Axalta Coating Systems Ltd.

Ladies and gentlemen, thank you for standing by. Welcome to the South's fourth quarter and full year 2021 earnings conference call. All participants will be in the listen-only mode. Question and answer session will follow the presentation by management. Today's call is being recorded and a replay will be available through February 8th. Those listening after today's call should please note that the information provided in the recording will not be updated and therefore may no longer be current. I'll now turn the call over to Chris McCrae. Please go ahead, sir. Thank you and good morning.

This is Chris McRae, VP of Investor Relations and Treasury. We appreciate your continued interest in Exalta and welcome you to our fourth quarter and full year 2021 financial results conference call. Joining me today are Robert Bryant, CEO, and Shawn Lannan, CFO. Yesterday afternoon, we released our quarterly and annual financial results and posted a slide presentation along with a commentary to the investor relations section of our website at exalta.com, which we'll be referencing during this call. Also, on January 25th, we published a set of best-in-class ESG goals, including 10 commitments for 2030, which you can also reference on our investor relations website for more details. Both our prepared remarks and discussion today may contain forward-looking statements reflecting the company's current view of future events and their potential effect on Ignalta's operating and financial performance. These statements involve uncertainties and risks, and actual results may differ materially from those forward-looking statements. Please note that the company is under no obligation to provide updates to those forward-looking statements. This presentation also contains various non-GAAP financial measures. In the appendix, we've included reconciliations of these non-GAAP financial measures, the most directly comparable GAAP financial measures. For additional information regarding forward-looking statements and non-GAAP financial measures, please refer to our filings with the SEC. I'll now turn the call over to Robert. Good morning, everyone. I'd like to welcome you to our fourth quarter and full year 2021 earnings call. Our quarter and full year were marked by ongoing strong demand conditions and solid execution by our team, but also by ongoing challenges in the supply chain and input cost inflation. Despite these factors, we executed very well against this climate, generating year-over-year sales growth, substantial incremental pricing to offset inflation, and strong free cash flow. We further demonstrated ongoing solid capital allocation with continued share buybacks as well as completing two acquisitions during the year, while still ending the year with a very strong balance sheet. I would like to thank all Exalta employees for their continued efforts in the quarter and also wish everybody continued health and well-being as the pandemic continues to impact our lives in a variety of ways. Turning to operating performance in the fourth quarter, exalta reported strong year-over-year net sales growth from three of our four end markets while customer production constraints continued to negatively impact light vehicle fourth quarter net sales increased seven percent year-over-year xfx including a contribution of four percent from acquisitions volume growth was a clear highlight in our performance coding segment increasing by five percent with both end markets contributing meaningfully this marks our fifth consecutive quarter year-over-year growth within industrial, and fourth consecutive quarter for refinish. Within mobility coatings, our commercial vehicle end market also showed volume growth of over 7%. Light vehicle was an outlier given the known semiconductor challenges. Price was positive in all four end markets, despite some headwinds we saw within product mix in the quarter. Business demand in the quarter remained strong and stable across all of Exalt's businesses, But raw material inflation and supply chain constraints significantly impacted both sales volumes and our cost structure. Refinish saw stable overall demand in the quarter, with net sales of 12.8% year-over-year, or 6.6% before currency and acquisition contribution, which was up sequentially versus third quarter before acquisitions and FX impacts. We also ended the quarter with substantial unfilled order backlogs due to supply constraints. Industrial net sales increased an impressive 16.3% or 13.9% XFX before acquisitions, continuing similarly strong growth throughout 2021 and reflecting strong overall global industrial goods demand. Light vehicle net sales declined 13.7% XFX in the quarter versus the prior year, with volume still constrained by chip shortages at our customers and only moderately improved from the third quarter. This was reflected in sequential global automotive production growth, with fewer shutdowns occurring in the period. Commercial vehicle net sales increased 8.4% XFX in the fourth quarter, driven by ongoing strong production rates and some share gain from non-truck customers, including recreational vehicles and sporting equipment OEMs. Adjusted EBIT for the fourth quarter was $121 million versus $205.4 million in the year-ago quarter as the business was impacted by significantly higher variable cost inflation, approximately 24% year-over-year in the fourth quarter, supply chain shortages company-wide, and headwinds from the absence of temporary cost savings through 2020, partly offset by growth and strong execution across both performance coatings and markets and in commercial vehicle within mobility coatings. Refinish ended the year with substantial price pass through to offset inflation and margins and absolute