Mueller Water Products, Inc. (MWA) Earnings Call Transcript & Summary

Good morning, and thank you for standing by. [Operator Instructions] Today's conference is being recorded. If you have any objections, you may disconnect at this time. It is now my pleasure to turn the call over to Whit Kincaid.

Good morning, everyone. Thank you for joining us for Mueller Water Products Third Quarter Conference Call. Yesterday afternoon, we issued our press release reporting results of operations for the quarter ended June 30, 2026. A copy of the press release is available on our website, muellerwaterproducts.com. I am joined this morning by Paul McAndrew, our President and Chief Executive Officer; and Melissa Rasmussen, our Chief Financial Officer. Following our prepared remarks, we will address questions related to the information covered on the call. As a reminder, please keep to one question and a follow-up and then return to the queue. This morning's call is being recorded and webcast live on the Internet. We have also posted slides on our website to accompany today's discussion. They also address forward-looking statements and our non-GAAP disclosure requirements. At this time, please refer to Slide 2. This slide identifies non-GAAP financial measures referenced in our press release, on our slides and on this call. It discloses the reasons why we believe these measures provide useful information to investors. Reconciliations between non-GAAP and GAAP financial measures are included in the supplemental information within our press release and on our website. Slide 3 addresses forward-looking statements made on this call. This slide includes cautionary information identifying important factors that could cause actual results to differ materially from those included in forward-looking statements. Please review Slides 2 and 3 in their entirety. During this call, all references to a specific year or quarter, unless specified otherwise, refer to our fiscal year, which ends the 30th of September. A replay of this morning's call will be available for 30 days at 1 (866) 386-1299. The archived webcast and corresponding slides will be available for at least 90 days on the Investor Relations section of our website. I'll now turn the call over to Paul.

Thanks, Whit. Good morning, everyone. Thank you for joining our third quarter earnings call. Our outstanding third quarter results reflect strong execution and continued progress against the operating priorities we outlined in the last quarter. We achieved quarterly records for net sales, adjusted EBITDA and adjusted net income per diluted share. Net sales grew 4.1% in the quarter, supported by commercial execution, resilient municipal end market demand and strong growth in project-related specialty valves. Adjusted EBITDA margin expanded 440 basis points year-over-year, reflecting our continued focus on operational excellence, productivity and disciplined cost management. Free cash flow was strong this quarter, enabling us to continue funding capacity and efficiency investments, while returning approximately $21 million to shareholders through our quarterly dividend and share repurchases. I am proud of what our teams have accomplished and the continued commitment to serving our customers. Last quarter, we introduced the Mueller Operating System as the framework we are using to drive greater discipline, execution and accountability across the company. Our results provide further evidence of the progress we are making in expanding margins, strengthening cash generation, investing in growth and simplification. Following our announcement from the last quarter, we completed the exit of the i2O pressure monitoring business outside of North America. GWF AG, a utility metering and smart water technology company headquartered in Switzerland, acquired certain assets and liabilities of i2O Water. During the quarter, we incurred one-time costs associated with the transaction, along with a tax benefit, which lowered our income tax rate. We expect the cost savings and tax benefits to support margin expansion and enhance free cash flow. With our increased fiscal 2026 adjusted EBITDA guidance, we remain on track to deliver another year of meaningful margin expansion, while we continue to navigate slower new residential construction activity and broader external uncertainty. We remain focused on what we can control, executing our strategies, investing in growth and proactively managing costs. Our commercial initiatives are focused on increasing market penetration through our leading products and expanding into adjacent markets for our specialty valves. We believe the disciplined execution embedded in the Mueller Operating System positions us well to build on this momentum and create long-term value for our customers and shareholders. I am proud of the progress our teams have achieved this year, reflecting a focus on serving customers, strengthening operations and collaborating across the organization. We recently published our 2025 sustainability report, highlighting our continued progress in advancing environmental stewardship, operational excellence, responsible business practices, employee well-being and community impact. As cities and municipalities confront a growing range of challenges, critical infrastructure is under increasing strain. At the same time, aging systems continue to pose significant risks. Against this backdrop, Mueller's role as a provider of resilient, reliable water infrastructure solutions is more essential than ever. Notable 2025 achievements include reaching an outstanding milestone of the lowest total recordable incident rate in our history, reflective of our team's unwavering commitment to safety. We've also maintained strong momentum towards reducing our carbon footprint, cutting Scope 1 and 2 emissions intensity by 13% year-over-year, bringing our total reduction to 35%. This moves us closer to our goal of reducing greenhouse gas emissions intensity by 50% by 2035. As for employee engagement, we reached our goal 1 year ahead of our schedule, achieving an 80% employee engagement score in our annual employee survey. Our vision is to be the leader in water infrastructure solutions. Solving challenges, enriching lives and safeguarding the future. We will continue to drive progress through our innovative products and solutions that help utilities and municipalities strengthen system resilience, detect leaks faster and with greater precision, rehabilitate and maintain aging infrastructure and provide life-saving fire protection. Our achievements over the past several years establish a new foundation for future progress and are the direct result of the hard work, focus and collaboration demonstrated across our organization. With that, I'll turn it over to Melissa to take us through the financials.

