Applied Industrial Technologies, Inc.

Overall, we continue to effectively manage through a mixed yet evolving in-market backdrop during the second quarter. Sales and EBITDA margins were in line with guidance despite higher than expected LIFO expense and seasonally weak sales activity in December. Our team responded well with strong underlying margin performance and cost control while continuing to expand backlogs and business funnels supporting a stronger sales trajectory into calendar 2026. We also remain active with capital deployment across many fronts, supported by our free cash generation and balance sheet capacity. As it relates to sales trends in the quarter, reported year-over-year organic growth of 2.2% was modestly below last quarter of 3%. Underlying sales growth showed signs of strengthening as the quarter progressed, with November sales up by a nearly mid single-digit percent organically over the prior year, following a low single-digit percent increase in October. However, growth moderated in December with average daily sales rates notably below normal seasonal patterns. While monthly sales trends have been choppy for most of the year, we do not view December's weakness as indicative of the underlying sales trend developing across the business. Of note, December is always a noisy month, given seasonal factors that can drive variability in how customers operate plants and phase shipments. This dynamic was further influenced this year by the midweek timing of the holidays. In addition, we're encouraged by early fiscal third quarter trends with organic sales month to date in January trending up by a mid single digit percent year over year. Booking rates also continue to show positive momentum across both segments. In particular, orders in our engineered solution segment increased over 10% year over year in the second quarter. This is the strongest quarterly order growth rate in the engineered solution segment in over four years, with the two-year stack trend continuing to improve sequentially. These positive trends are more in line with various underlying demand signals that have developed over the last several quarters, including improved customer sentiment and ongoing growth across our business funnels. We're also seeing slightly more positive trends across several of our primary end markets. Year-over-year trends across our top 30 end markets were relatively unchanged sequentially, with 15 generating positive sales growth compared to 16 last quarter, though this is up from 11 in the prior year second quarter. In addition, when looking at our top 10 verticals, we saw six positive year-over-year, compared to five last quarter and three in the second quarter of fiscal 2025. Growth was strongest in metals, aggregates, utilities and energy, mining, machinery, transportation, and construction during the quarter. This was offset by declines primarily in lumber and wood, chemicals, oil and gas, rubber and plastics, and refining. From an operational and profitability standpoint, we delivered solid performance that helped balance softer sales activity in December and greater than expected LIFO expense, as well as a difficult prior year margin comparison as we had previously highlighted. Of note, LIFO expense came in at roughly $7 million. This was above the $4 to $5 million range we had assumed in guidance and compares to the less than $1 million in the prior year second quarter. As in prior periods of increasing LIFO expense, our teams responded with a focus on internal initiatives, effective management of product inflation, and strong channel execution. Dave will provide more details shortly, but when excluding the impact of LIFO, gross margins were up both year over year and sequentially, and EBITDA margins held firm over the prior year against a difficult prior year comparison. This performance reinforces the durability of our operating model and various self-help opportunities across the business. We also continue to execute thoughtfully against our capital deployment priorities. Of note this morning, we announced an 11% increase in our quarterly dividend following a 24% increase last year. The increase is consistent with our expectation of ongoing dividend growth as we align annual increases with normalized earnings growth and our favorable cash generation profile. We also remain active with share buybacks, deploying over $140 million on repurchases during the first half of fiscal 2026. These actions reflect confidence in our cash flow generation as well as the value we see across applied from our strategy and long-term earnings potential. Further, we continue to evaluate various M&A opportunities across both our segments that could drive a more active pace of acquisitions over the next 12 to 18 months. Our acquisition priorities remain unchanged with an ongoing focus on expanding our technical engineered solutions position across automation, fluid power, and flow control. We also remain opportunistic with M&A opportunities across our service center network aimed at optimizing our local market coverage and service capabilities. Today's announced acquisition of Thompson Industrial Supply is a great example of this. With expected annual sales of 20 million, Thompson is a nice service center bolt-on acquisition that will enhance our footprint in Southern California. They bring strong technical knowledge and align supplier relationships as well as in-house belting and