Welcome to the Gardner Denver first quarter 2019 earnings conference call. All participants will be in listen only mode. Should you need assistance, please signal a conference specialist by pressing the star key followed by zero. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star, then one on your telephone keypad. To withdraw your question, please press star then two. Please note, this event is being recorded. I would now like to turn the conference over to Vik Kini, Investor Relations Leader. Please go ahead.
Thank you. Welcome to the Gardner Denver 2019 first quarter earnings call. I am Vik Kini, Gardner Denver's Investor Relations Leader, and with me today are Vicente Reynal, Chief Executive Officer, and Neil Snyder, Chief Financial Officer. Our earnings release, which was issued this morning, and a supplemental presentation, which will be referenced during the call, are both available on the investor relations section of our website, gardnerdenver.com. In addition, a replay of this morning's conference call will be available later today. The replay number as well as access code can be found on slide two of the presentation. Before we get started, I would like to remind everyone that certain of the statements on this call are forward-looking in nature and are subject to the risks and uncertainties discussed in our previous SEC filings, which you should read in conjunction with the information provided on this call.
Our full disclosure regarding forward-looking statements is included on slide three of the presentation. Turning to slide four. On today's call, we will review our first quarter highlights as well as our segment results and 2019 guidance. We will conclude today's call with a Q&A session. As a reminder, we would ask that each caller keep to one question and one follow-up to allow for enough time for other participants. At this time, I will now turn it over to Vicente Reynal, Chief Executive Officer.
Thank you, Vic. Good morning to everyone. Starting with slide five, I would like to start with a brief overview of the first quarter. Overall, first quarter was a balanced quarter, with strong execution across our commercial and operational initiatives. We delivered revenue and adjusted EBITDA that were in line with our expectations and continue to show solid momentum on cash generation. Due to our performance in the first quarter, we are reaffirming guidance for a total year. Let me provide a little bit more color on the financial highlights in the first quarter. Starting first with orders. We saw an order decline of 9% excluding FX, which was heavily impacted by the known dynamics in upstream energy of minimal new pump orders for new frac fleets.
This drove nearly $60 million of expected orders decline, and when excluding upstream energy, the rest of the portfolio grew 3% excluding FX, as the broader markets continue to remain quite resilient. Revenue grew 4%, excluding FX, with solid mid-single digit growth in the industrial segment and double-digit growth in our midstream, downstream, and medical businesses. This comes on top of very strong growth of 22% in the prior year as the teams continue to deliver above-market growth through the utilization and execution of our Gardner Denver Execution Excellence tool or GDX. While we did see the expected pressure on upstream energy revenues that we indicated during our last call, I am particularly pleased with the resilient performance across the balance of the portfolio as our GDP-exposed businesses of industrials, medical, and mid and downstream grew 12%, excluding FX.
Adjusted EBITDA declined 5% to $140 million, or down 2%, excluding FX. A margin decline of 130 basis points to 22.6%. The results were in line with our expectations, and the declines in both adjusted EBITDA and margin were largely attributable to the decrease in upstream energy revenues as well as higher corporate costs due to prior year legal expense recoveries that did not repeat in the current year. Despite these factors and other known headwinds like FX and tariffs, the team executed extremely well, including triple-digit basis point margin expansion in the industrials and medical segments as targeted cost initiatives like Innovate to Value or i2V are showing positive impacts. I am very pleased with the continued momentum we see on cash generation, which speaks to our discipline, cash, and working capital management. Free cash flow in the quarter was $55 million, up 9% over prior year.
In addition, net operating working capital as a percentage of sales continued a positive trend we have seen over the past few quarters at 24.9%, which is a 430 basis points improvement versus last year. The solid cash and adjusted EBITDA performance led to net leverage of 2.0 times. In addition, we made a $27 million debt repayment within the quarter as we continue to focus on prudent debt reduction and managing our gross leverage levels. As we have stated previously, we will continue to remain disciplined on capital allocation and balance debt paydown, as well as opportunistic share repurchases within M&A opportunities. Turning to slide six, our commitment to our four pillars of strategy remains unchanged and driven by the tools and processes of GDX.
