Terex Corporation (TEX) Earnings Call Transcript & Summary

Okay. Good morning, everybody. This is Ross Gilardi. I'm the Senior Machinery Analyst at Bank of America Merrill Lynch. Thank you. Welcome to Day 2 of our Global Industrials Conference. Appreciate everybody hopping on for perhaps an earlier than normal start for a conference day, and I'm sure many of you have already had several meetings perhaps with some of the European companies. But I thought -- I hope everybody had a very productive day 1 and had a chance to get some rest last night for a busy day 2. So to kick it off, at least for my coverage, we are very privileged to host Terex Corporation this morning. Joining Terex is Chief Financial Officer, John Sheehan; and Director of IR, Randy Wilson. I think we're just going to kind of get right into it. If anybody has any questions, feel free to send them to me over the system. But with that, why don't we just kick it off.

John, I would just love to get your perspective. I mean, Terex has had a lot of ups and downs over the last few years. Things seem like they're starting to come together for the company with hopefully a new cycle. I'd really just love to hear what has Terex kind of learned about itself over the last 5 years? And how do you think it positions you to do better in the next -- perform better in the next cycle? John, I think you're on mute.

I'm sorry about that, excuse me. So firstly, Ross, thank you for inviting us to participate in your conference, and we really appreciate the opportunity to talk with your investors. Interesting question. So let me take you back to 5 years ago, when John Garrison joined Terex as our Chief Executive Officer. And John was brought in by our Board of Directors, really, with a mandate to focus the company on operational excellence and driving internal performance with the businesses we had as you -- at that time. As you may know, as your investors may know, right, Terex was historically run as a small private equity shop, a company sought to purchase industrial businesses at the low part of the cycle, operate them for a period of time and add value. I'm not suggesting in any way that they didn't try to be operationally excellent. But then the objective was then to dispose of the businesses at the high end of the cycle and take that -- and benefit from the appreciation that -- in the value of the business, right? And the Board viewed, especially post the financial crisis, that a more focused on operations -- the company being more focused on operations and less on M&A would drive a greater degree of shareholder value. So as a result, John, as he came in and assessed the company, really had 2 tenants that he was focused on. First, on operational excellence was to drive commercial excellence, increased focus on Parts & Services and focus on Strategic Sourcing. Those initiatives took both the time and investment in people resources, but also in systems. And so over the last 5 years, whether it be, for example, with respect to our commercial excellence initiative, the training of team members, the implementation of a company-wide salesforce.com customer relationship management system or in Parts & Services, the investments in people and leaders in the Parts & Services -- that are specialized in Parts & Services because prior to John coming in, Parts & Services is 10% to 15% of the revenue of the company. And the team spent -- that's about what the team spent on thinking about Parts & Services, 10% to 15% at the time. And so there's been both a mine shift an investment shift that took place with the company to focus on those initiatives. In the area of manufacturing, right, is when you look at Terex historically was not investing in significant amounts of cost competitive manufacturing capacity. The reality is, the last 4 years, the amount of CapEx that Terex has spent has been the highest amount of CapEx the company has ever spent in any of the years prior. So each of the last 4 years, higher than any of the years prior. We have invested in a new manufacturing facility in Watertown, South Dakota, that consolidated 11 separate manufacturing facilities into one. We invested in a new manufacturing facility in Dairy in Northern Ireland. In India, we expanded our Hosur manufacturing facility. So a number of examples of modernization of manufacturing facilities and investing in state of the art manufacturing to be globally cost competitive on the manufacturing side. And that takes investment. One of the places you've pushed us on, rightly so, you've actually been behind pushing me hard on free cash flow, right? And the investment or the focus on operational excellence had an investment associated with it that we've been -- that drove -- had an impact on our free cash flow over the last several years. And then the second tenant that John was focused on is that industrial companies need to be able to outearn their cost of capital through the cycle. That if a business cannot outearn its cost of capital through the cycle, then it's destroying shareholder value. And we have been religious in focusing on do the businesses we have, are the businesses we have able to outearn their cost of capital? A great example of that is in the second half of 2018, it became apparent to us that a significant portion of our Cranes segment wasn't -- our Mobile Cranes businesses in the Cranes segment were not going to be able to outearn their cost of capital through the cycle. And so we engaged in a process to sell those businesses. We sold our Demag Mobile Cranes business in the middle of 2019 and then closed down our North American Mobile Cranes business and sold off the assets and intellectual property. That decision proved to be a really -- especially as we sit here in a European Industrials conference, prove to be a really smart decision because today, that business has really struggled as a result of the pandemic. And so I would say is that what we've learned over the last 5 years, coming back to your question, sorry for the long-winded response, what we've learned over the last 5 years is transformation of a company is hard. And we've made -- we believe we've made a lot of progress on the transformation of Terex that the benefits of our focus on operational excellence and our investment in commercial excellence in Parts & Services, Strategic Sourcing is paying dividends for us and are continuing to focus on our portfolio of businesses being those that can outearn their cost of capital through the cycle is what's going to benefit us as we move -- has continue to benefit us as we move forward.

