Oshkosh Corporation (OSK) Earnings Call Transcript & Summary

All right. So for those that don't know me, my name is Felix Boeschen, Senior Machinery and Trucking Analyst here at Raymond James. Today, we have Oshkosh, presenting as the company's CFO, Mike Pack. We also have Pat Davidson, who heads up the Investor Relations efforts. Mike, Pat, I was hoping you guys could just give a brief intro on Oshkosh, who you are, what you do and we'll kind of jump into a quick fireside chat after that.

Sure. Sounds good. Well, good morning, everyone, and really appreciate you all coming here today and your interest in Oshkosh Corporation. We truly have a lot of exciting things going on in the company right now that I'm pleased to share. So just starting off. Because this is more of a generalist conference, I did want to give a little bit of background on the company. So at Oshkosh, our purpose is to make a difference in the lives of people really who are doing some of the most difficult jobs in communities around the world. So think about firefighters or construction workers working at great height, refuse collectors and postal service carriers as well as soldiers. Our strategy is really summarized in 3 simple words: innovate, serve and advance. To dig into each one of those, we're really an industrial technology company and under that innovation lane. So if you look at our company, we have significant innovation streams going on around electrification, autonomy, connected products, intelligent products. And we're leveraging analytics heavily both in telematics and helping -- providing solutions to our customers as well as in our own businesses as well as digital manufacturing. So it's really the innovation chain. Looking at serve. You look at serve as really taking care of the equipment that we're providing to customers throughout the total life cycle. So you think of aftermarket parts and service and the growth lanes around that. But in today's environment, you think more broadly than that, even looking at new revenue streams that come from connected products. And so we see opportunities there. And finally, advance. Advance, we're really looking at both moving into new product categories. We did that recently with our venturing into last mile delivery with our U.S. Postal Service win. We're also doing it through M&A, moving into new adjacent product categories as well as new geographies with some recent bolt-on acquisitions that we've had in the company. We operate in 3 segments. Our largest segment is the access equipment segment, and I'll talk a little bit more about each of the segments in a moment. We have a defense segment as well as a vocational segment. The one thing I will mention about the vocational segment, that is a new segment for this year. We've historically had 4 segments. It's really the combination of our fire & emergency segment as well as our commercial segment. We combine the 2 because of synergy opportunities from a technology perspective, manufacturing perspective, as well as we see vocational as a growth platform for M&A and other adjacent product categories as we look out into the future. I'm talking a little bit about where we're at as a company today and recent performance. We had a very strong Q4. In general, 2022 is a challenging year, particularly in the first half of the year due to inflation. In our access equipment business, we largely caught up from a price cost perspective as we got to the back half of the year. So we exited the year on a strong foot. And we're seeing very, very strong demand across our businesses. And so that's very exciting for us. And right now, as we look at 2023, the major thing that we're -- that we continue to battle through on a daily basis is really supply chain. With our strong demand right now, we are constrained not by demand, but by the ability to get parts to produce at the quantities we want. Now the good news is supply chain has shown some improvements, but it's something that we think it's going to be a continuous process throughout the year. Diving into our segments a bit more. As I had mentioned, access is our largest segment. Their main focus area is aerial work platforms and telehandlers. We also are in the towing and recovery industry as well. We are seeing great momentum in that business with strong demand, strong market fundamentals with not only aged fleets, but we're also seeing a large number of mega projects, $400-plus million projects that are taking place with all of the investment in infrastructure throughout the country. So that's something that we continue to expect very strong demand in that business going forward. And we exited the year with a $4.4 billion backlog at the end of the year. So that's really a record for that business to exit a year. Our defense segment is our second segment. Historically, it's been a tactical wheeled vehicle focused business. We've since migrated into other categories. We're getting into combat vehicles with our more recent Stryker MCWS program as well as last mile delivery. We have -- we will be supplying the postal service with their next generation of delivery vehicles, and that program will really start ramping up in 2024. You will see recent news -- one large tactical wheeled vehicle program that we've historically had is the joint light tactical program. We did lose the rebid for the JLTV2 contract. It is in the news. There's a press release that came out yesterday. It is something that we are protesting. And I won't talk more about it right now. I know Felix will ask a couple of questions on that. But certainly happy to talk about that a bit more -- in a bit more detail. And then last but not least, again, the vocational segment. The vocational segment is really the combination of our fire & emergency segment. So think about Pierce brand fire trucks as well as Oshkosh brand airport rescue firefighting vehicles. So this is a legacy segment that has had very strong margins in more recent times. A little bit delayed right now in -- due to municipal contracts and fighting through inflation. But we expect that as we exit '23 into 2024 with significant pricing backlog, really strong demand in that business. As well as it joins our refuse collection vehicle business with that. The really exciting news that we have in the refuse collection vehicle space is that we -- a couple of weeks ago, we launched really the world's first ever fully integrated custom chassis electric vehicle for the refuse collection industry, partnered with a number of our largest customers in that, really to understand what their needs are in the world of electrification and how the product could meet their needs. So very excited about that product. It's something that we'll be ramping up over the next several years. So a lot of excitement there. We really see the vocational segment as a growth platform for us going forward, opportunities to get into new adjacencies in the vocational market as well as natural synergies from a manufacturing perspective as well as technology. So with that -- it's a little bit about the company. And I'll turn it over to Felix and we can start diving into the Q&A.

