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Text: Both of these documents are available in the Investor Relations section of applied.com.
In addition, the conference call will use non-GAAP financial measures, which are subject to the qualifications referenced in those documents.
On behalf of our entire team at Applied, we hope you and your families are healthy, safe and managing well.
I'll start today with a business update, including how we continue to respond to the pandemic as well as progress with various internal initiatives and color on the external environment.
Dave will follow with a summary of our financials and some specifics on our first quarter and outlook, and then I'll close with some final thoughts.
Into early fiscal 2021, we're seeing a modest recovery gain momentum and are executing well.
I'm encouraged by the start to the year and believe we are in a solid position to build off this positive momentum as we move forward.
Our operations are functioning productively.
Our supply chain and inventory levels are in a good position and we are responding effectively to customers' increasing requirements as an initial demand recovery appears to be under way.
Throughout the past several quarters, we have quickly adapted to the evolving environment, including implementing new processes and ways to support our customer needs.
A key part of our message to all our stakeholders during these evolving times is how Applied is stronger today than in prior cycles.
This includes benefits from our expanded offerings, greater technical focus and a more diversified end market mix.
We've also strengthened our marketing and sales efforts to showcase our comprehensive and leading technical offering and to further develop our cross-selling opportunity.
We are increasingly critical to our customers as maintenance, production and efficiency requirements begin to ramp across their core operational infrastructure.
These elements are providing near-term sales support and leave us increasingly constructive on our growth potential going forward.
In addition, investments in systems, talent, analytics and operational processes in recent years are yielding additional benefits in the current environment.
We quickly aligned our cost structure and once again are demonstrating our operational discipline and the resilience of our operating model.
This is highlighted by better-than-expected decremental margins in the quarter as well as ongoing strengthening of our balance sheet following strong cash generation performance and a nearly 30% reduction in net debt levels over the prior year.
Our capabilities and company-specific opportunities, combined with the improving outlook, positions us to be a growth leader with increasing earnings power entering the next phase of recovery in the industrial economy.
This is demonstrated by our recent tuck-in acquisition of Advanced Control Solutions earlier this month.
ACS represents the next step in expanding our automation offering, which is further differentiating our value proposition, diversifying our end market mix and enhancing our growth profile to include next-generation industrial solutions.
As it relates to the broader demand environment, underlying trends remain below prior year levels during our first quarter as business activity continued to adjust to the ongoing pandemic.
That said, customer order activity improved sequentially through the quarter, and we continue to gain traction with our internal growth initiatives.
As a result, the year-over-year organic sales decline of 13.4% in the quarter improved notably from the 18.4% decline last quarter.
Year-over-year organic sales declines improved each month and sequential trends in daily sales rates seasonally strong.
We're starting to see greater maintenance activity and break/fix requirements with customers increasing access to their facilities and expanding equipment utilization as production gradually ramps back up, including at smaller local accounts.
Feedback from our sales leaders suggest order sizes are increasing, customer inventory levels are being replenished and maintenance projects are getting authorized as businesses increase activity and new safety protocols support a productive path forward.
In addition, we saw several industry verticals return back to growth during the quarter with 10 of our top 30 verticals up year-over-year versus only two last quarter.
Areas such as Food & Beverage, Aggregates, Technology, Chemicals and Transportation were all showing positive momentum.
And while weakness remains greatest across heavy industries, such as Machinery, Metals and Oil & Gas.
Demand within these verticals appears to be stabilizing and improving slightly.
We view these dynamics as a positive sign for the industrial economy and demand for our critical products and solutions.
That said, the pace of end market improvement remains gradual and at times inconsistent.
Organic sales through our first 18 business days of October are down by mid-teens percent over the prior year.
We saw some easing in sales early in the month following a strong end to our fiscal first quarter.
Sales trends have improved each week in October, with order momentum increasing sequentially across both our segments month-to-date.
However, it's important to note that visibility remains limited ahead of the seasonally slower winter months as customers continue to manage through an uncertain macro and pandemic outlook near term.
Additionally, customer purchasing discipline can be more restrained around any given election cycle.
As we've shown in recent quarters, we know how to manage and execute in this still uncertain business environment and will remain prudent in our cost focus and capital deployment near-term while focusing on our self-help growth opportunities.
Overall, we're seeing signs that reinforce our view that the worst is behind us, and a recovery is starting to gain traction.
This bodes well for when we enter the seasonally stronger second half of our fiscal year as comparisons become easier and we continue to execute on our internal growth initiatives.
