Enerpac Tool Group Corp.

Ladies and gentlemen, thank you for standing by. Welcome to InterPAC Tool Group's second quarter earnings conference call. During the presentation, all participants will be in a listen-only mode. Afterwards, we will conduct a question and answer session. At that time, if you have a question, please press star filed by the number one on your telephone. If at any time during the conference you need to reach an operator, please press star zero. As a reminder, this conference is being recorded March 19, 2020. It's now my pleasure to turn the conference over to Barb Bolins, Executive Vice President, Chief Strategy Officer. Please go ahead, Ms. Bolins.

Thank you, Kevin. Good morning, and thank you for joining us on InterPAC Tool Group's second quarter 2020 earnings conference call. On the call today to present the company's results are Randy Baker, President and Chief Executive Officer, Rick Dillon, Chief Financial Officer, and Jeff Schmeling, Chief Operating Officer. Also with us are Bobby Belsner, Director of IR and Strategy, Thad Brissetti, General Counsel, and Brian Johnson, Chief Accounting Officer. As many of us are doing these days, we are practicing social distancing, and we do have people calling in from various sites. So apologies in advance if there are handoffs that take a little longer than usual. Our earnings release and slide presentation for today's call are available on our website at enterpactoolgroup.com in the investor section. Please go to slide two. During today's call, we will reference non-GAAP measures such as adjusted profit margins and adjusted earnings. You can find a reconciliation of non-GAAP measures to GAAP in the schedules to this morning's release. We would also like to remind you that we will be making statements in today's call and presentation that are not historical facts and are considered forward-looking statements. We are making those statements pursuant to the safe harbor provisions of federal securities law. Please see our SEC filings for the risks and other factors that may cause actual results to differ materially from forecasts, anticipated results, or other forward-looking statements. Consistent with how we have conducted prior calls, we ask that you follow our one question, one follow-up practice in order to keep today's call to an hour and also allow us to answer questions from as many participants as possible. Thank you in advance for your participation, and now I'll turn the call over to Randy.

Thanks, Barb, and good morning, everybody. We're going to start today on slide three. Before we review the details on the quarter, we have two special topics which deserve additional clarity. Obviously, the coronavirus, which has captured world headlines, has had an impact on companies, and Interpac is no exception. During the quarter, our Asian operations experienced a sales decline of approximately $2 million, with resulting operating profit headwinds of approximately $1 million. The China operations have been effectively idled for half the quarter, and we saw increased travel and customer issues in most of Asia. Our supply chain team has done an excellent job of providing alternate solutions to our component supply to ensure plants around the world were able to continue with mental disruption. We have developed emergency contingency plans to handle potential quarantines and enacted protocol for employees at all of our locations. Our number one priority is to keep our employees and their families safe. Secondly, the oil and gas industry has experienced one of the largest price reductions in many years. This will impact all aspects of the energy industry, but the most pronounced effect will be felt in the upstream and CapEx. As many of you are aware, we exited most of the upstream portion of the oil and gas industry which will help the impact to our sales and service revenue. Existing midstream and downstream assets will require significant maintenance to maintain production capacity, but we expect a very conservative spending profile. Additionally, the coronavirus is limiting access to job sites all over the world, which will affect our service operations. Approximately 25 to 30% of our revenue participates in the oil and gas sector, and we expect to see reductions on the back half every year. The combination of the coronavirus and the oil disruption has created a very unpredictable market. We have an experienced team, dedicated employees, and the financial strength to withstand these temporary headwinds. To date, we have not seen any material changes to our incoming order rates in North America and Europe, but we know there will be an impact. As we progress through the quarter, we'll provide additional updates as we have more clarity to the changing business dynamics. Now, moving over to slide four. Our second quarter was one of the most volatile we've seen in many years. We started the quarter with somewhat sluggish sales volume, which improved in the latter part of February. North America was affected by increased distributor inventory constraints, and the Middle East was affected by the abrupt oil price decline. Of the 13 vertical markets, many are experiencing declines, which has affected sales in both regions. Aerospace continues to be positive, and we received multiple large orders during the quarter. And as I mentioned earlier, Asia has been heavily impacted by the coronavirus. Europe was our best performing region and exceeded sales expectations for the quarter and on a year-to-date basis. The impact of core sales was significant in the quarter, resulting in a consolidated growth rate of down 10%, 4% from products and 28% from service. Despite the decline in sales expectations, we were able to maintain our results within the guidance range. Additionally, we were able to improve our capital employed and resulting cash use in the quarter versus our prior year results. Our balance sheet is in great shape. With the net debt at a very low level, resulting in a leverage of only 1.3. Overall, our second quarter has been difficult, but we remain focused on our Interpac tool group strategy and the discipline approach to driving results. And moving over to slide five, on the positive side, we continue to make progress towards our strategy and the creation of a top performing tool company. Core sales was impacted by the market conditions. However, our new product development effort has added three new families to our catalog and exceeded our 10% new product sales contribution goal. Also, on a year-to-date basis, new product sales has contributed over 10% to our volume, which has softened the impact of these unstable conditions. On the acquisitions front, we completed our first addition to the Interpac tool group, The HDL company, based in Newcastle, UK, is a high-quality bolting equipment manufacturer and distributor. The acquisition has provided several new product additions, which has effectively completed our bolting tool lineup. The Interpac Tool Group will have one of the most comprehensive torque equipment lineups spanning the premium extreme duty to the economy product capable of serving all of the global installed base. Secondly, they bring significant experience in rental, sales, and processes, which will enhance our European operations. And lastly, the H-Dale manufacturing location will become our global headquarters for engineering, manufacturing, and management of the bolting business. This consolidation has already begun and will deliver significant synergies upon its completion in our fiscal 2021. Rick will review the details of our cost and structural efficiency project associated with the divestiture of the engineering solutions business. However, I'm very pleased with the progress, which has accelerated our cost reductions, which will deliver between 10 and 12 million of savings annually. Most importantly, we are on track to achieve our 20% EBITDA target run rate as we exit our fiscal 2020, absent any significant changes to our business from the volatile market and environment we are in today. I'm going to turn the call to Rick now, He's going to run through the details on the quarter, and then I'm going to come back with a summary. Over to you, Rick.

