Q3 2021 Armstrong Flooring Inc Earnings Call

Greetings welcome to the Armstrong flooring third quarter 2021 earnings conference call. At this time all participants are in a listen only mode. A question and answer session will follow the formal presentation. Please note. This conference is being recorded.

Now I'll turn the call over to your host head of Investor Relations that call again.

You may begin the conference.

Good morning, Thank you for joining us today for Armstrong flooring third quarter 2021 earnings call.

I'm joined this morning by our President and Chief Executive Officer shelter, Matt and our Chief Financial Officer.

In addition to the earnings press release issued last evening, a copy of the slide presentation to accompany this call is available on the investors section of our website Www Dot Armstrong flooring dot com.

During this call we will be making forward looking statements that involve risks and uncertainties actual outcomes may differ materially from those expected worldwide.

For a more detailed discussion on the risks and uncertainties that may affect Armstrong flooring. Please review our SEC filings.

We're looking statements speak only as of the date they are made.

And we undertake no obligation to update any.

Any forward looking statement beyond what is required by applicable securities law.

In addition, our discussion of operating performance will include non-GAAP financial measures within the meaning of regulation.

A reconciliation of these measures the most directly comparable GAAP measures is included in the press release I'll now turn the call over to Michele.

Thank you, Matt and good morning, everyone.

I'll start by providing a third quarter business update then I will ask Amy to share details on our third quarter financial results.

During the third quarter, we increased sales by approximately 8% year over year.

And we made further progress on our multiyear transformation plan in several key areas.

Q3 sales benefited from higher price realization, including our third price increase implemented in August.

However, during the quarter, we experienced further supply chain disruptions and continued inflationary pressures that significantly impacted our performance, including lower than expected delivery of source materials to fulfill orders.

While we have gained positive traction with our new launches and there continues to be healthy demand for our products. The supply chain in inflationary dynamics have continued to impact profitability and we are disappointed with our results.

I'll speak to you today about the various actions we have taken and will continue to take to address these headwinds and improve profitability.

First in September we followed up on our August price increase by announcing the most comprehensive pricing actions in the company's history.

These pricing actions became effective on November one and include a full reset of pricing and reassessment of individual programs.

These include simplifying pricing methods across channels.

Instituting ocean freight surcharges to recover the unprecedented cost the company is experiencing in the dynamic supply chain environment.

And revamping processes to recover domestic freight expenses.

These actions are expected to generate approximately $15 million of profitability improvement per quarter once fully implemented.

And we expect full implementation by Q2 2022.

Additionally, we have reviewed it will continue to review profitability at the customer level and take necessary actions to exit business that is not return desired margins.

And our residential sheet business, we expect volume to decline in 2022 due to discontinuation following a big box product line review.

The business will cease at the end of the first quarter of 'twenty, two but will have minimal impact to EBITDA.

We are very grateful to our customers, who continue to be understanding and collaborative in this challenging inflationary environment.

Second we have taken actions to manage costs, we curtailed our planned capital expenditures and SG&A spend related to marketing and promotions in the third quarter.

I have taken actions to continue to reduce the spend through the remainder of 'twenty one into 'twenty two.

This included implementing headcount controls beginning in the third quarter. In addition to our head count reduction announced in late October.

Garrett.

Which is expected to result in approximately $4 million of annual savings on a go forward basis.

Furthermore, as the supply chain challenges continue to impact our plan both in efficiency improvements.

We implemented a hot desk to improve service to customers streamlining the order management process.

Particularly for large orders in addition, working with our international Transportation partners, we had been able to increase our expected container shipments by over 25% in the fourth quarter and we are working to secure a similar level of increases in the first quarter of 2022 to <unk>.

<unk> building momentum these increases will improve our level of service and help us meet customers' demand for some of our new rigid L. B T offerings.

Along with enabling us to work through our current backlog.

Looking at trends in our markets are still growth reflected healthy demand in each region. We operate in North America growth was driven by price realization and channel growth in our commercial and residential direct channels.

Asia, and Australia experienced continued recovery from the pandemic in most sectors.

As it relates to product lines L V T in North American market remains strong.

And we're seeing positive customer and market responses to our commercial and residential L V T products.

Our sales initiatives into the hospitality sectors are also gaining momentum and we are pleased to have recently signed additional agreements with several large national hotel brands.

As we move into the fourth quarter, the residential and commercial demand environment remains robust.

However, with this in mind, we're anticipating macro economic headwinds related to our input cost.

And shifting to continue through the rest of this year and throughout 2022.

As we have done thus far.

We're continued to be responsive and agile in our measure to offset these impacts.

Finally on November one we finalized amendments on our ABL credit facility and term loan respectively.

Amy will speak at length on these amendments shortly.

In summary, we're bouncing our near term initiatives with a long term strategic goals of our multi year transformation plan.

To expand our customer reach and simplify our portfolio and operations and strengthen our capabilities.

We're pleased to have already built out our direct go to market residential sales force.

We have been happy with the positive reception of our new products.

Looking ahead, our focus into 'twenty two is to capture the return on these investments while continuing to streamline our cost structure.

