Federal Signal Corporation

Greetings, and welcome to Federal Signal Corporation's third quarter earnings conference call. At this time, all participants are in a listen-only mode. A question and answer session will follow the full presentation. If anyone should require operator assistance during the call, please press star zero on your telephone keypad. Please note, this conference is being recorded. I would now like to turn the conference over to your host, Ian Hudson, Chief Financial Officer. Thank you. You may begin.

Good morning, and welcome to Federal Signal's third quarter of 2020 conference call. I'm Ian Hudson, the company's Chief Financial Officer. Also with me on the call today is Jennifer Sherman, our President and Chief Executive Officer. We will refer to some presentation slides today, as well as to the earnings release which we issued this morning. The slides can be followed online by going to our website, FederalSignal.com, clicking on the Investor Call icon, and signing into the webcast. We have also posted the slide presentation and the earnings release under the Investor tab on our website. Before we begin, I'd like to remind you that some of our comments made today may contain forward-looking statements that are subject to the safe harbor language found in today's earnings release and in Federal Signals filings with the Securities and Exchange Commission. These documents are available on our website. Our presentation also contains some measures that are not in accordance with U.S. generally accepted accounting principles. In our earnings release and filings, we reconcile these non-GAAP measures to GAAP measures. In addition, we will file our Form 10-Q later today. I'm going to begin today by providing some detail on our third quarter results before turning the call over to Jennifer to provide her perspective on our performance and our outlook for the remainder of this year. After our prepared comments, Jennifer and I will address your questions. Our consolidated third quarter financial results are provided in today's earnings release. In summary, despite challenging circumstances, our teams continue to execute at a very high level, again delivering an adjusted EBITDA margin in excess of our target range and generating further positive cash flow. Consolidated net sales for the quarter were $280 million compared to $309 million last year. Consolidated operating income in Q3 this year was $34 million compared to $38.6 million last year. On an adjusted basis, consolidated operated margin in Q3 this year was 12.4% compared to 12.7% last year. Consolidated adjusted EBITDA for the quarter was $45.9 million compared to $49.8 million in Q3 last year. That translates to a margin of 16.4% in Q3 this year compared to 16.1% last year. Net income in Q3 this year was $25.3 million compared to $28.4 million last year. That equates the gap EPS of 41 cents per share compared to 46 cents per share last year. On an adjusted basis, EPS Q3 this year was 42 cents per share compared to 47 cents per share last year. Orders in Q3 this year were $266 million up $65 million or 32% from Q2 of this year. Our backlog at the end of the quarter remained healthy at $320 million. In terms of our third quarter group results, ESG sales were $231 million compared to $254 million last year. ESG's adjusted EBITDA for the quarter was $43.9 million compared to $46 million a year ago. That translates to an adjusted EBITDA margin of 19% in Q3 this year, above our target range and up 90 basis points from last year. SSG's third quarter sales were $49 million this year compared to $55 million last year. SSG's adjusted EBITDA for the quarter was $8.2 million compared to $9.4 million a year ago. And it was $16.8% compared to 17.2% last year. Corporate operating expenses in Q3 this year was $6.4 million compared to $5.9 million last year. Turning now to the consolidated income statement, gross margin in Q3 this year was 25.9% compared to 26.6% last year. Our results in Q3 this year included the recognition of approximately $2 million of excess overhead costs that flow through the income statement as inventory period costs due to lower production levels. As a percentage of sales, our selling, engineering, general, and administrative expenses for the quarter were down 20 basis points from Q3 last year. Other items affecting the quarterly results include a $200,000 decrease in acquisition-related expenses, a $300,000 increase in other income, and a $900,000 reduction in interest expense. largely due to lower average interest rates in comparison to the prior year. Tax expense in Q3 this year was down $300,000 compared to the prior year, largely due to lower pre-tax income levels and the recognition of a $1.3 million excess tax benefit from stock compensation activity. This tax benefit added approximately two cents to our third quarter EPS and led to our effective tax rate for the quarter being lower than expected at around 23%. At this time, and assuming no additional discrete tax benefits, we expect our full year effective tax rate to be approximately 24%. On an overall gap basis, we therefore earned 41 cents per share in Q3 this year, compared with 46 cents per share in Q3 last year. To facilitate earnings comparisons, we typically adjust our gap earnings per share for unusual items recorded in the current or prior quarters. In the current year quarter, we made