Garrett Motion Inc. (NASDAQ:GTX) Q1 2023 Earnings Call Transcript

Garrett Motion Inc. (NASDAQ:GTX) Q1 2023 Earnings Call Transcript April 24, 2023

Garrett Motion Inc. misses on earnings expectations. Reported EPS is $0.13 EPS, expectations were $0.21.

Operator: Hello, my name is Jason, and I will be your operator this morning. I would like to welcome everyone to the Garrett Motion First Quarter Financial Results Conference Call. This call is being recorded and the replay will be available later today. After the company’s presentation, there will be a question-and-answer session. I would now like to hand the call over to Eric Birge, Garrett’s Head of Investor Relations. Please go ahead.

Eric Birge: Thank you, Jason. Good day and welcome, everyone. Thank you for attending the Garrett Motion First Quarter Financial Results Conference Call. Before we begin, I would like to mention that today’s presentation and earnings press release are available on the IR section of the Garrett Motion website at investors.garrettmotion.com. There you will also find links to our SEC filings along with other important information about our company. Turning to slide two, we note that this presentation contains forward-looking statements within the meaning of the Securities and Exchange Act. We encourage you to read the risk factors contained in our filings with the Securities and Exchange Commission. Be aware of the risks and uncertainties in our business and understand that forward-looking statements are only estimates of future performance and should be taken as such.

The forward-looking statements represented management’s expectations only as of today, and the company disclaims any obligation to update them. Today’s presentation also includes non-GAAP measures to describe the way in which we manage and operate our business. We reconcile each of those measures to the most direct GAAP measure and you are encouraged to examine those reconciliations, which are found in the appendix of both the press release and the slide presentation today. Also in today’s presentation and comments, we may refer to light vehicle diesel and light vehicle gasoline products by using the terms diesel and gasoline only. With us on today’s call is Olivier Rabiller, Garrett’s President and Chief Executive Officer; and Sean Deason, Garrett’s Senior Vice President and Chief Financial Officer.

I will now hand the call over to Olivier.

Olivier Rabiller: Thanks, Eric, and thanks, everyone, for joining Garrett’s first quarter results conference call. I will begin my remarks on Slide 3, where we start with highlights for the quarter. I am very pleased with our results this quarter, which provide an excellent foundation for meeting the elevated 2023 guidance we announced last week. I want to thank the entire Garrett team for their flexibility and flawless execution to support the better than planned volume ramp up in the first quarter. While we see an improving macro environment, there is still supply chain volatility and high levels of inflation. Despite this, Garrett was able to optimize performance and deliver enhanced profitability. We started the year strong with Q1 2023 net sales of $970 million, up 8% on a reported basis and up 13% on a constant currency basis.

This was driven by our share of demand gains from new launches and product ramp ups, mainly in our gasoline and commercial vehicle businesses. We also saw signs of industry stabilization and recovery this quarter when compared to last year’s supply chain disruptions, especially related to semiconductor shortages. We benefited from this stabilization as well as the end of COVID restrictions in China. Adjusted EBITDA this quarter was $168 million versus $146 million in the same period last year. This increase was primarily due to higher sales for the reasons mentioned above and favorable mix, which boosted our adjusted EBITDA margin up to 17.3%. Once again, the Garrett team flexed our valuable operating structure to maximize the conversion from incremental volume and revenue upside in the quarter.

All these factors enabled us to finish the quarter with solid adjusted free cash flow of $88 million, up from $38 million in the same quarter the year prior. This highlights one of the core strengths of Garrett. Strong cash flow generation on increasing revenues and our ability to operate with low working capital. On April the 13th, we’ve announced an agreement to normalize our capital structure. This is a truly exciting achievement and represents the beginning of a new chapter for Garrett. As part of the transaction, we will convert all Series A preferred stock into a single class of common stock in an orderly manner. This will eliminate the uncertainty of the automatic Series A conversion process and normalize our capital structure. Our new structure will allow us to broaden our shareholder base and enhance our flexibility to return capital to shareholders and provide additional cash for targeted organic reinvestment in the business, as well as inorganic opportunities.

As part of this agreement, we will repurchase $570 million of Series A from Centerbridge and Oaktree. Both will continue to remain large shareholders and maintain one seat each on the Board of Directors. And we clearly appreciate both firms’ commitment to our business. In connection with this announcement, the board’s preferred conversion committee and our entire Board of Directors approved an increase in our existing share repurchase authorization to $250 million. In order to fund these share repurchases, we have launched syndication of a new $700 million term loan B. Our robust operating cash flow, along with increased liquidity after we eliminate the Series A preferred dividend, will allow us to quickly deliver. We will also continue investing in our organic and inorganic growth initiatives while maintaining our commitment to return capital to shareholders.

