Q2 2020 HB Fuller Co Earnings Call
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After todays presentation, there will be an opportunity to ask questions. Asking question. You May Press Star then one on your Touchtone phone to withdraw your question. Please press Star then too.
Please note this event is being recorded.
I'd now like to turn the conference over to Barbara Doyle. Please go ahead.
Good morning, and welcome to H.B. Fuller fiscal 2022nd quarter earnings call for the fiscal quarter ended May Thirtyth 2020, our speakers or Jim Owens, H.B. Fuller, President and Chief Executive Officer, and John Corkran, Executive Vice President and Chief Financial Officer.
After our prepared remarks, we will take your questions.
Please let me cover a few items before I turn the call over to Jim.
First our reminder, that our comments today will include references to non-GAAP financial measures and references to organic revenue, which excludes the impact of foreign currency fluctuation and the impact of acquisitions and divestitures.
On this call unless otherwise specified discussion of sales and revenue refer to organic revenues and discussion of es margins or EBITDA refer to adjusted non-GAAP measures.
These measures are in addition to the GAAP results in our earnings release, and then our forms 10-Q and 10-K.
We believe that discussion of these measures is useful to investors to assist the understanding of our operating performance and the comparability of results with other companies reconciliation of non-GAAP measures to the nearest GAAP measure is included in our earnings release.
Also we will be making forward looking statements. During this call. These statements are based on current expectations and assumptions that are subject to risks and uncertainties.
Many of the many of these risks and uncertainties are and will be exacerbated by Covance 19, and any worsening of the global business and economic environment as a result.
Actual results could differ materially from these expectations due to factors discussed our earnings release comments made during this call or risk factors in our form 10-K filed with the FCC and available on our website at investors Dot H.B. Fuller Dotcom now I will turn the call over to Jim.
Wins.
Thank you Barbara and welcome to everyone on the goal.
Last evening, we reported strong results for our second quarter.
Solid revenue performance lower raw material costs restructuring savings and operational efficiencies across our business drove EBITDA of $101 million in the quarter, which exceeded our expectations.
Cash flow also continued to be strong in the quarter with year to date cash flow from operations up 40% versus last year.
Our robust cash flow performance keeps us on track for full year debt Paydown plan of $200 million.
Our results reflect H.B. Fuller his leadership in the adhesive industry the vital nature of adhesives in the central products and the culture of collaboration we've created with employees suppliers and customers around the globe.
The H.B. Fuller team proactively address challenges presented by the coded 19 pandemic and gained market share, while reducing costs and keeping employees safe.
As we successfully applied what we learn from the outbreak in China to our operations in the rest of the world.
Throughout the quarter all of H.B. Fuller factories were open and operational.
By rapidly implementing health and safety protocols and business continuity plans around the world, we were able to successfully protect employees maintain efficient operations and deliver products to customers.
We also found new ways to collaborate internally and externally and accelerate customer wins and internal productivity. During this period.
Over the past several years, we've invested in electronic and virtual collaboration tools that have proven invaluable. During this period, we leverage these investments to facilitate fast decision, making maintain high levels of customer service and develop new customer relationships.
Several cases, we shortened the sales cycle through virtual product trials.
Sales trends during the second quarter were in line with the expectations, we provided in our Q1 call.
Sales levels varied around the globe and by market segment, but overall were down in March and weakened into April and then may and have shown improving performance in the end of May and June.
We successfully met increased demand for certain markets in hygiene health and consumable diseases, which were up 7% organically in the quarter, including double digit growth in a number of end markets.
H.C. adhesive sales surged in March was strong in April and move back to more typical levels in may as customers move toward more normalized inventory levels.
End markets and engineering adhesives experienced the biggest impacts related to the pandemics, reflecting the significant downturn in global production as countries locked down during the quarter.
The biggest impacts were in transportation end markets and for construction related goods, such as insulation glass panels and woodworking.
We had positive volume growth in new energy and technical textiles.
We expect improving sales performance in engineering adhesives in the third quarter as global production begins to ramp up.
Construction diseases had a good start to the quarter in March and activity slowed in April and May as contractors and distribution channels minimized inventory given the reduced ability to access building interiors and overall uncertainty in the construction industry.
As building permits have started to pick up in May we are seeing increased project activity in order volume in June, especially in roofing.
Results varied by geography, as China saw strengthening performance and overall organic growth of 1%.
As performance strengthened in all segments throughout the quarters.
Latin America in the Middle East felt the cobot impact later than other regions and are not seeing a recovery in June.
We expect these regions to see improved year over year trends later in Q3.
Despite significant negative impacts from the pandemic on several end markets. Our total organic sales declined by 7%, which we believe is better than the overall performance of our end markets.
This performance reflects the broad diversity in our customer base in products and our capabilities to meet technical adhesive needs of manufacturers around the world.
Meeting the supply insurance and operational needs of our customers more effectively than competitors enabled us to increase share in several markets over the quarter.
Which will improve revenue performance going forward.
In addition benefits from raw materials restructuring efficiencies and rigorous cost management supported strong EBITDA and cash flow.
Raw material cost continued to move lower in the quarter supporting Q2 margins and strong cash flow.
We expect further declines in raw material purchase prices through the rest of the year.
From a piano perspective, this will deliver more favorable benefit in the second half of the year.
We reorganized into three global business units at the beginning of the year, which is helping us win with customers and execute more effectively.
