Federal Signal Corporation

Thank you for standing by. This is the conference operator. Welcome to the Federal Signal Corporation second quarter earnings conference call. As a reminder, all participants are in listen-only mode and the conference is being recorded. After the presentation, there will be an opportunity to ask questions. To join the question queue, you may press star then one on your telephone keypad. Should you need assistance during the conference call, you may signal an operator by pressing star and zero. I would now like to turn the conference over to Ian Hudson, Chief Financial Officer. Please go ahead.

Good morning, and welcome to Federal Signal's second quarter 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 news 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 news 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 second quarter results before turning the call over to Jennifer to provide her perspective on our performance, market conditions, and thoughts on the rest of the year. After our prepared comments, Jennifer and I will address your questions. Our consolidated second quarter financial results are provided in today's earnings release. In summary, we delivered another outstanding quarter with operating results exceeding our expectations despite dramatic increases in commodity costs, and ongoing supply chain disruption, including factors linked to the global shortage in semiconductors. As a reminder, in the prior year quarter, we also took several cost saving actions in response to the uncertainty created by the pandemic, which reduced our costs in Q2 last year by approximately $14 million. While most of these savings were either temporary cost reductions or volume related, some were more permanent actions. In Q2 this year, the return of many of these costs represented a year-over-year expense headwind of approximately $5 million. Consolidated net sales for the quarter were $335 million, up $65 million, or 24% compared to last year. Consolidated operating income for the quarter was $38.5 million, up $7.2 million, or 23% compared to last year. Consolidated adjusted EBITDA for the quarter was $51.9 million, up $6.5 million, or 14% compared to last year. That translates to a margin of 15.5% in Q2 this year compared to 16.8% last year. Net income for the quarter was $29.7 million, up from $21.4 million last year. That equates to GAAP EPS for the quarter of $0.48 per share, up 37% from $0.35 per share last year. On an adjusted basis, EPS for the quarter was $0.50 per share, an improvement of 19% compared to $0.42 per share last year. Order intake for the quarter was again outstanding, with orders of $361 million representing an increase of $159 million, or 79%, compared to Q2 last year. Consolidated backlog at the end of the quarter set a new company record at $437 million. That represents an increase of $104 million or 31% compared to Q2 last year and an increase of $133 million or 44% from the end of last year. In terms of our group results, ESG's net sales for the quarter were $281 million, up $67 million or 31% compared to last year. ESG's operating income for the quarter was $38.5 million, up $9.9 million, or 35% compared to last year. ESG's adjusted EBITDA for the quarter was $50.6 million, up $9.7 million, or 24% compared to last year. That translates to an adjusted EBITDA margin for the quarter of 18%, at the high end of our current target range, but down 110 basis points compared to last year. ESG reported total orders of $300 million in Q2 this year, an improvement of $142 million, or 90%, compared to last year. SSG's net sales for the quarter were $53 million, compared to $56 million in Q2 last year, which included a large fleet sale of public safety equipment to a customer in Europe. SSG's operating income for the quarter was $7.8 million compared to $10.4 million last year. SSG's adjusted EBITDA for the quarter was $8.7 million compared to $11.7 million last year. Adjusted EBITDA margin for the quarter was 16.3% compared to a record margin of 20.9% in Q2 last year, which includes favorable sales mix and lower operating expenses. SSG's orders for the quarter were $61 million, up $17 million, or 39% compared to last year, with most of the improvement resulting from higher demand for public safety equipment in both domestic and international markets. Corporate operating expenses for the quarter were $7.8 million, compared to $7.7 million last year. Turning now to the consolidated income statement, where the increase in sales contributed to an $11.3 million improvement in gross profit. Consolidated gross margin for the quarter was 24.4% compared to 26% last year. As a percentage of sales, our selling, engineering, general, and administrative expenses for the quarter were down 100 basis points from Q2 last year. Other items affecting the quarterly results include a $1.3 million reduction in restructuring charges, a $2.3 million decrease in other expense, and a $700,000 reduction in interest expense. Tax expense for the quarter increased by $1.9 million, largely due to the increase in pre-tax income levels, partially offset by higher excess tax benefits from stock compensation activity. Including the effects of these higher tax benefits Our effective tax rate for the quarter was 21.2% compared with 22.2% last year. At this time, we expect our full year effective tax rate to be approximately 23%. On an overall gap basis, we therefore earned 48 cents per share in Q2 this year compared with 35 cents per share in Q2 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 GAAP earnings per share to exclude