Last but not least, we ended up the quarter with a strong liquidity position of $760 million and are well positioned to maintain stability regardless of any volatility ahead. Turning now to Slide 4. I want to discuss the central part of Garrett’s business transformation, the expansion of our technology to serve the electric vehicle market. Our proactive strategy in developing and marketing these solutions will position Garrett for success as the automotive landscape continues to shift. This is not a defensive strategy, but an offensive one. Future proofing Garrett’s offering and taking advantage of synergies in electric vehicle applications. What makes Garrett electric vehicle arm different is our talent. The 400 industry leading engineers who bring significant expertise across core electrification competencies.

This has driven innovation in Garrett’s best-in-class product for the electric market. We master high-speed balancing and optimized aerodynamics with our turbo. That also operates at very high temperatures. The Garrett high-speed motors provide best-in-class power density operating at ten times typical automotive speeds with a compact format. Our power electronics operate at an industry leading 30kHz switching frequency with a unique compact design for high power motor control and our software operates six times faster than our closest competitors optimizing energy efficiency. We are continuing to build out our electrification team to accelerate the development of these solutions and we are allocating greater than 50% of our annual R&D budget to these growth efforts.

Turning to Slide 5. Our innovation focus allows us to design and build vertically integrated electrification solutions that are technologically superior to other products on the market. We offer our leading solutions that customers are excited about across Fuel Cell, E-Powertrain and E-Cooling. Let me focus a minute on our two new zero emission vehicle offerings. High speed, high power density E-Axle and high power refrigerant compressor for electric vehicle thermal management. We have demonstrated the benefits of this technology and are engaged in the pre-development phase with customers. With the growing need for smaller, lighter and more powerful traction and cooling systems in electric vehicles, we expect successful introduction of those products and the ramp up starting at the end of a decade.

Our focus on operational excellence and proven track records of launching technology innovation at scale, we help us maintain very attractive profitability levels for the company. In fact we expect zero emissions vehicle, battery electric vehicle and fuel cell electric vehicle, excluding hybrids, product sales to be up to $1 billion of revenue by 2030. We already have $350 million of these lifetime revenue awarded mostly in hydrogen fuel cell compressor, where we are bringing the differentiated solutions that our customers need. This, along with an unmatched portfolio related to fuel stack power, has led to strong wind performance in the past year. I will now turn things to back to Sean to provide more insight on our financial results.

Sean Deason: Thanks, Olivier, and welcome, everyone. I will begin my remarks on Slide 6. Looking at the upper left hand graph, you will see reported net sales for the last nine quarters with Q1 2023 at $970 million up from Q1 of 2022 by 8% on a GAAP basis and 13% on a constant currency basis. This growth was driven by volume upside and favorable mix resulting from shared demand gains as new products launch and ramp up primarily in our gasoline and commercial vehicle businesses. Looking at the upper right hand side of the page. Q1 2023 adjusted EBITDA of $168 million was up 15% from $146 million last year. The adjusted EBITDA margin in the period was 17.3%, up from 16.2% last year, mainly due to productivity, leveraging our fixed cost structure and the timing of cost recoveries.

On the bottom left graph, we show that Garrett generated positive adjusted free cash flow of $88 million in Q1 2023 up from $38 million in Q1 2022. Compared to last year, this favorability is driven by timing of capital expenditure payments, lower performance based incentive payouts and lower cash interest this quarter compared to the same period last year. In summary, the three graphs on this slide highlight the resilience and flexibility of Garrett. Over the past nine quarters in an extremely volatile macro and demand environment, Garrett was able to continuously deliver solid results as we flex our variable cost structure to adapt to rapid changes across the supply chain and industry. Turning now to Slide 7, we show our Q1 net sales bridge by product category as compared with the same period last year.

Again, net sales were up 8% on a GAAP basis and 13% on a constant currency basis. All verticals improved compared to the prior year, with gasoline products up 17% at constant currency adding $61 million in sales. Gasoline products now comprised 42% of reported net sales versus 40% last year driven by new program launches and ramp ups resulting in shared demand gains. These gains were partially offset by FX impacts. Commercial vehicles grew 15% at constant currency driven by strong demand in Europe, Japan and North America, combined with the ramp up of new programs. Commercial vehicles represented 19% of total net sales in Q1 2023, unchanged from Q1 2022. Our aftermarket business remains strong, growing 8% at constant currency over last year.

