Good day, and thank you for standing by. Welcome to the Q2 2024 Kadant Earnings Conference Call. At this time, all participants are in a listen-only mode. Please be advised that today’s conference is being recorded. After the speaker’s presentation there will be a question and answer session. [Operator Instructions] I would now like to hand the conference over to your speaker today, Michael McKenney, Executive Vice President and Chief Financial Officer.

Thank you, Josh. Good morning, everyone, and welcome to Kadant's second quarter 2024 earnings call. With me on the call today is Jeff Powell, our President and Chief Executive Officer. Before we begin, let me read our safe harbor statement. Various remarks that we may make today about Kadant's future plans and expectations, financial and operating results and prospects are forward-looking statements for purposes of the safe harbor provisions under the Private Securities Litigation Reform Act of 1995. These forward-looking statements are subject to known and unknown risks and uncertainties that may cause our actual results to differ materially from these forward-looking statements as a result of various important factors, including those outlined at the beginning of our slide presentation and those discussed under the heading Risk Factors in our annual report on Form 10-K for the fiscal year ended December 30, 2023, and subsequent filings with the Securities and Exchange Commission. In addition, any forward-looking statements we make during this webcast represent our views and estimates only as of today. While we may elect to update forward-looking statements at some point in the future, we specifically disclaim any obligation to do so even if our views or estimates change. During this webcast, we will refer to some non-GAAP financial measures. These non-GAAP measures are not prepared in accordance with generally accepted accounting principles. A reconciliation of non-GAAP financial measures to the most directly comparable GAAP measures is contained in our second quarter earnings press release and the slides presented on the webcast and discussed in the conference call, which are available in the Investors section of our website at www.kadant.com Finally, I wanted to note that when we refer to GAAP earnings per share or EPS and adjusted EPS on this call, we are referring to each of these measures as calculated on a diluted basis. With that, I'll turn the call over to Jeff Powell, who will give you an update on Kadant's business and future prospects. Following Jeff's remarks, I'll give an overview of our financial results for the quarter, and we will then have a Q&A session. Jeff?

Thanks, Mike. Hello, everyone. Thank you for joining us this morning to review our second quarter results and discuss our business outlook for the second half of 2024. I'll begin by reviewing our operational highlights for the second quarter. I'm pleased to report we had another well-executed quarter, with record demand for aftermarket parts, combined with strong capital business, leading to record revenue, record adjusted EBITDA and record adjusted EPS. Our acquisitions made in the first half of the year are performing well, and integration efforts are on track. Overall, market demand, particularly in North America remained solid in the second quarter across all operating segments. Turning next to Slide 6. I'd like to review our Q2 financial performance. We achieved a number of financial records in the second quarter, driven by our recent acquisitions and strong capital shipments. Revenue increased 12% to a record $275 million, while organic revenue, which excludes acquisitions and the impact of foreign currency translations, was $250 million. Strong execution contributed to a record adjusted EBITDA of $62 million and represented a record 22.5% of revenue in the second quarter. Record aftermarket parts revenue, combined with strong performance in capital shipments, contributed to the solid margin expansion of 150 basis points. Our adjusted EPS was also a record at $2.81. Despite sluggish industrial demand in Europe and Asia, second quarter bookings increased 17% compared to the same period last year. Organic bookings were up 5% and in line with our growth expectations. We have a healthy backlog and expect bookings in the second half of 2024 to be comparable to the first half of the year. Capital project activity remains good, but the timing of these orders is less certain. I'll provide more detail on this when I review our operating segments. I will begin…