Thanks, Randy, and good morning, everyone. Let's jump right into the second quarter results and start here with a recap. Sales of $133 million were at the bottom end of our range for the quarter. Core product sales were down 4%, service was down 28%, and Cortland was essentially flat. As Randy mentioned, NPD was greater than 10% for a second consecutive quarter, which helped to offset some of the market softness. We had also a positive $2 million impact from the acquisition of HTL. The sales impact of the coronavirus in the quarter was approximately $2 million. Adjusted EBITDA margins declined 40%, or 40 basis points, I should say. The effective tax rate for the quarter was approximately 15% and in line with our expectations. EPS of nine cents was in our guidance range, despite the approximate one cent headwind from COVID-19. If we turn to slide seven, this sales waterfall is just an illustration of what we've been talking about. On a consolidated basis, core sales were down 10%. The impact from the stronger dollar in pricing were both minimal in the quarter. Product sales varied by region. As Randy mentioned, North America product sales were soft, down low double digits due to a slow start, with order rates returning to projected levels as the quarter progressed. Sales to our larger national distribution remained flat to up in the quarter. However, sales to our smaller distributors declined, and they continued to be cautious on inventory spend, and they are seeing pockets of softer demand. Many of our vertical markets in North America continue to track lower year-over-year, especially coal, oil and gas, automotive, and steel. As Randy noted, Europe continues to perform better than we anticipated coming into the year and was relatively flat overall year-over-year. We saw another good performance from our standard heavy lift business. Our focus on power generation, particularly wind, was a highlight in the quarter and of a few large projects that came online in the back half of the year should also benefit the back half of the quarter, should actually also benefit the back half of the year. Sales in the APAC region were slightly positive despite the virus headwinds in China. If we were providing an outlook 60 days ago, before COVID became a pandemic and the oil price shock, we would have expected product sales in the second half of our year to result in a decline in the low single digits. But as Randy discussed, the world has changed and we currently don't have visibility to what things look like going forward. On the service side, sales were down 28% in the quarter, most of which was expected. If you recall, service sales were up 22% last year. The performance was on the strength of several large projects with scope additions. As those projects wrapped up at the end of fiscal 2009, we anticipated core sales decline for the year and for the quarter, particularly in the first half of the year due to difficult comps. In addition, but to a much lesser extent, we did see some delays in pushouts of certain projects, a small portion of which was attributable to early impact of the coronavirus. While we have not been notified of any cancellations as a result of the oil prices, we are attempting to manage our site resources carefully to ensure we optimize utilization as the situation unfolds. As various countries close their borders, movement and mobilization of labor will become even more challenging. It's likely some of our seasonally heavy Q3 service projects will be affected. As Randy noted, we'll continue to monitor and manage our way through as the full impact of COVID-19 unfolds. So let's move on to the adjusted EBITDA waterfall on slide eight. Adjusted EBITDA margins were at 12% versus 12.4% in our prior year. Savings from our restructuring actions completed in fiscal 2019 partially offset the impact of lower product and service sales and COVID-19 on our China operations in the current year. If we turn now to our balance sheet and liquidity on slide nine, we used approximately $9 million of cash during the quarter versus 31 million in the second quarter of fiscal 2019. The results were driven by a $36 million improvement in working capital, as well as a reduction in capital expenditures of $4 million. We ended the quarter with 163 million of cash on hand, and our leverage sits at 1.3 times versus 2.1 times in Q2 of 2019. The slight increase in leverage versus Q1 is due to the use of 33 million in cash for the acquisition of HTL. HTO adds approximately $17 million of revenues and $4.5 million of EBITDA annually. We've estimated goodwill of $9 million and intangible assets of approximately $17 million in our preliminary purchase price allocation. During our blackout period, post-quarter end and following the significant market disruption, we purchased approximately 503,000 shares under a pre-existing 10b-5-1 plan at an average price of approximately $19.25. We used 10b-5-1 plans to allow us to be able to buy in periods when we would otherwise be restricted from buying. This last plan was put in place during the second quarter, and we have exhausted our allocation under the plan. We'll continue to evaluate future opportunistic share purchases going forward. We have a very strong balance sheet that provides ample liquidity as we manage through these difficult times and remain focused on executing our strategy and capital allocation priorities. So lastly for me, let's revisit our EBITDA margin expansion progression on slide 10. As Randy mentioned, the restructuring we announced today is focused on the simplification of our company, the elimination of redundancies between the segment and corporate functions, and enhancing our commercial and marketing processes to get even closer to our customers. We expect to complete these actions in Q3, and they will deliver 10-plus million of annual savings as we exit 2020. This accelerates the savings that we had expected to execute in fiscal 2021, and we still have cost opportunities as we right-size some of our service provider contracts. With these actions, we create a cost structure that will support a 20% EBITDA margin run rate. Obviously, COVID-19 may further impact our top-line performance, but we are taking the cost actions now to allow us to be able – to be well positioned for profitable growth. We expect to incur five to six million of restructuring costs to achieve 10 plus million in annual savings, four million of which we should see in the back half of the year. With that, Randy, I'll turn the call back over to you.

