Standard Motor Products, Inc.

Also, today's call is being recorded, and I will be standing by if anyone should need any assistance. Now I'd like to turn the call over to Mr. Tony Cristello, Vice President of Investor Relations. Please go ahead, sir.

Thank you, Bo, and good morning, everyone. Thank you for joining us on Standard Motor Products' first quarter 2024 earnings conference call. With me today are Larry Sills, Chairman Emeritus, Eric Sills, Chairman and Chief Executive Officer, Jim Burke, Chief Operating Officer, and Nathan Isles, Chief Financial Officer. On our call today, Eric will give an overview of our performance in the quarter and Nathan will then discuss our financial results. Eric will then provide some concluding remarks and open up the call for Q&A. Before we begin this morning, I'd like to remind you that some of the material that we'll be discussing today may include forward-looking statements regarding our business and expected financial results. When we use words like anticipate, believe, estimate, or expect, these are generally forward-looking statements. Although we believe that the expectations reflected in these forward-looking statements are reasonable, they are based on information currently available to us and certain assumptions made by us, and we cannot assure you that they will prove correct. You should also read our filings with the Security and Exchange Commission for a discussion of the risks and uncertainties that could cause our actual results to differ from our forward-looking statements. I'll now turn the call over to Eric Sills, our CEO.

Thank you, Tony, and good morning, everyone, and welcome to our first quarter earnings call. Let me open by thanking all of our employees around the world for their tireless efforts as we enter our 105th year. So it's fair to say that our first quarter results were mixed. We're pleased with our top line performance, where we set a record for first quarter sales. However, as expected, our profitability continued to lag, demonstrating some of the challenges in keeping up with inflationary pressures. Let me get into the details best explained at the segment level, starting with vehicle control. After a soft fourth quarter, we were pleased to see a nice rebound in sales. We were up about a half point over 2023, which was a challenging comp as Q1 of 2023 was very strong, up more than 4% over the previous year. After a soft end to last year, we were pleased to see a return to more normal demand. Customer POS was soft in the quarter, though again, it's being compared to a very strong sell through last year. Turning to temperature control, as you well know, the first quarter is not indicative of how the year will turn out. This is the time of year that we ship customers their preseason orders, and those can ship in late Q1 or early Q2 and whiplash numbers around. Ultimately, this division will depend on the total season and its dynamics. When it gets hot, how hot it is and where, and how long it stays that way. So let's see how the year behaves. On to engineered solutions. The year is off to a strong start for sales, up 4.5%, hitting a single quarter record. As discussed, the segment is highly fragmented, multiple end markets, multiple geographies, and a highly diverse customer base with no account greater than 10% of sales. As such, you can see some volatility quarter to quarter in terms of customer and market channel mix. Overall, we're very pleased with how we're doing. As we've been saying over the last few years, we've been gaining real traction as we get known as a capable supplier of a broad array of products and technologies. As such, we've been being awarded new business and are continuously managing a very healthy pipeline of opportunities. It's important to note that we need to keep the funnel of these opportunities full as items go through their life cycle much faster than the aftermarket, but I believe we are demonstrating our ability to do that and grow this new segment. I'd like to spend a minute talking about our progress on a new state-of-the-art distribution center in Shawnee, Kansas. We've been discussing this for the last few quarters, but I'll remind you of what we are building and why. About a year ago, we came to the decision to expand our distribution capacity as we've been operating out of our existing footprint for many years while our volume and SKU count has grown. We leased a brand new 575,000 square foot facility about five miles from our existing Edwardsville, Kansas location, giving us about 200,000 additional square feet. In time, this will replace our Edwardsville location as we move that operation in. But additionally, we plan to distribute the A and B movers currently single-pointed out of our Virginia and Texas DCs, which will allow us to provide better service to our customers in the West and North. It will also provide risk mitigation for us as we will move from single-point to multi-point distribution. We're pleased to announce that we have started shipping vehicle control products to certain customers in April, and it's going very well. We've begun with manual operations while we build out our automation, which will take place over the balance of the year. We then plan to move in phases over the course of 2025, and when complete, we will be able to sell our Edwardsville facility likely in 2026. In the near term, we are incurring additional expense and Nathan will provide details, but once complete, we will exit many of the duplicate costs and we'll be well positioned for the future. Lastly, let me discuss some of the issues we've been experiencing on the cost side that are causing continued pressure on profitability. I'll keep it at a high level and Nathan will provide more details. Overall, as expected, our profitability is down from last year, though for different reasons in the aftermarket versus engineered solutions. In the aftermarket, we are pleased that we've been able to maintain our gross margins. The pressures have been on SG&A, where we continue to experience elevated expenses tied to our receivables factoring programs, as well as certain other areas. In engineered solutions, while operating expenses have remained stable, the downward pressure has been on our gross margins, which then drop through to the bottom line. We've been experiencing product cost inflation, partly for material costs, but more so related to significant wage increases in Mexico and Europe, where a great deal of our engineered solutions volume is produced. We've also seen a modest mix shift over the last two quarters, which can fluctuate based on normal ebbs and flows of demand, and this too is impacting our margins. Also, to reiterate, we are experiencing a planned and temporary increase in spending on our new distribution center. Both here and in the aftermarket, we continue to work aggressively at cost reduction and pricing. with teams in place looking at all of the levers and believe we will see incremental relief in the quarters to come. So with that, I'll turn it over to Nathan, who will dive in deeper.