It now comprises 11% of net sales, down slightly from 12% last year. Overall, Q1 growth was driven across all products, partially offset by FX. Turning to Slide 8. We show our Q1 adjusted EBITDA bridge compared with the same period last year. Adjusted EBITDA of $168 million represented a $22 million improvement over the prior period. Increased sales accounted for $18 million of this improvement, with the remainder coming from favorable product mix, productivity and the timing of inflation pass-through net of pricing, partially offset by increased costs from inflation on commodities, transportation and energy. R&D investment increased by $3 million as planned, and we continue to dedicate over 50% of the total R&D expenditure to new technologies as Olivier mentioned earlier.

Overall, operating performance improved by $22 million year-over-year, which included the negative impact of a weaker euro across the two periods. As mentioned earlier, the adjusted EBITDA margin in the quarter was 17.3% versus 16.2% last year. As the industry stabilizes and begins to improve, we continue to successfully adapt our variable cost structure to deliver productivity amidst an ongoing inflationary environment. A strong first quarter results reflect our significant operating momentum as we continue to advance our business transformation, along with strong industry volume in key regions. However, we also remain vigilant and proactive in our approach to managing risks while keeping a close eye on market trends. Moving now to Slide 9, we show adjusted EBITDA to adjusted free cash flow bridge for Q1 2023.

As noted, Garrett delivered solid adjusted free cash flow of $88 million in the quarter. Adjusted free cash flow was impacted by use of working capital of $44 million, driven by higher inventories and receivables as a result of increased sales in the latter part of the quarter. Cash taxes were $19 million and cash interest was $10 million, which is in line with our expectations. Capital expenditures came in at $8 million lower than expected and primarily due to the timing of payments. Full year CapEx remains in line with our expectations. Overall, the solid cash flow generation in a volatile but improving environment allowed Garrett to improve liquidity as we will discuss on the next slide. Turning to Slide 10. We ended Q1 2023 with a strong liquidity position of $766 million, comprised of $475 million of undrawn revolving credit facility capacity and $291 million of unrestricted cash, which increased $45 million sequentially.

Garrett continued to improve its leverage ratio in the quarter. We drove down our net debt to the last 12 months, consolidated EBITDA ratio to 1.43 times in Q1 2023. This compares to 1.59 times in Q4 2022. Robust and consistent cash generation has enabled us to simplify and de-lever our balance sheet. And as Olivier mentioned earlier, highlights one of the core strengths of Garrett. Strong cash flow generation on increasing revenues and our ability to operate with low working capital. We recently launched a new seven year $700 million term loan B syndication that will fund the announced capital structure transformation. Once this syndication and the orderly conversion of the Series A preferred shares to common stock is completed, we will have a normalized capital structure that will provide a number of important benefits as we outlined earlier this month.

Moving to Slide 11. Stronger volumes, robust operational performance and favorable foreign exchange are driving better than expected financial results year-to-date. As a result, we increased our full year 2023 outlook on April 17th to reflect the strength of our performance and we reaffirm that outlook today. On this slide, you can see the updated macro assumptions and financial ranges that imply the following at the midpoint. Net sales of $3.89 billion. Net sales growth at constant currency of 7.5%. Net income of $250 million. Adjusted EBITDA of $610 million implying a margin of 15.7% and net cash provided by operating activities of $442 million and adjusted free cash flow of $365 million, which reflects the expected better operational performance, partially offset by higher interest expense from the new term loan B.

For greater detail, I point you to the reconciliations of each of these metrics to the nearest GAAP figure as shown in the appendix to this presentation. In summary, our 2023 outlook is for continued adjusted EBITDA growth and solid cash generation in a volatile but improving macroeconomic environment. With that, I will now hand it back to Olivier for his closing remarks.

Olivier Rabiller: Thank you, Sean. Wrapping up with a summary of Q1 on Slide 12. We delivered net sales of $970 million, up 8% on a GAAP basis and up 13% in constant currency basis versus Q1 of 2022. We achieved strong operating performance, generating $168 million of adjusted EBITDA with an adjusted EBITDA margin of 17.3%. Adjusted free cash flow for the quarter was up $50 million from Q1 2022 at $88 million. Our ability to generate cash has contributed to our Q1 strong liquidity position of $766 million. And as we look ahead to the rest of the year, we have raised the midpoint of our adjusted EBITDA guidance to $610 million for adjusted free cash flow for an adjusted free cash flow up to $365 million. We are at an exciting inflection point for Garrett.

