Acuity Brands, Inc. (NYSE:AYI) Q2 2023 Earnings Call Transcript

Acuity Brands, Inc. (NYSE:AYI) Q2 2023 Earnings Call Transcript April 4, 2023

Operator: Good morning and welcome to the Acuity Brands Fiscal 2023 Second Quarter Earnings Call. Please be advised that today’s conference is being recorded. I’d now like to hand the conference over to Charlotte McLaughlin, Vice President of Investor Relations. Charlotte, please go ahead.

Charlotte McLaughlin: Thank you, Liz. Good morning and welcome to the Acuity Brands fiscal 2023 second quarter earnings call. As a reminder, some of our comments today may be forward-looking statements based on our management’s beliefs and assumptions and information currently available to our management at this time. These beliefs are subject to known and unknown risks and uncertainties, many of which may be beyond our control, including those detailed in our periodic SEC filings. Please note that our company’s actual results may differ materially from those anticipated and we undertake no obligation to update these results. Reconciliations of certain non-GAAP financial metrics with their corresponding GAAP measures are available in our 2023 second quarter earnings release which is available on our Investor Relations website at www.investors.acuitybrands.com.

With me this morning is Neil Ashe, our Chairman, President and Chief Executive Officer, who will provide an update on our strategy and our fiscal second quarter highlights and Karen Holcom, our Senior Vice President and Chief Financial Officer, who will walk us through our fiscal second quarter financial performance. There will be an opportunity for Q&A at the end of this call. We are webcasting today’s conference call live. Thank you for your interest in Acuity Brands. I will now turn the call over to Neil Ashe.

Neil Ashe: Thank you, Charlotte. Good morning and welcome to all of you joining us on this call. We delivered solid performance again in the second quarter of fiscal ’23. We grew sales in both our lighting and spaces businesses, expanded adjusted operating profit and grew adjusted diluted earnings per share. We generated strong cash flow from operations and created permanent value for shareholders through share repurchases. Both our lighting and spaces businesses delivered solid revenue while improving adjusted operating profit. In the Acuity Brands, lighting and Lighting Controls business, our strategy of increasing product vitality and service levels continue to differentiate us in the market. A few weeks ago, we hosted our annual sales conference in Atlanta, NEXT 23.

It was a great event, where we brought together our network of independent sales agents and shared our strategic vision for ABL and introduced new products. I’d like to take a minute to describe our independent sales network. Stated simply, we have the best agency network in the industry. To give you an idea of their scope, we have about 80 agents in North America and they have about 50 employees per agency. In other words, we have over 4,000 local sales and sales support people working for us every day throughout North America. While our agents are independent, they are exclusive to us for key controls and do not represent the other majors. They are generally the largest in their market and we are their most important partner. Our partnership works very well.

With our product vitality and service efforts, we make products that deserve to be chosen and our independent sales agents ensure that they are chosen. Product vitality is driving success across our portfolio and during NEXT 23, we introduced several new products. I want to highlight a couple here. The first was the new nLight AIR System Input Device. This is an indoor controller that can be used in multiple spaces, including office, commercial and retail. The device converts analog outputs to wireless broadcast to control intelligent luminaires. This reduces the need for complex wiring solutions during installation and reduces the associated cost for the customer. The second was the nLight AIR rPOD Micro. This is a battery-powered wall switch that can be used as a traditional wall switch or as a remote, providing control from anywhere within a build space.

This is a really exciting extension of the technology and an elegant response to our customers’ need for flexibility. These and other products continue to gain market attention. This quarter, several of our architectural lighting brands, A-Light, Eureka and Luminis, won a total of eight Good Design Awards from the Chicago Athenaeum which recognizes products and industry leaders in design and manufacturing that have chartered new directions for innovation. Now moving to our Intelligent Spaces Group. The spaces team continued to perform well, delivering another quarter of solid sales and operating profit growth, driven by the continued success of Distech. Distech is winning because we have the best digital control solutions in the market. It’s technology is open protocol which means you can connect our controller to most new or existing systems in a build space, giving our customers significant flexibility.

