Q3 2022 ACCO Brands Corp Earnings Call
Yeah.
[music].
Ladies and gentlemen, Hello, and welcome to the Accuray Brian's tweak your 2022 earnings conference call. My name is Maxine and I'll be coordinating today's call. If you would like to ask a question Jamie Cook you may decide by passing stuff. They buy one on just kind of think he Pat I don't know how JBT, Chris Mcginnis senior.
Director of Investor Relations to begin Chris. Please go ahead, when you're ready.
Good morning, welcome to ACCO brands third quarter 2022 Conference call. This is Chris Mcginnis senior director of Investor Relations.
On the call today are voice Ellison, Chairman and Chief Executive Officer of ACCO Brands Corporation, and debit counter executive Vice President and Chief Financial Officer.
Slides that accompany this call have been posted to the Investor Relations section of ACCO Brands' Dot com.
Speaking about our results we may refer to adjusted results adjusted results exclude transaction integration and amortization and restructuring costs, a non cash goodwill impairment charge and the change in fair value of the contingent consideration related to the power of earn out and other nonrecurring items and reflect.
And adjusted tax rate.
Schedules of adjusted results and other non-GAAP financial measures and a reconciliation of these measures to the most directly comparable GAAP measures are in the earnings release and the slides that accompany this call.
Due to the inherent difficulty in forecasting and quantifying certain amounts we do not reconcile our forward looking non-GAAP measures.
Forward looking statements made during the call are based on the beliefs and assumptions of management based on information available to us at the time of the statements are made.
All forward looking statements are subject to risks and uncertainties and our actual results could differ materially.
Please refer to our earnings release, and SEC filings for an explanation of certain of these risk factors and assumptions.
Our forward looking statements are made as of today and we assume no obligation to update them going forward.
Following our prepared remarks, we will hold a Q&A session.
Now I will turn the call over to <unk>.
Good morning, everyone. Thank you for joining us.
Mid October we issued a press release updating our third quarter and full year outlook highlighted the fact that the third quarter proved to be more challenging given the economic environment, especially in Europe , and the cautious inventory replenishment by retailers.
Last night, we issued our third quarter results, reflecting sales at the midpoint and adjusted EPS at the high end of our guidance.
Our full year outlook unchanged.
Let me start by saying the solid fundamentals of our business are intact and we believe we have the right strategy and team to weather the economic challenges and deliver sustainable organic revenue growth once the economy improves.
The transformative actions, we have taken over the past few years to be more consumer centric and geographically diverse have helped us maintain or grow market share in 2022.
There were many positives in the quarter.
We had a solid back to school sell through in North America.
Five star brand grew sales and market share in the back to school season, and outperformed the overall market in dollars and units.
Sales of our commercial products.
<unk> benefited from a return to office trend.
Especially in North America.
Our office occupancy rates continued to improve and have recently reached a post pandemic high.
Our Kensington brand and compete and accessories category grew double digits globally in the third quarter and year to date.
Our international segment grew comparable sales of over 30% and almost doubled adjusted operating income in the third quarter has in person education returned in Brazil and Mexico.
These successes were more than offset by a more cautious stance than anticipated from retailers at <unk>.
Inventory replenishment.
And reduced sales of gaming accessories in North America.
As well as reduced demand from a challenging environment in Europe .
In EMEA with.
The significant high inflation.
Ukraine current energy crisis, and the stronger U S. Dollar have weighed on consumer sentiment leading to sales and profit shortfalls.
In addition, lower sales volume has resulted in stranded fixed costs in our manufacturing facilities.
To counter the high rate of inflation in the region.
We will be implementing our fourth round of price increases over the last 18 months.
On January one 2023.
In addition, we have reduced variable labor costs and discretionary spending in response to lower demand.
And are looking at structural cost reduction initiatives to be implemented in 2023.
While the third quarter sales environment was challenging in EMEA.
Both computer accessories, and gaming accessories continued strong comparable sales growth trajectories in that market and combined were up low double digits percent in the quarter and year to date.
As we look out to 2023, we're still on track to expand our gaming accessories initiatives to.
To strengthen EMEA growth profile.
In North America. The continued strength in back to school and return to office trends were more than offset by retailers more cautious inventory replenishment and lower sales of gaming accessories.
The North American margin rate in the third quarter was negatively impacted by expense deleveraging from the volume declines and higher inflation related to finished goods and bounce rates and outbound transportation.
These costs are currently elevated but are beginning to moderate.
We expect higher commodities and freight cost to flow through the P&L in the fourth quarter.
While we believe that the overall product inflation in North America has peaked.
Certain commodities that will stay at higher levels in the near and medium term.
Regarding our video games and accessories category will continue to believe in its long term growth opportunity, which will increase our organic growth rate as we expand our product assortment and accelerated growth in our EMEA and international segments.
Third quarter sales sequentially improved but still down from the pandemic high of prior year.
We continue to hold a leading market share position in the third party gaming accessories controller market and have increased our market share position in 2022.
