Good afternoon, everyone. Welcome back to Sidoti's Virtual Investor Conference. I'll kick off the next presentation in a few seconds. We're still waiting for the room to fill in a little bit. I'm Steve Ferazani, analyst at Sidoti. I'd like to remind everyone—I'm sure you've heard this before—but we expect to have some time for questions after the presentation, which I think is going to be quite informative. To ask a question, you press that Q&A button at the bottom of your screen and type the question in. We'll get to as many as we can, time permitting. Thanks, everyone, for being here. I am pleased to welcome Tennant Company. The ticker is TNC. We're joined by the team, including President and CEO Dave Huml. Just a month ago, they announced fourth-quarter results, wrapping up a really strong 2024. Now we're looking ahead to 2025.
Hear how the company's done it and what things look like in the future for a company that's certainly rolled out a lot of new products and had some successes in the past year. With that, Dave, let me turn it over to you.
Thank you, Steve. Thank you all for joining us today for a brief overview of Tennant Company. I've got some prepared remarks just to acclimate us all to the business and kind of 2024 finished and 2025 outlook, as well as our strategy as a business. We will leave ample time, as Steve said, for your questions during our time together. Steve, thank you for including us in the conference and appreciate your ongoing support with fantastic coverage of the company. I'm joined today by our CFO, Fay West, our Vice President of FP&A and Investor Relations, Lorenzo Bassi, and Matt Pickel, our Manager of Investor Relations. With that, let me jump into it. When you think about Tennant Company, I'm going to start from the standpoint of an investor, given the audience here today.
I'm going to give you kind of an investment thesis, kind of what our unique value proposition is as a company to invest in. I'll highlight five points. One, we really are a global leader in an expanding market. We've got about a 14% share of the global mechanized cleaning equipment industry. That is about an $8.6 billion space that grows at about GDP-type rates. We have a strong starting position in that space based on our legacy, our product portfolio, brands, and channel coverage. We're differentiated versus our competitors in the space. I'll talk a little bit about those points of differentiation in the rest of the deck and certainly any questions you have.
When you think about this mechanized cleaning space, we've really identified some very compelling growth opportunities where we are beginning to demonstrate that we can grow at a differentiated rate versus the market and a differentiated rate versus our competitors. Our growth opportunities are underpinned by some global megatrends that I'll touch on that provide a tailwind to us as we execute our growth strategies within our coordinated market spaces. We have a world-class service model. I'll talk about what that looks like. We bring up our service model because it's a really critical differentiator to our customers, provides us a competitive advantage versus our competitors, and really is a significant moat for people looking to take our share or move into our customers because of the added value we can provide with our service capabilities.
We are investing in not only broader service coverage, but enhanced capabilities from a service perspective. We are regarded as the innovator in our marketplace, providing new innovative solutions to our customers' most pressing problems. We have a strong pipeline and rich history of innovation. In the last four or five years, that innovation has looked largely about being focused on robotics and automating the cleaning process. If you think about our equipment, our equipment is productivity-enhancing floor cleaning equipment that eliminates the need for manual labor. Now we are further mechanizing with robotics, which reduces and in some cases eliminates the need for labor with our customers. Labor is one of those global megatrends I mentioned earlier that we think provides a tailwind for us.
We have a head start in the robotics space, and we think we're really well positioned to capitalize on this disruption of our core market globally. Underpinning it all, we have a very strong financial position. Fay and her team have helped us develop a very disciplined capital allocation prioritization. We'll touch on that later. The company has a strong balance sheet. We've aligned ourselves to have the firepower to fund our journey, both organically from our growth agenda, but in addition to that, strategic acquisitions on top of our organic growth. All of these value creation levers are available to us, and we're actively working to find the best alternative to deploy capital and maximize value creation. I touched on the megatrends. I won't read through these in detail, but global megatrends, we think, have enduring impact over the next 4, 5, 10 years.
We think they provide a tailwind for us. Tennant Company sells our products across a broad range of vertical markets. When we look for megatrends, there are trends within specific verticals and customers that are important. We look for the big global megatrends that we can capitalize on regardless of which cycle each of the vertical markets are in over the long term. We think automation, I mentioned earlier, the trend of the availability and cost of labor is pervasive and kind of a top five concern in every one of the geographies we operate. It takes a slightly different form depending on the geography, but labor availability and cost is a significant customer challenge. Providing equipment that improves productivity is one solve. Automating and having robotics, bringing robotics to bear on the application is a really compelling proposition for our customer.
