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Text: Scott Hall, our President and CEO; and Martie Zakas, our CFO, will be discussing our fourth quarter and full year results, end markets and expectations for fiscal 2022.
Please review slides 2 and 3 in their entirety.
I hope everyone listening to our call continues to stay safe and healthy.
The fourth quarter was a disappointing end to a strong year, which we achieved despite the ongoing pandemic and other challenges.
In addition to the pandemic, we have faced many obstacles over the past year, including significant raw material and other cost inflation, supply chain disruptions and labor availability challenges, which impacted fourth quarter operations and results.
Our consolidated net sales increased 11.4% for the fourth quarter and 15.2% for the full year.
Following record sales growth in the third quarter, we experienced continued strong demand in the fourth quarter, driven by both new residential construction and municipal repair and replacement activity.
Fourth quarter orders remained elevated compared with pre-pandemic levels and we ended the year with record backlog for our infrastructure products.
While our fourth quarter adjusted EBITDA decreased primarily due to the challenging operating environment, we still achieved 6.8% growth for the year.
Although we realized improved pricing in the quarter for the majority of our products, it was not enough to offset the continued higher inflation.
We do expect that our current pricing actions will more than cover anticipated inflation in 2022, assuming material costs do not increase beyond current levels.
Additionally, during the quarter, our specialty valve product portfolio experienced longer delivery time for parts, delaying shipments and our ongoing plant restructuring has been impacted by the supply chain disruptions and labor challenges.
I am especially pleased with our cash flow for the year, where we generated $94 million of free cash flow.
We ended the year with a stronger cash position compared with the prior year after acquiring i2O Water for $19.7 million and allocating $44.8 million to shareholders.
We repurchased $10 million of common stock during the fourth quarter and recently announced a dividend increase of approximately 5.5%.
In summary, while we had a disappointing finish to the year from a conversion margin perspective, we delivered strong top line growth and remain focused on overcoming the operational challenges.
We believe that the record backlog across our short-cycle products, coupled with the expected realization from higher pricing, have positioned us to deliver net sales and adjusted EBITDA growth in 2022.
Additionally, we are nearing the completion of our three large capital projects, which we expect to drive gross margin benefits once they are up and fully running.
I am confident that we are in a great position to accelerate our strategies and improve our culture of execution as we become a world-class water technologies company, bringing solutions to critical water infrastructure.
I hope you and your families continue to be safe and healthy.
I will start with our fourth quarter 2021 consolidated GAAP and non-GAAP financial results, then review our segment performance and finish with a discussion of our cash flow and liquidity.
During the fourth quarter, we generated consolidated net sales of $295.6 million, which increased $30.3 million or 11.4% as compared with fourth quarter last year.
The increase was primarily a result of increased shipment volumes and higher pricing at infrastructure.
We generated a 10.8% increase in consolidated net sales when compared with the fourth quarter of 2019, which preceded the pandemic, reflecting improved end market demand.
Our gross profit this quarter decreased $7.6 million or 8.1% to $86.3 million compared with the fourth quarter of the prior year, yielding a gross margin of 29.2%.
Gross margin decreased 620 basis points compared with the prior year.
Higher pricing at infrastructure and increased shipment volumes were more than offset by continued higher inflation and unfavorable manufacturing performance, which includes the impact of labor challenges, supply chain disruptions and our plant restructurings.
Our total material costs increased 18% year-over-year in the quarter, primarily driven by higher raw materials, which increased sequentially and year-over-year.
Our primary raw materials are scrap steel and brass ingot and prices of both were up over 50% year-over-year.
While our price realization improved sequentially, our price/cost relationship was negative for the third consecutive quarter.
Given the acceleration of raw material pricing in the quarter, the price/cost relationship did not improve as much as anticipated due to the level of inflation.
Scott will discuss the drivers of the decrease in gross margin versus expectations in more detail later in the call.
Selling, general and administrative expenses of $56.6 million in the quarter, increased $4.5 million compared with the prior year.