Thanks, Paul, and good morning, everyone. We are pleased to deliver another record quarter, demonstrating the strength of our business, the resilience of our end markets and the continued execution by our teams despite a dynamic external environment. Consolidated net sales increased 4.1% to a new record of $395.9 million, driven primarily by higher pricing across most product lines, partially offset by slightly lower volumes. Gross profit increased 6.9% to a record $155.8 million, with gross margin expanding 110 basis points to 39.4%. The improvement reflects the benefits of pricing actions and tariff refunds, which more than offset inflationary pressures, performance, volume impacts, portfolio optimization costs and product mix. During the quarter, we incurred $3.1 million of portfolio optimization costs associated with the strategic exit of the i2O pressure monitoring business outside of North America, impacting WMS cost of sales. While we continue to experience elevated tariff costs, mainly attributable to Section 232 tariffs, along with ongoing inflationary pressures, the International Emergency Economic Powers Act tariff refunds received during the quarter helped offset a portion of those impacts. Excluding the impact of these prior period tariff refunds and the portfolio optimization costs, adjusted gross margin was approximately 30 basis points higher than the prior year's gross margin of 38.3%, demonstrating the underlying benefit of our pricing actions and operational execution despite a challenging cost environment. Total SG&A expenses for the quarter of $64 million decreased $7 million year-over-year, reflecting reduced foreign currency headwinds and lower incentive compensation expense, partially offset by continued inflationary pressures. This performance underscores our disciplined approach to cost management while continuing to invest in the business. We incurred $11.2 million of strategic reorganization and other charges. These costs primarily relate to the i2O exit, including non-cash asset impairment charges, certain transaction-related expenses, severance and costs associated with our leadership transition. Our adjusted results do not include strategic reorganization and other charges or the portfolio optimization costs reflected in the WMS segment. Adjusted EBITDA reached a record of $107.4 million, an increase of 24.3% compared to the prior year quarter. Adjusted EBITDA margin expanded 440 basis points year-over-year to a record 27.1%. This strong performance was primarily driven by pricing actions, tariff refunds and favorable SG&A cost management, which more than offset inflationary pressures, performance, volume impacts and product mix. On a trailing 12-month basis, adjusted EBITDA improved to $369 million or 24.9% of net sales, representing an improvement of 290 basis points versus the prior 12-month period. Adjusted net income per diluted share increased 47.1% year-over-year to a record $0.50 per share. During the quarter, we benefited from lower net interest expense driven by higher interest income. Our third quarter effective income tax rate was 15.7% compared with 27.1% in the prior year quarter, reflecting a one-time tax benefit associated with the exit of the i2O business. This benefit contributed approximately $0.06 per diluted share during the quarter. Turning now to segment performance, starting with WFS. Net sales were $215.3 million, declining 0.6% year-over-year as higher pricing across most product lines and volume growth in specialty valves largely offset lower iron gate valve and service brass volumes. Adjusted EBITDA increased 9.5% to a record $73.5 million. Adjusted EBITDA margin expanded 310 basis points to a record 34.1% compared to 31% in the prior year period, reflecting the benefits of pricing, tariff refunds and performance, which more than offset lower volumes, inflationary pressures and product mix. Moving to WMS. Net sales increased 10.3% to $180.6 million, driven by strong volume growth in hydrants and natural gas distribution products, along with higher pricing across most product lines. Adjusted EBITDA increased 43.6% to a record $50.7 million, reflecting benefits from higher pricing, lower SG&A expenses, including reduced foreign currency headwinds, volume growth and tariff refunds, which more than offset performance and inflationary pressures. Adjusted EBITDA margin expanded 650 basis points to a record 28.1% compared with 21.6% in the prior year period. The continued improvement in profitability reflects the significant progress we have made in strengthening operating performance and driving leverage across the business. Turning to free cash flow. For the first 9 months of the year, free cash flow increased $7.6 million to $110.6 million and represented 59% of adjusted net income. The increase was driven by higher net cash provided by operating activities, partially offset by higher capital expenditures. Net cash provided by operating activities increased $18.4 million year-over-year, driven primarily by favorable non-cash adjustments and higher net income, partially offset by changes in working capital and other assets and liabilities. While working capital remains elevated due to inventory investments, inflation and tariffs, these investments continue to support customer service levels and our long-term growth objectives. We invested $43.6 million in capital expenditures during the first 9 months of the year compared with $32.8 million in the prior year period, reflecting continued investments in our iron foundries that support future productivity, capacity and operational excellence. We ended the quarter with $495 million of cash and cash equivalents and $453 million of total debt. Our balance sheet remains exceptionally strong, providing significant flexibility to support both organic investments and strategic growth opportunities. We have no debt maturities until June 2029 and $450 million of senior notes at a favorable 4% fixed interest rate and had no borrowings under our ABL facility. We ended the quarter with total liquidity of $659 million, including $164 million of available capacity under the ABL, positioning us well to execute our strategic priorities and pursue attractive acquisition opportunities. Turning now to our outlook for fiscal 2026. Given our strong year-to-date performance and outlook for the balance of the year, we are narrowing our consolidated net sales growth guidance to a range of 2.8% and 3.5% year-over-year, reflecting our current expectations for end market demand, volumes and price realization. While we anticipate softer new residential construction activity during the fourth quarter, we continue to expect resilient municipal repair and replacement activity and strong growth in specialty valves. Based on our record performance through the first 9 months of the year and confidence in our ability to execute for the rest of the year, we are raising our annual adjusted EBITDA guidance to a new range of $367 million to $372 million. At the midpoint, our updated guidance range represents an adjusted EBITDA margin of 25.1%, which would represent another annual record for the company. We are also reducing our expectations for total SG&A expenses within this updated guidance to a new range of $241 million to $245 million, reflecting ongoing discipline in managing costs while supporting strategic growth initiatives. Additionally, we are lowering our effective tax rate guidance to between 21% and 23%, reflecting the onetime tax benefit recognized during the third quarter. Finally, we are reaffirming our capital expenditure outlook of $60 million to $65 million and continue to expect our free cash flow conversion to exceed 70% of adjusted net income for the full year. Overall, our performance year-to-date demonstrates the strength of our business model, the resilience of our end markets and the effectiveness of our pricing, operational and cost management initiatives. We remain confident in our ability to deliver another record year while continuing to invest for long-term growth and value creation. With that, I'll turn it back to Paul for closing comments.

