Snap-on Incorporated (SNA) Earnings Call Transcript & Summary

Good morning.

Good morning.

And once again, thank you for joining us at the CL King Best Ideas Conference. Next up is Snap-on. With us today is CEO, Nick Pinchuk, and CFO, Aldo Pagliari. Hi, Aldo. And during the presentation, if those in the audience have questions, please log them on your screen. And I will layer them in throughout the presentation or at the end of the presentation. And with that, thanks, Nick and Aldo, for joining us once again.

Sure. Our pleasure.

Nick, maybe to start off, just giving a high level, again, just -- I know it's been a crazy last 6 months but just how the pandemic affected your business early on, how things have rebounded and some of the steps that you've taken to put yourself in a good position once this -- the dust settles totally.

Sure. Sure. I mean I think like a lot of people, actually, I was in China in January, with our China operations. I came back. And so early before I never visited itself more broadly on the corporation, everybody was worried about what was happening in Asia. We seemed to weather that reasonably well without interruption of our supply chains. And so on, at least in the China operation and so on. So in the beginning, we kind of played it out reasonably well. I think our view of the general effect of the COVID is to see it in 3 phases: shock, accommodation, psychological recovery. I mean, one day, I'm in New York on one of these shows. And that night, I'm in a Milwaukee Bucks game with 18,000 people. And the next day I'm shaking hands with hundreds of people in a ballroom. And a few days later, people are calling for sheltering in place. It was a big shock. And so what happened is, I think, the system, both our distribution, our franchisees, the guys who ride around in those weekly routes calling directly on technicians, the garages themselves and our other customers didn't know how to deal with this, didn't know what to do. And it varied from place to place. It wasn't the same. There was a landscape in the Northeast. It was -- things were pretty quiet because people really were concerned about sort of like you thought of New York State as the sort of the epicenter of these things. West Coast was weak, and the middle of the country, less so but still daunted. Canada, very daunted and the U.K. almost completely stopped. And then after the shock, we started to get what we would call the accommodation phase. Our people, our franchisees and our customers started to realize steps they could take to get over this and to deal with the virus to pursue their commercial interests safely. After all, what we do is deemed essential from the very beginning, underpinning the essential -- the critical mobility of the country. And so our factories and our warehouses stayed open, maybe not at full blast, but they stayed open pretty much the whole time. So we've seen over a period of time, after that initial shock, generally a combination. And you can see it play out in the numbers in the second quarter towards the end. April was the nadir. Boy, things were kind of down in April. And then gradually in virtually all our business, most of our business anyway, they came back. So we see that shape emerge. That's the shape we see the whole thing happening. And particularly, you can look at the Tools Group, which is the vans. In June, they were back to within 3%, 3% change, like 3.2% of last year's level. So they had started to recover. But all our businesses showed that shape, and we expect that -- although we don't give guidance, we kind of think that's the way it works out going forward. So the cool thing about that is I don't think the world, at least us and our customers or our distribution, are going to get shocked again. Second wave. Third wave. They're not going to get shocked again. They're going to have these accommodation capabilities to do this. Then you apply in psychological recovery. I think everybody starts to take a look at, well, what are the paybacks I'm going to need for my investments in tools or equipment or anything like that based on the environment. And I think that it'll take people some time and varying from industry to industry to say, "Okay. I'm going to invest in big-ticket items, longer payback items." And you'll see that play out in varying ways at different time lines throughout the industry. So that's sort of what we see. Now the other thing we've seen that I think it's useful to point out is that our direct businesses, the franchisees that address the customer directly or our direct salesmen in the industrial business in critical industries, they have been ascendant. They have recovered the best. We have a whole bunch of other businesses that go through other people, like through distributors or through agents. And they -- those businesses are -- even though they've shown the same shape, have not recovered as well as the direct business. So what we've learned about this is you can accommodate the difficulty. Actually, I recognize this. I was in Vietnam, and I remember the bombs would fall on a city and people wouldn't go out for a while. And then after a while, everybody would go back to their business. This is what we saw here. And then the other thing, though, is kind of interestingly is that the direct businesses did pretty well.

Got it. And just leading off of that question, can you talk about how the franchisees have adapted during these social distancing days? How are they continuing to work, getting through this and being able to move?

