Q3 2020 Armstrong Flooring Inc Earnings Call
[music].
Greetings welcome to Armstrong flooring incorporated third quarter 2020 earnings call.
At this time all participants are in listen only mode. A question and answer session will follow the formal presentation.
Once you require operator since this during the conference. Please press star zero on your telephone keypad.
Please note this conference is being recorded.
I'll now turn the conference over to your host Greg Winter interim Chief Financial Officer.
You may begin.
Thank you for joining us today for Armstrong flooring, <unk> third quarter 2020 earnings conference call.
Im joined by our President and CEO Michelle from that.
In addition to the earnings press release issued today, a copy of the slide presentation to accompany this call is available on the investors section of our website at Www Dot Armstrong flooring dotcom.
During this call we will be making forward looking statements that involve risks and uncertainties.
Actual outcomes may differ materially from those expected or implied.
For a more detailed discussion of the risks and uncertainties that may affect Armstrong flooring. Please review our SEC filings.
Forward looking statements speak only as of the date they were made and we undertake no obligation to update any forward looking statements beyond what is required by applicable security laws.
In addition, our discussion of operating performance will include non-GAAP financial measures within the meaning of FCC regulation G.
A reconciliation of these measures to the most directly comparable GAAP measures is included in the press release.
I'll now turn the call overcome Michelle beginning on slide three.
Thank you, Greg and good morning to everyone on the line.
Our team remains focused on executing our multiyear transformation to monetize our operations and become a leaner faster growing and more profitable company.
During the quarter, we made great progress across many initiatives.
Our results were largely in line with our expectation and <unk>.
In which were produced sequential top line improvement compared to the second quarter of 2020, primarily from stronger trends in residential end markets that have outpaced a slow recovery in commercial activity within the U.S.
In addition results from our international operations have improved sequentially, primarily in China.
We were pleased that our residential business grew in the third quarter led by strong demand at home centers and supported by the actions we have taken and our go to market approach and refine customer centric operating model.
Additionally record low interest rates.
D urbanization trends have fueled growth in new residential construction.
An area, where we are working to deepen our presence through increased targeting of single and multifamily builders.
Home sales have generally continue to operate a real robust pace.
Offsetting lower activity at some independent customer retail locations.
As evidenced by recent data from the architectural billing index comer.
Commercial activity is choppy in nearly every sector in geography.
On the commercial retail side, some customers projects have been postponed as they reassess the man or floor plans.
This dynamic is also evident at larger institutions.
For example in the education sector. Many operators are focused solely on reinventing their own operating model to adapt to evolving policy with less time to spend all the planning remodeling projects.
We are noticing the same trend with hospitals.
We're cautious on starting major renovation projects as they do not want to have any capacity limitations whatsoever in this environment.
These are just a few example, what has been an overall softer commercial demand environment as the pandemic has progressed.
Looking ahead, we expect residential activity to continue its recovery at a strong pace, while commercial demand will likely be pushed out.
I will also note that we experience benefits from several commercial rollouts in the fourth quarter of last year.
Which will not reoccur in the fourth quarter of 2020.
Furthermore.
Inconsistent state and local government orders related to COVID-19 have resulted in and we'll continue to have very impacts on Armstrong flooring in some of our customers.
Despite these complex market dynamics I'm extremely proud of our team's progress and efforts to execute the projects as part of our business transformation.
With greater access to capital following our debt recapitalization in June.
We've been able to ramp up more of our planned as she and investments.
We are focusing on the factors they are in our control and.
And the disciplined execution of our strategy is already leading to some benefits that set the foundation for our long term transformation.
I'm strong flooring is listening more intently to its customers and becoming more competitive both in product quality service and the overall presentation of our products in the marketplace.
The positive feedback from customers is translating into a stronger desire to work with us.
This is opening new doors for company on many fronts.
I will build on this as we turn to slide four to discuss more details on our business transformation.
As a reminder, our strategy encompasses three critical objectives that include expanding customer reach.
Simplifying products offering in operations and strengthening our core capabilities.
We're expanding our reach with customers in the third quarter, we added resources to our commercial national account sales team and our residential sales team with an ink.
With an increased focus on targeting home center business.
In addition, we continued growing in the number of our sample displays and other sales initiative with the National Florida lives.