That's great. Thank you. It's a great introduction. Maybe just expand on that a little bit more and just talk about the importance of having John Garrison up at Genie, has that been truly beneficial for the company? And what do you think he, yourself and your entire senior management team has managed to do that is going to further enhance your ability to compete?

Yes. So when you look at Terex today, post our disposition of our Cranes segment, we really have 2 separate segments: Aerial Work Platforms and Materials Processing. And the AWP segment, Aerial Work Platforms, AWP, represents about 2/3 of the company and is really the part of the company that is focused on, and that's principally our Genie brand. John took -- John Garrison, our CEO, took on the dual role last year as being the President of our AWP segment with the retirement of the prior President. And what has John brought to that business? While John was always the CEO of the company, when you're down -- John spends about 50% of his time now in the Genie business with the Genie leadership team. And when you're down at that level, I'll use the word in the trenches, you're much more into the details. And what John, I believe, has brought to the Genie business is, number one, a relentless focus on cost, especially last year as we went through the pandemic and rightsizing of the production cost, whether it be the direct labor or indirect labor with reducing and rightsizing both the production costs as well as the non-production SG&A costs within the Genie business to be -- to make sure that the business had the right cost structure to be able to be globally cost competitive, especially in industrial environment last year, where revenue was down overall for the segment in excess of 25%. I think the second thing that John has brought to the segment is a renewed focus on what do the Genie customers value. And the reality is that the Genie brand and the Genie product is a cool product. It allows worker to operate more efficiently at height and safely at height, right? And there are lots of add-ons to the equipment that the machine that can be put in place that we -- that are cool add-ons, safety features or other enhancements to the product. But every piece of equipment, you add on to the -- every component you add on to the machine has a cost, right? And what I think John also has brought to that segment is making sure that we're not just adding components onto the machine for the sake of adding components onto the machine. They need to be components that the customer values the customer being the end user of the machine. And therefore, the rental company will be able -- the rental company that buys our machine is able to actually rent the machine for more and therefore, will pay us more for the machine because just adding a component on and making the machine cooler without getting the end user of the machine to rent the machine for more, our customer, the rental company, isn't going to pay more for the machine. And so that's been our renewed focus. And if I use just one example here briefly with you, Ross, is electric drive products, right, is we were not the first to bring electric drive Aerial Work Platforms to market. Why were we not? Because we concluded that the rental companies weren't going to be able to charge more for rent out electric drive products for a higher amount. And so we were not going to bring that product to our customers until we were able to do so at a cost-neutral basis to combustion engine products. And so in the latter part of 2019, we achieved that cost neutrality and have brought electric drive Aerial Work Platform products, Genie products to our customers. And here in the early parts of 2021, actually, the orders on our electric drive products are exceeding those of our combustion engine products. So that's just a demonstration of how what I was describing in terms of the renewed focus on what the customer values we put into practice with our electric drive products.

That's great. Maybe you can just expand on that. I mean, it sounds like what you're saying, just a very basic level as your innovation process has become much more customer-driven at the end of the day rather than Terex trying to innovate before the market is necessarily ready and therefore, struggle to get paid on a lot of the things that you were doing. Correct me if I misinterpreted what you were saying, but I wanted to go back to the CapEx in general. So you've made a lot of investments over the last several years, as you said, do you feel like you're where you need to be now? And do you see all of a sudden CapEx go back to kind of where it used to be? Or is this going to be more of a continuous investment process such that perhaps your CapEx remains a bit elevated for the next several years? And just what are the implications for the free cash conversion going forward that Terex has started to make good progress on?