All right. Thank you, Eric. As was noted earlier, the first quarter of the year largely turned out as expected, as sales, operating profit, and earnings per share were in line with the expectations we laid out in our last call. As we go through the numbers, I'll first give some color on the results by segment and at the consolidated level, then cover some key balance sheet and cash flow metrics. and finally provide a brief update on our financial outlook for the full year of 2024. First, looking at our vehicle control segment, you can see on the slide that net sales of 185.5 million in Q1 were up 0.5%, with the increase driven by solid demand for our products across all categories. Vehicle controls adjusted EBITDA was 10.4% of net sales for the quarter and down from last year. Looking at the drivers of EBITDA for the quarter, the gross margin rate for vehicle control in Q1 was flat with last year, as cost savings and pricing offset inflation and cost of goods sold. However, SG&A expenses increased in the quarter, mainly due to inflationary increases I'll touch more on later, and factory expenses increased $0.9 million as a result of higher interest rates, and those increases resulted in lower adjusted EBITDA in the quarter. Turning to temperature control, net sales in the quarter for that segment of $71.6 million were down 1.1%, as we saw a slight variation in preseason ordering patterns versus last year. But keep in mind that the first quarter is not indicative of the full year in this seasonal business. Temperature controls adjusted EBITDA in Q1 of 4.7% was 0.1 points better than last year. The improvement was driven by a higher gross margin rate that was helped by savings initiatives, partly offset by inflation and SG&A costs. Sales for engineer solutions segment in the quarter were up 4.5% as we were pleased to see our sales continue to increase as a result of strong demand and new business wins with both existing and new customers. Adjusted EBITDA for engineered solutions in the quarter was down from last year, primarily due to cost inflation, the drivers of which Eric noted before, and unfavorable customer sales mix in the quarter, which resulted in lower gross margin for the segment. We also saw some inflation in SG&A costs in this segment, just as we saw in the aftermarket segments. Turning to our consolidated numbers, the change in our net sales and margin versus Q1 last year was the result of the changes in our segments as highlighted. Regarding consolidated SG&A, expenses were up versus last year and were 19.5% of net sales in the quarter. I noted our costs were up in our segment results, so let me give a little more color on the drivers at the consolidated level. You can see on the slide that costs were up $4.2 million, and this included $1.1 million of startup costs related to our new distribution center. Excluding these costs, expenses increased $3.1 million, or about 5%. The increase included elevated distribution expenses across a number of costs, including higher lease expense in certain locations. As we look to offset some of the inflation headwinds on operating expenses, we'll be reviewing levers to reduce our costs going forward. One final note on our consolidated results. You can see the cost of customer factoring programs increased by $0.9 million in Q1, but I would point out that we can see the cost of those programs leveling out now that interest rates have been more steady, albeit at a much higher level than several years ago. Turning now to the balance sheet, accounts receivable were $203.9 million at the end of the quarter, and inventory levels finished Q1 at $520.7 million, with both balances in line with March last year. Increases in receivable and inventory from December 2023 relate to the seasonal increases in sales and preparation for temp control selling season. Our cash flow statement reflects cash used in operations for the first quarter of $45.7 million as compared to cash used at $20.4 million last year. Cash used in operations last year was aided by a reduction in inventory balances that did not recur this year after we brought inventory back down to normal levels through the course of 2023. Our investing activities show an increase in capital expenditures this year of $5.7 million, which includes $2.6 million of investment related to our new distribution center. Financing activities show borrowings on a revolving credit agreement of $58.7 million in the first quarter, which were used to fund operations, capital expenditures, and pay $6.4 million of dividends. We also began repurchasing shares under an existing $30 million authorization from our board and repurchased 2.6 million of shares during the quarter. We continue to purchase shares in the second quarter, and as we noted in our release this morning, purchased an additional 3.5 million through April 29th for a total of 6.1 million repurchased so far this year. Our net debt of $187.7 million at the end of Q1 was much lower than last year, and we finished the quarter with a leverage ratio of 1.6 times and lower than last year's ratio. Before I finish, I want to give an update on our sales and profit expectations for the full year of 2024. Regarding our top line sales, we are maintaining the expectations we laid out before and expect full year 2024 sales will show flat to low single digit percentage growth. We're also maintaining our expectations for adjusted EBITDA, which we expect to be in a range of 9% to 9.5% and essentially flat 2023. This estimate continues to include factory expenses of $45 to $48 million, largely flat with 2023, as we remain in a high and uncertain interest rate environment, a U.S. dollar that remains at a multi-year low against key currencies in Mexico and Poland, and some additional costs related to the expansion of distribution capabilities in our new warehouse in Kansas, which we estimate is $5 to $6 million incremental costs in 2024. In connection with our adjusted EBIT outlook, we expect our interest expense and outstanding debt to be on average about $3 to $4 million each quarter, and we expect our income tax rate to be 25%. Borrowings are expected to remain roughly flat from December 2023 to December 2024 as cash flows normalize, and we look to invest approximately $25 million in our new DC and return cash to shareholders via dividends and share repurchases. Regarding operating expenses for the full year, keep in mind our operating expenses are incurred relatively across the year and do not necessarily vary with top line sales, as the majority of these costs are fixed in nature. As such, we anticipate total operating expenses, inclusive of factoring, will range from $76 to $82 million for each of the last three quarters of 2024. To quickly wrap up, we were pleased to see our sales increase in Q1 despite slightly slower preseason orders and temp control. and to turn in results in line with the forecast, while also increasing shareholder returns through share repurchases in the quarter. Thank you for your attention. I'll turn the call back to Eric for some final comments.