The increase was primarily as a result of investments, including the i2O Water acquisition, IT-related activities and personnel-related costs, the reversal of temporary T&E savings relating to the pandemic and general inflation.
SG&A as a percent of net sales was 19.1% in the fourth quarter compared with 19.6% in the prior year.
Operating income of $27.8 million, decreased $12.9 million or 31.7% in the fourth quarter compared with $40.7 million in the prior year.
Operating income includes strategic reorganization and other charges of $1.9 million in the quarter, which primarily relate to our previously announced plant restructurings.
Turning now to our consolidated non-GAAP results.
Adjusted operating income of $29.7 million decreased $12.1 million or 28.9% as compared with $41.8 million in the prior-year quarter.
Higher inflation, unfavorable manufacturing performance and higher SG&A expenses more than offset higher pricing and increased volumes in infrastructure.
Adjusted EBITDA of $45.6 million decreased $12 million or 20.8%, leading to an adjusted EBITDA margin of 15.4%, which is 630 basis points lower than the prior year.
For the full year 2021, we generated adjusted EBITDA of $203.6 million, which grew 6.8%, yielding an adjusted EBITDA margin of 18.4%.
Interest expense net for the 2021 fourth quarter declined to $4.4 million as compared with $6 million in the prior-year quarter.
The decrease in net interest expense in the quarter primarily resulted from lower interest expense as a result of the refinancing of our senior 5.5% notes with senior 4% notes.
The effective tax rate this quarter was 24.3% as compared with 24.8% last year.
For the full year, our effective tax rate was 25.8% as compared with 23.5% for the prior year.
For the quarter, we generated adjusted net income per share of $0.12 compared with $0.17 in the prior year.
Turning now to segment performance, starting with infrastructure.
Infrastructure net sales of $271.9 million, increased $29.9 million or 12.4% as compared with the prior year primarily as a result of increased shipment volumes, particularly of our hydrant, iron gate valve, service brass and repair products and higher pricing.
Adjusted operating income of $46.2 million, decreased $10.6 million or 18.7% in the quarter as higher inflation, unfavorable manufacturing performance and higher SG&A expenses were only partially offset by higher pricing and increased volumes.
Adjusted EBITDA of $59.3 million, decreased $10.3 million or 14.8%, leading to an adjusted EBITDA margin of 21.8%.
For the full year, adjusted EBITDA margin was 25.2%.
Moving on to technologies.
Technologies net sales of $23.7 million, increased 1.7% as compared with the prior year primarily as a result of our acquisition of i2O Water.
Organic net sales declined slightly compared with the prior year as higher pricing was more than offset by lower volumes.
Adjusted operating loss was $4.3 million as compared with adjusted operating loss of $2.3 million in the prior year.
This increase was primarily due to unfavorable performance, including inventory adjustments, increased expenses associated with our acquisition of i2O Water and higher inflation, which were partially offset by higher prices.
Technologies adjusted EBITDA was a loss of $2.4 million as compared with adjusted EBITDA loss of $200,000 in the prior year.
Moving on to cash flow.
Net cash provided by operating activities for the year ended September 30, 2021, improved $16.4 million to $156.7 million, primarily as a result of the $22 million Walter Energy tax payment in the prior year.
Our net working capital as of September 30, 2021, decreased $11.3 million to $207.1 million.
Net working capital as a percent of net sales improved to 18.6% compared with 22.7%, primarily as a result of better inventory turns.
We invested $16.6 million in capital expenditures during the fourth quarter, bringing the year-to-date total to $62.7 million as compared with $67.7 million in the prior year.
The decrease in capital expenditures for the year, which was below our updated guidance range was primarily due to the supply chain disruptions that have slowed the pace of some planned expenditures, including spending for our large capital projects.
Free cash flow for the year improved $21.4 million to $94 million and exceeded adjusted net income.
At September 30, 2021, we had total debt of $446.9 million and cash and cash equivalents of $227.5 million.
At the end of the fourth quarter, our net debt leverage ratio improved to 1.1 times from 1.3 times at the end of the prior year.