To quantify that at the end of September we already have increase our displays over 85% compared to the end the first quarter.
On top of these sales efforts. We are pleased to have recently announced the appointment of our new head of hospitality sales. This is a completely untapped vertical for 85 that were part.
We're pursuing from a long term perspective in an area, where we do not have immaterial presence historically.
And most importantly, we already produced the Reston refuge line, a flooring that will be provided to that vertical.
As more hospitality providers see early signs of demand, we expect them to start monetizing their properties. So they can be more competitive when demand returns to more normal levels.
Expanding our presence into more verticals is a significant area of future upside.
These collective actions represent major steps forward in our go to market capabilities that we expect to better utilize our capacity as time progresses.
In regards to simplifying our business, we have undertaken several initiatives to simplify our product portfolio.
Optimize inventory and improve operational efficiency.
Last quarter, we discussed the relocation of our corporate headquarters, which.
Which will become effective in the summer of 2021 with.
With estimated annual lease savings of approximately 60%.
In the third quarter, we started upgrading our plant lines and Kankakee, Illinois to improve the throughput and scale to service new products from that line going forward.
This is in part to manage the transition of production from our South gate facility as we look to monetize that asset.
In addition, we continue to reduce our mix of underperforming S.K. use and we have put several initiatives in place to optimize our inventory levels.
We have also implemented various initiatives to remove certain bottlenecks out of our manufacturing processes.
Which are already leading to improved productivity across some of our pipelines.
These simplification exercises are leading to strengthen service capabilities with customers, which is the third pillar of our business transformation.
With improved organization and movement of our inventory comes greater opportunities to better service our customers.
On this front, we have recently introduced a new quick ship program, which has allowed us to take advantage of some quick service opportunities for our distributor partners.
Project timelines continued to contract, particularly on the commercial side.
Making agility and speed from manufacturers increasingly important.
A quick ship program is one more way, we will be able to accommodate these accelerated timelines.
Innovation remains an important part of our goal to strengthen our capabilities with customers.
We continue to invest in innovative product offerings with the attention to manufacture more of our Lv tea and our facilities in the U.S.
As we get more intently to customers.
Our service is getting better and.
And feedback from customers is improving.
We are increasingly being perceived by the marketplace as a more customer centric company, which is also helping us attract great new talent.
We recently appointed our first VP of logistics, it will help us enhance our interactions with customers by aligning our capabilities with their expectations.
Working through business transformation during a global pandemic is not easy task.
But we are pleased with our progress considering the circumstances of these unique times.
We're focusing on the factors, we can control and we.
And we will continue to manage through any changes in demand or in the marketplace.
With all that said I would like to reiterate the important point, we have stayed in prior calls.
Our operating results in the short term, we will continue to be pressured by incremental expenses necessary to execute our business transformation initiatives.
We are making significant progress in executing our strategy in this complex environment, but.
But we are still in the early stages.
Having now been CEO of Armstrong flooring for just over a year I'm more confident than ever in the immense upside potential of our company.
Earlier this week, we announced an important update to our leadership team with the hiring of Amy frozen asking to the <unk>.
To the position of Chief Financial Officer.
We're pleased to welcome Amy well rounded financial expertise.
A fresh perspective to our executive team.
As we continue to execute on our business transformation <unk>.
A proven record of building work class Finance organization makes her a great fit for Armstrong flooring.
I look forward to working closely with Amy as we further advanced our company's transformation.
Before I turn the call over to Greg.
I would like to thank him for his service and dedication to help us build value during his tenure with us as interim CFO.
Equally appreciate his assistance with advising Amy in a consulting capacity to ensure a smooth transition.
I will now turn the call to Greg to provide additional updates on our financial performance and liquidity.
Thank you Michelle one of my key initiatives as interim CFO, what's to help hire exceptional operator for the permanent CFO position.
I could not be more excited with Amy and I look forward to assisting her during this transition period.
Now I'll provide a review of our third quarter financial results on slide six.
As Michelle mentioned, our results were in line with our expectation, including a sequential increase in sales.
On a year on year basis revenues were $156.6 million compared to 165.6 million in the prior year quarter.
Increased activity at home centers and other residential channel helped to partially offset COVID-19 related business disruption.
