Horizon Global (HZN) Q3 2021 Earnings Call Transcript

Horizon Global (HZN)
Q3 2021 Earnings Call
Nov 04, 2021, 8:30 a.m. ET

Contents:

• Prepared Remarks
• Questions and Answers
• Call Participants

Prepared Remarks:

Operator

Good morning, everyone, and welcome to Horizon Global's third quarter 2021 conference call. My name is Emily, and I will be your operator for today's call. [Operator instructions] This call is being recorded at the request of Horizon Global. If anyone has any objections, you may disconnect at any time.

I would now like to introduce Mr. Jeff Tryka with Lambert IR, Horizon Global's investor relations firm. Mr. Tryka, please proceed.

Jeff Tryka -- Investor Relations

Thank you, operator. Good morning, and welcome to Horizon Global's third quarter 2021 conference call and webcast. On the call today are Terry Gohl, Horizon Global's chief executive officer; and Dennis Richardville, Horizon Global's chief financial officer. Earlier this morning, we announced our third quarter 2021 results.

The release is available on many news sites, as well as the Investor Relations section of our website at horizonglobal.com. Turning to Slide 2. Today's presentation also includes non-GAAP disclosures. These disclosures are reconciled to GAAP in the appendices to our quarterly press release and presentation, both of which are available on the Investor Relations section of our website at horizonglobal.com.

Turning to Slide 3. I'd like to remind you that statements in today's presentation will include our views about Horizon Global's future performance, which constitute forward-looking statements. These statements are subject to risks and uncertainties that could cause our actual results to differ materially from the forward-looking statements. We've described these risks and uncertainties in our risk factors and other disclosures in the company's most recent annual report on Form 10-K, quarterly reports on Form 10-Q, and other filings with the Securities and Exchange Commission.

With all that being said, I'd like to turn the call over to Horizon Global's chief executive officer, Terry Gohl. Terry? 

Terry Gohl -- Chief Executive Officer

Thank you, Jeff. And welcome to all of you who are participating in our call today as we review our third quarter results for 2021. As always, we welcome the numerous Horizon employees who have joined the call today. To you, we say thank you.

Thank you for your perseverance, dedication and your flexibility as we continue to navigate through the challenges faced throughout the year. Our performance is a direct reflection of you, and you should be proud. As noted throughout the industry, many companies are reporting negative impacts tied to worker availability. We are not experiencing this as our employees at all levels continue to step up and show up.

During our second quarter call, we highlighted the multitude of challenges impacting our industry, and in particular Horizon Global. These challenges included drastically increasing commodity pricing; restricted material availability as demand outpaced supply; freight constraints due to congestion on the water, in the ports and on rail; and continued overarching risk of COVID-19 and its new emerging variants. So what has changed during the third quarter? Simply put, not much. Commodity prices continued to increase.

As an example, steel prices escalated to over $2,000 a ton or roughly four times 2020 levels. The global semiconductor constraint continued to impact auto production, driving year-over-year production levels down by 27% in the primary markets we supply. Freight constraints continued during the quarter and at times worsened, with peak cost per 40-foot container raising by over five to six times over the 2020 levels. And transit times increased from an average of roughly 30 days in 2020 to a peak over 70 days during the third quarter.

And COVID continued to present health and safety risks and impacted production from supply in certain areas around the globe. Add to that new challenges tied to energy constraints and costs, and you see what the industry and our team continue to face. No small task. How do we do? And what were the underlying actions we took to address the situation? Let's dig into these questions on Page No.

5. In intro, our Q3 results can best be summed up in the following high-level points. Material economics were largely offset by commercial pricing agreements, operational efficiencies partly offset by volume declines, leaving booked order deferrals tied to material availability and logistics constraints as the primary driver of our results. Our Q3 2021 net sales of $196.5 million represented a decrease of $5 million from Q3 2020.

Putting some texture around the logistics constraints and semiconductor shortage impact on our net sales for the third quarter, consider the following: During the quarter, we had roughly $40 million of booked orders that were deferred out of the quarter due to these two issues. First, we experienced a $30 million impact on Americas net sales tied to port congestion and the associated in-transit delays. The good news is that these orders remained intact, and we expect to deliver against them during the fourth quarter and beyond. The bad news is that they were available to us in the third quarter.

And this deferral resulted in substantial increase in inventory, which negatively impacted our working capital. Relative to the semiconductor shortage and its impact on net sales during the quarter, we also experienced roughly $10 million sales impact tied to late changes to production releases at OEMs as they dealt with daily semiconductor supply constraints. These orders were called off, in many instances within 48 to 72 hours of scheduled delivery, which compounded the impact to us on the EBITDA and inventory side by limiting our ability to flex operational costs and production planning in advance. Next, our Q3 2021 adjusted EBITDA was $13 million and reflected a decrease of $3.1 million from Q3 2020.

