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

Good morning, everyone, and welcome to the 22nd Annual CL King Best Ideas Conference. This is Kevin Holder, analyst here at CK, and we're very pleased to have the management team of Snap-on with us today. Representing the company, we have Nick Pinchuk, Chairman and Chief Executive Officer; Aldo Pagliari, Chief Financial Officer; and Sara Verbsky, Vice President of Investor Relations. [Operator Instructions] With that, Nick, Aldo and Sara. Good morning, and thank you for joining us.

Good morning, Kevin.

So Nick, maybe to start off, can you maybe give us a brief overview of the company, your operating segments and the key end markets that you serve?

Sure. The company started out way back in 1920 and started in an invention. We call it 5 do the work of 50. A guy had the idea that make 5 handles, a T a crank and Ellipse and put them together with 10 sockets of different dimensions and fashion them so they would snap on interchangeably. They were built of high quality. It was an innovation that changed tool sets all over the country. And he told people to call directly on mechanics and lay the tools out on green felt as if they were presses as surgeons nice. And that business evolve into what we call today the Tools Group. Remember, I said they were going to call on the mechanics directly, and we do today. One of our businesses is the Snap-on Tools Group, it represents about 40% of the business. It prosecutes its business by calling directly on technicians, not the shops, the technicians themselves, the people who twirl the wrenches. And those brands, I think there are about 3,400 of them in the United States, 4,800 worldwide. And they are franchised. And as I said, they have weekly routes. So they call on the same technicians every week, roughly at the same time. It's kind of a weekly route that goes through them. And that's the core of the business that we have. That's 40%. And that's arrayed by customer base. Facing that customer base. And Snap-on in general is array -- customer-facing groups. So those are mostly technicians that are involved in vehicle repair. There's another which calls on a group customer base, which stands right next to the technicians has some of the same mission the repair shop owners and managers, the repair shops, that's the facility in which the technicians work. And that business calls on those people with a different sales force because they don't buy at a weekly cadence. So they might call it like any direct and distributor sales force. They sell things like that would be, I suppose, semi capital items for the garage, software that runs the garage repair information and get special insight into repair and garages, electronic parts catalogs, hardware like car lifts that you need to get underneath the car or aligners to put the wheels in place, our tire balancers or tire changers. And that business is about 28% of the business. And then the third big leg of our business is the Commercial and Industrial group. And fundamentally, this is the Snap-on brand rolling out of the vehicle repair garage to other industries which are critical. One of the things you'll hear many times from me today is what binds all these groups together, these customer pieces and makes them our customer base is that they are critical. That is they're doing a task where the penalty for failure is high and the need for repeatability and reliability justifies a Snap-on level product. So we roll the Snap-on brand out of the garage to other industries, which are critical. Things like the military, 50-caliber bullets going overhead, I think when you got a repair your vehicle, it sounds pretty critical to me. And things like aviation, oil and gas, general industry, education, mining, places where people want to get the process going again and they're willing to pay for something that's extraordinary. And then we have a credit company. It's a small portion of our business, about a $2 billion portfolio, but it primarily supports the Tools Group, the vans that call on those mechanics. And when the mechanic buys something that is big ticket the credit company helps in the financing of those things. You step back and you look at this, generally, what we found is that when we started, the whole thing was based on this idea. We're in the garage itself. We're at the workplace itself. We observe the work and we take that knowledge, that insight back to create a tool which will solve some of the most thorny problems in a critical situation. And so we can do that. We can be in the workplace, and we can provide a solution, whether it's a wrench or a piece of software. And many people think we're only in vehicle repair, but that's not true. We serve anybody where the task is critical and the penalty for failure is high. You step back and you say to yourself, wow, these things going. The Tools Group is selling to the technicians. The technicians today are cash rich, but confidence poor. So the Tools Group down 7.7% in the last quarter because of that uncertainty in that business. Then you look at our -- but the other 2 legs are doing pretty well. RS&I external sales were up 4%, Tools Group was down in profitability. But if you look at the RS&I business to the shop owners and managers, that was up externally 4% and the profitability was 25%, up 60 basis points year-over-year. And if you look at the commercial and industrial business, also up about 4% externally in their external sales and the profitability was 16.7%, up 70 basis points. You roll it all together the company was about flat, down 1.1% organically in the second quarter, the profitability was 23.8%. Now that had some legal adjustment in it. If you strip that out, it was 22.8%, second highest ever corporation, even though 40% of the business was attenuated Earnings per share were $5.07 take out the legal settlement, $4.91 highest ever. So basically, what you saw in the last quarter was Tools Group attenuated because of the uncertainty at the grassroots of the text, but the other 2 businesses, keeping it up and keeping it quite profit.