It provides a really compelling set of customer economics as well. We see a shift to modernization in developing countries, a shift away from manual cleaning and towards mechanized cleaning to provide a better cleaning outcome. We expect that trend will continue. Think about more of the emerging marketplace, Latin America, Eastern Europe, Southeast Asia, for example. Electrification is a trend that our customers we have seen. We are on the path to electrifying, moving to more energy-efficient forms of electrical power, like lithium-ion batteries, for example, that offer our customers more charging flexibility and better overall economics of customer ownership, but then also the elimination of internal combustion engines over time. We have some sustainability targets we have established, and our customers are asking us to help them participate in electrifying their fleet to advance towards their sustainability targets as well.
Sustainability is also a key megatrend that we see providing tailwinds for us as we implement our growth strategies on a global basis. I mentioned service earlier in the presentation. When I say service, we have a global fleet of over 900 factory employees, Tennant employees, service technicians. Just to dimensionalize it, these are people that are trained in troubleshooting equipment, repairing equipment. They work primarily out of their homes. They park the truck in their driveway, and they receive shipments of parts to their homes, and they leave and service customers all day. We have about 900 on a global basis. They are a very tenured group, nine-plus years average tenure.
Your takeaway from that should be we've got a lot of embedded knowledge in how to do service well, please customers, and do it profitably, as well as Tennant is a good place to work. The service technicians that find their way to our door, we invest in them because we know how important they are to the customer experience. We are making incremental investments in our service capabilities. We've used AI-driven virtual service to make sure that when we receive a complaint from a customer, or a customer has an issue, a service issue, that we're solving that issue in the most efficient manner. Sometimes that could be as easy as talking to the customer through how to repair something themselves or fix something themselves. Sometimes we can remotely push a software fix, and the customer doesn't even have to lift a finger.
Other times, when a truck is required to roll and send a technician on site, we're using AI-driven models to make sure that the technician has the correct parts on board to repair the most likely problem the customer is having. A lot of activity around service efficiency. Really, it's about freeing our technicians up to spend more time providing value-added service to the customer versus troubleshooting or waiting for parts or filling out forms online or driving site to site. A lot of focus on service efficiency that is providing benefits to the business and also improving the customer experience. Service provides an attractive recurring revenue stream for every dollar that we sell in equipment. We think it generates about an 80 cents aftermarket tail over the lifetime of that equipment. We capture about 70% of that 80 cents on the way through.
A significant aftermarket opportunity, 80% of the original equipment purchase price, we capture about 70%. 70%, as we benchmark, is at the higher end. It's good, but there's still upside. We can grow that 70% capture of our own aftermarket opportunity as well as design our products to increase the aftermarket opportunity and generate incremental revenue that way. Service is attractive not only as a strategic differentiator, as a way to win new business with customers, but it's also a profitable business on a standalone basis. I mentioned product innovation earlier. Our product innovation is focused primarily on the highest growth segments within our broader TAM. That would be AMR or robotics.
We also focus our innovation on small space, which is smaller cleaning equipment than we've traditionally had in our line, moving down the line to provide our customers with very innovative products to clean the small spaces within their environment. Think about a break room or a restroom within a larger facility, an entryway, for example, in a larger facility. Also think about the opportunity to penetrate new vertical markets like quick-serve restaurants or service center gas stations, where it's a small footprint and big equipment just won't fit in there. Small space is growing at a faster rate than the broader market, and we're introducing new products into that space to go solve our customers' problems that they have in the small space environment. In addition, we're focusing on product line extensions.
For Tennant Company, what that means is leveraging acquired assets and branding them to take them into new channels and new geographies. We have acquired businesses in Europe and Asia that have product platforms that are at a lower cost to manufacture. We take those lower cost platforms, we brand them into the Tennant brand, for example, and take them into installed markets like the U.S. or Western Europe. It allows us to have a two-tiered offering, a premium offering, and a mid-tier offering. We can compete profitably at multiple price points, gain more customers, gain more share, and not have to discount our premium product to accomplish it. We think we've got a significant right to win in these categories.