fabrication capabilities that strengthen our value added services and competitive position in the region. We're excited to welcome Thompson to the applied team and look forward to leveraging their capabilities. As it relates to what we see ahead, I remain constructive on our growth potential entering the second half of fiscal 2026 and beyond. While end markets remain mixed and choppy, several growth catalysts are becoming more evident. First, our service center segment is well positioned to support our customers' heightened technical MRO needs as they catch up on required maintenance across an aged installed equipment base. We believe there's a clear underlying trend developing around this theme. Of note, our U.S. service center sales were up over 4% year over year in the second quarter, inclusive of seasonally weak December activity. We saw growth across both strategic national accounts as well as our local accounts. Local account sales growth strengthened as the quarter progressed, which is an encouraging signal for broader industrial activity. We also continue to see stronger activity across several of our heavy U.S. industrial verticals that are break-fix intensive. This includes primary metals and aggregate markets, where related service center sales were up by a double-digit percent year-over-year in the quarter. Segment booking rates were positive in the quarter, while month-to-date in January segment organic sales are trending up by a mid-single-digit percent year-over-year. Our scale, local and consistent service capabilities, and technical knowledge of motion control products and solutions are driving greater growth opportunities in both legacy and emerging end markets. We also continue to benefit from sales process initiatives and ongoing pricing actions, as well as increased traction from our cross-selling efforts. During November, our service center leadership teams gathered in Cleveland to collaborate on our strategic growth initiatives, cross-selling opportunities, and operational requirements moving forward. There remains significant excitement and energy surrounding our core business today, and our teams are making notable progress deploying a number of strategic actions designed to further catalyze our growth long term. Within our engineered solution segment, we expect positive order momentum over the past several quarters to translate into more meaningful sales growth beginning in the second half of fiscal 2026. We're starting to see this play out with segment organic sales trending up by a high single digit percent year over year, month to date in January. In addition, we expect increased customer activity across our technology vertical which represents about 15% of our engineered solution segment. Of note, we continue to receive positive demand signals from our semiconductor customer base. This aligns with broader market indications suggesting a multi-year upcycle is emerging for semi-wafer fab equipment. As a reminder, semiconductor space drives the bulk of our technology vertical participation where we provide various fluid conveyance, pneumatic and automation solutions to wafer fab equipment manufacturers and other providers along the value chain. Many of our solutions are directly specified into wafer fab equipment across both new and established equipment platforms. I would also highlight recent investments we've made in engineering, systems and production capacity that should provide support to fully leverage these demand tailwinds moving forward. Combined with new business tied to broader data center build out, we believe our technology vertical could provide a nice tailwind to our organic growth in coming quarters. Our automation operations are also in solid position to drive stronger growth moving forward. Automation orders were up 20% year over year in the second quarter. We expect various secular tailwinds to continue to positively influence demand for our advanced automation solutions, including structural labor constraints, heightened focus on safety and quality, and North American reshoring activity. These dynamics are accelerating the adoption of collaborative and mobile robots, machine vision, and IoT solutions, as well as require strong application and engineering support that aligns well with our market approach and value proposition. In addition, our flow control team is focused on capturing growth developing within life science, pharmaceutical, and power generation markets across the U.S. With established product portfolios and leading technical capabilities around calibration services, instrumentation, steam and process heating, and filtration, we are favorably positioned to win in these markets. Year to date, flow control sales have been modestly lower year over year, partially reflecting muted activity across the chemicals in market, as well as a slow pace to project shipment phasing in prior year comparisons. However, flow control orders were up by a high single digit percent year over year in the second quarter, And we expect more productive backlog conversion into the second half of fiscal 2026 based on customer indications and firming in-market trends, as well as broadening maintenance and capital spending on process flow infrastructure across the U.S. in support of energy security and power generation capacity. Lastly, we're encouraged by improving trends across our industrial and mobile OEM fluid power operations, where organic