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

All right, everybody. Thanks for joining us for this fireside chat with Snap-on. With us today, we have CEO, Nick Pinchuk. Thank you for joining us. I'm Scott Stember, analyst covering recreation and leisure, auto parts. If anybody has any questions following the meeting, you could email me at sstember@roth com.

And again, Nick, thanks for being here. Snap-on is the largest producer of parts -- excuse me, tools for the mechanics and dealerships in the automotive industry. You guys have, what I call, a secret sauce behind the Snap-on valuation creation model. Can you maybe just talk about how it all works, how you guys are able to continually stay on front and remain the top player?

It's a big question. But look, happy St. Patrick's Day. I didn't realize it's the St. Patrick's Day before I came here. My own neighborhood, they've been at the bars like 5 hours already. So in their honor, Erin go Braugh. Erin go Braugh. That's it, boy. All right.

Off to a good start.

Okay. Well, let's talk about Snap-on value creation. We have 2 things. One is we say we have our runways for growth, and that's enhanced the van channel, expand with repair shop owners and managers, extend the critical industries and build in emerging markets, but we also have something called Snap-on value creation, which we -- is all about improvement. And we say it's surrounding the processes of safety, quality, customer connection, innovation and rapid continuous improvement. It drives the improvement we've had. And we say we can improve even if we don't have extra volume. And over the last 15 -- maybe 17 years, we've averaged 85 basis points of improvement in OI margin every year on average. And that's been based at Snap-on value creation. And it fits what I would call our Snap-on's operating doctrine. It is customer connected, as we said there, it's -- I suppose it's product complex, and it is people-centric. Everybody would say people centric, but in fact, it's driven by the people. So let me explain a little bit. The principal value-creating mechanism for Snap-on is being in the workplace, observing the work. And we call that this process, customer connection. We don't survey the customer. We go stand next to them and observe what they're doing. And we have people who can observe the work and say, look, there's a particular idiosyncrasy about this particular task, which is critical, and we will produce a tool either a wrench or a piece of software that will make it easier. Now the problem with this is it drives an incredible product complexity because we will do that for a high-volume product or a small-volume product, believing that the customer will pay us for this. So it is customer connected product -- I mean, product complex. And then how do we manage the complexity is one of the questions. So we have, as part of the Snap-on value creation, safety, quality. We make sure that we keep our people safe because if we make things for working men and women, what can we do if we can't keep our own people safe, we make it quality. Nobody questions whether Snap-on products are quality. But the other thing we have is rapid continuous improvement. In other words, our people get up every day and try to figure out how to manage this complexity, how to make their jobs easier. We have every major facility, we have somebody in those facilities whose job is to urge people on to do this. A couple 3 dozen times a year, we have Japanese consultants come in and people come from all of our Snap-on and work on Kaizen in that factory and to try to move that factory forward also to understand -- to create greater understanding of Kaizen themselves and then irrigate their own plants in this way, our own offices. And then once a year, we have the Snap-on management team do this. And then every year, we have a Snap-on RCI, rapid continuous improvement contest, where 30, 40 teams come from all over the country, they exhibit what they did. We name a grand champion, they have a traveling trophy and we give them $10,000 for a party. And so our view about customer -- rapid continuous improvement is the people are at the center. We have the people at the center. We Kaizen it. We see if we need technology to move it forward and then we train the people on the technology and we go forward. Our idea is we use technology to make our people more powerful, not technology to replace them. Also, one of the things that's about this is we don't look at a problem and say, we're driven by the problem, not by the technology itself. So we don't bring out new products because we can. We bring out new products because they will solve a problem and people will pay us for it. That's it.

Well said. So last year or so, the Tools Group has seen, I guess, some of the end users have been pivoting to lower-priced product, and you guys have been pivoting yourself to supply them that, and it's had an impact on the business. How far along are we in the pivot process because the declines in organic sales have definitely been abating...