Before I begin, I will remind everyone that a supplemental investor deck recapping key financial performance and discussion points is available on our investor site for your additional reference.
To provide more detail on our first quarter, consolidated sales decreased 12.7% over the prior year quarter.
Acquisitions contributed 1.1% growth, partially offset by an unfavorable foreign currency impact of 0.4%.
Netting these factors, sales decreased 13.4% on an organic basis with a like number of selling days year-over-year.
Turning to sales performance by segment, as highlighted on slides six and seven.
Sales in our Service Center segment declined 14.9% year-over-year or 14.4% on organic basis.
The decline reflects the ongoing impact from COVID-19, including reduced industrial production activity and customer facility restrictions which continues to impact MRO demand across our service center network.
However, the 14% organic decline year-over-year represents an improvement from the 21% decline during last quarter.
In addition, average daily sales rates were up more than 4% sequentially and above the normal seasonal progression.
As Neil highlighted, we saw greater maintenance activity in break/fix demand.
More customers are providing access into their facilities and releasing working capital spending following a slow pace during the summer months.
Year-over-year declines remain greatest within Metals, Oil & Gas and Machinery end markets but were balanced by underlying improvement within Food & Beverage, Pulp & Paper, Aggregates, Forestry and Chemical Industries as well as ongoing growth in our Australian operations.
Within our Fluid Power & Flow Control segment, sales decreased 7.4% over the prior year quarter with our August 2019 acquisition of Olympus Controls, contributing 3.8 points of growth on roughly half a quarter of remaining inorganic contribution.
On an organic basis, segment sales declined 11.2%, reflecting lower demand across Industrial, Off-Highway Mobile and process-related end markets.
This was partially offset by sales growth within Technology, Life Sciences, Food & Beverage and Chemical end markets during the quarter as well as ongoing traction with our cross-selling initiatives and firm sales activity across our emerging automation platform.
Moving to margin performance.
As highlighted on Page eight of the deck, gross margin of 28.9% declined approximately 50 basis points year-over-year or 40 basis points when excluding noncash LIFO expense of $1.1 million in the quarter and $0.4 million in the prior year quarter.
Year-over-year declines primarily reflect unfavorable mix tied to sales declines across our local service center accounts, albeit more modest relative to last quarter as well as more subdued pricing opportunities given the softer demand environment.
That said, on a sequential basis, gross margins improved 13 basis points or 17 basis points when excluding LIFO expense, and we're slightly ahead of our expectations.
While we expect some of the volume-driven year-over-year headwinds to persist near term, we remain focused on driving annual gross margin expansion as demand levels normalize, reflecting benefits from our systems investments, the positive contribution of expansionary products, strategic growth driven by our technical service-oriented solutions and initiatives to expand business across our local customer base.
In addition, we are starting to see a slightly greater level of supplier price increase announcements, which, combined with firming demand, could provide some positive momentum for pricing contribution and margin expansion into the second half of our fiscal year.
Turning to our operating cost.
Selling, distribution and administrative expenses declined 13.4% year-over-year or approximately 15% when excluding incremental operating costs associated with our Olympus Controls acquisition.
Both of these figures exclude $1.5 million of nonroutine cost in the prior year quarter.
The year-over-year decline reflects the ongoing benefit from various actions we've taken in recent quarters to align expenses with lower demand.
This includes a mix of both structural and temporary cost actions as we continue to assess the environment.
And while we have begun to roll back some of the temporary actions, our team continues to demonstrate great discipline in controlling costs and identifying internal opportunities.
Combined with improving sales trends during the quarter, we reported a 9.5% decremental margin on operating income during our recent fiscal first quarter, which exceeded our expectations and highlights the adaptability and durability of our operating model.
Going forward, we will remain prudent and disciplined in maintaining our cost structure as we continue to gradually roll off temporary cost actions to align with our recent performance, a more constructive outlook and our growth initiatives.
EBITDA in the quarter was $67.6 million, down 13.6% compared to adjusted EBITDA of $78.2 million in the prior year quarter while EBITDA margin was 9%, down a modest 10 basis points over the prior year despite the double-digit sales decline.
We reported net income of $34.8 million or $0.89 per share, down from adjusted net income of $39.9 million or $1.02 per share in the prior year quarter.
Moving to our cash flow performance and liquidity.
During the first quarter, cash generated from operating activities was $81.8 million while free cash flow was $78.2 million or approximately 225% of net income.