Perfect. Thank you so much, Nick. Great overview. So I guess I want to focus initially on the critical industries that you talked about in the C&I business. Going forward, what are your expectations for that business? And then if you could maybe detail kind of the military and aerospace industries and specifically how you think that will -- what your plans are for that going forward?

Well, the simple thing is this. We've come to those industries later than vehicle repair. So fundamentally, you can view Snap-on is having a strong offering in that area, but not as mature in terms of comprehension and it isn't as broad as our offerings in vehicle repair. So the idea is if you look at the critical industries, we will name some of the bigger ones, you talk about military, talk about aviation. Natural resource, oil and gas and wind, general industry and heavy-duty equipment, education, mining. And so what we're doing is observing that work, like we do all the time, our principal value creating mechanisms and building product lines around that. And so what's happened is we're building, we have a pretty strong product line around military pretty good around aviation and it kind of goes down. Our product lines are building, I think they're strongest in the military and aviation. So they've been some of the biggest winners. And one of the things we found recently is that Boy, the more product we can put in the field. And a lot of this is customized we see a particular set of problems at a particular oil and gas platform or for a particular airplane, and we customize the product for that. Maybe putting together a kit let's take the F-35 fighter, for example. You want to repair the F-35 fighter weekly, which you right on target because we have a kit, which will have the appropriate tools for that in it. And that's what we sell to the government or whoever is making the F-35 buyer. When they deploy them, we also do it for the manufacturing of that fighter and a bunch of different things like that. I mean you're talking about aviation, the same kind of thing and talk about like helping Boeing create more precision in its manufacturing facilities through torque wrenches and connected torque wrenches, which are accurate and also can connect to document the process and ensure that it was actually done correctly. And so you do those kind of things. And as we just expanded our buildings associated with that business gave them more capacity in effect, and that business responded in kind because it was up in a quarter. It was up in the quarter, I think, double digits, double digits in the quarter, that particular critical industry business within C&I. It's about 40%. Maybe 40% of C&I a little bit more about 40% of C&I. And its profitability is strong. So what we see in that business is we're actually looking like the more product we get as we mature our product lines, the greater the business, the more penetration we have. And by the way, all of that is very profitable. So I see that working pretty well.

Great. And maybe switching gears more towards the mechanics. Can you maybe talk about the trends that you're seeing with the growth to decline in the number of mechanics?

