Modine Manufacturing Company (MOD) Q1 2026 Earnings Call Transcript

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Overview

The earnings call highlights strong growth in Climate Solutions and data centers, a $1 billion revenue capacity from a $100 million investment, and optimistic long-term margin expectations. Despite some uncertainties in divestitures and light-duty business, the strategic focus on high-growth areas and robust backlog supports a positive outlook.

Key Financial Performance

Climate Solutions revenue 11% increase year-over-year, driven by contributions from acquisitions (AbsolutAire and L.B. White) and strong heating stock plan orders.

Climate Solutions adjusted EBITDA 10% improvement year-over-year, reflecting synergies from acquisitions and operational efficiencies.

Data center sales $24 million increase (15% growth) year-over-year, driven by higher sales in North America.

HVAC Technologies sales $17 million increase (34% growth) year-over-year, driven by strong heating stock plan orders and higher indoor air quality product sales.

Heat Transfer Solutions sales 1% decline ($1 million decrease) year-over-year, due to lower volumes to commercial and residential HVAC customers, partially offset by higher sales to commercial refrigeration and coatings customers.

Performance Technologies revenue 8% decline year-over-year, driven by challenging end market demand and 80/20-driven product line exits.

Performance Technologies adjusted EBITDA margin Decreased by 100 basis points to 13.1%, due to lower sales volume and higher material costs, partially offset by improved operating efficiencies and cost reductions.

Total company sales 3% increase year-over-year, driven by growth in Climate Solutions.

Gross margin Declined by 40 basis points to 24.2%, primarily due to lower sales and higher material costs in Performance Technologies.

Adjusted EBITDA margin 14.9%, down 40 basis points year-over-year, due to lower Performance Technologies volume and new investments in Climate Solutions.

Adjusted earnings per share $1.06, a 2% increase year-over-year, driven by growth in Climate Solutions.

Free cash flow $200,000 generated, lower than the prior year due to higher inventory levels in Climate Solutions and acquisition-related costs.

Net debt $403 million, $123 million higher than the prior fiscal year-end, due to acquisitions of AbsolutAire and L.B. White.

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Operating Highlights

Acquisitions: Completed three strategic acquisitions: AbsolutAire, L.B. White, and Climate by Design International (CDI). These acquisitions expand the product portfolio in heating, indoor air quality, and data center cooling, and unlock new markets and distribution channels.

Data Center Innovations: Developed a modular data center project with a large customer, enabling rapid deployment and scalability. This reduces build time from over a year to months and allows for expansion by adding modules.

Data Center Market Expansion: Announced a $100 million investment to expand manufacturing capacity across four U.S. sites, including a new facility in Dallas, Texas, and expansions in Grenada, Mississippi. This supports the growing North American data center market.

HVAC Technologies Growth: Acquisitions of AbsolutAire and L.B. White contributed $10 million in revenue in Q1, with strong heating stock plan orders and higher indoor air quality product sales driving a 34% increase in HVAC Technologies sales.

Cost Management in Performance Technologies: Reduced SG&A expenses by $5 million in Q1 to offset lower sales volume. Reallocated talent to support high-growth Climate Solutions business.

Capacity Expansion: Repurposing two existing performance technology sites to expand data center production capacity, including transitioning the Franklin, Wisconsin site and evaluating plans for the Jefferson City, Missouri facility.

Portfolio Realignment: Exploring strategic options to realign and optimize the Performance Technologies portfolio, focusing on high-growth, high-margin businesses.

Revenue and Earnings Outlook: Raised fiscal 2026 revenue growth outlook to 10%-15% and adjusted EBITDA to $440-$470 million, driven by acquisitions and increased data center sales.

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Risk or Challenges

Performance Technologies segment challenges: Revenues in the Performance Technologies segment declined by 8%, with adjusted EBITDA also decreasing. The downturn in vehicular markets is expected to persist for several more quarters. Additionally, a customer in the heavy-duty equipment sector moved to a dual-sourcing strategy, leading to lower Genset sales. Delays in converting new customers to updated cooling module designs further exacerbate the issue. The segment also faces higher material costs and tariff impacts, which are only partially offset by cost reductions.