Yes. So I think that when you look at the investments we've been making in capital specifically in manufacturing, they -- those capital expenditures are going to have strong paybacks for us over the next years. I do think that CapEx will continue to exceed depreciation. Probably for the next several years at least, if not longer, right? Our depreciation expense is about in the high $40 million range. And our CapEx, I believe, will be -- I'd say we spent $65 million last year, $90 million guidance for this year. I think that's probably a good range, Ross, to think about on a going-forward basis. And some years, maybe a little less, some years a little bit more in that range. But that's, I think, a decent range to think about. Over time, I think you'll see our depreciation expense obviously normalize up to that level. I think there are still opportunities for modernization and making globally cost competitive, our manufacturing footprint, and we're going to continue to focus on those. So -- but that said, we are absolutely focused on driving free cash flow generation and maximizing free cash flow through the cycle. And therefore, I don't think it's an either/or. It's not a CapEx or free cash flow. It is free cash flow and CapEx. And that's what we need to be focused on.

Talk about the decision a little bit more to stop pulling out nonrecurring charges from reported EPS. What went into that decision? And will it actually cause the company to perhaps run itself differently?

That's it? So in the beginning of 2020 or as we went into 2020, we did move away from reporting adjusted earnings and only reporting U.S. GAAP which is obviously what we're required to report. And what we do now is we identify within the reported results, unusual one-off positives or negatives that investors should be aware of. From my perspective, first of all, that was a decision, both John Garrison and I supported and what it causes is that there is a focus on all costs. Sometimes, if you're not measuring a business leader on all of the costs and you're giving them a bit of a pass for one-off, whether it be severance or investments in for driving commercial initiatives or transformation initiatives that there's less of a focus on being cost conscious. And so we today measure our business leaders in accordance with GAAP and hold them accountable for every cost and making the right business decisions. And so I think it's healthy. I think it's a healthy way of running the business, a healthier way of running the business. It does necessitate that we're more proactive with investors and analysts such as yourself Ross to make sure that you know to the extent there will be unusual items in a particular quarter that you're able to build those into your models. So we don't surprise you at the end of the quarter. That's really an important point that really falls on my shoulder, mine and Randy's shoulders to make sure that we are highlighting those unusual items and making those -- you're aware of those so they're built into your model. So we don't get to the end of the quarter and report overly positive or overly negative results relative to where the analysts were thinking we were going to be solely as a result of one-off items. So we're committed to it. We're committed to U.S. GAAP, and we're also committed to being transparent with the investment community about which -- what one-off items they can anticipate coming in any particular quarter. Yes, it was some tough words there.

How do we think about next peak earnings for Terex? I mean, do we just go back to -- do we just assume you go back to prior peak revenue, get there in a few years, put a 25% incremental margin on it and mission accomplished? Or are there -- what other nuances should we think about? And how are you thinking about it?

So in answering that question, I want to just reflect back on the point I made. I want to focus in this discussion, if I could, about AWP. And the point I made a little bit earlier about John being -- the benefit of having John Garrison being also the President of our AWP segment. And John, in 2020, together with the Genie leadership team, had a relentless focus on rightsizing the cost structure of the business and taking out both production and non-production cost. And that's going to benefit us significantly as the business begins to grow again, is growing this year and is expected to grow over the next several years. If you look at the AWP segment, the prior peak revenue was in 2018, when the business was just less than $3 billion of revenue and had a 10.2% operating margin. And as we -- this year's guidance for our AWP segment is $2 billion of revenue and a 6.5% margin. So if you were said, "Okay, well, what would it take to get -- if the business went back to $2.95 billion, just call it, just less than $3 billion of revenue, what would it take in terms of an incremental margin?" It would only take an 18% incremental margin to get there below the 25% target that we have for the business. And I highlight that for really 2 reasons. One, I think that analysis demonstrates that we did take the hard cost reduction actions necessary in the business in 2020, we did take the hard cost reduction actions that will benefit us as revenue comes back in the future and allow us to outperform even where the prior peak revenues were. But it also demonstrates that the earnings power of our AWP segment is intact, right? Some investors and some analysts, not you, Ross, you wouldn't question us. But some analysts have questioned the earnings power of the segment. And I think that the analysis demonstrates that the Genie business is absolutely still a very strong business, has double-digit operating earnings power. And we will get back there as the cycle recovers. It's just that here in 2020, and even in 2021, although revenue is higher, it's still much lower than it's been in the past.