Compared to 2020, unfavorable volume mix and increased input costs, including materials and freight, negatively impacted the performance of the quarter by approximately $28 million. This was predominantly offset with commercial pricing and operational improvements, limiting the impact to $3.1 million. As you recall during our previous earnings calls, we have implemented several rounds of pricing adjustments throughout the past three quarters to address the commodity price escalations presented by the global market. While we remain in discussions with a few customers at this time, the team has done a very good job conducting transparent reviews with our customers, which has resulted in satisfactory commercial agreements to essentially offset the impact of material economics realized thus far.

We are working extremely hard to employ a true partnership approach with our customers in dealing with the significant economic challenge. A reminder that the $10 million in late OEM call-offs experienced during the quarter, predominantly in Europe, also impacted our performance negatively as late notices limited our ability to flex our operations. We absorbed those costs. Looking at our performance from a year-to-date standpoint, our Q3 2021 year-to-date net sales of $617.9 million reflected an increase of $132.5 million over Q3 2020 levels.

Of particular note relative to our sales performance is the growth that we are experiencing in our aftermarket channels. On a Q3 year-to-date basis, our aftermarket sales have increased by $37.4 million or 26% from the 2020 comparable period, and $42.5 million from a non-COVID-impacted 2019 year-to-date measure. We have upped our game relative to manufacturing capabilities and new product launches, specifically focused on growing our aftermarket business, and we are seeing favorable response from our customers. Recent capacity gains in our European aftermarket production of approximately 150% on a unit-per-day basis presents similar rate of improvements to what we have seen in the early phases of our North American segment last year as a result of the deployment of lean operating methods.

Recall that we laid out our plan where the Americas lean transformation was the focus of 2020 or Year 1 of our plan, followed by Europe and Africa region being the focus of 2021. Our operating team continues to do an outstanding job transforming our manufacturing sites into truly lean facilities. Significant booked orders supported by strong order intake volumes in conquest business continued to fuel this growth. In the Americas alone, we exited the quarter with $64.1 million in booked orders, with roughly $30 million of that which were deferred due to transportation constraints tied to port congestion and associated in-transit delays.

The Americas aftermarket and our relative position in this important channel remains strong, and we will continue to focus on further growth into this channel as we move forward. Our Q3 2021 year-to-date adjusted EBITDA of $43.7 million or 7.1% of net sales reflected an increase of $24.6 million or 310 basis points over Q3 2020 year-to-date numbers. Both regions posted positive margin improvement, bolstered by strong operational performance improvements, SG&A optimization efforts, and favorable mix tied to our aftermarket growth. Commercial price increases on a year-to-date basis essentially offset material economics and increased freight costs, again on a year-to-date basis.

We received strong customer support for our Europe-Africa manufacturing footprint rebalancing plans with successful new business wins of seven OEM awards secured thus far. We continue to invest and leverage our manufacturing site in Romania to drive competitiveness on certain OEM platforms while increasing focus on our aftermarket business at our U.K., German and French locations. Investments in facility improvements are already underway. Our Q3 2021 trailing 12-month adjusted EBITDA was $51 million or 6.4% adjusted EBITDA margin.

Prior year Q3 trailing 12-month adjusted EBITDA as a comparison was $2.6 million or essentially breakeven, a major change driven by implementation of our 2020 and 2021 road map in spite of macroeconomic and supply challenges. As we look at the market demand for our product, we see continued positive demand on a go-forward basis. This is supported by several factors: OEM finished goods is extremely low while demand remains high. The key will be the continued inventory management through the semiconductor shortages, which we see continuing throughout 2022.

RV and marine are also reporting strong demand, leading to significant backlog while inventories remain low. Retail demand remained strong, coupled with restocking requirements, leads us to a positive outlook. Campgrounds remain highly booked throughout 2022, highlighting that the outdoor-focused consumer lifestyle is sticking and was not a onetime COVID reaction in 2020. We are gaining new conquest customers every day, and we'll continue to do so.

And we continue to advance our capacities and will flex appropriately as material channels open up in the future. Turning to Page 6. We ended the third quarter with trailing 12 months adjusted EBITDA of $51 million. As shown on this graph, we have improved the condition of the company by 600 basis points or $48.4 million from our trailing 12-month adjusted EBITDA at the end of Q3 2020.

