Q3 2020 Quad/Graphics Inc Earnings Call
[noise] good morning, ladies and gentlemen, and welcome to <unk> third quarter 2020 conference call.
During today's call all participants will be in a listen only mode.
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A slide presentation will accompany today's webcast and participants are invited to follow along advancing the slides themselves.
To access the webcast follow the instructions posted in this morning's earnings release.
Alternatively, you can access the slide presentation on the Investor section of <unk> website under events in recent presentations link.
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At this time I'd like to turn the conference call over to Katy Krebsbach quiet Investor Relations lead Katy. Please go ahead.
Thank you operator, and good morning, everyone with me today are Joel Quadracci, Vice Chairman, President and Chief Executive Officer, and Dave Honan quite executive Vice President and Chief Financial Officer, Joel will lead off today's call with a business update and Dave will follow with a summary of quads third quarter.
Her 2020 financial results, followed by Q and a.
I would like to remind everyone that this call is being webcast and forward looking statements are subject to the safe Harbor provisions as outlined in our quarterly news release and in today's slide presentation on slide two quick.
<unk> financial results are prepared in accordance with generally accepted accounting principles. However, this presentation also contains non-GAAP financial measures, including adjusted EBITDA adjusted EBITDA margin free cash flow and debt leverage ratio. We have included in the slide presentation. Reconciliations of these non-GAAP financial measures to GAAP finding.
Actual measures finally, a replay of the call and the slide presentation will be available on the Investor section of Quad Dot com shortly after our call concludes today.
I'll now hand over the call to Joel.
Thank you Katie and good morning, everyone.
Despite significant volume declines due to the parent data.
Our third quarter performance was strong.
We continue to aggressively manage our cost structure pretty almost all cost is variable.
Same time, we continued to drive productivity improvements and protect the health of our balance sheet.
We also achieved higher profit margins for the quarter and on a year to date basis generated positive cash flow and continued to pay down debt.
We were also able to maintain our leading competitive position and grow signature providing stability for our clients. While we continued to drive our transformation strategy at a time of significant industry and economic disruption.
As outlined on slide three during the quarter, we continue to proactively manage through the impacts of the pandemic with a focus on maintaining the health and well being of our employees, providing high quality on time delivery for our clients.
And ensuring the long term financial health and stability of the company.
We remain committed to our safe work program, providing frequent employee communications at how to stay healthy both inside and outside of work. The number of confirmed cases that quad remains relatively low even during this fall's significant increase in cases countrywide.
It is not negatively impacted operations.
However, we continue to monitor the situation closely.
We also continued to take actions to protect the company long term financial health.
Well quite the mantra remains below last year's levels.
Volumes came in stronger than expected due to the economy reopening in some some segment share gains.
As we look to the future we continue to accelerate our transformation as a marketing solutions partner to drive new revenue sources outside of traditional front and at higher margins.
We are focused on the three key areas outlined on slide four.
Optimizer product portfolio to focus the company on the greatest revenue generating opportunities that are consistent with our quad 3.0 strategy.
Investing in talent and technology to drive new business and further expand our offerings.
And innovate new integrated solutions that help our clients simplify their executional requirements to deliver content and campaign more efficiently and effectively especially important at this time of ongoing disruption.
In terms of optimizing our portfolio on October 30, Onest, we completed the sale of our two remaining book manufacturing facilities to the Bertelsmann printing group U.S.A. J.
This completes the full divestiture of our book platform, which supports our goal to stay focused on the products and services that advance our cost three point on strategy and transformation as a marketing solutions partner.
We're very happy to have found good homes for our book quite employees and we thank them for all their hard work and wish them well.
We also continued to invest in our platform to strengthen our integrated marketing solutions offer.
This includes the addition of experienced talent from the marketing and technology industries, who are helping us expand into different market verticals and develop new products and services. For example, we just announced the launch of Q DMX, the quad direct marketing exchange.
This suite of solutions delivers 100% of personalized direct marketing campaigns at a fraction of the cost and with greater speed to market.
Qt Amex is a real game changer, not only for clients regularly use direct mail as a part of the marketing mix.
But also for clients, who have yet to harness the power of direct mail.
Throughout the pandemic, we've continued to grow print segment share. Thanks to our dependable on time performance operational financial stability and ongoing investments in our platform.
For example, we were just awarded another multiyear magazine publishing contract valued at more than $17 million. This multi title work begins in January we.
We also recently secured 100% of the print work for northern tool and equipment and its subsidiary the sportsmen Guy.