I hope everyone had a chance to attend or watch our recent investor day that we hosted in mid-March, as it really speaks to the passion that the entire team has around deploying our strategy across every aspect of the business and driving ongoing profitable growth. Moving to slide seven, I will provide more color on the operating performance of our segments. I will start with the industrial segment, where we continue to see good momentum on both commercial and operational initiatives. The industrial segment's first quarter order intake was up 4%, excluding FX, at $335 million. Revenues in the quarter were $318 million, up 6%, excluding FX. This resulted in a book-to-bill of 1.05, which is a good sign as we enter the year that core markets remain relatively healthy.
In terms of the product lines, we continue to see relatively stable performance in core oil-lubricated compressors, which were up low single digits. We have highlighted in the past the unique composition of our portfolio around a well-balanced portfolio with niche applications, and this allows us to show continued resiliency, even in more difficult market conditions. One such product is highlighted on the bottom of the slide, which is our LeROI compressor. The LeROI business was purchased into the portfolio in mid-2017 and introduced a line of gas compressors to complement our portfolio of air compression technology. When coupled with our existing Gardner Denver distribution channel in the Americas, we're now seeing strong growth in niche industry of biogas, where we have seen solid double-digit growth.
In addition, we continue to see solid demand for our niche products in Europe and Asia in end markets like food, pharma, transportation, and marine. From a regional perspective, the Americas continue to be the strongest region, with high single-digit growth on both revenue and orders in the quarter. Europe continues to be relatively stable, with low single-digit revenue and orders growth excluding FX. Despite some of the macro concerns surrounding Europe that have persisted through the quarter, we saw a good balance of high single-digit to double-digit growth in many niche products, with generally flattish growth in oil-lubricated compressors as solid demand in Germany offset some of the slowdown from areas like Italy and France. In Asia Pacific, we saw slight growth in China, largely driven by niche products like blowers, vacuums, and high-pressure compressors.
The growth is very encouraging. We continue to monitor the market closely, given ongoing noise around trade tensions and tariffs. Moving to adjusted EBITDA, industrials delivered $71 million in the quarter, up 12% excluding FX. First quarter adjusted EBITDA margin was 22.3%, up 120 basis points versus prior year. The year-over-year margin increase was achieved despite ongoing headwinds from FX and tariffs. This speaks to the benefits we're seeing from initiatives like pricing, aftermarket growth, and i2V. Moving now next to the energy segments on slide eight. Overall, the energy segment performed in line with expectations, given the known decline in upstream revenues, partially offset by solid execution in the mid and downstream businesses.
The energy segment first quarter order intake was $208 million, down 26% excluding FX, driven largely by the previously mentioned $60 million in pumps from the upstream business that did not repeat again this year. Orders in the mid and downstream business were much more stable and up low single digits excluding FX, which is in line with our expectations. Revenues in the quarter were $233 million, down 1% excluding FX, with upstream revenues down 16% excluding FX, offset by growth in both the mid and downstream businesses, which both showed strong double-digit increases. Driving now into the components of energy, let me start first with the upstream. Orders were down 41% and revenue was down 16%, both excluding FX, with expected original equipment declines as the primary driver.
As you recall from our last earnings call and our recent investor day, we indicated that Q1 was going to be a low point in the year with sequential increases progressing through the year. We still see that as a progression for the year, with an air pocket in the first half of the year. As many of you know, over the past few years, we have built a resilient business where more than 75% of our revenue is reoccurring aftermarket, and specifically consumables continue to trend very well. Consumables are the closest point to activity, and we're up 17% in terms of revenue in the quarter. In particular, our two new consumable offerings of packing and plungers continue to see solid market penetration with strong double-digit growth.
In terms of the market in general, we continue to believe that 2019 will be a transitional year as the market waits for the commissioning on new pipelines and gradual sequential improvement, particularly in the second half of the year. The DUCs, which is drilled but uncompleted well count, continues to remain healthy at approximately 8,500 wells as of the end of March, which bodes well for future activity levels. While the market is in a bit of a transitional period, I am very encouraged by the steps in innovation and partnering with our customer base that our team continues to make. The picture at the bottom of the page shows an electric power frac truck with two Gardner Denver Thunder pumps packaged together. Electric frac is a concept that has gotten a lot of attention and discussion as of late as an alternative to conventional diesel power frac fleets.
