Kennametal Inc.

Good morning, everyone. I would like to welcome everyone to Kenna Middle's first quarter fiscal 2023 earnings conference call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question and answer session. If you would like to ask a question during this time, simply press star, then the number one on your telephone keypad. If you would like to withdraw your question, please press star, then the number two. Please note that this event is being recorded. I would now like to turn the conference over to Kelly Beyer, Vice President of Investor Relations. Please go ahead.

Thank you, Operator. Welcome, everyone, and thank you for joining us to review CannaMetal's first quarter fiscal 2023 results. Yesterday evening, we issued our earnings press release and posted our presentation slides on our website. We will be referring to that slide deck throughout today's call. I'm Kelly Boyer, Vice President of Investor Relations. Joining me on the call today are Chris Rossi, President and Chief Executive Officer, and Pat Watson, Vice President and Chief Financial Officer. After Chris and Pat's prepared remarks, we will open the line for questions. At this time, I would like to direct your attention to our forward-looking disclosure statement. Today's discussion contains comments that constitute forward-looking statements. and as such involve a number of assumptions, risks, and uncertainties that could cause the company's actual results, performance, or achievements to differ materially from those expressed in or implied by such statements. These risk factors and uncertainties are detailed in Kenna Metals SEC filings. In addition, we will be discussing non-GAAP financial measures on the call today. Reconciliations to GAAP financial measures that we believe are most directly comparable can be found at the back of the slide deck and on our form 8K on our website. And with that, I'll now turn the call over to Chris.

