Q1 2020 Earnings Call

Bye and welcome to the in steel industries first quarter 2020 conference call.

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The conference over to your speaker today, mR.H. Woltz, President and CEO . Please go ahead Sir.

Thank you.

Good morning, and thank you for your interest in Insteel welcome to our first quarter 2020 earnings calls, which will be conducted by might Gazmarian, our vice President CFO and Treasurer and me.

Before we begin let me remind you that some of the comments made on todays call or considered to be forward looking statements, which are subject to various risks and uncertainties that could cause actual results to differ materially from those projected.

Risk factors are described in our periodic filings with the FCC.

Forward looking statements are based on our current expectations and information that is currently available we do not assume any obligation to update the statements in the future to reflect the occurrence of anticipated or unanticipated events for new information.

Now I'll turn the call over to Mike to review, the first quarter financial results and outlook for our construction markets and then I'll follow up to comment more on business conditions.

Thank you H. and good morning, everyone joining us on the call.

As we reported earlier today, the first quarter fiscal 2020 proved to be another challenging period for in steel as we continue to contend with oil pricing import competition and the consumption of higher cost inventory.

Earnings per share for the quarter dropped to three cents from 19 cents a year ago, excluding last years, two cents year nonrecurring gain related to the disposition of fixed assets.

As we conveyed on previous calls our import competition is centered in certain of our PC strand and standard welded wire reinforcing markets, where pricing pressure has intensified in the wake of the section to 32 tariffs on imported steel.

The tariffs, which apply the importance of her primary raw material hot rolled steel wire rod, but not to our finished products have driven domestic prices for wire rod substantially higher than global market levels and foreign competitors of leverage this cost advantage to expand their market share.

Weather conditions for the quarter were generally more conducive for construction activity as compared to a year ago when the near record precipitation across your largest markets resulted in construction delays and deferred orders.

Shipments for the quarter up 11.7% from last year, but down 10.9% sequentially from Q4, reflecting the usual seasonal slowdown in demand.

Average selling prices continued to decline during the quarter, calling another 3.4% from Q4, reflecting the impact of the import related pricing pressure together with domestic competitors efforts to backfill lost volume as well as retain existing business.

The price erosion is more pronounced in markets subject to import competition, which represented around 30% of our sales for the quarter with A.S. piece for these markets dropping 8.3% sequentially from Q4 as compared to only a 2.1% decrease for the rest of our business.

Gross profit for the quarter fell 4.7 million from a year ago and gross margins here at 410 basis points to 6.4%, primarily due to lower spreads between a sps and raw material cost on a sequential basis gross profit rose two point fourmillion from the fourth quarter and gross margin.

Widen 300 basis points, driven by higher spreads relative to the depressed levels, the Q4, which represent the low point over the past year.

As I alluded to earlier the spread compression we experienced during fiscal 2019 in the first quarter. This year has been compounded by the continued consumption of higher cost inventory in a declining price environment.

Considering that were typically carrying around three months of inventory value done a fivefold basis, our spreads in margins have been adversely affected by the matching of higher cost inventory purchase in prior periods with lower asps for our products.

Fortunately it appears this on favorable trend could be coming to an end in view of the growing indications that steel prices may have reached a bottom with scrap prices rising now for three straight months by a total of $80 a ton since October .

Our wire rod suppliers have followed suit announcing price increases in November December and January and we've rolled out an initial increased across most of our product lines that went into effect earlier this month.

Should these increases marked the beginning of an upward trend earn eventual leveling out of prices. They would eliminate a significant headwind that has been waiting on our results since early last year.

SGN expense for the quarter fell point 8 million to 5.7 million from six and a half million or 5.9% of net sales from 6.3 last year largely due to a favorable point 9 million year over year change and the cash surrender value of life insurance policies, which increased point 3 million.

And this year as compared to a half million decrease last year.

Our effective tax rate for the quarter fell to 22.7% or 23.5 last year, primarily due to changes in permanent book tax differences.