sales were positive year over year for the first time in two years during the second quarter, while orders were up by a double digit percent over the prior year. This positive development is notable considering the drag this area of our business has had on our growth the past several years. As a reminder, our Fluid Power customer base includes thousands of small and midsize specialty OEMs across a diversified industry base. Our leading innovative engineering capabilities, access to premier supplier technologies, and customer reach are driving new business opportunities with these OEMs as they begin to integrate advanced power and control features into their next generation equipment. We believe demand for these features will be structurally higher as OEMs begin to re-accelerate production, giving an increased focus on power consumption, machine performance, and automation. Combined with our enhanced footprint and capabilities following our Hydrodyne acquisition last year, our fluid power operations are in a strong position moving forward. As it relates to Hydrodyne, we marked the acquisition's one-year anniversary at the end of December. I want to take a moment to thank our team's combined efforts over the past year in making this acquisition a great early success. We've achieved notable growth and operational momentum from this transaction that stands to further augment our earnings potential as underlying in-market demand begins to build. Of note, Hydrodyne generated over $30 million of EBITDA in the first 12 months of ownership with contribution building year-to-date in fiscal 2026 as we continue to align teams and realize synergies. During the second quarter, Hydrodyne's EBITDA margins exceeded 13% and were modestly accretive to our consolidated EBITDA margin performance. We've made tremendous progress in leveraging complementary solutions, harmonizing technical capabilities and systems, and driving operational efficiencies across the combined operating platforms. We're connecting Hydrodyne with new growth opportunities by cross-selling their value-added fluid power repair solutions across our legacy U.S. Southeastern customer base. We're also enhancing their capabilities. serving the rapid pace of innovation developing across fluid power mobile systems, as well as providing fluid conveyance solutions tied to data center thermal management needs. Moving forward, we expect Hydrodyne's contribution to be increasingly accretive to our underlying growth and margin performance as this positive momentum feathers into our organic results. At this time, I'll turn it over to Dave for additional detail on our results and outlook.

Thanks, Neal. Just as a reminder before I begin, as in prior quarters, we have posted a quarterly supplemental investor presentation to our investor site for additional reference as we recap our most recent quarter performance. Turning now to our financial performance in the quarter, consolidated sales increased 8.4% over the prior year quarter. Acquisitions contributed six points of growth, while the impact from foreign currency translation was a positive 20 basis point impact. The number of selling days in the quarter was consistent year-over-year. Many of these factors, sales increased 2.2% on an organic basis. As it relates to pricing, we estimate the contribution of product pricing on year-over-year sales growth was approximately 250 basis points per quarter. This is up from approximately 200 basis points in the first quarter and primarily reflects the effective pass-through of incrementalist announced supplier price increases in recent periods. Moving to consolidated gross margin performance, as highlighted on page 7 of the deck, gross margin of 30.4% was down 19 basis points compared to the prior year level of 30.6%. During the quarter, we recognized LIFO expense of $6.9 million, which was $2 to $3 million above our expectations and up meaningfully from prior year second quarter LIFO expense of $0.7 million. On a net basis, this resulted in an unfavorable 54 basis point year-over-year impact on gross margins during the quarter. While the LIFO expense increase partially reflects broader product inflation and supplier price increases, We also prudently increased our level of inventory investment in the quarter based on our outlook and firming demand developing across the business. As a reminder, our use of flight flow accounting accelerates the recognition of product inflation on our results, which during periods of increasing inflation and inventory expansion reduces our tax burden and drives cash savings. Importantly, from a reported gross margin standpoint, The impact is more about timing of when we recognize product inflation and is not a change in the underlying economics of the business. As inflation levels out and eventually normalizes, we would expect this impact to unwind accordingly, as we saw in prior periods of greater inflation and life or expense. That said, as Neil mentioned earlier, our team responded well to these inflationary headwinds through various countermeasures including effectively managing supplier price increases, channel execution, and margin initiatives. We also benefited from positive mix tied to our Hydroline acquisition, as well as stronger growth across local accounts. Excluding life expense, gross margins of 31% were up 34 basis points year-over-year against the strong prior year comparison. As it relates to our