As a national realignment is expected to generate $35 million of total annualized savings.
Of which $25 million to $30 million will be realized in 2020.
We delivered $7 million of us DNA savings in the second quarter. These projects.
We continue to proactively assess our business for additional efficiencies.
And in the second quarter, we initiated a review of the company's manufacturing operations in supply chain utilizing the support of an external consulting.
The goal of this phase was to identify opportunities to streamline and improve efficiencies and our large facilities to establish a roadmap toward site consolidation and to accelerate our inventory reduction strategy through improved supply chain planning.
Based on the specific projects identified were initially targeting $20 million to $30 million and manufacturing cost savings from these initiatives.
We expect these savings to have a small impact in Q4 this year ramp up in 2021 and reach full year run rate levels in 2022.
We're also targeting an inventory reduction of approximately $25 million through these initiatives.
We're in the process. The finalizing these projects and will provide a more detailed view of savings timing and the cost required to achieve them during our third quarter earnings call in September of 2020.
As a result of the proactive steps we've taken to serve customers during the pandemic to address new business opportunities and to drive savings and efficiencies and our cost structure, we will be a stronger company better positioned to grow as the global economy recovers.
Now onto our segment results in the second quarter on slide four.
Organic revenues and engineering adhesives declined by 20% driven by the impact of Cobot 19 on end market demand.
Automotive and transportation related markets, where the hardest hit while new energy and technical textile showed good volume growth in the quarter.
Adjusted EBITDA margin of 14.9% was lower than last year, driven by volumes, but up 250 basis points versus the first quarter on lower raw material costs and restructuring savings.
We continue to see strong profitability improvements in construction adhesives, despite construction activity being impacted by cobot 19.
Organic construction diseases revenue were down 15% in the quarter with declines in both the roofing in flooring businesses retail channels remain strong for do it yourself activity, but contract to work decreased dramatically utilities and infrastructure business grew by mid single digits.
Instruction adhesives EBITDA margin of 17.7% was up 140 basis points year on year, reflecting new product solutions and improved product mix related to last year portfolio repositioning as well as operational improvements from the restructuring.
The underlying operational improvements in this business position us for strong margins in this segment as construction activity resumes.
Organic sales and hygiene health and consumable adhesives were up 7% year on year in the quarter with double digit growth and hygiene packaging Tayfun label and health and beauty.
Some of the favorability early in the quarter was related to temporary inventory build.
However increases from changes in consumer behavior associated with more eating the home and work in the home trends are expected to be longer lasting.
We also know that some of the growth in Q2 is really the market share gains associated with being in a superior position to meet customer needs. During the crisis and that effect will also be longer lasting.
HC segment EBITDA margin of 14% improved 70 basis points year over year, driven by strong volume favorable mix lower raw material costs and savings from the restructuring of the business.
Our planning assumptions for the third quarter have been developed in an environment that continues to evolve and it's difficult to predict.
Cases are escalating in Latin America in India, and there is uncertainty or new case trends as other countries open up.
And the recessionary impact of coded is still unclear.
Our core planning assumption is the cobot related shutdown impacts will continue to abate, but recessionary forces will result in economic contraction in the third quarter, which will likely extend into the fourth quarter. This year.
We expect the second quarter, we'll have the most acute impacts from cobot 19 with sequential improvements in the third and fourth quarters.
Elevated demand for high changes health products packaging paper tissues, Intels will likely continue through the year as consumers continue to spend more time in their homes.
See growth will moderate in the second half of the year from second quarter levels assert buying dissipates and manufacturers worked down inventory levels.
Revenue performance in construction adhesives during the first quarter continued into the early part of Q2, but slow dramatically in April and the first part of me.
Our forward orders for construction adhesives proved over the last month, resulting in increased demand in June and we expect this level to continue through the third quarter.
In total we forecast construction adhesive revenues in the third quarter will be down versus prior year, but down less than in Q2.
Likewise engineering adhesive demand has picked up throughout the last month.
While we expect continued soft demand versus 2019, we are seeing improved top line and profit performance relative to Q2 transportation related industries will be weaker than other segments, such as electronics, new energy filtration and textiles.
We anticipate the demand for the transportation durable goods and construction related markets will start to improve in the third quarter supporting sequential improvement in engineering adhesive volumes as we exit the year.
Raw materials benefited margins in the second quarter, and we continue to plan for lower raw material costs over the rest of the year.
This will be driven by supply demand dynamics.
Volume trends lower raw material costs and reduced working capital requirements will enable us to drive strong cash flow.
This supports our plan to pay down debt $200 million this year.
Let's pay dividends of approximately $34 million, which H.B. Fuller raised in April for the 50 onest consecutive year.
While the economic backdrop continues to evolve our new organization has enhanced our line of sight into our three businesses.
This improves our visibility and fosters our bias for action.
As we've demonstrated in our first half results, we are executing our strategy well our operations are nimble and we have multiple levers to deliver strong results in a fast changing environment.
Now, let me turn the call over to John core growth to review, our second quarter results and our outlook for the fiscal 2020 based on these planning assumptions.
Thanks, Jim.
Ill begin on slide five with some additional financial details on the second quarter.
Net revenue was down 11% versus the same period last year.
Currency and the divestiture of the surfactants and Thickeners business had a combined negative impact of 4%.
Adjusting for currency and the divestiture organic revenue was down 7% with almost all of the decline related to volume.