Yes. I mean I think this is sort of like getting to be -- even though you wouldn't think a guy like me who says this business selling to mechanics is down 7.7%, I would say this kind of thing. But I'll tell you, I think we're in the golden age of vehicle repair. One of the things that's happening is that, by the way, vehicle repair is solid. Come hell or high water, people get their cars repaired. And so we're down, and it's mostly because the technicians are getting up every day and reading bad news for breakfast in their in the newspapers. So there are like so many people from the Game of Throne, Winter is coming. I'm worried about going forward. So I'll buy something that I can pay off in 15 weeks, but I don't want to buy anything, which I'm going to have to pay off in weekly payments over like 3 years. So you can see the shift in our business, so we're pivoting to hold them. But if you go to the garages, they're doing well. By the way, they've always done well. In a great financial recession in 2009, the general wrote an article called economies go on repair shops, and so it is. And so what's driving all of that is a couple of things. One is cars are getting older. They're now 12.6 years old and they get older every year, and the number of cars in a road are getting greater. So that's one. Then cars keep changing, and they keep changing all the time. So more, let's say, more fly by wire. So in the '90s, there were 2 dozen trouble codes on a card, now there are tens of thousands. So that creates a greater complexity in the car that mechanics even an internal combustion engine that mechanics have to service. Then what's interesting about that, even though cars got more drive by wire, the demand for hand tools got stronger because the geometries inside the car required more in different handles every time a new model came out. So this is good for us to change your models. Then you've got the new powertrains, electric or super highb reeds or plug-in, plug-in electric vehicles and all of those need new sets of tools or different tools. People often say, wow, our electric vehicle is going to be less. Well, there's no evidence for that. In fact, I think Hertz just said the maintenance of their cars on their fleet when they get rid them was 48% higher. And part of that is because even today, only 20% of the air procedures on a car are with the powertrain. And then on top of it, you have the idea we want more autonomy, well, more autonomy means, boy, you need a lot more devices. And the car, all that autonomy depends on a neural network of sensors around the car, every time you bang the car, you bang the fender, you're bang the bumper, it's a big time repair because you not only have to replace the bumper, you've got to replace the sensors and they got to recalibrate them an exercise of nontrivial nature, and we have the best hand tools the best diagnostics for repair on the car and diagnosing all those trouble codes, and we have the best way to calibrate best decodering for calibrating the sensors. So we see that as a great opportunity.

Okay. Great. I guess kind of going off that.

I didn't answer quite your question. And so what you see is that you're seeing it in the BOL data where people are spending more money on repair. There are more technicians. Technicians used to grow at 1% a year, now they're growing mid-single digits. And then the technician wages are going up. Thus, the golden age of vehicle repair.

Nick, that's very helpful. I guess kind of going off that tech customer uncertainty, what would you say would be a driver to kind of change that outlook to get those technician customers to spend on your products?

I don't know. Look, they get -- it's interesting. What happened in the pandemic is, I believe it was already somewhat this way that there was a financial economy and a grassroots economy. But in the pandemic, people of the financial, the people have thought were sheltering in place. The people have worked are at their posts. And so this created over those 2 years, wherever it was, maybe more a distinctly different experiences between these people. And I think this has created much different attitude. So 18 months ago, when everybody on Wall Street, and I was going on [ Swapbox, ] in her [indiscernible] on Bloomberg and saying the recession is coming, the recession is coming. The people in a garage are saying things are good. Things are good. There's no recession. And in fact, that went for a long time. And almost immediately when everybody, the financial analysts were saying, well, we're going to get a soft landing. The people switched and part of it had to do with the bad news for breakfast. I mean there's a war in Ukraine crane that seems to be stopping. The Middle East has complicated things. The Houthis, are bombing the Red Sea. We have a tit-for-tat with China. The border has turned into an uncontrolled migration in some people's mind. And the election -- so if anything is driving uncertainty, you'd have to admit this election is a doozy. And so when you look at all that stuff, people are sitting there lease, I'm a little worried about the next year, not the next 15 weeks, I'm not worried about the near term. And maybe I think 2 things can happen. One, is some of this stuff liquidates itself. The Middle East goes away, Ukraine goes away. The Houthis aren't bombing things anymore. We worry about inflation stops, inflation is another thing. They're worried about the inflation associated with the supply chain. Or the election comes out. Everybody knows who wins. But on the other hand, listening to these guys, I don't think anybody knows what any of these people are going to do anyway, no matter if they get in office. So I think that's going to last for a while. Now there's another mechanism that can happen is they just get used to the pain. And they just say, okay, well, sort of like people get used to for instance, Milk is 54%. I think it's 54% above what it was in 2019. So every time people go in and look at a bottle of milk they tell you this is very high. But after a while, you get used to their price. So maybe some of that happens to top things down. I'm not seeing it yet though. And you have to admit that if you watch the election or you listen to what's happening in the Ukraine or the Middle East nothing's happened there that you feel any less uncertain, if you were uncertain before.