adjustments to gap earnings per share to exclude acquisition-related expenses, coronavirus-related expenses, and purchase accounting expense effects. On this basis, our adjusted earnings for the third quarter were 42 cents per share, compared with 47 cents per share in Q3 last year. Looking now at cash flow, where we generated $15 million of cash from operations in Q3 this year, bringing the total amount of year-to-date operating cash generation to almost $80 million. That represents improvements of $21 million or 36% compared to the prior year period. Overall, our capital expenditures so far this year have totalled approximately $24 million, up from $21 million last year. For the fall year, we are currently expecting total capex of between $30 million and $35 million. Jennifer will provide some additional detail on some of these investments shortly. We ended the quarter with $173 million of net debt and current availability of $251 million under our credit facility. As a reminder, we executed a new five-year, $500 million credit facility last July. We also have the option to trigger an increase in our borrowing capacity by an additional $250 million for acquisitions. Our net debt leverage ratio remains low and essentially unchanged from year end. Cash flow so far in October has met expectations with no material change in customer delinquencies or bad debts. A strong cash flow generation, low debt levels, and strong financial position will help us to navigate through the ongoing challenges presented by this pandemic. At the same time, we remain committed to our long-term capital allocation priorities of investing in organic growth initiatives, pursuing strategic acquisitions, and funding cash returns to shareholders. On that note, we paid a dividend of $0.08 per share during the third quarter, amounting to $4.8 million, and we recently announced a similar dividend for the fourth quarter. During the quarter, we also spent $200,000 buying back shares. We currently have about $91 million of authorization remaining under our stock repurchase programs. That concludes my comments, and I will now like to turn the call over to Jennifer.

Thank you, Ian. I'd like to start by giving my profound thanks to each of our employees and our dealer partners for their ongoing commitment. I am immensely proud of how our teams have managed through these challenging times. Since the outbreak of the pandemic, a critical area of focus has been on the health and safety of our employees, and we have implemented a host of measures to ensure a safe work environment for our employees. These steps have included adjusting our production processes at our facilities to comply with safe distancing guidelines in order to protect the safety of our employees. We have invested in temperature screening capabilities at most of our facilities, issued a mandatory face mask policy, provided our employees with additional paid time off, and made at-home coronavirus testing kits available for free to our employees and their family members. Concurrent with similar trends in many states across the United States, we have unfortunately experienced a recent uptick in the number of confirmed cases within our employee base. Nearly all of those cases appear to have originated from outside of the workplace. Our teams continue to do a fine job navigating through the COVID-related disruptions and protecting our employees at our facilities by adhering to our safety protocols. Four years ago, we began a transformational journey aimed at reducing the cyclicality of our businesses. Through a combination of organic initiatives and strategic acquisitions, we have diversified our revenue streams and our end markets, and in some cases, deliberately identifying new sources of revenue that were counter-cyclical to our legacy federal signal businesses. Primarily through the acquisitions of JJE in 2016 and Highmark last year, we have been successful in expanding our product offerings to include rentals, used equipment, parts, and services. In addition, with the acquisitions of TBI in 2017 and MRR last year, combined with our new product development efforts, we have added new end markets such as construction, infrastructure, and utilities. On the organic side, we have entered the utility end mark with a broad product offering of safe digging equipment. We have also benefited from the ongoing application of our 80-20 principles and have worked to develop robust contingency tools to invoke as needed. These strategic decisions have resulted in tremendous benefits so far this year as we continue to operate at a very high level in these unprecedented times. The strong results that we were able to deliver and the excellent operational execution that our teams have demonstrated in challenging circumstances were a testament to the strategy, the quality of our businesses, our experienced leadership teams, the commitment of our employees, and the agility of our team. Our third quarter order intake was up $65 million or 32% compared to the second quarter. further evidencing our strong business fundamentals, broad range of product offerings, and diversity in our end markets. Overall, our operating results for the quarter were in line with the high expectations that we had entering July. As we have previously discussed, the second and third quarters are seasonally strong periods for many of our businesses, and in particular