Considering that material economics has for the most part been offset by commercial pricing during this year, this improvement has been driven by fundamental improvements in operations, product mix improvements, and SG&A conversion. The foundation of our business continues to improve, with results only tempered by sales deferrals driven by global supply chain and logistics constraints. Turning to Page 7. As with each update, we present the status of the actions that we have previously laid out in our plan.

Notable items tied to Q3 2021 were deployment of our Americas multiport initiative, which I will review in a few moments; commercial agreements tied to material economic recovery that were completed in Europe and Africa; incremental vertical integration insourcing in Europe and Africa made possible through deployment of our lean methods; and aftermarket capacity increases in Europe and Africa tied again to lean implementation. We also launched 53 new programs in the quarter, increased our low-cost country back office and engineering capacity in India to advance our overhead and inefficiency initiatives. We added 12 new American aftermarket customers during the third quarter. We advanced our performance in ESG sustainability metrics.

And we facilitated vaccination efforts to bring our employee vaccination rate in the Americas to over 90%, in addition to advancing those rates in all of our locations globally. We remained on track with our plans regardless of the macro issues that we faced during the quarter. We kept focus. Moving to Page 8.

Our work is far from being done. Here we are highlighting some major initiatives we have planned for the short-term period leading into and through 2022. As mentioned earlier, we are in the midst of transitioning our Romania facility to support OEM production. The team has done an excellent job in business process and manufacturing capability readiness, resulting in successful IATF and customer audits.

Positive audit results and competitive price positioning resulted in seven new OEM program awards to be launched in Romania, with more to come. Investments to support these programs will advance through 2022. There have been meaningful changes to every shop floor we have as it pertains to our lean vision, with significant advancements across our Europe-Africa facilities so far in 2021. We have significant more work to do through 2022 to further implementation of these lean methods, which result in incremental efficiencies, repeatability and quality improvements.

We will launch North America and select European ERP and warehouse management systems in the first-half 2022 and expect to launch a global e-commerce platform later in 2022. We have been operating with multiple unproductive systems, which has resulted in significant inefficiencies and additional overhead to run our business. Our new ERP system and its integrated warehouse management platform will be launched first in Q1 2002 in the Americas and followed by select European locations to support the business growth later in 2022. We have taken an extremely thorough approach to our ERP launch planning and advanced testing with roughly a year under our belt, including multiple short burst testing runs occurring prior to going live.

We are continuing to clean up our -- and consolidate our European legal entities for simplification, efficiency and cost improvements. Our structure in Europe will be simplified throughout 2022 on top of what we've already achieved. We have progressed with test marketing and field evaluations of our modified European bike carrier product line in North America and have garnered interest in our Hidden Hitch European products for North American markets. This includes mechanical, detachable and electromechanical options.

We are not standing still as we continue to match our advanced product development initiatives in support of the industry's transition to e-mobility and e-trailering applications. We have some great products in development. Moving to Page 9. On this slide, we represent three-year comparisons for net sales and adjusted EBITDA for both third quarter and third quarter year to date.

While relevant, there was significant disruption in 2020 tied to COVID. So we wanted to ensure a longer historical view was presented to you. Therefore, we added and included 2019 results. On the chart to the left, you can see our Q3 2021 results compared to both 2020 and 2019.

Net sales increased Q3 2019 by approximately 10.5% even with roughly $40 million of booked sales being deferred out of the quarter due to the aforementioned supply chain, logistics and semiconductor constraints. On the chart to the right, when reviewing our performance on a Q3 year-to-date basis, you can see the dramatic improvements in adjusted EBITDA performance of 128.7% 2021 versus 2020, and a 433% 2021 versus 2019. We continue to improve each year of our plan. Turning to Page 10.

The distribution of our 2021 sales to date can be seen on the pie chart on this page. Of note in these results, aside from the overall growth in 2019 of approximately 12.5% are the advancements of our aftermarket, e-commerce and OES channels. These were the focus items for us and reflects sales mix increases of roughly 410 basis points, 180 basis points and 190 basis points respectively for the aftermarket OES and e-commerce channels. Please recall that we strategically exited nonperforming product lines in the retail channel during 2020, which is reflected in the roughly 290 basis points decline in this channel.

As noted earlier, we continue to add or recapture customers in the aftermarket channel in North America. With the 12 added in the quarter, we now total 78 new customers added in the space over the last four quarters. These achievements have been supported by significant improvements in manufacturing, distribution along with a steady volume of new product launches each and every month. Moving to Page 11.

You have all have had a steady diet of information relative to port congestion and its impact on the economy and on the industry results. Beginning in the fourth quarter of 2021, there were 46 ships or 50% of the total volume anchored offshore waiting berths. The number spiked to roughly 70 over the past weekend. Actions have been put in place relative to extended port shifts in an effort to alleviate this congestion.