Highlighting the strength of the product assortment placements.
And power brand.
The gaming market is in the midst of a normalization from the high demand related to the pandemic.
The market continues to be challenged by the lack of semiconductor chips, which inhibit new console production and availability of sub gaming accessories. We now expect gaming accessories to be down approximately 15% for the full year, which is at the lower end of our previous expectations.
How long term expectation is for sales in this product category to return to pre pandemic industry growth trends, which historically were at low double digit growth rates.
While ACCO brands is not immune to the current economic environment, we have the right strategy and an experienced management team to navigate these challenges will.
We've been aggressive with our pricing and cost actions, while continuing to invest in our product development and go to market initiatives.
We expect the environment to remain challenging and are currently evaluating other cost reduction initiatives.
Proving our geographic footprint and facility rationalization projects.
We hope to share more details with you as these initiatives on our fourth quarter call in February .
Additionally, we remain confident in our transformation to drive sustainable organic revenue growth and are well capitalized with no debt maturities until 2026 fixed interest rates for all the half of our outstanding debt and lower annual interest costs.
We have taken actions to protect profitability and free cash flow by curtailing hiring reducing inventory and limiting discretionary spending and capital expenditures.
Importantly, our third quarter cash flow generation was significant so we probably will.
Archives dividend payments and debt reduction.
We're also amended our bank debt covenants to provide for greater flexibility, which combined with the company's strong cash flow generation will allow apple brands to successfully navigate the current economic environment.
I will now hand, it over to depth and we'll come back to answer your questions Deb.
Thank you Boris and good morning, everyone.
Our third quarter 2022 reported sales decreased <unk>, 8% as foreign currency was a 6% headwind in the quarter.
Comparable sales were down 2%.
The decline was due to lower volumes in our EMEA and North America segment.
Setting strong growth in our international segment.
Adjusted operating income was $43 million compared with $57 million last year.
Adjusted net income was $24 million compared to $32 million in 2021, and adjusted EPS was <unk> 25.
<unk> 33 in 2021.
In the third quarter, we took a non cash goodwill impairment charge of $99 million.
A significant amount of goodwill on our balance sheet from previous acquisitions, such at need EDC and <unk>.
This charge represents less than 15% of the overall goodwill balance.
Given our stock price the company's market capitalization is low which triggered a review of our goodwill.
The charge is reflected in our North American segment, which carries a significant portion of our total goodwill.
Inflation was more of a headwind than we had previously anticipated which is why our gross margin and operating income declined were more significant than our sales decline.
Given the lower sales overall, we are.
Hearings in fixed cost deleveraging in our facility.
While inflationary costs are beginning to come down they are lagging effect in our P&L will continue to impact our gross profit through the end of the year, but should improve as we progressed through 2023.
Third quarter, adjusted SG&A expenses were $95 million compared with $101 million in 2021.
Primarily as a result of cost savings and lower incentive compensation accruals.
And the positive benefit of FX.
Partially offset by continued investment in our go to market program.
Adjusted SG&A expense as a percentage of sales was 19, 5% above last year's 19, 1% due to lower sales.
Year to date adjusted SG&A as a percentage of sales was down 40 basis points.
Our near term SG&A target remains at 19, 5%.
Now, let's turn to our segment results for the quarter.
Comparable net sales in North America decreased 10% to $259 million.
The decrease was due to lower inventory replenishment by retailers and volume declines in gaming accessories.
As previously discussed retailers purchased earlier in the year than typical to ensure product availability.
Beginning in the third quarter retailer inventory replenishment was significantly less than anticipated.
We performed well in the U S back to school season, with approximately 10% comparable sales growth.
Back to school sell through was up 4% outpacing market growth of 1%.
North America adjusted operating income margin decreased due to higher cost of finished goods and specific commodity materials and higher inbound freight and outbound transportation costs that were not adequately offset by price increases.
Just like EMEA, North America will be implementing another round of price increases on January one 2023.
Now, let's turn to EMEA.
Net sales were down 19% to $130 million, primarily reflecting adverse FX <unk>.
Comparable sales were down 4% to $154 million, mainly due to volume declines offsetting our price increases.
In Europe , the current energy prices and significant inflation have created some more challenging demand environment.
The energy crisis is expected to worsen this winter and we expect consumer sentiment to remain low through the end of this year and into 2023.
EMEA posted lower operating income and margin from the lower sales volume, which led to underutilization of our manufacturing facilities, and therefore deleveraging of fixed costs.
<unk> referred to a review of our manufacturing footprint, which we are undertaking now.
Price increases have not been large enough to offset accelerated inflation generally.
Especially for locally sourced raw materials.
However, we are making sequential progress.
Rice cost differential and we expect our January price increases to meaningfully mitigate the overall impact of these inflationary cost increases.
In addition to allow for more frequent price changes, we are renegotiating several customer contracts.
Moving to the international segment net sales increased 26% and comparable sales rose 31%.