This multiyear contract concludes all catalogs direct mail and retail inserts as well as business process optimization services and use of our accelerated insights virtual testing platform.
This multimillion dollar contract builds on the work we already performed for northern tool, which includes photo video on page production as well as radio.
Radio creative and production.
We look forward to discussing the other ways in which we can help northern tool in behalf its business objectives, including brand strategy in store marketing and digital out of home advertising.
On slide six we show an example of how we've been able to expand our services and add value beyond print for a regional grocer with approximately 1100 stores.
For many years our engagement with this client included printing its weekly newspaper circular as well as direct mail. We have now expanded our relationship to include on on site client services.
Facilitate creative in campaign production media.
Media planning and placement for print and broadcast.
Radio creative at production and technology to promote their circular online.
We also conducted a media mix modeling study that showed the grocer, how could benefit by increasing its digital AD spend and as a result, we were just awarded all of their digital media. We are now the grocers sole agency of record for all print broadcast and digital media and advertising spend the totals more than four.
The million dollars annually.
This client values, the simplicity efficiency and effectiveness of working with Quad. We're one partner with one integrated approach for content creation production and media placement.
Turning to slide seven we continue to expand our offering to consumer packaged goods brands and recently helped an all natural energy drink trusted by multiple professional sports teams to relaunch its Brad.
Very quickly we were able to conceptualize a brand relaunch for the client in just six days, which we then quickly executed for national drugstore chain.
The campaign included creative direction and execution of more than 1800 in store displays creative hour by hour in store marketing group.
Clients Vice President for brand development said and I quote quanta expertise guided us to a phenomenal and result, the team's solve problems as their roles and were able to get our program completed on time and on brand. We look forward to working together as we expand to grocery and other channels.
And our next steps, we will introduce this client to other retail clients with whom we do business to expand its product distribution and brand visibility in 2021.
Our quad 3.0 strategy and integrated marketing solutions offering is a true differentiator for us.
Clients appreciate the value, we provide by uncomplicated marketing and deliver anymore.
Turning to slide eight I also want to remind listeners of quad ongoing commitment to diversity equity and inclusion.
At this time of heightened awareness about social issues.
We continue to enhance our D.I. programming strategy, including developing tailored learning and development programs for our employees and re imagining how we conduct business from talent recruitment to sourcing services and supplies.
I'm also proud that we continue to support the expansion of our employee led business resource groups and recently welcomed pride.
New group for our LGBTQ, I 80, plus employees.
We continue to encourage the formation of other groups within our diverse population too.
In the end our DB goals are clear to achieve a workforce that reflects the communities, where we live and work and the clients who trust us with their business.
To ensure that procedures processes and distribution of resource create equal opportunities and Karen just outcomes answer.
And to create a safe and open environment, we're all quite employee can premier truest and thus cells to work every day, which is consistent with our long standing company values.
Especially the one that talks about believing in people.
Before I turn the call over to Dave.
I want to recognize and thank all of our employees for their tremendous efforts and many sacrifices during this unprecedented time.
We have asked a lot of them and they have performed exceedingly well.
With that I will turn the call over to Dave.
Thank you Joe and good morning, everyone.
Slide nine provides a snapshot of our third quarter financial results.
Our third quarter operating and cost performance was strong due to our disciplined cost management. During a time of continued headwinds from the COVID-19 pandemic, while advancing our clock 3.0 transformation strategy.
We're committed to ensuring the health and well being of our employees, while protecting clots financial health, providing great service to our clients and winning new work.
We realigned our cost structure with current demand and reduce operating costs at a higher percentage than our net sales decline. This resilient performance resulted in increased free cash flow is combined with cash proceeds generated from recent asset sales help reduce net debt by $222 million.
Over the past 12 months.
Our strong balance sheet helps ensure we have the financial flexibility to navigate the pandemic, we continue to advance our transformation as a marketing solutions partner.
As Joe mentioned, we completed the sale of our two remaining book manufacturing facilities and Martin's Bert West Virginia, The Fairfield, Pennsylvania. This transaction combined with the July Onest 2020 sale of our per sales, Kentucky plant completes our previously announced strategy to divest our book platform.
This strategy supports our goal of optimizing our product portfolio to focus on the greatest revenue producing opportunities in support of our Quad 3.0 transformation.
Net sales were $679 billion in the third quarter down 28% from 2019.
On a year to date basis, net sales were $2.1 billion down 27%.