We saw strong volume growth in agency with organic sales up 7% year on year offset by the impact of coded 19 on engineering and construction adhesives.
Year on year adjusted gross profit margin was 27.7% down versus last year on lower volume associated with cobot 19, but up 120 basis points versus Q1 on raw material savings and efficiency gains.
Adjusted selling general and administrative expense was down 10% versus last year, reflecting actions related to the business reorganization announced last year lower travel expense lower variable compensation as well as general cost controls.
Adjusted EBITDA for the quarter of $101 million was above the high end of our planning assumptions, reflecting slightly lower than expected raw material costs and higher expense reductions, including savings from our restructuring actions.
Adjusted earnings per share was 68 cents also slightly higher than expectations, reflecting lower than expected raw material costs higher expense reductions and lower interest expense associated with our debt reduction actions and lower interest rates.
Year to date cash flow from operations of $108 million increased by 40% compared with the first half of last year based on continued improvement in working capital performance.
This allowed us to continue to reduce debt paying off $45 million about in the quarter slightly more than last year, keeping us on track for full year debt Paydown plant.
Regarding our outlook based on what we know today and the planning assumptions that Jim laid out earlier, we anticipate revenue to be down 5% to 10% year on year and EBITDA to be between 95 and $105 million in the third quarter as disruption and recessionary forces are offset by continued decline in raw material costs lower SGN.
The restructuring related savings.
We expect cash flow to continue to be strong for the remainder of the year given the lower expected working capital requirements associated with reduced demand as well as higher anticipated raw material cost savings.
This is allowing us to maintain our target to pay down approximately $200 million of debt during 2020, keeping us well ahead of our original de leveraging plan laid out in late 2017 with $40 million to $50 million of debt Paydown expected in Q3.
Additionally, we can then you have more than adequate liquidity to meet any foreseeable needs. This includes a 400 million dollar revolving credit facility with a built an accordion feature that allows us to upsize the facility by $400 million if needed.
We also have ample room under our debt covenants using the most conservative scenarios.
With that I'll turn the call back over to Jim Owens for some closing comments.
Thanks, John.
Our strong performance through the first half of this year is a testament to the importance and diversity of adhesives in a world the agility of our team.
And the resilience of our margins and cash flows in recessionary environments.
Our nimbleness in a robust global operations have been crucial differentiators for H.B. Fuller during this crisis and they will continue to be sources of competitive advantage going forward.
We anticipated challenges and we responded to events quickly.
Activating alternate work in that range mints implementing health and safety protocols to ensure the protection of our employees in communities and reinforcing our supply chains.
Doing so we have been able to assure customer service and product deliveries, including considerable demand in the H.C. segment.
Customers know that H.B. Fuller delivers when they need us most.
And were stronger company today than we were six months ago with a better focus global coordination and lower cost to serve customers.
Our new organizational alignment has improved our ability to respond rapidly to end market conditions and.
And efficiencies from the new structure will deliver $35 million in SGN a expense savings.
We are driving additional productivity gains from the next phase of project.
This time to streamline operations, a better leverage our global factory and distribution network in supply chain.
We estimated an additional 20 to 30 million in cost savings from these projects along with approximately $25 million of inventory reduction.
This crisis has required us to work smarter and more creatively than ever before we've leveraged our technology investment to deliver extraordinary levels of collaboration with customers. During this period.
And we continue to invest in our future, including innovative sustainable adhesive solutions. It each of our segments that help reduce packaging and waste.
Reduced energy requirements in our customers end applications.
And improve daily life to highly engineered products.
Significant social health and economic challenges remain ahead of us.
H.B. Fuller is up to the task.
We have proven our ability in these extraordinary times to serve our customers outperform our competitors and deliver strong business results.
We remain committed to ensuring delivery of adhesives for goods that are essential in our world.
The taking actions to protect the health of our employees.
And to extending support to build our communities as we solve the world's infusion challenges.
This period of change provides continued opportunities to differentiate H.B. Fuller.
As the world's largest dedicated provider of adhesives, we are well positioned to continue creating significant value for our customers our shareholders and other stakeholders by solving the world's adhesion challenges better and faster than our competitors.
That concludes our prepared remarks today operator, please open up the call. So we can take some questions.
We will now begin the question answer session.
Ask your question in their press Star then one on your Touchtone phone. So you are using speakerphone. Please pick up your handset before passing the key.
At this time, we'll pause momentarily to assemble our roster and remember if you'd like to withdraw your question. It as Star then too.
Okay. The first question is.
Sorry can you go the first question operator, yes, our first question will come from Ghansham Punjabi with Baird. Please go ahead.
Thank you good morning, everybody, hoping each abuse doing well.
Good morning, guys answer it will be done well too. Thanks. Thank you. Thank you. So I guess first off you know maybe you could just quantify for us organic sales as a quarter unfolded in Twoq you.
And just give us a sense of what the run rate is thus far in June on a year over year basis would you be willing to do that.
Yeah, I don't think were given that level of detail.
By month, but but I would be very clear with your ghansham that we started off because the shutdown habit in may that that of things weekend Im sorry. It started in March.
Outside of China of course, the generally speaking things weakened in March.
April got worse may was the weakest quarter, but we saw and we've set up a set of weekly metric. So we're studying this on a week by week basis in each one of our businesses and certainly as we added ended may and went into June we saw a turn in demand overall for the company is that.
Pointed out in the prepared comments.