What about further footprint rationalization or changes or just -- are there any opportunities for additional moves perhaps to you've already done a lot of consolidation of factories and whatnot into lower-cost states and regions. Can you do any more of that?

So it is absolutely imperative that we are globally cost competitive in all aspects of our business, including manufacturing. And so we do continue to look at what actions do we need to take to make our manufacturing footprint more competitive. Earlier this month, we did initiate, we did announce to -- internally to our Oklahoma City team members that we would be closing that facility in the first quarter of 2022. And we also initiated or signed a lease for establishing a manufacturing presence for Genie in Monterrey, Mexico. So our Oklahoma City manufacturing facility produces telehandlers, Genie telehandlers, and we would intend to move that production later this year begin to move that production later this year to Mexico. That's an example of the continued footprint rotation to globally cost competitive regions that will continue to take. So absolutely, I think there is more opportunity. That's an example of how we're taking opportunity and translating it into action.

Got you. If you can talk about inventory a little bit. I mean, Terex finished last year seems very low inventory based on everything you guys have said. How has it been ramping back up? Are you able to get components and everything you need? And yes, if you could just touch on that. I may add some follow-ups.

Yes. Yes. Well, certainly, given our challenges over the last, say, 18 months to 2 years with having too much inventory, more inventory than we needed, in our AWP segment, the -- talking about having too little inventory is a little bit welcome to me as sort of a joke. But we did take out $180 million of inventory from our AWP segment in 2020. So we did use last year to underproduce to customer demand and rightsize the inventories of the business. And I think we believe that we went into 2021 with the right level of inventories for our business. But no doubt the industrial economy has been coming back very strongly here in the fourth quarter of 2020, first quarter 2021, you see that with the strength of our -- you could see that with the strength of our backlog at the end of 2020. That strength has continued here in early 2021. And so is the -- your -- it's well chronicled now in the press. And in analyst commentary that many companies used -- industrial companies used 2020 as we did to reduce their production costs reduce inventories, preserve liquidity. And so as the industrial economy is coming back, there is a significant pull currently on the supply chain for components. You see that demonstrated with what's happened with steel prices. Steel prices are as high as they've ever been, in fact, higher than when the 232 tariffs were put in place in 2018 that steel is more than $1,000 a tonne right now. And so that is a demonstration of the poll that the supply chain currently has for components to be able to produce products and meet customer demand. I would say is that, overall, our supply chain is definitely being pressed hard but is responding well. If my -- instead of getting the CFO, you had my colleague who runs strategic sourcing. He would go on for the next 30 minutes about every fire he has to put out every single day. And no doubt about it, Ross, they are working the supply chain really hard. I think the first half of this year, the supply chain is going to be challenged to keep up. And then when we get to the second half of the year, we'll be more equipped to meet customers' demand for components. I would also say is that the challenges in the supply chain are probably a or would be a governor of how much upside there is as opposed to necessarily at least in Terex' case, the ability to meet the guidance that we've previously provided in our Q4 earnings call. So as we're working our supply chain really hard to be able to meet full customer demand and I believe that we certainly will be able to. It may be that it's a question of when during the course of 2021, are we able to do so.

Got you. John, we can all see what the national rental companies are guiding to on capital spending this year. And in many cases, they're going back to where they were in 2019, maybe not quite all the way, but at the very least, midway between where you finished last year and where they were in the prior year. I mean, you guys prudently came out with, I think, a modest double-digit increase in AWP revenue growth this year, which I think was an attempt to be really prudent and a still uncertain environment. But I'm wondering if you can just comment on that in that context. And like are we -- now that we're getting into spring, the vaccinations are slowly getting out there, things feel like they're picking up, like do you have enough visibility now or do you think you will in next month or two to perhaps be a little bit more optimistic on where things are going this year?

