Generac Holdlings Inc.

Ladies and gentlemen, thank you for standing by, and welcome to the first quarter 2020 Generac Holdings, Inc. earnings call. At this time, all participants are in a listen-only mode. After the speaker's presentation, there will be a question-and-answer session. To ask a question during the session, you will need to press star 1 on your telephone. Please be advised that today's conference is being recorded. If you require any further assistance, please press star 0. I would now like to hand the conference over to your speaker today, Mike Harris, Vice President of Corporate Development and Investor Relations. Thank you. Please go ahead, sir.

Good morning, and welcome to our first quarter 2020 earnings call. I'd like to thank everyone for joining us this morning. With me today is Aaron Yagfeld, President and Chief Executive Officer, and York Reagan, Chief Financial Officer. We will begin our call today by commenting on forward-looking statements. Certain statements made during this presentation, as well as other information provided from time to time by Generac or its employees, may contain forward-looking statements and involve risks and uncertainties that could cause actual results to differ materially from those in these forward-looking statements. Please see our earnings release or SEC filings for a list of words or expressions that identify such statements and the associated risk factors. In addition, we will make reference to certain non-GAAP measures during today's call. Additional information regarding these measures, including reconciliation to comparable U.S. GAAP measures, is available on our earnings release and SEC filings. I will now turn the call over to Aaron.

Thanks, Mike. Good morning, everyone, and thank you for joining us today. Overall net sales were a record for the first quarter and met expectations, led by strong core growth in residential products of approximately 9%. Relative to expectations, home standby shipments came in well ahead of our prior forecasts. continuing the strength seen over the past several quarters, including strong demand in California. Also, we are pleased that shipments of our PowerCell energy storage system met our expectations after the first full quarter of its commercial launch in December. This strong performance within residential products was mostly offset by lower-than-expected shipments for domestic mobile products and continued weakness in international markets following the onset of the COVID-19 pandemic, which has triggered a significant decline in demand in certain end markets that we serve. On a year-over-year basis, net sales increased 1% during the first quarter of 2020 as compared to the very strong prior year first quarter where overall revenue growth was 18%. Core sales growth for the quarter declined approximately 3% against the robust prior year comparison of approximately 15% growth. Gross margin expanded 170 basis points compared to the prior year and adjusted EBITDA margin with 18.1% as both exceeded our expectations primarily due to favorable mix from higher than expected shipments of residential products. Before discussing first quarter results in more detail, it's hard to overstate the impact the COVID-19 pandemic has had in creating major economic uncertainty across the globe so far in 2020, including weaker demand and supply chain constraints, along with the unknown impacts from a variety of far-reaching government actions. Our team has been incredibly proactive and diligent in evaluating and responding to the impact on the business to date, and with planning for various scenarios that may unfold during the months and quarters ahead. This includes assembling specific task forces to address the variety of changing conditions on a daily basis across the business, including impacts on employee health and safety, customer demand, production, and our supply chain. As the events from this pandemic continue to evolve, we are focused first and foremost on preventative measures to address the health, safety, and well-being of employees, customers, suppliers, and the communities across the world where we operate and do business. We have eliminated all corporate travel, restricted visitors to our facilities, implemented social distancing practices and enhanced cleaning protocols, along with other preventative efforts across all facilities, including providing face masks and other sanitization supplies and equipment. Work from home programs have been implemented with our office teams globally, and we are taking a variety of additional measures for employees at our manufacturing and distribution facilities to ensure their health and safety, including temperature testing and physical barriers for situations where appropriate social distancing is difficult to achieve. We've also instituted more flexible policies for all employees relating to sick leave, absences, and furloughs. Finally, we are closely watching legislative and other regulatory updates on a daily basis to remain compliant with local, state, and national government mandates and recommended actions. From a demand perspective, the COVID-19 pandemic is negatively impacting several areas of our business, most notably across a number of the end markets for our C&I products, both domestically and internationally. However, while demand for our residential products may not be completely immune to the weaker consumer spending environment that is likely to result from the macroeconomic weakness, there