The second derivative of Tools Group is better, of course, is a small comfort. I feel comforted by this. I think second -- first quarter last year, Tools Group was down year-over-year 7%; second quarter, 7.7%; third quarter, 3.7%; fourth quarter, 1.4%. Therefore, the second derivative got positive. And part of that is driven mostly by the pivoting. And we're not all the way because you have to pivot designs and you just don't wake up someday, go into -- be in a garage or a factory or some place and say, I need this new tool, and it's going to appear overnight. And so that is something we have to do. And so that takes a while to bring out the tools. Secondly, manufacturing takes a little longer to pivot. And even selling takes longer to pivot because when you're selling through franchisees, which are third party, not third-party people, but they're people who have their own idea of what their business are, some of them love selling big payback items. You've got to get them -- the longer payback items, you got to get them to focus on shorter payback items. So we're moving along. The characteristic of what you saw there was the balance between our ability to pivot and the ups and downs of uncertainty in the customer base. The uncertainty goes up, we hope we can keep pace. If it explodes, you may but not, you can't keep pace, that kind of thing.

Got it. So throughout this whole process, you've been saying that the economics and the sentiment or more of the, I guess, the economics of the repair technician and the shops remains very strong. Has that changed at all?

They are a lot of different ways, windshield surveys. I go into garages myself. They seem full. I was just in a dealership and the dealer -- the guy who runs the deal -- not runs a dealership, but runs the shop comes up to me and says, you know any place I can get more technicians, I need more technicians. I'm bursting. And you see this in almost every shop you go to. And then if you look at it, if you talk to our franchisees, I just talked to 50 of them all over the country, and they said the shops are pretty full. And then if you look at the Bureau of Labor data, they say spending on automotive -- household spending on automotive repair up. The number of technicians up, which is faster than I've ever seen it grow before, 3% as opposed to 1% over the last 15 to 16 years. And then pay is up mid-single digits. So that's moving quite positively. What you saw, though, in the uncertainty was just explain a little bit, why is it the Tools Group is down is because the technicians are cash rich, but their confidence is poor. And so they're saying, wow, I'm pretty good now. But I don't know what the hell is going to happen in the medium term. I'm not sure what's going to happen in that medium term. And therefore, I'm not going to tie myself to something that might be a toolbox. We sell toolboxes $10,000. They pay them off over 4 to 5 years. They're reluctant to do that in this environment, not 0 sales of those things where people are more reluctant. So that's the point is they're pivoting to the things they think they can pay off earlier. Now you can see it right now with the tariff -- I mean, I think it's a classic example with the tariffs and so on. You see the tariffs. By the way, if you talk to people in the garages, if you talk to franchisees, they love the current President. They're like on Space Mountain, though now. They're like on Space Mountain. Ever go on Space Mountain in Disney World. You get in a Space Mountain, it goes out and you're in the dark. And the thing goes left to right, left and right, left to night, left to night, but you believe that you're going to get to a good place at the end. This is the way all our people are feeling that, left and right, left and right, left and right. And lately because of the -- so many things that are going on, they wonder if the President is going to screw things up in the shorter term, and does he know what he's doing, but they believe he's going to get us the right place. So that's where they are. So therein lies the whole idea of uncertainty. It had different routes before last year, now it's metastasizing on that idea.

So I know you guys don't give guidance. And every quarter, we've seen the same-store sales number...

I'll give you guidance. Milwaukee Bucks are going to win the NBA. Okay.

Beyond that -- as far as -- are we getting closer to being flat to inflecting up, do you think, in the next 6 months?