Thanks, Melissa. I want to provide a few closing comments before opening it up for Q&A. Overall, I am extremely proud of our team's outstanding performance this quarter. I'm pleased for the third consecutive quarter, we are raising our annual adjusted EBITDA guidance. We delivered strong results in an uncertain operating environment by staying focused on serving customers, executing with discipline and investing in capabilities that support long-term value creation. Our priorities remain clear: drive above-market sales growth, continued expanding margins and maintain disciplined capital allocation. The Mueller Operating System is the execution engine behind those priorities, providing the tools, processes and management disciplines to improve execution, accountability and continuous improvement across the company. This quarter provides further evidence that the system is taking hold. At the center of our success are our employees. Their commitment, collaboration and safety-first mindset enable us to serve customers well, strengthen operations and sustain our momentum. Through the disciplined execution embedded in the Mueller Operating System, we will continue to reduce complexity, improve business processes, expand margins and generate cash to fund growth investments, including capacity, efficiency, digital tools, innovation and specialty valve capabilities. Finally, we will remain disciplined in allocating capital across organic investments, targeted acquisitions and cash return to shareholders. Mueller is becoming a stronger, more focused and more resilient company, and we remain committed to creating sustainable long-term value for our shareholders. I want to thank our employees worldwide for their extraordinary commitment to our customers and communities. They are the reason for our success and why Mueller has been a trusted partner for more than a century. That concludes our comments. Operator, please open the line up for questions.