I am very pleased that Gardner Denver has been on the forefront here, partnering with several leading pressure pumpers and equipment providers who are utilizing electric power frac fleets. This truck packages two of our leading Thunder pumps, which allows for up to 6,000 of hydraulic horsepower with increased levels of efficiency. Innovations like this and strong partnership with leading providers of frac services will continue to drive profitable growth as we look ahead. On the mid and downstream side, revenue was collectively up 31%, and orders were up low single digits, both excluding FX. We did have two larger project shipments in the midstream business with collective revenue of approximately $10 million, which drove book-to-bill for the combined mid and downstream businesses to approximately one.
However, the downstream business on its own had a book-to-bill of 1.16, as it is typical for the beginning of the year as we build backlog for the second half of the year. Overall, the market continues to trend well as the project funnel remains quite healthy, and we continue to see increasing demand for both industrial-like process equipment, as well as projects tailored towards environmental applications and regulatory emissions. The energy segment delivered adjusted EBITDA of $60 million in the first quarter, which was down 10% to prior year excluding FX. As a percentage of revenue, first quarter adjusted EBITDA was 25.7%, down 240 basis points from prior year due to the previously mentioned decline in upstream revenue, as well as revenue mix due to lower margins on the two large midstream projects.
These declines were partially offset by volume growth from the downstream business, as well as targeted cost actions and operational efficiency initiatives. While energy margins were down overall, I continue to be pleased with the measures the upstream energy team is taking, as adjusted EBITDA margin remained well above total energy margin profile and in excess of 30%. Moving next to the medical segment on slide nine. Order intake was solid at $71 million, which was down 1% excluding FX. It's worth noting that this is on top of 11% growth that we saw in the prior year. As we have mentioned previously, many quarters throughout 2018 benefited from large design wins, which we do not expect to repeat to the same degree each and every quarter.
First quarter orders did remain very healthy and in excess of $70 million, which was up 8% from the fourth quarter of 2018. Revenues in the quarter were $69 million, up 19% excluding FX. This marked the fourth consecutive quarter of double-digit organic growth as the business continues to execute well on innovation and prior design wins. In addition, this put book-to-bill at 1.03, with Q1 ending backlog nearly 9% higher than prior year. One such win on the gas pump side of the business is a high-pressure gas pump that was recently specified on a leading clinical molecular diagnostic solution. The Gardner Denver solution provided more efficient flow rates in different altitude environments, which was a critical differentiator for the end customer.
Wins like this in high growth end markets like lab and life sciences continue to show the growth opportunity across our gas, liquid, and liquid handling product lines. Medical adjusted EBITDA performance for the quarter was $20 million, up 32% excluding FX. Margins were 28.9% up 260 basis points versus prior year and can be attributed to strong flow-through from the volume increases, continued operational efficiencies in the plant, and prudent cross-control across the business. Moving to slide 10 now. As I indicated earlier in the call, due to the strong and in-line performance in the first quarter, we are reaffirming guidance for the year. As a reminder, this implies mid-single-digit revenue growth before the impact of FX in our industrials, mid and downstream energy, and medical businesses.
As well as high single digit to low double-digit declines in our upstream business with more pronounced softness in the first half of the year. For total company and inclusive of FX impact, we're expecting low single-digit growth on a total year basis and an adjusted EBITDA range of $680 million-$710 million. Turning to slide 11. The rest of the key metrics for guidance remain unchanged, including CapEx, tax rate and year-end debt leverage. In addition, we continue to expect to generate in excess of $400 million of free cash flow for the year, and approximately 100% free cash flow to adjusted net income conversion. Overall, we're pleased with the start of the year. Despite many of the macro headwinds that persist, we continue to execute well, both commercially and operationally.
We remain confident in our ability to execute on our strategic initiatives and deliver our financial commitments across each of our segments. With that, we will turn the call back over to the operator and open it for Q&A.
Thank you. We will now begin the question and answer session. To ask a question, you may press star then one on your touch tone phone. If you are using a speaker phone, please pick up your handset before pressing the keys. To withdraw your question, please press star then two. We do ask that you please try to limit your questions to one question and one follow-up. Our first question comes from Michael Halloran of Baird. Please go ahead.
Morning again, everyone, busy times for you. Congrats on the transaction again.
Thank you, Mike. Good morning.