adjusted EBITDA contribution at all time highs, despite a notable impact on volumes given the lasting impacts of COVID. Fourth quarter business conditions across the company remain stable and generally strong despite supply chain challenges. Refinish, although modest, saw continued demand improvement, including both traffic and body shop activity, with some variability by country. TARP shortages, body shop technician shortages, and some impact from Omicron in traffic and body shop staffing created challenges for our customers in the quarter. Though business volumes increased sequentially from the third quarter, organic volumes remained down approximately high single digits below 2019 levels, suggesting continued meaningful room for improvement looking ahead. This included some quarter-end backlog that was unfilled due to supply and operating constraints. Exalta's industrial end market remained robust globally, and net sales increased 17% XFX and 13.9% on an organic basis against a strong prior year comparison, indicating underlying demand strength as well as demonstrating success in our organic growth execution. The top line was still constrained by supply chain headwinds in the period and to a greater degree than during the third quarter. inclusive of both raw material, supply dynamics, as well as logistics and labor challenges. Topline growth was strongest in North America, followed by EMEA, and was led by the building products and general industrial businesses. Light vehicle saw continued constraints at the customer and end consumer level. Global vehicle production for 2021 increased only 2.5% from the prior year, which of course was dramatically impacted by the pandemic principally during the second quarter of 2020. Due to supply shortages, some 9.6 million vehicles were deferred during 2021 against original industry production estimates, although the quarterly vehicle deferral amount decreased from 3.5 million vehicles in Q3 to 2.1 million vehicles in Q4 as chip availability improved slightly toward year-end. The fourth quarter impact was also 1.4 million vehicles below the high end of the forecasted range of potential production impacts from October 2021. Commercial vehicle demand remained robust through year end, with notable strength in North America retail sales. Current North America backlog remains near all-time highs, and we expect strong production rates to be sustained throughout 2022. Exalta saw intensified cost inflation during the fourth quarter, coming from a broad set of raw materials due to supply dynamics and continued high feedstock prices, but also from packaging, freight, logistics, and labor costs. We ended the fourth quarter with 24% raw material cost inflation, higher than our 20% expectation from October and about 15% for the full year. We were and continue to be successful in our actions to offset this inflation through incremental pricing during the fourth quarter. We implemented price increases in all businesses during Q4, and price mix increased 3.6% in the period, while pure price increased by mid-single digits versus the prior year, given the negative mix effect seen in both segments. Exalta also continues to offset inflation via structural cost control, we continued to benefit somewhat from the persistence of lower selling expense and functional savings that were implemented during 2020. We realized slightly over $50 million in exalt away savings this past year, including a benefit from the previously announced restructuring actions. The integration of the UPOL business acquired in September 2021 is progressing well, and our commercial synergies are quickly coming to fruition. The business closed the year on plan from a net sales perspective, though it was modestly impacted by incremental inflation at the adjusted EBIT level, similar to the rest of refinish. Pricing actions are being executed to fully offset this inflation in early 2022 to put us comfortably on the original business case. We're very pleased with the progress on the UPOL business integration, and recent months have confirmed our bullish view of the future growth opportunity for this business. Turning to ESG, Exalta has made significant headway with our program since its inception in 2013. We published our first sustainability report in 2013 and set initial ESG goals in 2017. I'm thrilled that last week we published a set of long-term ESG and sustainability goals, each of which have a substantial impact in their respective categories. To set these 2030 goals, we conducted a comprehensive ESG materiality assessment last year with a broad set of internal and external stakeholders. We also worked to align with the United Nations Sustainable Development Goals in developing our ESG framework, structured under three key pillars. Planet solutions, focused on ensuring a more sustainable future for our planet, with goals aimed at maximizing our environmental performance and reducing the impact of our operations. Business solutions, which concentrates on how Exalta's products, services, and technologies can help customers accelerate their own sustainability initiatives and achievements. And third, people solutions, which is rooted in inclusivity, integrity, safety, and engagement to ensure that Exalta continues operating and fostering an environment where all our people can thrive. Exalta's published targets include 10 new sustainability commitments for 2030. Key among these is the commitment to produce sustainable benefits from 80% of Exalta's new technology and innovation developments. We're also committing to an absolute reduction of 50% of scope one and two greenhouse gas emissions by 2030 on our way to becoming carbon neutral in our operations by 2040. This would be a decade ahead of the deadline set by the Paris