Generac Holdings Inc. held an earnings call for the second quarter of 2023, which was led by Mike Harris, SVP of Corporate Development and Investor Relations. Aaron Jagdfeld, President and CEO, and York Ragen, Chief Financial Officer, were also present. The call included a discussion of forward-looking statements and non-GAAP measures. Net sales were in line with expectations due to stronger C&I product shipments, but residential products were lower than expected due to a softer consumer spending environment.

In the second quarter of 2022, overall net sales decreased 23% to $1 billion, and core sales declined 26%. Residential product sales decreased 44% due to the reduction of excess backlog, while global C&I product sales increased 24%. Adjusted EBITDA margins were negatively affected by the unfavorable sales mix and reduced operating leverage. Home standby shipments declined significantly on a year-over-year basis, while baseline power outage activity was well above the long-term average. Home consultations or sales leads were roughly flat from the prior year period.

Home consultations during the second quarter of 2020 were more than 4x higher than the second quarter of 2019, and residential dealer accounts increased by 500 from the prior year. Activations were below expectations due to weaker consumer spending for home improvement, but still more than double the second quarter of 2019. Close rates were flat sequentially, but underperformed expectations due to a shift in consumer spending. Field inventory decreased in the quarter, but is expected to extend into the second half of the year due to lower activations and close rates.

In the second quarter, shipments of chore products declined from the prior year and were below expectations due to higher channel inventories, unfavorable weather trends, and shifting consumer spending patterns. However, elevated field inventory levels are expected to impact home standby shipments in the second half, with a return to year-over-year growth in home standby shipments anticipated in the fourth quarter. The long-term outlook for backup power solutions is positive due to the increasing frequency of power outages and the transition to the next-generation power grid, and IHC's suite of solutions is well-positioned to address these challenges.

Generac's residential energy technology products and solutions showed strong sales growth in the second quarter, with ecobee driving the sales. However, the residential solar and storage market in the U.S. is slowing, leading to a lower outlook for gross sales for the full year 2023 at the low end of the previous range of $300 million to $350 million. Generac is investing heavily in talent and R&D to better compete in these large and growing market opportunities.

The company's C&I products have seen significant growth due to multiple mega trends. Domestic and global product sales have both grown to an all-time quarterly record. Natural gas generators are seeing tremendous growth for applications beyond traditional emergency standby projects. The company is leveraging their position as the leading provider of natural gas generators to build an increasingly comprehensive solution set for multi-asset applications. Furthermore, quoting activity for C&I products remains robust, indicating strong demand for backup power in the distributor channel.

In the second quarter, Cummins experienced strong growth in national and independent rental equipment customers, as well as slight growth in national telecom customers. International sales also increased 10%, with the combined impact of acquisitions and favorable foreign currency effects contributing to growth. As the global energy transition accelerates and the demand for electricity grows, the need for power resilience is becoming an increasingly global issue.

In the second quarter of 2023, net sales decreased 23% to $1 billion from $1.29 billion in the prior year. The company is raising its full year sales growth guidance for global C&I products to mid-teens range from prior expectations for a mid-to-high single-digit increase. The company is confident in the long-term outlook for their products and will continue to make investments to capitalize on the megatrends that drive future growth opportunities. They will provide a more detailed update on their longer-term strategic vision at their upcoming Investor Day in late September.

In the second quarter of 2023, residential product sales declined 44% to $499 million compared to the prior year, while commercial and industrial product sales increased 24% to $384 million. Other products and services increased 37% to $117 million, mainly due to the acquisition of electronic environments. Contributions from recent acquisitions and foreign currency had a favorable impact on revenue growth.

In the second quarter of 2023, gross profit margin decreased from 35.4% to 32.8% due to a sharp decline in home standby mix and higher operating expenses. Domestic segment total sales decreased 28%, and adjusted EBITDA for the segment was $103 million, representing 12.7% of total sales as compared to $242 million in the prior year. This decrease was mainly caused by unfavorable sales mix and reduced operating leverage on the lower shipments.

In the second quarter of 2023, the company's GAAP net income was $45 million, with diluted net income per share of $0.70, compared to $156 million and $2.21 per share in the prior year. This decrease was due to higher interest expenses and a lower benefit from equity compensation. The International segment total sales, excluding acquisitions and currency, increased 6%. Adjusted EBITDA for the segment was $33 million or 14.9% of net sales, up from $30 million or 14.5% of net sales in the prior year. Adjusted net income for the company was $68 million or $1.08 per share, compared to $185 million or $2.86 per share in the prior year.

Cash flow from operations and free cash flow both increased significantly year-over-year from the second quarter. Total debt outstanding at the end of the quarter was $1.62 billion, resulting in a gross debt leverage ratio of 2.8x. Due to softer consumer spending for home improvement, residential product sales are now expected to decline in the mid-20% range for the full year 2023, while C&I product sales are expected to grow at a mid-teens rate.

