Sarah Lauber - Chief Financial Officer Jim Janik - Chairman, President and Chief Executive Officer Bob McCormick - Chief Operating Officer.

Tim Wojs - Baird Ryan Sigdahl - Craig-Hallum Ryan Amberger - Seaport Global Chris McGinnis - Sidoti and Company.

Good day, ladies and gentlemen. And welcome to Douglas Dynamics Second Quarter 2018 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later we will conduct a question-and-answer session and instructions will be given at that time [Operator Instructions]. As a reminder, this conference call is being recorded.

I would now like to turn the conference over to Ms. Sarah Lauber, Chief Financial Officer. Ma'am, you may begin..

Thank you. Welcome everyone and thank you for joining us on today's call. A few quick items before we begin. First, please note that some of the information you will hear during this call will consist of forward-looking statement within the meaning of Section 21E of the Securities Exchange Act of 1934 as amended.

Such statements express our expectations, anticipations, beliefs, estimates, intentions, plans and forecasts. Because these forward-looking statements involve risks and uncertainties, our actual results could differ materially from those in the forward-looking statements.

For more information regarding such risks and uncertainties, please see the sections titled Risk Factors, Forward-looking Statements and Management Discussion and Analysis of Financial Conditions and Results of Operations, included in our Form 10-K for the year ended December 31, 2017, filed with the Securities and Exchange Commission, and the impending updates to these sections in our quarterly reports on Form 10-Q.

Second, this call will involve a discussion of adjusted EBITDA, adjusted net income and adjusted earnings per share. All non-GAAP financial measures, which under SEC Regulation G, were required to reconcile with the most directly comparable GAAP measure.

Reconciliations of these measures to the closest GAAP financial measure is included in today's earnings press release, which is available at douglasdynamics.com. Joining me on the call today is Jim Janik, our Chairman, President and Chief Executive Officer and Bob McCormick our Chief Operating Officer, who will be available to answer questions.

Jim will begin by providing an overview of our performance then I will review our financial results before turning it back to Jim to discuss our outlook. After that, we'll open the call for your questions.

Jim?.

Thanks, Sarah, and good morning, everyone. Thank you for joining us. Before we start to review our second quarter earnings results, I'd like to take a moment to discuss the announcement we made yesterday evening. In case you haven't seen it yet, we announced I'll be transitioning from President and CEO to Executive Chairman at the end of the year.

Consistent with our succession plan, our Current Chief Operating Officer, Bob McCormick, will assume the President and CEO role on January 1.

Bob usually is the best and natural choice for the job, given his demonstrated success in both the COO and CFO roles at Douglas and his proven ability to enhance culture and ensure that our customers remain at the center of our strategy.

Also it is important to remember that prior to joining Douglas, Bob, was President of a division of Newell Rubbermaid. And so we are all confident he's ready to assume the role and we expect it to be a seamless transition.

Given the strength of the Company's current financial and operating position, Bob's achievements and experience, the successful integration of our recent acquisitions, plus the quality and depth of the overall management team this is a great time to implement the transition.

I know that Bob will hit the ground running, continuing to drive profitable growth and operational improvements across all areas of the business. We have forced the strong and effective working partnership over the past 14 years, which will continue going forward.

Post transition, I will focus primarily on the company strategy development, mergers and acquisitions, Investor Relations and executive talent development. It really has been my privilege to lead this great team and I look forward to continuing to serve the company going forward. With all that said, let’s review our second quarter results.

I am proud to report that we produce quarterly record net sales of $163.4 million, which is a 17% increase compared to the same quarter last year. Similarly, we also generated a quarterly record gross profit of $55.8 million, which is a 24% increase year-over-year.

The main reason we are off to such a good start is that snowfall levels reverted back to historical averages this past winter. After two years of below average snowfall across North America, resulting in strong preseason orders for our commercial snow and ice control products.

As a reminder, the market for commercial snow and ice management products included preseason ordering period that extends across the second and third quarters. In recent years, preseason sales were more heavily weighted towards the second quarter versus the third quarter in an approximate 55% of 45% split in line with historical trends and averages.

However, for 2018, the Company anticipates and approximate 60% to 40% split between the second quarter and third quarter. Based on this information, we believe that our second quarter performance did pull forward some sales from the third quarter, and we’ve tempered our expectations for the third quarter accordingly.

We have also seen very positive response to the new products we launched this year, which included completely redesigned heavyweight plows that focus on Class 3 through 6 trucks and 2 new versions of our productivity enhancing expandable plows for both our FISHER and WESTERN brands.