Well, thank you, Nathan. In closing, I'd like to spend a minute on how we are thinking about the future. The aftermarket continues to be a strong and stable market. All signs suggest that after a few years of unusual demand behavior coming out of the pandemic, it has returned to its historical long-term trend of low single-digit growth. which makes sense when you consider the basic dynamics of the addressable market where things change very slowly but in the right direction. The car park slowly gets larger and older. Miles driven has returned to stable levels. People are keeping their cars longer, especially in light of the high cost of new vehicles. And when you put these together, they add up to slow growth. We recognize that the record inflation over these last few years have caused challenges to consumers. And while this could dampen discretionary purchases, Much of what we sell is non-discretionary in nature. Engineered solutions is more difficult to summarize as it is so diverse in end market, customer, product, and geography. But as we have been saying, we believe our sales trajectory will be less determined by ebbs and flows in these markets as it will be by gaining and launching new business wins and building on these wins. It's obviously not lost on us that we have work to do to return to our historic margins, and we are focusing diligently on this. So overall, when you put it all together, the long view remains quite positive. That concludes our prepared remarks. At this point, I will turn it back over to the moderator, and we'll open it up for questions.

Thank you, Mr. Sills. Ladies and gentlemen, at this time, if you would like to ask a question, please press the star 1 on your telephone keypad. You may remove yourself from the queue at any time by pressing star 2. Once again, that is star 1 to ask a question, and we'll pause for just one moment to allow questions to queue. We'll go first this morning to Scott Stember of Roth MKM.

Good morning, guys, and thanks for taking my questions.

Good morning, Scott.

Good morning. Eric, you talked about how, I guess, the weakness that we saw in Q4 sort of reversed and that things are back to normal yet. On the other hand, you talked about POS being a little soft. Is that more just a function of tough year-over-year comparisons, or is there something else going on?

I think that's a fair statement, Scott, that it is more about the fact that the first quarter of 2023 was really quite strong. If you think about the POS trends coming through the fourth quarter of last year and into this year, last year we saw a sequential erosion of that POS month over month. And that continued a bit into January of this year. And now we started to see a bit of a rebound. So if you look at the whole quarter this year, POS was a bit soft. But I think that it also does reflect more of that return to where we'd expect it to be.