Thanks, Kelly. Good morning, everyone, and thank you for joining us today. I'll start today's call with a review of the corridor, our growth roadmap, and some recent strategic wins. Then Pat will go over the quarterly financial results and the outlook. And finally, I'll make some summary comments before opening the call for questions. Beginning on slide two in the presentation, The first quarter results highlight continuing growth and successful execution of our strategic initiatives, offset by macroeconomic factors such as high inflation, foreign exchange, and regional headwinds in EMEA and China. Sales increased 9% organically year over year, offset by negative foreign exchange of 7%, for a total sales increase of 2%. On a sequential basis, sales decreased by 7% from Q4 to Q1, in line with expectations and slightly better than the normal 8% to 10% season of decline due to the European summer holiday season and seasonal construction trends. Year over year, on a constant currency basis, all regions and end markets grew. The Americas led with double-digit growth. In Asia Pacific, rolling COVID lockdowns affected growth rates in China, but other Asia Pacific countries remained strong. And in EMEA, sales were negatively affected by disruptions due to the Ukraine crisis, as well as our exit from Russia in Q3 last year. By end market, aerospace, energy, and earthworks all reported double-digit growth, and transportation and general engineering grew mid-single digits. So, overall, end market demand is holding up well, and we expect that to continue through fiscal year 23. That said, I know there are diverging views on the direction of the global economy, especially when looking beyond fiscal year 23. The good news is that whatever direction the global economy may take in the short term, we believe we are well positioned in all our end markets for the long term. We have a strong position in aerospace and expect to continue to take share as aircraft build rates improve. We are well positioned in both renewable and traditional energy markets to take advantage of the investments that will be needed to meet growing energy demand. Our earthworks business will benefit from increasing government support for construction and elevated mining activity required to meet the immediate demand for coal and longer term to support the conversion to green energy. We see transportation remaining supply constrained with production at lower levels in the short term, but gradually improving. And we expect to benefit from the leadership position we are establishing in tooling for electric vehicles. Lastly, we expect general engineering to benefit from the continuing growth in industrial production and our fit for purpose strategy. So while we acknowledge the shorter term uncertainty, we feel quite good about the longer term underlying growth drivers in our end markets and in our ability to secure market leading positions. Now looking to profitability for the quarter. As we discussed our last call, Macroeconomic factors are masking the underlying piece volume leverage we are getting from simplification modernization and our focus on operational excellence. In Q1, this volume leverage benefit was offset by macroeconomic related factors, including a significant FX headwind and a decrease in pension income, which is non-cash, due primarily to changes in the assumption on return on assets. In addition, we experienced temporary supply chain disruptions which Pat will provide more color on later. In the meantime, I want to remind everyone that over the last several years, we have been successful at managing numerous supply chain and other operational disruptions resulting from the pandemic. So I'm confident we will fully mitigate these most recent challenges by the end of this fiscal year. As expected, operating expense as a percent of sales increased to 21.9% this quarter, with annual salary increases being one of the drivers. Another major driver is increased travel to customer sites and product trials as customers eased COVID-19 restrictions for supplier partner visits. This is good news for our commercial and engineering teams as it affords them the opportunity to demonstrate our latest product innovations across our entire brand portfolio. While obviously an expense, we see these costs as an investment in growth and gaining share. And I'll discuss on a later slide some examples of the returns we are getting on this investment. Taxes increased slightly year-over-year in the quarter to 27.5%, due mainly to regional mix. Adjusted EPS declined to 34 cents compared to 44 cents in the prior year quarter, with the majority of the decline driven by the macroeconomic factors I discussed. Our free cash flow this quarter is consistent with our typical use of cash in Q1, driven by payment of performance-based compensation. Also affecting cash flow this quarter was an increase in working capital, mainly inventory, due to higher raw material costs and increased safety stocks to mitigate supply chain related disruptions. Finally, another use of cash was the buyback of $19 million of shares, which brings the total amount bought back since program inception to $105 million. Our share repurchase program reflects the confidence we have to execute on our strategic initiatives for long-term value creation despite the current macroeconomic headwinds. Now let's turn to slide three to review our growth roadmap. As you can see, the roadmap outlines the share gain initiatives, megatrends, and other growth areas that comprise our commercial excellence strategy. First, of course, we are focused on growing our share of the current base business. In addition to innovative products and best-in-class customer support, The investments we made over the last few years on modernization and our ongoing operational excellence initiatives are enabling us to drive a larger share of wallet with existing and new customers. Beyond the base business, there are also mega trends that are well aligned with our technical expertise and market exposure, and therefore creating opportunities for growth in market segments such as electric vehicles, aerospace, digital, and ESG. Also, And still within the organic growth areas of focus, we are now able to cost-effectively reach segments of our end markets and application spaces that we historically were unable to serve. This is due to simplification modernization, as well as digital customer targeting and our digital customer experience platform. Examples of that platform include supporting small to medium-sized job shops, providing tooling for medical device manufacturers, and supporting micro-machining and fit-for-purpose applications. And finally, we have the opportunity to supplement our organic growth initiatives through acquisitions. Now please turn to slide four for some recent commercial wins that are great examples of our success in executing on this roadmap. Again, this quarter we had significant wins in aerospace, including providing tooling for a large aerospace engine supplier. Solving this customer's technical challenges has opened the door for additional business. We also had a win with an aerospace customer for high-performance tooling used in the creation of specialized components for space stations and astronaut backpacks. This quarter, we again gained a larger share of wallet with existing customers, including an oil field services customer, where we applied our material science and additive manufacturing capability to become the sole source supplier for the customer's new nozzle design, which cannot be manufactured using traditional manufacturing techniques. And in the process industry segment, we collaborated with an OEM and leveraged our technical and manufacturing expertise to provide a plastic extrusion die that significantly outperforms the competition in delivery, performance, and technical support. And finally, in the rapidly growing electric vehicle segment, where we have established a leadership position in metal cutting, we broadened our reach with a win in our infrastructure segment by providing a wear solution used in battery production. These are just some examples of impressive wins that demonstrate our ability to gain share and give us confidence that the investments we are making in commercial excellence, expense, and innovation are paying off. Now let me turn the call over to Pat, who will review the first quarter financial performance and the outlook.