Thanks, Rick. We've reached a point in the call where we normally cover the market conditions and guidance, but the extreme volatility and uncertainty in the world market make it impossible to predict what the business conditions will be in the future. As a result, we are not providing guidance for Q3 or Q4 today and will provide updates when we have more visibility. Because of the strength of our company and our people, we are very confident in our ability to execute our strategy. We've made significant progress in new product development, EBITDA margin progression, and execution of our M&A strategy. Given the volatility, our capital allocation priorities are, first and foremost, maintain a strong balance sheet and financial flexibility. We exit a quarter with a very low debt leverage, $160 million of cash, ample liquidity, and untapped credit facilities. Second, investment in ourselves to ensure we fund our internal growth initiatives such as MPD and commercial effectiveness. And third, Share repurchases and M&A are very important, but we'll evaluate opportunistic share repurchases and continue to work on our M&A pipeline, but we do not expect to execute any transactions until we see stability return to the markets. And finally, I'd like to thank all of our employees who are keeping our business operating during these challenging times. I appreciate all of your hard work and dedication to the InterFact Tool Group. I hope everybody on the call today stays safe and healthy and keep your families away from the virus. Thanks for joining us today, and operator, let's open it up to Q&A.

Thank you. We'll now be conducting our question and answer session. If you'd like to be placed into question queue, please press star 1 on your telephone keypad. A confirmation tone will indicate your line is in the question queue. You may press star 2 if you'd like to move your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing star 1. Once again, that star 1 will be placed in the question queue. One moment, please, while we poll for questions. Our first question today is coming from Allison Pliniak from Wells Fargo. Your line is now live.

Hi, guys. Good morning. I just want to get a little bit more color in your comments around China in terms of, you know, obviously it's starting to come out of this. You said it's coming back slowly. Maybe a little, I guess, trying to reference where you are in terms of production relative to where you thought you would have been this time of year. Any color there?

Well, we effectively shut down for half of our second quarter. It was idled. All employees were working from home, and we were not producing or shipping products. So you saw that in our numbers in terms of underabsorbed. We've slowly brought that back on stream. Our supply chain is working well. And we've been able to keep our flow of material from that region to our various plants, particularly North American and Europe. It is still not back to full steam yet. We don't expect it to be that, and we projected that there will be an impact in our third, potentially the fourth quarter. But at this point in time, putting a precise ring around that allicin becomes very difficult to do. In the absence of having full clarity to the market, we're not providing that. But what we have done is that we will give you updates as we go through the quarter. If we get back to full speed in China, we're going to let the market know that we're back to full speed and how does that impact the full year. So I apologize for not giving you more detail, but quite honestly, whatever we tell you is probably going to change.

No, it's fair. I understand. And then just in terms of credit, a lot of folks obviously worried about liquidity here. Any thoughts, concerns on sort of the credit quality of your customers today?

Well, you've got to watch that in terms of their ability to pay. We haven't had anything other than a few coal customers, coal distributors in North America, but certainly that's something that you want to keep an eye on. certainly our liquidity is extremely good. And you can see that from our numbers. I think it's one of the best investment theses of our company today is that we have minimal debt and good track record for cash and great margins behind it. And so we're in very good shape. But we're watching your question very closely.

Great. Thanks so much. I'll pass it on.

I think our next question is coming from Mig Dobre from Baird. Your line is now live.

Good morning, everyone. I guess my first question, I understand we're in uncharted territory here, and it's very difficult for you to provide guidance. So I'm not asking you to provide guidance, but I'm asking for historical perspective. When you look at your business, ITS specifically, and you look at the various end markets, can you give us a sense for what a recession looks like, what prior downturns have looked like? And if you could maybe extend that comment to the various end markets, the ones that really kind of move the needle for you, that would be helpful because, again, you know, we can make our own assumptions if this is going to be more difficult or maybe less difficult than a typical recession. But I think starting with that framework would probably be really helpful.

So, Vic, if you cast your mind back to 2009, that's probably the only applicable market condition we can point to. Obviously, that was a result of the credit crisis and not necessarily what we're experiencing today. That was a broad effect. It resulted in around a 10% revenue decline in that year for the tool company. It came back extraordinarily quickly. It was one of the things that I've always admired about the Interpac tool business. When it came into 2010 and 2011, the business sprang back to life very, very fast as things got moving again. The difference in this market is that we have a different type of disruption, and the disruption to our revenue stream and the potential to be rather broad is the hard part to predict. So looking back to 2009 is probably the best lead indicator, but certainly it shouldn't be used as the exact example.

