Q1 2024 Earnings Summary
- Strong growth in high-efficiency products, especially heat pumps: A. O. Smith is experiencing sales increases of 20% to 40% over the last three years in heat pump products and expects this growth to continue at 20% to 25% annually over the next few years, driven by rebates and regulatory changes.
- Robust boiler business with a strong backlog: The company's boiler business is anticipated to grow 8% to 10% over last year, with both commercial and residential segments showing strength. The backlog is strong, and the third quarter is typically the highest for boilers.
- Positive reception of the two-step pricing model in the commercial segment: The rollout of the two-step pricing model is being well received by customers, offering a significant value proposition that separates A. O. Smith from competitors and enhancing availability and customer service.
- Rising steel costs are expected to pressure margins in the back three quarters of 2024, with Q1 being the lowest steel cost period. This could negatively impact the North America segment margins.
- Weaker consumer sentiment and real estate overhang in China are leading to reduced sales growth expectations, with guidance lowered from a 3%-5% increase to a flat to 3% increase in local currency.
- Launch of new gas tankless products will negatively impact North America margins by approximately 50 basis points due to import tariffs and launch costs until production shifts to Juarez, Mexico in 2025.
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Margin Outlook
Q: Why are you increasing North America margin guidance?
A: A. O. Smith raised North America margin guidance to approximately 25% from the previous range of 24.5% to 25%. This increase is due to strong first-quarter performance aided by favorable mix and efficient operations despite weather challenges. While rising steel costs and launch expenses for the tankless product will apply some pressure in the back half, the company remains confident in achieving the improved margin. -
Steel Cost Impact
Q: Will higher steel costs pressure margins in the back half?
A: Yes, the company anticipates sequential margin pressure due to higher steel costs projected for the remaining three quarters of the year. The lowest steel costs were in Q1, and as costs rise, margins will be affected. Additionally, until production of the tankless product ramps up in Mexico by mid-2025, there will be a 50 basis point headwind to North America margins. -
China Sales Guidance
Q: Why did you lower China sales growth guidance?
A: A. O. Smith lowered China sales growth guidance to 0–3% from the previous 3–5% due to pressure on core products and slower-than-expected consumer sentiment recovery. New kitchen products are being well received but are still in early stages. Heavy promotions in March affected sales, and the real estate market overhang persists. -
Prebuy Impact
Q: How much did prebuying affect first-quarter demand?
A: Prebuying ahead of a 4% price increase drove higher shipments in January and February. The company limits prebuys to less than 30 days, making it difficult to quantify the exact impact. March saw normalization, and the pull-forward is expected to be worked off in the second quarter. The prebuy doesn't change the company's flat U.S. residential industry volume outlook. -
Tankless Product Launch
Q: What is the expected impact of the new tankless product?
A: A. O. Smith will launch its new tankless product next month, expecting incremental growth of $15–$20 million this year. Until production ramps up in Mexico by mid-2025, margins will face a 50 basis point headwind. Pre-order interest is strong, and the product is anticipated to strengthen the company's market position. -
Commercial Market Strength
Q: What drove the strength in the commercial market?
A: The commercial segment experienced growth, with mid-single-digit increases in commercial gas products—a positive surprise. While some of this was due to prebuying, the company expects low single-digit growth in the commercial market overall, with contributions from both electric and gas categories. -
Water Treatment Outlook
Q: Why did you lower North American water treatment growth outlook?
A: The growth outlook was adjusted to 8–10% due to softer consumer demand and lower average pricing, particularly in the direct-to-consumer channel. Water softener sales have not rebounded as expected, possibly due to consumers delaying discretionary spending. A recent acquisition in California is a positive development for the business. -
Heat Pump Growth
Q: How sustainable is the shift toward high-efficiency products like heat pumps?
A: The company has seen annual increases of 20–40% in heat pump sales over the past three years. This growth is expected to continue at 20–25% as regulatory changes approach in 2029. Rebates and regional programs drive adoption, and the trend is ongoing rather than one-time. -
Channel Inventories
Q: How are channel inventories in China and North America?
A: In China, channel inventories are normalized and within normal ranges. Replacement sales account for about 50–60% of water heating volume, aiding resilience. In North America, inventories are in line, and any pull-forward is expected to be worked off in the second quarter. -
Boiler Business Outlook
Q: How is the boiler business performing?
A: The boiler business was flat in the quarter but has a strong backlog and easier comparisons ahead. The company expects 8–10% growth in boilers, with the third quarter typically being the strongest. Both commercial and residential segments show strong backlog levels.