Our recently announced agreement with Centerbridge and Oaktree will enable us to normalize our capital structure by creating a single class of common stock. It will also enable greater liquidity and a multi-billion dollar market capitalization and diversify our shareholder base. Equally important, our normalized structure will allow us to accelerate investments in our growth, both organic and inorganic. We continue to be a competitive force in the industry due to our new launches and increasing share of demand, and we are well positioned for further growth into the future. Our 2030 revenue target of $1 billion of revenue from zero emission technologies will add to our already growing traditional turbo business. We are indeed in the vanguard of the transformation of our industry.

Thank you for your time. And operator, we are now ready to begin the Q&A session.

Q&A Session

Operator: Thank you. We will now begin the question-and-answer session. Our first question comes from Hamed Khorsand from BWS Financial. Please go ahead.

Vahid Khorsand: Good morning. This is Vahid for Hamed. I appreciate you taking the questions. First question, in the past, the volume increases in China where lower and turbos has a product mix improved yet as the volume is ramping in the region?

Sean Deason: So I think you had two questions there. It was penetration of turbo in China and our volumes in China increasing for turbo. Is that correct?

Vahid Khorsand: Yes.

Sean Deason: Okay. So, yes, we do see volumes increasing in China as the lifting of COVID restrictions has allowed the market to return to a more normalized state. We are looking for forward to more growth in China in the back half of the year as well. And again just monitoring all the global macroeconomic factors hopefully that — with the hopes that growth will continue as we have forecasted. With regard to turbo penetration in China, we see turbo is increasing in penetration across the globe and we don’t necessarily comment on specific regions.

Olivier Rabiller: Okay. But it’s healthy, by the way, you need to combine that with the point that Sean was mentioning before, which is in China, we are also seeing significant ramp ups of some programs that we won for the past few years.

Vahid Khorsand: Okay. Well, thank you for that. That’s a good segue into my next question, which is you’re mentioning across the back half of the year and turbo growth across the globe. How much clarity do you have in this year as far as order stability is concerned?

Olivier Rabiller: I think it’s, as we’ve said in the — on the call and previous quarters that the volatility of the industry remains high. We are seeing signs of normalization of the demand from customers. We are seeing demand signal being much more stable. It seems that there are still constraints into the automotive supply chain, but probably not as big as what we were, not as unpredictable as what we have seen at the end of last year. So this is a good signal. As you have seen, we have increased our guidance because we are confident that we can already do so. Thanks to the ramp up of the specific programs that are driving our share of demand gain. This we can see that there remains as for all the players in the industry, a question mark about the second half of the year. And so far we have been cautiously planning the back end of the year in that guidance.

Sean Deason: And I would just add on to that and I would just add on and reiterate that basically 100% of our business is booked for this year and we have a very strong visibility for the next five years. So really what we’re monitoring isn’t so much new business that is booked per se, but it’s really the production environment of our customers because up to five years out, we’re 80% certain of what our OEM revenues are going to be based on our long lead time of winning new business.

Vahid Khorsand: Final question. You’ve mentioned ramp up a few times now. I’m just wondering if you could share the specific product ramp that you saw that led to the growth in the quarter.

Olivier Rabiller: A number of programs that we had won for the past few years, I would say more specifically on the gasoline side. And as you can see, over the years, we’ve been becoming from number three into the industry to number one this year on the gasoline side with also a ramp up of variable geometry. That would be very difficult for us to point you at specific applications, but especially on this call because we are not disclosing application by application. But this is really the result of all the win rates that we’ve communicated for the last few years.

Sean Deason: Right. And so we talk a lot about the greater than 50% new business win rate, and that’s been happening since 2018. So you’re really starting to see the traction and the benefit of that. On Garrett’s business model that’s allowing us to take share of demand naturally as product – new products ramp up and we launch our turbos on these new platforms.

Olivier Rabiller: I mean this is a discussion we had already on previous calls. There is a consolidation going on in our industry that’s driven by, on the one hand, technology and on the other hand the fact that the engine programs are getting bigger and bigger and are consolidating as well. And we are benefiting from that trend obviously.

Vahid Khorsand: Okay. That was it. Thank you very much.

Olivier Rabiller: Thank you.

Sean Deason: Thank you.

Operator: There are no more questions in the queue. This concludes our question-and-answer session. I would like to turn the conference back over to Olivier Rabiller for any closing remarks.

Olivier Rabiller: Thank you. We are all very pleased with the performance we’ve achieved in Q1, which enabled us to already increase our view for the full year. The company is on the one hand executing very well on this increased growth and on the other hand is getting more and more confident about the impact we are bringing to the industry with the new technologies that we have been developing and that are really driving more and more success with our customers. So now we are looking forward to the rest of the year obviously, but we are very, very happy with what we’ve done so far.

Operator: The conference is now concluded. Thank you for attending today’s presentation. You may now disconnect.