When you think about moving into robotics and moving down the line into small space and moving into different price points, we have a significant go-to-market coverage. We go to market through a multi-channel approach. We sell direct. We sell through distribution. We sell to large accounts. We also sell to smaller accounts on a direct basis. We have a service infrastructure. We sell via e-commerce as well. We sell through the rental yards too. We sell to people that rent our equipment for people that have a need for equipment on a short-term use basis. That multi-channel go-to-market is one of our advantages. We have that channel strength. We have a brand portfolio that allows us to penetrate a market and manage conflicts by leveraging brands as well.
We think we've got a right to win in these adjacencies and spaces right next to our core cleaning space. We're beginning to demonstrate success, excited about the future of our innovation pipeline. I mentioned earlier we've got a very disciplined capital allocation prioritization. What that looks like for us is our number one priority is to fund the core, our organic growth. We're not a capital-intensive business compared to others, but we are not capital-constrained either. We put between $20 million-$25 million per year back into the business, primarily in R&D, new product development, but also in productivity enhancements in the plant, and then a little bit into kind of IT digital infrastructure. Those are the majority of our CapEx improvements on an annual basis. The company is well-funded from a capital perspective.
Our constraint becomes more around our internal resources to get capital deployed, more so than any capital constraints in the business. First priority, invest in the core. Second priority is around continuing to issue dividends and grow dividends. We have a 50-year history of increasing dividends each year. We want to maintain that as part of our expected yield with our stakeholders. We also manage our debt. We have a very favorable leverage ratio right now. We target kind of one to two times. We are well below one time right now, and that is for a very specific reason. We are freeing up firepower to fund our journey as well as fund our M&A aspirations. Our final priorities from a capital allocation perspective are strategic M&A as well as share buybacks.
We are in the market in a very disciplined fashion, buying back shares opportunistically as the price affords us the opportunity to do it. We also want to retain the opportunity to go do the strategic M&A and utilize our cash to go get the deals done. We are actively working to funnel as we speak. We have a specific strategy. Shifting here is talking about M&A. We revealed this at our 2024 Investor Day. If you want more detail around the company, but also around our M&A aspirations, I would point you to the Investor Day deck. It gives a more fulsome job of delving into all the topics I have covered. Let me just touch on our M&A priorities. I mentioned our core cleaning space is an $8.6 billion TAM. We think that that is our right to win, our lowest risk, highest return opportunity.
There are opportunities for us to grow through acquisitions in our core space. We have a 14% share. It varies by geography. Acquisitions in this space would look primarily like buying a product manufacturer that had cleaning equipment that we could bring into our channels, bring it to our brand, and grow that way, fill product gaps we have in our line, or add adjacent products. It would also look like adding channel coverage. Either buying distributors that have footprint in a given geography or adding service capability, for example. We acquired TCS first quarter of 2024. That was our master distributor in Eastern Europe. We announced last year. That's going very well for us. That is a proof point example of using our M&A firepower to go add channel in our core market and grow differentially in our core space.
Our second priority is to drive value through connected autonomy. When we say connected autonomy, it's all of the technologies that are required to drive this robotics disruption. Think about navigation software, think about all the sensor suite, the LiDAR and the cameras, think about telemetry, think about the AI-enabled backend to be able to support field robotics. We want to make sure that we are well-positioned to support driving adoption and driving disruption of our core business by leaning into autonomy. We do not have some of these capabilities in legacy Tennant, so we may find an opportunity to acquire one of these capabilities to continue to drive the adoption. We took an equity stake in our navigation software partner, Brain Corp. We announced it in early 2024.
We had been working with Brain Corp for many years prior, but Brain Corp had been working with all of our competitors as well. With this renewed agreement announced in early 2024, we now have exclusivity with Brain on the generation three software, navigation software. That has really allowed us to create enormous efficiency in how we operate with Brain. It gives us significant commercial advantage. We are also the single point contact for robotics with the end customer. We used to sell side by side with Brain. Now we are the sole point of contact selling both the equipment and the navigation software subscription. The agreement also allows us to participate in the ARR from the subscription software.