are some positive trends developing that are very encouraging. The uncertainty over the magnitude and duration of a global recession will likely have an impact on all of our product categories, but to varying degrees. In particular, the combination of a collapse in oil prices alongside the cancellation of many events such as festivals and concerts, as well as an impending slowdown in construction activity, will significantly impact demand for our domestic mobile products as national rental customers have dramatically reduced their capital spending given lower fleet utilization rates. Our domestic CNI stationary products sold through our North American distributor channel are also expected to be negatively impacted from the potential downturn in non-residential construction activity. Additionally, we are also assessing the potential risk of our telecom customers extending their pause in capital spending on backup power in the near term, in order to better optimize liquidity for the current environment. However, the importance of maintaining uptime for the country's wireless communications infrastructure is being highlighted by this crisis and could translate to faster penetration of backup power by the carriers and other operators of these wireless networks in the long run. As we have previously discussed, our international business had begun to slow in the second half of last year, and with the COVID-19 pandemic reaching the European continent in early March, we began to see fresh signs of further slowing in our international segments. which is expected to continue for the remainder of this year. Although demand in Europe and Asia has sharply declined, we have seen less of an impact at this point in the Latin American region. But as the Mexican peso has rapidly weakened against the U.S. dollar, we expect this volatility could result in some amount of uncertainty in that region as well in the quarters ahead. However, while we anticipate declines overall for our C&I products on a global basis for the remainder of the year, we are seeing some very encouraging trends in the important residential products part of our business. Historically, residential products have tended to be defensive in nature, as we have seen a number of examples over the last 25 years where demand for home standby and portable generators has decoupled from broader economic trends, as they are largely driven by power outages. The aging and underinvested electrical grid in the U.S. continues to be more vulnerable to unpredictable and weather-related events, causing elevated power outages across the country, including the unique situation developing more recently in California around public safety shutoffs to prevent wildfires. On top of the growing concerns around power outages is the fact that a vast majority of the U.S. population is now facing some form of shelter-in-place order, and we believe that is causing an added premium to be placed on residential backup power as people work from home, school from home, shop from home, and entertain from home. Additionally, as a recent entrant into the clean energy market, we expect this to be a significant long-term growth opportunity for Generac. Although in the near term there has been a notable pullback in solar installation activity, we continue to see increasing attachment rates for energy storage that exceed original market projections, which is helping to mitigate the reduced solar install trends. Longer term, the improving economics of solar plus storage, coupled with added resiliency concerns from homeowners, should further benefit our clean energy efforts. Regarding impacts of the COVID-19 pandemic on the supply side of the business, we are also focused on maintaining our operations to the extent possible, as the products and services we provide to customers and end users are both essential and critical. Recall our biggest concern related to COVID-19 at the time of our last earnings call on February 13 was with our suppliers in China and neighboring countries in Asia. While we did experience some disruptions in our Chinese supply chain during the first quarter, it was relatively temporary and now is essentially back to normal levels. Beyond Asia, however, we are monitoring changing conditions and disruptions very closely with suppliers across Europe, India, and North America, and have developed mitigation actions which thus far have limited the impacts to our operations. Regarding our own manufacturing and distribution facilities, all locations are operational today with the exception of our facility in Kolkata, India, which houses our relatively small CNI generator business in that country. However, changes to our operations have been and will likely continue to be a very fluid situation. In particular, we have been experiencing higher than normal absenteeism at many of our facilities around the globe. which has created challenges in maintaining consistent output levels. Our operations teams have responded through a combination of labor pooling across facilities, unique work schedules, as well as overtime, and to date we have largely been able to meet all of our customer commitments. We have also been evaluating the need to right-size production levels at certain facilities across the globe to adjust for anticipated demand changes, as well as working to develop contingency plans for several key residential products, raw material warehousing, and distribution facilities. In response to slowing demand trends in specific