Terex Corporation (TEX) Earnings Call Transcript

Good morning, everyone. Welcome to this morning's [ fireside ] chat with Terex. I'm Jerry Revich from Goldman Sachs, and I'm pleased to have with me John Duffy Sheehan, Senior Vice President and Chief Financial Officer; and Randy Wilson, Director of Investor Relations. John, Randy, thank you very much for joining us.

Good morning.

Good morning, and thanks for having us, Jerry. We really appreciate it.

Now before we get started, we are required to make certain disclosures and public appearances about Goldman Sachs' relationships with companies that we discuss. The disclosures relate to investment banking relationships, compensation received or 1% or more ownership. We're prepared to read aloud disclosures for any issue upon request. However, these disclosures are available in our most recent reports available to U.S. clients on our firm portals. Disclosures and updates to those disclosures are available by ticker on the firm's public website at gs.com/research/hedge.html. The views stated by non-Goldman Sachs personnel don't necessarily reflect those of Goldman Sachs. This conversation is not intended for the media and is off the record.

Okay. With the legal sponsored portion of our program out of the way, John, would love to start the conversation to talk about the strategic priorities from here. You folks as a management team have really done an outstanding job divesting assets and deleveraging the business. And I'm wondering if we could start with an update on where strategic priorities stand for you folks from here.

Sure. Thanks very much, Jerry, and we really appreciate the opportunity to spend some virtual time with each of your investors here in this industrials conference, I guess what I would say [ is that over the last 3 years, John ] Garrison and I, with our leadership team, have been really focused on driving the financial strength of Terex and to focusing our portfolio on businesses that can outearn their cost of capital through the cycle. So as you are fully aware, investors know we disposed of our Material Handling and Port Solutions business, our Construction business and then our Mobile Cranes businesses, all businesses that were not earning their cost of capital. And we've also delevered our balance sheet significantly and as a result, have a much stronger liquidity profile than the company has historically had. And that's serving us very well here during the course of this global pandemic to make sure that we're well positioned going through the pandemic and coming out the other side positioned for future growth. And when you look at our Aerial Work Platform and our Material Processing segments, both have very strong global brands, whether it be Genie, Terex Utilities, our Powerscreen and Finlay, crushing and screening brands, our Fuchs material handling brand. So very strong global brands, very innovative products, and we have very strong market positions in both segments. And therefore, I believe they -- we believe they are set up very well as construction growth returns post the pandemic. Certainly, in the Aerial Work Platforms business, the replacement cycle from our perspective is alive and well. Yes, there will be -- there is a temporary reduction in the utilization of equipment. But the thesis of the replacement cycle is that the maximization of the return in invested capital for the customer is when they replace or exchange the equipment out after about an 8-year period of time. It's not 8 years on the dot [ by day ]. But it's more [ that date ] that minimizes the maintenance cost on the machine, maximizes the residual value sale. And those are 2 very important considerations for the AWP customer, the rental customer when considering their return in invested capital in the capital they've invested in that machine. Lifecycle Solution is another area where -- or Parts & Services is another area where we've been investing heavily over the last 3 years, bringing in a dedicated Parts & Services team to focus on growing that part of the business because the reality is, is that Terex historically was not spending enough time focused on Parts & Services. And that business has outsized the margins relative to machines. The installed base in both our Genie as well as our Materials Processing brand is significant. And therefore, we have the opportunity to grow our Parts & Services business significantly. That business is growing high single digit, 10% or has been pre-COVID-19. So we're going to continue to focus the company on the segments in which we're operating, our Aerial Work Platform and Materials Processing segments. We're going to position them for growth coming out of this global pandemic. We're going to continue to operate our disciplined capital allocation strategy. Yes, we have currently suspended our dividend and our share repurchase activities or other words, our efficient return of capital to shareholders. But that is really a temporary suspension until such time as we get past this global pandemic. So maximize free cash flow, make sure we have the right capital structure, a strong capital structure. And we do -- I would just lastly mention that with the credit amendment and extension that we put in place last month with the support of our revolving credit facility banks, we have more than ample liquidity to be successful through this global pandemic, such that we're well positioned to come out the backside and grow this company again. So I think that's maybe a few thoughts to start us off in terms of where John Garrison is taking Terex.

Perfect. And John, I'm wondering if we can dig in to the Parts & Services part of the discussion that you alluded to, how meaningful as a proportion of total sales can that part of the franchise be? And what's the playbook to get there?