Thank you, Chris, and good morning, everyone. I will begin on slide five with a review of Q1 operating results. Before I begin, please note that we did not record any non-GAAP adjustments this quarter. Therefore, adjusted numbers are not presented. For today's discussion, year-over-year comparisons will be against the prior year's adjusted results. The quarter's results show that we continue to execute our initiatives in the face of headwinds from inflation, foreign exchange, lockdowns in China, disruptions in EMEA, and temporary supply chain disruptions. Sales increased 2% year-over-year, with 9% organic growth largely offset by 7% foreign currency headwinds. On a sequential basis from the fourth quarter, sales declined 7%, which is slightly better than our normal Q4 to Q1 seasonal decline. As Chris noted, adjusted operating expense as a percentage of sales increased 70 basis points year-over-year to 21.9% from higher salaries and travel and demonstration tooling to support sales growth. Adjusted EBITDA and operating margins were down to 15.9% and 9.8% respectively. The year-over-year operating margin performance was due to higher pricing offset by higher raw material costs and general inflation, higher manufacturing costs including $5 million of temporary supply chain disruptions, as well as foreign exchange headwinds. During the quarter, We experienced a few disruptions in our supply chain, including a force majeure from a key supplier to our infrastructure business, which required us to use higher cost supplies and materials and incur some labor inefficiency at a couple locations. We expect these disruptions to abate by the end of the fiscal year. Pricing actions continue to offset raw material, wage, and general cost inflation on a dollar basis. The effective tax rate increased to 27.5% due mainly to regional mix. We reported earnings per share of $0.34 versus adjusted EPS of $0.44 in the prior year period. The main drivers of our EPS performance are highlighted on the bridge on slide 6. The year-over-year effective operations this quarter was negative $0.02 due to the factors that I just discussed. You can also clearly see the effects of foreign exchange and the reduction in pension income on EPS with currency contributing negative six cents and the reduced pension income negative three cents. Please note that the change in pension income is non-cash and is driven by market factors in our U.S. pension plan. This change will affect each quarter this year. Our U.S. pension plan remains overfunded. And based on the recent spot rates, We expect foreign exchange to remain the headwind too. Slide seven and eight detail the performance of our segments this quarter. Metal cutting sales increased 9% organically year over year, offset by a foreign currency headwind of 8%. We achieved growth in all regions and end markets on a constant currency basis. By region, the Americas led at 13%, followed by Asia Pacific at 6% and EMEA at 5%. As Chris noted, Asia Pacific's growth was affected by COVID-19 lockdowns in China this quarter. However, we achieved strong growth in other countries in Asia Pacific. EMEA's year-over-year growth this quarter was negatively affected by approximately 400 basis points from our decision to exit Russia in the third quarter last year. By end market, aerospace led with strong growth of 25% year-over-year. General engineering grew 8% year-over-year, and transportation and energy grew mid-single digits. Adjusted operating margin decreased 70 basis points from the prior year quarter to 9.5%. The decrease in margin was due primarily to favorable pricing, higher sales volumes at normal operating leverage, and favorable product mix, which were more than offset by higher costs, including higher raw material costs, foreign exchange headwinds, and temporary supply chain disruptions. Turning to slide eight for infrastructure. Organic sales increased by 10% year-over-year, offset by foreign exchange of 5%. All regions were positive year-over-year, with the Americas leading at 13%, followed by Asia Pacific at 8% and EMEA flat. By end market, again, energy was up strong double digits at 20% year-over-year. The strength in energy was driven mainly by improvement in the U.S. oil and gas market, as seen in the continued increase in the U.S. land-only rig count. Earthworks was up 11%, with broad strength in all regions, and general engineering was flat, with strength in Asia Pacific, offset by a decline in the Americas and EMEA, as a result of project orders in the prior year that did not repeat. Operating margin declined by 340 basis points year-over-year to 10.7%, with price in mix plus the normal leverage on volume partially offsetting increased raw material costs and higher costs including temporary supply chain disruptions in foreign exchange. In Q1, price continued to cover raw material, wage, and general inflation on a dollar basis. Now turning to slide 9 to review our balance sheet and free operating cash flow. we continued to maintain a healthy balance sheet and debt maturity profile. At quarter end, we had combined cash and revolver availability of approximately $700 million and were well within our financial covenants. On a percentage of sales basis, primary working capital decreased to 31.7%. On a dollar basis, primary working capital increased year-over-year to $664 million, reflecting higher raw material costs, and additional safety stock associated with extended supply chains. Net capital expenditures were $29 million, an increase of approximately $12 million from the prior year, but in line with our expectation of full-year capital spending of $100 to $120 million. Our first quarter free operating cash flow was negative $40 million, a decrease from the prior year quarter, but consistent with our usual first quarter outflow, due to seasonal sales patterns and the timing of incentive compensation payments. We paid a dividend of $16 million in the quarter. And finally, as Chris noted, we repurchased $19 million of shares during the quarter under our previously announced repurchase program. Since inception, we have repurchased $105 million of stock. This reflects our confidence in our strategy for growth and margin improvement. A full balance sheet can be found on slide 15 in the appendix. Now let's turn to slides 10 and 11 to review the outlook. Starting with the second quarter, we expect sales to be between $480 to $500 million, which on a sequential basis and excluding additional foreign exchange headwinds would be in line with our normal seasonality of 1% to 2%. The sales range assumes $40 million of year-over-year currency headwinds and pricing actions of approximately 7%. We expect strength to continue in underlying demand in all our end markets, and we are assuming no significant disruptions from COVID lockdowns in China or energy uncertainty in EMEA. We believe customers will remain cautious in this environment and do not expect meaningful restocking at this time. Adjusted operating income is expected to be a minimum of $30 million, which reflects continued inflation headwinds against our strong pricing actions. Sequentially from the first quarter, raw material costs increased by approximately $15 million and then are expected to remain approximately at this level for the balance of the fiscal year. It is important to note that over the last five quarters, we have been aggressively raising prices ahead of experiencing the full effect of higher tungsten prices. In Q2, this favorability of price over material cost is negligible. as raw material costs reflecting the current market cost now flows through the P&L. This price over material cost timing is normal and primarily affects the infrastructure segment. Lastly, we expect the supply chain disruptions we discussed earlier to continue in the second quarter and then fully abate by the end of the fiscal year. Returning to slide 11, regarding the full year. We expect FY23 sales to be between $2 billion and $2.08 billion, with volume flat to up 4%, price realization of approximately 5% to 6%, and a headwind from currency of approximately $130 million. This sales outlook assumes that there will be no significant disruptions from COVID-19 lockdowns or energy disruptions in EMEA. We expect adjusted earnings per share to be between $1.30 and $1.70. Even in this inflationary environment, price realization and our operational excellence productivity projects will continue to offset raw material, wage, and general cost increases on a dollar basis. The $130 million foreign exchange sales headwind is expected to result in a $25 million operating income headwind. Additionally, Lower pension income will be a headwind each quarter this year for a total of $14 million. We remain committed to driving strong execution on our operational and commercial excellence initiatives and expect to continue to see compelling results from our growth roadmap. Depreciation and amortization is expected to be approximately $135 million and our outlook for working capital and capital expenditures remains unchanged. And finally, Over the full year, we expect free operating cash flow at approximately 100% of adjusted net income in line with our long-term target, further demonstrating our progress transforming the company. And with that, I'll turn it back over to Chris.