areas of our business, we're implementing a variety of prudent cost reduction actions in addition to exploring additional measures should the severity of the pandemic situation worsen in the quarters ahead. In particular, with our CNI products, we have already begun taking specific restructuring actions within our operations for domestic mobile products and our international businesses that sell primarily into Europe, the Middle East, and the Asian Pacific regions. These actions include work furloughs, hiring freezes, and certain headcount reductions, as well as reduced incentive compensation. Across the enterprise, we are also adjusting marketing and promotional spending to align more closely with lower expected revenue levels, and reprioritizing resources focusing on product cost L projects. Overall, we believe these actions will reduce operating expenses by approximately $25 to $30 million across the business for the remainder of 2020. with an estimated impact to adjusted EBITDA margin of between 1 and 1.5 percentage points to offset the operating deleverage from the lower expected sales volumes. Now, discussing our first quarter results in more detail, shipments of home standby generators during the quarter once again increased at a very strong rate compared to the prior year, benefiting from the elevated outage activity and awareness in recent years, as well as a significant increase in demand in California that also exceeded our expectations. Several key demand metrics that we monitor closely for home standby continued to be strong during the first quarter. Activations grew at a solid rate compared to the prior year, led by robust growth in installations in the west region driven by California, which was up over five times the prior year levels. The Midwest, South Central, and Canadian regions were also strong. In-home consultations, or IHCs, grew significantly during the first quarter compared to the prior year, led again by considerable strength in California. but we also saw encouraging growth trends in several other parts of the U.S. Although power outage severity was lower in the current quarter relative to the prior year, on a trailing 12-month basis, outages were still very favorable to the long-term baseline average. We also ended the first quarter with over 6,500 residential dealers, an increase of approximately 500, or 9%, compared to the end of the first quarter of 2019. This includes a significant increase in California, ramping up to over 400 dealers at the end of the quarter, from approximately 150 dealers at the end of the prior year first quarter. In response to the current COVID-19 situation, we are actively working to convert our traditional in-home consultation process into one that can largely be conducted remotely, which we are now referring to as a virtual home consultation, or VHC. We have spent the last 45 days rolling out the VHC process to our dealers through aggressive communication and training. And as they have transitioned to it, they are experiencing similar close rates and sales cycle times in relation to the in-home visits they previously conducted. More recently, early in the second quarter, these key demand metrics for home standby have continued to be very strong, with outage severity picking up considerably and with activations in our new VHC process continuing to show strength. Specifically, we are encouraged that we have not seen evidence of any slowdown thus far in the demand for or installation of these products. And although while still early, the strength in home standby demand appears to be accelerating further here in April. There have been some notable outages recently, including 1.4 million utility customers in the southern region of the U.S. alone last week. VHCs have spiked in April and are tracking at roughly double the levels compared to the prior year. Part of the strength we are experiencing can certainly be attributed to the recent pickup and outage activity, but based on the widespread nature of the VHC activity, we believe that it can also be attributed to the millions of people that are now working and learning from home, thereby creating a heightened sense of awareness of the importance of backup power. The market for energy storage and energy monitoring systems continues to develop quickly through a combination of changing regulations, advancements in technologies, improving economics, and the increased resiliency provided by these products. Recall that our PICA and Nureo acquisitions enabled us to bring an efficient and intelligent energy-saving solution to the market in December called PowerCell, which we believe will position Generac as a key participant going forward. Q1 represented the first full quarter of commercial shipments of PowerCell units at scale, which met our relatively high expectations. Despite the COVID-19 situation, we're making excellent progress in building out our dealer installation base, ramping our technical service capabilities, optimizing our supply chain, and reducing our system costs. We are also making important strides in growing this nascent market through targeted advertising, lead generation, and virtual in-home sales capabilities. Our new clean energy infomercial that launched in mid-January continues to be well-received and is driving good lead volume, feeding into our recently launched selling system called PowerPlay CE. a proprietary lead management and sales tool similar to the one developed to our legacy home standby generator market. Our