The company is expecting net sales to decline between 10-12% for the full year 2023. Quarterly sales are expected to decline slightly in the third quarter, but return to year-over-year growth in the fourth quarter. Gross margin is expected to improve by 100 basis points over 2022 levels, with sequential quarterly improvements in the third and fourth quarters. Operating expenses as a percentage of net sales are expected to be 20-21% for the full year 2023.

The company has revised its full year 2023 adjusted EBITDA margins to 15.5-16.5%, with third quarter margins expected to be 300-350 basis points higher than the second quarter and fourth quarter margins expected to be in the low 20% range. The company is investing in residential energy technology products and solutions, which will unfavorably impact EBITDA margins by 400 basis points for the full year. Operating and free cash flow generation is expected to be disproportionately weighted towards the second half of the year in 2023, with adjusted net income to free cash flow conversion expected to be over 100%. To arrive at appropriate estimates for adjusted net income and adjusted earnings per share, add-back items should be reflected net of tax using the expected effective tax rate.

The company's GAAP effective tax rate for 2023 is expected to be around 25%, compared to 19.6% for 2022. Interest expense is projected to be $92 million, capital expenditures 3% of net sales, and depreciation and amortization expenses $62 million and $102 million, respectively. Stock compensation is expected to be between $40 million to $43 million, and the weighted average diluted share count is expected to approach 63 million shares. The company also has $278 million remaining on their current share repurchase program.

Aaron Jagdfeld explains that the channel inventory for the home standby product category was in the 1.4 to 1.5 range last April, but is now closer to 1.2 to 1.3. He attributes this to a softer consumer spending environment, which has caused the close rate on sales leads to be lower than expected. This means that the elevated field inventory will persist longer than anticipated.

The inventory levels in different regions are becoming more varied, with some regions having normal levels of inventory while others are still higher than usual. In certain regions such as Canada and Quebec, there is a shortage of product due to outages and lack of installation bandwidth.

Aaron Jagdfeld explains that the sell-in and sell-out metrics vary by channel, with the dealer channels being in better shape than the wholesale and retail channels. Retail channels are lagging, with the notable exception of ecobee, which may be due to higher energy prices and the opportunity to use ecobee products to reduce energy costs.

The company is seeing a slower conversion rate of sales leads, but they are unsure if it is due to consumers not buying at all or just delaying their purchase. To combat this, the company has created a team dedicated to reaching out to unclosed leads with the right offer at the right time. They believe this will give them an opportunity to increase sales.

Aaron Jagdfeld and York Ragen discuss the close rate dynamic of their home standby category. They expect it to pick up in the second half of the year, but the software consumer may not improve as much as they had hoped. They compare the close rate to other industries with bigger ticket home improvement projects, such as pools, patios, and furniture, and are looking for feedback on why the close rates are lower.

The Federal Reserve's efforts to reduce inflation with higher interest rates have had an impact on consumer spending, particularly on larger purchases such as residential investments. Close rates had been improving until this quarter, when they flattened out, and the guidance suggests they won't get any better this year. Homeowners are taking more time to think through their purchases, indicating difficulty in making bigger ticket purchases.

The company is looking to increase their close rate on unclosed IHCs by reengaging with customers and reducing friction. They are also focusing on nurturing efforts to get more of these unclosed IHCs to closure. The company believes that their inventory levels are currently at 1.2x to 1.3x and they are not expecting any changes in pricing, but rather a mix issue causing the margin headwinds.

Aaron Jagdfeld explains that they assume 1.0x to be the "normal" level of field inventory, which is based on 2019 pre-COVID levels. He clarifies that the level of field inventory may differ depending on the channel, as smaller dealers may not have the capacity or space to stock product. He also notes that the days of field inventory will be adjusted seasonally, with higher levels in the second half of the year and lower levels in the first quarter.

York Ragen discussed the potential for margin expansion, noting that the Q4 EBITDA margins are expected to be in the low 20% range. He mentioned that the margin target of 24-25% from the Analyst Day has been impacted by 400 basis points from the solar investments. He suggested that margin expansion is possible as home standby shipments normalize.

Aaron Jagdfeld and York Ragen discussed the gap between selling into channels and selling out of channels, which is significantly underselling the market in the first half of this year due to field inventory. They also discussed the repeatability of C&I sales into 2024, citing the potential for improved ABI and 5G infrastructure. They will provide updated targets at their Investor Day next month.

This paragraph discusses the sustainability of the company's C&I business. It explains that the C&I business has been strong for a long time, but they are now beginning to come up against tougher comparables. The utilization rates and equipment are still doing well, but some of the larger customers have cut their CapEx guidance for the year. The question for 2024 is whether the demand will roll over or change significantly, but the company does not have great visibility into that yet. On the telecom side, the demand is lumpy and can be unpredictable.

The company is experiencing an upcycle in telecom spending, but the CapEx spending can be uneven from quarter to quarter. Their core C&I products are also becoming more popular as they are used for beyond standby applications, such as providing power to the grid during times of stress. This is beneficial for customers as it provides risk mitigation against potential losses. The company believes they are in the early innings of using these products.