This is a cycle that's happening around the world certainly China's two months ahead of what we see in the U.S. and and as I pointed out China strengthened all throughout the quarter. So so the comments I was just make and we're really predominantly related to.
To North America in Europe.
And then places like Latin American the Middle East they saw little different curve and they were definitely a month on month and a half behind what we saw.
In the rest of the world, but we gave that range of 5% to 10% for next quarter and that's very much based on a lot of visibility into this month, which were four weeks into.
Today. So I think you can imagine where we might be as a result of that but we don't typically give out weekly or monthly sales. So hopefully that gives you enough color, though ghansham, yes. That's very helpful. Thanks, So much and then just based just on that.
I guess I'm curious as to why why wouldn't EBITDA for threeq would be better than into Q on an absolute basis. I mean, I know you know HST agencies moderating a little bit, but there should be some that mix benefit just given.
The recovery in the a.
Restructuring savings you know you talked about lower raw material costs being lower I know, there's a little bit of seasonality threeq versus twoq, but are there any other negative offsets we should consider.
Yes, I think the biggest issue is the seasonality as you pointed out so we're we're trying to look.
More year over year, and and certainly the year over year results are getting better every single week and we see that happening through this quarter the mix is going to be.
Going to be.
Definitely more positive for us, but we are having a little bit the H.C. moderation that I mentioned right. So HFC wasn't as strong ending the quarter I think there was a little bit inventory build so it's a cheap probably won't be up 7% as we have as we look at Q3. So so I think it's that mix that plays out in that.
Range and.
But John maybe you want to add a little something on the EBITDA.
Yes, I think you had all the key items other than last year, and I was probably a little bit lower than then we'll be in Q2 than it will be in Q3 does travel is down dramatically. We do have some variable comp true up that happens in Q2, So I think I've seen it will be slightly higher in Q3 than Q2.
So just to just to clarify would decremental margin threeq, you year over year be better or worse than what you delivered into Q.
Margins should be better in Q.
Q3 than Q2 gross profit margins and you have a da margins should be similar.
Thanks, so much I'll turn it over.
Okay.
Thanks, guys.
Our next question will come from some Anderson with Stifel. Please go ahead.
Good morning, and nice job on the quarter.
<unk> expenses.
I was hoping you could I know you said you're going to discuss in more detail next quarter, but just a quick clarification on your comments about site optimization in your increased cost saving targets is this more about shifting production locations to optimize logistics or is there potential first exiting some assets and maybe even potentially some low.
Our margin product lines.
Yeah, Yeah, there's really three elements to the plan. The first is productivity improvements, especially in some key plants. So no I think theres, some some learning and and fundamentals around Oh, we downtime and productivity enhancements, that's only going to save us money, but improved capacity, which helps us from a capital standpoint. This.
Second piece is an asset consolidations, so some of that might be plant closures and some of it might be consolidated production lot production or product lines to certain facilities. So so that's the second part of it.
And then the third is a our us an LP planning certainly, though the move toward more of our facilities on Sep and just some of the tools around us and LP are things that we think we can leverage they're going to create a level of savings, but also help on on.
Unleash some of that working capital that that we see as an opportunity for us. So so it's all three buckets and obviously the first one will come sooner than the second one in terms of timing, but but we're definitely looking at all through.
Thats helpful. Thank you.
And then just if we can maybe get a little bit more detail on the improvement in construction margins.
Just.
If you're willing to parse out some of the more sustainable savings from cost outs and new product mix up the ones you exit in 2019.
This is the raw material benefits and maybe some of the natural as Junaid declines related so the lock down just in terms of what you think is is very easily sustainable and a recovery versus what was a bit more counter cyclical.
So maybe I'll try and give a high level and John can put some some numbers to it I think the biggest fundamental change and we talked about a lot last year as we were doing it is a shift in our portfolio. So what we saw in our construction business was was a a business that had a real opportunity to focus on where.
The big innovation was and where the growth opportunities, where and we do that through a series of strategic moves last year that affected our topline a bit but really made us a stronger healthier business you saw that and the results in Q1 organic growth was up as where the margins in Q1 and and we're seeing it again this.
Quarter, even though we're not getting the organic growth and its fundamentally we're a company that has really great innovations that helps contractures and people in the construction industry.
Do better highly specified jobs faster so.
So that was the big enabler and it really mostly was around how we focused on the real growth opportunities and I think that's changed our growth profile to what bars and the team are doing is is finding those areas, where we can create value in the market, making those happen. So so.
I think well was negative organic growth, we did some really nice things in that business to do the numbers, we did and that's because of these innovations that we're putting so it's mostly around that there was some SGN a savings related to both the restructuring.
And just.
As John said TNT activity, but it was it was more a mix in portfolio as far as raw materials that business has less of the petrochemical impacts would definitely had some raw material impact, but no more than the other businesses and maybe even a little less than the other two businesses in terms of raw material impact John you want to add anything there.
No I think the points emitter earn exactly right I do think theres, a little bit of probably a more pronounced mix favorable member mix impacting Q2, I think flooring, which is a little bit lower margin business was.
Not as strong as roofing and and then some of this last January timing that I talked about generally so I think.
The margins that were seeing are the ones that we think weekly we can have long term.
Maybe not every quarter, but but I think long term. That's this is the range.
That we would think about for this business.
That's very helpful. Thanks.
Our next question will come from Jeff.
Hello, Skus with JP Morgan please.