We did not have any borrowings under our ABL agreement at year-end, nor did we borrow any amounts under our ABL during the year.
As a reminder, we currently have no debt maturities before June 2029.
Our senior 4% notes have no financial maintenance covenants, and our ABL agreement is not subject to any financial maintenance covenant unless we exceed the minimum availability thresholds.
Based on September 30, 2021 data, we had approximately $158.7 million of excess availability under the ABL agreement, which brings our total liquidity to $386.2 million.
In summary, we continue to have a strong, flexible balance sheet with ample liquidity and capacity to support our capital allocation opportunities.
Scott, back to you.
I'll touch on our fourth quarter results, new management structure, end markets and full year 2022 guidance.
As mentioned earlier, there were a number of challenges during the quarter, which impacted our gross margins and led to the disappointing adjusted EBITDA conversion, which was below our expectations.
The gross margin gap was approximately $15 million with the labor challenges making up more than one-third of the gap.
Higher inflation, freight and electricity costs, combined, also accounted for more than one-third of the gap.
Of the other factors, the operational challenges for our specialty valve product portfolio had the largest impact, along with unfavorable inventory adjustments.
The labor challenges have led to an increase in costs associated with overtime, benefits and efficiencies.
We provided additional performance incentives for team members at the plants, recognizing their hard work and dedication throughout this exceptionally challenging operating environment.
Additionally, the pandemic continues to pose labor challenges for us even with the progress made with vaccinations.
Our teams are working closely to continue to improve our relationships with our employees and enhance our efforts around hiring, training and retention.
Raw material inflation continued to be a headwind during the quarter.
We experienced another sequential increase in raw material inflation, resulting in scrap steel and brass ingot prices up over 50% versus the prior year.
Raw material prices didn't start to accelerate higher until the second quarter of 2021.
Therefore, we anticipate that raw material inflation will be most impactful in the first half of the year, if prices do not continue to increase.
In the past, we have been successful in executing price increases as needed to more than cover inflationary expenses over the cycle.
Our pricing actions during this past year, which include free price increases across most product lines, are helping to offset inflation as we saw a notable sequential increase on our price realization during the fourth quarter.
Unfortunately, record backlogs are extending the timing for the realization of continued price benefits.
So we do not expect to be in a positive price/cost position on a quarterly basis until the middle of 2022.
At this time, we expect that our current pricing actions will more than cover anticipated inflation in 2022.
This belief assumes that material costs do not increase beyond current levels.
The strong demand we have experienced has also led to some manufacturing inefficiencies, triggered by the rapid increase in volumes, particularly in the second half of our year.
With the increased demand, we are having to run our foundries during peak periods, leading to much higher energy costs.
The supply chain disruptions have also led to higher freight costs and extended lead times for some third-party purchase parts.
Our supply chain teams have been focused on obtaining needed supplies on a timely basis and working to find alternative sources where possible.
While we believe our actions will put us in a better position to increase shipments to meet demand, we anticipate that supply chain disruptions and labor availability will continue to be headwinds well into next year.
In the fourth quarter, the operational challenges were even greater for our specialty valve product portfolio, which accounts for approximately 15% of annual sales.
These products are typically used in large projects with long lead times.
Due to the longer manufacturing and delivery times, the gap between material cost inflation and pricing improvements can be more than nine months.
Additionally, as a reminder, we announced a major plant restructuring project in the second quarter of 2021.
At that time, we were anticipating a different operating environment.
The strong demand, supply chain disruptions and labor challenges have impacted shipments for these products and increased the transition cost for our plant restructuring.
We remain confident that we will fully complete the transition and ramp up in 2023 with the margin benefits following accordingly.
We recently announced a new management structure beginning with the first quarter of 2022.
The new structure is designed to increase revenue growth, drive operational excellence, accelerate new product development and enhance profitability.
We believe that the new structure positions us for improved long-term growth and increase margins, while helping to accelerate the commercialization of our technology-enabled products and the Sentryx software platform.
The two newly named business units are Water Flow Solutions and Water Management Solutions.
