Barnes Group Inc. (NYSE:B) Q4 2022 Earnings Call Transcript

Barnes Group Inc. (NYSE:B) Q4 2022 Earnings Call Transcript February 17, 2023

Operator: Good morning. My name is Devin and I will be your conference operator today. At this time, I would like to welcome everyone to the Barnes Fourth Quarter and Full Year 2022 Earnings Conference Call and Webcast. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. Thank you for your patience. I will now turn the call over to Vice President of Investor Relations, Mr. Bill Pitts. You may begin the conference sir.

Bill Pitts: Thank you, Devin. Good morning and thank you for joining us for our fourth quarter and full year 2022 earnings call. With me are Barnes President and Chief Executive Officer, Thomas Hook, and Senior Vice President, Finance and Chief Financial Officer, Julie Streich. If you have not received a copy of our earnings press release, you can find it on the Investor Relations section of our corporate website at onebarnes.com, that’s o-n-e-b-a-r-n-e-s.com. During our call, we will be referring to the earnings release supplement slides which are also posted to our website. Our discussion today includes certain non-GAAP financial measures, which provide additional information we believe that is helpful to investors. These measures have been reconciled to the related GAAP measures in accordance with SEC regulations.

You will find a reconciliation table on our website as part of our press release and in the Form 8-K submitted to the Securities and Exchange Commission. Be advised that certain statements we make on today’s call, both during the opening remarks and during the question-and-answer session, maybe forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. These forward-looking statements are subject to risks and uncertainties that may cause actual results to differ materially from those projected. Please consider the risks and uncertainties that are mentioned in today’s call and are described in our periodic filings with the SEC. These filings are available through the Investor Relations section of our corporate website at onebarnes.com.

Let me now turn the call over to Tom for his opening remarks, then Julie will provide a review of our third quarter performance and our updated outlook for 2022. After that, we’ll open up the call for questions.

Thomas Hook: Thank you, Bill and good morning everyone. It’s been an enjoyable six months since moving into the CEO role at Barnes, I’m pleased with the depth and pace of our drive towards unlocking enterprise value through a focus on core business execution. Beneficial early signs of these efforts are already appearing in main areas across the company. For example, in Industrial, investments in commercial professionals have reinvigorated our sales funnels. This has precipitated early success in orders in certain targeted end markets. We are combining two of our strategic business units into one, and we are making solid progress on our Integrate, Consolidate, and Rationalize restructuring efforts. At Aerospace the active market remains robust and OEM orders were very good.

We will touch on the details of these points momentarily. For the fourth quarter, organic revenues increased 5%, though adjusted operating margin decreased slightly. Given ongoing labor productivity challenges, COVID related absenteeism in our China operations and gross inflation concerns, it reflects some progress, but not sufficient progress. Organic orders were good up 10% and book-to-bill was a solid 1.1 times. Cash performance was pressured, and Julie will touch on that in additional detail shortly. However, we believe the cash challenge in 2022 is passing, and we expect more typical performance in 2023. Before jumping into the financial results, let’s talk about what’s happening within our businesses beginning with Industrial. Industrial has a strong portfolio of brands, some of which have significant strength within their end markets.

Others are being refocused to unlock more value than has been delivered to date. Our Integrate, Consolidate, Rationalize initiative, will power some of that performance improvement. As an example, to begin in 2023, we have combined our engineered components and force motion control businesses into a single new strategic business unit called Motion Control Solutions or MCS. MCS will bring the combined brands together and be better positioned to leverage the entire portfolio, products, services, and solutions we offer to our global customers. This integration will allow MCS to better manage and mitigate global macroeconomic challenges and rationalize costs. A portion of those savings will be reinvested into enhancing our MCS sales force to drive top line growth.

Our restructuring efforts are well underway with ongoing execution of Phases 1 and 2 announced in July and October respectively. During the fourth quarter as part of our Phase 2 actions, we consolidated one of our molding solutions sensor facilities into other operations and more significantly transitioned our Innovation Hub activities. Of course, we remain focused on innovation and believe we are best served driving R&D from within the business in closer proximity to customer revenue generation. In addition, eliminating the central structure of the Innovation Hub is a demonstrateable step in our efforts to rationalize overhead. At this time, planning for additional actions is underway. With all this activity occurring simultaneously across Industrial, what early sign of traction can be seen in the organic orders of our Molding Solutions SBU.

