- in terms of our overall backlog, were much higher than we've seen in prior periods. So we've seen a nice ramp up on the heels of an April order activity that was -- it really robust. And so that backlog should come out as you go through the second half here into the third and fourth quarters predominantly out of the respirator business and to a lesser degree, out of the fire service and FGFD businesses.

And you mentioned the cost side as 1 of the 4 key -- focus on the OpEx piece. Does it feel like that with kind of what you saw in May and now with what you're seeing in June that kind of more of the temporary cost reductions are appropriate as opposed to larger restructuring activities? And kind of what are some of the gateways or triggers that you all would look for to say, hey, we'd like to do some things maybe a little bit differently?

So Stanley, we were really proactive with this. So we were very proactive in our cost structure, gosh, going back to February and took early action. Ken has done a really nice job of keeping the organization focused on expenses. So you should parse those out into 2 ways. One is just the short-term expenses that we've been focused on to make sure we keep a lid on our spending, and we've done a really nice job around executing that. And then secondly, we have this ongoing long-term focus in driving efficiencies in Europe. And Ken and Bob Leenen have done a really nice job of identifying opportunities where we can continue to streamline our European operations and drive higher levels of productivity in pulling some of those opportunities forward. So as you saw with Europe and International specifically, our margin profile improved in 2019. That continued in the first quarter of 2020. We've accelerated some of the restructuring and expense savings that we have for Europe that we had on slate. We're identifying more. So those are the more permanent expense savings and cost structure changes that really Ken's been driving and we're undertaking for the organization, and there's nice opportunity there. For the Americas, we're just very focused on the short term. And if there's some opportunity to make some further adjustments here in the Americas, we'll certainly take the opportunity to do that. That's to drive the efficiencies where we can. So I'm really, really pleased with where the organization is from managing through that and certainly looking out into the horizon as to where we can drive more permanent efficiencies as we go forward. We're always looking for those opportunities. And Ken, do you want to add to that?

Yes. The only thing I would add is we're pretty proactive early on at pulling levers and curtailing a number of things. We're looking at additional short-term levers that we might action here later in June and as we go into Q3 here, early Q3. So we continue to weigh that. But if you just look at past slowdowns, if you will, we've taken the opportunity in past downturns to really turn inward and focus on strengthening MSA for the long term. And that includes a number of things, both investing organically in our business and taking a closer look at our cost structure and how we can drive productivity. Right now, we're investing in APR. We're investing in NPD where we just recently announced expansion to our gas detection center of excellence, which really helps set up some manufacturing productivity improvements over time and meet potential growth opportunities going forward. We're accelerating a lot of our programs in International with restructuring that we talked about back in our Investor Day in November of last year. Then as we come out of the downturn and get more clarity on the macro environment, we can become more opportunistic on M&A. And taking this measured approach right now, this pragmatic approach positions us well, I think, for the eventual rebound that we all hope to see in the coming months.

Stanley, the way I look at things is that we -- I bought and been coming up through the sales organization. Never pass up an opportunity where you can get a price increase. As I've evolved, I would never pass up an opportunity where I can drive better efficiencies and cost structure. And so we're working both ends of it. So we're doing a nice job on the expense side. And we also happen to be doing a pretty good job on getting price in the market today, too. So that's helping us with some of our margins.

Yes. No doubt. I even kind of brought up that cost out. I remember a couple of years ago, you all -- I think, it was framed out at $10 million program and came out with something like $25 million. And so I was just trying to see where your head was at there. But let's do talk about M&A, right, because I always think that, that's a very interesting kind of an optionality for you all as a company. My guess is that markets have kind of dried up a little bit, but would love to hear your take on the M&A landscape, kind of what you're seeing out there in the world. And then, frankly, what are some of the things that you would find? Or what are some of the characteristics that you would find would be interesting?

Yes. No. We certainly are well positioned on the M&A side to execute. We -- and that position was enabled through some discipline coming into this. Late last year, we were looking at a number of things and we had decided to pass and not pursue things that we felt were overpriced at that point. They were priced to perfection. And so we made conscientious decisions to shy away from doing that. And now we're positioned well. We're looking at a number of things. We're staying close with a number of our targets. We're engaging in relationship development with the hopes that we will be able to secure a valuable asset on the rebound, just as we did back in 2010 with General Monitors, and 2015 with Latchways. We were very successful coming out of those recessions and bringing on assets that made us a better company. And so we're looking for that type of opportunity yet again. And we feel like we'll be able to do that. Right now, the challenge is valuing a business. Valuing a business, acquiring it, doing diligence, integration, it's virtually impossible at this point. We're still moving forward on a number of corporate development initiatives. But from a pure or more traditional M&A perspective, we've kind of hit the pause button for a brief period of time to get a better sense as to where this market might be headed. And so with that said, though, we feel like in the coming months and quarters, we'll be positioned to potentially go on the offensive.

I certainly with the low leverage that you have there. Nish, I apologize. Were you going to say something?

No, I'm good, Stanley.

Okay. So in kind of one last one, and we're just about out of time. When you're thinking about the M&A piece, is it all parts of your business that you're looking at? Or is it more in the industrial side or fire side? Do we think of these more of smaller bolt-on transactions or something a little bit larger?

I would say it's across the entire product portfolio and even possibility of extension of product portfolio. So when you think about it, Stanley, with the exception of breathing apparatus. So we've made so much investment and are in such a strong position around the self-contained breathing apparatus, I just don't see us making an acquisition there. But when you look across the entire portfolio, there's opportunity. There's opportunity for extension in either markets or geographies, products, certainly with fall protection, we still, while we're doing really well and gaining share and executing, we have some gaps in the product portfolio or even in a -- from a geographical standpoint on fall protection. There's technologies around gas detection, we've done a couple of nice deals with Senscient and Sierra Monitor, and there's still some opportunity around gas detection. We've kicked around and looked at some software companies in some of those areas. So when you look at -- we're going to stay to our core of safety and our mission around safety. We're not going to stray away from that. We'll stay disciplined there. And we'll also stay disciplined in how we evaluate companies and how we think we can integrate those companies into the organization. The Globe acquisition was a real nice extension of our product line into a market we understand well. We have strong channels of distribution in the fire service, and that just made a lot of sense to us, and it's been a real good acquisition for us. So we'll continue to look at those opportunities. I'm thankful we've stayed disciplined by not chasing after acquisitions. We've kept ourselves in a real strong financial position to weather some real storms here and come out the other side much stronger. And so that's what we look forward to.

Yes. No doubt about that. Well, guys, we are just about out of time. So with that, Nish, Ken, thank you so much for participation -- for participating. Thank you, everyone, for joining in. You all take care, and have a great week.

Thank you, Stanley.

Have a great day.