Perfect. You kind of teed this up for me, right? But the big news yesterday was obviously the protest around the JLTV. Could you maybe take a step back, explain to us how big is JLTV today? When is the wind-down supposed to happen? What led you to protest?

Yes. So JLTV -- if you look at our defense segment, about a $2 billion segment today based on our guidance for 2023. We did talk about in our Analyst Day targets that in 2025 we expected it to be closer to $3 billion, and that's really with the ramp-up of the postal service vehicles. So if you look at the size of the public announcement around the size of JLTV2 and it being a 10-year deal, it's sort of in that $800 million to $1 billion range of annual revenue. Really no impact to us until 2025. But as you mentioned, Felix, it is something that we're protesting because on -- really, it's something as we looked at it and got the debrief, we see significant risk to our customer, both from a financial, technical as well as manufacturing capability perspective on it. And that's really why we're protesting the award.

And so maybe help us understand how long does the protest period usually last? And I know you have some dedicated manufacturing space, specifically for the JLTV. So maybe help us understand if the protest were to be unsuccessful, what would happen? How can you react?

Yes. So a couple of things. First of all, typically protests, they go through the GAO. It's typically about a 100-day process. So that's what we expect in this case. In terms of the facility, we have a dedicated 300,000 square foot facility. Now if you look at the need that we have for capacity and the growth that we're seeing in other areas, we recently added about 1 million square foot facility in Murfreesboro, Tennessee for the vocational segment, where we're going to be working on some of our electrified products, including Volterra and our ERCV. So we -- 300,000 square feet of manufacturing facility can be very useful to us. So that's something that obviously we can find opportunities for that over time. And we have a couple of years to really work through that.

And then maybe just rounding out, but obviously, defense has had some margin pressures throughout the last couple of quarters. And in this bid, it did seem like pricing mattered. So maybe talk to us about that? How do you go about this protest? How do you think about long-term margins within defense?

Yes. So what's important to us is we need to make sure that we're driving margins that are acceptable both to us and to our shareholders. And historically, our tactical wheeled vehicles have been sort of a mid to high single-digit operating margin. And that's -- so ultimately, something more at a commodity type margin is just not going to be acceptable to us and to our shareholders. So the key is, is ultimately with low prices, we want to make sure we're deploying capital to things that are going to drive higher returns. So that's something, certainly, as we look at it -- obviously, we have the know-how. We've been building these. We're facilitized. So theoretically, we have significant investment that's been made in this historically. So something, obviously, we're working through as part of the protest.

And then you mentioned the long-term targets that you have out there. And correct me if I'm wrong, but as this is happening, the post office has actually ordered more vehicles from you and they actually have ordered more of an EV mix. So maybe help us understand to what degree in your out year targets, even if you were to not win the protest, how much of that could be backfilled by maybe better-than-expected post office revenue?