acquisition-related expenses, pension-related charges, coronavirus-related expenses, and purchase accounting expense effects. On this basis, our adjusted earnings for the quarter were $0.50 per share compared with $0.42 per share last year. Looking now at cash flow, where we generated $13 million of cash from operations during the quarter, bringing the year-to-date operating cash generation to $39 million. During the quarter, we elected to accelerate the timing of certain tax payments to preserve tax planning flexibility in the event of a possible increase in U.S. corporate tax rates. With this approach, we expect to see lower tax payments in the third and fourth quarters, while at the same time creating the potential for future tax savings. In addition, in Q2 last year, our cash flow benefited from certain deferrals that were permitted under the CARES Act. We have also increased investments in our rental fleet, giving the improving utilization levels we are experiencing. For the rest of the year, we are expecting strong cash flow generation, and we continue to target cash conversion of approximately 100% on a net income basis. We ended the quarter with $169 million of net debt and availability under our credit facility of $268 million. Our current net debt leverage remains low. With our financial positioning rate remaining strong, we have significant flexibility to pursue strategic acquisitions, invest in organic growth initiatives, and return cash to stockholders through dividends and opportunistic share repurchases. On that note, we paid dividends of $5.5 million during the quarter, reflecting a dividend of 9 cents per share, and we recently announced a similar dividend for the third quarter. That concludes my comments, and I would now like to turn the call over to Jennifer.

Thank you, Ian. I'd like to start my comments with a quick update on a subject that we've been talking about for a long time, an infrastructure bill. The reports from late yesterday were encouraging. It finally appears that infrastructure legislation is likely. Some components reported to be part of the deal, which includes a total of $550 billion in new federal investment in U.S. infrastructure include $110 billion for roads, $73 billion for power infrastructure, $65 billion to expand broadband access, $55 billion for water infrastructure, $46 billion for environmental resiliency, and $11 billion for transportation safety. We are optimistic that an infrastructure package in these areas would provide funding that would support the use of the majority of our product offerings, including equipment sales and rentals of dump trucks and trailers, safe digging trucks, road marking equipment, sewer cleaners, and street sweepers. Turning now to our performance in the quarter. Our teams, again, delivered impressive results with meaningful growth in both the top and bottom line while achieving adjusted EBITDA margin towards the high end of our target range despite widespread supply chain disruptions and an unprecedented commodity cost environment. Top line growth was largely across the board with particular strength in the sales of dump truck bodies and trailers, which were up around $15 million from Q2 last year. Thanks to the proactive action of our teams, we were also able to respond to customer demand by delivering more safe digging trucks and sewer cleaners than we had originally anticipated. Over the last several years, we have successfully diversified our revenue streams and end market exposures through a combination of organic growth initiatives and M&A, and that helped us to partially mitigate the impact of these factors during the second quarter. Another area of notable strength during the second quarter was in our aftermarkets business. While the second quarter is typically a seasonally strong period for aftermarkets, We originally had some concerns entering the quarter that rental activity in Canada would be adversely impacted by various shutdown measures taken in response to the pandemic. Thankfully, vaccination levels are increasing quickly in Canada and restrictions are easing. Rental activity and demand for used equipment was higher than expected with rental utilization in Canada exceeding our targets and returning to pre-pandemic levels. Rental utilization in the U.S. is also improving. For example, rental utilization of our jet stream water blasting equipment exceeded the levels we saw in 2019. The improved utilization followed a strong spring shutdown cleaning season, which has historically been a leading indicator of industrial and market recovery. In June, with a combination of high rental utilization and strong used equipment sales, our JJE rental business reported the highest monthly revenue in its history. Those favorable trends have continued into July as well. Overall, our aftermarket revenues in Q2 this year were up $26 million, or 46% year over year, growing to represent a higher share of ESG revenues for the quarter at around 30%. That shift in mix helped to partially mitigate the impact of higher commodity costs and production-related inefficiencies associated with supply chain disruption, helping ESG to deliver an adjusted EBITDA margin at the high end of the current range. As we mentioned on our last call, following the suspension of chassis production at one of our suppliers, we made the decision to temporarily shut down production at our facility in Streeter, Illinois, for a two-week period around the Fourth of July holiday. The team worked tirelessly to mitigate the impact of this short-term disruption by effectively managing production schedules to meet record