Yes, that makes sense. I guess kind of going back on -- you touched on the car is becoming more complex with tech integrated into cars. So what are some of the products that putting out kind of [indiscernible] to technical issues that are rising in cars.

There's all kinds of physical products. Like for example, in GM, GM has got a couple of transmission models where you can't take apart the transmission without just assembling part of the exhaust system because of the way they built the car. The way they built the car for reasons passing. Part of the reason is they designed for everything else except for permeability by the time they've designed the car, they've created [indiscernible] type structure that's difficult to get in. So we built a small low-price socket that allows you to get in there and do this. Another one and more sweeping is like this, consider this Remember, I talked about the troubled codes. So it used to be that the guy would get on. Here's the evolution of car repair over the last 20 years. So it used to be that the mechanic would go in and listen to the car. Oh yes, this is what's wrong. Little trial and error and so on. Senior mechanics are pretty good at this. That's why you took your car to some of those people. Then we start to get more troubled codes. So what happens is then there's a process called scanning, you scan the car and then you see what the trouble code says, what those trouble codes say. It's a kind of error fingerprint that car leads when you have those trouble codes and which ones are non-nominal. And okay, the ability to scan has to do with -- remember, you're talking about probably 25 years' worth of cars, 25 years' worth of models, plus you're talking an independent garage, you're talking about it 40 different badges that could show up in that garage like a BMW or [indiscernible] So you have to have the decoder ring and the values for all of those. We have the best database to do that. Now it used to be that mechanists could scan and we would help them. And the mechanic could look at the scan and say, this is what it is. But now a number of data points have gone like this and really expanded. So it's much harder just to look at the fingerprint. So you have to somehow decode. So by the way, the scanners aren't definitive. The scan is not definitive. The status of the electronic codes aren't definitive dead nuts. So you have to go into something called diagnosis. And so the standard way would be to either senior mechanic can look at it and make a deduction or the standard way from OEMs would be to go through a decision tree, test this, then this, then this, time-consuming and physical process that comes down to, okay, so mass air flow sensor. That's one way to do it. It's time consuming, though, that diagnosis. That's not repair in the car, just finding out what's wrong, then or you could pay us and we have a database based on 2.7 billion actual repairs. The car said this, it was an Audi 2012 Audi with 85,000 miles, will give you a pareto diagram. 69% of the time was mass flow air flow sensor, 12% of the time, it was the wiring harness and so on. So you can go there, test the wiring, test the mass air flow sensor if it's bad replace. If not, try the wiring harness. And then if the Pareto diagram doesn't give you what's wrong, if you go through like 3 or 4 things on a Pareto then we have another database, 350 billion data points which will allow you to track down in relatively easy -- well, not so easy, but relatively quick fetch. Those things that occur on alternate [ complexities ] where in months with [indiscernible] In other words, the unusual things that really need up technicians time. So those are the things that come out to match this complexity because as the car is becoming more complex, harder and harder to scan, harder and harder to diagnose. And then the other thing, which sometimes -- I told you it's a mass airflow sensor, but sometimes that mass air flow sensor is in a tough position. They can't get it out. So we make the special tool to get it out.

Nick. I guess kind of going off of that, the diagnosis and your diagnostic solutions that you offer, how are you integrating AI? And what tools are you creating?

Well, part of it is that database. The thing is actually, so if you think about it, the database is created both of these, certainly, the $2.7 billion database that tells you what's wrong with the car based on the signature. One, you have to have some pretty deep learning in trying to figure out, well, it's pretty complicated. The number of combinations are difficult. So you have to learn. Otherwise, it will take you a long time to deuce looking at so many different possible data points, so many different possible combinations. Secondly, you kind of need natural program languages which is kind of a version of AI because when you get a data a repair event from technicians, and that's what we do. We get it from the technician. The technician said, this was what I said, and this is what it meant. They speak a different language. And the ones in Minnesota speak a different language about the car than the ones in Louisiana. And so you have to kind of create a kind of language we would call tech to interpret the data, just to understand what they mean. And so I would say we use those kinds of things in terms of aiding ourselves and making these analysis and creating the databases that are functional.