We don't give guidance. We don't give guidance. I mean, look, I was out of the -- I don't -- first of all, we don't have backlog. We don't have much backlog in that situation. So I'm telling you, I know we're making progress. I love our chances in the future. We have strength in product, brand, and we have a great group of people that I think aren't inexperienced. This isn't our first rodeo. But I was just at an event in Washington, where 92% of the CEOs thought we were going in a recession. So your guess is as good as mine with some of this stuff. I mean nobody -- I think the Space Mountain analogy is true. I think that left and right, left and right, people think they're getting in the right position, but they're not sure that the short term. President even said himself, we might go into a recession. So that's going to create that kind of thing. However, I will say, in terms of the long-term trajectory, I'm not talking about this quarter or anything like that because it could be worst. We aren't shaking in our boots. I understand we had like [indiscernible] last night. So we aren't shaking in our boots. Actually, I was quoting [indiscernible] saying the same thing, and we're not.

So the traditional mid-single-digit growth narrative has not changed longer term at all?

No. I mean, look, our strength is -- I still -- boy, if you were a Snap-on guy and you realize that huge percentage of technicians or customers all wanted your product. They may not want to pay that much, but they all want your product. I think we just got an e-mail -- on CNBC, I think today, somebody said, wow, once people are using Snap-on tools, they're not going to go to anything else. That's true. And so we have a product advantage. We have a brand that people put our wrenches in the hands of their babies and carve their tombstones in the shape of our tool storage box. So our brand is nonpareil. And then I think we've got a great group of experienced people. The average guy at Snap-on has been there 15 years, which means when they walk in the door, they're going to be there 30 years. That's a lot of experience about understanding what will solve problems in places like auto repair or aviation or oil and gas, which is the principal value creating mechanism of our company, and it depends on experience.

Got it. And just talk about the Snap-on loan portfolio. The delinquency rates and write-downs have creeped up just a little bit, but it seems like it's more in line with prepandemic levels. Just talk about the favorable risk/reward scenario of running businesses.

Look, I think -- I always like to say Snap-on credit company is the business that fell from Saturn. I mean, the thing is that we sell -- we have a yield rate of -- what is the yield rates like 17.7%. It was down 10% this quarter, but it's pretty solid there. The cost is about 5%. And so if you look at credit companies, you'll see that our returns are pretty solid. And in fact, come hell or high water in the great financial recession or the pandemic or anything, we didn't spit up blood over any of those things with our portfolio. So the portfolio is solid. And one of the reasons -- there's a logical reason why this is the case is because we're not a regular credit company. We sell -- we loan to the same guy over and over and over and over again, and that's a technician. So we know how technicians behave, and we can tell the good risk from the bad risks. And so when we ask -- when a guy wants to borrow from the credit company, we ask the franchisee what they think. And we strike the franchisees is how good they are at it. And a huge portion of them even if the credit bureaus, which are specialized in technicians, say, no, we'll listen to the franchisee, and it mostly works. And so what that means is for every big ticket item, the franchisee is part of the credit decision. And then he's on the hook if the technician -- if the borrower defaults, the franchisees are on the hook for 25%. So he's got an interest. He collects every week from these guys. He sees them every week, sees them every week. And then -- but here's the cool thing. That's 35% of the business most times. 65% of the business, the franchisee sells small ticket items to them, like a power tool, $600. He doesn't say $600. He says, $50 a week, and that he knows that's over 12 weeks. By the way, I get on a van sometimes for a power tool and a franchisee will say, I don't think you need that power tool. It doesn't really fit your work. We're bringing on our new one in 8 months. And I asked the guy, I asked the franchisee, why did you do that? And he says, because I know this guy -- he's paying me $100 a week already. I know his girl -- his daughter is going to college next month. I want to see him pay when his daughter is in college. So he makes a credit decision. And then he collects that $50 a week every week for himself. So what that means is every transaction on the van, a credit decision by the franchisee. Everyone, every interaction weekly with the technicians, a collection. The franchisees are the most powerful credit collection or practiced credit and collection force in the country. That's why this business looks like -- the credit company works like that.

Let's pivot over to RS&I.

RS&I. Yes.

You guys have been taking advantage of increased complexity of vehicle repair. Maybe just talk a bit how you've been able to do that.