Thank you, Jeff. I'll start with our second quarter performance and some key records. Revenue was a record $274.8 million, up 12% compared to the second quarter of '23 and up 2% excluding acquisitions and FX. Gross margin was 44.4% in the second quarter of '24, up 90 basis points compared to 43.5% in the second quarter of '23. Excluding a 20 basis point negative impact from the amortization of acquired profit and inventory, adjusted gross margin in the second quarter of '24 was 44.6%, up 110 basis points compared to the second quarter of '23. This increase was principally due to higher margins achieved on our capital projects in all our segments and especially in our industrial processing segment. Parts and consumables revenue represented 63% of revenue in the second quarter of '24 compared to 62% in the prior year. SG&A expenses as a percentage of revenue increased to 25.5% in the second quarter '24 compared to 24.5% in the prior year period due in part to nonrecurring acquisition-related costs. SG&A expenses were $70 million in the second quarter '24, increasing $10 million compared to $60 million in the second quarter '23. This included an increase of $8.2 million from our acquisitions and $1.6 million in acquisition-related costs, partially offset by a $0.5 million favorable foreign currency translation effect. Our GAAP EPS increased 5% to $2.66 in the second quarter compared to $2.54 in the second quarter of '23, principally due to higher revenue and gross margins. Our adjusted EPS was a record $2.81 in the second quarter of '24, up 11% compared to $2.54 in the second quarter of '23. The second quarter '24 adjusted EPS exceeded the high end of our guidance range by $0.31 due to higher revenue and better gross margins than forecast. We had…

Thank you. [Operator Instructions] Our first question comes from Ross Sparenblek with William Blair. You may proceed.

Just given the recent M&A, it'd be great to just get a sense of what the organic growth was for price consumables in the first and second quarter.

One second there, Ross.

Just knowing that, yes, all 3 of those were highly accretive to parts and the growth has been pretty -- material as of late.

I don't have it parsed by parts and consumables. I have it in aggregate. So I'll have to come back to you on that, Ross.

And then maybe just given the lumpy start to 2023, if it kind of normalizes bookings, are we to kind of think that this is a run rate and the first half was more just normalized? Or is there anything else to read into that may have affected the kind of -- 250 that we stand on today?

Well, I think as we started to talk about kind of this time last year, we thought that the first half of the year would be similar to the back half of last year and that things might start to accelerate a little bit in the second half. Obviously, the first half of the year has been -- I think certainly, North America has performed a little better than I think the Fed's thought. And so it's obviously impacted their timing on interest rate cuts and the reacceleration of the economy. That's why now we're kind of saying we think things are going to be fairly flat, where before we were thinking that maybe we have seen some rate cuts by now and that things would be accelerating a little bit. It's all -- as you know, parts have been quite strong. It's really the capital. And there's a lot of activity. There's a lot of projects there. It's just a question of timing. And I think a lot of our customers are waiting for a signal from the Fed that, okay, things have bottomed out, and we're going to start to cut rates and reaccelerate the economy. So we're being, I think, reasonably cautious as you know, we always are on our outlook for the back half of the year.

So if we're taking $25 million of acquisitions bookings every quarter, then the implied, if everything is flat in the second half, is maybe 5% down organically for the year for bookings?

Yes. That's about right, Ross.

And maybe just one more on bookings, if I can. Second quarter on the capital equipment was in line with expectations, but steel is down probably 40% year-to-date. So maybe just give us a sense of where that shift out on price and volume? Then anything else you hear from customers? I know you noted that industrial processing is set to improve in the second half, which could be a little bit of outgrowth.

So go back on that, Ross, are you talking on the bookings front?

Yes, the bookings. So it looks like you had, what, equipment was $73 million, roughly flat with $77 million, but we do have some deflationary steel in there. Just trying to get a sense of volume or the underlying demand.

Yes. I'd say it's really -- it's kind of -- it's tied to volume.

Our next question comes from Kurt Yinger with D.A. Davidson. You may proceed.

Just wanted to start on the outlook. Can you maybe just talk to kind of the organic performance that's assumed for Q3? And if I think about kind of the DSTI acquisition now rolled in, very modest uplift to the full year outlook. Is it fair to still look at that as kind of contemplating very low single-digit kind of organic declines this year?

Yes, I think that's fair, Kurt. In my comments, I mentioned that from our January forecast to our July forecast for the year, we lost $0.23 due to translation and FX. And on the -- that's, of course, EPS on top line, we lost about $17 million. So we're fighting a little bit of a headwind there.