for TBEI, our dump truck bodies and trailer businesses, whose products are frequently used by customers working in construction end markets during the warmer summer months. Within our specific end markets, much of the sequential improvement resulted from our truck body's business, where we have seen the quickest recovery. On our last call, we discussed the significant drop-off in orders at the beginning of April, driven in large part by the lack of available customer-supplied chassis at TBEI, with many of the chassis OEMs shut down. we have seen the chassis situation continue to improve. For example, in the third quarter, chassis availability at one of our plants averaged approximately 10 deliveries per day, which is only slightly behind last year and much improved over the low point of approximately two deliveries per day in May. With those improving conditions and the efforts of our sales teams, TBEI's orders were up $16 million or 40% sequentially from the second quarter, and up $12 million, or 28% year-over-year. During the quarter, TBEI was also able to overcome certain pandemic-related disruptions and deliver its highest quarterly EBITDA margin since we completed the acquisition a little over three years ago. Strong seasonal aftermarket performance also contributed to the impressive third quarter results. As a reminder, rental activity and parts and service revenues are typically higher in the second and third quarters of the year because many of the company's product and service offerings are used for maintenance activities in North America, where usage is typically lower during periods of harsher weather conditions. For the quarter, Our aftermarket revenues represented approximately 27% of ESG's revenues for the quarter, which is up from 24% in the prior year period. The strength of our aftermarket business contributed to the strong margin performance and year-over-year improvement during the quarter. We saw nice improvement in our rental utilization in Canada with utilization levels for major product lines recovering to pre-COVID levels and exceeding our target levels by the end of the quarter. Our U.S. rental fleet also experienced sequential monthly improvement utilization, although at a slower rate than in Canada. These factors contributed to a 13% sequential quarterly increase in aftermarket revenues, essentially recovering to levels that were achieved in the prior quarter. With sales travel slowly resuming, we were also able to increase the amount of equipment demonstrations performed during the quarter. As an example, we were able to complete 330 demonstrations and presentations of our Truvac branded products in Q3 this year. That represented a 76% increase from the amount performed in the second quarter and also exceeded the amount performed in the prior year period. Once again, we delivered margin performance above the upper end of our target range, achieving an adjusted EBITDA margin of 16.4% which included the impact of certain cost-saving actions that we implemented in response to the pandemic. Through the first nine months of the year, we have operated above the high end of our target range, underlining the flexibility and responsiveness that are inherent in our 80-20 operating principles. Given the strong margin performance in these difficult times, we are considering raising our margin targets once we get past the ongoing uncertainty related to the pandemic. While managing through this difficult quarter, we emphasized a continued focus on our long-term growth objectives by investing for the future growth of the company. First, we are continuing to make significant investments in our existing plants to add additional capacity to support our long-term growth and to gain operational efficiencies through the use of newer machinery and equipment. We continue to make progress on our plant expansions at Vactor, Rugby, and MRL. And during the quarter, we also purchased our TDI manufacturing facility and additional property in Lake Crystal, Minnesota. With the purchase of the building and property, we expect to increase capacity and gain operating efficiencies to better serve customers in new and existing markets. One such example of this further market diversification and significant organic growth opportunity is in the expansion of our military business. In partnership with Oshkosh Defense and MAC Defense, we have recently been awarded two contracts to supply dump bodies to the military. Over the multi-year terms of the contract, these awards have the potential to contribute up to $30 million of revenue. We are excited by the opportunity to be in a position to support this initiative from our expanded facility to which we expect to have an improved operational layout and enhanced painting capability. Second, we are also continuing to invest in both new product development and have accelerated the development of our digital customer experience tools that will benefit our customers. Both remain key priorities, and we continue to make meaningful progress in a number of areas. At our Jetstream business, we recently introduced our new 400-horsepower pump into our rental fleet, which provides an effective way for customers to gain familiarity with our new product introduction. Customer feedback to date has been very positive, and utilization levels during the fall shutdown season so far have been high. In addition, I'm