No, sure. So you're essentially saying low double-digit decline. And I'm wondering, from a cost structure standpoint, there's been a lot that changed inside your company. Can you give us a sense for how you're planning on running the business in terms of what you expect decrementals, in theory, to be on this kind of a swing?

Yeah, the decrementals are where we always have projected them. like you would have with any high margin business. There's a couple elements of the Interpac tool group that are quite attractive in this type of market is we have a very low fixed cost in terms of number of machine tools and factories and things that cause massive underabsorbed. Now, there is a base level that we have to keep running at the factories because when we do come back to life, so there is a minimal level we will run at in terms of assembly labor and things of that nature. But on the decrementals, we have a fairly good idea of what that is. Structurally, we know what our cost structure needs to look like. And I think from that perspective, we're well positioned to take a revenue decline in the short term and still be a healthy and vibrant company. I can let Rick give you some more color on the actual decrementals if you'd like, but it probably isn't going to help you too much in projecting the business.

I'm sorry, go ahead.

This is Rick. I think in terms of normalized decrementals, to Randy's point, right now that's about all we can provide, and I apologize that I didn't hear the front part of the question because for whatever reason the speaker line was dropped, so...

The impact would be to our margin is the company structured to operate within that environment given the decrementals. Is that accurate, Meg?

Pretty much, yeah. I mean, what we're talking about here are pretty significant volume declines, obviously. And again, I don't know if you're planning on being very active in responding to the environment by changing your workforce headcount or anything of the sort as to what might be different now versus in 2009 or in prior downturn. That's kind of the gist of it.

The good news, if there is any positive news here, is we had been working towards that already. So we had contingency plans to structurally change the composition of the company. And you can imagine our efforts to get to that 20% EBITDA margin was enormous. we were indicating a high degree of confidence. So that's why we executed that. And as Rick mentioned, we accelerated it. Arguably, it could have been just luck on our part that the acceleration helped us get ahead of this environment. But clearly, as the market changes, we will respond to it accordingly. But we feel like we've made the first steps to protect us from fairly large downturn.

And those were more structural in nature. So we definitely have a better structure than we had, say, in 2009. And certainly the last time we saw a significant war would have been in 18-ish, 17, 18. But we haven't, to our earlier comments, of course, as this progressed, you're going to look at workforce, you're going to look at plant operations, and we'll make different decisions that are responsive there. but definitely there's a fixed cost impact. We're in a better position from a structure, thus the acceleration, but we still have to monitor and take appropriate actions as this unfolds.

Great. Thank you, guys. Good luck.

Thank you. Our next question is coming from Stanley Elliott from Stifel. Your line is now live.

Hey, good morning, everybody. Nice to hear your voices. Thanks for the time. I guess starting off, is there a way that you could say maybe how orders are trended in March and just trying to kind of think about this and then maybe the visibility that you would have on services versus the products and the tooling piece of it?

Well, Stanley, we have a daily order report from a global basis. So Jeff and myself can see and his team sees a daily inbound order receipts. And the comments we've made in my script that for North America and Europe, which is our two biggest revenue drivers, have not seen a revenue inbound order drop. I think it's prudent to expect one at some point, and that's why we don't know the magnitude of it. But as of today, as we mentioned in our call, we haven't seen a significant change in that order rate. And Jeff sitting here with me, he can definitely comment as well.

Yeah, I'd echo what Randy just said. You know, we do track it daily, and Europe in particular has been relatively flat. Again, back to Randy's comments, you know, we started out Q2 pretty sluggish, and we did see a fairly good tick up as we got to the middle and late part of February, and those rates have come down a little bit from our normal end quarter push. But so far in March, yeah, not a lot of drama so far.

Thank you. And thinking about it, could you help remind us of the cash flow characteristics of this? I mean, obviously I remember it being very good, but you're kind of tracking down negative the first half of the year, moving to the seasonally stronger part. Is it fair to assume that you're still going to be generating – with the working capital piece, we'll still see some meaningful free cash flow contribution in the coming year?

Yeah, the thing about a high-margin business like we are, we have a very short cash-to-cash cycle. The only end of the, I'd say, of the DSOs that tend to be a little longer are some of the service revenue in the Mideast, but the remainder of the world, you have a DSO that's very attractive. So, Our cash generation capability is quite good. You know our margins are extraordinary. Arguably, if the margins are on a smaller revenue base, they're still outstanding margins. So, we do expect to continue to convert at close to 100%. Now, that could change as the volume flexes up and down. But this is a type of business that will generate cash and Many of us that had participated in the mining industry for many years, we spent a lot of time thinking about our break-even points and at what point do you stop generating cash. I can tell you we have those thought processes in mind. This is an extraordinary company with the ability to weather these things better than any business I've ever run. I don't want to overplay that, but it is certainly a very, very healthy company.