Yes. What I'd say is just in general, I'd probably look at it more as a company in total. Obviously, a lot of opportunities for demand. We talked about the strong demand dynamics in all of our businesses. And you're right, in the postal business, obviously, stronger mix, really moving from a pretty low percentage of battery electric to 75%. So certainly, there's revenue dollar benefit from that. And of course, when we look at 2025, there was $1 billion range in our revenue there as well. So there's certainly opportunities over time to fill in that gap.

And maybe on the post office contract, I think you're on track for production late this year from a start perspective. Maybe help us understand 2 things. One, how quickly do you think that business ramps into 2024? And then secondly, with the EV mix much higher today than at original contract award time, how does that change the margin profile of that contract for you?

Sure. A couple of things. Really, our facility will be ready this year and we'll do some limited production activity. But really it's not material this year, as we said on the last earnings call. The ramp-up in earnest is really in 2024. A little bit of impact just with some of the mix changes with the customers, but really, it's a 2024 ramp. So you'll start seeing that ramp throughout the year. Then you get into 2025, I would expect more quantities. And we've said in the past that '25 will still not be our peak production year. Likely as you get into '26, '27, you'll see even higher quantities. So that's really the ramp-up schedule. The way -- it is a large contract like other -- similar to other defense contracts. So we'll recognize revenue on the contract over time. So what that means is, is every dollar of cost we recognize or incur, we'll recognize revenue on that. So the margin will be effectively the margin dollars -- or excuse me, the margin percentage is the same for the entire contract, whether BEV or ICE. What happens, though, is obviously with the selling price being higher and more content in the BEV, you end up with more revenue. So that's going to drive higher revenue dollars over the course of the contract.

Got it. I was hoping we could talk about the vocational segment. Obviously, a newly created segment. Maybe first of all, can you touch on the rationale behind that? And then you did mention the word synergies. So could we maybe talk about what exactly that means?

Sure. So as we -- so a couple of things. We see a tremendous opportunity. And what our core competency -- and really what our core competency is, is building purpose-built vehicles with high levels of technology in them. And so we like to provide those premium products to customers that really value that technology and total cost of ownership. So first of all, we didn't see a strategic fit. So we have now divested of our rear discharge concrete mixer business, which is really focused on leveraging third-party chassis. So now we're focused on really purpose-built vehicles. You see that with the recent launch of our ERCV. So now if you think about that, there's synergies in many different levels in vocational. Number one, you have general cost synergies. So we'll start seeing cost synergies as we get into the back half of this year and we work through the transition services agreement for the exit of rear discharge mixers. And then as we look forward, we see opportunities from a technology perspective. If you look at our fire truck business, where we have our Volterra line of electric fire trucks. Now you have the ERCV. There's an opportunity to collaborate from an engineering perspective. And in fact, the leader of the engineering program for our ERCV is heavily involved over the past couple of decades in our fire business, so understands custom chassis really well. So that's a real synergy. We see a facility opportunity with our Murfreesboro, Tennessee facility to build products together, again, similar because they're custom chassis, and you're dealing with electrification, also piggybacking on our Volterra. And we also see it as a growth platform. So it's kind of a broad name with vocational. So you can start thinking about the technology we have and what customers value and what other areas or adjacencies in the vocational space that we can apply that technology and know-how to and see sort of a natural synergy. So we very much see it as a growth platform as well.

So maybe we can talk a little bit more about the electric refuse vehicle you announced. And maybe -- could you maybe compare how is it different versus what you do in ICE today, right? And then I think if I go back a couple of years, you did try to build on third-party electric chassis as well. So maybe help us understand the decision to do a custom now?

Sure. So -- and again, a lot of similarity from what we've learned over the years with custom fire apparatus versus a commercial fire apparatus. And a commercial is essentially buying a third-party chassis and mounting one of our bodies on it. But ultimately, there's limitations with third-party chassis because in many cases, they're used for multiple duty cycles. So you start thinking of our ERCV and you get into a traditional RCV cab, they're typically cab board design. You have an engine next, a tunnel next. You're kind of cramped in space. So you look at it the e-chassis and essentially, it's a walk through. You can have a steering wheel on both sides. So, ergonomics are significantly better. Then you talk about it's all an integrated unit. So you start thinking about safety and sensors and maintainability. Everything is connected. So, with that connection creates opportunity from a maintenance perspective, from a status from a safety perspective, very much like what we see with our custom fire trucks really helping the productivity of the user. So that's what's very exciting to us versus -- so it just gives us a lot more flexibility in what we do to make it specifically for that use case.