Well, look, I think one of the things that drives actually all our businesses in vehicle repair, and it's 70% between the Tools Group, which is 40% and RS&I, which is like 28%, 30%. It's driven mostly by the changes in the vehicles. And the vehicles keep changing. They've been changing for 30 years. I mean back in '90s, when you can measure the number of electronic codes on a vehicle in dozens, now you measure them in 10,000. So the electronics has got much more complex and the vehicles become more flyby wire. And so we make the decoder ring to understand what the vehicle is saying based on what's it's -- what's wrong. Now you might think this is a simple, [ ain't ] that simple. Because even though they have tens of thousands of these codes, you do what you do, you scan them. So it'll give you the fingerprint and then you have to fare it through or go through a decision tree that if this, if that, if this generally. But we have databases, one database, 5 billion -- 3 billion repair instances. When the car said this, this was really what was wrong. You pay us for that, we will allow you to say, okay, put in the make model and mileage of the car and say what the -- it shows the car's fingerprint based on a scan, and we'll give you a Pareto diagram says, 69% of the time was a mass airflow sensor, 12% of the time, it was the local wiring harness. It saves a huge amount of time for mechanics. And as the number of data trouble codes get bigger and bigger, you aren't going to be able to decode that by sound or even by decision tree. You're going to need something like this, and we have it, and it's proprietary. And then for those things that are not -- that are outside the Pareto diagram that come up on alternate Wednesdays in months with ours in them, we have a $500 billion data point database that you can fare through and solve these things. And these are the things that really create havoc in an independent repair garage because it will take days to find the problem, not to fix it, just to find out what the problem is. And then you got to figure out how to fix it, and we have the database to do that. So that's the RS&I business as well as some advanced lifts and aligners and tire changes. That business profitability was 26.6% last quarter, up 150 basis points, 200 basis points at the gross margin line, and it was an all-time high.

Over to commercial and industrial, you've been gaining some nice momentum as of late despite weakness in the general economy and in Europe and other countries. Have you been able to do that?

Well, look, RS&I is, you can think of it this way, rolling the Snap-on brand out of the garage. Now right here, it allows us to talk about one thing. What is our space? And our space is the critical. In other words, we solve things where the penalty for failure and solving those things or fixing the product is high. And the need for repeatability and reliability justifies a Snap-on level product. Now we used to think we're just in automotive repair because that's one of those places. But then we realize there's a whole bunch of places like this, like military, aviation, oil and gas, natural resources, even education. So we're building product lines in all those places and building our understanding so that we understand the military problems and the aviation problems the way we understand vehicle repair and what that is, it's growing because we're building our product line and penetrating that place. Now the people who work in those places really love Snap-on products. So they like to get them. We just didn't have the fixes that they have now. So we're building those out. It's working pretty well for us. And it is very critical. We discipline ourselves. For example, I used to work in the air conditioning industry. And for people -- for reasons passing understanding, air conditioning, people don't think it's critical to fix it. United Technologies, they had Otis and Carrier. The Board would ask me, why does Otis Elevator have higher-margin service than Carrier? I just said, people don't get trapped in air conditioners. And that is sort of the thing. So we don't sell to the air-conditioning industry. We can sell to the elevator industry, though.

And before we turn it to questions, talk about tariffs. You guys are relatively insulated compared to many other industries...

We are resistant, not immune. So the thing is that we make in the markets where we sell. We import some stuff from China. We don't import [ hardly ] anything from Canada. So we're kind of -- well, we can be hit by this, but it's not got us ringing our hands. Now where we don't know what's going to happen is if there's sort of like counter tariffs in places like Canada. Canada keeps 25% on. We sell in there. So that's -- we'll have to figure out how to deal with this. We already did something. We just pound in a lot of inventory in there. So we'll wait to see how it plays out. We can run off the inventory for a while. But let's say, for example, Europe does that or other companies -- countries do that. We'll have to work around those, but it's not going to be trajectory altering for us.