Clearly, these two factors improved snowfall and new products both had positive impact on our strong start to the preseason. In May, we completed our quarterly dealer field inventory levels, and found that they were up slightly across all brands as dealers prepared for a stronger retail season, which is in line with our expectations.

In addition, sales of select pickup trucks continue to be favorable, increasing 3% in the first half of 2018, compared to the same period last year. As expected, chassis availability remained an issue for Henderson and is a growing concern at Dejana.

As we’ve discussed in prior calls, the overall demand increased for work trucks across all OEMs is creating a bottleneck across the entire industry. While, there are lots of different data points out there, what is clear is there is a surge in demand for Class 4 through Class 8 trucks.

And this means it has become difficult to access chassis in a timely manner, causing inefficiencies and we anticipate this challenge will persist for the entire industry in the second half of the year.

Nevertheless, we’re encouraged by the fact that demand and order trends remain very strong and this industry-wide constraint does not dissuade our long-term growth prospects for both Henderson and Dejana. Our team is highly focused on and finding work-around solutions and being opportunistic whatever possible to address the issues.

The Work Truck solutions segment generated solid results this quarter with Dejana being able to take advantage of stronger order patterns across the board compared to the second quarter of last year. However, we continue to ramp up at the four facilities we opened during 2017, which is continuing to impact margins.

Now I'd like to outline an example of how DDMS is positively impacting our Company. We are in the process of expanding main location in Kings Park, New York this year by adding a new vehicle up this facility that will increase capacity and improve velocity, the speed at which truck upfits pass through the facility.

And staying true to our DDMS culture throughout the design, planning and construction process, we formed project teams to ensure we created the most efficient operational layouts for the facility and utilize all the best practices we've developed over the years.

We use the same DDMS techniques to design the front of the house that will house the new Dejana showroom. Using customer feedback we developed and implemented new processes to make each visit as efficient as possible, reducing waiting time, especially during peak periods of snowfall.

The group collaboration in Kaizen has set up Dejana for success at this expanded facility, which just opened last week.

The new facility will increase production and give Dejana the ability for growth opportunities in both dealer and fleet markets, all while maintaining and improving the highest levels of customer satisfaction, which Dejana has taken pride in for more than 60 years. Moving on, I'd like to briefly comment on our quarterly cash dividend.

We've paid a dividend $0.265 per share of our common stock at the end of June. We are proud of our track record, which has seen us increase our dividend 10 times in the eight years since our IPO. Our plan is to maintain and grow the dividend in a sustainable manner, which underscores our commitment to returning excess cash to shareholders.

Before handing the call back to Sarah, I want to make mention of issues impacting raw materials and component we source. We are starting to see a tightening of the supply lines throughout the industry that we believe could become more of an issue in the coming quarter. This is something common across the industry.

For example at Henderson, we've seen higher lead times with hydraulic components. For various reasons, particularly related to labor shortages, some plow suppliers are simply not able to increase capacity and meet demand. Secondly, as you've seen in the news the tariffs imposed on steel and aluminum are now in place.

Because of our history of relying on domestic steel combined with our purchasing practices, the tariffs have impacted us less than other manufacturers. However, steel inflation has been significant this year and we are seeing other inflationary increases across our other direct material spend.

This continues to be a dynamic environment that we are monitoring very closely. As we stated last quarter, we expect to substantially recover the price inflation using pricing surcharges and ensuring that the quotes for new business reflect the current pricing of raw materials.

We fully expect the impact of our financials may fluctuate in the coming quarters, but we are well positioned to manage through the material and component price inflation as we’ve done in the past. We are focused on creating logical projections for raw material pricing to find the right balance.

We firmly believe we are well structured and positioned to manage through the challenges we face giving our strong position in the markets we serve and using DDMS to optimize our operation. With that, I’ll turn the call over to Sarah to discuss our financial results in more detail. Sarah..

Thanks Jim. I’ll begin with our consolidated earnings and follow with a look at how our two segments performed, and conclude with liquidity and the balance sheet. Echoing Jim’s opening remarks, 2018 is progressing well and the second quarter reflects a strong start to our commercials snow and ice pre-season.

For the second quarter of 2018, we achieved record net sales of $163.4 million, representing 17% increase over the same period last year, primarily driven by strength in the pre season for our Attachment segment.

As a result of higher volumes, gross profit for the second quarter of 2018 increased to $55.8 million compared to $45 million in the same quarter last year.

As a percentage of net sales, gross profit was up to 34.2% compared to 32.3% in the corresponding period of the prior year, primarily driven by the heavier mix of our more profitable commercial snow and ice product. SG&A expenses were $20.5 million for the second quarter of 2018 compared to $16.7 million for the second quarter of 2017.