Thanks, Pat. Turning to slide 12, let me take a few minutes to summarize. The results this quarter demonstrate our ability to execute our strategic initiatives despite uncertainty in the economy and headwinds from inflation and foreign exchange. I'm pleased with our progress on growth initiatives as outlined on our growth roadmap, and our wins each quarter continue to demonstrate our industry-leading innovation and deep understanding of our customers' applications. Our balance sheet is strong, and the expected total year free operating cash flow gives us the flexibility to continue investing in our strategic initiatives. It also allows us to optimize capital allocation, including both on acquisitions, dividends, and share repurchases. As a reminder, we have a long history of consistently paying a dividend, having done so every quarter since being listed on the New York Stock Exchange in 1967. And our share repurchase program is further evidence of our confidence in the underlying intrinsic value of the company. Although the current economic environment limits visibility, we expect sales to follow our normal sequential quarterly growth patterns for the full year. And despite any short-term economic uncertainty, We feel good about the longer-term underlying drivers in our end markets and are confident in our competitive positioning. And with that, operator, please open the line for questions.

Thank you. We will now begin the question and answer session. To ask a question, you may press star, then 1 on your touchtone phone. If you are using a speakerphone, please pick up your handset before pressing the keys. If at any time your question has been addressed and you would like to withdraw your question, please press star, then two. At this time, we will pause momentarily to assemble our roster. Our first question comes from Steven Balkin with Jefferies. Please go ahead.

Hi. Good morning, guys. Thank you for taking the question. I was wondering if we can just focus a little bit on volume, since I guess that's kind of where you get your leverage. Sorry if I missed it, but what was volume up in the quarter? And maybe price as well, just to sort of round that out.

Steve, volume would have been up year over year. What we said, it was at a $4 million effect on operating income, positive. I think most analysts are modeling that leverage to be at 50%, so that would equal about a volume increase of around $8 million based on that model.