current 2020 outlook for clean energy remains very encouraging, as we're still expecting a further significant ramp in shipments of these products as the year progresses. However, due to the COVID-19 pandemic and its impact on slowing the pace of solar installations in the U.S., particularly here in the second quarter, we are modestly lowering our expectations for shipments of energy storage systems for the remainder of the year. but we still expect a shift between 125 to 150 megawatt hours of residential product. Our updated outlook remains significantly ahead of the expectations we laid out during our investor day last September, which reflects our success in the marketplace to date, as well as the increasing level of solar plus storage attachment rates the industry is experiencing, in part driven by homeowner concerns over backup power. We have good visibility with regard to these products for the remainder of the year through existing orders and our sales pipelines. While the impact of the pandemic has resulted in some softening of the market for energy storage for 2020, we believe the long-term drivers remain firmly in place as installations of these systems are forecasted to experience exceptional growth over the next several years. With regard to our CNI products, domestic shipments declined during the first quarter as compared to the prior year. As expected, shipments to national telecom customers declined at a considerable rate on a year-over-year basis as these customers had previously indicated a slowdown in capital spending for backup generators based on the timing of installation projects. Recall that demand trends with telecom national customers can be lumpy from quarter to quarter, based on the timing of capital deployment and project planning cycles. Also, shipments of mobile products to national rental account customers declined significantly in the quarter, primarily due to the onset of the COVID-19 pandemic, as well as the collapse in oil prices. Demand for mobile equipment was already softer entering the quarter, as many of our national rental customers were already deferring some capital spending. and the sudden stop to economic activity in March forced many of them to further and dramatically reduce equipment purchases. Lastly, shipments of CNI stationary generators through our North American distributor channel were slightly up compared to the prior year, as this channel continued to gain share in the North American industrial backup power market. With respect to the international side of our business, which is predominantly CNI products, we continued to experience a challenging environment during the first quarter that worsened considerably during the latter half of the period. Revenues declined approximately 10% on a core basis compared to the prior year, with the decline primarily driven by a sharp drop in demand caused by the COVID-19 pandemic and its impact on certain key regions of the world, which magnified the slower economic growth and geopolitical headwinds that were already being experienced in recent quarters. The Latin American region, however, was relatively stable during the first quarter and grew modestly with the benefit of a large project shift during the period. As we continue to assess the impact of the global pandemic on our business, we believe that our CNI products are likely to be the most negatively impacted part of our business. This is due to a combination of the recessionary impact on non-residential construction activity, the expected further deferral of telecom capital spending, the dramatic decline in oil prices leading to lower rental equipment utilization rates, and an overall sharp decline in macroeconomic activity internationally. As previously discussed, we believe our residential products will be relatively less impacted as increased outage activity Heightened anxiety over the need for backup power during these shelter-in-place times, growth opportunities in California, and the increasing penetration of our new clean energy products should help to mitigate any general economic weakness that may occur in residential investment. In closing, I want to highlight that Generac is in the very fortunate position of having a strong balance sheet and liquidity. This financial strength gives us the flexibility and confidence to continue to execute on our long-term strategy and to remain focused on providing innovative products and services that that are essential to the safety and security of homes, businesses, and critical infrastructure across the globe. We believe we have a unique opportunity to be particularly aggressive during this time of crisis in pursuing new commercial business opportunities to gain market share, as well as continuing to build a robust M&A pipeline to accelerate our Powering Our Future strategic plan. Generac is built for moments like this, with our long history in supporting customers through difficult times. In the face of hurricanes, floods, fires, and other natural disasters that cause power outages, our teams have proven themselves to be agile, and they know how to employ a healthy sense of urgency and solid decision-making to manage difficult situations. We are very confident that once we get past this pandemic, our future growth prospects will be as compelling as ever, driven by the overall megatrends and powerful macro-secular drivers for our business. With that, I'd now like to call a turnover to York to provide further details on the first quarter results.