We are also winning because Distech goes to market through independent system integrators. We are continually curating the highest quality network of SIs in each market in which we compete. Our focus is on expanding the addressable market for Distech which we have started to do in two ways. The first is geographic, as we mentioned last quarter. Today, we sell our controls primarily in the U.S., Canada and France and we are expanding our presence in the U.K. and in the future in Asia. As we enter new markets, we are identifying and recruiting the highest-quality SIs as our partners. Second, we believe that any control that is currently mechanical or analog will become digital over time. So we are increasing what we can control and build spaces; this will provide us a second vector for continued growth.

Finally, I also joined our spaces team at the AHR Expo in Atlanta, where HVACR professionals gathered to share ideas and to showcase technology. It was great to hear firsthand from the SIs there, how differentiated our Distech and Atrius products are. Now looking to the rest of fiscal 2023. We’ve been intentional around our product vitality and service efforts and how we operate the business. We have demonstrated our ability to manage price and cost, both in our go-to-market efforts and in our operations. Today, we are in greater control of the things we can control than we have ever been. As you know, there are meaningful changes in the economic climate. During the quarter, we began to see a slowing in the order rate for our project business, while we continue to work through our extended backlog.

We believe that the slower order rate is driven by the lead time compression that we discussed last quarter and now the changing C&I lending environment. At the same time, our Contractor Select business continued to be strong. We will continue our focus on end markets and identifying new ways to grow. As we deal with these changing market conditions, our focus is on generating profits and turning those profits into cash. We are continuing to manage the price/cost relationship and we’ll continue to generate strong cash flow. In closing, we entered the second half of fiscal ’23 with our strategy unchanged. We are in control of what we can control and we are confident in our ability to adapt to the changing market conditions and requirements of our customers.

Now I’ll turn the call over to Karen, who will update you on our second quarter performance.

Karen Holcom: Thank you, Neil. We delivered a solid performance in the second quarter of 2023. Sales in both businesses grew, delivering improved adjusted operating profit and margins and adjusted diluted EPS. We generated strong cash flow from operations and continued to allocate capital effectively. In the second quarter, we generated net sales of $944 million which is 4% higher than the prior year. This was largely due to price with both the ABL and ISG businesses contributing to the growth during the quarter. Operating profit in the second quarter was $112 million and adjusted operating profit increased $10 million to $132 million from the prior year. Adjusted operating profit margin improved 50 basis points over the prior year to 14%.

The improvement in adjusted operating profit and adjusted operating profit margin was a result of the increase in gross profit performance as we successfully managed price and cost. Finally, we continued to grow adjusted diluted earnings per share. Our diluted earnings per share of $2.57 was an increase of $0.44 or 21% year-over-year while our adjusted diluted earnings per share of $3.06 increased $0.49 or 19% over the prior year. The growth in adjusted diluted earnings per share was primarily due to higher operating profit and lower shares outstanding due to the share repurchases. Moving to our segment performance review. ABL, net sales grew to $891 million, an increase of 3% compared with the prior year. This increase was primarily driven by higher year-over-year sales in our independent sales network, the direct sales network and the retail channel.

As Neil mentioned, the order rate related to our project business slowed during the quarter, However, our Contractor Select business targeted at distributors and retail continued to grow. ABL’s operating profit was $124 million, an increase of 6% versus the prior year with ABL adjusted operating profit at $133 million, an increase of 5% versus the prior year. The adjusted operating profit margin was 15% which was 30 basis points better than last year. The improvement was a result of our ability to manage price and cost. Now moving to ISG. The spaces segment continued to perform well with another good quarter of net sales growth and improved adjusted operating profit. Sales in the second quarter of 2023 were $58 million, an increase of $8 million or 16% versus the prior year, primarily as a result of the growth in Distech.

During the quarter, both Distech and Atrius delivered growth across new and existing customers. Operating profit in the second quarter of 2023 increased to approximately $6 million this quarter, with ISG adjusted operating profit at $11 million. Now, I want to expand on our cash flow performance. We generated $306 million of cash flow from operating activities for the first 6 months of fiscal 2023, an increase of $179 million over the prior year’s first half, driven largely by improvements in working capital. Last year, we invested in inventory in order to support our growth as well as insulate our production facilities from inconsistent supply availability with the intention of working down that inventory over several quarters which we have done.