Please go ahead.
Thanks very much.
Good morning, Jeff Hi, good morning.
I think your revenues will grow sequentially on an organic basis.
Sequentially on an organic basis, yes, that's enough. So yes. So I think we said the range is five to 10 this quarter and and there is some currency negativity in there Jeff So yes.
So.
I would say there there will be I think the range, we gave it'd be pretty similar but we will have a little less.
But I think given currency, it'll probably be slightly better from a organic standpoint.
Right.
You talked about knocking out 25, middle east and inventory costs.
But but I was wondering from what base in that Youre inventories were 388, which were up year over year, even though your organic sales were down seven so like on a more normal basis trigger inventories have been I don't know 355, and so your goal was to get.
320.
Yes.
Yeah, I'd say, it's off of a more normalized basis. It's the way we set the targets Jeff was we we built in understanding of what we thought the year was gonna progress and and then how we were going to improve off of what would have been an improved normalized level of performance. So.
So I think you're right our inventories this quarter.
Weren't at our normalized levels as we slowed down plants, and especially at EEI tried to pull back to normalized levels, but but yeah. It's off a normalized level not off of the Q2 level that'd be the way to think of it now.
Do you think that it will be hard to grow in the hygiene business in the next fiscal year because of the.
I guess the unusual purchasing patterns this year or do you think next year you can grow your hygiene business off whatever level you were.
Two fiscal 2020.
Yeah, I think we'll have a continued strong performance is the underlying performance that business has always been good I think it gets more exposure in the H.C. world because it was it was buried in three regions, but we have a very strong team in hygiene, Jeff and.
A lot of the growth in that business continues to be in emerging and developing markets. Its a.
It's a real opportunity that that we've positioned ourselves well I.
I think right now there is decreased demand in places like Latin America, India Middle East, there's real demand destruction right. So in countries like this there is some some increases but in other places there's there's people on a full pivotal for some of these basic necessities and.
But but fundamentally our team is very strong we've got a winning value proposition and.
I think you'll see.
In that business in particular, I think you'll see.
Not double digit performance, but I think you'll see.
Good organic growth based on that the team we have.
Well, we trust materials have moves down for you that have been important.
Yes, so it's a it's pretty broad based Jeff you know I think is you know at 87% of our materials are our specialty materials. So 13% are our commodity materials think of that as solvents MDR by vinyl acetate monomer and these things move.
They are pretty volatile right. So those moved as oil prices moved down the other 87% is really demand driven.
Supply demand are driven and and this kind of environment. There's a lot of pressure on those materials through alternative materials. So it's it's pretty broad based across the whole field of petrochemicals.
With some of the commodity materials going down faster and bouncing up to a more normalized level, John you want to add any color there.
I think you covered nothing it is very lumpy.
And then lastly, what are your largest capital projects this year.
Yes so.
We had.
We are building capabilities in.
In China around certain specialty materials, both in electronics and other materials. So some of them. We had told in the past some of them we.
We see as big growth areas. So we've got an expansion of our Yankee anti facility.
And then the second large is a in the middle East.
Our demand a lot of it comes out of our facility in Egypt, which we had bought back in 2009 I think so it's an aging facility. So so we'll relocating and expanding our footprint in Egypt. So those those are the two largest but as you know our business jet. There's you know it's it's a lot of small projects that add up to our spend so it's it's a million here.
Sure. It's 200000 here, it's 500, but those would be the two largest investments.
Okay, great. Thanks, so much Jim for all those answers.
Thanks, Jeff Thanks for the interest.
Our next question will come from Mike Harrison with Seaport Global Securities. Please go ahead.
Hi, good morning.
Good morning, Mike.
Hi, Jim can you talk a little bit about what you're seeing in terms of pricing typically in a deflationary environment you would be passing some of these lower raw material costs back to customers.
But I think you've also seen some expansion in areas, where you're serving more specified applications have more specified specialized adhesives.
Im guessing that the pricing there can be a little bit stickier. So what are you seeing in this current environment.
Yeah, No up I think you've you understand our business pretty well, Mike. So you know we have about 15% to 20% of our business. That's on some sort of an index and up and that moves up and down as raw materials move up and down and then the other 80%.
Is.
This negotiated pricing and and especially in those highly specified areas.
We don't see a lot of price movement in those areas.
And I would say generally in this environment supply assurance is what customers are looking for we're providing a lot of that in the market.
I mentioned in the comments, our team's done an outstanding job of making certain that every need whether it was a surge need or specialty need or or a new opportunity.
In some markets products that used to be made in China got insourced for for things like gallons or surgical masks and and our team was able to respond quickly to those so so I think around the business that supply short answer is really what people are looking for but but yeah generally not a lot of price pressure at this point.
Alright, and then within the H.C. business I think I was a little bit surprised that given the strength of volume.
That margin wasn't up a little bit more there given that volume strength, given some raw material tailwind as well as the restructuring savings so was mix a drag in there or what other factors. If we keep in mind when we look at the margin performance should you choose to see.
Yes, so it was pretty good margin performance, Jeff I'm, sorry, Mike, but but you know I agree with you more would've been better and a and I'll share your comments with the team there, but maybe John can give you some specifics because we do have a couple of specifics on there as to what's behind it.
Yes. It is it's primarily mix Mike just the within the quarter of a mix of bus sales was.
Toward slightly lower margin products and some timing on costs too. So I think you're going to see that margin improve over the rest of the yeah.