First, just on the trends through the quarter and the thought process from here from two perspectives. First, on the upstream side, maybe you could give some thoughts on the cadences you saw demand materialize through the quarter. Obviously, orders were soft against a really tough comp that was highlighted coming in. Do you see any different trajectory than you articulated a couple of months back as you look to 2 Qs, 3 Q, based on the order book today, the demand outlook, what clients are saying, customers are saying, anything like that?
Hey, Mike. I think we still see consistency to what we said, even at the investors' day, that the second half will be up sequentially to the first half, but that we will see that at least at this point in time, we still want it to be more prudent and call it out as low to mid-single digits sequential improvement second half versus the first half.
No real change on the cadence to the first half of the year either, Vicente?
No, that's right. Yeah. We still believe that, as we said also before, Q1 will be the most pronounced bottom and then slight improvement. Then as we go into the second half, better than the first half.
Can you give that same sort of thought process and commentary on the industrial side of the business, particularly with a focus on what you're seeing in your European businesses and in China?
Yeah. The second quarter should be comparable to the first quarter, Mike. I think it's just going to follow the same trends that we typically see in terms of seasonality within industrials. I think maybe the only one point to call out is that, within Q1 in the quarter, China, we saw a really strong exit of the quarter in terms of orders. Maybe things are getting unlocked in China. We're watching that carefully to make sure that level of consistency continues to happen in the second quarter.
When you say stable one Q to two Q, were you talking dollar numbers or were you talking % change?
Dollar numbers. No, sorry, % changes. Yeah.
Great. Thank you, everyone. Appreciate it.
Thank you, Mike.
Our next question comes from Joe Ritchie of Goldman Sachs. Please go ahead.
Hey, good morning again, guys. Congrats again as well.
Thank you, Joe.
Vicente, can we just maybe just elaborate a little bit more on just the upstream business for a second? Clearly you had a really tough order comp in 1Q. Just what are you hearing from customers right now in terms of frac fleet stacking and the demand for OE versus aftermarket?
Yeah, Joe. Overall, what we're hearing in the market continues to be similar to what we said a few months ago at the investors day, which is that everyone expects a much stronger second half and particularly fourth quarter as the constraints on the pipeline capacity seem to be freeing up in the second half with more pronounced on the fourth quarter. That's from a customer perspective what we're hearing. It seems to be more consistent as we move every day and every week through the quarter. Obviously, we're going to be at the OTC in a week or so, we'll hear more commentary from others there as well. At least it's been consistent so far.
In terms of OE and aftermarket, OE still muted from a new fleet expansion, we still don't see that there's going to be any OE pumps that will come for new fleet expansions. We're definitely seeing, I call it momentum on the OE replacement pumps. There's been quite a couple articles talking about that due to the level of intensity and the hours that the pumps are working, that there should be a good cycle coming through on the OE replacement pump.
Okay. It's helpful. I guess my follow-on question is just maybe just talking about industrial margins. Another really solid expansion quarter on a year-over-year basis. Maybe just talk a little bit about your key drivers. What did pricing look like? How much of this was i2V? Just trying to understand what really drove the strength, just given we've seen more mixed performance, I guess, from some of the other industrial peers out there.
Yeah. We saw good momentum on pricing. I'll say pricing anywhere between one to two points. The blend of aftermarket continues to improve, our aftermarket deliver even better growth than the overall total number. That obviously creates a better mix change. i2V continues to be a good start, but keep in mind that this is really more offsetting some of the tariffs, if you want to put it from that perspective, that we get about $1 million-$2 million in the quarter. Again, I think the work of i2V and sourcing activities offsets the tariffs while price and aftermarket mix helps the margin profile.
Okay. Great, guys. I'll get back in queue.
Thank you, Joe.
Our next question comes from Julian Mitchell of Barclays. Please go ahead.
Hi, good morning, and congratulations again.
Thank you, Julian.
No need, I guess, for a capital deployment question. Maybe just on the energy segment. The decremental margins, I guess, pretty severe in Q1. You call out a couple of factors around project shipments in midstream and so forth. Just wondered when you're looking at that decremental drop through in Q1, do we see a much better performance into Q2? Or do you think Q2's down heavily again, and then we get the big incrementals on the way back up in the second half?