Sure. Look, I think the other thing about Snap-on is we like to say we've seen this movie before. You might not think so. You might say, well, nobody was around 100 years ago, of course. But actually, in a more narrow way, we saw the very same effect on our customers and distribution, particularly with the Tools Group in plain things like Superstorm Sandy or Hurricane Katrina or Harvey in a more narrow way, of course, but generally the same effect, shock and then accommodation afterwards. And we had a set of things we did to help our customers and our franchisees get over that. So we implemented that immediately, and that helped them get over the, I would call, the nadir of April and maybe the weaker months. That's number one. And number two is our franchisees and accommodation, they would do things like, okay, they understood the meaning. And we say in distance, we trust, and we try to do that and using masks but also employing different ideas, electronic media, social media to communicate with franchisees at a distance so to minimize the direct activity. So they can say, "Okay. I'm getting in your shop tomorrow. I got this hot power tool. You want to watch it? Look at it here." So when he goes up, maybe when he gets into the garage, he doesn't have to spend as much time explaining it. Also about the idea of setting payment terms -- not terms but payment schedules at a distance. And other -- a little bit more innovative things and a little bit different things, like, for example, if you can imagine a truck with a bunch of steps up, where some guys didn't have people come on the truck. They use the steps as a tiered display for the latest projects or products so that when people could come out. Things like that, that work pretty well and those are the kinds of things that got them back to within the 3%. I have to say that I think our franchisees are doing pretty good in this situation. And then the garages themselves -- I go out, Aldo and I go out and we ride with franchisees. We were obviously on a truck a while ago with a couple of franchisees. And when I visit the garages, they seem to be pretty -- they seem to be rolling pretty well. Now we can see into the garages based on some of our electronic media that we have, our electronic communication with the garages, and we see them coming back. We can confirm sort of quantitatively that they're coming back. And qualitatively, I can confirm that they're coming back based on my understanding of it. I think people are just driving again.

Thank you. On the international side before COVID, economic turmoil on the mainland and the U.K. with Brexit was certainly having an impact. Could you talk about where you see or the level of recovery and when you would see that starting to...

Yes. Look, I think you said it correctly. We thought Europe will slip, slide away in the fourth quarter and the first quarter of this year. When we were going in the first quarter, the Tools Group seemed to be ascendant. They seemed to be rising. We were so disappointed when this happened because we thought, finally, the Tools Group was starting to beat and expand their time. So it was working. But Europe was a different deal. Europe, for the Tools Group and for our rest of our businesses, were suffering under the idea of Brexit and the associated economic impairment. And so we're seeing that, which is we were getting ready for that, which is why we've had -- we had restructuring in the first quarter of $7 million -- $7.7 million. We had another $4 million this quarter. And it was mostly focused on Europe because we recognize that we wanted -- we had productivity gains there that we wanted to monetize by reducing the footprint without reducing our capacity because we think the capacity is coming back. So we're kind of getting ready for that. So what you see in Europe is a twin problem. You have the COVID and you have the economics. But even having said that, when you step back and look at Europe, maybe it's the effect of the COVID dominating as opposed to the economy getting better, but you still see this sort of same improving shape going forward even in the U.K., which I proclaimed a basket case a while ago. And so I think we're seeing that come back. Now I don't know how long the economics will keep that weak. If you look at our by region, our numbers look much better in North America than they do in Europe and Asia looks in between those 2. Now if you talk about Asia, Asia is kind of an interesting little situation. The northern parts of Asia got it first, and everybody was worried about supply chain and it did impact the early parts of the first quarter. But China, Japan, North -- South -- I keep saying North, South Korea and Taiwan seem to be getting better. They seem to be over the hump, of course, still attenuated. But over the hump and back going. You look at Southeast Asia, the Philippines, Malaysia. Indonesia just shut down Jakarta. So you've got Thailand. They're kind of still struggling. And India, India is a basket, another -- the latest in -- the latest basket case. India seems to be difficult place to do business today because I think they are reeling under the virus. So in other words, Asia isn't showing that improvement level. They're showing improvement levels in the north, but then the south is going down, particularly India. So you see that kind of balance.

And moving back to the Tools group within the recovery.

Yes.

Could you just talk about how big-ticket items like tool storage and diagnostics are doing?

In the quarter, they were -- in the quarter, they kind of did sort of close to what Tools Group has done overall, down a little bit more, I would say, a little bit more attenuated in the quarter. Hand tools did a little bit better. As you might figure in the kind of uncertainty with the -- we see this before. I think, though, my sense of it is they're not so far off the center in -- within the windage of the COVID, we don't think they're particularly bad actors in their segment. Now going forward, I'm not so sure how that plays out. Like I said, we don't give guidance, but I don't -- we didn't see a retreat. And originations were down in the quarter, what, 2.7% in the United States. So they tend to float around big-ticket items, although the timing is a little bit different.