Okay, that's what I was – sorry, go ahead.

The second piece to that, Pat, was it on price? Price realization, was that it, Steve? Was that your question?

Please.

Yeah, so overall, if you look at that, we got the $8 million approximately in terms of volume in there, the 7%.

be based on those two numbers okay all right great so as I look at your commentary around some of this end markets is kind of where I'm going with this I guess general engineering must have been down on a volume basis and EMEA as well can you just sort of comment on what you're seeing there yeah what what I would say for for metal counting in sort of q4 to q1

that the Americas sort of stay at a strong level, and that'll continue through our forecast for Q2. EMEA did weaken slightly, and AP stayed around the same. For transportation, it was pretty stable in all regions, but as you know, it's still kind of lower levels in the current environment as they still are waiting for chips, et cetera. Aerospace did increase, Q4 to Q1, and we expect that that'll continue at these higher levels through Q2, and actually that's part of our forecast for the full year. And then energy was – it's kind of remained stable, Steve, at higher levels. So that was – that continues to be a strength for us. On the infrastructure side, you know, Jen Eng, the U.S. was steady, and Pat had mentioned some of the factors that affected EMEA, which was the Ukraine-Russian conflict. AP was steady. And then we had some pluses and minuses with large orders not repeating that distorted the number there. But generally, the underlying business and infrastructure, with the exception of the Ukraine conflict, is pretty strong. Energy, of course, remains at strong levels. And then mining, the underground mining projects are really, I would say, at an elevated level. Maybe aren't increasing, but they're expected to stay at that higher level. And construction for Asia Pacific was strong in China. EMEA, I would say, is sort of flat sequentially. And the Americas, of course, was down due to seasonality.

Great. That's very helpful. Thank you, Chris. And then just one qualification. I'm curious and I'll pass it on. You said in your prepared remarks that you expected some of these unusual headwinds to mitigate by the end of this fiscal year. Are you talking about sort of the supply chain and the pension and kind of all these things, or just maybe a little detail on what you're expecting to sort of be done with by the end of the fiscal year?

Yeah, we were really talking about the temporary supply chain issues. We also gave guidance on what's going to happen with pension and FX for the full year, so I'll just direct you to the slides there. But, yeah, the temporary supply chain disruptions, Steve, we started to see those, obviously, in the first quarter. And it turns out they were stronger than what we thought. And then we had a new one from a supplier, which was a force majeure. And, frankly, I'm not even sure our supplier saw that coming because it's actually a result of their supply chain. But, you know, in this current environment, certainly throughout the pandemic, we're used to – putting in mitigation strategies. I would say that we've got the plan in place to find alternative suppliers and we're implementing that plan right now. The reason they'll abate is that as we move through the second half of the year, the mitigation plans that our XLR suppliers have in place will allow them to continue to supply us and we can return to the normal source of supply, which would be a less costly mix. You know, we're calling it temporary because it's kind of a result of the current chaotic environment that we're operating in. But those will abate by the end of the year.

Super.

I'll pass it on.

I'm going to add on the pension. We set those parameters in terms of the assumptions at the beginning of the year, so those numbers are pretty locked in for the year in terms of the $14 million headwind we have for the full year.

Thank you, guys.

Our next question comes from Julian Mitchell with Barclays. Please go ahead.

Hi, good morning. I just wanted to follow up on the two headwinds you call out on slide 10 around the raw materials of 25 million year-on-year and that supply chain one of 5 million in the second quarter. Maybe just help us understand what's dialed into that full year guidance for the second half. for those two items in terms of year-on-year? You know, I understand that raw materials sequentially starts to stabilize, but just as we're thinking about year-on-year for those two items in the second half, you know, how would you kind of steer us?

Yeah, I would say on the supply chain, so for the first half of the year, it's about a $10 million subject, and it's expected to abate by the end of the year, Julian, and I think you could You know, you could model somewhere between maybe $5 to $7 million still in the back half of the year, order of magnitude. And then, Pat, why don't you talk about the price covering raws?

Yeah. So, Julian, on the raw material, you're correct. Once we kind of get to this level here in the second quarter, it should be basically at that level throughout the rest of the year sequentially. Okay. On a year-over-year basis, that will be a net headwind for us for the rest of the year from a material perspective, but that is inside our expectations of our price realization covering our cost inflation for the full year.