customer demand. With the expansion of our street or facility now complete, our production in May approached the record levels we experienced in 2019, helping us to deliver more units than anticipated ahead of the shutdown, despite the inefficiencies associated with supply chain constraints. Like many companies, we are also experiencing increased freight charges as we expedited the supply of certain components and higher commodity costs. As they have done in the past, our procurement teams took several proactive measures, including securing availability of certain steel and locking in pricing based on forecasted needs. We also worked diligently to mitigate the impact by implementing several price increases and surcharges. Despite these actions and with demand being significantly higher than we had expected, we experienced an unfavorable price-cost year-over-year headwind of approximately $3 million during the quarter, mostly within our dump truck and trailer business. In Q2, we also realized the benefits from strategic investments we had made in prior quarters in building additional stock units and procuring additional chassis so that we had greater flexibility to meet customers' needs. These investments have enabled us to deliver on customer expectations, in some cases supplying chassis when they were unable to procure the chassis, which resulted in a higher concentration of low-margin chassis that we supplied as opposed to customer-supplied chassis. Although this unfavorable impact on margins this quarter, we are playing the long game by prioritizing customer deliveries and satisfaction. We continue to believe that in these challenging times, the strong will get stronger, and we've seen this happen. While the current widespread macroeconomic factors could have some impact on our margins in the near term, we are taking this opportunity to try to leverage our competitive advantage to gain market share. Demand for our product offerings continues to be strong as demonstrated by our outstanding second quarter order intake of $361 million. Our teams are energized as we enter the second half of the year with a record backlog reflecting strength across our end markets and continued confidence in a post-pandemic recovery. This sentiment has been widely shared by our customers and dealer partners and seems to be further solidified by recent economic stimulants. As a reminder, the American Rescue Plan COVID relief package passed earlier this year included $1.9 trillion of economic stimulus with approximately $350 billion earmarked for state, local, and territorial governments for a variety of purposes, including the maintenance of essential infrastructure such as sewer systems and streets. In May, the first $175 billion tranche started to be distributed by the Treasury Department with a second tranche expected in 2022. Recent market planning sessions with our dealer channel highlighted early indications that the first tranche was starting to be allocated to essential service purchases. As a provider of equipment used for these essential services, like sewer cleaning and street sweeping, we stand to benefit from additional aid that may be provided to state and local sources for these purposes. On the municipal side, demand for sewer cleaners and street sweepers remains high. Within our SSG public safety businesses, we are also seeing benefits from new product introductions and our ability to meet customer demand. We believe we are in a stronger position than many of our competitors and are gaining share. We've also seen a notable uptick in our industrial end markets with improved orders for our guzzler and jet stream products. Orders within our dump body and trailer business in Q2 this year were more than double last year's orders, with growth across all end markets resulting in a record backlog. This is another area where we believe we are gaining share that will position us well for the future. While our backlog is at a record high, there are a few headwinds that we, like many other industrial companies, will continue to monitor closely during the second half of the year. The first factor that many of you will be aware of is the continued impact of the global semiconductor shortage, which is causing significant disruption regarding chassis delivery. This situation changes weekly. Because we do not rely on any one single chassis manufacturer, and with the proactive actions we took, we have so far been able to pivot to alternative suppliers to minimize the financial impact. However, the situation remains fluid and ongoing chassis delivery delays are almost universal due to component shortages. Beyond chassis, we are experiencing other supply chain tightness ranging from reduced availability of paint and epoxy within our road marking business to cylinders that are used in certain trucks. So far this year, we've been able to successfully navigate through the difficulty, but it remains a challenging situation. The second factor relates to the current commodity cost environment. We currently expect the price-cost impact in Q3 to be in the same neighborhood as we saw this quarter, but with the pricing actions we have taken, we are expecting to see improvement beginning in the fourth quarter with more price realization expected as our backlog turns. On a more positive note, we continue to have relatively good access to labor at many of our facilities, which has recently been an issue for many companies. Our ongoing commitment to environmental, social, and governance initiatives is positioning us well in the communities in which we operate and is a differentiating