Yes. So certainly, I'll start with on the order side and reiterating what I said a few moments ago is we came into 2021 with a really strong backlog. Backlogs were up double digits in both of our segments. In the case of Materials Processing up significantly year-over-year and the prior year comparison is to pre-COVID period December of '19. So we totally acknowledge that customer demand is strong. The factors that we took into consideration in the revenue guidance that we provided included the fact that COVID is not behind us completely. And while we're certainly moving in the right direction, we all know that the -- beating that virus is not as anything but a sure thing and we could slide backwards. And so needed to be sensitive that it's a long year, we're a short backlog business. And so, yes, the backlog is really strong, but that's not 12 months' worth of backlog. Number two, the supply chain friction that the ability of the supply chain to ramp up that we talked about earlier was taken into consideration. And then #3 is something to be said for under promising and over delivering. And so we took all of those things into consideration. I'm not in any way suggesting that we were sandbagging the guidance. It does represent our best estimate, did represent our best estimate at that time. And we hope that customer demand, we hope the virus continues to abate. We hope that customer demand -- hope isn't the right word. We expect that customer demand will be strong, and we want to service our customers with -- and meet our customers' demand, and we're working really hard with our supply chain. And so we look forward to 2021 being a strong year, and it certainly has started off well, and we look forward to the year continuing to develop well.

We've only got 5 minutes left. We covered a lot of ground, but I want to make sure I give you an opportunity to talk about Material Processing, which has been kind of the unsung hero, I think, for Terex over the last cycle. Can you hit new highs for margins in MP this cycle? And what will that require?

So look, I -- we try to give a shout-out to our Materials Processing team every chance we get. As I said earlier, that represents about 1/3 of the overall company. But it is absolutely a consistent performer. Our Materials Processing segment is not a single business. It's actually a amalgamation of 17 different businesses that, 17 different brands, which we operate really as 17 separate companies. And the business is headquartered in Northern Ireland and run by a very strong operating team that is extremely cost conscious. And that's really benefited the business. In 2020, they did see their operating margins maintained at double digits despite revenue being down double digits year-over-year. And so the business is a really strong, consistent performer. They manage every aspect of the business really strong. To your specific question, I think that when you look at that business, it does have the opportunity to continue to grow operating margins. The business is consistently double-digit operating margin, let's say, in the low teens. And I'd say Kieran Hegarty and that leadership team can continue to expand the margins. I don't really want to put a specific number out there. But certainly, as revenue for that segment continues to grow, they've demonstrated the ability to expand margins, right? This over the last 3, 4 years, they went from being a high-single digits, let's call it, 9% operating margin to the low teens. And so I do think that they'll continue as the business grows to expand their margins and deliver incremental margin.

You just talked about you've got 17 different brands in the business. Can you just break out a couple of at least the bigger pieces of Material Processing? Maybe just talk a little bit about Fuchs and scrap steel, just given what you talked about with steel prices, I got to think that's picked up very nicely. And then your crushing and screening business, remind us who you compete with there? I mean, we all know a lot of us have covered the sector for a while, Deere's work in business, which I think you've got some overlap with, and I'm throwing a lot at you, just as we're wrapping it up, but I just want to make sure we cover it. What sort of competitive advantages do you think you have in that market?

Yes. So yes, you're right. There is a lot there. First of all, what is the segment? Roughly 60% of the business is mobile crushing and screening. Powerscreen and Finlay brands are the principal brands and under which we operate. And our focus is not in the mine or in the quarry, but rather more so that you bring the machine to the job site. And so that's about 60% of the segment competes with Berkin, as you said, but also Sandvik, Metso or and other good examples of competitors that the business competes with. Another aspect of the segment is our Fuchs material handling business, right? And that is principally used in processing of scrap steel. And it's basically a pick and carry machine. That business ebbs and flows with scrap steel prices, as I said earlier, up significantly. So scrap steel prices are also up, which is really benefiting demand for our Fuchs material handling equipment. Other aspects of the business include our Cranes businesses that we didn't dispose of as part of our closure of the Cranes segment. We moved over into our Materials Processing segment. So we have our tower crane business, our Franna Pick & Carry crane business in Australia, our rough terrain cranes business. And then we also have an Advance mixer business that's based here in the United States in the Midwest of the U.S., Front discharge cement mixer. That business is actually performing really well this year with significant customer orders. So that's a little rundown of the segment for you, Ross.

Okay. All right. Perfect, John. Guys, John, Randy, thanks so much for being here today. We're just a minute over in the beginning of the day. I want to make sure everybody stays on schedule or just starts off. They're just starting their day, and stays on schedule. Thank you so much for being here and doing this earlier in the morning. It's great to get a rundown on the latest at Terex. We look forward to following your progress this year, and thanks, everybody, for joining this session. Have a great day.

Thanks, Ross.

Thank you, Ross. Bye.