Got it. That's helpful. Before we go to access, I want to talk about the fire truck business a little bit because what's fascinating to me is you really grew that business from a low single-digit margin business up into the mid-teens. And then kind of the supply chain snafu happened. So maybe help us understand, a, how are supply chains right now, specifically for your fire truck business? And then, b, your backlog is so robust. Maybe talk to us about when you think some of that pricing actually flows through the model.

Sure. You're spot on demand is very, very strong in that business. And we did see lower margins the past year really due to 2 items. First of all, throughput was lower with supply chain. You think about a custom fire truck, there's a lot of parts in the trucks. And we talked about on-time delivery metrics over the course of the last year. And then at parts of last year, we were in the 60s like 65% on-time delivery, very difficult building, having study throughput in that situation. So we've seen improvements but -- and this is really holistic to all of our -- to access as well. We really need to see those on-time delivery metrics, get back into that, call it, the high 80s to low 90s to really have a meaningful impact.

And Mike, just to highlight there, that's for suppliers inbound, right?

Correct. Yes.

So just receiving the material, so.

Good point. Good clarification, Pat. So we are seeing improvements, so that's good. But that's certainly the inefficiencies and the lower volumes certainly are impacting margins. The other piece, which is also significant is we've implemented significant price in our fire & emergency segment, upwards of 30% price increases on certain models over the last couple of years. So if you look at -- and those trucks are in our backlog now. So you can see we have some -- we have some price coming online in 2023. But if you look at it, there's a significant bump in price in 2024, that's in our backlog. And obviously, inflation is -- and it's material. And what we would expect is -- and we've said this in our earnings call, we'd expect to get back to more traditional type margins on fire trucks as we get into 2024 with that pricing. But nothing structurally changed in that business. The reason why we have this lag from a pricing standpoint is you can't reprice municipal contracts because there's performance bonds on them. So that creates some -- obviously some complexity with it. But again, we're -- we've obviously implemented significant price increases and believe we'll be back to more traditional margin levels as we get into 2024.

We've got a couple of minutes left. Let's talk about the access business.

Sure.

I think when you first sort of gave a bit of an overview about Oshkosh, you talked about demand outstripping supply. And what I'm curious about is what you're seeing in the aerial in the access business today. When we talk to investors, there's certainly some consternation around maybe the construction cycle. So could you maybe talk about that?

Yes. I would say historically, if you think of access where it has been somewhat cyclical. If you see a slowdown in residential construction that may lead to a downturn eventually to nonresidential construction and then which ultimately impacts the industry. The dynamics have changed. So there's a couple of things that make this a unique environment. Number one, fleets are very aged. And they age during the pandemic, the pandemic would have been a big replacement cycle then you come out of the pandemic, and there's really high demand. So it's been a challenge for -- particularly you add in to supply chain into the mix for those fleets to be refreshed. Then on top of that, I mentioned mega projects. There is a -- it historically sort of mid-teens percentage of equipment was deployed to these large $400 million-plus projects. It's double plus that today. And these mega projects aren't going away anytime soon. You start thinking about various infrastructure investments. The government's made, many of those projects are starting to ramp up. You talk about the chips act and a lot of other activities. So we see these mega projects as having legs for multiple years. And so that's another strong driver of demand. So the other area that we're seeing benefit as well is historically, access equipment has been heavily tied to construction markets. And that -- while that's still the case, it's less so today. So that's as you're seeing more use cases using equipment and clean rooms, like with our DaVinci Scissor and other areas, that's certainly helping as well. So our -- we see our outlook right now for demand remaining strong.

I think your backlog and access goes into 2024 at this point. And so can you maybe talk about how you're approaching pricing? Has that changed at all in past years? I'm kind of trying to think about like the fire truck business in a way where your backlog is very stretched and we're still catching up. So maybe talk about that a little bit.