Got it. Okay, so that raw material headwind, it's sort of $25 million in Q2. The second half as a whole is something like that number, is it?

Yes, yeah, but it's, again, covered inside that, the entire price cut here.

Perfect, thank you. And then just my follow-up question would just be around, when we're thinking about the sort of volume outlook, it looks like you're assuming sort of steady year-on-year volume trends, the balance of the year, normal seasonality, I think, as you called out sequentially. When we're looking at any of the main end market moving pieces, anything expected to change sort of sharply as you go through the year? I guess transportation is one that I might have thought would be up more at some point than what you saw in fiscal Q1. I think a lot of the companies selling into transportation, their sales are up double digits. right now, you know, say looking at Eaton vehicle this morning, for example. Just wondered kind of any main moving parts you're calling out on market swings for the balance of the year and anything particular in transportation?

Yeah, I think on transportation, that may be an opportunity for us. But frankly, Julian, we've sort of baked in that we've got things are going to kind of stay steady where they are. And just because, you know, as I listened, for example, to Ford, I think last quarter their chip issue wasn't as big an effect, but GM's was, and it switched around this quarter. So, you know, so I think that's our best estimate, but that could be some upside for us. You know, if you look at our range for the full year, you know, of $2 billion to $2.8 billion, The way I would think about the drivers there is that Pat highlighted a couple of the significant risks, the potential energy issues in EMEA and then COVID lockdowns in China. And then underlying the baseline assumption, of course, is that there's still continued resilience in the U.S. industrial production base. So I would say that what's going to kind of move us on that range from the low end to the high end is probably these regional factors, whether they become worse or in some cases they may actually improve. Those would be the big drivers as opposed to specific end markets. That's the way I would think about it.

Great. Thanks very much.

The next question comes from Susan Fisher with UBS. Please go ahead.

Thanks. Good morning. And I'm sorry to come back to the second quarter. Raw materials dynamic, I just want to make sure I understand it. I mean, the step down from the first quarter, is that the message that the prices are no longer covering those raw, the pickup in raw material costs? Is that the message? And if so, then why not? I may have misunderstood that.

I think you want to take a look at that pricing versus raw material dynamic over a longer-term basis, as we talked about in our prepared remarks. We've been very aggressive the last five quarters going out and getting price, and we've experienced that price realization in front of some of those material costs showing up in the P&L. And so simply what's happening as we're moving into the second quarter here is that I'll say we're on the same basis in terms of charging for our customers from a material cost perspective and where the material costs are. And so as we get into the second quarter here, that's where we see the sequential headwind, but that will not be a headwind again as we move forward for the rest of the year. And again, once we think about that overall material cost, we've always been successful covering that with price.

Okay. And then I guess just on the second half in terms of a revenue run rate, I know you're just giving some of the puts and takes here. I mean, I guess to what extent should investors be looking at things like the ISM new orders coming in below 50 that kind of suggests some lower revenues? To what extent? Is it new programs that you have in the works that you think are going to make up for any potential difference? Or I know you said there's maybe a little bit of upside in aerospace. Just trying to think about conceptually how you think about some of these leading indicators and how that's factored into your revenue outlook and kind of daily run rate for the second half of the year.

Yeah, I think, Steve, you know, we gave the guidance that we're going to sort of follow our normal seasonality from this point forward, so that would suggest that all things being equal, that seasonality is going to happen regardless of what the IPIs do, unless the IPIs move significantly north or south. So our outlook is sort of the things kind of, the world as defined in Q1 kind of stays that world going forward, and that That'll be the driver as to whether we're at the high end where it might improve or at the lower end where things get worse. But we are, you know, in our outlook, we are assuming that the U.S. continues its resilience. And as you know, you know, PMIs have been hovering somewhere around the 50% or the 50 mark for the U.S.

Okay. Thank you very much.

The next question comes from Tammy Zakaria with JP Morgan. Please go ahead.

Hi, good morning. Thanks for taking my question. So the 5% to 6% pricing you're expecting for this fiscal, I was curious, is that uniform across the two segments? And how about the regions? Is it 5% to 6% across all regions as well?