Dennis will identify the impact of trapped inventories on our working capital. And as mentioned earlier, the constraints in the Port of Long Beach resulted in deferred sales of roughly $30 million during the third quarter. Moving to Page 12. Here we are simply highlighting that we bring in roughly 2,000 containers per year through this port.

So the continued congestion remains a significant point of concern for us. This is the definition of the problem. So what have we done about it? Let's move to Page 13. Here we illustrate our plan to diversify away from a single-port approach to a five port-of-entry strategy to provide optionality to secure inbound materials.

Note that we have implemented a reporting strategy for roughly 35% of our container volume to alternate ports, including Vancouver, Norfolk, Newark and Manzanillo. We planned and initiated this action over the past several months, with initial shipments arriving this month. The team did a great job securing these alternatives, and we expect the increase of velocity of inbounds going forward. Moving on to Page 14.

We have noted that the order intake and retention of booked orders remained strong as we exited the third quarter. The Americas ended Q3 2021 with open booked orders of $64.1 million, reflecting an increase of 70.2%, compared to September 2020 and a 165.9% increase compared to September 2019. As the industry emerged from the initial COVID shutdown period in Q3 2020, there was some concern that the surge in orders and associated sales would be short-lived and only represent residual demand buildup from the preceding shutdown period. With the results we are presenting along with the industry indicators we highlighted in our opening, we continue to see heightened demand for our products a year later, and believe the demand will remain strong going forward as consumer lifestyle and behaviors have changed.

I'll now turn it over to Dennis for the financial review. I will return with some closing comments after he's finished. Dennis?

Dennis Richardville -- Chief Financial Officer

Thank you, Terry. Good morning, everyone, and thank you for joining us. As Terry mentioned, we are pleased with our third quarter results despite the continued macroeconomic headwinds relating to rising commodity costs and supply chain constraints that have impacted the global economy, our industry and our business. Please turn to Slide 15 for a review of the company's consolidated results for the third quarter of 2021.

Consolidated net sales for the third quarter of 2021 were $196.5 million, a decrease of $5 million from the third quarter of 2020. Net sales decrease was primarily attributable to lower sales volumes in both the Americas and Europe-Africa operating segments. The decrease was primarily offset by 2021 pricing initiatives implemented to recover the impacts of increased material economics from rising commodity costs such as steel, as well as supply chain constraints and other increased input costs driven by macroeconomic factors. Gross profit margin decreased to 19.7%, a decline of 180 basis points from the third quarter of 2020 primarily driven by lower volumes in the Americas and Europe-Africa segments due to the macroeconomic headwinds Terry previously discussed.

Reported adjusted EBITDA of $13 million, compared to $16.1 million during the third quarter of 2020. The decline in adjusted EBITDA was primarily due to lower gross margin performance as previously mentioned. Our adjusted EBITDA margin decreased to 6.6% as compared to 8% for the third quarter of 2020. Now, let's turn to Slide 16 to review the segment performance for the quarter.

Net sales in the Americas were $115.9 million, $3.2 million or 2.8% lower than the third quarter of 2020. The net sales decrease was primarily driven by lower sales volumes in the aftermarket OEM and retail sales channels, as well as a $1.3 million sales impact attributable to the company's divestiture of its Brazil business in the second quarter of 2021. The decrease was partially offset by the previously mentioned pricing recovery initiatives. Adjusted EBITDA for the segment decreased to $14.5 million as compared to $15.5 million for the third quarter of 2020.

The decrease was driven by lower net sales volumes, mix and lower gross profit. Adjusted EBITDA margin was 12.5% as compared to 13% for the third quarter of 2020. Transitioning to our Europe-Africa operating segment. Net sales were $80.7 million, a decrease of $1.8 million from the third quarter of 2020.

The net sales decrease was primarily driven by lower sales volumes in the aftermarket and automotive OEM sales channels, partially offset by higher sales volumes in the automotive OES sales channel. The decrease was also partially offset by the previously mentioned pricing initiatives, as well as $1.1 million of favorable currency translation. Adjusted EBITDA for the segment decreased to $3.4 million as compared to $6.1 million for the third quarter of 2020. The decrease was driven by lower net sales volumes, mix and lower gross profit.

Adjusted EBITDA margin was 4.2% as compared to 7.3% for the third quarter of 2020. Now, moving to our working capital, free cash flow, liquidity and net leverage ratio on Slide 17. Total trade working capital was $109.5 million in the third quarter of 2021, which represented an increase of $53.9 million over the fourth quarter of 2020 and an increase of $42.9 million over the third quarter of 2020. Specifically, receivables increased $8.9 million to $96.3 million, compared to the fourth quarter of 2020.