Great. And I guess kind of going off that, shifting into EVs, maybe some of the tools specifically for EVs that you're building, I guess, probably the database you say is applicable.

Sure. Database just embraces cars in general. So it really makes a difference. Now you can't just -- one point I want to make is you have to have cars on the road to have a database. And so the number of cars on the road is of EVs right now is relatively small. And so therefore, it's harder to have an effective and statistically meaningful sample of all these cars. But what you do for EVs is and we just did this, we acquired a company called the Dealer-FX, and so what Dealer-FX is we have the premier company that provides shop management for independent garages and provides them repair information. So we can see into all those independent garages. By the way, I wanted to point out those databases, recently with the litigation we have, confirm that they're proprietary to Snap-on. And I want to also tell you is that the OEMs are blind to this data because most of the events you're talking about happens after warranty in the independent garages. So that's one point. Then secondly, you come to, well, what about electric vehicles or plugging in hybrids or new hybrids. Well, there aren't that many of them on the road and a lot of them haven't been there that long. So what's the early warning signs. One, we collaborate with the OEMs to provide them special items that they think are needed to address the idiosyncratic of a car. Every time a new car comes out, like I said before, they don't really design for repairability. So by the time they design for appearance cost and performance, and reliability and safety and emissions and fuel economy, there are no degrees of freedom left over in design for repairability. So almost every new model that comes out has idiosyncratic conditions in which the dealerships need special help to repair them. So the OEMs, we collaborate with the OEMs to provide those to repair to the dealerships. Now that gives us an insight in the new models coming out, first of all. So it tends to lead us to understand what the [ idiosyncrasis ] of those models are. Then we just acquired this company called Dealer-FX which provides shop management and to the dealerships. So therefore, we have a view on what's going wrong in the dealerships. Which are early warnings around EV and therefore, kind of at least looks at the beginning of the [ plume. ] It's important to understand, though, a lot of things don't occur until after warranty on these cars. A lot of it's bad stuff. So it's a rising view of what you need to have to service a car as the car goes into longer and longer mileage. But we're at the beginning. We have good insight right at the beginning. And so some of these things are, for example, you realize you better have some insulating tools. Otherwise, people could fry themselves poking around in EVs, there's a lot of voltage. You realize that you better have special lifts because you can't lift the car up the same way. I can't lift an electric vehicle car the same way you do it in internal combustion engine because the battery is underneath. And oftentimes, you have to be able to drop the battery you get through it. It's like a solid wall. And so you have to have a different lift organization. You have to have certain protocols that will allow you to monitor the air conditioning. So the battery doesn't fry or get too hot and your mileage goes down like a stone. So those are the kinds of things you need extra for electric vehicles. And the same kind of thing for autonomous vehicles and plug-in hybrids and so on.

That's makes sense. I guess kind of changing gears towards the overall macro environment. Obviously, the Fed is talking about cutting rates throughout the second half of the year. How do you think technicians are going to react to that? And do you think there will be improved sentiments to finance larger, more?

How do I think technicians will react to sort of the Fed cutting rate?

Yes. So would you think they'll finance through?

Here's my answer. It won't react. In some ways, remember, what I said, financial economy grassroot economy are not paying attention to your own problem. I met Jerome Powell about a year ago, we're talking about this. I ain't paying attention to anything he does. And in fact, they're not being affected because it's not that they're not borrowing because they don't have the money. The garages are pulling. They just think this is -- the things that are going to happen. They're going to keep their powder dry. So they're not like ordinary consumers, I think, in fact, because their balance sheets have stayed pretty good. So I don't -- and by the way, I don't think anybody at grassroots actually pacing. I think the effect -- the short-term effect of interest rates on the grassroots economy is a legend in the mind of the financial community.

That makes sense. I guess shifting towards the raw materials, steel and copper that you use in your tools, how have the price fluctuations affected the cost of your product and how is that trend more?