Both the quarter and year to date variances are primarily due to the economic impact from the pandemic ongoing print industry volume and pricing pressures and a 2% impact related to the divestiture of our Omaha packaging facility in January of 2020.
Okay. Demick began we saw the largest decline in net sales during the second quarter as net sales decreased 38%.
May represent at the trough of the decline.
Today ill be we've seen a sequential monthly improvement.
Our third quarter net sales improved by 10 percentage points versus the second quarter, and we anticipate the pandemics impact on print volumes have stabilized somewhat in the very near term.
Therefore, we expect the fourth quarter net sales to decline at approximately the same rate as the third quarter.
One additional item of note regarding the fourth quarter historically, our seasonal peak of print volumes occurs in the month of November however.
However, we believe that this year, but people spread more evenly across late September and October as retailers began holiday selling promotions earlier than usual to help ease store traffic and shipping pressures.
We continue to partner with our clients to help them flexible flexibly manage their marketing solution needs. During this challenging time.
Given the ongoing lack of visibility due to the pandemic, we're not providing further specific financial guidance.
Adjusted EBITDA was $61 million in the third quarter of 2020 as compared to 80 million in 2018, while adjusted EBITDA margin improved to 8.9% in 2020 as compared to 8.4% yeah.
The adjusted EBITDA variance, primarily reflects the impact from a 20% decline in net sales, partially offset by savings from cost reduction initiatives.
As a result of significant cost savings adjusted EBITDA margin grew by 49 basis points in the quarter versus 2018 more than offsetting a relative percentage decline in sales.
Year to date adjusted EBITDA for the nine month as at September Thirtyth, 2020, with 196 million.
As compared to $239 billion in 2019, while adjusted EBITDA margin improved to 9.4% in 2020 as compared to 8.4%.
Adjusted EBITDA variance, primarily reflects the impact from a 27% decline in net sales a $13 million decrease in paper byproduct recoveries and $11 million increase an hourly production wages due to strategic investments, we made and starting wages that help favorably impact productivity throughout our platform.
These declines were partially offset by cost savings the productivity initiatives.
$9 million net non cash benefit from a change in vacation policy.
$6 million net reduction in workers' compensation reserves from improved production safety performance.
Adjusted EBITDA margin grew by 101 basis points in 2020 due to cost savings initiatives more than offsetting the relative percentage decline in net sales.
Free cash flow was $57 million for the nine months ended September Thirtyth 2020, an increase of $91 billion from 2018, primarily due to a $48 million decrease in capital expenditures 40.
$40 million, an income tax refunds received during the third quarter due to the cares tax act, which about want to carry back net operating losses to previous tax years, and strong working capital and cost management.
As a reminder, the company generates the majority of its free cash flow in the fourth quarter of the year.
We successfully employed temporary and permanent cost savings measures and that was a key driver to the improvement in adjusted EBITDA margin and free cash flow.
We were able to adjust their cost and cash spend which more than offset lower print demand, while maintaining maintaining excellent on time delivery rates and customer service.
As we reported in the second quarter, we temporarily reduce cost by $325 million on an annualized basis.
That said, we've converted approximately 40% of these temporary savings into permanent savings, while flexing temporary cost savings measure to match print volumes.
During the third quarter temporary salary reductions enacted in April ended in August and many of our employees were brought back from furlough as print mines improved and we began ramping up to our seasonal peak of print volume.
We will remain disciplined in our approach to ensure the proper balance of permanent and temporary cost reduction given the ever changing outlook for print and print related sales and remain confident in our transformation strategy to take advantage of new opportunities as a marketing solutions partner.
Slide 11 includes a summary of our debt capital structure as of September Thirtyth.
We reduced net debt by $222 million over the last 12 months due to strong free cash flow and $53 million in cash proceeds from asset sales, including the sale of our Omaha packaging facility and our per sales book manufacturing facility.
We ended the third quarter with a debt leverage ratio of 3.22 times as compared to 3.09 times as of December 31 2018.
While this leverage ratio is above our long term targeted leverage range of two to two and a half times, we're pleased with our progress in reducing net debt levels. Despite the economic impact of the credit does it.
Our primary use of cash will continue to be debt reduction.
As of September Thirtyth, our blended interest rate is 4.8% that our debt capital structure was 63% fixed and 37% floating.
We maintained significant liquidity at September Thirtyth.
Including $93 million of cash on hand, it up to 465 billion in unused capacity under our revolving credit agreement.
Quite the next nearest debt maturity is our 7% senior unsecured notes due may of 2022.