Looking ahead to the remainder of the year, we expect our effective rate or run around 23% subject to the level of pre tax earnings book tax differences and the other assumptions and estimates entering into our tax provision calculation.

Moving to the balance sheet and cash flow statement cash flow from operations for the quarter improved to 29 point sixmillion largely due to a 24.6 million decrease in working capital.

The reduction in working capital was driven by an increase in payables, resulting from higher raw material purchases in the latter part of the quarter a reduction in receivables, reflecting the usual seasonal slowdown in sales and a reduction in inventories due to lower average unit carrying values.

Based on our sales forecast for Q2, our quarter in inventories represented 2.9 months of shipments compared with 3.1 months at the end of the fourth quarter.

Our ending inventories for valued at an average unit cost that was lower than the beginning average and the amount reflected in Q1 cost to sales, which will favorably impact or spreads in margins during the second quarter.

We ended the quarter was 67.1 million a cash on hand, or just under 350 this year and no borrowings outstanding under 100 million revolving credit facility, providing us with ample financial flexibility and the ability to pursue any attractive growth opportunities that may develop.

And allocating our cash flow and managing the cyclical nature of our business. We continue to focus on three objectives.

Reinvesting in the business for growth and to improve our cost and productivity, maintaining adequate financial strength and flexibility.

And returning capital to our shareholders in a disciplined manner.

Going forward, we will continue to balance these objectives in deploying capital in any excess cash balances.

As we move into the second quarter fiscal 2020, our market outlook for the remainder of the year remains positive with higher growth in the infrastructure segment expected to offset further moderation in nonresidential activity.

Through November public construction spending was up 6.8% from the prior year with highway in Street construction, one of the largest and use applications for our products rising 8.8%.

We expect this favorable trend will continue in 2020, driven primarily by higher state and local spending supported by fuel tax increases the availability of low cost debt financing and other ballot measures together with the improved fiscal positions of states and municipalities.

Following two short term continuing resolutions on December Twentyth of Federal transportation spending Bill for fiscal 2020 was enacted which eliminates the cloud of uncertainty that threatened to curtail project commitments and allow stage to receive their full year spending authority.

The new spending package increases federal highway funding another 2.4% up to the level authorized under the fast Act and provides for an additional 2.2 billion of supplemental funding from the General fund.

This marks the first time in five years that state Deo Tees will have their full spending authority prior to January 1st and provides a clear path for Congress to pursue a successor highway funding bill to the fast that which expires at the end of fiscal 2020.

And its annual forecast for 2020, the air TV, a is projecting at least 5% growth in the U.S. transportation infrastructure market. After adjusting for project cost and inflation, which reflects 6% growth and they're real value a public highway street and related construction investment by state Deo teas.

In local governments, the largest market sector, and 3% growth Enbridge and Tom will construction.

After remaining relatively flat through most of the years architectural billings and Dodge momentum index is both leading indicators for nonresidential building construction have reflected recent improvement with the BDI rising to 51.9 in November the second straight month of modest growth and the Dia My increasing 14.9 per.

Then over the past four months.

I'll now turn the call back over to age. Thank you Mike.

As Mike indicated our first quarter results reflect improving shipment trends relative to the prior year, resulting from favorable underlying demand for our reinforcing products and a return to more normalized weather patterns looking forward. We expect construction market conditions will support continued growth and the demand for our products during fiscal.

2020.

While were less than three weeks into our second fiscal quarter. We're pleased with the strength of our order book in the robust pace of shipments as Mike indicated steel scrap prices have rebounded for three consecutive months rising nearly $80 a ton from the October low this upward momentum together were stronger conditions in our markets as.

Let us to announce a price increase with an effective date earlier this month, assuming the favorable market environment persists, we expect to take the appropriate actions necessary to recover our rising raw material costs and restore spreads in certain of our markets.

Importantly, we believe the cycle what continually declining price steel prices has run its course for now which implies the opportunity for spreads to return to normalized levels.