Mainly the postponement of certain commercial projects and slower activity at many of our independent customer retail location.
Adjusted EBITDA was 2.8 million in the third quarter of 2020.
Favorable product mix amounted to a roughly $3 million EBITDA benefit, which offset half of the 6 million dollar impact lower volume.
Adjusted EBITDA was approximately $6 million of incremental SGN, a resulting primarily from transition service agreement income in the prior year quarter, which did not reoccur.
Well planned growth investments to support our business transformation.
Improvements in manufacturing productivity and lower input cost contributed positively impacts of approximately $2 million and $1 million respectively.
As a reminder, we enter 2020 with Ftn, a headwind totaling $20 million as a result of benefits incurred in 2019 from income related to the transition service agreements with the buyer of our wood flooring business with approximately 4 million of that in the third.
Quarter of 2019.
We expect a similar sq an impact of approximately $4 million in the fourth quarter of 2020.
Looking at our cash flow on slide seven during third quarter of 2020, we spent $4 million in capex spending really.
Spending related to manufacturing consolidation.
Maintenance and safety and other key initiatives to support long term growth as part of our business transformation.
Operating cash usage was $9 million during the third quarter of 2020.
As we mentioned last quarter, we don't expect the remainder of the year to follow normal cash flow patterns and.
And we have implemented numerous measures to preserve cash as necessary.
Cash flow will continue to reflect incremental cap ex to execute our business transformation.
Additionally, we expect inventory levels to increase in the short term to support our new quick ship initiative as well as the transfer of production from our South Gate facility.
At September Thirtyth 2020, we had total liquidity of approximately $110 million increase.
Including cash of $22 million.
Availability under our credit facility.
We have no significant debt maturities until you're 2023.
Prior to the onset of pandemic, we began to assess monetization of non core assets, namely.
Namely, our Southgate facility and land portfolio.
As we indicated in our press release today.
Given our intention to sell Southgate, we have reclassified that property as an asset held for sale on our balance sheet.
Under the terms of our credit agreements $30 million of availability will be withheld under the credit facilities.
The what the withholding will begin upon the filing of our third quarter form 10-Q, and continue until we close on the sale Southgate.
Factoring in the $30 million could be withheld our available liquidity will be approximately $80 million.
We believe that we have ample financial resources to effectively execute our near and long term objectives.
Looking ahead, we will remain focused on additional actions to optimize our liquidity and cash as necessary.
I will now turn the call back to Michelle for closing remarks.
Thank you Greg.
In conclusion, I'm extremely proud of the Armstrong flooring team for their unwavering commitment to transform our business, while providing the best possible service to our customers.
Positive feedback from customers in regard to our service enhancement leaves us confident we're on the right path to improve our market positioning and sets the stage to ignite growth in the coming years.
Through our customer centric operating model, we will continue to approach opportunities with a returns oriented mindset, while keeping our focus on the three core areas that include expanding our reach within our addressable flooring market.
Simplifying our processes and strengthening our competitive positioning for long term success.
We look forward to updating you in the coming quarters as we make further progress on our business transformation.
Thank you again for joining us today.
Operator, please open the lines for questions.
And at this time, we'll be conducting a question and answer session. If you would like to ask your question. Please press star one on your telephone keypad, a confirmation tone will indicate your line is in the question queue.
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One moment, please while we poll for questions.
And our first question is from Brian be Rose from Thompson Research group.
Please proceed with your question.
Hey, good morning, Thank you for taking my questions.
Let us start and see if you could talk about the cadence of sales throughout the quarter.
I guess really going back thinking April was down 20% and Q2 was down I believe 18% so.
Wasn't better trends, there, but not super meaningfully and then it seems like things really picked up at the end of Q2 and into Q3. So I guess, just hadnt sales trend throughout Q3, and maybe into October if you have any insight.
Well I think the positive and thank you for joining the call I appreciate you being here so.
I won't give comments for per month, but I think overall, we're definitely the trends in Q3 were more bullish than Q2, and we expect that to continue in particular on the residential side or the home center, new construction and I would say even in a remodel or.
Commercial remains a challenge as we saw with the <unk> and the number of projects being listed so we expect continued improvement in residential overall and and with some challenges in commercial but I think the you know if the trend is positive overall.