This is really a win-win for us to go sign this exclusivity agreement and partnership with Brain Corp, and it's yielding really fantastic results as we utilize that relationship with Brain and bring it to bear on development of new AMR as we go forward. We are keeping an open mind about this space because we are so excited about the AMR disruption potential. If there is an opportunity to acquire in this space to accelerate our growth, we want to be open-minded about it. We think that opens up an additional $3 billion-$4 billion of TAM by leaning into that robotics space and the technologies that enable robotics. Our third pillar, which is further out and a lower priority, is that we think about other mobile equipment adjacencies. We are a fantastic designer and manufacturer of kind of mobile equipment that does very specific work.
We tend to excel with lower volume, higher mix product on a global basis. We have a very capable aftermarket service capability as business. We talked about it earlier. We are looking for companies that have mobile equipment that maybe are sold into our vertical markets that maybe would benefit from our manufacturing supply chain capabilities or our go-to-market channel capabilities, including our aftermarket service. Ideally, something we could bring robotics to bear on as well. If it is an application that was ripe for robotics disruption, that would fit well with the disruption we are driving kind of in the core cleaning equipment. We could apply that same methodology to another mobile equipment space. Nothing new to report there, but we are keeping an open aperture and we are working to funnel opportunities.
We think there's about another $6 billion worth of TAM in that other mobile equipment space as well. We could double our TAM with the strategy we've laid out. We have an active funnel of targets we are working now, reaching out to let them know that they fit a profile we could be interested in and starting the conversation. Difficult to predict when M&A will happen, but I'm confident that we'll have something to report here over the coming quarters and years. It will be interesting to all of us from a value creation perspective. We think Tennant Company really represents an attractive long-term model.
If you just kind of narrow the view and think about 2024 and 2025, I think as you familiarize yourself with our financials, it's important to note that like many manufacturers, we went through the supply chain challenges in 2021 and 2022. We amassed a massive amount of backlog, which we bled down in 2023 and 2024. In 2025 is kind of our correction year coming up against that backlog reduction and about $125 million backlog reduction in 2024 that we're overcoming in 2025. The headline shows a year-over-year decline in sales in 2025, but our order rates will actually be up 5%-6% in 2025. We generate significant momentum in the underlying business coming through 2024. We pivoted to growth coming out of the end of 2023.
We're beginning to see the positive results of those investments and those efforts in our underlying order growth momentums that came through the quarters in 2024. We've got a really healthy balance sheet, a strong cash position, so we can fund our aspirations as we've outlined them here in the deck. We're also committed to expanding our bottom line profitability, even by 50-100 basis points per year over the long term. We've got specific levers in place both at the COGS line and the S&A line to drive efficiency and drive offset inflation and deliver on the bottom line profitability expansion. Long-term growth targets that we committed to 3-5% organic top-line sales growth, EBITDA expansion, I mentioned 50-100 basis points, free cash flow conversion from net income of 100%.
We think converting cash, we've demonstrated the ability to convert cash at a predictable level. We think that's an important part of preparing ourselves to fund our own journey and being good stewards of cash. I talked about the $150 million in revenue that we aspire to add through M&A. We're well on our way, having done two deals early in 2024 and an active funnel we're working today. I'll pause there and then open it up to questions from the group.
Thanks so much, Dave. Informative presentation. We are already getting a couple of questions. Let me take the—actually, I can almost combine the two of them. I'll try to ask them separately.
The first one was about M&A and the success you had with the acquisition of TCS, asking about where you see the best opportunities for robotics growth, and does that tie into where you might want to buy distributors?
Yeah, I think they're two different questions. Not that robotics growth shouldn't or doesn't influence our M&A portfolio from a channel acquisition perspective. When we look at the opportunity to grow channel, much of the way we think about go-to-market is calibrating our channel to the opportunity in the marketplace, whether it be AMR or core products. It's about looking at the cost to serve and the size of the market to make sure we don't get overcosted in the geography, but also don't be undercosted in terms of our channel exposure.