Water Flow Solutions product portfolio includes iron gate valves, specialty valves and service brass products.
Net sales of products in the Water Flow Solutions business were approximately 60% of 2021 consolidated net sales.
Within the Water Flow Solutions business unit, we will advance manufacturing and assembly efficiencies across valve and brass products, while driving the expected benefits from our three large capital projects.
Additionally, we will look to increase growth in existing product areas and support expansion of valves into adjacent markets.
Water Management Solutions product and service portfolios include fire hydrants, repair and installation, natural gas, metering, leak detection, pressure control and software products.
Net sales of products in the Water Management Solutions business unit were approximately 40% of 2021 consolidated net sales.
Within the Water Management Solutions business unit, we look to leverage our hydrants, which provide a bridge for digital communications throughout the water system with enhanced coordination among products and services.
Also, we plan to reduce product development cycle times with enhanced coordination of digitally enabled products and network management.
Turning to our end markets.
We again experienced strong demand and order growth in our fourth quarter, driven by both new residential construction and municipal repair and replacement activity.
While we expect end markets to remain healthy in 2022, we do anticipate that growth will slow down relative to the strong recovery we experienced during 2021.
State and local budgets appear to be in good shape, especially at the larger municipalities.
The aging water infrastructure will continue to be a driver of repair and replacement activity at water utilities.
We were pleased to see that the federal infrastructure bill was passed over the weekend.
It is an important step forward for the needed investment in our aging water infrastructure.
We have not built any benefits from the bill into our assumptions for our 2022 guidance.
While we expect residential construction activity continue to be healthy relative to pre-pandemic levels, we expect that it will be difficult to achieve significant growth again in 2022.
Residential construction activity was incredibly strong during 2021, highlighted by total housing starts increasing approximately 18% and single-family starts increasing around 23%.
We believe that supply chain disruptions, which are extending overall build cycles for new residential construction, could support a healthy demand environment well beyond 2022.
Moving on to our expectation for 2022.
The record backlog across our short-cycle products and the expected realization from higher pricing position us to deliver net sales growth in 2022, continuing the strong net sales growth achieved in 2021.
We believe the operating environment will remain challenging, especially in the first half of the year, with the potential for gradual improvement during the second half of the year.
We currently anticipate that our full year 2022 consolidated net sales will increase between 4% and 8%, with our adjusted EBITDA also increasing between 4% and 8% as compared with the prior year.
We expect to generate solid free cash flow during the year.
These expectations assume the challenges associated with higher inflation, labor availability and supply chain disruptions and the pandemic's impact will modestly improve relative to 2021, and that material costs do not increase beyond current levels.
Our focus remains on keeping our employees safe, protecting our communities, delivering exceptional products and support to our customers and generating strong cash flow.
During 2022, we will remain focused on executing our strategic initiatives and overcoming the external and internal operational challenges.
We are committed to improving our culture of execution as we become a world-class water technologies company, bringing solutions to critical water infrastructure.
We are excited about the progress we have made in our new product development programs and the growing market acceptance for digitally enabled product offerings such as our Super Centurion Smart Hydrant, Sentryx software platform, and i2O pressure management solutions.
Additionally, we are making progress on our sustainability initiatives, and we'll share our strategic goals and progress in our second ESG report to be published in January of 2022.
With a strong balance sheet, liquidity and cash flow, we are very well positioned to accelerate growth and efficiencies through capital investments and acquisitions.
We will continue to maintain a balanced approach to capital allocation, investing in our business and returning cash to shareholders.
We recently announced another increase to our quarterly dividend, marking the fifth increase since the end of 2016.
Additionally, we repurchased $10 million of common stock during the fourth quarter after resuming our share repurchases earlier this year.
We currently have $135 million remaining authorization on our share repurchase program.
That concludes my comments.

user
q4 sales rose 11.4 percent to $295.6 million.
q4 adjusted earnings per share $0.12.
sees fy sales up 4 to 8 percent.
q4 earnings per share $0.12.
earned net income per diluted share of $0.12 in quarter.

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