With that said I'll turn it over to Amy.

Take you through our third quarter financial results Amy.

Thank you Michelle and good morning, everyone.

Turning to slide four on November the first we finalized an amendment to our ABL credit facility and our term loan.

The amendment has reset our cash flow covenants as of September 32021.

Providing us with financial Covenant relief through at least December 31st 2021.

Under the terms of the amendment, we will have access to our credit facility through December 31st with a new minimum availability threshold requirement.

His contact availability under our ABL credit facility at September 30 was approximately $57 million and we expect to continue to make use of our facility throughout the remainder of the year.

And be in compliance with the new minimum availability levels.

In conjunction with these amendments we have reclassified $63 3 million of debt.

The short term on our.

September 30 balance sheet.

We have been and will continue to work collaboratively with our lenders jokes for longer term financial covenants really.

We are in ongoing discussions with our lenders and expect to make additional comments concerning these discussions before the end of the year.

I'll refer you to slide five which provides a summary of our financial results for the quarter.

Third quarter net sales were $168 5 million.

Seven 6% increase versus the third corner of 2020.

Our year over year sales performance reflected growth in North America, China and Australia.

In North America, our net sales increased 5% resulted from recent pricing initiatives.

Indirect channel and favorable product mix.

Helped to offset slower and if corner volume in residential national accounts and new distribution.

<unk> continues to remain strong throughout the quarter.

Persistent supply chain disruptions hampered ourselves.

Several of the anticipated deliveries in the third quarter were delayed into the fourth corner due to port congestion and transportation delays.

Despite this we entered the fourth quarter and the global backlog of approximately $67 million, which is elevated versus historical norms.

We are expecting increased deliveries of source products in November and December to help us serve this backlog in the U S.

This combined with improving raw material availability and more consistent operations at our manufacturing facility.

Lead to improved sales growth in Q4 and beyond.

Moving to slide eight.

SG&A costs were 4 million higher than the prior year inline with our expectations and primarily reflect and a return to more normalized spend versus the same quarter prior year.

In Q3 2020 during the height of the pandemic, we instituted furloughs benefit reductions suspended certain in fact.

A return to normalization and branch to show these items contributed to approximately two and a half million of additional spend.

Over here.

Increases also include $2 1 million related to the normalization of the sales force and related promotional activity.

The lifting of travel restrictions, which allowed our sales staff to reengage in person with customers in.

In addition, we incurred an additional $1 5 million related to salaries and benefits for our expanded sales force, which was built out in Q4 and the early part of Q1 2021.

Offsetting these were $2 1 million of savings from lower I T and consulting spend.

Along with the benefit of lower facility costs associated with the relocation of our global headquarters in the first half of the year.

Turning to slide nine.

Adjusted EBITDA for the quarter was a loss of $17 9 million compared to adjusted EBITDA of $2 8 million in the prior period.

The lower adjusted EBITDA was primarily due to higher raw material input costs and shipping costs. In addition to higher selling general and administrative expenses in 2020 one.

As the pandemic level during the third quarter of 2020.

These impact contributed to a $21 million and $5 million impact on adjusted EBITDA period over period.

More than offset positive pricing recovery of approximately $9 million.

As we highlighted on the prior slide the CDI index for suspension, PVC, which is a key raw material for us.

The significant increase since we have been saying.

After more than three years of relatively stable pricing the.

The cost is more than double since June of 2020.

Finally in the third quarter, we realized $3 million up year over year manufacturing productivity from prior transformation actions.

Including the tile optimization sheet consolidation labor standardization and work to improve yields and reliability.

Moving on to Slide 10, we had a net cash usage of $8 9 million in the corner and negative free cash flow of $13 9 million.

Our change in operating cash was impacted by rising input costs and the disruptions in the supply chain.

It outpaced our price increases.

We have taken action to manage these factors, including managing working capital with respect to receivable and accounts payable.

Offsetting the impact from these operating losses.

Capital expenditures for the quarter were 5 million slightly higher than the third corner of 2020.

At that point 9 million sequentially from the second quarter.

Our lower than initially budgeted amounts.

Capital expenses for the remainder of the year has also been adjusted with the expected spend for the full year 2021 to be approximately $25 million.

We expect to maintain a similar level of Capex during 2022.

Net debt was $59 2 million compared to $66 1 million person here in 2020 and we maintained available liquidity with cash and access to a revolving credit facility of $76 8 million.

We ended the quarter with $14 9 million of cash plus the availability under our credit facility.

I'll now turn it back over to Michele for some closing remarks.

Thank you Amy.

In conclusion.

Our team is working hard to address the macroeconomic challenges we are facing through price increases.

Other SG&A cost savings initiatives.

And driving additional efficiencies in our logistics network and operations to offset rising costs, while making our supply chain more resilient.

As we look to the remainder of 2021 and towards 'twenty two.

We will continue this financially disciplined approach, while still maintaining our long term focus on growth.

This transformation and value creation for all our stakeholders.

Thank you for joining us today operator, please open the line for questions.