Not surprisingly our first quarter financial performance was negatively impacted by the elevated level of import competition. We've contended with following the acquisition of the section to 32 tariffs and this will limit our ability to recover higher costs in markets that are done most severely affected farhan.

Competitors continue to underpriced, the domestic market to capitalize on the market distortions that have been created by U.S. trade policy.

Since it appears the administration is firmly committed to the use of tariffs as a policy tool. The only reasonable resolution of these distortions is to extend into 232 tariff to downsize downstream products.

We continued our dialogue with the administration and believe they understand the unintended consequences of the tear program and are evaluating options to address the matter, although it's not possible to predict whether they will take action to correct. The distortions that have been created.

And the interim we'll continue to assess our operating strategy and determine the appropriate adjustments that are warranted in response to increased import competition. Our current plans or continue to compete in these markets have aggressively pursue additional improvements in our manufacturing efficiencies and costs.

While we work towards a satisfactory resolution what the administration turn into Capex. We continue to expect outlays to come in at approximately 17 million for fiscal 2020 subject to revisions as we move through the year. Our capital plan is focused on investments that will broaden our product capable.

Ladies and certain markets expand our engineered structural mesh capacity lower our production cost and update our information systems technology.

During Q1, we continued come commissioning activities for the movie Sam production line at our North Carolina facility that will increase capacity for certain niche products as well as substantially reduce our operating costs. While the line has performed well across a limited range or products or equipment supply.

Wire has identified additional modifications that need to be made an order for it to achieve its full range of capabilities. We expect this work will be completed during the current quarter and allow for the line to ramp up to projected operating rates during the balance of the fiscal year.

Market conditions remain favorable and we're confident will attain our investment objectives. What's the line has obtained its full range capabilities.

So in summary, we expect continued growth in demand for our products. During 2020, we're optimistic that the robots shipping trim that emerged in Q1 will continue and it appears that the cycle steel price weakness that has adversely affected our results in 2019 is behind us.

We will remain focused on improving all aspects of our manufacturing operations and continue our dialogue with the administration to address the challenges created by steel trade policy and we'll continue to be vigilant in pursuing attractive growth opportunities, both organic and through acquisition.

This concludes our prepared remarks, or we'll now take your questions lists would you. Please explain the procedure for asking questions.

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Our first question comes from the line of will be over marrow with Sidoti. Your line is now open.

Hey, good morning, everyone wanted to ask what your senses for industry inventory levels.

As I understand that they were pretty elevated as recently as last quarter.

Do you have a sense as if to the your competitors inventory levels that maybe flushed out as well.

And how they are are you, referring at our level of the supply chain or our customers.

At year level, the supply chain in terms of your competitors and yes, let me some elevated inventory levels.

Okay, Yes, I mean, I think that inventory reduction cycle has run its course, we actually receive on some pretty solid data on inventories in.

In the industry and it would indicate that end inventories have have reduced markedly over the last three quarters.

Okay, great and.

On your capital expenditures I. So you did you know maybe less than 10 million in capex for the quarter could maybe.

Remind us what you expect maintenance capex to be would 17 million in total that you expect for the year be you sort of back weighted.

It's about half of the year.

Yes, well Weve remarked in previous calls that we we on we tend to be slower in deploying capital than we initially think we will be on when we look at a multiyear capital expenditure plan. It really has as much to do with internal resources as it does anything else.

But we've laid out these projects and we know the path. We're pursuing is simply a question of lead times and our ability to execute on it internally. So yes. It would be back ended and there's always a chance that that spending comes up a little short of of this effort.

Okay excellent and just last one and I'll hop back into queue is off.

Could you comment on the leadership change that you announced in December .

Maybe some color on where you are in your search for a successor and and do you expect any material change and the company strategy.

Well right now I'm still in morning, Mike's going to depart the company.

But we are engaged in finding his successor.

And we've had a tremendous amount of interest in that position as we expected we would.