Market demand and economic conditions: The downturn in vehicular markets and weak end-market demand are negatively impacting revenues in the Performance Technologies segment. These market conditions are expected to remain challenging for the foreseeable future.

Material and tariff cost pressures: Higher material costs and tariffs are impacting margins, particularly in the Performance Technologies segment. While cost recovery mechanisms are in place, they operate on a lagged basis, creating temporary financial strain.

Integration risks from acquisitions: The company has completed three acquisitions (AbsolutAire, L.B. White, and CDI) and is in the early stages of integration. There is a risk of unexpected challenges during the integration process, which could impact operational efficiency and financial performance.

Supply chain and capacity expansion risks: The company is investing $100 million to expand manufacturing capacity across four U.S. sites to meet growing demand in the data center business. However, such large-scale investments carry risks related to execution, cost overruns, and delays.

Strategic realignment risks: Plans to transition and consolidate manufacturing facilities, such as those in Franklin, Wisconsin, and Jefferson City, Missouri, could face operational disruptions and employee-related challenges during the realignment process.

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Guidance & Outlook

Revenue Growth: The company has raised its fiscal 2026 revenue growth outlook to a range of 10% to 15%, up from the previous range of 2% to 10%. Climate Solutions sales are expected to grow 25% to 35%, with data center sales projected to grow in excess of 45% this year.

Data Center Business: The company anticipates data center revenues to approach $2 billion by fiscal 2028. A $100 million investment is planned to expand manufacturing capacity across four U.S. sites, including a new facility in Dallas, Texas, and expansions in Grenada, Mississippi. This investment supports the local-for-local supply chain strategy and aims to meet extraordinary demand in North America.

EBITDA Outlook: Fiscal 2026 adjusted EBITDA is expected to be in the range of $440 million to $470 million, representing a $20 million increase from the previous range. The higher earnings will be recognized in the second half of the fiscal year.

Performance Technologies Segment: Revenues are anticipated to decline by 2% to 12% for fiscal 2026, with ongoing market softness and trade conflicts negatively impacting market recoveries. However, the segment is trending towards the higher end of this range due to material and tariff cost recoveries.

Capital Expenditures: An incremental $100 million of capital expenditures is planned over the next 12 to 18 months to support growth, particularly in the data center business.

Free Cash Flow: Free cash flow for fiscal 2026 is expected to be around 3% of sales, with improvements anticipated in fiscal 2027.

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Shareholder Return Plan

The selected topic was not discussed during the call.

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Key Q&A

Q:Can you talk about the magnitude of unabsorbed costs in the Climate business and the fiscal '27 data center revenue target?

A:The unabsorbed costs in the Climate business are tied to core capacity and incremental capital investments. The core capacity is rapidly filling up and converting at good margins. Incremental investments of $100 million for facility expansion will ramp in the second half of the year, with meaningful volume expected in the new fiscal year. The fiscal '27 data center revenue target of $1 billion is trending towards being achieved earlier, with a straight-line growth approach being logical for now.

Q:When you say margins are set to improve, is that for the whole company or specific segments?

A:Margins are expected to improve for the total company, driven mostly by Performance Technologies (PT). PT is expected to see a 100 basis point margin improvement due to cost reductions and higher volumes in the second half of the year. Climate Solutions (CS) margins may remain flat or slightly down due to costs associated with preparing for second-half volumes.

Q:How much revenue capacity is tied to the $100 million investment in capacity expansion?

A:The $100 million investment is expected to add about $1 billion in revenue capacity, with a return on investment (ROI) of over 40%. The company aims to have $2.5 billion in capacity to support a $2 billion revenue goal by 2028.

Q:What is the long-term margin expectation for the incremental capacity coming online?

A:Long-term margins for the incremental capacity are expected to be significantly higher than the initial 15% EBITDA margin. The company plans to optimize capacity utilization over time to achieve margins at or above segment averages.

Q:What is the visibility on demand and capacity for the back half ramp?

A:The company has visibility beyond a year, with some orders extending up to three years. Existing infrastructure will be utilized first, followed by new facilities coming online closer to the end of the fiscal year. Accelerated growth from existing and new customers is driving the expansion.