This was up from $50 million and $45 million, respectively, as compared to the prior year quarter, and represents record first quarter cash generation.
The strong cash performance during the quarter reflects ongoing contribution from our working capital initiatives as well as the countercyclical cash profile of our business model.
Given the strong cash flow performance in the quarter, we ended September with over $271 million of cash on hand with approximately 75% of that unrestricted U.S. held cash.
Of note, this is after utilizing $62 million of cash during the quarter to pay down debt.
We have now paid down over $200 million of debt since early 2018, including over $80 million the past year.
Our net debt is down nearly 30% over the prior year, and net leverage stood at 2.1 times adjusted EBITDA at quarter end, below the prior year quarter level of 2.3 times and the prior year level of 2.6 times.
Additionally, our revolver remained undrawn with approximately $250 million of capacity and an additional $250 million Accordion option.
Combined with incremental capacity on our uncommitted private shelf facility, our liquidity is ample and our balance sheet is strong entering what appears to be an emerging recovery.
This provides flexibility to fund incremental working capital requirements in coming quarters as customer demand continues to improve as well as opportunistically pursue strategic M&A aligned with our growth initiatives.
Our M&A focus near-term remains on smaller bolt-on targets that align with our growth priorities, including additional automation and fluid power opportunities.
Transitioning now to our outlook.
Visibility remains limited on how customers will proceed with operations into the seasonally slower winter months.
That said, to provide some directional views near term based on month-to-day trends in October and assuming normal sequential patterns in daily sales rates for the balance of the quarter, we would expect fiscal second quarter 2021 sales to decline 13% to 14% organically on a year-over-year basis.
This includes an assumption of low-teen organic declines in both our Service Center segment and Fluid Power & Flow Control segment.
Again, this direction is meant to provide a starting framework on how second quarter sales could shape up if trends follow normal seasonality over the next two months.
If customers reduce underlying production activity, or extend these plant shutdowns, this could drive organic declines that are greater than the 13% to 14% assumption.
On the other hand, if we see ongoing improvement in underlying industrial activity and further traction with our internal growth initiatives, organic declines could be better than the 13% to 14% assumption.
In addition, we expect our recent acquisition of ACS to contribute approximately $6 million in sales during our fiscal second quarter.
Based on the 13% to 14% organic sales decline, we believe a low double-digit to low-teen decremental margin is an appropriate benchmark to use for our second quarter.
This assumes gross margin to be relatively stable sequentially to first quarter levels as well as the ongoing gradual rollback of temporary cost actions.
As indicated, we will continue to take a mindful and balanced approach to our operating costs going forward, including ongoing focus on internal opportunities and margin initiatives, which we expect to provide balance into our cost trajectory moving forward.
We are encouraged by our cost and margin execution year-to-date which are providing the flexibility to further roll back temporary cost actions as we take an offensive approach to an emerging recovery and our strategic growth targets.
We also note an effective tax rate of 23% to 25% is still an appropriate assumption near term.
Lastly, from a cash flow perspective, we would expect moderation from first quarter levels sequentially for the balance of the year, given potential greater working capital requirements as we look to support growth and the recovery as the year plays out.
We remain confident in our cash generation potential over the cycle and reiterate our normalized annual free cash target of at least 100% of net income.
Overall, I'm encouraged by how we started the year.
Our entire team has shown tremendous resiliency over the past several quarters which is driving improved performance into early fiscal 2021 and positions us to respond and capitalize on the recovery as it continues to unfold.
We have proven the durability of our business model, strengthened our balance sheet and optimized our cost structure.
We are leveraging our unique and differentiated industry position to be an industrial growth leader into the emerging recovery and in years to come.
All of this is reflected in our first quarter results and provides further evidence of the positive path we're on.
From our industry-leading technical MRO capabilities to our Engineered Solutions focus, multichannel cross-selling opportunity and expanding automation platform.
We have multiple catalysts to expand our market potential and accelerate share gains in coming years, all while driving additional margin expansion.
This is integrated into our long-term targets of $4.5 billion in sales and 11% EBITDA margins, which are well within our capability and provide the framework for accelerating earnings power and stakeholder returns long term.

user
compname reports q1 earnings per share $0.89.
q1 earnings per share $0.89.
applied industrial technologies - due to ongoing uncertainty from covid-19 pandemic, continues to refrain from providing financial guidance for fy2021.
compname says project q2 sales to decline 13% to 14% year over year on organic basis.

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