All right and then last question for me as you mentioned that mix or in general So the company.
Drag a little bit on gross margin.
This is primarily the engineering adhesives weakness and more of a segment level mix impact.
You mentioned, obviously, what's going on in any J.C., but what are some of the other mix factors that we need to keep in mind that played out in the quarter.
Yes, certainly the biggest one was a engineering adhesives versus H.C. So.
I think we also have some some pretty high margin businesses and construction that were off as well. So so I think we did have when you look at a margin that was it was very strong for the core that's with that negative mix playing into the factors and and I think thats. The biggest piece of it John anything you want to add on that.
Exactly right I mean, there's a little bit of intra segment mix impact, but the biggest one is lower revenue in CA and yet.
Senator total.
All right thanks very much.
Thank you Mike.
Our next question will come from Eric Petrie with a view Cts will you Scott.
Hey, good morning, German John.
Good morning, how are you there.
Yeah good.
So you have manufacturing sites in China I was just curious can you talk little bit about the split between consumption domestically and and product that's for exports and how those two categories are are faring.
Yes.
Yeah, absolutely there's a difference right. So as you know our business is made around the world in country for country and most of our China business is is produced and and and consumed in China. So.
So that part of the business that was domestically driven whether its hygiene packaging products that are used in the durable or engineering area by Chinese consumers.
Was strong we saw a bounce back in some of those areas and and real solid demand and up the business environment and in many ways. The life environment in China is back to a new normal that's very robust and and where we did see weakness was in some areas that.
That are that are export related so.
Great example, where we saw strong performance, especially the second half of the quarter was Chinese autos for China were relatively strong hygiene business relatively strong, but if we had a customer who made products in China that they shipped around the world.
Those those were a little slower so that will be just a high level you know the I'd say again no across the company. The performance that we're seeing I think was was really exceptional so I'm not sure China's manufacturing environment. If you took the last quarter was performed as well as we did.
But our teams done a great job of being first and fastest I think this whole strategy, we employed to keep employee safe educate them on what needed to happen give them a sense of comfort, but also focus on customers and how we were going to do things differently played out in China, as well and that team's doing an outstanding job of of seat finding.
Opportunities and seizing them in this environment and a that entrepreneurial spirit I think held it.
The numbers as well.
Okay, and just a follow up do you think the mix is like 70, 30 or more or less Matt just trying to get a tag for.
How do you have for like 1% growth rate.
Yeah, I mean, I'd I'd I'd be guessing, but I'd say, it's more than 70%.
China for China, So, whether it's 80 or 90 or higher but it's not 100% it's not 70 so.
Big 85, or 90, I guess, if you want to model.
Okay helpful.
Within construction at Houston, how much is tied to the retail channel lows Menards and now were those volumes.
Yeah. So most of it is a contractor business for us. So you know we don't specifically say how much we doing with each of those customers, but I think you want to think of our businesses as predominantly a contractor business with the let me try and put a ballpark number on it I'd say a less than 10%.
So in two of the overall business going through those those retail channels.
John is that sound right to you.
Yes, I think that sounds exactly right.
Yep.
Okay, and then lastly, a question maybe for John how much more raw material down on a percentage basis into Q1, and what are you expecting for second half.
Right No Eric think they're down in sort of a 3% range kind of year on year and I would say that we would expect that to be slightly higher in the back half the or maybe 4%.
Helpful. Thank you.
Thanks, Eric.
Our next question will come from David Begleiter Deutsche Bank. Please go ahead.
Hi, Thank you good morning.
Do you mentioned some share again and according to talk about.
Where they were maybe quantify the size and.
What drove those share gains.
Yeah, So I'd say they were up.
Thanks, Thanks for the question David yet there, they're very broad based on I think it's it's fundamentally driven by the.
The energy and the culture of collaboration I think a in a crisis environment a team that works collaboratively like ours and has to work in different ways really was able to get after opportunities and impressive ways. So you know some of them came because our supply chain was very reliable we did not let one customer down anywhere around the way.
World and when some people did have hiccups out there we were able to step up. So so that was some of the gains and some of those are going to stick with us.
We had five sales conference as a few weeks ago outlining various stories of how people were winning business in around the world using remote tools and it was really impressive to see how our team is is finding new opportunities and tackling those so so this is the sort of normal winning and losing a.
Business and it and it's pretty clear that our abilities to connect with corporate cost.
Accounts to connect with decision makers to run remote trials have enabled us to get a series of wins that.
Were very impressive in terms of when I look at our win loss ratio this quarter versus others. So so the second category was was just new wins of new technology.
We had a couple of competitors that are regional but sell products around the world and those customers those competitive struggled to source their products around the world either getting it out there or customers were a little concerned about getting product from halfway around the world affords the opportunity was in just new to the world opportunities I mentioned briefly.
Earlier.
In a couple of examples would be surgical gallons being produced in the U.S. that our team was able to jump on that is going to be an ongoing need. This is brought these are products that used to be made overseas.
We have a an interesting product it's a disinfectant that's been used in the past in our.
Infrastructure business when somebody had water damage well, it's a CDC EPA approved.
Product that we used as a prime or for adhesives, that's now turned into a product that because it kills corona virus that our team was able to leverage and exploit and again, we see ongoing demand there and then finally this.
First and fastest approach I mentioned in China, but we see it everywhere else. So so those are sort of the five categories. You know I I could give you a list of of 100 wins, but it's not like Theres one.