Yes. So the -- when you look at industrial companies, on average, Parts & Services should be in the mid-teens in terms of percent of total revenue. And we are not there as a company today. I would say that our Materials Processing segment, with the wear parts that they have in their machines, needing to be replaced more often, had a greater focus on Parts & Services. And however, in AWP, we have not spent the amount of time, being very open and transparent about it. We had not spent the amount of time and investment to focus on the aftermarket portion of the business. When John Garrison came in, he recognized that there was opportunity for growing our Parts & Services business. And so we formed a cross-segment team that is led by Boris Schoepplein, came to us from another very well-established parts and service -- industrial parts and services business, one of our peers. And he has been driving with his team, the growth in our Parts & Services business in the high single-digit, 10% range. And our objective is to be getting our rightful share of the Parts & Services revenue. And as I said a few moments ago, and I'm sure everybody can appreciate is the margins on Parts & Services business is definitely outsized relative to machines. So we're focused on that target and growing the Parts & Services over the next period of time.

And in terms of from technology initiative standpoint, John, you folks have invested in telematics over the years. Can you talk about what does the growing field population of connected aerial platform assets allow you folks to do? Does that help at all around the conversation we're having on parts?

Yes. Absolutely, it does. And you're right. We have invested in telematics. Actually, our Materials Processing segment was the first of our businesses to invest in the telematics. We began connecting our crushing and screening machines as standard equipment in 2015 and have been then progressively rolling out telematics across all of our businesses. In Aerial Work Platforms, we did not -- telematics did not become standard equipment on the machine until about a year ago. But what is the benefit of telematics? Telematics allows us to get data back from the machines to understand how it is operating, its efficiency, its uptime. It allows us to understand how the parts in the machine are operating. And so we can understand what is the expected remaining life cycle of the machine so that you're focused on the new next sale, what parts would need to be replaced. And so we can be targeting customers and dealers with parts for the machine. But it also allows our engineering team to be able to analyze the data coming back from the machine and then to be able to better design of the machine as well as also from a manufacturing perspective, be able to expect what future demand will be in terms of remaining life cycle on the machines. So I think there are a lot of opportunities in the -- one of the things we're doing with the use of telematics is auto replenishment and talking with the dealers about making sure they have the right parts on hand for when machines need wear parts to be replaced.

Very interesting. And the national rental companies have started investing in telematics around the same timeframe that we're talking about here. How compatible are your systems? Are they able to leverage the electronics that you're already putting on the machines? Or what proportion of your customers wind up putting their own hardware on top of your systems?

Great. So as it relates to our Aerial Work Platforms, our Genie business, as I said a moment ago, telematics is standard equipment and we also provide the customer with data collection capability, service provider for a period of time, free of charge. And I would say is that all of our customers are using their telematics information. Many of the national rental companies have their own program, and so to the extent that they are doing their own telematics, there are data connections such that the customer is able to channel the information from our telematics over to their own proprietary software and to use that information. Typically, the smaller customers don't have their own program. And therefore, they can use our Lift Connect software on our assets and be able to have the benefits of the telematics data. And so they do -- our telematics equipment does communicate with the rental companies' systems. As I said, most of the rental companies will have their own telematics program. Our system is compatible from the perspective that they can link or transition our data over into their system and use it for their benefit.

Okay. Great. And another advantage of telematics is for you folks from a planning standpoint, you get a real-time fleet demand indicator in terms of what's going on in the field that we haven't had in prior cycles. I'm wondering if you could talk about which regions you're seeing following China in that utilization recovery. How is it playing out in North America versus Europe versus South America?

Yes. So I guess a couple of thoughts there. Number one is that, as I mentioned a few moments ago, the telematics data or the telematics program for our Genie brand is relatively new. It's been standard equipment for the last year. And so the number of machines that are transmitting data back is a relatively small population of the total population of AWPs that are out there. And so I would say is that we probably want a little bit broader penetration of telematics data to draw any real conclusions and I would also say that the telematics is probably more prevalent here in the United States than necessarily all over the world. That said, I would say is that what we are seeing is that China is very much back to, I'll say, normal. I don't want to necessarily say pre-COVID-19. But we've made a lot of strides there. We're seeing very strong customer orders in China and our manufacturing facility is very close to operating back at pre-COVID-19 levels. Around the rest of the world, so especially in the developed markets, Western Europe, United States, we are still very much in the middle of the pandemic and therefore, I wouldn't say that we're able to use telematics data right now to say that one region of the world is coming out of this situation earlier than another region.

And John, in terms of -- in the U.S., it sounds like that's where the data set is the most robust. What we saw kind of the rental industry is bottoming in utilization in the first week of April and then steady recovery in line with normal seasonality through month end. Has that continued into May? What does the data look like in the U.S. specifically as work from home orders are being lifted?