So when you say soft, are we talking flat or down slightly for the whole quarter?

uh it moderated throughout the quarter and overall it was roughly in that flat there was some periods and some customers that were a little bit up or down from that but overall it's that that's what we saw got it um and then on the engine solution side um it looks like the other most of the growth came from the other segment is that utv mostly or is there something else in there and what's driving that Well, we don't go into the specifics of what's behind it. There's many different end markets in there from motorsports to lawn and garden, hydraulic, stationary engines. There's a lot of different pieces in there. And as we always say, there's going to be some movement quarter to quarter based on the build schedules of the customers within these. So I wouldn't read too much in to the fact that any sub-segment goes up or down in a quarter.

Got it. And my last question is just on the margin side. You talked about, I guess, labor, wages, and things like that. How are you addressing that? And what is a good margin? I guess, where should we look for the margins? to eventually land in a more normalized environment for this segment. Thank you.

And Scott, just to be clear, this is on the engineered solution segment you're asking about? Yeah, yeah, thanks. Yeah, yeah. Right. So I think, Scott, the gross margin that we'd be looking at, and I guess to give a little bit of history before I start, if you go back several years, the gross margins have kind of ranged between 18% and 20% over time. And so as we look at offsetting cost headwinds and cost reductions in this area, we look to be getting back into that range. You know, I think on the very bottom line of just the EBITDA and where we tend to talk about that number recently, we'd expect that segment to also continue to be in line with the aftermarket once the headwinds are offset.

Got it. All right, that's all I have. Thank you.

Thank you.

Thank you. We'd like to now to Brett Jordan at Jefferies. Hey, good morning, guys.

Good morning, Brett.

Could you talk about temperature control inventory at the customer level, ending Q1, how we are year over year?

Sure. You know, and I think you can't just look at it after Q1, but as they're building up their entirety of their preseason orders, which did continue into the beginning of Q2. And what I would say is that basically they're in good shape for the season, maybe slightly above where they were going into last selling season, but they're healthy and where they would want them to be. So now ultimately it's about what happens with the weather. And so really... We're hoping that that begins over the next few weeks and lasts for a long time.

Okay. And you talked about new customers. Was that primarily the engineered solutions or did you pick up new customers in the aftermarket as well?

That's correct, Brett. We're referring specifically to within engineered solutions and not so much new customers as new awards with existing customers, although there is a little bit of that as well. One thing just to kind of characterize what happens in that industry, is it's a lot of base hits. It's not like you're landing a new platform with a light vehicle manufacturer and all of a sudden it's a multi, multi-million dollar reward. It's a lot of base hits and we have been getting those.

Okay. And then the final question, I guess on pricing outlook, have we seen most of the inflation pass through or is there still something to come to offset the continued high rates?

Yeah, so look, it's a competitive market, as you well know. And so pricing is not easy to come by. We continue to work with all of our customers where we can to be able to share with them what we're experiencing with cost inflation. And so nothing specific to report. We continue to work on it, but it is getting tougher.

Great. Thank you.

Thank you. Just a reminder, ladies and gentlemen, please press star 1 for any questions this morning. We'll go next now to Carolina Jolly at Gabelli.

Hi. Thanks for taking my question.

Morning, Carolina.

Morning. So just a quick question. In terms of kind of industry commentary, it sounded like in some areas in the industry there was kind of a weak start to the spring selling season. Would you give in? your kind of inventory and category mix have exposure to that underlying trend?

I'm not sure I completely understand your question. Are you asking whether we're tracking with the overall numbers of the large public companies as they report?

Just in terms of it did sound like there was more of a DIY

I see what you're saying. Most of our products are not DIY. There's certainly a bit of work there that certain shade tree mechanics are able to do, but the majority of our products are professionally installed. I think it has less to do really with the DIY customer versus the DIFM customer. It has more to do with discretionary versus non-discretionary type purchases. And the majority of what we're selling is non-discretionary. And so while I think you have some, you know, economically challenged consumers who are perhaps deferring things that they don't need, typically our types of products are break-fix, and if the car is not working, they have to buy it. Great.

Thank you.

Thank you. And just a final reminder, please, ladies and gentlemen, any further questions today? Star 1 at this time. And gentlemen, it appears we have no further questions today. Mr. Christello, I'd like to hand things back to you, sir, for any closing comments.

Okay. Thank you. Again, we want to thank everyone for participating in our conference call today. We understand there was a lot of information presented, and we'll be happy to answer any follow-up questions you may have. Our contact information is available on our press release or investor relations website. We hope you have a great day. Thank you.

Thank you. Thank you, gentlemen. Ladies and gentlemen, that will conclude the Standard Motor Products First Quarter Earnings Conference Call.