Agreement on climate change. That said, each of our individual targets are of critical importance and represent a step forward for Exalta in achieving long-term goals to build a more sustainable future. Exalta seeks to lead the coatings industry, by example, as well as to inspire our customers and other stakeholders by jointly ensuring the long-term well-being of the planet, our business partners, and our business. I'll now turn the call over to Sean for some additional remarks. Thanks, Robert, and good morning. As you've heard, fourth quarter saw both stable and broadly positive demand conditions, but also continued challenges from cost inflation and supply chain constraints. Net sales of $1.1 billion increased 5.8% year-over-year for the fourth quarter, while constant currency net sales increased 3.1% on an organic basis driven by demand strength across most of our businesses. This constant currency organic net sales growth included a 9.6% increase from performance coatings, offset by a 9.3% decrease from mobility coatings, reflecting light vehicle down 13.7%, while commercial vehicle was up an impressive 8.4%. Fourth quarter volume declined 0.5%, with mid-single-digit increases from three of our four end markets, more than offset by a single mid-teen percentage pullback in light vehicle volumes, due to the semiconductor constraints impacting customer production. Price mix contribution increased 3.6% in the aggregate, driven by improvement in both segments and all four end markets, however, stronger in performance coatings versus mobility coatings. Mix was a moderate headwind, following on a similar dynamic from the third quarter. Excluding product mix effects, overall pricing improved mid-single digits for the quarter. FX translation was a headwind of 1.2% for the fourth quarter, driven by the Euro and the Turkish Lira, offset partially by the strength in the Chinese renminbi. Fourth quarter adjusted EBIT was $121 million versus $205 million in the prior year quarter, reflecting strong demand and volume trends in performance codings, as well as the commercial vehicle end market, which was more than offset by light vehicle volume headwinds, substantially increased variable input cost inflation, and lower temporary cost savings realized versus the fourth quarter of 2020. Performance Coding's fourth quarter net sales increased 14.2% year-over-year and 15.6% XFX, driven by 5% higher volumes, a 4.6% increase in average price mix, and a 6% increase from acquisition contribution. Refinish reported a 12.8% net sales increase, or 14.7% XFX, driven by improved global volumes versus the prior year, and by a high single-digit contribution from UPO acquisitions, which closed in September. Refinished volumes also increased moderately on a sequential basis, along with body shop activity in the period, though growth was impeded somewhat by supply chain and logistics constraints in the fourth quarter, with significant open orders remaining at year ends. Refinished price mix increased low single digits during the fourth quarter, inclusive of product mix headwinds from mainstream and economy product growth. Net pricing was up mid-single digits before mix effects. Industrial Q4 net sales increased 16.3% or 17% XFX, driven by mid-single-digit improvement in both volume and average price mix, as well as low single-digit acquisition contribution to net sales. Demand trends in most of the industrial businesses we served remained healthy during the period, with the exception of automotive and wind energy, and with particular ongoing strength from North American housing and remodeling. Similar to refinish, supply chain constraints also impeded further growth within industrial in the period. Performance coatings reported Q4 adjusted EBIT of $99.7 million versus $129.5 million in the fourth quarter of 2020, driven by ongoing volume growth and drop-through benefits of stronger average price mix. more than offset by significant headwinds from higher variable costs and lack of temporary cost savings, which benefited the prior year quarter. The adjusted EBIT margin for the segment decreased to 12.4% from 18.4% in the prior year, record-setting quarterly rate, given the drivers noted before. Mobility coatings net sales decreased 9.3% in Q4 XFX, including an 11% decrease in volume, partially offset by a 1.7% improvement and average price mix. Light vehicle net sales decreased 13.7% XFX in the quarter, including a mid-teen volume decrease largely in line with global auto production rates. Price mix increased low single digits in the quarter versus the prior year, which included a component of negative mix in the period. Commercial vehicle Q4 net sales increased 8.4% XFX, driven by strong truck production globally, excluding China. Price mix increased below single digits, inclusive of modest negative mix differences from the prior year. Mobility Codings reported a Q4 adjusted EBIT loss of $3.5 million versus income of $47.9 million in the prior year quarter. Adjusted EBIT and associated margins in Q4 were impacted by the severe volume drop and further impacted by increased cost inflation, with only modest offsets and positive pricing, which began to accrue during the third quarter and continued during the fourth quarter. We are confident that expected demand recovery, price increases, and cost control will return the mobility business to operating profitability, though it remains cash flow positive today in adjusted EBITDA terms. Exalta's Q4 balance sheet and liquidity profile remain solid. We ended the quarter with approximately $1.4 billion in total liquidity, including approximately $841 million of cash and cash equivalents on the balance sheet and approximately $528 million of available capacity in our undrawn revolver. During Q4, we