All right. Maybe just talk about another big topic, the health of the franchisees. They seem to have been able to handle the situation better than many expected, I guess. Some of them use the forbearance programs to help them get through. Can you talk about how that is playing out? Are those programs winding down? And just where you see things going from that perspective?

Yes. Look, I think, first of all, I think I've said this in the fourth quarter conference call. I think the franchisees entered this problem, this area better -- stronger financially than they have been, we thought. We thought they were kind of flush, in good shape. Of course, COVID hits. We did have forbearance programs for both customers, for technicians who we thought were good payers and passed the test of our -- sniff test of our credit people and so on as well as the franchisees. And to give you an idea, I think the customers entered, maybe, at the low point, they were about a $10 million extension. And then they went to -- they're down around 2 -- at about 2%. So I think they kind of -- between 2% and 3%. So it kind of shrunk. That's kind of going away, and you see the same kind of thing in terms of franchisees. You see, okay, the forbearance was up in the beginning, in the nadir. And then we just shrunk as we went through about the same levels as I quoted for the customers, for the technicians. So as far as the forbearance programs go, I think it's kind of came and went as we saw in the hurricanes. This is why we had such confidence in this. We think this kind of works. And by the way, we just didn't give it to anybody. These were people who we thought were pretty good payers and were -- who had loans to us. And then -- and we gave some opportunity for a couple of things like direct loans at low expense and low numbers. And that kind of -- we set -- and I think we set the target at $20 million and about $19 million got taken up and it maybe came down a little bit. But most of that at the end of the quarter was in their accounts held with Snap-on. So they weren't even using it really. And so I think you have to say that our guys came out of this pretty well. You look at turnover rates. Turnover rates hardly moved. So I mean, I think we have a certain amount of turnover in our business that's structural because people retire. And if you look at those turnover rates, [ they're in the room ]. Now our ability to recruit people in the nadir was a little bit more difficult because you can't even -- you couldn't really talk to them directly, but you can see that recruitment start to go up as we accommodate the virus going out. So I don't think -- if you looked at the numbers around the franchise system, you really don't see it in much duress at all based on this.

Okay. And moving over to the credit portfolio.

Sure.

Delinquency trends have looked very favorable, particularly this last quarter in Q2. Some of it, I'm sure, had to do with the -- some of the forbearance. But it seems, if you strip some of that away, that the core metrics were favorable. Can you just talk about that?

Yes. Look, I think, yes, the delinquency was, I think -- a 60-day delinquency was 1% in the quarter. It was 1.7% in the fourth -- in the first quarter. It was 1.4% last year in the second quarter. There's always a little bit of structural improvement in the second quarter. And plus, you could argue it was a couple 300 basis points -- a couple of hundred basis points associated with forbearance that might have operated on that number, but it's still clearly improved over where we were. So I think for government work, it didn't move. I mean, I think you can say that it wasn't affected. And I'm not so surprised because really this is a kind of situation where -- I think there's a couple of things to think about in this situation. One is the Snap-on credit model is solid. It was solid in the real big recession. And losses went up some but not really significantly and nothing that would get us even threatened in terms of a cash flow point of view. We just -- you could say, it was a noise associated with reasonable macroeconomic movement. And in fact, we see that because our franchisees are in there talking to the customers every week, and they are guiding, calling in the airstrikes. So we are loaning to good people, who may look, to most people, like subprime people to -- but to us, they're performing like prime customers. I think that's number one. I think number two is it's worthwhile thinking a while about this recession. I think people tend to look at this recession from the perspective of past recessions. But in my opinion, in my view, when you look at it from a factory floor level, our factories are still running or from a garage level or van level, it's quite different. It's quite different. I think technicians look at this as quite different. When the recession hit in '08 and in '09, people in the field viewed that as the gnomes of Wall Street, somehow in an arcane method created the recession. And the gnomes of Wall Street are going to have to figure out how to bring us out of it. We don't know. I mean if you're in a garage, you don't know. These are mechanisms which are beyond your ken, and so you're not so sure about this. So therefore, delinquency can be even worse because people are saying I don't know when this is all going to end. In this situation, it's recession by fiat. Everybody knows why we're in the recession. And everybody knows when they all -- everybody knows when will we get out of it. The minute the all clear blows, everybody understands how we get out of it. And this ironically gives a little more certainty at the grassroots level, a little more confidence at the grassroot level, I think. And so I would expect us to perform reasonably well.

Got it. I'm going to move over to a question from the audience. Maybe, Aldo, you want to take this. It's can you please explain what franchise deposits represent. And why did this current liability increase from $64.8 million in Q1 to $83.3 million in Q2?