Thank you if you would like to ask a question. Please press star one on your telephone keypad.

Confirmation tone will indicate your line is in the question queue. You May press star two if he would like to remove your question from the queue and for participants using speaker equipment. It may be necessary to pick up your handset before pressing the star. He is our first question is from Kathryn Thompson with Thompson Research Group. Please proceed.

Good.

Hey, Good morning. This is actually Brian Biros on for Catherine. Thank you for taking my questions.

Maybe first on the the pricing chasing inflation I. Appreciate the chart on slide six and I don't think I've ever seen it presented that way as before so that's that's pretty helpful actually.

I guess, there's what's assumed in those numbers in that chart I guess from an inflation standpoint, and maybe more importantly from a volume standpoint.

Okay.

Good morning, Brian and thanks for the questions.

What we have assumed in that is our outlook on raw material increases are.

Which is an elevated cost of all of our raw materials as well as shipping disruptions and you know, we're seeing some higher and higher costs for our sourced materials as well, we expect that to continue through 2022 and have dialed that into you know that.

<unk> forecast the inflation. We also added a chart, but just for some context on the overall inflation that we're seeing and we use the example Ah.

For suspension P. B C. As you can see there you know that material had been relatively stable for <unk>.

For multiple years.

And since June of last year, the prices more than doubled so we're seeing that across a number of our key inputs and we've certainly dialed all of that into our forecast them slightly elevated costs in the fourth quarter versus the third quarter and then it will stay at that higher level throughout 2020.

Two.

And as far as volume.

So I mean that both the pricing and the cost would be and why naturally if there are changes in volume up or down that would be reflected accordingly in both cases so.

It just.

It doesn't change the absolute delta between the price and inflation.

Inflation so.

Got it.

And then just also on the pricing.

Resets you guys mentioned can you just help us understand how those conversations like actually go with customers. It seems like it's a little bit more involved than just saying here's the price increase because it seems like you're doing a little bit more of a restructuring of the way you go about pricing and presenting it to customers can you just give us some more color on how that actually works out against her at her.

Well as you saw with when you have some raw materials that are doubling.

Basically you're suddenly historical price points were all used works well for our product.

Has to be reset right.

Point, you know, we're all used to working to value engineer products projects or even a floor.

Depending on what segment, you're in commercial or residential or some established price points. We've all been working through for years and for many years Raphael for fairly stable, but now when you.

You're dealing with raw materials are up 100% set though so obviously, we've been working with every segment to.

Have discussions what that looks like and what.

I don't know if we're at normal yet, but at least what we're seeing and what the outlook is to make sure. We're balancing that and obviously everybody has true reset some expectations and I would say.

Yeah.

But the vast majority of customers are very collaborative and it's happening across multiple areas to your point. It is a much more involved.

Discussion because it's discussing the outlook and the process and I think everybody wants to be fair to each other and this reality.

So we are going through a fairly.

And tests process to make sure what that looks like.

So it's a category by category segment by segment and we're working through that obviously, what we were doing before was not working towards traditional price increase has 3% to 5% or six doesn't work when you're saying, 100% inflation that works and what we're seeing.

Commodities go up and down a few percent here and there, but when you're saying 100% increases in some commodities you have to do something different than we did something different again.

We're working through that and we're looking for very different results.

In the coming quarters.

Understood and then maybe last one for me just to start I guess on the.

So the backlogs and orders coming in and I know you guys said, you're bringing in some more product in November December to increase meeting demand can you talk about maybe any trends in those between if it's product or.

Current end market segment, I guess is what do you what are you seeing out there that's coming in and going out now.

Well the man it's been very good and then we mentioned that our new products have done very well actually the third quarter.

It's our best response, so far to have new products, 17% of our North American sales were.

Made up of new products.

What we're launching our customers are buying.

About so that's very positive.

Definitely both residential and commercial are growing for us, which is also positive or very unfortunate.

So.

National residential is leading.

And commercial is catching up so.

So it's a robust environment and I think as we continue improving our supply chain, our availability and it's not only on the source side, it's really even on the raw materials side, we have been dealing all year with either force for her are available you constraints come in and buy multiple.

Other peers and other building products company.

A company that we've been all day, along with limitations on raw material.

As we resolve those and stabilize those assets.

Industry I think we'll all benefit from it because the demand is there there's a shortage of housing and there's good demand and remodeling commercial as we know it has been depressed for a few years and that's picking up so where does strong demand environment. We just have to work. Some of these supply chain challenges. So we can meet that demand so were very good.

Fortunate to have strong.

Demand environment.

We can meet and are looking.

Looking forward to doing that and keep better and.

Also working very collaboratively as you mentioned with our freight forwarders.

Execute so.

It will get better.

And well results.

So good luck. Thank you.

Thank you.

Appreciate it.

We have reached the end of our question and answer session I would like to turn the conference back over to Michel for closing comments.

Alright, well. Thank you all for joining us this morning.

Look forward to talking to you in the fourth quarter and improving on our results. Thank you.

Thank you. This does conclude today's conference you may disconnect. Your lines at this time and thank you for your participation.

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