And I guess just going back to bookings. I mean, how would you kind of describe the 2Q performance relative to your expectations? And I guess, in terms of kind of potential timing of improvement on the capital side? Do you feel like shipments and sales on that front are pretty well spoken for at this point? And what you're seeing kind of over the back half of the year is largely going to determine how the beginning of 2025 sets up?

To your first question, I think the parts were stronger maybe in the quarter than we expected, and I would say capital was maybe a little weaker. Again, just based on the timing of projects. As far as capital going forward, I think, again, it's -- the timing is just when you're in an uncertain time like this, the timing of these things, if they just shift a week or two, of course, can have a big impact. But our smaller capital projects, if we still book -- as we book those, say, in the third quarter, we would still expect to see some of that hit the revenue line this year. The bigger projects, of course, some of those are on kind of percent completion or over time. So you'll get some revenue on those. But your point is well taken that as the year progresses, that capital bookings start to shift more towards those new bookings start to shift more towards next year as they get late into the year.

And then just lastly, on gross margins. It sounded like the performance there on the capital side was better than expected. I mean, was that just kind of a mix of some of the sizes of projects or what, I guess, operating segments they fell in? Or was there anything else that might kind of persist benefiting the margins on the capital side?

Well, yes, both -- I would say, both compared to last year and against forecast, we performed better on our gross margins on capital. And to -- overall, broadly on gross margins, we've -- I'd say the last few quarters against forecast, our gross margins have come in stronger. So of course, very -- as you recall, we had very good gross margins in the first quarter and strong gross margin performance again here in the second quarter. In the back half of the year, we're looking at gross margins down slightly. But I think that's an area of potential opportunity for us if we can continue to outperform on the gross margin front.

And I guess, is that just a little bit kind of better pricing management? Or maybe anything to do with some of the 80/20 initiatives?

I would say 80/20 is an important part of what's happening on the gross margin front. And then when I look at -- on the capital, just looking back against second quarter of '23, we -- I think the capital margin performance was relatively weak there. But we -- and then we came in this quarter with strong performance. So it really, really stood out.

Thank you. Our next question comes from Gary Prestopino with Barrington. You may proceed.

I just have a question on the EBITDA margin, the adjusted EBITDA margin. You retained a record this quarter. Is it possible, given the sales outlook that you have that you're going to be able to keep it at 22% for the back half of the year?

I don't think that will be the case. With -- so I would be -- with the margins, gross margins, coming down modestly. I think that will water down the EBITDA margins accordingly so.

It's just that some of the puts and takes here with the interest expense and then the DNA that you've cited for the year is going to be higher than I expected. So I was just wondering how that would all flush out. But we -- we should be below that 22% threshold for the back half of the year?

Yes. I think yes, and I think we'll finish out the year, of course, below that mark.

[Operator Instructions] Our next question comes from Walter Liptak with Seaport Research. You may proceed.

Great quarter. I want to ask about the -- just to make sure I'm clear on this. The organic orders, I think you said were, across the board, up about 5%. Is that right?

Yes.

And I wonder if you could just break out how that trended on parts versus capital projects?

Yes. That was, I think, similar to what Ross was asking on. So I would say it was kind of split between the two, parts would be the stronger component.

And then I guess a follow-up too from that prior question. Just wanted to make sure I understood that in the back half, you're thinking that the orders that we should be expecting would be down about 5%? Or was it down not 5% in the back half of the year, but -- but down 5% for the full year?

On the -- for organic for the full year, yes, that's fairly close. I have this down about 4%.

So that implies that we should be thinking about just the CapEx projects in the back half of the year just not being as strong because of some of those timing issues or whatever that you talked about?

Yes. We've said on the bookings front, kind of demand being relatively consistent with where we are currently.

And then I wonder if you could talk about sort of the geographic regions and where -- the pluses and minuses across the three segments?