The increase in SG&A expenses resulted from a one-time stock-based compensation charge due to a planned design change in addition to increased commissions and variable compensation resulting from higher net sales.

For the second quarter of 2018, we produced adjusted EBITDA of $40.1 million, a significant increase compared to adjusted EBITDA of $31.3 million for the corresponding period in the prior year. Adjusted EBITDA margins also increased from 22.5% in the year-ago period to 24.5% for the second quarter of 2018.

Net income for the second quarter was $21.2 million, or $0.91 per diluted share compared to net income of $14.8 million or $0.64 per diluted share in the same period of 2017.

On an adjusted basis, net income was $23.5 million or $1.02 per diluted share compared to adjusted net income of $14.9 million or $0.65 per diluted share for the second quarter of 2017.

The improvements in earnings are primarily due to the strength of sales in our commercial snow and ice products, which reflects a higher rating of pre-season sales in the second quarter of this year. Interest expense was $4.1 million for the quarter similar to the $4.2 million incurred in the same period in the prior year.

Our effective tax rate for the second quarter of 2018 was 24.6% compared to 34% for the same period in 2017. The decrease was due to the lower corporate tax rate, resulting from the tax act that went into effect last December. Turning to earnings information for the two segments.

For the second quarter of 2018, the Work Truck Attachment segment reported revenue of $127.3 million and income from operations of $38.8 million. The segment’s revenue and income from operations were $105.5 million and $27.1 million respectively in the same period in the prior year.

Comparing our performance to last year, the improved results reflect a stronger preseason due to greater levels of snowfall during this year’s snow season compared to last year. Snowfall this year was near historical averages, while the preceding two snow seasons saw below average levels.

As Jim mentioned, preseason sales and recent years were more heavily weighted towards the second quarter versus the third quarter in an approximately 55% for 45% split. However, based on our sales performance in the second quarter of this year, we now anticipate an approximate 60 to 40 split between the second quarter and third quarter.

The Work Truck solutions segment recorded revenue of $37.1 million and income from operations of $500,000. In the same period last year, the segment’s revenue and income from operations was $34.9 million and $2.5 million respectively.

The increase in revenue is mainly attributed to generally improved demand and the inclusion of incremental sales from additional facilities.

The decline in operating income reflects the impact of the continuing ramp up of new facilities, higher variable compensation and benefit expense and unusual legal expenses related to the defense of Dejana intellectual property. Lastly, I will briefly discuss the balance sheet and liquidity figures from the quarter.

Net cash provided by operating activities for the first six months of 2018 was $11 million compared to the same period in the prior year, net cash provided by operating activities of $13.3 million.

The $2.3 million decrease primarily relates to the timing of our sales and the resulting accounts receivable increase based on higher sales in the first half of this year compared to the first half of 2017. Accounts receivable at the end of the second quarter were $95 million compared to $80.1 million for the second quarter last year.

Inventory was $84.6 million at the end of the second quarter compared to $85.9 million of inventory at the end of second quarter of 2017. The decrease in inventory is also a result of the increase in sales for the period.

Total liquidity at the end of the second quarter was approximately $82.8 million, which is essentially flat to last year’s liquidity. Net debt of $279.5 million at the end of this quarter is down from $310.8 million in the same period last year. Our net debt leverage ratio has declined from 3.6 times last year to 2.8 times at the end of this quarter.

In summary for the first six months of this year, we’ve achieved record sales and are experiencing top-line strength in all of our businesses. We’ve met our internal expectations and we are effectively managing through the varying dynamics of tariffs, inflation and supply availability.

We’re focused on continuing to execute to our plan throughout the back half of the year. With that said, I’ll turn the call back over to Jim..

Thank you, Sarah. So far 2018 is unfolding as we expected and we feel positive about our long-term prospects for the future.

As we always try to do at this time of the year, we are narrowing our 2018 guidance based on our visibility into the generally positive demand trends in the markets we serve the ongoing stability of the overall economy and continued strength in truck sales.

Net sales for the full year are now predicted to be in the $490 million and $535 million range. This should produce adjusted EBITDA in the range of $90 million to $110 million, which would translate into adjusted earnings per share of between $1.75 and $2.05.

In summary, we're positioned to execute on our strategy going forward and continue to manage the business effectively in light of the industry wide headwinds related to tariffs, tightening supply chains and limited chassis availability.

We'll continue to leverage DDMS across all aspects of the business to drive improvements and optimize our performance. We'll now open the call for your questions.