operating cost, Selling, distribution, and administrative expenses increased 11.1% compared to prior levels. On an organic, constant currency basis, SD&A expense was up 1.4% year-over-year compared to a 2.2% increase in organic sales. During the quarter, ongoing inflationary headwinds and growth investments were balanced by solid cost control and internal productivity initiatives. Overall, modest organic sales growth, coupled with M&A contribution, favorable underlying gross margin performance, and cost control resulted in reported EBITDA increasing 3.9% year-by-year, inclusive of a 460 basis point year-by-year LIFO expense headwind. This resulted in EBITDA margins of 12.1%, which was down 52 basis points from the prior year level of 12.6%, inclusive of a 54 basis point year-over-year headwind from higher LIFO expense. The 12.1% reported EBITDA margin was within our second quarter guidance range of 12 to 12.3%, despite greater than expected LIFO expense, which was approximately 15 to 25 basis points unfavorable to our expectations. Reported earnings per share of $2.51, was up 4.6% from prior year EPS of $2.39. On a year-over-year basis, EPS benefited from a lower tax rate and a reduced share count, partially offset by increased interest and other expense on a net basis. Turning now to sales performance by segment, as highlighted on Slides 8 and 9 of the presentation, Sales in our service center segment increased 2.9% year-over-year on an organic basis when excluding a 30 basis point positive impact from foreign currency translation. The organic sales increase in the quarter was primarily driven by price contribution as volumes were relatively unchanged year-over-year, reflecting seasonally slow sales activity in December and low international shipments. Across our U.S. operations, Sales increased more than 4% over the prior year, reflecting growth across both our national and local account base. U.S. Service Center sales benefited from firming demand across several core end markets, as well as Salesforce investments and cross-selling actions that continue to read through within a mixed demand backdrop. Segment trends also continue to be supported by favorable growth across Fluid Power MRO sales. Segment EBITDA increased 2.2% over the prior year, inclusive of a 340 basis point year-over-year LIFO headwind, while segment EBITDA margin of 13.3% declined 14 basis points, inclusive of a 45 basis point year-over-year LIFO headwind. Excluding the impact of LIFO, the year-over-year improvement in segment EBITDA and EBITDA margin primarily reflects underlying operating leverage on stronger U.S. sales, channel execution, and cost control. Within our Engineer Solutions segment, sales increased 19.1% over the prior year quarter, with acquisitions contributing 18.6 points of growth. On an organic basis, segment sales increased 0.5% year-over-year. The increase was primarily driven by price contribution, as well as modest volume growth across Fluid Power Mobile and industrial OEM customers, partially offset by lower flow control sales. Sales across our automation business increased 3% on organic basis over the prior year, representing the third straight quarter of positive organic growth. Segment even increased 4.4% year-over-year over the prior year, inclusive of a 400 basis point year-over-year LIFO headwind primarily reflecting contribution from our Hydrodyne acquisition, partially offset by lower organic EBITDA on muted sales trends in the quarter. Segment EBITDA margin of 14.3% was down roughly 200 basis points from prior year levels, inclusive of a 55 basis point year-over-year LIFO headwind. Excluding the LIFO impact, the segment EBITDA margin decline was primarily driven by lower flow control sales and unfavorable M&A mix as well as a difficult prior year comparison from record performance across our Entry Solutions segment during the second quarter of fiscal 2025 tied to favorable mix as we had previously highlighted. Moving to our cash flow performance, cash generated from operating activities during the second quarter was $99.7 million, while free cash flow totaled $93.4 million we obtained conversion of 98% relative to net income. Compared to the prior year, breed cash was up slightly as greater working capital investment was balanced by ongoing progress with internal initiatives. From a balance sheet perspective, we ended December with approximately $406 million of cash on hand and net leverage at 0.3 times EBITDA. Our balance sheet is in a solid position to support our capital deployment initiatives moving forward, including accretive M&A, dividend growth, and opportunistic share buybacks. During the second quarter, we repurchased over 46,000 shares for $90 million, bringing the year-to-date total to over 550,000 shares for $143 million. Turning now to our outlook, as indicated in today's press release, and detailed on page 12 of our presentation, we are adjusting our full year fiscal 2026 EPS guidance following our first platforms and updated outlook. We now project EPS within the range of $10.45 to $10.75 based on sales growth about 5.5 to up 7% and even the margins of 12.2 to 12.4%. Previously, our guidance assumed EPS at $10.10 to $10.85 on sales growth of 4% to 7% and EBITDA margins of 12.2% to 12.5%. Our updated guidance now assumes LIFO expense of $24 to $26 million compared to prior guidance of $14 million to $18 million. In addition, we now assume $210 the 230 basis