I can talk qualitatively that North America has, of course, held up better than I think most people had expected. China continues to struggle coming out of lockdown and some other structural issues they have, frankly, around the drivers of their economy being principally development. And then Asia -- or the rest of Asia is doing a little better. And then Europe, you've got -- you have to kind of look at it country by country. I would say Germany and Holland were probably -- and the U.K. were probably technically in a recession. I think, and maybe they're back to being kind of flat. The European bank is starting to cut rates there. So the hope is that we'll -- as we move into the end of this year and into next year, we'll start to see those economies to reaccelerate as the rate cuts continue. So that's kind of qualitatively kind of what we're seeing. It's kind of -- it's been pretty consistent actually for the last several quarters, and we think it's going to be for the next few quarters. But North America -- North America, of course, being the strongest.

Our next question comes from Ross Sparenblek with William Blair. You may proceed. Ross, your line is now open.

Can you guys hear me? There we go. Back on the geographic, I mean, if you could maybe just parse out what the strength has been in North America? And then also second question, just on Asia. Is it just China a couple of years of over-earning and we're kind of hitting a run rate? I know the OSB business sounds I guess, pretty strong there, and you guys are continuing to outgrow the market. Just to get a sense, what products or businesses directly are driving those.

Yes. I would say in North America that all the businesses are doing quite well. Of course, the material handling side, we've had some record performance there. The parts have been very strong on flow control, which is a very big driver of our business. And then all the industrial processing group has done well. So all the segments have just performed better than the rest of the world because of the economy -- our growth rates held up more so than the rest of the world. China has got an issue that their personal consumption is down. They focus on exports, which -- to countries that are soft. And so much of their internal growth would be driven by development by buildings, frankly. And they overbuilt, and they're trying to sort through that. They've had some other major developers declare bankruptcy or be taken over by somebody else. So they're just trying to get their economy back on track. I don't think this is a long-term run rate. I think they've got some structural issues they've got to work through, and then I would expect they'll -- things should start to improve there a little bit. But it's taken some time because they were in lockdown for substantially longer period than the rest of the world. And so -- and they're just kind of slower to address the structural issues.

But I mean as we think about just the overall decision to replace the lower efficiency mills every year, are you guys still seeing good share there? And is that staying on track? I mean, there's a nice run rate here and some stability. Or does it continue to deteriorate? Or [Indiscernible] specifically?

You talking about globally or just in China?

Just in China.

In China, our market share is holding up well there. We've always had kind of about 70%, 75% market share. That continues to hold up. They tend to buy, as we talked about many times before, they tend to buy in slugs. So they'll buy a lot of new capacity, they'll put it online, get it up and running and the smaller inefficient guys will go away. And that's kind of a 2-year, 3-year cycle, and then they'll buy another slug. And so that kind of -- that tends to be the way they buy. We're often amazed that they continue -- when operating rates are quite low, that they'll continue to add new capacity. And as I think I mentioned before, a part of that is because it's a big country and transportation costs are starting to become impactful. So they're now starting to build mills across the country closer to the demand so that they can reduce their transportation costs. So you're seeing mills start to spread out around the country. But our market share continues to hold up. They're just, right now, I would say, in a lower buying period of the cycle.

Is there anything we could look at as like a leading indicator to get a sense of this dynamic of expansion into the Tier 2, Tier 3 cities? Just continue to look at customer CapEx is only a few guys and indicates a pretty big slowdown in the horizon, but that doesn't seem to correlate with the strength you guys are seeing.

Well, it's a funny thing. If you look at the fast markets, which is probably the leading economic group out there following them, and you look at the data they've published over the last 20 years and you look at what China has done, they always invest more than you would think that the underlying fundamentals would indicate. And that's because of 2 things, because a lot of these smaller mills do go offline, and it's hard to capture that -- the small guys and they go offline. And also, it's often driven by concerns about permitting in the future. So for instance, as they put some of their climate change initiatives in place, these mills get concerned if they don't get the permits and they approve it to build now, it may be more difficult in a few years to do that. And so that's why you see them spreading out into other parts of the country and securing the permits and starting these projects now because it's -- they believe it's easier now than it might be in the future. Nobody knows how difficult it may become, but that's one of the rationales that we often hear. They want to get these things permitted while the environment is still supporting them.