We know in the geographies where we have a full multi-channel go-to-market, meaning we sell direct, we have direct service, we sell through distributors. When we have the full multi and rental yards, etc., those are the geographies we have the highest share. We grow the fastest. We have the highest profitability. It is really about a calibration exercise. It starts market back. When I think about the geographies that are most attractive, think about where the high-growth geographies are in the world. There are massive growth markets in Eastern Europe. We have made a TCS acquisition that has begun to improve our footprint there. I think the Middle East is a really interesting area for us. We have some distribution coverage there. If you look at those markets, those tend to be growing at rates that are above others.
Southeast Asia, there are some high-growth pockets there, albeit smaller markets. They are growing at a faster rate. I would point at kind of Mexico and Latin America. I think sometimes they get a bad rap. We've got a fantastic share position in Brazil, fantastic business, fast-growing, high-profit, high-margin with upside still. I think those traditionally, they're called the emerging markets. When we visit them, they certainly seem like they've emerged in many respects. I think that's kind of fertile ground for us when we think about growth and the channel growth, whether we do it at greenfield or we choose to move into it with acquisition. I think those would be the kind of geographies we'd think about.
Okay. Do have a question about the X6 ROVR. You made the transaction with Brain a little over a year ago.
You introduced the first product. We saw robotics grow to, what, 5-6% of sales last year. We're seeing the rapid demand. Now, 12 months later, you're rolling out another product. Let me combine the question. One, how game-changing was that transaction? Two, can you give us an early look at the X4 and what you're thinking about demand?
Yeah. I believe the Brain exclusivity agreement was a significant game changer for us as an organization. We expected that it would unlock, I'm going to call it, commercial efficiency and operating efficiency. You can imagine how open and transparent you can be with your partner when you know your partner is working with all your competitors, right?
Not to be overly simplistic, but from an R&D perspective, sharing roadmaps, sharing on new product development, sharing customers, going out and making joint calls, talking about new features, solving problems. It just presented a significant barrier where we were hesitant and they were hesitant. Signing the agreement, gaining exclusivity, giving them the assurance that we were all in with them and them going all in with us unlocked a significant amount of efficiency on the backend and on the go-to-market side. It has been really above what my expectations were, to be honest with you, from an efficiency of operation and collaboration and partnership. I am really pleased with it. I do think it is a game changer. You talked about the rapid succession of new product launches, X4 mid-year last year, now X6 coming kind of a year later on its heels.
The X6 with charging dock, I'll note. That's a very rapid succession of new product development. I believe the exclusivity agreement was a very large component of our ability to move so quickly on the new product development. The efficiency we talked about, the removing of distractions, the aligning around the acceleration of the roadmap with them, I think that was a key enabler. There were also some other key enablers of the X4 early success. Now, I think what I believe will be X6 success with our launch meeting here. X4 is our first purpose-built robot, meaning we designed it ground up as a robot. In the past, we had taken existing cleaning machines and turned them into robots. We took advantage of a proven platform and kind of put robotics on it. They still had seats for an operator to ride on, for example.
The X4 is purpose-built ground up, no seat. It's only ever going to be a robot. You can't use it in manual form. That is a significant development challenge. The way we pursued the development of the X4 was a platform strategy. Rather than just design the entire system from the ground up, we did that. We also thought of how do we design the major subsystems in a way that they can easily scale to an X6 or an X8 or an X10, just size it up and not have to reinvent the wheel every time with the major subsystems that you pull together to make a piece of cleaning equipment. X4 has been really well received in the marketplace. X6, coming a year on its heels, is largely a result. Again, the Brain partnership helped. We put some extra funding into the program, which helped.
This platform development is allowing us to bring more new products to market faster and with lower risk because we're using kind of proven subsystems and proven components to build out the system. It also makes it easier for our customers to learn how to use the equipment because it looks a lot like the X4, the X6, the interface. It's easier for our salespeople to sell because it operates like the X4. It's easier for our service people to service because these subsystems are very similar in construction, troubleshooting, replacement of parts. There are a lot of benefits, kind of ancillary benefits of this platform design that I think will help us all the way down the line through the lifecycle of the equipment.
Can I ask when are deliveries expected on X6 now?
Q2.
Q2. Okay. I know we don't have a lot of time left.
There was a lot to cover. Can you just talk about current industry conditions? There's a lot of uncertainty, throw-in tariffs. What are you hearing, seeing from customers, and has it varied by geography?