Operator?.

Thank you [Operator Instructions]. First question is coming from Tim Wojs from Baird..

I guess my -- mentioned on the results too, I mean, I guess my question maybe if we could start just on pricing contribution and maybe just some of the cost inflation that's baked into guidance. Any color you could give us on just maybe dollar value, what pricing should contribute and maybe cost inflation is taking away.

And is the expectation that pricing just offset the cost inflation for the year, or do you generally get a little bit of margin on that?.

Tim, we've been through these situations several times over the years. And I think we've been very successful at managing through it. And I think we're well positioned to handle at this time through.

Overtime, we would expect to substantially recover all of the cost inflation of the raw materials, either through temporary surcharges or quoting new business and making sure that those quotes reflect increased prices. We do have some multiyear contracts that generally have a mechanism that enables us to address the inflation delta as it occurs.

So from that standpoint, we're comfortable and we've said a couple of times over the past couple of quarters that we expect to recover dollar for dollar the cost inflation that we've been experiencing. We don't expect to get margin dollars on that cost inflation.

So you may see some margin percentage degradation, but we will cover the cost inflation dollar for dollar with various price increases..

And is that why the midpoint of the range maybe shifted up a little bit and then EBITDA just tightened around the prior midpoint?.

Yes, exactly Tim. So as you look at the two midpoints from last times to this time on sales, that's really representing the increased price, with no impact on our EBITDA..

And then just on the chassis impact. I mean it sounds like maybe just interpreting your comments, maybe things are actually getting a little worse on the chassis front. So I guess one, is that accurate and then two, you mentioned some work around solutions.

Any color you could provide on what that might be?.

Yes, let’s just speak to the overall trending there. Again, this is something that we’ve pointed to over the last couple of quarters and Jim has already spoken through this morning. There is an industry wide demand surge for chassis.

While this has been primarily a Henderson issue to this point with Class 8 chassis, we’re now starting to see some signs of chassis constraints in class 4 through 6, which will impact Dejana potentially in the second half of the year.

Now to your point on work arounds and that kind of thing, I guess I would just say that Dejana and Henderson have terrifically strong OEM partnerships. And we are confident that both those businesses will receive a greater share of chassis than their competitors do as we navigate through this. Couple other comments that are worth making at this point.

While certainly chassis constrains will put pressure on margins short term, our DDMS efforts have been taking hold in both of these businesses. And when those chassis constrains subside, I believe we’ll come out of it as a stronger business.

And probably the last thing, Tim, maybe most importantly Jim made a comment earlier that our order trends and our backlogs are very strong at both Dejana and Henderson. We fully expect to build and shift the backlog as these chassis become available. So from that standpoint, any lost revenue and earnings is strictly timing.

And so these business are doing everything we ask them to do, the front end of orders and backlog are strong and we’re going to come out of this stronger than when we went and fully expect to generate all the revenue and margins that’s currently sitting in our backlog..

One other thing too to keep in mind is that everybody in the industry expects this to be fairly temporary. We just don’t know how long temporary is. But this demand surge without the ability of the manufacturers to increase the capacity that needed really doesn’t happen very often. I mean either once every two decades perhaps.

So this isn’t the new normal, this is more likely to be something that goes away sometime in the near to mid future..

And it sounds like from your perspective, because of the view that it’s more temporary, you’re willing to keep the costs structure intact.

So when that stuff starts slowing in, there’s not an impact on your side to deliver?.

That would be correct. We’re doing what we can to tighten our belt without materially impacting our ability to turn the business around as quickly as possible when we see light at the end of the tunnel here..

And then this is maybe just the last question for me, maybe just a big picture question.

On the core snow and ice business, do you feel like the replacement demand cycle has materially altered at all relative to history, maybe it’s picked up a little bit the last couple of years relative to what you’d characterize as normal? I am just curious if you’re seeing more light truck sales and good construction employment and things speed up a replacement cycle, if you will?.

Yes, that’s a terrific question. It’s really early for us to tell, because at this particular point, we’re shipping preseason orders, the retail is not as it really shown itself. We might be in a better position to answer that question as we get closer to the snow season..

Next question is coming from Steve Dyer from Craig-Hallum..

Ryan Sigdahl for Steve. I’d also like to congratulate both Jim and Bob. First question is on guidance. So comparing the midpoint of guidance for EPS and EBITDA, it implies that EBITDA will be higher in the second half but EPS will be lower.

Can you help me reconcile those?.

That’s a great question….

Or maybe said differently, I guess, what are you expecting for tax rate, interest expense and then D&A, which….