And we expect continuous improvement in that area.
Okay, and it'll get segment out the the big box and home centers and just focusing on them for a minute.
Some of our contacts had mentioned that their sales into the big box stores were up even more than what the big box stores are reporting overall, so really robust sales there your commentary seem consistent with that theme, but I wanted to see if there is anything more to add on that and if you think those trends will continue into Q4.
Or if that might return to a more normal cadence going into the end of the year.
Well the feedback we're getting from the home centers as they remain bullish on on their outlook and let's face it they have a competitive advantage in this setting with their operations and their ability to go through so we expect a continued good results in the home centers in that area and we expect that to be a bright spot definitely for the business. So.
Oh, I think there there will be continued momentum there as people or what to remodel their home and and attend to projects that they've been the waiting for but yeah. We're we're bullish on the home center channel for sure.
Okay, that's good to hear.
And if I could switch to maybe that independent retail segment.
So your comment said slower activity I would have thought maybe we would have seen a little stronger demand once this reopened.
Yes can you talk about more about that slower activity and if that was due to maybe come big restrictions and maybe still some shutdowns on the actual.
Independent retailers or if that was more of a lack of demand.
Buyers.
India those retail stores I think it's very regional specific as you know, there's very different protocol safety protocols in different parts of the country. So definitely were states that are more open are definitely having good results actually some retailers are coming that.
They had their business with the pick up in Q3, they they expect actually some of them to be up for the year. So I think it's geography base, but from a national perspective, when you have some big States like New York, California, and others that represent a large demand of the remodel piece in particular.
And then have restrictions that definitely impacts the national average overall, so I think at the retail independent retail is better in Q3 than Q2, and depending what happens with this stimulus and new activity and depending what government position.
And we'll be on COVID-19 in the coming quarters I'm sure that will impact, but overall I think the the trend should be bullish in there just maybe take a little longer based on the different state richer restrictions for retailers.
Okay, but you are seeing some pockets of strong demand, but when you think you said when you go to the national level and you have some of those larger restrictions. It does dragged down the overall that's right. That's that's kind of have to put in context, that's that's well said hi honest.
Understood at least we're seeing some regional strength and then I guess on the kind of the reservoir and are in the specialty independent retailers.
I think on one of the previous calls.
It was mentioned that the.
The true test for activity in that segment might really be in this October November timeframe kind of once those backlogs from before start to roll off are there any early indications on that thought now that we're kind of almost through October and if there's any update to that thought.
I'm I'm bullish on the on the independent retailer as they improve and stabilize I think Peter your point.
So right now everybody is trying to work through their backlog, it's hard to get qualified labor labor is probably the biggest limitation industry talking to.
Residential remodel contractors and so they are working hard to execute now also with build are being so strong in certain areas everybody's competing for some of the same resources, depending on the marketplace. So I think.
I think residential as said both in new construction or remodel.
Should be a bright spot for the rest of this year and.
Next year.
Got it.
A few more questions, but ill jump back in the queue for anyone else on the call I appreciate that thank you.
And our first question our next call.
Our next question is from Keith Hughes from choose please proceed with your question.
Thank you [noise] occur.
A question on product availability, you have you had issues or have any of your distributors have issues with just not having the right products due to the.
Surge in demand we've seen in residential any demand pushed to the fourth quarter and your comments on what you're seeing there would be helpful.
We've been pretty Lucky Keith and thank you for joining we have put a lot of effort improving our service and our metrics. So we actually had our best service in Q3 than probably had some time and that's the effort of us modernizing our processes and you know being in touch.
Being in touch with our customers. So we.
We've had actually pretty limited disruption. So there's some transportation challenges right now a trucking is a little more differ.
Difficult to get the base as demand picking up across the country, but and case and care for product availability. We are definitely moving the ball in the right way and I'm pretty bullish that that's how we're also changing our relationship with our customers. So.
We've done a really nice job there with the team to stay ahead of our customers and making product available and we've also increase our U.S. offering so probably allows us to be more nimble and.
More responsive than some others that the plot depending on long supply chain. So.
Okay second question within your residential product offering I'm going to say Adobe teacher, Your best Roche product.
But have you seen in the last six months has the.
Oh <unk> all the changes that have gone out with two of the tariff coming in the <unk>.
Gold demand, we see for consumers has it changed the trajectory of LPG growth at all.
Well, we're I think the.
I believe Lv team will still be a growth category for for this yeah. We were fortunate to grow our Lv teen Q3, which is definitely a pause.
Positive and I expect that to continue getting better in Q4 I think.
I think for the next three years, Keith I think we can see definitely high single digit low double digit growth in Lv TV for the next two three years you just see it taken share from the.
From the other categories, you see builder offerings changing in Lv Tejas has a competitive advantage due to maintenance and and sale now so it's still taking share from the other categories and I expect that to be a bright spot for us and in the industry.
That would be a deceleration in the last several years, but I guess well our horses covenant apply to a certain extent that's the math, but you know still as you know 10% to 12% of that cat or have a bigger base is still large numbers and opportunities for all of the point.
So so.
Oh, I guess final question.
The Tia say you referred to how long how long will that be in the numbers.
Greg do you want to take that one.
Well, let me just go through you will see another 4 million I believe Keith in the fourth quarter and then it's really turned off so that will be the last quarter that that will will have to compare to that so.
Okay all right. Thank you.
Thank you Keith.
And our next question is from Ken Zimmer with Keybanc capital markets. Please proceed with your question.
Good morning, gentlemen.
Good morning.
Morning being.
I, just I want to take a step back if we could.
Given obviously cove it is impacting the business, but there are structural issues and I just want to get kind of an update on the reference point.
Starting with you know how the industry the terror factor.
I believe about 30% of your businesses L.E. cheese kind of split commercial rates can you just talk about how.
You know tariffs what impact it is having in the U.S. market bike category and you know.
How much of that market is actually being impacted that's being imported versus your domestic.
Capacity, just like an understanding of how pricing is affecting things.
So on overall spread for the industry and believe the latest number I saw was about 85% is source and 15% is made in the U.S., even though there's capacity being added it's definitely not keeping up with the growth that we talked earlier there. So sources is still.
The the largest part by far.
The but I would say the sources of supply are expanding so to your point a China has is trying to supply chains have been impacted by tariffs but.
But ourselves and many others have basically diversified the supply chain in other countries, such as Vietnam, Korea, and others and so there is more supply from other locations and I would say many of the North American providers.
We're now sourcing a large part if not all from these other countries to avoid any unknowns to tear so definitely theres been some pricing actions too.
Recognize those impacts so it has impacted certain product lines have different manufacturers differently, depending where they are in that change in the supply chain.
Probably dampened some demand in the short term, but I think there's a reset there and as we all diversify that supply chain that only be better and that's also why we augmented our U.S. offering to be more competitive and not have to deal with that complexity for everybody. So.
I appreciate that would you say because of the de emphasis of sourcing from China, where the jobs are being impacted as that taken away some of the pricing power as you know.
What had been I assume a tailwind for price asks has been.
Has diminished or how is the industry responding to that.
As of the end market.
Well as you know the market is competitive right. So there's definitely been a lot of.
I think you got to keep the different products competitive with each other and when you're getting multiple sources of supply you have to be relevant to the marketplace. So.
I think pricing is going to be remain competitive and I think it will be the sole supplier gonna be rest less relevant there just some price points for key products that yeah. You just have to meet if you're going to compete so.
And I would say, it's fairly stable right now and we just got to stay relevant and bring up the right innovation to make it a there the other thing that's good but Lv Ti you see longer wider you see some trends also DCR products. They are actually helping the price point.
That were not as prevalent maybe 24 months ago and so that's also offsetting some of the overall category. So there's just some bearing looking higher end products that are out there versus just the two and a half mill.
Two and a half 12 mill products were six no products.
I understood. Thank you if I could switch gears, a little bit just for.
Business transformation, obviously can be very powerful for a company as you given your time so far at the company when you think about.
What the future will look like can you talk about S.K. you rationalization.
Which has got to be a big part of margin expansion in that you know any categories that aren't growing.
How do you how do you approach that I mean, there's there's many different ways right rationalization can be 80 20, you reduce your fixed fixed cost basis, you reduce your channel.
[laughter] concentration or how does that work I think about 75% of your sales are to distribution in the U.S., but how do you maximize.
What's your approach essentially to get these S.K. you cost down yet having a more effective in the end market just given you've been there for a year I. Appreciate it. Thank you for your time.
All right appreciate good very good question. So it's a we go product by category.
We start by simplification. So the company has a broad portfolio for for many years some of that was dated and some we need to revamp. So do you have an idea. So far we discontinued about a third of the ASCII is we have the same time last year some categories the mature categories such as.
VCTS and.
Residential sheet vinyl have had a lot more than others. We've actually invested in Lv 10, you see that our gross margin is trending up year over year and improving in that regard so and we have reset our footprint, we consolidate our residential sheet activities and to fulfill it.
To Lancaster, we our cans, we consolidate or you see T operation from South gate to both Jackson and can keep.
And we will do now the same thing for appeal and stick. So we reset the footprint to get higher utilization more simplified runs a higher margin product to your point a to go through so it's really done in a very surgical way category category. Some of this we're just getting the early benefits as of now to go through and.
Also I would say the feedback of the different products has been very very good across the business. So its a journey to turnaround the whole portfolio, but.
But you know just like look at overall business for that for the quarter. You know every product category is up other than our VCT category that has is dealing with challenges both in mass.
Mass retailers that don't want to disrupt for hospitals or or education as I mentioned, so it's definitely we're doing this and still growing the business in the other categories as we're changing our offering so I think that's only going to get better in the near future.
Thank you very much.
Well said.
And our next question is from Brian Bureaus with Thompson Research Group. Please proceed received.
A question.
Hey, can we just touch on the commercial market a little bit it sounds like health care and education have kind of had a wall now based on your comments after previously being bright spots.
I guess any more color there and then any comments on other end markets in commercial and whether things maybe are expected to bounce back.
In the first half at 2021, or maybe it's still too uncertain to call any thoughts on that as well as.
Well as you saw the abbey Ais a lot of people are looking at projects, but a lot of people are postponing. So you think of commercial the area. Some of the areas, where we have significant presence such as retail or education or hospital right. There probably retailers that are opened don't want to disrupt their operation.
Then we still have the same specs theyre, just making sure that they can operate freely they all want to disruption of contractors or work. So that demand is still there it will pick back up when there is some better outlook on the pandemic no. One thought this pandemic would be this lengthy when we went down.
That road or got impacted in that March April timeframe, and you look at schools I mean, they're they're reinventing their whole model with technology and processes and many of them don't have students in their buildings. So that their priorities are somewhere else right and actually hospitals, they want to keep their capacity.
Open for any changes so there's realities out there as we know hospitality. It's it's we really don't have any presence, but have work in that market for many years. Many operators are impacting their demand is significantly down in the whole of tourism industry.
And corporate many corporate offices in particular in major cities are still very limited and capacity. So everybody is kind of thinking.
Thinking through that I think the commercial market will be the the more challenging market for the coming 12 months and weve adjusted to that and but within that for a company like ours. There is lot of opportunities across that but I think for the industry. I think that's probably the biggest question forward. The 21 22020.
One demand.
And then last one from me kind of related to keys question about product availability.
She had heard some other flooring manufacturers have kind of had to play catch up once things are reopened in terms of restocking the retailer inventory.
I got to do that across multiple skews required shorter more frequent production runs that comes at the detriment of margins did that come into play and offer at high in the quarter.
I would say, we probably took some actions to increase our inventory in the right areas early based on feedback we got from customers.
There's always opportunities there and also that's also based on the feedback we're getting the industry. That's why we introduced our quick ship program and that's been a nice.
Oh success in that regard to get more demand so to your point the supply chains are more challenging and the patterns are a little bit different but we were fortunate.
Fortunate to to to have been focused on surface. Since I started in and itself. We took some bets and we're happy that and we were able to service our customers at a high level and we will continue to do so.
Okay. Thank you.
Thank you. Thank you for joining the call.
And we have reached the end of the question and answer session and I'll now turn the call over to Michelle demand for closing remarks.
Well. Thank you very much I appreciate everybody joining the call and look forward to talking to you next quarter as we continue progressing and improving our operations. So thank you very much.
And this concludes today's conference and you may disconnect. Your line at this time. Thank you for your participation.