We are now down 16 inventory days from the peak in February of 2022 and we have brought inventory levels down by over $50 million sequentially from the first quarter of fiscal 2023. We also invested $36 million in capital expenditures and $124 million to repurchase approximately 700,000 shares during the first half of fiscal 2023. As we said before, our capital allocation priorities remain the same. We have invested for growth in our current businesses through R&D and CapEx. We’ve expanded our platform through acquisitions as evidenced by the purchase of OPTOTRONIC in our lighting business. We’ve maintained our dividend and we’ve created a permanent shareholder value through over $1.1 billion of share repurchases since the fourth quarter of fiscal 2020 which was funded by our organic cash flow generation.

Before I turn the call to the operator for questions, I want to summarize our performance. We continued to deliver solid performance in the second quarter of 2023. We grew sales in both our lighting and spaces businesses, we improved adjusted operating profit and margins and grew adjusted diluted earnings per share. We generated strong cash flow from operations and created a permanent value for shareholders through share repurchases. Our guidance provided for fiscal 2023 remains unchanged and we are continuing to focus on what we can control and position ourselves to quickly adapt to changing market conditions. Thank you for joining us today. I will now pass you over to the operator to take your questions.

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Q&A Session

Operator: Thank you. Our first question comes from Tim Wojs at Baird.

Tim Wojs: Nice job on the quarter. Maybe just kind of starting off on the sales side. Just wondering if you can maybe add a little bit of color on kind of what you’re seeing on the order rate front that you alluded to and just how those orders maybe trended through the quarter, both on a project basis and in distribution? And then how do you think we should maybe think about the back half of the year from a revenue perspective, just given some of the slowing you talked about?

Neil Ashe: Yes. So Karen, why don’t I start and you add anything at the end. So the big picture, let’s break down kind of the lighting business into several component parts. We’ll focus on the projects through C&I. And that’s where we started to see some of the softening in the order rate. We think that is related to two things, Tim. The first is the compression of the lead times as we started to introduce last quarter. The — for context, those lead times now are down about — are running currently down about 30% from where they were at the peak which was in the fourth quarter of fiscal 2022. So that — as you see those compressing, obviously, there’s projects that would have been ordered later that have already been ordered.

Second, on the distributor side, there’s two ways to think about the distributors. The first is where they’re managing that project business. So obviously, that’s correlated to that project business. That’s where we referred to the stock and flow last quarter. The second is around inventory that they purchased for resale which is largely our Contractor Select portfolio. That portfolio grew in excess of where the rest of the business. So as we look forward, we think the market is presenting us with mixed signals. Obviously, there’s some economic turmoil. The C&I lending rate, federal loan survey would indicate that there’s fairly significant tightening on the C&I side which we — which gives us pause. At the same time, we’re — the parts of our business, like Contractor Select that are around everyday products are performing really well.

So net-net, we are — as we said, we’re positioned to respond to whatever it delivers us — the market delivers us. And as Karen indicated, we feel good with kind of where we are from a current projections perspective.

Tim Wojs: Okay. And then, just — I guess, on the margins within the quarter. Just wondered if there’s a way to kind of break down some of the sequential improvement because normally, you’d see kind of a seasonal kind of step-down in margins from Q1 to Q2. And so I’m just kind of wondering kind of what drove the step up and as you think about seasonality in the back half of the year. I mean, do you see that kind of normal kind of Q3, Q4 kind of margin step-up that you’ve seen historically as well?

Neil Ashe: So the margin performance at the gross margin level was delivered by managing price and some increasing favorability on the input cost front. So obviously, we’ve got a — we’ve taken a much more strategic approach to pricing, we believe and that is — our Contractor Select portfolio is aggressively positioned right product, right place, right price and we’re purposeful about that. On the project side, we have the ability to choose the projects that we want to take so we can strategically manage price there. And we’re starting to see favorability on the input cost side. So that’s — we’re obviously very aggressively managing that and that should be the trend going forward for the rest of the year.

Operator: Our next question comes from Ryan Merkel with William Blair.

Ryan Merkel: First off, can you speak to the risk of channel destocking later this year? Any view on if the channel has too much inventory out there?