excited to share with you that as part of our digital customer experience strategy, in Q4, we are planning to launch our e-commerce site at SSG. We are expecting that in the upcoming years, our e-commerce platform will become a meaningful tool to reach new customers, provide even stronger support to our existing customers, grow our revenue, and capture additional market share. Current conditions accelerated the need for contactless sales and marketing tools. Our businesses responded swiftly. Within our safety and security systems group, we have introduced several videos highlighting the features and functionality of our products, while within our environmental solutions group, we are utilizing digital programs to keep prospects and customers informed and engaged with our brands using social media tools like LinkedIn and Twitter. Using these tools, we reached approximately 900,000 contacts with a little over 5,000 engagements during the quarter. That level of engagement with our content was about double the standard benchmark for engagement across all industries. In July this year, with cooperation from many of our dealers, we also launched a website to sell our used equipment inventory. Through this website, customers can purchase used Vassar combination sewer cleaners, catch basin cleaners, and our TrueVac vacuum excavators from us or many of our dealer partners. I'm also pleased to report that earlier this month, we issued our inaugural long-form sustainability report. I'm incredibly proud of the progress that we've made on our environmental, social, and governance initiatives and thrilled to share many of our accomplishments through the issuance of this report. With our commitment to continuous innovation, strong governance, and reduced resource consumption, we continue to build and deliver equipment that has beneficial impacts to both the environment and human safety. We are proud to be a company whose products have inherent environmental and social importance, and we hope that our pride is evident upon reading the report. We have also recently launched an initiative to improve our corporate social media presence. Many of our businesses are very active on social media. This has inspired our corporate team, and you can now find the company pages on Instagram and Facebook, both with the at Federal Signal Corp handle. We intend to use this platform to increase engagement with all stakeholders, including employees, customers, investors. We will also leverage this channel to showcase our outstanding brands, provide an insight into our culture, and to also celebrate the trivial along with the significant, all with a little bit of humor and fun. Finally, the foundation of these growth initiatives is our continued strong cash generation, which, as Ian mentioned, is significantly up compared to last year. Turning now to our outlook for the rest of this year. Our track record of solid execution during these challenging times and the continued strength of our backlog provide us with confidence in the remainder of the year. As a result, we are raising our full year adjusted EPS outlook to a new range of $1.58 to $1.66 from the previous range of $1.53 to $1.65. The new range would represent the second highest adjusted EPS in our history, surpassed only by the record set last year. While our outlook assumes some level of operational inefficiencies associated with the ongoing coronavirus-related challenges, it does not take into account any significant disruptions through the end of the year. Looking forward, we remain focused on delivering strong results while continuing to execute on our long-term strategy. Our strong balance sheet will continue to provide opportunities for us to drive both organic growth initiatives and M&A. Over the last several years, we have transformed our end market exposure and implemented a revenue diversification strategy that has enabled us as a company to adjust as needed to market conditions, develop strong contingency planning protocols, continue our journey of 80-20, and continue to invest for growth. We are positioning Federal Signal in a manner in which we fully participate in the post-pandemic recovery by increasing capacity within our facilities, reducing lead times to a level where we can better respond to customer needs, investing in new product development, and gaining market share. Like many, we are closely monitoring the outcome of the upcoming election and are optimistic about potential actions that either side may take to stimulate the economy including potential federal stimulus packages that may be provided at the state or local level to aid municipalities whose budgets have been impacted by the pandemic, and a potential infrastructure bill. Within our industrial markets, we continue to be bullish about our long-term prospects with respect to our safe digging initiative and our monitoring for the developments on the regulatory front closely. On the M&A front, Our strong financial position and history of robust cash flow generation will allow us to pursue strategic acquisition. In general, we see M&A markets beginning to open up again with more deals flowing through. Although the pandemic has created some logistical challenges on the M&A front, we are now more optimistic in our ability to get deals done than we were earlier in the year. With that, we are ready to open the line for questions. Operators?