points of year-over-year sales contribution from pricing up from prior guidance of 150 to 200 basis points. From an organic sales perspective, we are now assuming a 2.5% to 4% increase for the full year compared to our prior assumption of up 1% to 4%. This takes into account first half organic sales performance as well as early third quarter organic sales trends which, as noted earlier, are turning up by a mid-single-digit percent over the prior year in January. I would note prior year sales comparisons are slightly more difficult in February and March compared to January. In addition, we continue to assume ongoing macro and policy uncertainty will influence customer spending behavior and shipment activity in the interim. We believe this could result in ongoing variability in monthly sales growth, pending greater clarity on the macro backdrop or incremental support from lower interest rates and fiscal policy. At the midpoint of our updated guidance, we assume organic sales increased by approximately 4% year-over-year in the second half of fiscal 2026, with third-quarter organic sales expected to increase by a low single-digit to mid-single-digit percent over the prior year. We also project inorganic M&A sales and modest foreign currency tailwinds We contributed approximately 50 basis points of year-to-year growth in the second half of the year. The M&A contribution includes today's announced acquisition of Thompson Industrial Supply, as well as our May 2025 acquisition of Iris Factory Automation. Our guidance does not include contribution for future M&A or additional share purchases in the second half of the year. From a margin perspective, we expect third quarter gross margins to decline sequentially to a low 30% range. This assumes a more normalized level of gross margin execution relative to our strong underlying second quarter performance, as well as slightly higher life or expense sequentially. Combined with modestly stronger operating leverage on greater sales growth, as well as ongoing inflationary headwinds, anticipate growth investments In our annual merit increase, effective January 1st, we expect third quarter even margins be within a range of 12.2 to 12.4%. Lastly, some housekeeping items. Our updated guidance does assume a slightly lower share count following second quarter share repurchases, as well as a tax rate assumption of approximately 23% for the full year compared to our prior range of 23 to 24%. These slight EPS tailwinds are partially offset by an increase in net interest expense into the second half of our fiscal year following the net impact of our interest rate swap maturing at the end of January. With that, I will now turn the call back over to Neal for some final comments.

So to wrap up, our team executed well through the first half of fiscal 2026. we're delivering on our financial commitments and making strong progress on our strategic initiatives. As we enter the second half of the year, we do so from a position of strength with signs of emerging growth catalyst developing across several areas of our business. Early fiscal third quarter sales trends are encouraging and provide a nice jump off point. So we remain prudent with our guidance as we look for greater consistency in sales trajectories as we move into more meaningful seasonal months while balancing the near-term timing impact of LIFO accounting. Importantly, sentiment from both our customers and our sales teams continue to be directionally positive, and our business funnels are expanding. Technical MRO requirements are heightened, entering what should be a more productive operating environment. As we move through calendar 2026, when considering potential support from lower interest rates, a more favorable tax policy and deregulation. In addition, our industry position places us in a unique and comprehensive position to capture growth as capital spending broadens across many of our customer verticals. This includes pro-business policies supporting greater production and investments in core legacy verticals, such as metals, mining, and machinery, as well as clear secular and structural tailwinds supporting multiyear cycles across semiconductor, power generation, and energy end markets. We also expect to play a greater role across the data center space, given our expertise and product offering in areas of thermal management, robotics, and fluid conveyance. With our deep technical industrial facility domain expertise, access to critical higher engineered industrial products, and balance sheet capacity, we're well positioned to capitalize on these growth opportunities. We also remain positive on our margin expansion potential as these tailwinds drive stronger top line growth. We continue to see a clear path to achieve our mid to high teen incremental EBITDA margin target at mid single digit organic sales growth. This is supported by inherent operating leverage across our business model combined with mixed tailwinds tied to the ongoing expansion of engineered solution segment and local account growth within our service center segment. Additional support should emerge as we continue to scale our automation platform following various growth investments in recent years. Overall, we look forward to fully capturing this growth potential through the remainder of fiscal 2026 and years to come. And as always, we thank you for your continued support. With that, we'll open up the lines for your questions.