Q:What is the status of divestitures and their potential impact?

A:The company expects to close the sale of its European headquarters later this year, estimated at $10-15 million. The process to exit $250-300 million in light-duty business is ongoing, with updates to be provided later.

Q:Can you elaborate on the custom modular data center and its timeline?

A:The custom modular data center is designed for speed and efficiency, reducing labor requirements. It is being developed with a key customer, with production starting in Calgary and plans to expand to the U.S. The timeline aligns with customer needs for quicker market entry.

Q:Are there other areas within Performance Technologies that may be deemphasized?

A:The company is constantly evaluating its markets. The Genset business may see reduced focus, allowing resources to be redeployed to other areas.

Q:What is the expected interest expense for fiscal '26?

A:Interest expense is estimated to be $28-30 million for fiscal '26.

Q:What are the near-term data center trends and their impact on growth?

A:The company has seen an acceleration in data center growth, driven by new program wins and increased customer volumes. The introduction of chiller technology in North America has significantly contributed to growth.

Q:What is the contribution of recent acquisitions to this year's revenue and margins?

A:Recent acquisitions are expected to contribute about $100 million in incremental revenue. L.B. White margins are initially 15-20%, while CDI margins are below segment averages but expected to improve over the next year.

Q:What is the company's approach to capital allocation and acquisitions?

A:The company plans to spend over $140 million on data center growth in the next 12 months. Acquisitions will pause for a few quarters to focus on digesting recent acquisitions, divestitures, and data center expansion.

Q:Are data center service capabilities being expanded alongside production?

A:Yes, the company is hiring to support service capabilities, including start-up and installation. The focus is also on building management and control systems to enhance efficiency.

Q:Is there potential for more large data center orders in the near future?

A:Yes, the company expects a collection of large orders to drive the $2 billion revenue goal, supported by a strong backlog and strategic customer relationships.

Q:What areas might the company focus on for future acquisitions?

A:Future acquisitions may focus on HVAC technologies and vertical integration of the supply chain to maintain a diversified business portfolio.

Q:What is the strategic outlook for separating the data center and Climate Solutions businesses?

A:The company will evaluate the potential for separation as the portfolio evolves, with a review expected at the end of the fiscal year.

Q:How much of the $2 billion data center revenue goal is based on known orders?

A:The company has the highest backlog ever in data centers, with strong visibility and strategic relationships providing confidence in achieving the $2 billion goal.

Q:Are modular data center solutions portable across customers?

A:Yes, modular data center solutions can be adapted for different customers, although some may have exclusivity agreements. The concept remains consistent, but designs may vary.

Q:Review of Unclear Management Responses

A:Management avoided providing specific details on the timeline and progress of the $250-300 million light-duty business divestiture, stating only that the process is ongoing. Additionally, they did not clarify the exact percentage of the $2 billion data center revenue goal that is already secured through orders, citing strategic relationships and visibility instead.

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Earnings Word Cloud

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MOD Transcript

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The earnings call highlights strong financial metrics with an increased revenue growth outlook and a promising data center business expansion. Although there are some concerns about Performance Technologies, the overall sentiment is positive due to strategic investments, optimistic guidance, and expanding market presence. The Q&A session reinforced confidence in growth and margin improvements, despite some vague responses on specific targets.

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The earnings call highlights several positive aspects: a significant increase in adjusted EBITDA and gross margin, a strong stock buyback program, and robust growth in Climate Solutions and data centers. Despite some uncertainties in Performance Technologies and market recovery concerns, management's confidence in demand and strategic execution, coupled with a solid financial performance, outweighs potential negatives. The Q&A insights reveal manageable risks and a focus on execution, supporting a positive outlook for the stock price in the short term.

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The company's earnings call highlights strong financial performance, including a significant increase in EBITDA, margin improvements, and a robust stock buyback program. Despite uncertainties in Performance Technologies, Climate Solutions and data center sales show strong growth. Management's confidence in long-term data center demand and reduced supply chain dependency on China are positive factors. The market may react positively to the strong financial metrics and optimistic guidance, resulting in a stock price increase over the next two weeks.

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