You may recall in July, we spoke to the establishment of key regional markets in the Americas, Europe, China, and Asia. This was a deviation away from our brand-based commercial strategy with the intent to better leverage our full product portfolio with customers. This allows us to better tailor our extensive technology solutions for each customer application and generate growth for Molding Solutions. That change has resulted in a better fill of the commercial pipeline. In the fourth quarter, we saw 17% organic orders growth for Molding Solutions with mold systems demonstrating considerable strength. That performance could have been even stronger had we not seen our hot runner product line pressured by significant COVID disruption in China at the end of the year.

Molding Solutions book-to-bill was a solid 1.16 times, which is a good result for the largest growth engine within our industrial portfolio. Our Aerospace business continues to perform well despite challenges, especially as it relates to labor. We have successfully acquired the critical talent that was a constraint earlier in 2022. However, integrating the newly acquired talent into our production operations has negatively affected productivity and operating margin, primarily within the OEM business. Fortunately, this dynamic is changing for the better through enhance training and development efforts. We do not anticipate future quarters to be as impacted by these effects. OEM’s book-to-bill in the fourth quarter was 1.33 times. Looking forward 2023 provides significant opportunities for renewing and extending existing key contracts with GE and LEAP and other programs.

We are highly confident these will present upside prospects for our financial performance and provide a baseline of future work enabling cost optimization and production efficiencies in our Windsor, Connecticut, and Singapore locations. In the aftermarket overall activity remains robust, capping a significant year of recovery. As additional flight activity builds with China reopening, we expect this business to continue to grow through 2023. To conclude my prepared remarks, our unrelenting emphasis on core business execution will improve our competitiveness, provide revenue growth, drive operational efficiencies, and generate solid cash flow. Our top line, bottom line, pipeline philosophy will direct the actions we take across the company. While much work remains to improve our underlying performance, multiple actions are underway with the appropriate sense of urgency from the Barnes team.

Our collective efforts will unlock the Enterprise Value Potential we see in Barnes to the benefit of all stakeholders. Let me now pass the call over to Julie for a discussion on our fourth quarter and full year performance as well as some end market color.

Julie Streich: Good morning everyone, and thank you Tom. Let me begin with highlights of our fourth quarter results on Slide 4 of our supplement. Fourth quarter sales were $313 million, up 1% from the prior year period with organic sales increasing 5%. Foreign exchange, negatively impacted sales by 4%. Adjusted operating income was $35 million this year, down 1% from adjusted $35.4 million last year, and adjusted operating margin of 11.2% was down 20 basis points. Net income was $15.6 million or $0.30 per diluted share compared to $28.1 million or $0.55 per diluted share a year ago. On an adjusted basis, net income per share of $0.52 was down 5% from $0.55 last year. Adjusted net income per share in the fourth quarter of 2022 excludes $0.16 of restructuring related charges and $0.06 of tax related CEO transition cost.

Tax was a drag in the quarter as our effective tax rate was 18.6% compared to 4.9% a year ago. The increase in the effective tax rate was primarily driven by the non-recurrence of beneficial foreign tax items a year ago and the current quarter tax charges associated with the company’s CEO transition. Moving to our 2022 full year highlights, on Slide 5 of our supplement, sales were $1.26 billion, up slightly from the prior year. Organic sales were up 4% while FX had a negative impact of 4%. On an adjusted basis operating income was $145.9 million versus $151 million last year, a decline of 3%. Adjusted operating margin decreased 40 basis points to 11.6%. For the year interest expense was $14.6 million, a decrease of $1.6 million due to lower average borrowings.

Other expense was $4.3 million, down $1.7 million from last year, primarily because of reduction in non-operating pension expense. The company’s effective tax rate for 2022 was 64.7% compared with 21.9% last year. The increase in the 2022 effective tax rate was driven by this year’s goodwill impairment charge, which is not tax deductible, tax charges associated with Barnes CEO transition, and the non-recurring benefit — the non-recurring beneficial foreign tax items a year ago. These items were partially offset by a change in the mix of earnings between high and low tax jurisdictions. Excluding the tax impacts for the adjusted items of restructuring, goodwill impairment, and tax related CEO transition costs, the 2022 effective tax rate would be approximately 21%.