Julian, we see the decremental in the energy, again, driven because of upstream revenues coming down, while we saw the large coupled projects on the midstream side of the business that typically come in well below the margin profile of the energy segment. I think the good point to note here, Julian, as well, is that upstream, even though we saw this decrease in revenue as expected, our margin profile for upstream still was above 30% EBITDA margin. Pretty strong ability to, even in a decline quarter, we still deliver above 30% EBITDA margin, which I think is fantastic for what the team has been able to achieve there. I think for going, as you said, moving forward, obviously we don't expect these two large midstream orders to come through in the first quarter, that should help as we move forward.
Thanks. My second question. Really, I guess across the business, some shorter cycle companies have complained about destocking in recent months in various regions and vertical markets. Just wondered if you had seen any of that take place across any of your OEM or channel partners in different segments, and how satisfied or relaxed you are today about the status of inventories when you look out across different markets.
Julian, we didn't see that as being a concern to us. At least we didn't see that going in the quarter. I can tell you that from an industrial perspective, we have most of the dealer channel is in the U.S., and we have actually access to see what their inventory levels, and we always maintain and ensure that it doesn't spike up or becomes unhealthy higher amount. What we saw, no destocking because we just don't allow. It's one of our rules. We just don't want dealers to stock. In the other regions, whether Asia Pacific and Europe, from an industrial perspective, the amount of dealers' percentage of revenue is much smaller. I don't think that any of this destocking was definitely an issue for us.
Great. Thank you very much.
Thank you, Julian.
Our next question comes from Nathan Jones of Stifel. Please go ahead.
Good morning, everyone.
Morning, Nathan.
Just a follow-up question on industrial Europe. One of the comments you made, Vicente, was that you saw a very strong environment in Germany, which I thought was a little surprising given some of the macro data, the industrial data that is coming out of Germany. Maybe you can put a finer point on that. Is it Germany's good for you because you are gaining market share or you are actually seeing underlying market strength and how you see that particular market progressing for the rest of the year?
Yeah, Nathan, I think we kind of alluded to, if you remember, our kind of niche products momentum with the blowers, vacuums for specific end markets. Could be transportation, wastewater, food, pharma, where we are seeing some good momentum with the solutions that we are driving. I would say that that is the main driver of the growth that we are seeing in Europe as well as the growth that we saw in Germany. When we look at the kind of more related to the general industrial applications, maybe the core compressor, that we saw the, as I kind of stated, maybe kind of flattish or maybe some more softness on that, offset by the more niche products.
Okay, that helps. Then, one on upstream energy that is not frac pumps. For the last, I don't know, six to 12 months maybe, we have been talking about the potential for a drill pump cycle here at some point. Any update you could give us on the conversations you are having with customers on that front?
Yeah, I think conversations continue. I will say, we are not seeing the purchase orders yet, obviously, but conversations continue. The other good data point that we look is that super spec rigs continue to be at very high utilization. One of our customers is seeing 95%, close to 97% utilization of super spec. The trend that we see is that more super spec rigs are needed, and as you know, that requires three or four pumps, and there is just not many more pumps to get cannibalized from older generation rigs to the super spec rigs. The trend, and the secular trend that we see, we still see it. We still have high hopes that it will continue to, and then at some point in time, unlock this request for drill pumps.
Having said that, it is not in our guidance. Just to emphasize, we never guided that we will see this drill pump cycle. Obviously if it comes, we're going to be ready and it should be upside for us.
Great. Thanks very much.
Thank you, Nathan.
Once again, if you have any questions, please press star then one. Again, that is star then one. Our next question comes from Joshua Pokrzywinski of Morgan Stanley. Please go ahead.
Hi. Good morning again, guys.
Hey. Morning, Josh.
I guess, just given there's some macro volatility out there that maybe in the industrial segment you didn't see too much of, can you just give us a sense for entry rates for the business as you got into the quarter versus exit rates? Did things get better or worse? Just some kind of indication on where the trend line should be drawn from here.