Our next question comes from Kurt Yinger with D.A. Davidson. You may proceed.

Just one follow-up. If you look back kind of over the last two years, we've seen capital equipment sales outpace capital equipment bookings, which would make sense as you kind of work down the backlog of projects kind of from the 2020-2021 time period. I guess if we look forward and say capital equipment bookings are going to be pretty consistent in that $70 million to $80 million range, would you expect a lot of variability still on kind of the sales side? Or do you think that would be a relatively good proxy for how to think about the revenue?

Well, I think it's a reasonable proximity on the revenue front also.

Is there anything over the last -- okay. Is there anything, I guess, in the last two years, if we were to look at bookings versus sales on the capital side that would have maybe changed versus the past in terms of how sales are recognized in conjunction with bookings and the timing or anything around that? Or do you think it's mostly just kind of that backlog dynamic?

The backlog dynamic is playing a big role in what you're seeing on the revenue front.

Okay. Got it. Thanks, Mike.

I mean capital bookings have been what we would consider to be on the softer side now for several quarters. As -- when interest rates started to go up, capital bookings, I would say last year, certainly from the second quarter on last year and in the first two quarters of this year have been on the weaker side of what we expect as a normal run rate. So as I said, we're -- I think everybody is waiting for the Fed to declare victory and try to get the economy starting to reaccelerate.

Our next question comes from Walter Liptak with Seaport Research. You may proceed.

Maybe as a follow-up to a prior question, you guys started talking about market share, I think, in China. But as we think about market share sort of globally and just how you're running the business. I think we all kind of think that because of sort of your -- the management of the Kadant businesses and the M&A, the 80/20 process, you guys might have more commercial muscle than you did in the past. And so I wonder if you feel like you're gaining market share in either for the capital projects or aftermarket?

Well, as you know, Walt, we have got a very high market share in most of our markets already. But we -- I think we have picked up market share in certain areas. I think on the -- certainly on the OSB side, over the last 10 years, we've picked up substantial market share. We've gotten the bulk of almost all of the new orders in the last 10 years. And so our market share in that particular business has improved. As you know, we also introduced new products so that we generate new revenue from existing customers. So you're not necessarily picking up market share from a competitor. But what you're doing is you're generating new revenue with a product that didn't exist before that you're selling. So you'll generate more revenue from those -- from a given customer. So I think it's a combination of both of those things. But we have very, very high market share in most of our markets already.

How about on the aftermarket side? Is there like a program or process? Or do you think it's just a market that's improved as capital projects are a little slower?

No. I think if you look at our R&D, an awful lot of R&D money, it centers around supporting the aftermarket business coming out with new aftermarket parts that are performed better, last longer give you a better return on your investment. And so that's where a lot of the R&D effort is and we see the benefit of that as our parts revenue continues to increase. And that is an area where -- you do have a lot of smaller competitors in there trying to steal that away. So there is opportunity to pick up as there's opportunity to lose market share, there's also opportunity to pick up market share there as we introduce -- kind of continue to innovate and introduce kind of new products that perform better and give our customers a better return on their investment.

[Operator Instructions] And I would now like to turn the call back over to Jeff Powell for any closing remarks.

Thank you, Josh. So before wrapping up the call today, I just want to leave you with a few takeaways. Despite the weaker economic conditions in certain areas of the world, the second quarter was another record-setting quarter and our operations teams deserve a lot of credit for producing these results. We have strong market positions and expect stable demand during the second half of this year as project activity continues to show signs of resilience. And with that, I want to thank you for joining us today, and we look forward to updating you next quarter.

Thank you. This concludes the conference. Thank you for your participation. You may now disconnect.