Yes. So we've changed -- that's an area that we've changed a lot. Number one, we continue to prudently hedge commodities. We typically will not hedge 100%, though, just because you do have some market dynamics. But a lot of times, we'll hedge aluminum steel probably around -- we'll benchmark around half of it. So certainly, we're always focused on maintaining the cost side. Pricing can't be ignored though. And what we did really for the first time ever is we were working over the past years, we started repricing because inflation was coming from so many different directions. And that really changed the dynamic of the business, really, in our view, forever, that when we do see these highly inflationary times, we can and do have the ability to reprice with our contracts. So that's something that you even see going into -- as we started going into 2023, we're continuing to see some inflation headwinds on highly engineered components despite the fact that steel is starting to come down, labor certainly continue to increase. So we actually repriced again at the beginning of 2023, adding an additional 3.5%. So that's something we're going to continue to watch both the cost side and manage the revenue side with pricing.

And you obviously put out some guidance for 2023. And I guess what I'm curious about is you did say earlier that supply chains are somewhat easing. Maybe talk to us about what's embedded in the guide on the supply chain perspective? Because as I think about your implied revenue growth, you should get some price rollover. So, maybe talk to us a little bit about what's assumed in there.

Sure. I think you really have to look at by segment. So defense is down just due to demand. So that's a bit of a -- that takes volume consolidated down a bit versus the prior year. From a supply chain perspective, again, we need to see consistent metrics approaching suppliers delivering to us in that 90% range. So Walt's improving, we need to see more improvement. So we have baked in some modest improvement in supply chain over the course of the year because we don't believe that there is going to be a light switch event where it's suddenly going to improve. But we do expect that it's going to improve over the course of the year. So that's really what's driving the revenue guidance that you're not seeing significant unit growth, it's much more the price reading through because, again, we're assuming that supply chain, which is really the limiting factor is going to hold back the revenue side from growing.

And I know this is a smaller piece of the access business, but could you touch on what you're seeing internationally? You did acquire a European company. I know you have a bit of the China exposure as well. If you could just talk about both of those geographies.

Sure. International, particularly in Europe, I would say not as strong as U.S., but definitely fairly robust. China, I think now coming sort of now that they're getting through the COVID period of time, we see things picking up there a bit, and certainly not to the level again of North America though. But overall, conditions pretty positive overall though internationally.

Okay. And then at your Investor Day, you did talk about M&A as being a focal point. Couple of questions there. When you think about capital allocation broadly, could you maybe review how you think about dividends, buybacks versus M&A and your holistic approach to that?

Sure. So really, we have a strong focus that investment in growth is going to be a significant component. If you look -- we had some pie charts really breaking it down in our Analyst Day presentation, but about 65% to 75% is going to be the -- we expect to deploy towards M&A and organic growth initiatives. So that's going to be a huge focus area. But importantly, we expect that we're going to continue to buy back shares. And we have a long history of increasing our dividend, even with a recent 11% increase. So dividends and continue to increase the dividends as well as doing prudent buybacks will continue to be part of our capital allocation strategy. And in years with what you would expect as in years of more organic investment in M&A, you'll probably see somewhat less buybacks and sort of vice versa.

Okay. And we only have a minute, but I did want to ask you just about M&A broadly and how you evaluate targets versus maybe end markets you want to play in. In the last couple of years, 3 deals come to mind, Pratt Miller, Maxi-Metal and Hanwha. Can you talk about -- are those the type of deals investors should expect out of you? Maybe just probably talk about that.

Yes, I would say that clearly, the focus is trying to find good opportunities for bolt-on acquisitions in the growth -- in the areas that we're focused on. So think of areas to enhance technology or get into an adjacent near adjacency. Pratt Miller sort of checked both of those boxes. Hanwha frankly, does as well. And -- or again, geographies, if you look at Maxi-Metal expanding our exposure for fire trucks into Canada. So I think those are -- so I look at technology focus areas, near adjacencies and if they're aftermarket or life cycle exposures as well would be areas we're excited about.

That takes us to 30 minutes. Mike, Pat, thank you very much. Appreciate it.