The thing I would say is The conversion rate will be strong. It always has been strong. Traditionally, I created 100%. Obviously, cash starts with EBITDA. So to the extent that the EBITDA comes down, we'll see some pressure on our cash flow generation. I think where we're positioned right now is we'll get the benefit of Coming into the year with the higher inventories, you saw those inventories and the working capital come down in this quarter. We should see continued benefit in the back half of the year, which will help offset some of the declining EBITDA. So we feel strong about our ability to generate quality earnings that really flows through the cash market. Can't really comment on what those numbers look like other than for sure, just like seasonally, the back half of the year, you won't be a cash user like we have been in the front half of the year and historically are. So feel better about the back half, monitoring you to top.

Perfect. Thank you guys so much. Best of luck. Thanks.

Thank you. Our next question is coming from Jeff Hammond from KeyBank Capital Markets. Your line is now live.

Hi, good morning. Good morning, Jeff. Hey, Jeff. So just on oil and gas, you know, clearly we've seen cycles and you have this, you know, COVID, you know, nuance here and difference. But just looking at the business that you've maintained, and I think you made a couple comments about, you know, maintaining capacity and having to do repair and maintenance versus an expectation of a drop. But just Give us a sense of what you're seeing there near term, what you're hearing from your customers, what you're seeing publicly, them saying about CapEx trends and maybe how to frame that within your business.

Okay, I'm going to start it off and I'm going to hand that over to Jeff because he's very close to our Mideast market where a lot of that activity is going on. When you see such a dramatic oil price drop, you typically will see a reaction from OPEC and major producers of throttling back shipping. we haven't seen that. And in fact, OPEX is projecting somewhere around 12 million barrels going out, which is up from where they were. Now, is that a cash flow implication that they have to maintain some degree of cash flow in their company, in their country? That's probably the root cause of that. But that said, it means that they still have to maintain those mid and downstream assets. And if you're going to ship that amount of oil, you've got to have your assets running properly. And so that probably will see some constraint on maintenance activity. They certainly are going to be very conservative in their maintenance spending because of just plain cash availability. But they also learn from past experience when they walk away from maintenance schedules, they have catastrophic failures at sites. And I think many oil companies learn the hard way on that. So I do think that there will be an impact, Jeff, but I don't think it's going to be a catastrophic stoppage of all maintenance activity. So I'm going to hand it over to Jeff. Maybe he can give you some more insights into what's going on in the Mideast right now.

Yeah, good morning, Jeff. Yeah, from our activities, you know, we have kind of a couple of different buckets. You know, we have the major outages that are planned well in advance. and we staff up and we get ready and get people in country to do those outages. Certainly some of those are being pushed out and primarily as a result of the COVID and some travel restrictions. The other side of the coin is really, as Randy mentioned, the ongoing maintenance activities, especially in Saudi, for example, where they're pumping a whole lot more oil and processing a whole lot more oil than they were previously. We are going to be opportunistic. I'll admit it. We have people in country ready to work, and there could be additional scopes that turn up there. As the volume out of one country ramps up, it's going to come out of other countries where we also have activities, so some of those jobs might get delayed. But on balance, our focus is on the maintenance activities, doing the best we can as jobs potentially get pushed out to utilize the resources we have in countries to tackle to tackle other maintenance opportunities. So we're just trying to balance it almost weekly and daily in some cases, but we do have a lot of folks on the ground, tools up, ready to go, and we're managing it as we can.

I think just like the last time we went through the oil price drop, you will see the delays. Yes, all of these assets have to be maintained. But we start to see those push-outs, the delays, the last-minute calls. And that kind of goes up against the last comment that Jeff was talking about, us having to manage tightly our utilization and where we have resources. What makes this more complex is the region shutting down borders and the movement and mobilization of labor. So, you know, we'll try to capture where we have boots on the ground. And as the border restrictions stay out there, we really are going to have to be opportunistic. And I think that's what makes this a little less predictable than just seeing projects delayed.

Okay. And then just on cost savings, it looks like the corporate expense came down as we thought it would. Is that kind of the right runway? And then as you talk about the savings and pulling it forward, maybe just I don't know if I was on late, but do you quantify the cost savings in the quarter and maybe how that flows in through the rest of the year?

Sure. From a high level first, as we do these changes, the redundancy, corporate versus segment, even some of the commercial activities at the segment level, overall business level, one of the things that I've been saying is the costs are just coming out. as we merge some of these functions to get down to what is less redundant and more efficient, you can't really look at the quote unquote corporate bucket and say, okay, is that a runway? We still have to relook at post restructuring, what goes into corporate versus what stays at segment. And those lines will be completely blurred. So what I can say is, largely done with the actions that will get us $10 million worth of annual savings. We expect $4 million of that to come through in the back half of the year. These are mostly headcount related, and so we feel good about the $4 million coming through to offset some of the challenges we'll have in the back half of the year. In terms of corporate and run rate, I don't think you can look at what you see in corporate this quarter and make any assumptions. I think it will look even different next quarter and as we go through the end of the year.

Okay. Thanks so much.

Thank you. Our next question is coming from Dean Dre from RBC Capital Markets. Your line is now live.

Thank you. Good morning, everyone. Good morning. I appreciate all the color you're providing this morning. And if there's one thing that jumped out so far in terms of the disclosures is no change in the order rates, the daily order rates, and that you clarified that includes right up until yesterday, I would presume. So how about can you start with your distributors? There was some commentary that maybe some of the smaller ones seeing some destocking, but and then. Where do they stand today? And how much of this business, when you say the daily order rates, these must be coming in electronically. And is there – maybe we can just start there. Thanks.