factor in our ability to attract labor at many of our facilities. We are still getting multiple quality applicants for open positions at our largest facility, and certain of our TBI locations are starting to see traction from its recently introduced School of Well program. Overall, our access to labor remains good. Further, our company-wide efforts to raise awareness about vaccines, assist eligible employees in gaining access to vaccines, and encourage participation levels are paying off with a company-wide vaccination rate of approximately 50%. Domestically, about two-thirds of our businesses have achieved vaccination rates that are higher than the relevant state average. We have also had notable improvements in Canada during the second quarter with greater vaccine accessibility. COVID-related disruptions have diminished as vaccination rates And most importantly, 100% of our employees that have been affected by COVID have since recovered. I now want to take a few minutes to provide an update on some of our strategic growth initiatives. On the organic front, I've already touched on the success of our aftermarket initiative. We also remain bullish about safe digging prospects and with noted industrial and market recoveries and infrastructure spend optimism throughout the channels, we are confident safe digging trends will continue to improve. Our Truvex safe digging product line portfolio includes a complete range of truck mounted safe digging equipment, which can be used in a broad range of applications, including expanded application in utility markets. As an example, One of the nation's largest utility companies recently announced plans to bury 10,000 miles of its power lines to reduce the risk of California wildfires. Use of safe digging technology significantly minimizes chances of damaging underground infrastructure during the digging process and provides significant environmental benefits by minimizing damage to tree roots. We've included a picture of our safe digging equipment in action while preserving trees at the same time in the accompanying slides. The technology has also been utilized in recent bridge resurfacing infrastructure projects with the vacuum capabilities providing added efficiencies in the cleanup of related debris. Truvac product demonstrations for the quarter were up 40% from last year, and our education efforts are also having positive impact on sewer cleaner demand with the inclusion of the optional safe digging package turning our sewer cleaners into a multi-purpose vehicle. On the new product development front, our R&D efforts continue to drive organic growth. As an example, approximately 75% of our air sweeper orders in June were associated with recent product introductions. In Q2, our SSG team launched the new low-cost, ultra-low-profile Reliant light bar as part of the group's strategic initiative to gain market share through the expansion of lights and sirens product offerings in the value tier. The Reliant provides customers with an ultra-low-profile light bar that is competitively priced while providing advanced programming features and excellent optical performance that enhances the warning effectiveness and appearance of the emergency vehicle. Our sales team is currently showing the reliance to customers who are supplying distribution with sample bars for customer demonstrations. Initial feedback from the market has been excellent, and we've received orders and are currently shipping the new product to customers in the U.S. and Mexico. We have several product launches in the pipeline, with street sweeper electrification remaining a key area of focus. We are actively working on our next vehicle in our electrification new product development roadmap. We've also recently identified an additional battery partner and are continuing to receive positive feedback from customer demonstrations. As we have said before, M&A will continue to contribute meaningfully to our future growth. We are pleased with the progress we are making at integrating OSW, and the teams are energized by the opportunities identified during the 80-20 improvement training sessions we recently held. Our current M&A pipeline continues to be very active. As Ian noted in his comments, our financial position and liquidity are strong, enabling us to pursue strategic acquisitions, and there are several M&A opportunities our teams are currently reviewing. Although we may experience some temporary challenges in the near term, we have positioned Federal Signal in a manner in which we will fully participate and the economic recovery by increasing capacity within our facilities, investing in new product development, and gaining market share. Turning now to our outlook for the rest of the year, demand for our products continues to be high, with our second quarter order intake up 79% compared to the prior year, resulting in a backlog entering the second half of the year, which is at a record level. The strength of our second quarter earnings, our record backlog, and improving aftermarket demand in North America gives us increased confidence in the year. Assuming no significant delays in our receipt of chassis from our supplier, we are increasing our adjusted EPS outlook for the year to a new range of $1.78 to $1.90 from the prior range of $1.73 to $1.85. We are also encouraged by the long-term opportunities that infrastructure legislation would create for almost all of our businesses. With our recent capacity expansions, we would be well positioned to meet the associated increase in demand for our products. At this time, I think we're ready for questions. Operator?