[Operator Instructions] Bryan Blair with Oppenheimer.

Updated guidance implies top line down slightly year-on-year against a pretty healthy stacked comp and I think about 1% EBITDA growth, again against solid Q4 '25 performance. How should we think about segment contribution to that? The year has progressed a little differently than we expected, still very strong overall. Just curious how we should think about the Q4 dynamics by segment.

Yes, I'll give the overall first, Bryan, and then I'll let Melissa talk by segment. You are correct. We narrowed our net sales range. I guess that's based on our current expectations around orders and shipments, mainly around the slower residential construction activity. We're also lapping tariff price actions from Q4 implementation of last year. Again, we really -- overall, really pleased where we are as a company, Bryan. Pleased to be growing net sales and expanding margins for the third consecutive year. It's really where we are reflective of where we see the slower residential construction and the uncertain macro environment as we move into Q4. As for segments, I'll pass it over to Melissa.

For the WFS segment, we are expecting adjusted EBITDA to be above prior year due to gross margin improvements, operational efficiencies and then price realization. We're expecting to see a sequential decline from third to fourth quarter, which part of that is due to the typical seasonality decline sequentially, and we expect volumes and product mix to be a driver of that as well. Volume will be impacting our short-cycle products, so iron gate valves and service brass, and we'll expect to see a shift toward specialty valves because we have continued to see strength in specialty valves throughout the year. For WMS, we're expecting to see lower margins versus the prior year and sequentially. And that's going to be due to lower hydrant volume. We have benefited from a backlog in hydrants throughout the first 3 quarters. We expect that, that backlog will be normalized as we enter fourth quarter. So the residential slowdown will impact WMS more than it has so far this year. We do expect to see that we'll be lapping our tariff pricing that was put in place and began to benefit the fourth quarter of last year, and we'll continue to see higher inflationary pressures and ongoing tariff expense, while we have had the relief from the IEEPA tariffs, that has been replaced by higher Section 232 tariffs impacting our Krausz business line. And we do not expect to have any further tariff refunds.

Okay. Very helpful detail. You mentioned tariff refunds there. I think you gave us the math that we can back into consolidated benefit for fiscal Q3. What were tariff refunds on a segment level?

Yes. So as I mentioned in the prepared remarks, we had 150 basis point benefit overall for the tariff refunds in the quarter. For the segment, that's split about 50-50. So you would see a 140 basis point impact in WFS and 170 basis point impact in WMS.

Our next caller is Walt Liptak from Seaport Research.

Thanks for the guidance for fourth quarter. I wanted to ask about the specialty valves. You called those out a couple of times because of projects, and it sounds like the demand was strong. I wonder if you could provide some more detail about the demand levels in the third quarter and what the visibility is like in the fourth quarter?

Yes. Sure, Walt. Specialty valve is slightly different in terms of how we -- the sales cycle in comparison to our short-cycle business. So specialty valve makes up the majority of our backlog then. And it's been the fastest-growing category for us over the past few years, and we are really leveraging our operational investments and the consolidation of locations into Kimball, along with our engineering investments. And I think you know there's many different types of valves within specialty valve then that impact not just potable water, but wastewater and industrial water. And industrial water, although a small category for us, has been one of our fastest-growing categories as we kind of not just think about the potable water or the infrastructure water around data centers, we're also seeing a step increase then of our ability to get specialty valves into industrial water for data centers as well.

Okay. Great. And I wonder the data center opportunity, are you -- are these being sold through distribution? Or are you getting spec-ed into the data centers?

It's a combination. We sell through distribution. We've also made commercial investments in our teams to gain access for approved manufacturers list as well. So it's one of our commercial initiatives going forward, and we're starting to see traction right now.