Okay. So the dealers, if you look at our global distribution footprint, it's well over 2,000 dealers. We break that in two buckets. One would be large, nationalized dealers like Grainger, Fastenal – and those types of major companies. And then we also even think about OEMs that we do business with, like Parker Hennepin, and OEMs that use our tools on a contract basis, like Caterpillar and others. And they each have a different ordering profile. And as we mentioned in our commentary, is those top, call it 10 big nationalized distributors, actually saw some marginal growth in our second quarter. And some of them were flat, some were up, but on balance, it was essentially on par with prior years. So we were really happy with that. I think that the broader distributors are certainly less inclined to worry about the daily order rates and thinking about the long-term positioning of inventory and where they need it. The smaller distributors are going to be extremely conservative. That's where we see just a very conservative approach because they don't have the lines of credit. And to some of the comments that we actually question about what about the liquidity of the dealers, the ones you have to be concerned about is the small owner operator that may not have the bank account to handle a work stoppage. So if they have to actually close up shop for a 30-day period because of the virus, that's something that many of them aren't prepared for. So that's the part that makes it extraordinarily difficult for us to provide you with a quantifiable revenue basis for our Q3, Q4, is because, quite honestly, we don't know at what point in time are certain states going to decide to go to a stay-in-place order. If that occurs, then certainly you're going to have a revenue disruption, and we don't know what that looks like right now. So, Dean, when we do, then we'll share that with you, but that's where it is. Your second part of the question is electronically. We have a lot of dealers that are capable of sending EDI files from the bigger ones, but most of them will come in via emails or via our dealer portal, and then the central order desk, whether it's Europe or here in the U.S., then enter those orders. They get entered within a 24-hour period on our system. So luckily they're not sitting on someone's desk for three days waiting for an order entry. It happens within typically hours of them receiving the notice from the distributor they're looking for something.

That's real helpful. And then second question would be, could you give some more color around the verticals? You called out the aerospace being positive. How about construction? Because we heard yesterday that HD Supply, they have a construction business, and they cited the fall-offs or at least the shutdowns both in Boston and the Bay Area. So you're getting some major metro areas shutting down construction. Are you expecting this to have a ripple effect, and are you seeing that in your business yet?

Well, that's part of the issue. We had guided in the original year, which was down – Essentially, in that three, down three to up one for the whole company in the original four-year guide, we had anticipated softness in multiple sectors. Now, that has certainly spread to the remaining sectors that are still positive. As I mentioned, my commenter is Errol, and then one that we obviously participate in, but it's technically not tool sector, which is medical. They are still up. But the remainders are all down. including civil construction and on and off highway vehicles and general maintenance repair. It's all in the red zone now, and there's plenty of statistics out there that make that pretty visible. The hard part is there's no exact reporting for our industry for retail activity, but generally speaking, that's what the distributor surveys are telling us. That's great.

Just lastly, I know from our perspective, we fully expected you to suspend guidance. That's the right thing to do. We've seen this before in, like, 2008, 2009. So that's what you're supposed to do. But I was curious when you said you would give updates during the quarter, within the quarter. Is there a plan around that? Will there be press releases? How do you think – what's the appropriate way to give an inter-quarter update? I think there's a –

I think any investor in any company needs to be clear on the dynamics right now. What we all hope for is a quick containment in Europe and in the U.S., where we see a reversal of the cases that are reported, which means that at a shorter period of time, we have less chance of a disruption of our revenue cycle, and people can start getting back to work on a shorter term. And that's kind of the inflection point I think every business CEO is looking for right now is what is that inflection point where we think the worst is behind us. At that point, then we can provide more clarity to what the market's going to look like. And that's what we're referring to. When we see those inflection points, then certainly we're going to provide some updates and potentially pull your guide.

And that would certainly be done, Dean, in a press release. or other public forum, but likely a press release once we have visibility that allows us to do that.

But we definitely need some stability here, and that may not come quickly. So as soon as we get clear space, we'll be in a position to know more. Right now, this is all happening, changing on an hourly basis. So I don't know when this will come. Hopefully, earlier in the quarter, we'll be able to do something.

Of course. I appreciate all the color, the candor, and best of luck to everyone. Thanks, Steve.

Thank you. Our next question is coming from Ann Dinan from J.P. Morgan. Your line is now live.

Yeah, hi, good morning. A lot of my questions have been answered, but you made a comment around the aerospace industry, and I wonder if you could just give us more color on what you're seeing there specifically and where you're seeing. I think you said you had several new project wins during the quarter, but just some color on that market and what you're thinking about as you look forward.

Yeah, so what we have is large orders for turning tools and inspection tools. And essentially, the turning tool allows the company to turn a jet engine on a very precise level to inspect every single turbine in the piece of equipment. And so that's a nice order that we've gotten. Second one is related to the military helicopter industry and is also a very nice order. But our aerospace business is primarily jet engine maintenance and, to a smaller extent, helicopter maintenance. And so those things today are primarily military in essence. And then we also have a large placement within the GE product lines that they provide to the commercial aircraft industry. No impact from the MAX issue. We haven't seen any fundamental impact to our business there at all.