But when I looked across our 28 segments I was able to find wins in just about all of them, except automotive, which basically shut down and ER.
And even there I'm sure if I talk to the team that find something but it's pretty broad based.
Very impressive hey, Jim just like cost side I'm thinking about this latest cost action like if you take a step back and look at the Royal costs Angie the business realignment savings are now these a.
Global operations savings. This is this a last piece of the puzzle for four and if it is.
How should think about incremental margins as things normalize given <unk>.
Cost you removed from the higher portfolio.
Well.
I'll, let John try and quantify that number but.
Of course, there's never a last piece, there's always more to go after a more opportunities.
I think this operations pieces long term probably bigger than this 20 to 30 million, but I think we've defined it to half a dozen projects that we're going to get after and and deliver here in the next 2020 want essentially right little start in Q4.
But there's always more opportunities, but but I think the point is that you make at the end in your question is ARINC, we are really positioning ourselves such that our incremental margins are increasing so so as growth happens.
Anybody can predict whether it's going to happen. This year next year. The thereafter, we are in a really good position to leverage that down to the bottom line because of all the work we were doing we've done and we're doing on the cost side. So those incremental margins on a business that we've now created between the Royal acquisition the restructuring of what we didn't have the right.
Positioning of what we did in construction and an H.C. business. That's now changing his focus right with the health care business and there.
It's really giving us a very nice incremental margins when when growth happened. So yes, you're going to ship you have a number for that you want to share with David John or.
I think I would just right David you remember when we when we announced for Royal deal and we talked about synergies. We didnt have a very big number are associated with manufacturing right. I think our focus was done delivering procurement synergies as ginny synergies in them, making sure we integrated that business and kept running well and I think that served us very well.
Well, particularly in this period, but like we always knew that there was an opportunity to come back.
And find more manufacturing savings and so I don't know, what's the last but I think this is sort of the next logical step in terms of.
In terms of best the process with the Royal integration.
Very helpful. John I'm, just love to John just on working capital and remind us of your targets this year for working capital.
I guess source of cash.
So we I think what the way we've looked at it is we've looked at it sort of as a percentage of revenue. So we had a target to reduce working capital by 100 basis points as a percentage of revenue for the full year. So that'll be a little should be a little bit bigger number in terms of a source of cash given the fact that revenue will be lower but that's the way we've always thought about it so that way.
We're not targeted on a dollar.
We're adjusting that based on the revenue, though the company.
Thank you very much.
Thank you.
Again, if you'd like to ask your question and thus far have been one star then one last quick question.
Our next question will come from those more and more belly with two research. Please go ahead.
Thank you good morning, everyone. Good morning, Rosemary Harry.
I was wondering if you could give us a little more details as to how you are benefiting from all of your technology investments, which you know give you knew you wage quoting you new ways to cultivate customers.
Can you shed some more details on that.
Yeah, you know they fall into a number of of different buckets, Rosemary <unk> Rosemarie you know the we set up a while ago remote customer service center, so that people could work remotely and serve our customers in case of any kinds of emergencies.
Of course this was the huge dynamic that happens so having that competency immediately allowed us from a supply chain standpoint to to get to get the work done.
With respect to a two customers we invested in a technology called Google glass that enabled us to visually have our technology experts see what the customer seeing on their line. So lot of times in our business that the nuance of where the adhesive is right at that point of contact is really.
Important so that's why somebody halfway around the world to see that so so we invested in this technology, so that we'd be able to to get the eyes of the experts right on the line, we certainly leverage that technology during this.
I think one of the things that that was really helpful for us Rosemary as is.
Our ability to use webex and other.
Video conferencing tools. This has been a normal part of life at full or because we're such a global coordinated business. So so that technology is one that we didnt just use we had perfected how to use it and how to collaborate on it. So so it was very natural for our team to not only do it but.
But also then start sharing it with customers will you know we train numbers of customers on ways to collaborate with us during this process that drove different levels.
And then finally and I think the.
The collaboration information sharing tools that we have are ones that we we embedded in our systems and leverage so.
So you know those are the four categories, there's more specifics in there but video is very powerful Google glass was very powerful for customers and then importantly, this this culture that we have of collaboration.
Enable I think those tools.
Okay. Thanks, all well and then I was wondering so you'll have been gaining share right. Because you are able to supply your customers better than some of your smaller.
I competitors.
So when the economy, we tends to normal whatever than you normally thing to me.
Do you think that you could lose those who are you paulson itself.
The small competitors decides to know a price in order to gaining back.
You know Rosemary I I think this is a fundamental shift and then how people are working and we are really well positioned to take advantage of it and we're proud of the results this quarter, but what I'm. Most proud of is how we positioned ourselves from a growth and leveraging these wins into the future. So.
This new way of working is changing at our customers, it's changing in the market and and we are very focused not just on delivering great results in Q3 or during this pandemic, but how do we transform how we are better out there in the market using remote technical service using remote tools combined with face to face.
Tool. So the short answer is no Rosemary I don't really feel this is a threat I think this is just the beginning of of leveraging what we've done and what we've learned.
I'm really excited about it that how we're managing through this but also how exchange in our company to be up to be more capable in more aggressive.
All right that is very helpful. Thanks, and then one last question if I may.
You had given you know 2020 targets for H.C. launching of 18% construction 20, and engineer and he sees 22%. So I realize that this has been pushed out to.
Do you think that you can achieve those by year end 2021, or do you need a an extra yeah in order to gets to those targets or maybe more.
Yeah, No I think we'd laid those out as long term targets Rosemary without a specific date on them, but but I think when it comes to 2021.
We are doing the planning right now for 2021, we've laid out for scenarios in terms of what could happen out there in all of those scenarios. We are should we see ourselves being stronger than we were in 2019.
And we have a lot of levers to get there you know if the world picks up we've got some good growth opportunities and you know if for whatever reason things are our AR or in a negative kind of world next year as well.
I think we got the levers to pull to help us deliver the results. We are so so were mapping out multiple scenarios. We're monitoring the world just as we did this quarter. We're now looking out at 2021, and making certain that that we deliver what our shareholders expect which is which is growth on the bottom line.
Alright, thanks very much.
Thanks Rosemarie.
Operator or any other questions.
Yes.
We have to repeat questions, Mike and Benson, but we have a new question from Paretosh Misra with Berenberg. Please go ahead.
Hi.
Thanks, Good morning Joanne.
I'm, sorry, Rosemarie I think care earphone might still be on can you. Please.
Good good parachute, Okay, I started guys I actually joined a little bit late but Oh, just curious what are you seeing in your electronics and textile snatched I I think electronics were up double digit in Q1, so how do they do in Q2 and not what are your expectation for the second half.
Yeah. So as as you know most of our wins in electronics are driven by share gains that we've got a great team that's in innovating and part of part of new businesses. So we're optimistic about what we're going to see in the second half.
You know I think the business is picking up as we exit the quarter here and go into the second half, but more importantly, some of our wins in new products will kick in so.
So we're pretty optimistic about that technical textiles part of that is the the gowns and other things that are happening underlying it.
But part of it is just a new trends in textiles that instead of single laminations or materials Theres multi lamination. So so those two factors are driving our growth there, but we see a.
We see good performance in both of those businesses as we go forward.
Okay, and then now on the automotive business within engineering adhesives, So auto sales in China had been a pretty good last couple of months. So just wondering how you're thinking about at the second half. We think it's sustainable you hearing about some promotional deals announced by companies to increase sales. So.
The second haven't done it should be pretty good, but just wondering if you're hearing and seeing that too.
Yeah, we see our customers up in fact, I think I mentioned briefly our revenue in auto in China was actually up in Q2. So that shows the pipeline filling that is going on there is people are producing vehicles as well as some of our our share gains there and that's dramatically different than what we see with the automakers in Europe and North America.
Got it and then the last quick one I did you quantify the sequential impact from raw materials.
How much benefit you're expecting in Q3 versus Q2.
Yeah, I know that was kind of specific not go John Yeah. Yeah. I think are what we had said per class a too early question I think you know raw materials, probably down about 3% in Q2 year on year, we expect lead down.
Like 4% on the back out from here.
Got it that's helpful. Thanks, guys, that's all that.
Thanks, Patrick.
Our next question will come from Mike Harrison with Seaport Global Securities. Please go ahead.
Hi, just a quick follow up but the new energy business.
If I look at slide 10, and your expected near term impacts you had expected that business to be down significantly.
And I believe that you said that it was actually up.
And and sounds like an improved pretty dramatically versus your expectation. So so what happened in Q2 to drive that and what is your expectation for that business in Q3.
Yeah, It's a combination to two things one again the supply assurance issue our team did a great job of meeting demand in that market as they came back quicker than people expected you know I think is there's a a rebate.
One of economic activity in China, one of the areas, where there are some focus is in the solar space. So so solar came back certainly differently than we expected and Fortunately we were able to respond. So we got more benefit probably than the market as a result going forward.
We see that we see it doesn't certainly stabilizing being positive, but not as dramatically positive as was in Q2.
Alright, thanks very much.
Thank you.
My last question, so that will come from Benson Anderson with Stifel. Please go ahead.
Hi, Thanks for Humoring me just one one more brought kind of broader question you know how should we think about the timing of any recovery that we observe out there.
Flowing through your sales compared to maybe more normal past cycles, just with regards to higher customers are managing inventories right now.
Yeah. So it varies by segment Vincent as wed say, but it's not a huge impact you know people don't drive their inventories off of how much adhesive. They hold so you know, we're probably muted versus any other industry impact.
But you know fundamentally I think the best indicator is what happens with manufacturing activity overall, and then segment by segment you know what you see an auto is a great example, right. So auto sales of ramping up in China. Our sales are ramping up as you start seeing auto sales in the U.S. ramp up.
Almost immediately you know sounds like there's a lot of inventory these caution around you'll you'll see the impact on our than our business. So so not a huge lag.
What happened in H.C. this quarter wasn't exception.
Because of the surge in demand and just you know real need for people to get on top of this but we usually don't see a big inventory sway based on activity in the market.
Alright, thank you.
Thank you.
So no mark no more no more questions. Operator, that's had right. Yes. This will conclude our question answer session I'd like to turn the conference back over to Jim Owens for any closing remarks, and thanks, everyone for your time and attention today. We're we appreciate your support certainly very proud of the results of.
Our team, but most importantly, what we're building for the future. Please keep yourselves and your family safe as as we are doing as a top priority with our employees and again. Thanks for your interest in H.B. Fuller.
The conference has now concluded. Thank you for attending today's presentation you may now disconnect.
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