Which has $239 million currently outstanding.
We believe our available liquidity, our strong lender relationships, our agile approach to cost management that our ability to help clients now is after the pandemic as a result of our Quad 3.0 strategy will help provide substantial financial flexibility to adjust to the current uncertainty that our operating environment.
I'm extremely proud of the quad team for the speed and agility of their reaction to this pandemic. This agility was key to conserving cash and liquidity is an unprecedented time and help ensure a strong financial position as of September thirtyth.
And now I'd like to turn the call back to Katie who will facilitate the Q and a session.
David.
Thank you Dave.
Well, we compound questions in advance of today's call and therefore, we will not ask for callers to enter the queue.
Thank you to everyone who submitted questions in advance.
So the three tough questions that were submitted.
The first question relates to client volumes, how did client demand impact quad volume in Q3 as the quarter progressed.
And what are you hearing from clients regarding demand levels as the holiday shopping season begins.
Well, thanks, Katy, but clearly it's a crazy here with what's going on but as Dave said may was probably represented our trough the.
The lowest point of sort of the impact from coven and since then Weve really seen sequential monthly improvement and specifically if you think about Q3, which Dave mentioned, you don't prove about 10 basis points versus prior quarter, but if I turn to sort of starting with the higher volume legacy products we have.
Both retail inserts publications and catalog you know clearly retail inserts led the pack in deepest decline so in the quarter. It was off about 43%, which is several points better than the industry.
And we think that you will start to see continue to see some stabilization calling for something in the closer to the thirtys in the next quarter.
Publication would be sort of a next one that the industry was off about 16% we're off about 9%.
And that's a good trend specifically because that was a result of segment share wins and then the catalog area. We were off about 20%, which is fairly in line with what we saw in the industry, but again expect to continue to see that stabilization, but the interesting thing is that as.
We've really kind of focused on pushing forward with the transformation, regardless of pandemic economic academic and economic shutdown.
We are seeing in packaging, which is a fairly new product line for us, but one that really grab hold of the rest of the 3.0 services to sell itself was up 19% and volume for the quarter. The industry was CPT from a CPG standpoint was up about 9%. So 19% was was a great none.
Sure you know direct mail if you look at the industry was off about 25% we were off only 12% so.
Some of that aided by political mailings put the the real trend here as we've talked about before is that marketers are really looking to use their data more aggressively in whatever they are doing and direct mail. If you think about the legacy email. The same thing to everybody is the part that's got hit the most and we've been investing in.
The part that's growing the most which is really driving that data to be very personalized. So the two of those really resulted in a good trend there we also.
Grew a great business in in store, which had a good quarter. It's up it's not down it's up a couple percentage points and if you look at rise interactive, which is our digital component, they're having a very healthy pipeline demand right now with all the sort of disruption going on and people really pushing digital and so.
They had a great quarter, but what I will say is that.
The customer base is very hard to predict where theyre going right now because I think they're just firefighting.
It's not just the coal with but it's the onion and on expected impacts of cold in the supply chain.
For a while people were panicking about getting products through the west coast ports.
It was a mess and quite frankly, it's still a challenge for a lot of folks out there, but also as Dave mentioned a pulled the busy season forward a bit into September October they were partially offset by spreading out people in the stores trying to understand the new patterns, but also there is a real challenge in sort of the show.
Shifting world of Fedex, and you'll see us and others because of the online demand and so thats been an interesting thing for us to try and follow and react to.
But we've been able to do it and we've been able to perform and so we look towards the rest of the year of keeping our self focused but the demand for the 3.0 stuff is really the heating up because as people are navigating all this.
Weve sort of accelerating their need for simple answers for dealing with less suppliers and really trying to look at marketing as a whole from one standpoint, and the fact that we're offerings integrated solution between the tangible print products of even retail inserts catalog direct mail into in store.
And integrating that into the digital side would rise interactive or online or radio broadcast.
It's really resonating and people are acting quicker than ive seen before so all in all that said the snapshot of what we're seeing with our clients right now.
Great. Thank you John.
Okay. Our next question relates to cost reduction.
Could you give more detail on temporary versus permanent cost reduction and what types of cost reduction will be more permanent going into 2021.
Oh, absolutely Katie.
As Joe mentioned, we have historically tried to treat all of our costs as variable over the long term and really try to match those costs to that with the changes.
In customer volume demand.
So in all of our our our prepared remarks, we discussed our approach to that cost control of that approach has been crucial.