Yeah, Josh, maybe I'll start with maybe the smaller of all of our regions. The Asia Pacific, and particularly China, we saw good momentum as we exited the quarter. At least after, obviously quite a few quarters of pretty constrained demand in China, we think that things are kind of unlocking there. It is not just compressors. It's basically blowers for wastewater treatment applications and other kind of large-scale projects. Hopefully that continue, and that wasn't just a one data point in the month of March. I would say for respectively to the other businesses, most of them kind of as, and I think consistent to what maybe others saw, things were very slow in January. Merely due to seasonality, I don't think I will call it for anything negatively general in the market conditions.
Obviously you could argue that because of a slow start in January, we saw progression, but I would call that more seasonality. That will be for Americas and Europe. I think the good thing is that Europe continues to be fairly stable for us. The team in Europe is doing a fantastic job counteracting the effect of the entire macro slowdown.
Got it. That's helpful. Just one requisite question on upstream energy. Just thinking about the absolute dollar number of orders, I think in the low $200s here. How should we think about that absolute number trending through the year? Do we start to grow here sequentially? How do you think about price, the cadence on price as we move through the year? I know there's less sensitivity in you guys maybe versus some others out there, but anything you're seeing or any kind of directional moves you expect?
Josh, you're referring particularly to the upstream side of the business, right?
Yeah. I guess the 200 comment would be orders entirely in energy because upstream orders, I don't know specifically.
Exactly. Yeah
Whatever way you want to put it that would be helpful context for us.
I think I can kind of break it down into the pieces. Let me just begin with the energy side. I think what we see in the energy side is that the second half will see much better momentum sequentially, particularly the upstream side. As we called out, we expect that that's going to be up low to mid-single digits. The interesting fact on the mid and down, Josh, is that typically we get most of the orders in the first half, Q1 and Q2. That's what we called out, that order momentum in mid and down was actually particularly fairly good. We expect that order and absolute dollars in the second half for mid and down should be expected to be lower than the first half, maybe offset by the better momentum in orders on the upstream side.
Okay. The absolute dollar run rate maybe, and I know it's overgeneralizing it, but probably similar from 1Q levels the rest of the year?
I mean, scaling that up, obviously. Sequentially growing.
Okay. Got it. Thanks, Vicente.
Thank you. Thank you, Josh.
Our next question comes from John Walsh of Credit Suisse. Please go ahead.
Hi. Good morning.
Hey. Good morning, John.
Hey, apologize if somebody already asked this, I just hopped on. Medical had a very strong performance this quarter. Just wondering if you can comment on both what's driving the top line and the better margins than we were looking for, the sustainability of that going forward.
Yeah, John, thanks for the question. I think the medical segment continues to be one that we're making a lot of organic investments. It continues to be one that we talked about also our funnel for M&A continues to be fairly healthy. In terms of the performance, yeah, you can see that the teams continue to execute really well. It has to do in part, if you recall, in 2018, our order momentum was really strong. We're seeing some tough comps because of that. Order momentum in 2018 was really strong because of a lot of the new design wins that we achieved in 2018. We're seeing shipment of that here in 2019, the first quarter. Again, the order momentum continues to do well. Even though orders were, you could call it kind of flattish, that was on top of 11% growth from last year.
The absolute dollar amount was fairly healthy at $70 million, which allowed us to increase our backlog. I'll say it is really great, good execution from our team on the initiatives of the liquid pumps, liquid handling, as we're entering new markets with that, and I'm seeing some pretty nice design wins on that.
Great. Maybe just a follow-up around working capital. It looks like you kind of continue to improve this metric here. How should we think about the cadence? Is there any noise from channel or tariffs, or is this still just kind of clean execution on driving that down as a % of sales?
I think for us, it remains a strategic focus, and we'll be able to continue to drive improvement, in particular on the inventory as we move through the year. As we had mentioned, I think, at the investor day, it's still an area of focus for us. We've been pleased with what we've done with receivables and payables, but we still see upside opportunity as we move through the year on our inventory.
Okay, thank you.
This concludes our question and answer session. I would like to turn the conference back over to Vicente Reynal for any closing remarks.
Thank you, and once again, thank you, all of you, for your level of interest in Gardner Denver. As we discussed, we have some pretty exciting momentum going on in the company. I want to always reemphasize our big thank you to all of our employees for delivering another great quarter here of performance and the continued momentum that we have in our company of creating a very unique performance-driven culture. With that, we'll just call it a close, and we'll talk to all of you soon at some point in time. Thank you.
The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.