For 2022 net income was $13.5 million or $0.26 per share compared to $99.9 million or $1.96 per share a year ago. On an adjusted basis, 2022 net income per share was a $1.98, up 2% from last year. Adjusted EPS for 2022 excludes $0.33 of restructuring related charges, $0.6 of tax related CEO transition costs, and $1.33 from a goodwill impairment charge, which we recorded in the second quarter. Now I’ll turn to our segment performance beginning with Industrial. For the fourth quarter, sales were $205 million, down 3% from the prior year period. Organic sales increased 4% while unfavorable foreign exchange lowered sales by approximately 7%. Industrial’s operating profit was $6.1 million versus $19.1 million a year ago. Excluding $11.1 million of restructuring related charges in the current year, adjusted operating profit of $17.2 million was down 9% and adjusted operating margin of 8.4% was down 60 basis points.

Adjusted operating profit was impacted by lower productivity inclusive of COVID related effects in China. For the year, Industrial sales were $833 million, down 7% from $896 million a year ago with organic sales down 1%. Foreign exchange had a negative impact of 6%. On an adjusted basis, operating profit was $70 million, a decrease of 28% while adjusted operating margin was 8.4%, down 250 basis points. Moving to orders and sales for the quarter across our Industrial businesses. At molding solutions, organic orders we’re strong again this year, increasing 17%. As Tom mentioned, this is one of the leading indicators we have been looking for as evidence that our actions are on the right path. Organic sales increase 2%. For 2023 we expect Molding Solutions total sales to be up low-to-mid single digits with organic sales up mid-single digits.

At Force and Motion Control organic orders were down 3% in the quarter. China was particularly soft orders wise, as you’d expect given the COVID outbreak. Organic sales grew by 6%. Engineered Components saw strong orders, intake driven by transportation related end markets up 13% versus a year ago, and organic sales increased 3%. As Tom mentioned, we are combining our Engineered Components and Force and Motion Control businesses into a new strategic business unit called Motion Control Solutions, and we expect this business to see low single digit total organic sales growth in 2023. At Automation organic orders were up 4% while organic sales increased 13%. We expect high single digit total sales growth and low double digit organic sales growth in Automation for 2023.

For the overall segment, we anticipate low-to-mid single digit total sales growth and mid-single digit organic sales growth for 2023, with adjusted operating margin between 9.25% and 10.25%. At Aerospace sales were $109 million, up 8% from a year ago. OEM was down 2% due to the timing of customer acceptance of certain orders. Aftermarket strength continues to be favorable with sales growing 27%. Operating profit was $18 million, up 11% as compared to the prior year period. Excluding a favorable restructuring adjustment of 300,000, adjusted operating profit of $17.8 million was up 8% from last year. Contributing to the strong performance in adjusted operating profit is the benefit of higher aftermarket sales volumes offset in part by unfavorable labor productivity.

Adjusted operating margin of 16.4% was flat to last year. For the full year Aerospace sales were $429 million, up 18% from $362 million a year ago. On an adjusted basis, operating profit was $75.9 million, up 43%, and adjusted operating margin was 17.7%, up 300 basis points. Within our OEM business orders were solid in the quarter, up 7% and the book-to-bill ratio was 1.33 times. Our OEM backlog increased by 3% sequentially from last quarter and was 10% higher than a year ago. We expect to convert approximately 40% of this backlog to revenue over the next 12 months. Our OEM sales outlook for 2023 is up low double digits driven by the LEAP program on narrow body aircraft from both Airbus and Boeing. As has been the case throughout 2022, aftermarket sales growth remained healthy with MRO up 31% and spare parts up 20%.

For 2023 we continue to forecast good growth on top of 2022’s performance with MRO up low double digits and spare parts sales up high single digits. Aerospace adjusted operating margin is anticipated to be between 18% and 19%. With respect to cash, full year cash provided by operating activities was $76 million versus $168 million in the prior year period. The primary drivers of the lower cash generation in 2022 remain an increase in working capital and paid incentive compensation related to 2021. And as I mentioned in the last quarter, we’ll begin to wind down inventory as working capital performance is a focused priority for 2023. Free cash flow was $40 million versus $134 million last year. Capital expenditures were $35 million, up approximately $1 million from prior year.

With our balance sheet the debt-to-EBITDA ratio as defined by our credit agreement was 2.35 times at quarter end, up slightly from the end of the third quarter. When considering our cash position at year end on a net debt-to-EBITDA basis, we’d be approximately 2 times. Our fourth quarter average diluted shares outstanding were 51.1 million shares and period end shares outstanding were 50.6 million shares. During the quarter we did not repurchase any shares and approximately 3.4 million shares remain available under the Board’s 2019 stock repurchase authorization. Turning to Slide 7 of our supplement, let me provide details of our initial outlook for 2023. We expect organic sales to be up 6% to 8% for the year with an adjusted operating margin between 12.5% and 13.5%.