Reducing costs at a higher percentage rate than our net sales decline and as we referenced the height of our pandemic and that impact on the volume.
At that point, we have taken temporarily $325 million of cost out on an annualized basis. So since that point, we've adjusted our costs to match, our net sales and we've really worked on converting a lot of those temporary savings into permanent savings, which takes a bit of time.
But at this point, we were just under 40% of our temporary savings have been converted into permanent and what that really represents is permanent cost reductions for us is really looking at our headcount and being able to right size our headcount our headcount is down by 1100 employees.
As of the end of September and during that process. We've we've closed over four we've close work of our facilities.
Manufacturing facilities in 2020, and so that helps us kind of over the longer term right size.
Our cost to match.
Lands.
But also we will continue to use temporary savings as a way to continue to also match in a very short period of time of what's happening with volume changes and so going forward into 2020 to 21.
We're going to continue to display that discipline and manage our costs accordingly, with what happens with with print volume demands, but yet not starving the business for the investment that our clients are looking for in other channels with us as we do more and more for our CLI.
Chances of marketing solutions partner.
Hey, Dave I might add that when you think about temporary versus permanent.
With a company like ours in this industry you got this huge infrastructure capital base of equipment and plant, we actually and I think Dave mentioned, it, but we actually furloughed entire plants and one of them was well over a million square feet. That's.
Thats easier said than done because you're taking this huge thing down, but then bringing it back up again, which we have since done into the busy season, and so I think with output process focus we have in the technology investments we've made over the years in terms of our scheduling systems and how all the data flows to manage the platform.
That would have been very hard to execute on so it's an important point when we think about.
Continuing to manage through the Crazy times right now.
Great. Thank you both those greedy count.
And our final question is.
As you look to next year and start to think about the eventual economic recovery. How do you think the pandemic has impacted prince long term role in the marketplace.
Well I'm sure like everybody is trying to answer that question as seen on the Crystal ball is very very cloudy.
A lot of people are still in the market are still trying to navigate this year as I mentioned before much less trying to look at okay. What are they doing next year when you're not sure. The course of the pandemic, we're clearly in a big spike going on throughout the country in the world and so the question is what what's dampening.
Will that have on economic recovery, obviously, there's there's other things playing out but I will say that the world as lead left four were pretty good with use of technology use of digital the digital space.
And you know our investment and our sort of acceleration that we're doing now in the transformation.
He is very well timed.
Because I think it's really forcing people to streamline their processes between channels really understand the data and analytics is a hugely important part right. Now we're just we're seeing a lot of people scramble to do a lot better than before because.
When you have year over year patterns that are the same for the consumer you can kind of just look at year over year, what's going on with all the patterns are changing.
Really got to rely on understanding how they're changing it in what sort of mix and so part of our 3.0 strategy has been to aggressively grow our analytics capabilities not just to tell people what can happen in print, but to tell them. What is the impact of everything on all the different channels and so you will.
Yes in the coming quarters start sharing some examples of how that is playing out in one business and ways, we're helping our clients sell more stuff. So I think the bottom line is stay nimble.
On your game, we have to manage cost it's almost like until two cities managed the cost side on print to.
Deal with the ebb and flow of how people are going to decide on volumes, but at the same time, just put the foot to the pedal on our transformation and continue to bring in really good talent, we found to really push and further design our offerings. We've done some acquisitions in the past around this out.
We feel we have most of the big pieces in place and so the next.
Focus has really been on lets get some great talent, that's available and the talent out there that's available understands the marketing disruption that is taking place today and understand why quad offering is perfectly timed for another disruption in the marketing world and so with that clearly will.
We will talk to you next quarter and give you the update to it but again I think anybody right now who's going to win it's going to be about really being nimble and also opportunistic at the same time.
Right.
Great. Thanks, John.
This concludes the Q and a portion of today's call and now I would like to turn the call back to John for closing remarks.
Yes, again, Katie and thank you all for joining us today.
I want to close by reiterating my thanks to our employees for their hard work and sacrifices during our seasonally busiest time of year, while continuing to manage through the ongoing COVID-19 pandemic the way that people on the floor had managed through the drop in volume with just a stellar performance on productivity and really manage.
Judging cost has been second to none at all.
All the employees had been resilient in the face of recent challenges into my sincere appreciation for the work they do each and every day as we create a better way for our clients. It ourselves. So thank you all have a good day, we look forward to speaking with you again next quarter take care.
Ladies and gentlemen, with that we'll conclude today's presentation you.
Thank you for joining you may now disconnect your lines.