Got it. We'll turn it over to the audience if we have any questions.

I can talk about who's going to win the Kentucky Derby, if you like, give a few tips on that. Yes, okay. Journalism, Okay. It's a name of a [ horse ].

You gave an example of [Technical Difficulty] is that a sale that he's making himself without touching your balance sheet there?.

Yes. Yes so he holds -- that's my point, is he's got 65% of his -- he's got a franchisee. He can have $200,000 on the Street, right? So he's got his own credit portfolio himself. That's why I say -- that's one of the reasons why our credit company is so powerful is because these guys are seeing people every week and they know how to do it. Yes.

AI [Technical Difficulty]

Well, look, I think the holding is like this. Two things. One is it leads us to be able to -- it comes back to the scanning process. AI fits in a bunch of other places here, but it's -- I think like in most places, it happens over time. I don't think there is any deliver you from evil technology. I've been in the business, I've been running general -- I've been a general manager or a President of a big company for 40 years, and I've never seen a singularity until this day. Even robots, we just bring them in and they helped us, but they didn't change everything overnight. But AI in -- will help a lot in this situation. You got these dozens of fingerprint. So one, it will be able to sort through this and find the patterns in there -- in the 500 billion database quicker. But the other thing it helps us is natural language processing, which you get a report. Our base data is a report from a technician. Here's what the car said, here's what I did. The problem is technician is a whole other language. There are 37 different nouns for the mass airflow sensor. You got -- you think I'm kidding, I'm not. And so therefore, you have to fare it through this. And oh, by the way, they're not that the most assiduous when they fill out the repair form. And so the AI helps you bridge those gaps and use more of that data we're taking in. That helps us a lot.

Any other questions?

Yes. Nice hat. Good in Irish.

[Technical Difficulty]

No, no, no retail. It's not our business. We're not to make your money by the penny company. Now the franchisees are only 40% of our business. But we -- remember, that's our principal value creating mechanism is to be in the garage to add value by telling the worker, the franchisees, the guy is doing the job, this will fix your job. And we observe it and we'll come back and we'll generate a product that really will fix this job. Then if you're talking about the vans, we -- some of the stuff we guarantee for life. So we'll fix it for you right on the van or give you a new one, you don't have to go to a shop and the technicians are sub, sub, sub, subprime credit risks, who else would lend to them, but the people who called on them directly.

Franchisees [Technical Difficulty]

Market research is a very euphemistic description of what they do in that situation. It's our franchisees plus our own people who ride with the franchisees are in the garage. I've been in a garage myself. I actually solved a couple of problems. People can't believe it, but it happened.

Time for one last question.

[Technical Difficulty]

Yes. I was -- actually, I was on Squawk Box every day talking about this. It isn't the tariffs that's going to make the difference. There are already 429,000 jobs empty in manufacturing. And there are 2 reasons you got to skill them. So you got to -- we're in 933 technical schools with Snap-on certifications. Secondly, I'm doing all I can at the top of my lungs to say how essential these jobs are. All you got to do is think about the pandemic. During the pandemic, the people of work, the people in the factory and the garage were at their post, keeping our society from disintegrating while we engaged and defeated the COVID. LeBron James makes a lot of money, but he wasn't at his post. He makes a lot of money because he's the only person who does what he does, but he's not essential. The welder is essential. And the more we talk about that, the more we're able to do that, and we're trying. The President just did this. He launched -- he declared February the Career and Technical Education month, and he said, we will create alternate paths to university education that will provide real skills for real careers that communities need, and we will make technology work for our people, work for Americans, not Americans for technology. And that says it all. It says that these people are essential. And the more we talk about that, the more we'll be able to recruit people and...

[indiscernible]

Sure. Sure. Yes. Well, the techs, we make them Snap-on customers for life.

All right. Thank you, everybody.