Adjusted EPS is expected to be in the range of $2.10 to $2.30, up 6% to 16% from 2022’s adjusted earnings of $1.98 per share. We currently forecast a $0.15 impact on EPS for previously announced restructuring charges, though we anticipate that number will increase as additional decisions are taken. Most of the known impact approximately $0.13 will be split evenly between the first and second quarters. We do see a higher weighting of adjusted EPS in the second half with an approximate 45% first half, 55% second half split. Similar to the last two years, we see the first quarter being the lowest point in the range of $0.36 to $0.40. A few other outlook items. Interest expense is anticipated to be approximately $24 million, driven by a higher interest rate environment.

Other income of $2.5 million driven by non-operating pension, an effective tax rate between 24.5% and 25.5%, CapEx of approximately $50 million, average diluted shares of approximately $51 million, and cash conversion of approximately 100%. I would like to note that like our adjusted earnings outlook, this cash forecast includes only previously announced restructuring actions. Actual cash performance could be negatively influenced by further investments to drive transformation. The full extent of 2023 cash outflows related to our transformation activities is still in the planning phase. In summary, 2022 was a year with a steadily recovering Aerospace business and a continually pressured Industrial business. As we work to lay a solid footing upon which to build profitable growth, we’ll continue to undertake restructuring actions to improve operational and financial performance.

Activities to Integrate, Consolidate, and Rationalize our operations are expected to show meaningful progress in 2023 that will raise margins and improve working capital efficiency. Operator, we will now open the call for questions.

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Q&A Session

Operator: Our first question comes from Pete Osterland with Truist Securities.

Thomas Hook: Good morning, Pete.

Pete Osterland: Hey, good morning, Tom, Julie, thanks for taking our questions. Just wanted to start, I was wondering if you could give any additional color on what you’re seeing for demand for Commercial Aero aftermarket. It looks like your order activity was pretty strong during the fourth quarter, but the growth rate you’re guiding too for 2023 is slowing down a bit. So I’m just wondering what you’re seeing with shop visits and how you’re expecting that to trend over the next few quarters?

Thomas Hook: Certainly. I think when you look at Aero for the amount of recovery that we’ve already seen in the Americas and in Europe, we’re getting back to pre-pandemic levels, we’ve yet to really see a lot of the full recovery within Asia, both, you know, more I think so in the narrow body has occurred with China, but so the wide body in Asia is still coming back. It will be a longer trajectory of kind of MRO recovery there. So I think kind of the math with, you know, kind of fuller return to repairs and overhauls in the Americas and Europe, we still got Asia coming along particularly in wide body that will help drive our aftermarket business. But the math of it will slow down the growth rate, but still be a nice growth trajectory as more seats are flying around the world.

We’re not predicting any major disruptions on that recovery, but certainly there’s obviously a lot of things happening globally in geopolitics that could have an effect, but so we’re being postured conservatively for it, but we do feel that Asia is going to come back along that trajectory and you’ll see continued growth of air travel progressively in the Americas and Europe as well.

Pete Osterland: All right, that’s helpful, thanks. And then I also wanted to ask just on the OEM side, does your guidance for Aero OEM sales assume that there’s going to be any increase to the underlying production rates particularly for the narrow body aircraft platforms?

Thomas Hook: No, as I think we are being very realistic to normalize to this overall supply chain that is flowing to the major players, so we very actively interface with our key customers, normalize our rates to theirs. So our guidance really reflects that reality of what cannot be demand really driven, because we know the demand is higher, but really what the overall supply chain can actually provide. So we’ve done a nice job and we’ll continue doing a nice job in the OEM side of normalizing our output relative to what the supply chain can feed us and then onto the customers. So again, that is postured appropriately and calibrated to what the overall industry can actually achieve. And that’s an important synchronization that we’ve worked very hard on with our key customers and the OEM side to do.

Pete Osterland: All right, thanks. That’s good cover. Thanks a lot.

Thomas Hook: You’re welcome Pete.

Bill Pitts: Thanks Pete.

Operator: Our next question comes from Matt Summerville with D. A. Davidson.

Matt Summerville: Thanks. A couple of questions. Can you maybe provide a little bit more detail as to the impact from the labor productivity issues in Aero and then the COVID absenteeism in China in the quarter, what that may be, what the top and bottom line impact may have been? And maybe just a little more granularity on exactly what the issue was in Aerospace?

Thomas Hook: