DSGR - NASDAQ

Good day, and welcome to the Distribution Solutions Group Second Quarter 2024 Earnings Conference Call. At this time all participants are in a listen-only mode and a question-and-answer session will follow the formal presentation. [Operator Instructions]. Please note this conference is being recorded. I will now turn the conference over to your host, Steven Hooser with Three Part Advisors. Sir, you may begin.

Good morning everyone, and welcome to the Distribution Solutions Group's second quarter 2024 earnings call. Joining me on today's call are DSG's Chairman and Chief Executive Officer, Bryan King; and Executive Vice President and Chief Financial Officer, Ron Knutson. In conjunction with today's call, we have provided a financial results slide deck that is posted on the company's IR website at investor.dstributionsolutionsgroup.com. Please note that statements on this call and in today's press release contain forward-looking statements concerning goals, beliefs, expectations, strategies, plans, future operating results and underlying assumptions that are subject to risks and uncertainties that could cause actual results to differ materially from those described. In addition, statements made during this call are based on the company's views as of today. The company anticipates that future developments may cause those views to change, and we may elect to update the forward-looking statements made today but disclaim any obligation to do so. Management will also refer to non-GAAP measures, and reconciliations to the nearest GAAP measures can be found at the end of the earnings release. The earnings release issued earlier today was posted on the Investor Relations section of our website. A copy of the release is also included in a current report on Form 8-K filed with the SEC. Lastly, this call is being webcast and on the Internet via the Distribution Solutions Group Investor page and on the company's website. A replay of this teleconference will be available through August 15, 2024. I will now turn the call over to Bryan King. Bryan?

Thanks, Steven and good morning, everyone. Thank you for joining us this morning and on a packed earnings day for many of you. We will try and move through our prepared comments expeditiously while welcoming follow-up conversations from you if we may be of further help. Starting on Slide 4, I want to provide introductory comments about the quarter and speak in some depth about our recently announced acquisition of Source Atlantic. Then Ron will cover the financial results for the quarter in detail. Together, we will provide some thoughts around the second half of 2024, and I will incorporate an update on our progress on some of the strategic initiatives at Lawson, Gexpro Services and the TestEquity Group as well as on DSG. First off, I'm very pleased with our second quarter results in several key areas. Consolidated sales grew to a record $440 million, up 16.3% compared to last year's second quarter, driven by acquisition-related revenue lift. Although DSG's second quarter sales, excluding acquired revenue declined on marketplace sluggishness consistent with the last several quarters and against tough sales comps relative to last year's second quarter our quarterly organic sales base did show improvement sequentially, growing by almost 4% compared to this year's first quarter. Each of our verticals made solid progress in the quarter on important strategic initiatives despite the challenges from sustained macroeconomic headwinds that include higher for longer interest rates that appear to me in pouring through the sales data across our industrial distribution businesses to be negatively weighing on most all of our industrial end markets in the U.S. Notably, we do continue to see the sequential recovery in certain end markets as we start to lap some easier comps from later last year, especially in areas where we have previously highlighted, where we experienced significant headwinds in late 2023, like in technology and where we've been waiting for a recovery in areas like renewables. We will discuss this more in a few moments. Our consolidated EBITDA margins enjoyed a sequential improvement from the 8.7% from the first quarter to a double-digit EBITDA margin of 10.3% in the second quarter. All three of our verticals experienced sequential EBITDA margin improvement from the first to the second quarter. We enjoyed good visibility in our initiatives to reformulate DSG's cost structure and drive structural margins and returns on invested capital higher. Process improvement and structural optimization initiatives for each business unit are well underway. Our team's disciplined prioritization and execution of internal profitability enhancement initiatives reflects a coordinated commitment to get to expense optimization levels that will continue to unlock additional profitability and operational efficiencies while driving margins and even more impactful longer term to compounding for shareholders, our deliberateness of also mapping our returns on invested capital to structurally higher levels. Importantly, our operational improvement and profitability initiatives are being strategically matched up with our deliberate actions on how we are reinvesting our cash flow and expanding balance sheet flexibility with an ever reflective and evolving lens around, how to best improve DSG's value-added offerings and commitment to expanding our customer value proposition and service while refining our approach to our profitability, and returns on invested capital discipline on the revenues and capital assigned to each business vertical. Our leadership team is committed to making DSG the highest possible long-term compounder for our valued shareholder partners. We understand the importance of not only focusing on financial growth, but also in building a strategically positioned, growing specialty distribution platform that benefits all our colleagues, customers, and shareholders. Each day, we wake up with a relentless focus on driving improvements in our business through initiatives that we can control. While we are fully committed to this mission, I eagerly await like all of us involved, colleagues, customers, and shareholders alike for a more constructive macroeconomic backdrop to be enjoyed. Switching gears and moving to Slide 5, the team and I are very excited to share details on our announcement to acquire Source Atlantic, which we expect to close in a few weeks and where we committed to use this call to broadly introduce the opportunity. As many may already know, Source Atlantic has long been a leading industrial distributor providing value-added products and specialty services in the Canadian market. Last year, their annual sales totaled approximately Canadian $250 million and their revenue has continued to grow as they continue to execute successfully on their marketplace strategies. Source Atlantic was not for sale when we contacted the owners, and we know how rare it is to get the opportunity to purchase the company directly from the owners with such a long rich history that has not been traded in the marketplace. This business began in the 1860s and has been under the Irving family's thoughtful stewardship for the past 80 years. Through our M&A diligence, we discovered this to be an exceptionally clean business with excellent customer and supplier relationships, nurtured around a tremendous culture the Irving family has fostered and developed over decades. When we look at the net assets acquired between the net working capital and real estate holdings, the excess purchase price or what I often risk as our air ball and refer to as our air ball is relatively small compared to many scores of other high-quality acquisitions of industrial businesses that we have considered or acquired over the last decade. In collaborating with the Source Atlantic leadership around the power of this effort to pull together our combined resources and capabilities to even better elevate each of our businesses, we had identified significant opportunities to leverage their existing investments in people, working capital, specialty service capabilities and facilities with our existing investments in the same in Canada, most specifically with our Bolt Supply House and with our significantly large Lawson VMI Canadian team, where together, we will significantly lift over the next 18 months to combine profitability and returns on invested capital. As a reminder, today, our Bolt Supply House operates from Western Canada and is uniquely complementary to Source Atlantic's largely Eastern Canadian business. DSG's acquisition of Source Atlantic creates significant scale and geographic expansion potential by executing its strategy to grow our footprint, value-added services, and incremental product offerings across Canada, allowing for us to enjoy line of sight towards a leadership offering for our colleagues and customers in Canada. With minimal customer overlap with our Bolt Supply customers and our Lawson VMI customers and enjoying an expanded set of capabilities and offerings, we have a lot of white space in Canada upon combining these businesses outside of the initial lift in return metrics that we expect by the combination. Our existing MRO customers and employees under Bolt Supply and Lawson Canada are important to our decision to pursue this acquisition as well as our strategic and revenue growth lens across DSG's three verticals. Our Bolt customers are concentrated in Western Canada and primarily span British Columbia, Alberta, Saskatchewan, and Western Manitoba. Although these provinces in Western Canada cover a large geographic footprint, they only represent about 28% of the current Canadian MRO market. By contrast, Source Atlantic's geographic concentration has a rich history, principally focused on excellent coverage of all of Eastern Canada. From a market perspective, Ontario and Quebec represent 67% of the MRO with strong industrial activity just north of our Great Lakes U.S. presence. Given the opportunity to offer expanded support to industries and end markets in that region, the opportunity to engage with expanded scale across Ontario and Quebec will allow us to together grow faster with our combined MRO solutions and specialty services, which we prioritize as an exciting strategic opportunity for our shareholders, colleagues and customers. In addition, Source Atlantic's strong historic presence in Nova Scotia, Newfoundland and Labrador, representing another 5% of the Canadian market, offered new territories for Bolt and Lawson to introduce their capabilities. These new and existing market expansion and penetration opportunities are exciting. In addition to expanding customer presence in Canada and getting more utilization out of our combined capabilities and footprint, the total addressable market expansion and ability to drive real value creation for our shareholders makes this an extremely compelling business to add that fits nicely into exactly what we are trying to accomplish with our M&A playbook. Just like we were excited to have landed S&S Automotive only a couple of months ago. If you can't tell, we are thrilled with this opportunity to add -- with the opportunity to add these two excellent companies with their long established leadership positions to enhancing our offering and driving our return metrics at DSG. Our acquisition of Source Atlantic expands DSG's Canadian MRO addressable market to approximately $41 billion, and this market is expected to grow annually by 4% to 5% through fiscal 2028. Our DSG strategic lens prioritizes additional ways for DSG's other verticals besides our MRO VMI offering to also leverage Source Atlantic and Bolt's enhanced position in the Canadian market to improve growth in what we broadly see as a growing Canadian marketplace for our offerings. While Source Atlantic operates today at margins lower than DSG, like we did with Bolt after we acquired it, we expect to drive both Source Atlantic and our total Canadian opportunity to higher structural margins via scale and synergies across our platform in Canada, similar to how we are focused on driving structural margins up in the United States, like with our infill density and capability acquisitions of S&S and our focus on adding more scale around PP&E and safety categories in our MRO VMI offering. Over the next 12 to 18 months, we target EBITDA margins for the combined Bolt Source Atlantic in the low double-digit range and a path to have Source Atlantic be significantly accretive to our DSG return on invested capital framework. We also expect Source Atlantic margins on a run rate basis to be accretive to the consolidated DSG EBITDA margins by the end of 2025. We plan to fund this acquisition through our existing available liquidity. Ron, will you walk through our detailed second quarter results and funding sources for Source Atlantic? Ron?

Thank you, Bryan and good morning, everyone. Turning to Slide 6, I'll summarize reported results for the quarter, and then I'll break out each of the reporting segments. I'm excited to share these results given the step-up in our adjusted margin as a percent of sales and also in realized dollars for the quarter. Consolidated revenue for the quarter was $439.5 million. This represents an increase of $61.6 million or 16.3% primarily driven by 2023 and 2024 acquisitions. Excluding the acquisitions, organic sales declined by 5.7% versus a year ago, however, grew 3.8% sequentially over the first quarter. The sequential increase was driven by the continued recovery in many end markets such as Test and Measurement, technology, renewables and some project-related business. Q2 2024 reflected significant growth in net margin dollars of $9.1 million, up over 25% versus the first quarter. Our margin profile came in line with our near-term expectations and exhibits the strength of our model on a modest sales increase. For the quarter, we generated adjusted EBITDA of $45.2 million or 10.3% of sales, a sequential improvement over our margins of 8.7% in the first quarter and 8.4% in Q4. I'll expand further on this at the segment level here in a minute. We reported operating income of $14.2 million for the quarter, inclusive of $12.2 million of acquisition-related intangible amortization expense and $12.5 million of aggregate costs from stock-based compensation, acquisition, severance and retention-related expenses, merger and acquisition costs and other nonrecurring items. Adjusted operating income was $38.9 million as compared to $34.9 million a year ago quarter and $29.8 million in the first quarter. We reported GAAP diluted income per share of $0.04 for the quarter, inclusive of higher depreciation and amortization and a valuation allowance on certain deferred tax assets compared to earnings per share of $0.07 in the year ago quarter. Adjusted EPS was $0.40 for the quarter, up from $0.25 in the first quarter compared to $0.42 a year ago on 3.6 million more shares outstanding. Turning to Slide 7, let me now comment briefly on each of the operating segments. Starting with Lawson, sales were $121.1 million, up 1.7% on comparable days from a year ago, primarily from very strong comps a year ago quarter of nearly 11% and the S&S Automotive acquisition that closed earlier this quarter. As compared to the first quarter, sales increased 2.5%. This growth was driven by the acquisition of S&S Automotive in May, which contributed $7.3 million in sales in the second quarter. Excluding this acquisition, organic sales were down 4.2% from the first quarter given some of the softness in various end markets and on a lower field rep count. We continue to see a strong pipeline in new strategic customer agreements, but these have a longer implementation cycle so the associated revenues are not yet being realized. We continue to realize improvements in our sales rep productivity with the second quarter being up nearly 9% on top of 8% realized in the first quarter in double-digit increases in the last two quarters of 2023. In the aggregate, we're generating more sales dollars on a per rep basis. This helps the sales reps have a larger book of business and earn more commission dollars. For the quarter, Lawson realized adjusted EBITDA of $16.5 million or 13.6% of sales, up 220 basis points over the first quarter. Of the margin growth of $3.1 million, approximately $1.1 million came from our acquisition this quarter. The acquisition helped raise Lawson's margin by approximately 11 bps for the quarter. The remaining margin expansion came from almost -- came equally almost from both organic gross margin improvements and related cost controls. Turning to Gexpro Services on Slide 8. Total sales for the quarter increased 8.6% to $107.1 million over Q1. As indicated in our previous calls, we were seeing some end market recovery starting late in 2023 into the first quarter, which continued through the second quarter, in particular, within technology and renewables while aerospace and defense remains strong. We feel good going into future quarters that these end markets will continue to expand, allowing us to further leverage our operating expenses. As expected, we saw in Q1 and again in Q2, some recovery in sales, along with a focus on gross margin improvements and cost controls. We continue to expand our margin profile over the past two quarters. Gexpro Services EBITDA was $12.7 million, a sequential increase of $1.9 million over the first quarter to 11.9% this quarter. Of the 90 basis point improvement from Q1, approximately 120 basis points was from operating leverage and cost controls on slightly lower gross margins. Lastly, I'll turn to TestEquity Group on Slide 9. Second quarter sales grew 45.1% to $197.5 million, an increase of $61.4 million, driven by the 2023 acquisition of Hisco. Excluding Hisco, TestEquity sales were down 9.2% over a year ago quarter, however, were up 5.5% sequentially over the first quarter. As we've discussed on previous calls and similar to Gexpro Services, we started to see some recovery in various end markets in Q1 that continued through Q2. For example, the Test and Measurement business is still down nearly 3% from a year ago quarter, but was up nearly 18% sequentially over the first quarter. Additionally, Chambers, albeit a smaller piece of our business, had soft sales in late 2023 and the first quarter of 2024, but was up nearly 40% sequentially as we improved our stocking position of these units. Test Equities adjusted EBITDA for the quarter was $15.4 million or 7.8% of sales. Net margin dollars were up $3.8 million sequentially, representing over a 30% improvement. As indicated previously, we have a road map developed to build the combined TestEquity and Hisco business back to double-digit margins, and we took a nice step in that direction this quarter. As we think about the remainder of 2024 for TestEquity, we will continue to focus on the integration of Hisco and TestEquity. We remain committed to sequentially improving our margin profile as 2024 develops through higher sales, synergies to be realized on the combined company, and proactively rebalancing our cost structure. Between the merger savings and other cost normalization, we're focused on delivering approximately $15 million of cost savings in 2024, which are starting to be realized. Moving on to Slide 10. We ended the quarter with approximately $210 million of liquidity, including $56.9 million of cash and cash equivalents and $153 million under our existing credit facility. We did close on the S&S automotive transaction during the second quarter through using a portion of our available cash and our existing credit facility. Our leverage rate of 3.2 times at the end of the quarter is well within our stated range of 3 times to 4 times. We do expect this to be in the mid-3s upon closing of our previously announced acquisition of Source Atlantic later in the third quarter, and then we'll be able to deleverage into the low 3s by year-end. Net capital expenditures, including rental equipment, were $4 million for the second quarter and $6.9 million on a year-to-date basis. We expect full year CAPEX to be in the range of $15 million to $20 million or approximately 1% of our revenues. Before I turn the call back over to Bryan, I'd like to make some comments on how we see the remainder of 2024 developing. As we've discussed over the past two quarters, we were up against tough organic comps. While these comps do become easier in the second half, we do see some softness in our shorter-cycle MRO business, offset by continued recovery of various end markets within our OEM and industrial technology verticals. As we make traction on many of our initiatives in 2024 and as comps against the prior year soften, we would expect organic sales growth to be flat to slightly positive in the second half. However, we remain cautious given the current macroeconomic environment. To achieve our internal sales plans, we will need some normalization of various end markets and some recovery of customer capital-related project spending. We also expect, while not linear with improvements that we realized sequentially over the first quarter that all three verticals will expand their margin profiles in the second half of 2024 over our most recent Q2 run rates. I'll now turn the call back over to Bryan.

Thank you, Ron. Turning to our capital allocation framework on Slide 11. Our DSG model works well because we are committed to a disciplined and competitive approach to capital allocation and holding ourselves and our colleagues to be accountable to build a business that will sustain driving a long-term compounding effect for exceptional shareholder returns. As part of that framework, our leadership team is focused on efficiently and continually managing working capital, which results in discipline around stronger cash flows, allowing for more deliberate reinvestment. Our trailing 12 months of cash from operations was $106 million on trade working capital of approximately $450 million at the end of the quarter. Cash flow per share is an important driver to our model as we focus on the compounding effect of cash flow reinvestment. In our DSG journey over the last two-plus years since the merger, we've proven that strategic bolt-on acquisitions are providing our platform with scale to sustain and drive higher long-term organic growth, margins, and returns on invested capital through creating better geographic density with added product and service categories, offering expanded cross-selling opportunities and ultimately the very tangible bridge to the higher structural margins and returns on invested capital that drive exceptional shareholder returns. Over the last decade, from where we are today, we have enjoyed a 14% IRR on our Lawson investment, and I am confident we will do better over the next decade with expanded discipline and opportunities presented by DSG. As our platform matures over the longer term, we expect that growth in our current key verticals should come more from organic than inorganic sources and that we can fade our DSG returns on invested capital, structurally higher from the approximately 12% level where we are starting. Our five-year goals that we set out during our Investor Day last year include revenue of over $3.3 billion and an EBITDA of over $450 million with 13% to 14% margins. And we are excited that we can see how we have made significant progress towards those goals over the last year. As Ron covered, we will continue to judiciously focus on managing our leverage and debt service. We also want to underscore that as part of our commitment through a disciplined capital allocation framework to drive shareholder value long term. Share repurchases will continue to be a part of our capital strategy as we believe we have great line of sight on how our intrinsic value creation journey is dynamically progressing. So it makes sense that we also use some of our capital opportunistically to engage in accretive moments where the share price may reflect an attractive enough discount to what we see as our intrinsic value in the nearer term. We will continue managing our business and cash with tight discipline and focus. Let's turn to Slide 12. I want to discuss our three business verticals and provide some outlook commentary. We have been signaling that our 2024 first half comps would be under pressure with easier comps in the second half. At this point, that is still our informed lens, but we are continuing to see choppiness with certain customers and in certain end markets as the macroeconomic lens has not offered more broadly our customers a clear and confident path to economic expansion. All that said, we are also pleased to see progress in certain key markets that appear to have returned to growth in other pockets where we see green shoots. Most of our marketplaces broadly feel reluctant to lean into purchases and stocking SKUs for growth, although they are choppy but improving sales trends in a number of our end markets and industries. At TestEquity Group, we enjoyed double-digit sequential improvements in sales volume for the Test and Measurement division due in major part to return of the tech and automotive sectors. We are refining our go-to-market strategy. And as we put real effort into a transition around greater consistency in our approach away from more transactional customer relationships to a much more solution sales approach. We're hiring Test and Measurement specialists for our solution sales approach. In the second quarter, we enjoyed sequential solid sales lift in our Chamber equipment compared to the first quarter. Cross-selling opportunities are gaining traction. As we've discussed, like on Chambers, our switch from a third-party manufacturer to internal manufacturing through Gexpro Services, reduced order lead times and kept profit margins internally within DSG, driving the future better structural margins and return on invested capital for both TestEquity and Gexpro Services. This in-sourcing initiative has streamlined our supply chain and significantly reduced lead times from 30 weeks to less than four weeks. And today, for the first time, since before COVID, we are fully back in stock in chambers. Other in-sourcing abilities for our companies are identified where we can work together, and it is an important lever to continue to pull outside of our cost rationalization and operational efficiency objectives to drive margins and returns longer term. Finally, our Hisco integration actions are tracking on schedule and our cost takeout through the first half of 2024 have exceeded our original projections. Our current strategic focus on this leg of the platform is expanding wallet share with customers, driving repeatable business and consumable segments and optimizing digital selling capabilities. We are excited about the road ahead for the TestEquity Group and the continued progression we expect out of margins and returns on invested capital. At Gexpro Services, we've sequentially improved sales and EBITDA margins quarter-over-quarter since the 2023 fourth quarter, fueled by strong double-digit growth in important end markets. Aerospace and defense and technology continue to be a bright spot with year-over-year growth as well as sequential increases through the first half of 2024. In addition, the renewables end markets were strong, with double-digit growth this quarter and double-digit growth in the second quarter versus the first quarter of 2024, and they show the promise we expected for the back half of the year. The Frontier and Resolux acquisitions continue to present expanded opportunities as we evolve them into successfully collaborating versus competing with these great businesses that we acquired. Our overall backlog, bid to quote and book-to-bill measures continue to be constructive, and we enjoy a quarterly ramp up in this business. Based on last year's second half slowdown, we expect easier comparisons and favorable trends in 2024 for the second half for Gexpro Services. Our outlook is to continue to invest in growth segments like aerospace and defense, industrial power and automotive, and fully expect an acceleration of top line in 2024 and beyond. For Lawson, we continue to invest in areas that will increase sales in the short, medium and long term. As Ron mentioned, we implemented the next phase of our sales force transformation and went live with our CRM tool during the second quarter. This tool allows us a more data-driven approach to the sales organization, and we have identified 70 new sales reps for the targeted territories in our CRM. After getting through many of our initiatives to invest in tools and opportunities for our sales force to become more effective and earn more, it is now time to fill back in all those open and optimized territories with the recruitment lens that we expect will yield better opportunities for candidates than in the years earlier experiences around recruitment of outside sellers did. We also know that training new and existing reps on a refined engagement process will produce a more consistent and even order flow for our customers and our sellers. We are implementing initiatives to work with district sales managers by encouraging more sales calls and efficient time management as a critical part of this transformation to drive more revenue and productivity through our sellers and the opportunity to share more of that with them. For the second quarter, net rep counts were up, and attrition was down on better productivity, but we still need to hire at least another 70 reps. We also realize that these new reps need a few quarters to ramp up, which has us remind ourselves without any crystal ball of informed insight that Lawson's performance may not be linear from quarter-to-quarter. Earlier this year, Lawson acquired Emergent Safety Supply or ESS and S&S Automotive. As a reminder, ESS drives product brand extension for Lawson in the safety category, while ESS expands the Kent Automotive division's presence in the auto collision repair market, concentrating more on dealerships. Brand and line extensions will allow this business to grow, improve margins and scale into new geographies and categories that reduce business risk. As we discussed at the beginning of the call, we are very excited about Lawson, Canada and Bolt and they will be well positioned to provide customers in Eastern Canada with value-added MRO services and access to other specialty products through our acquisition of Source Atlantic and that our total Canadian opportunity will be greatly enhanced by pulling these businesses together under DSG's broader specialty capabilities. Turning to Slide 13. As we move into the second half of 2024, we are confident and enthusiastic about our prospects to grow and create shareholder value. DSG serves large highly fragmented marketplace needs with specialty offerings and value-added capabilities across diverse end markets. We offer a unique total customer value proposition with high-touch service models, distinct capabilities, and product assortments across our platform. Leveraging the power of 3, DSG's collaborative business verticals offer highly embedded, value-added services, and it is not surprising that we have well over 90% customer retention. Since we merged these companies just over two years ago, we have discovered new and expanded ways to cross-sell, in-source products and production and further leverage our scale to unlock value. We were ambitious with our objectives for DSG and for each of the three verticals individually as well, coming into the creation of the platform, but our expectations have only increased as we have collectively gained an even more informed lens around the opportunity in front of each vertical inside of DSG as well as for DSG overall. Our process improvement and optimization initiatives much evolved and expanded from where we started, are well underway, and we are in the early innings of our programs to deliver higher structural margins at each of the verticals. Our product development plans and expanded in-sourcing and value-added service programs are continuing to come into greater focus built around not only a strategic lens, but also financial compounding lens as well, like we outlined previously for Lawson, where we put in an initial concentration on greatly improving our safety and power hand tools categories, which drives total productivity of the sales force, organic revenue growth, and returns on our invested capital. We are driving our returns on invested capital framework down through our individual business verticals to each of their follow-on acquisitions, so there is clear accountability and a highly informed set of objectives in what we acquire and how we drive performance out of those investments and how they add to our DSG objective to drive total long-term compounding in the platform. We have an active M&A pipeline and a highly strategic playbook to facilitate the integration and understand what improvements in all the initial metrics must look like for a business unit to effectuate the capital allocation to make an acquisition and how that must also drive more total value for all of DSG. Today, more than before we created DSG, our verticals continue to expand their capabilities to better serve their existing customers as well as prospective customers through the entire life cycle of all of DSG's customers within our various end markets, leveraging and actively expanding and improving the world-class global supply chain platform we are building at DSG. And we're just getting started. Finally, we will continue to work on DSG's targeted investor outreach. In August, we plan to attend the Midwest Ideas Conference in Chicago. This fall, we will participate in the Jefferies, Baird and Stephens conferences plus a non-deal roadshow in the Mid-Atlantic. With that, operator, we would like to open the call for questions. Thank you.

Thank you. [Operator Instructions]. And our first question this morning is coming from Kevin Steinke from Barrington Research. Kevin, your line is live. Please go ahead.

Thanks and good morning. I wanted to start out by asking about the Test and Measurement business within TestEquity. It sounds like some recovery going on there. Last quarter, I got the impression that maybe that market was a little -- recovering a little more slowly than you had anticipated. You've been talking about excess inventory in the market. So just maybe talk about the pace of the recovery there and what you expect for the second half and just overall, the state of inventory in the market and customers' plans for capital spending in that area, etcetera.

Ron, why don't you start there?

Yes, I'll jump in. Thanks for that question, Kevin. So we mentioned this a little bit on the first quarter call as well that we were starting to see some sequential improvement in the Test and Measurement business really as each month surpassed in the first quarter. We continue to see that trend here in the second quarter as well. And even though we feel like there's some market recovery there, certainly interest rates really haven't moved since the end of the first quarter. And I would really probably describe it more that we're taking share, candidly. I think you're well aware that that's a very vendor relationship type of business on the Test and Measurement side. And we've continued to work really, really hard with our top suppliers in order to gain more of their business. We've had a couple of customers that we've regained that really kind of faded off on us in 2023. So that's helped help build it as well. As we think about the rest of the year, certainly, the overall interest rate environment, I think will probably still put some pressure on that overall end market. But we've got great initiatives going on internally within the TestEquity Group in order to expand those supplier relationships and to go back and get some of these customers that have faded a little bit on us in 2023. And as I mentioned, the first -- I mean if I look at the first six months of the year for this year, it's a nice sequential movement in the right direction. So we feel good about that piece of our business continuing to lift us for the rest of 2024.

Kevin, just to add to that, we messaged, I think, through the end of the fourth quarter. And again, at the end of the first, that there was some lack of -- there was some purging of inventory that was taking place by some people who had entered that marketplace with an inventory position that they hadn't historically been as big of a participant selling those vendors' products. And so there was some undisciplined in my opinion, markdowns by some folks that we might submit an RFP or somebody may have come to us for technical support, major customers, somebody we've worked with and consistently worked with for years. We would spec out a purchase and then somebody would come in underneath us and dump some inventory. And that created some additional choppiness over the first kind of end of the last year and the first quarter this year. A lot of that seems -- appears to have abated itself. So that's where we're picking back up the same customers. Those orders were out there. We were actually doing the stack work on them, and then we just lost them at the goal line by not breaking discipline on pricing. In some cases, we probably look back in the fourth quarter and wonder whether or not we should have taken those orders, but we wouldn't have cleaned the market with that kind of excess inventory that was in the channel for some of the smaller competitors that don't have as much market share selling those major manufacturers products in North America. So that's part of it. We do think that there's some green shoots. We are seeing some end market customers that are returning. We highlighted a couple of them in the call to the Test and Measurement area. But we're still being cautious in terms of capital spending, just given until we see interest rates in the marketplace, appearing to have more confidence that we're back into economic expansion. But there is just some cycling of purchases that we're seeing come back in and that we're getting more of our share than we were at the end of the fourth quarter.

Okay, that's all very helpful commentary. I appreciate it. And Ron, you mentioned when talking about the second half that you're seeing some softness in short-cycle MRO and you saw some organic revenue softness in Lawson in the second quarter. Can you maybe expand on that a little bit more, has that market softened up a little bit more than you might have expected entering -- as you enter 2024?

Yes. So Kevin, as we look at our kind of end segments that we manage the Lawson business within our strategic customers and military, our Core Street business and Kent Automotive. We have seen some softening across most of those segments as we look at the second quarter and even a little bit in the first quarter. ISM is still running well below 50%. We've seen probably a bigger impact on the military. I know we talked about this on our first quarter call, just in terms of the ordering process. That volume has not yet fully come back to us. So we're a little cautious on the short-cycle piece of this business within Lawson. And the other piece I would say, and Bryan commented on this in his prepared remarks, we are actively out recruiting and hiring new sales members, expanding our sales team. Certainly, we took that down as we were refining some of the process, and now we're in a position where we feel like we're in a really good position to build that back up. And we're targeting to hire nearly 70 individuals between now and the end of the year. And so that will give us a little bit of a lift here in 2024. But in reality, those hires will benefit 2025 and 2026, certainly more than 2024. So we're a little cautious on the Lawson side right now. I mean, you saw really nice net margin expansion. And I think going, call it, in the mid-11s to the mid-13s, kind of back to where we were on a full run rate basis in 2023. So we're managing the business daily from a cost perspective and from a gross margin perspective.

Yes. Kevin, I think your intuition is right there. What's been surprising, I think, a little bit to all of us is that the longer cycle OEM visibility appears to be getting or staying firm or getting better, especially across some of our markets like renewables and technology and aerospace defense on the Gexpro Services side. And even that's firming some on the TestEquity group side. And we're obviously going to lap some easier comps there as well. But our operating with less salespeople than we did a year ago or two years ago, we knew was going to weigh some on our ability to drive organic growth in Lawson, but it was critical to our strategy to driving returns on invested capital and EBITDA margins higher and ultimately cash dollars higher. And so now we're layering back in that growth lens on filling in optimized sales territories and with optimized tools. We thought it was premature to do that until we got some of those pieces better lined out for new hires and could bring them in with a clear expectation and a clear opportunity that was maybe different than some of the way that we onboarded salespeople several years ago. And I think they have an opportunity to earn a lot more and the quality and experience that they'll have what we think will allow for us to hire even better consistency on new hires there. So that's a big part of it. But there's no doubt when we look at the short-cycle side of the business, and we're going through each customer that's a repeat customer and the size of their orders, there's been a lot more noise over the last several months than there was at the last half of last year.

Kevin, I just want to put just one maybe additional data point out there for you. So and really, I think it follows on to Bryan's comments. I mean we're a more profitable organization within Lawson, given a lot of these changes, operating now in the mid-13s versus the high single digits going back a couple of years ago. And even though we saw some sales pressures into the second quarter, if you look at Lawson, the net margin dollars realized is up almost $9 million going from Q1 into Q2. Now call it, about $1 million, $1.1 million of that was the acquisition that we made kind of mid in the second quarter. But structurally, we're a more profitable business. And to Bryan's point, we're now -- I think we're in a much better position to go out and put a full court press on filling in some of these open territories, given some of the structural changes we've made over the last year to 18 months.

Okay, thanks. That's helpful. And lastly, I wanted to ask about Source Atlantic. Congratulations on that agreement. It looks like it will be a really nice deal for you. You did mention it obviously hasn't closed yet, but it's a bit lower margin than consolidated DSG right now, but you have plans to improve that over time. Again, as we think about layering that into our model in the future when the deal closes, can you talk to how much of an impact that could potentially have on your consolidated margin, I know it's not an overly large acquisition but Ron, I don't know if you could touch on that at all?

Yes, I can. So -- and maybe I can give you a couple of points of reference to without giving specific numbers. So Bryan had mentioned that really getting that piece of the business to a run rate double-digit EBITDA margins exiting 2025. And we did mention the Canadian $250 million. And maybe the best way the way to frame it up is when we purchased Bolt Supply, we were in the, call it, mid- to high single digit. And I would say and we've now pushed that business up into the 13% to 14% range from an EBITDA perspective. I would put Source Atlantic kind of in that same initial kind of out of the gate in terms of when we bring them in here later this year. So again, not a huge impact to 2024, given our overall $1.8 billion in sales and $180 million in EBITDA. But probably you'll see a bigger impact as 2025 develops going kind of from that mid to high single digits into double-digit territory by the time we get out of 2025.

Okay, thanks. Appreciate the commentary. I will turn it back over.

Great, thanks Kevin.

Thank you. [Operator Instructions]. And there are no further questions in queue at this time. I would now like to turn the floor back to Bryan King for closing remarks.

Okay. Thank you, operator. Thank you, everyone for helping us or joining us today. I know that we've got a lot of other distributors that -- in a 9:00 call for many of you. So thank you so much for joining us. We look forward to talking to you for the next quarter's earnings and have a great balance of the summer.