Aaron Jagdfeld and York Ragen explain that in order to increase close rates, they are using more promotional activities than they had in the past. This includes price reductions and other types of promotions. They are doing a lot of testing to determine which types of promotions are most effective. This is included in their guidance and is a way to monetize formerly stranded assets and make ownership of the product more accessible.

The company has run national promos and plans to have one later this year. They believe they have the right level of promotion to support the close rates they have built into the guidance. Despite power outages and other consumer concerns, they still have an opportunity to break away from the softer consumer environment. The guidance also includes promotion to improve close rates for the rest of the year. Chore and portables were called out in a high level this quarter, and it is possible these smaller pieces can have an impact in nudging things.

Aaron Jagdfeld discussed the impact of the polar vortex in Texas and the upcoming California ban on small sized gasoline engines under 25 horsepower. He noted that the ban would not affect current owners of gas lawnmowers, but any new purchases must be electric. He also discussed the potential growth rate of Mean Green Mowers and other clean energy chore products in California, as well as the growth rate of portables due to the launch of a portable battery product, a larger portable generator, and a dual fuel generator.

The speaker discusses the potential consequences of regulatory actions, such as the ban on internal combustion engine driven chore or generator products in California. They mention that this ban would only impact portable generators and chore products, not home standby. They also mention the Mean Green acquisition, which is an electrified zero turn radius commercial mowing piece of equipment, and the Inflation Reduction Act which provides a subsidy for such products. Finally, they mention that they are electrifying their chore products platform using the technology they acquired with Mean Green.

California has state level subsidies to incentivize the switch from internal combustion engine driven products to electrified products. However, regulations on the market have unintended consequences, such as not allowing people to buy batteries for emergency use. Portable storage products are available, but they are expensive compared to internal combustion engine driven generators. This puts people who cannot afford the more expensive products at a disadvantage during an emergency. Regulators are urged to use their heads and take into account the needs of the public during emergencies.

Aaron Jagdfeld provides an update on the international market, which is mainly C&I and diesel powered generators for emergency backup. The company's Pramac subsidiary has been doing well, gaining market share and improving EBITDA margin. Global scale is providing benefits for C&I products, both domestically and internationally. In the US, natural gas backup power represents around 40% of the market, while outside of the US and Canada it is about 98% diesel and 2% gas.

Pramac has focused on introducing gas products to new customers and regions, such as India, Australia, and the Middle East, in order to take advantage of the environmental benefits of gas over diesel fuel. Additionally, Pramac has recently introduced a product in India that is getting good traction, as well as compliant products in Australia. The growth rate of C&I internationally has been strong, and Pramac is also seeing growth in its home standby sales in all parts of the world.

Aaron Jagdfeld explains that HSB's gas codes are much stricter in Australia than their competitors, making them the only company able to serve the country. He also notes that Latin American markets represent a good opportunity for the company to gain more penetration. HSB is back to the early days of North America in terms of growth, but they are seeing pockets of growth. There is evidence in certain regions of low field inventories due to increased activity.

Canada has seen a lot of outage activity recently, and field inventories are low. Michigan has been particularly affected by both summer and winter weather, and its grid is mainly above ground, older, and underinvested in. These factors, combined with trees, have caused outages in Michigan and other states like Maine, Ohio, and Pennsylvania. These states are seeing the best growth and penetration rates, and are also getting to normalization of field inventory quicker.

Aaron Jagdfeld explains that the demographic of home standby customers has changed over time, skewing to an older demographic with home ownership. He believes that this segment may be more resilient to changes in the economy, but may be more vulnerable to trends in inflation. Currently, the category is being impacted by a softening consumer spending environment around home improvement.

Aaron Jagdfeld provides an update on the Clean Energy product portfolio redesign that is expected to be completed by 2024. He notes that the company experienced early success in the market, but had some setbacks with the loss of a major customer and product quality issues with the SnapRS device. However, he is excited about the next-generation storage solutions that will be discussed in more detail at the upcoming Investor Day.

The company is investing heavily in their solar and storage products, resulting in a 400 basis point drag on EBITDA margin. They expect to come in on the low end of the $300-$350 million range due to softening demand in the industry. However, they remain optimistic for the long term and are dedicated to investing in these products in order to become proficient and excellent. Results should start to be seen in 2024.

York Ragen explained that the promotions they are running are in the ordinary course to drive awareness of the category and help get homeowners to make the purchase of a home standby generator. The promotions will have a modest impact on margins, but the higher level of home standby shipments and improved input costs will have a significant impact on EBITDA margins. The promotions will only have a slight drag relative to the performance.

Mike Harris thanked everyone for joining the conference call and mentioned that they will be discussing their third quarter 2023 earnings results in early November and providing an update on their strategic vision at the upcoming Investor Day on September 27. The call was then concluded by the operator.

This summary was generated with AI and may contain some inaccuracies.