Yeah. I think we're all managing tariffs. All of our customers, those that are involved in manufacturing are affected by tariffs or have their customers that are affected by tariffs. The tariff is the talk. Everyone's doing basically the same thing, trying to identify what's real and what's rhetoric, quantify the impact, identify the levers they can pull to offset, and then getting to work. The China tariff is in place, the steel and aluminum, Mexico and Canada is in place. As we work with our customers, they're all working on tariffs the same as we are. Beyond that, our customers, I think the posture of the U.S.
government has introduced a level of uncertainty in our market and global markets. It's not necessarily a positivity or a negativity as far as we see. It's not like people are not buying or not moving forward with projects. There's just this underlying uncertainty. I don't hear a lot of people postulating on what will or won't happen. I just see people sort of being numb to the uncertainty, the stir, right, and just getting back to work. We're working closely with customers. We don't talk a lot of politics. We don't hear a lot about politics. The fact that we're an American business hasn't impacted relationships in any way. We kind of see people moving forward and kind of operating just with the economic reality. As tariffs get introduced, they get to work on solving for those.
They are not sort of creating problems that are not there by believing all the rhetoric that is flying around. We have not seen customers meaningfully adapt their buying patterns or their plans for the year. The people that had major projects still seem to be moving forward. We also have not seen a major acceleration of anything because of a policy that may be put in place or onshoring or any of that. We are staying close to our customers. You can never go wrong by staying close to your customers and asking them what they are seeing in their demand patterns from their customers, kind of as an early signal from the business. Keeping an open dialogue is always helpful to keep your finger on the pulse.
Yeah. Have you had to adapt your supply chain strategies at all, given that? Have you had to rethink it at all?
I mean, you went through this all in COVID. You have gone through the exercise, right, the massive exercise. Have you had to rejigger things?
Yeah. We have not had to rethink the strategy. We were already on a path to go local for local. Bring supply chain closer to the manufacturing plant and produce more of the product that we sell in the region, produce it in the region. It is just coming through the supply chain challenges that was a logical approach for us. Within that strategy, as we have identified tariff challenges, one of the levers we can pull is to use our dual sources. Just flex sourcing from supplier A to supplier B. If we have dual source, if we do not have dual source, we can set up another source.
We also have the ability—we haven't done it yet, but we have the ability to flex production between plants. If we can move to a more advantaged plant from a tariff perspective, it does change the cost-to-produce picture. We have that lever in some cases. In other cases, we're pushing back on—we'll just push back on suppliers and have them take or share in the tariff challenge. We still have the price lever as well. If need be, we can pass through the price. We're building out the ability to move on price if we have to kind of.
You're comfortable with the idea you can maintain margins in this environment?
Yeah. Let me caveat.
With the tariffs that are in place, with the China 10% and the steel, aluminum, Canada, Mexico, with what we know of those tariffs, we feel comfortable with our ability to manage and mitigate those. Some of the mitigation, candidly, is because by the time they put the tariff in place, we'd already kind of hedged on steel, and we had bought ahead. So we kind of hedged our 2025 exposure. In that case, we're looking more at kind of the 2026, how do we manage that commodity. Yeah, with what we know today, we feel like we've got it in hand. The pace of new tariff conversations is pretty rapid. No doubt. Retaliatory tariffs make it even more interesting. I think we're in for quite a wild ride here for the foreseeable future.
Covered a lot of ground.
I know we ran a little bit long. Any closing comments before we wrap this up?
No. Listen, I appreciate the interest in Tennant Company. I think we're on a really great trajectory. I would point at our performance since this leadership team took place and delivery on the commitments we've made. I think we've got a really exciting future. I am very confident in our go-forward plans. I would just offer anyone that wants to have a deeper conversation about Tennant Company, we are always open for one-off conversations. Just reach out to Mr. Lorenzo or Matt. We'll make time.
Or you can reach out to us at Sidoti, and we can connect you as well.
Steve, really appreciate the connections you've made for us over the years, including us in the conference of this period. Really appreciate your partnership.
Great. Thanks so much, Dave Huml, the team at Tennant Company. Thanks so much for being here. I hope everyone found it as informative as I did, and I hope you enjoy the remainder of the two-day Sidoti Virtual Investor Conference. Thanks so much, everybody. Thanks. Thank you.