also completed several asset sales for net proceeds of $25.4 million, illustrating ongoing focus on asset efficiency and cash flow. Our net leverage ratio ended the quarter at 3.5 times, even with Q3 levels, driven by increased cash at the period end offset by lower latest 12-month adjusted EBITDA. Net leverage remained somewhat elevated due to the U-Poll acquisition that was funded from our balance sheet in September. while the adjusted EBITDA contribution only reflects a partial year from the acquisition. The company also repurchased $30 million in total shares in the fourth quarter for a full year 2021 total of $243.7 million. Free cash flow for the quarter totaled $249.4 million versus $256 million in the fourth quarter of 2020, a very strong result concerning somewhat lower operating profit year over year. For the full year, free cash flow totaled $455 million versus $441.7 million in 2020, again demonstrating Exalta's focus on cash flow and finishing the year with a strong total liquidity position to continue to enable effective capital allocation. Regarding our financial outlook, we have outlined key expectations for the first quarter as follows. For Q1 net sales, we expect approximately 5% year-over-year growth including a 3% FX headwind and a 4% positive M&A contribution. This assumes performance coding's growth of mid to high teens, offset by mobility coding's contraction of mid single digits. The top line guide also reflects pricing of mid to high single digits. We expect to generate adjusted EBIT of 100 to 120 million in the first quarter, with DNA of 81 million, inclusive of 24 million of step-up DNA. Interest expense for the quarter is anticipated to be approximately $32 million. For adjusted earnings per share, we anticipate a range of $0.22 to $0.29 for the first quarter, inclusive of an FX headwind of $0.02 per share and a slight step up in anticipated income taxes. Within our first quarter forecast, we further assume raw material inflation of approximately 25% to 27% versus the first quarter of 2021. which is a growth rate slightly higher than the fourth quarter of 2021. As we look at the full year, we expect to see net sales growth continue, driven by solid performance coatings growth from both refinish recovery and market share gain, coupled with ongoing industrial coatings organic growth. For mobility, we expect net sales growth slightly ahead of global production for both light vehicle and commercial vehicle, given specific customer exposures and organic growth expectations for 2022. Further, we do expect to see an uptick in global production builds based off of industry forecasters. Net sales growth are also expected to be somewhat offset by modest FX translation headwinds, driven largely by the Euro, Turkish lira, and Brazilian real. Regarding cost factors, our current assessment is that the rates of overall raw material and other cost inflation will continue at high levels near term, but may stabilize during the first half of the year based on current expectations for feedstock pricing. For 2022, given current baseline expectations and assuming Brent crude around the mid-80s, we expect raw material inflation in the low double digits, with peak inflation occurring during the first quarter. That said, substantial uncertainty around all aspects of cost inflation, coupled with lack of clear visibility around timing for supply chain shortages to ease, informs our decision to limit full-year earnings guidance at this time. with continued planned and expected pricing actions during 2022. However, we also expect to fully offset anticipated inflation within the year. While we're not providing full-year guidance at this time, we do anticipate stronger profit performance this year versus 2021, and we'll hope to refine our views of specific guidance elements as the year progresses. Thank you, Sean. I'd like to close out by simply noting that we at Exalta remain committed to creating value for our shareholders. We believe the path to substantially higher levels of earnings per share remains very much in view despite the near-term challenges associated with inflation headwinds and supply constraints. This starts with the anticipated recovery in automotive volumes. back to prior peak levels over the course of several years, including some anticipated relief in chip supply to enable growth in 2022. It is furthered by ongoing solid organic growth in industrial and backed by expected net sales growth from refinish from both market share gains and modest further recovery from cyclical lows, which bottomed during 2020. Ongoing top line growth coupled with expected abatement of raw material inputs and calmer overall cost inflation over time should clear a path to margin recovery and perhaps enable new margin highs over time. Exalta has already proven an ability to navigate challenging environments, and we're confident in the team that we have in place to execute our growth plans while continuing to respond to operating and cost challenges. I'd like to express my sincere thanks to our entire global team for all the hard work that was completed during 2021, and we look forward to demonstrating what our team can accomplish during 2022. With that, we'll be pleased to answer any questions. Operator, you can open the lines for Q&A.

Thank you. We'll now be conducting the question and answer session. If you'd like to ask a question today, please press star 1 from your telephone keypad and a confirmation tone indicate your line is in the question queue. You can press star 2 if you would like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. One moment, please, while we poll for questions. Thank you. Our first question comes from the line of Steve Byrne with Bank of America. Please proceed with your question.