Not really there's nothing else to to say at this point other than that it's it's a high priority for us.

Understood and Mike Thanks for your you're helping your success over the years at in steel.

And I'll hop back into queue.

Thanks Julio.

As a reminder, ladies and gentlemen that is star then one if you'd like to ask a question at this time.

Our next question comes from the line of Tyson Bauer with KC capital. Your line is now open and good morning gentlemen.

Hi, Jason.

From the comments in your press release.

Safe to say that when you went into your budgeting for this year.

You have.

Consider the tariffs in the import pressure to be persistent throughout the year and if those things were to change that may change some of your.

Business operations, but for right now heading into the year Youre running the business as if those will be present throughout the year.

Yes, that's correct, but we really havent changed.

We havent changed our operations at all we have sort of just talked through the import competition and I assume that that will continue absent some dramatic change and the landscape that we see.

Regarding the price increase then.

If we're.

During the imports are going to be present does that mean that the price increase is targeted to the non import affected areas and on certain product lines and also the implementation of that during your weakest seasonal quarter, we've had mixed results and history of the company.

In doing that.

When do you think you'll start to see evidence of that working or not working.

Well, it's hard to say types and it's a it's a day by day exercise.

You are correct and as we acknowledged in the prepared comments.

It's going to be difficult, where import competition is already substantially under our our pricing level arms. So our expectations I think are realistic there, but I would tell you that that one of the more.

Relevant factors and whether price increases can become effective or not is the strength of the order book and its strong. So I think that I think that Tom. This is certainly not a fantasy that we're we're working right now I think that the conditions are conducive to our recovery costs and Weve experience.

So just substantial margin compression. So I think it's also realize our orders it's.

Fair to expect that those spreads normalize it at some point in time and that has to happen when when market conditions are stronger would it be fair to say that 70% of the business will likely have positive benefit from those price increases and spreads widening while 30% may.

Remain at constant levels or may have more challenges as far as their spreads depending on the level of imports that.

Well all of those things were at work Tyson I'd, rather address that question next quarter Okay.

Mike SGN, a very favorable level is that something you're looking at to be consistent as we go through the year, obviously, depending on sales levels, but.

Where do you see us DNA landing this year.

Yes, I would expect it.

To bounce back up in coming quarters as I mentioned, we benefited from.

Favorable swing in the cash surrender life insurance policy that tends to be correlated with.

Fluctuations in the financial markets. So.

Let me going forward or would you be a question of whether that continues to be a significant positive. That's always a that's always a factor and then also the other the other.

Significant variable cost so duty incentive comp pay which would fluctuate with our results and no going forward over the remainder of the year.

Fourmonths continues to improve then you may see.

A pickup in expense.

For that component.

Okay.

Working capital outlook, if we're going to have some increase in our some of our raw materials. There. Obviously, we had the benefit in this past quarter, where do you see a working capital needs for the year.

Yes, I think I think we'd probably bottomed out.

As of the ended the quarter and you're likely to.

To see.

An increase both in and inventory levels, the modest increase there as well as the usual seasonal pickup in receivables as as we move into the the busy season.

And last question for me.

Yeah on the prepared remarks or in the press release, you talk about strategic acquisitions.

Is the environment with a stronger end market and non import affected areas and given your cash and balance sheet.

Since.

Are you looking for an industry shake out to take advantage of this year or why the specific mentioned that.

We could see more activity than what we've seen in the past.

I don't I don't think we meant to imply that you would see more than you've seen in the past only that we're constantly looking for opportunities on and certainly.

Down cycles typically present, some some opportunities that up cycles don't.

And we're all aware team to that all but but we've been attuned to it every quarter that we've held call. So so theres no change there okay. Thank you gentlemen.

And im showing no further questions in queue at this time I'd like to turn the call back to Mr. wells for closing remarks.

Okay. Thank you for your interest in the company and we look forward to talk into your next quarter.

Good day.

Ladies and gentlemen, this concludes today's conference call. Thank you for participating.