No more effect. In words, it's been stable for more than a year now. Right after the pandemic when everything was -- when they were closing the Shanghai ports and stuff like that, and you had a lot of going up and down during that period because we prioritize delivery. We were going to deliver to our customers. And so we spent a lot of time in the spot mark. And one of the good things about Snap-on is we don't depend on anything that much. We don't buy that much of any one product. And therefore, we can buy on a spot market if we had to, if supply was a problem. But that's all calmed down now. Now I guess steel is -- we buy about 4 different kinds of steel and some are up versus pre-pandemic are down. I would call this as business as usual for that.

So I guess kind of you talked a little bit about recent acquisitions. Maybe if you could detail Mounts, that would be a little bit. Talk a little bit Mounts now that has provided incremental value for?

Yes. Mounts a California-based company that does sort of like smaller torque, we believe because of autonomy and in cars and the general drive for more precision in a lot of different sectors like aviation, I talk to Boeing, if you think precision is important. And there's a need for more advanced and more wider -- more advanced, more accurate and more reliable torque. And Mounts was one of the pieces of our puzzle in terms of range. So we were always a mid-range torque company. We think we have some of the best torque products in that mid-range that can both be accurate, easy to use and will allow you to document the torque in case you want to have a record and figure out, geez, do we screw up and we need to go back and re-torque. Then we acquired a Norbar, a company called Norbar in England, which is the top end [indiscernible] thousands of foot pounds. And then at the bottom end, Mounts was smaller torque, the kinds of things that isn't applied in the Toque wrench were applied in an electronically controlled and tightly controlled power tool. And so that helped us fill out the bottom range. And so what you're going to see, it's working pretty well. We're integrating it. Sales seems to be going pretty well. But I think the real benefits are down the road when it gets fully integrated in this whole line, and we can sell a wide range to people like in aviation or oil and gas or other places, we are looking for those kinds of things.

So you're looking at, is there a kind of a pipeline that you're looking at right now for future targets?

What we say at Snap-on is we have runways for growth, and we say there are 4 runways for growth. They enhance the van channel enhanced with technicians, the van channel that sells the technician, expand where repair shop owners and managers, extend the critical industries and build in emerging markets. And the commonality between those 2 is it's pretty much talking about what we already did -- what we already do that is observe work take the insights game to create a solution, either a wrench or a piece of software and put it out into the marketplace for technicians that solve particular problems, which they're willing to pay a premium for because they're operating at a critical tasks. And so we look at -- we review a number of those things down, probably principally expand repair shop owners managers and extend to critical industries, anything that will give us more product line because we've come to those customers a little later than we were before, and we could use more products to sell to them or might give us a particular position, say, in the oil and gas industry in Australia or something like that, a presence in those places. So we're always looking at it sometimes and we have no we might look at something very large. And we have looked at things very large, but they haven't been enough of our core business. We're not going to expand anything but coherently. You won't see us acquire something that you would call transformative. You will see us acquire things that support those 4 runways for growth. That's how we look at it. And we constantly have a pipeline that's looking at it, but it's a fairly narrow thing, but we're confident we can keep building and we have through selective acquisitions. But that's not indicative of the size we would do something really big if we thought it was right down our pipeline.

And we're kind of coming up on the final minute here. Is there any last-minute thoughts that you have or anything that we haven't touched on that you would like the audience to know

No, look, I think the only thing about -- the only thing I would add is that the last 2 quarters, we've been encouraged by, even though the Tools Cooper has been under deep dress. And the reason that is, is we see Snap-on's business that's broadly rooted in the critical and that is broadly resilient in almost any time. And so if you look at that, you'll see that the last 2 quarters have been demonstrations that even as the Snap-on Tools Group is attenuated. The other 2 business can fill in and the overall corporation can keep performing pretty well. The last quarter, highest ever EPS and second highest ever, OI margin in a time in which we didn't get growth overall. And the Tools Group, our primary division, which people think of us as was attenuated. So when people think of Snap-on is a one-trick pony with the vans, think again.

Thank you so much, Nick. Aldo and Sara as well for joining us today. We appreciate your participation, and thank you to the audience as well. Have a great rest of your day.