Days sales outstanding was 45, a decrease of one day from the fourth quarter of 2020. Inventories increased $49 million to $164.3 million, compared to the fourth quarter of 2020, driven by the macroeconomic factors related to global supply chain constraints and rising commodity costs. These aspects drove the higher days on hand inventory to 96 days, an increase of 22 days over the fourth quarter of 2020. Accounts payable increased $11.8 million to $111.3 million compared to the fourth quarter of 2020.

Days payable on hand was 65 days, an increase of one day over the fourth quarter of 2020. Free cash flow for the third quarter was a use of $7.8 million, which is a decline of $24.5 million, compared to a source of $16.7 million during the third quarter of 2020. The impacts of the global supply chain and logistics constraints and rising commodity costs resulted in approximately $48 million additional inventory carried on our balance sheet at the end of the third quarter of 2021 as compared to the third quarter of 2020, which negatively impacted our free cash flow during the quarter. Cash and availability, or liquidity, totaled $54.9 million for the third quarter of 2021, which was comprised of $37.5 million of availability under our credit facilities and cash on hand of $17.4 million.

Turning to Slide 18 for a view of our current debt capital structure and debt maturities. Total gross debt increased by approximately $30 million to $296 million, compared to $266 million at the end of the fourth quarter of 2020. This is primarily attributable to additional ABL borrowings to support the previously mentioned working capital needs and business growth, as well as a higher-term loan balance from the proceeds by refinancing and payoff of our prior term loan completed during the first quarter of 2021. As we head into the fourth quarter, we are doing so with a focus on our working capital and utilizing our current inventory levels to deliver on open orders, while mitigating the impacts of the macroeconomic headwinds previously described.

We believe this focus will drive future earnings growth, liquidity and effective working capital management. With that, I will turn it back over to Terry for his closing comments. 

Terry Gohl -- Chief Executive Officer

Thanks, Dennis. Great job. In closing, let's start with Page 19. We remain committed to the objectives laid out on this page.

We continue to improve operational performance through the deployment of lean methods and provide best-in-class service to our customers. And we are leveraging the heightened demand levels for our products. On Page 20, here we provide the performance status gauges tied to our key initiatives supporting our improvement objectives. As you can see and as you have heard, we continue to advance on improvement initiatives across the company.

Each gauge tied to each initiative contains a green arrow, depicting progress toward the objective achieved during the last period. A few highlights relative to the actions of Q3: majority of material recovery negotiations were successfully completed. As I mentioned, 53 new programs were launched in the quarter. We also launched our global costing process and standards.

Lean transformation saw major plant improvements throughout Europe and Africa, resulting in efficiency, throughput and insourcing. Global sustainability metrics and ratings continue to improve relative to ESG. We added capabilities for back office and engineering in India to advance our overhead improvement objectives. We continue to work with our customers to optimize the siting of each one of our SKUs to provide optimal delivery cost in times.

And we deployed our multi-port initiatives. As with all quarters, this has been a busy one, but we continue to stay on track with our initiatives. Finally on Page 21, we'll leave you with the following: The team continues to deliver solid performance despite significant macroeconomic headwinds. We were not distracted.

We are achieving our portfolio growth objectives in the aftermarket space, with big performance gains from 2020 and likewise from 2019 with more to come. While market conditions and demand tied to our products remain strong, we expect to continue to experience the impact of the semiconductor shortage and logistics constraints as we move through the remainder of 2021 and into 2022. We continue to take actions. We are seeing great support for our Eastern European growth in OEM production to Romania, with significant new program wins for that site.

We have a solid plan, and it's being recognized by our customers. And lastly, I would like to acknowledge our team members again for the great work and dedication they bring to Horizon each and every day. Nice job, everyone. I'll now turn it back to the operator for questions. 

Questions & Answers:

Operator

[Operator instructions] We don't seem to have any questions for today. I would now like to turn it back to Mr. Terry Gohl for his closing statements. Please go ahead.

Terry Gohl -- Chief Executive Officer

Well, I want to thank you all for joining the call today and for your continued interest in the company. And we look forward to talking to you all in the future as we review our Q4 and full year performance results. And I just want to say thank you again for joining the call today. Thank you. 

Operator

[Operator signoff]

Duration: 35 minutes

Call participants:

Jeff Tryka -- Investor Relations

Terry Gohl -- Chief Executive Officer

Dennis Richardville -- Chief Financial Officer

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