So the expectation on the tax rate that we’ve had out there is 26% to 27%. And I would say that now I am very comfortable in saying that’s going to be on the lower end of that range based on everything that we’ve worked through with the tax code change.

From an interest rate perspective, I would say it’s going to be consistent with the front half of the year. And I’m just trying to get -- wrap my head around the first question that you had on earnings per share. So why don’t we go to the next question and I can come back….

We can take it offline too, and I can walk through my math to make sure I’m on the right page too there. So secondly, as it relates to Dejana, you mentioned some chassis issues there potentially starting impact in the second half.

How should we think about the sequential change from Q2 to Q3 on the revenue side?.

Well, I would expect given our strong backlog, we certainly have enough orders to have a strong Q3. The chassis availability issue there is really more of a recent phenomenon. So it’s hard to predict what the implications are there. Opening up the brand new Kings Park facility gives us additional capacity.

Should we receive all the chassis we expect to receive or would need to receive, I would think we’d have growing revenue and margins in the third quarter. But I just want to throw up a little bit of a caution flag that we need to get more clarity around the chassis we’ll be able to get our hands on..

And then lastly, did Henderson grow in the second quarter with the chassis issues is too much to overcome?.

Can you repeat the question?.

Did Henderson, on a revenue basis, grow year-over-year in Q2?.

Yes, they did. It was slight growth, yes..

The next question comes from Michael Shilsky from Seaport Global..

This is Ryan Amberger on for Mike. First question is the Attachment segment crossed the 30% margin mark for the first time in Q2. That's a very strong and actually quite good considering all the cost headwinds and the stuff you guys save.

Would you characterize it as unusual given some of the pull forward as sales going from Q2 to Q3?.

I would say well, first off, thank you for noticing that level of terrific financial performance. And I think Jim and Sarah noted given that we have strong pre-season order book in our core business, which is where most of the high margin reside.

And that mix was more heavily shifted towards the second quarter is likely the thing that ticked us over that 30% line. And certainly, we strive for those levels of performance with some regularity. But I think it was more driven by timing in this particular instance than it was anything else..

And then one quick other one.

Can you guys update us on some of your expansion plans in the Work Truck solution segment? Do you have any immediate plans to grow the pipeline or possibly grow the range of product offerings?.

We've been speaking quite a lot over the past 12 months to laying the foundation for long term profitable growth there. So we opened up and/or acquired four new facilities in 2017. We're just opening up the new King's Park facility in 2018. I think that's enough for a while.

That really creates a nice footprint for us to continue to grow the order book and to fulfill our mission of long term profitable growth. I think we're going to put in neutral for a while..

The next question comes from Chris McGinnis from Sidoti & Company..

So I missed a little bit of a call, so I apologize these have been repeat, but I guess just on the strength of the preseason sales. Is that more inventory restocking or is that demand from ultimately the end customer. Maybe just dig into that a little bit. Thanks..

Well, at this particular point the way that the order process works is that most of our dealers look at the previous year sales. They have a good relationship with their end users and then they also take a look at the general industry. And we'll place orders based on how they think the upcoming retail season is going to progress.

At this particular point, I think people, by their nature, are relatively conservative. But I think there is a level of optimism that just average snowfall last year has brought back after two low snowfall years.

So to answer your question if they’re stocking orders and then they'll probably order the last 30% in the fourth quarter of what they need based on retail sales. But there is an optimism out there that I think they haven’t had in a year or two..

And then just two more quick ones. Just one on the chassis or the Dejana business. What’s behind that? I know last year you ran into a lot of natural disasters.

Is this just too much demand and limited amount supply?.

Exactly, year-over-year orders in that Class 4 through 6 segments are up almost 25%, so it’s strictly a demand is outpacing capacity at this point. And that’s what’s causing some of the projected shortages for the second half of the year..

And then just one last question on Kansas City. Can you maybe just give an update on how that’s performing versus expectations? Thank you..

We opened up that operation third quarter last year. We’ve been out quoting a fair amount of business. We’ve been winning some of those quotes. It’s probably a couple of year ramp up process for us so we’re pleased with how it’s gotten out of the gates. But we’ve got greater expectations for that business moving forward..

[Operator Instructions].

Okay. At this point, Operator, we’ll wrap up. I’d like to thank all of you for your interest in Douglas Dynamics. And we look forward to speaking with you again in early November for our third quarter earnings announcement. Have a great day..

Ladies and gentlemen, thank you for participating in today’s conference. This concludes today’s program, you may all disconnect. Everyone, have a great day..