Yeah, we're not going to disclose that kind of information, Tammy, but I think the way to think about it is the answer is probably no in general. You know, every customer is different, and, you know, we start with the value-based pricing, of course, but there can be differences between infrastructure and metal cutting for sure, and even within those businesses, there's differences from customer to customer. So that's kind of an average for both businesses. But I want to make the point it wasn't just a peanut butter spread of price, if you will.

Got it. That's super helpful. And then very quickly, the supply chain pressures continuing, what are the main one or two pressure points now? Are they the same they were, let's say, two quarters ago? or anything new has popped up in the last quarter or so?

Yeah, I guess if your question is from a customer perspective, we see some easing in supply chains in general. We just had a conversation about transportation and maybe that gets better. We're not expecting it to be, but it could potentially improve. But there is some easing of supply chain pressures on our customers, although it's not It hasn't been that significant yet, and we haven't seen it materialize into a substantial increase in orders. And then, of course, if you were talking about our temporary disruptions, I think we covered that on some previous questions.

Got it. Okay. Thank you so much.

Our next question comes from Michael Feniger with Bank of America. Please go ahead.

Yes, thanks for taking my questions. Inventories was up, you flagged how you're building some safety stock. I'm just curious with the inventory build, has that been positive to your absorption and your margin over the last quarter or two? And how do you see your inventories progressing through the year based on your demand outlook?

Yeah, I think it's a good question, Michael. First of all, we put that inventory in place to make sure that we can maintain the right customer service levels, especially as our customers were coming out of the pandemic and we wanted to make sure we didn't miss an opportunity there. I think based on our current outlook, you have our forecast for primary working capital, so it's baked in there. But I think in general, we would expect inventory to start to come down. I think in terms of the absorption issue, that would be more of a subject inside metal cutting where they have a higher labor content in their cost. There was a little bit of that inventory driving better absorption, of course. As the inventory bill reduces, I don't think it's going to have a substantial effect on sort of first half profitability versus second half profitability.

Thank you for that. And I'm just curious on competition, is there any intensity or increasing intensity on the competition side with maybe currency playing a factor with some of the foreign competitors? I guess what I'm trying to get to is, You know, the 7% pricing, you know, is there anything preventing you guys from going further, from pricing not just the cost but above the cost? Is it the competition? Is it working with your customers that are under pressure? Just curious if there's a ceiling there that you guys are starting to hit that won't let you price even further. Thank you.

Yeah, that's a good question and certainly a conversation we have with our sales folks. It is a balance. And the magnitude of this price increase is much larger than I think the industry would normally have, and that's understandable because we have to price commensurate with the inflationary environment. But there is, Michael, there is limits, and every customer has got to be treated differently. So that's the way we're approaching it. In some cases, you know, we're looking at, we ultimately start with what value are we bringing to the customer, and the more value we have, the more aggressive on price we can be. So we don't necessarily just try to cover the cost. We price based on value, but even that has some limitations. So we're trying to do ultimately, the way your question suggests, there is a balance between how much price you can get and then the volume. effect, and we're trying to strike that right balance. Pat, you got anything you'd like to add to that?

Yeah, I just want to say we do have a strategy from an in-region, for-region production perspective, so when we think about our currency exposure, much of our currency exposure is simply translational, since we're trying to produce in-region for the customers we're serving.

Michael, are you done with your questions?

Yes, thank you.

Thank you. Our next question comes from Steve Barger with KeyBank Capital Markets. Please go ahead.

Thanks. Good morning. I just wanted to ask about the commercial excellence initiatives. What are the market indices you measure growth against? Or I guess... How can you tell if the team is performing in line with the cycle and then taking share on top of that? How are you measuring that?

Yeah, that's a good question. We have sort of a very detailed process where, by customer, we calculate what we think an entitlement is for that particular customer. So we'll know, for example, certainly their current level of business. And then... then we can tell how much of their business that we're getting on a sort of per customer basis. So it's actually, if you try to fly to a too high level, Steve, it's hard to find just how much is market and how much is share gain. But if you measure it on a sort of a per customer basis, that's the way we look at it. The other thing we can do with our distribution channel is We have targets for our distribution channels about how much growth we're trying to get, because obviously they're dealing with tens of thousands of different customers. And in that case, we do look at indices based on regional manufacturing, and we would say that our growth with that particular distributor in total has been greater than those indices, which gives us comfort that there's actually a pickup for us. So those are a couple of examples of how we try to look at it.