Okay, so if these are primarily for maintenance, are they benefiting from the fact that with the MAX out, there's more older aircraft being brought back? Well, there was more old aircraft being brought back into capacity, and that's about to reverse itself with all of the cuts to capacities by airlines in the last week or so. So is that the way to think about that business from a fundamental perspective?

Yeah, I don't know if the MAX has caused recommissioning of older versions of the 737. I haven't heard that. I think the thing for us to look into the future on is what the airline industry impact. Will the MRO centers start dialing back some of their maintenance because they're not getting the airframe hours on those planes and they're pushing out the maintenance intervals? Again, that's the dynamics that we don't even know how to predict it at this point. So that's probably from a an aerospace tracking and MRO maintenance centers, they undoubtedly are looking at what are those intervals. Now, clearly on a piece of aerospace on an aircraft, it's not only time, it's airframe hours. So time is also the trigger to keep it FAA approved. So it may not change it a lot, but it's certainly something we're thinking about.

Okay, and then just a few clarifications. I don't think you answered the question directly, but what is your expectation of normalized decremental margins this cycle?

Yeah, I can tell you that – I'll turn this over to Rick to give you the number. If it was a normal business condition, we know what our decrements would be. We know what our increments have always been. So, Rick, I'll flip it over to you, but the problem is, Ann – It's not a normal scenario. So that's what I think we have to put a caveat on is that take those numbers for what they are. It's what we would see in a normalized market condition.

If you saw... I think we all appreciate that. We understand that. But give us the normalized target.

Okay. Rick, can you hear us?

I can. But I think what Randy is saying is I can't give you a back half normalized scenario. All I can give you is the historical, which you guys are fully aware of. I normalize EBITDA. So we don't know.

What was its last cycle?

Well, the last cycle, if you broke the business down to its individual components, certainly we were the actual incorporation. So you can't just take the actual decoramentals. You'd have to try to drill into the Interpac tool sector. But what we've always said on the increments, somewhere around 35 to 45% increments, decrements is going to flow in a similar manner. Now, we always try to keep it to the lower end of that because we can attack the cost structure. In a normalized situation, we would pull costs down fast enough to manage that as close to the 35 decremental margin as we could. To the extent you can't pull out the cost fast enough, which is in the situation we could see, then you're going to track higher in that range because you're going to have underabsorbed. The other element to think about is that there's a minimal operating level. And you can't just go dark on a factory and then try to bring it back online in another three months when we're back in business again. So there's going to be a minimalized cost structure, which will force you into the higher end of that decrement. And that's a piece that Rick and I don't want to try to predict because we don't know if tomorrow is going to be a 10% revenue hit or is it going to be greater or less. We can't tell you that. But I can tell you for modeling purposes and think between decremental, worst case 45, maybe a little higher. Best case on a normalized basis, somewhere around in that 35 range. And as we always said on the incremental side, 35 to 45%. And we've proven we've hit that because of the high margins we have.

I think the big difference is the factory impact. We saw announcements today of certain companies shutting down operations. If we lose one of our facilities, to Randy's point, then it's a completely different ballgame. Historically, if you go back, we were a very different company in terms of the profile, even for this fuel slash energy segment. Those don't really provide a good indicator of what we should expect. I think our 35 to 45, which we have reset for a normal operating scenario with this business that we have today, to Randy's point, managing the down, managing the up, so that, you know, what leverage we can as quickly as we can. But in this environment, the fixed structure costs, we may not be able to get all of those out, manage the decremental down.

Yeah, we totally appreciate all of that. So I appreciate the color. Then just one final other small one, and that's of your oil and gas business, could you break that out by region for us so we know how to track what's going on regionally in that business?

Yeah, we've never disclosed regionally because it does fluctuate depending on project types. And if you think back to our investor day, we talk a lot about North Sea, which is all kind of that mid to upstream, slight upstream, because it's essentially not over wellhead, but it's on platforms, producing oil platforms. So we're well positioned in the North Sea. That's a nice revenue stream for us. We're onshore in continental Europe, primarily on chemical and conversion sites. So technically, it's well into midstream to down. And then in the Mideast operations, it's all mid to down. And Mideast operations has always been our strongest area in terms of margin and revenue. But we've never given specifics on that. But the three primary areas to think about is North Sea, Mideast operations, and continental Europe for chemical and conversion sites. And then lastly, we do have operations in the Gulf states of North America, but that's certainly a smaller piece of the whole equation. But that's it.

Okay, and I'm assuming the Gulf state exposure is also generally chemical refining downstream?

Yeah, it's conversion sites and the big refineries are really great reoccurring revenue streams because they do need supplemental labor and it's great tool sales opportunities. So it's why I believe we have such a strong tool sales is because we're actually on those job sites and we're able to rent and we're able to sell when we're there. So It is quite helpful.

Okay, I appreciate the color. I'll get back in line. Thank you.

Thanks, Anne.

Thank you. As a reminder, that's star one to be placed in the question queue. Our next question today is coming from Justin Bergner from GDOT Research. Your line is now live.

Thanks for taking my questions. Good morning, Randy. Good morning, Rick.

Good morning.

Good morning. Just to start, on the oil and gas side, I was going to ask about the geographic breakdown. You covered that. Are the oil and gas margins and the contribution or the incremental and decremental margins therein at the company average, or are they below the company average given the higher service component therein?