Yes. So what we have seen, we talked -- during our earnings call last month, at the end of last month, we did talk about the fact that the second half of March as the pandemic took hold here in the United States, was a very tough period for us. We saw significant cancellation of customer orders. We saw customer orders being deferred into the -- for deliveries being deferred into the second half of the year. We were really pleased that during the month of April, we saw a real stabilization of our -- the orders. We did not see significant cancellations or deferral -- further cancellations or deferrals during the month of April. And we actually obviously, have now seen the order book for the month of April. And while down dramatically from a year earlier, which would be the glass half empty, the glass half full is, we did actually book a good amount of business in both our AWP and MP segments during the month of April. And so that demonstrates that there has been a stabilization in the industrial markets and customers are ordering equipment so that when we look at utilization of machines or where our customers utilize -- are operating the most, it's really in the middle part of the country. I'd say the 2 coasts are probably the most weak -- if that's the way -- the weakest, I guess and/or the slowest to come back up. But definitely, the middle part of the country is where the most operation is taking place.

And John, as you look across the enterprise, obviously, a challenging operating environment now. But are there any opportunities where we could come out of this recession with a better margin structure? Any meaningful restructuring opportunities? Or any cost reduction opportunities that you're seeing now that we might not have seen if the recovery had continued?

So if I take the 2 -- our 2 business segments separately, and I'll start with AWP. And I think it would be fair to say that we're not satisfied with the margins in our Aerial Work Platforms business. Over the past year to 1.5 years, we have been battling the reduction in inventory levels by reducing manufacturing production, falling demand environment, and as a result, we have been continuously underproducing to market and reducing the manufacturing in our facilities. We talked on our Q1 earnings call about the fact that our production in Q1 year-over-year for Genie was down 47% year-over-year. And that creates significant inefficiencies, especially if half of the production from a year earlier, it produces significant inefficiencies in our manufacturing. So the margins that we've been experiencing in our AWP business; a, are not acceptable; but they're really driven by customer demand falling, and as a result, producing below market. We do -- we are pushing very hard on reducing production right now and are somewhat confident that by the third quarter that we will have rightsized our finished goods inventory in AWP for the -- this very low customer demand environment in which we're operating and be in a position to either be producing at customer demand or to be producing in excess of customer demand as we move into 2021 and hopefully, a much better year, driven by growth capital coming back but also then the replacement cycle beginning to kick in. We have been -- we talked on our earnings call about the cost reduction actions that we've been taking. We have, first of all, most importantly, cut off the supply of material into our manufacturing facilities very aggressively in the second half of March as our -- as we were shutting down manufacturing facilities, whether it be as a result of the request by local governments to contain the COVID-19 or the lack of customer demand. The first thing we did is our supply chain team went out and stopped material coming into the facilities because 70% of our cost of goods sold is subcomponents from suppliers that we're assembling into the machine. And so when we stop the flow of material into the facility, it reduces the liquidity demands we have for paying suppliers for that material. We then furloughed team members. We also had permanent or layoffs of team members, not furloughs, but reductions in force programs that we implemented, both with direct and indirect manufacturing team members, but also in SG&A for the Genie. So that we have been adjusting our cost structure very aggressively to the demand environment in which we're operating. And all of those actions, whether it be a reduction in the finished goods inventory levels that we have for AWP or the reduction in team members, is going to benefit us as we come out of the COVID-19 pandemic with a much stronger Genie business that will produce at least at retail demand, if not above, as growth returns, and we believe that will enhance the margins that have been unacceptably low for a period of time. I'll just briefly go over to MP. I know this is a long answer. But briefly on MP, in Q1, we did see MP's revenues year-over-year, down 23% and for the MP segment to achieve an operating margin of over 8%. And that is a testament to our MP team that is extremely focused on their cost structure has been adjusting its production over the last year to maintain inventory levels in line with customer demand and to make sure that the cost structure is being reduced appropriately as demand falls. We are continuing to target the 25% decremental margins for both our AWP and MP segments. Yes, we were above the 25% in first quarter, principally as a result of the fact that the pandemic coming on so quickly and the inability to adjust the cost structure fast enough. But that 25% decremental margins, we are -- we absolutely have our team focused on them and those are our targets here through the course of 2020. Sorry for the long answer.

No, it's perfect, John. Maybe as a follow-up in Aerials, you had 31% decrementals in the first quarter. But obviously, production was down a lot more than sales. What would have decrementals have looked like without the added absorption of production cuts and access sales cuts? Would you have hit your 25% target in access in the quarter?

Yes. If we were producing at retail demand and have the opportunity to adjust the cost structure fully for that, we would have actually been better than 25% decremental margins. I won't throw out a specific number. But the difference between the 20 -- 30% -- 31% that we -- that you quoted that we achieved and the 25% is more than accounted for by the underabsorption by being down year-over-year in production by 47%.