Do you feel like there's been good progress in the share gains as you've measured what you think the customers should be taking relative to what they are?

Yeah, we do. Because, you know, for example, in aerospace where we actually were starting with quite a low share and we don't have a huge share now, that one we can tell that many of those tier suppliers and even some of the OEMs for certain types of their business, we just didn't have that business before and we're they're now starting to direct that to us. I can tell you on the fit-for-purpose application space, which is a lot of small and medium-sized job shops, the growth in that portfolio of video that's been rebranded and repositioned for fit-for-purpose, that growth rate is faster, again, than what we see in kind of the general engineering and maybe even the kind of metal tooling. So those are all directional indicators that we're We're picking up share with these customers.

Well, if I can just do a quick follow-up, that was one of my questions back on slide three with the underserved markets and supporting small and medium job shops. Is that a function of incentivizing distributors, or do you have new specific sales initiatives from your own internal sales group to drive growth there?

Yeah, I think it's a combination of both. In some cases, some of those small job shops are so small, they're not even covered by distributors. So we have targeted digital marketing towards those small customers. And in many cases, they may, through our supply chain, our channel partners, they may direct their inquiries ultimately through the distribution channel. But together, we're working with our channel partners to make sure we're reaching those companies and And whether it comes back through distribution or whether it comes directly through our website and we pick up the inquiry through our inside sales organization, it doesn't matter to us. We're still going to sell tooling. So it is definitely a team effort with the distribution channel.

Understood. Thanks.

Our next question comes from Joe Ritchie with Goldman Sachs. Please go ahead.

Thanks. Good morning, everyone. Good morning, Jeremy. So my first question, obviously growth still remains pretty strong here in the Americas. I'm just curious, are you starting to see any benefit at all from the infrastructure stimulus package that got passed last November, or do you expect a lot of that to still be on the come in calendar year 23?

Yeah, I think it's still on the come. We really haven't seen any, we've seen a lot of inquiries and quotes, but it hasn't translated into business. And I, you know, you said calendar year 23. I think we might see it more in calendar year 20, or excuse me, we might see it in our fiscal year 24 because I'm not sure that even over the next six months or eight months, the trend of just a lot of inquiries but no business, I'm not sure that's going to change. So it seems to be taking longer for these to turn into projects. That could be a little bit because inflation is putting pressure on some of these projects. And also, frankly, some of these companies are still dealing with temporary supply chain issues. So for us, I think it's going to be more of a fiscal year 24 subject.

Got it. That's helpful, Chris. And I guess maybe just since you just referenced the supply chain, and I know we've talked about it a little bit on this call already, I'm just curious that the force majeure that you referenced earlier, can you maybe provide a little bit more specifics around that? Is it like a, you know, is it very much a, you know, customer specific issue? What particular like, you know, components were they supplying into you? Just any other color there would be helpful.

Yeah, I would say that it's a raw material to one of our infrastructure powder producing plants. So it's not specific to any customer because that infrastructure business really feeds the raw material that we use to make inserts and cutting tools in addition to the products inside infrastructure. So it kind of applies across the whole business, but it's definitely limited to a supplier that's feeding a plant, a couple of plants, and that disruption sort of permeates through not only infrastructure, but there's a little bit of that knock-on effect into metal cutting. But it's not affecting one customer, and I would also emphasize that our customers actually are not going to see any disruption. This is really about we've managed to put another source of supply in. We've avoided any production disruption. It's really, though, that that alternate supply is more expensive, and... The faster we can mitigate it, the better.

Got it. That's helpful. Thank you.

This concludes the question and answer session. I would like to turn the conference back over to Chris Rossi for closing remarks.

Thanks, Operator, and thanks, everyone, for joining the call. You know, as I said, this quarter, it's another data point, I think, to demonstrate our ability to advance our strategic initiatives and also our ability to secure what I believe is really market-leading positions. And also, just as a quick reminder, I encourage everyone to review our third annual ESG report, which was published in September and is posted on our website. As always, I appreciate your interest and support in Kenna Metal, and please don't hesitate to reach out to Kelly if you have any questions. Everyone, have a great day. Thanks.

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