Well, let's go back to our investor day where we really laid out the composition of our revenue stream. So where we are purely ONG coverage is in tool sales, which is obviously very high margin tool sales. But when you think of pure service, that's down to that, call it 14% to 15% of the overall revenue stream. So when we call it services, which is both rental operations and labor for hire, that is a fairly small piece of our revenue stream. and pure service is a very small piece of the revenue stream. That has the lowest margins of everything. But as I said in Investor Day, 80% plus of our revenue stream is coming from margins at plus 50%. So when you think about our oil and gas exposure, a piece of it is pure labor for hire, a piece of it is rental operations, and then a piece of it is tool sales. And all in, it's going to comprise that 25% to 30% revenue exposure overall.

That's helpful. Is it fair to say that oil and gas has a larger component of rental and service than your business as a whole, higher than that 15%?

Yeah, sure. That O&G is definitely that, but you've got to remember a lot of it is whether it's downstream or mid makes a big difference in this type of environment. Anything that's CapEx related, you can imagine that $22 oil is not going to go forward. And if you remember back to the days when we were reporting as action, we had extreme upstream exposure, which was well development and exploration. That type of work, I'm certain, is going to come to a complete halt. Our exposure to that has been largely eliminated. So where I think our strength is we're still in the maintenance of those assets that are all over the world. And there's billions and billions of dollars of assets all over the world that still have to be maintained. Whether you've got $50 oil or a $22 oil, you still have to maintain those assets or they will decay and fall apart. So we know it's going to have a fundamental downturn but it's never going to just vanish like you would see in the capital side of the business.

Great. My other question.

Oh, go ahead. Clean Fox is in our business as service, and the oil and gas concentration is clearly in that business, and that business clearly carries the lower incremental margins. So I think if you think about that relative to the overall business, that kind of gives you the sense of, you know, what that concentration looks like.

Great. My second question was on the HTL acquisition, and congratulations there. It seems like a great deal once the world sort of stabilizes. Just to understand the metrics you provided, is there anything unusual about that 4.5 million EBITDA in terms of unusually high, given that that translates into a 7.5 times multiple? Any sort of comments on the accretion that you could expect from this type of deal in a normal market environment?

I think the main thing to remember, too, that number is not with Synergy. That is just a pure number of what we paid versus their normalized profitability. And so that's why this acquisition, although relatively small, It serves a lot of great things for us. First of all, it helps us complete our product line on the bolting side. It gives us essentially an economy product range, which is fully interchangeable with the entire installed base. And that's really an interesting thing for me because if you think about in an environment where we are right now, we're going to have customers looking for parts and equipment to keep their existing tools running. And we now have access to that massive install base, and our dealers are quite interested in that. Secondly, which I think has been a very big help for us, is we were evaluating how to consolidate our European footprint into one location. That would have required some capital to do that, and not a small number. So their site is very nice in Newcastle. It's well run, and it's large enough to contain our manufacturing facilities, and the primary one is about eight miles away, also in Newcastle. So there's no impact to our engineers, our manufacturing people, and we're working through a plan right now how to stand that up as a world-class assembly and manufacturing site. So not only did it give us a great new product line, It solved the manufacturing footprint problem and averted us from having to deploy CapEx there to build a site to consolidate into. And it gives us a new product range, which will arguably help us in the future. So I just feel like this one was a home run as well. We proceeded with it.

Thank you. Our next question is a follow-up from Jeff Hammond from KeyBank Capital Markets. Your line is now live.

Hey, guys. Just staying on capital allocation, just maybe how you're thinking about buybacks given the dislocation in the stock. Obviously, a lot of this is happening near term, but how are you thinking as you have conversations with some of these small privates, how the M&A landscape may change or not change?

Well, I made a comment on that on my script, but I'll recap that again. On the share buybacks, we still believe that that's a fundamental part of our capital allocation strategy. You can see that we had a 1015B program that did trigger, and we purchased around a half a million shares. So that is clear that that happened when it dipped below that trigger point. Obviously, we're looking at our balance sheet very, very hard. We want to make sure that we conserve cash. We're very healthy right now, but we don't know what the future will hold. So my comments in there surrounding share buybacks is obviously we'll continue to look opportunistically about that. M&A, we continue to build our pipeline, but we'd like to see this stabilize a bit before we deploy any more cash towards the M&A activity. We think it's a good opportunity to continue to look at that pipeline. And there are plenty of targets that we still believe are good additions to our tool group. But we're going to take a very slow approach because we think having a absolutely envious balance sheet right now is one of the things that any public company in this type of market condition would hope for because our debt position is so low that obviously our interest expenses and everything are low that goes with it. It puts us in an extraordinarily healthy position. and the ability to weather a storm no matter what it looks like. So we want to keep that intact, and so we'll take a very slow and pragmatic approach to both topics.

Thank you. We have reached the end of our question and answer session. I'd like to turn the floor back over to management for any further or closing comments.

Thank you, everybody, for joining us today. We will be available today for follow-up questions, should you have any, and appreciate your support of Interpac Tool Group.

Thank you. That does conclude today's teleconference. If you may disconnect your line at this time and have a wonderful day. We thank you for your participation today.