We were encouraged to see volume contributing more than price to the increase.
This growth was driven by improved demand in Latin America, especially in not taking products at schools and businesses continue to return to in person education and work.
The International segment posted higher adjusted operating income and adjusted operating margin as a result of higher sales and improved expense leverage.
These improvements were driven by the rebound in Mexico and Brazil.
Switching to cash flow and balance sheet items in the quarter, we generated $84 million in adjusted free cash flow.
Year to date, we had a $12 million use of adjusted free cash flow, which reflects our seasonality.
Sequentially inventory was down $40 million from the second quarter, but remained high due to inflation and lower than expected third quarter sales volume.
Our accounts payable balances are relatively low as much of our inventory was purchased earlier in the year and payments for those goods were made by quarter end.
As we bring inventory down we should shift into a more normal more normal payables balance.
We announced an amendment to our bank credit agreement, which increases the maximum consolidated leverage ratio beginning with the fourth quarter of 2022 and favorably amend several other items.
The increase in the consolidated leverage covenant up to five times allows us for greater financial flexibility and headroom for the company during these challenging economic times.
The amendment does not change our interest rate pricing grid.
We ended the quarter with a consolidated leverage ratio of three nine times, we expect that ratio to be approximately three eight to three nine times at year end.
Longer term, we are still targeting two to two five times.
Capex year to date with $12 million, we also paid dividends of $22 million year to date and repurchased two 7 million shares of stock in the second quarter for $19 million.
At quarter end, we had $417 million of remaining availability on our $600 million revolving credit facility.
As shown on our earnings slides more than half of our debt is fixed and not impacted by interest rate increases and we have no maturities until 2020, turning to our outlook. We are reaffirming our guidance presented in October for sales adjusted earnings per share and adjusted free cash flow.
For the full year, our outlook is for comparable sales to be flat to up 2%.
I think this demonstrates the progress of the transformation and portfolio shift.
And resilience of the company in a really tough economic period.
We also expect foreign currency impact to remain a headwind with a 4% to 5% negative impact on sales and up five negative impact on adjusted EPS.
Full year adjusted EPS is expected to be in a range of $1 five to $1 10.
The adjusted tax rate is expected to be approximately 29%.
Intangible amortization for the full year is estimated to be $42 million, which equates to approximately 31.
Of adjusted EPS.
We expect our adjusted free cash flow to be within a range of $90 million to $100 million.
After capex of $15 million.
Looking at cash uses for the remainder of 2022, we expect to continue to prioritize dividends and debt reduction.
We have been chasing inflation for the last 18 months, we expect sequential adjusted gross margin improvement in the fourth quarter, but gross margins will be down versus the prior year.
The additional price increases in January along with our cost savings initiatives will get us further to our long term adjusted gross margin of 33%.
This is an ongoing challenge due to the magnitude and persistence of inflation.
Sales in October continued to reflect significant inventory destocking by retailers with their cautious approach to replenishment.
Given this trend and the likelihood that it continues we would be tracking to the midpoint of our 2022 sales and adjusted EPS outlook.
Even though we expect certain areas of our business to achieve growth in 2023, and many of our brands to maintain or increase market share. If the macro environment continues in the current state. We expect our overall volumes will decline. However, this decline is expected to be fully or partially offset by price.
2023 should look differently than 2022 from a cadence perspective and more similar to 2021, when resellers were conservative with their inventory.
In fact, we expect first half 2023 comparable sales to be approximately at 2021 levels less the negative impact of adverse FX of around $30 million a quarter.
We expect full year gross margins to expand and for SG&A to remain at 19, 5% rate in 2023.
We expect full year free cash flow to grow compared to 2022, driven by the improved profitability and a more normal working capital cycle.
We will provide additional details in February when we report our annual results.
Now, let's move on to Q&A reports and I will be happy to take your questions operator.
Operator.
Thank you, ladies and gentlemen, if you would like to ask a question. Please press star followed by one on your testing can you pack now if you do change your mind. Please press star fleet by chain length of having to ask a question. Please ensure your line is muted.
Our first question comes from Jake I'm asking Naval capital. Please go ahead J. Your line is now open.
Good morning, and thanks for taking the questions.
Good morning, Joe.
So just wanted to get maybe a little deeper dive.
The outperformance.
Outperformance of the International segment is this all just related to the rebound in Mexico, and Brazil are the other parts of the international segment performance.
It's being led by very strong performance in Brazil, and Mexico.
Both of those countries.
Rebounding from a couple of years of Covid schools are open offices are open and we're seeing very strong business.
For back to school in Mexico, and in preparation for back to school and just office business in Brazil.
If we look at outside of those two countries.
Chile has done well.
It's grown.
Mid to high single digits in the quarter.
And then Australia is recovering that had a value.
Tough first half of the year with a lot of Covid cases in Australia, but saw a small growth in Q3.
And Asia is still difficult, it's a small part of our business.
But we are seeing some sales decline.
Declines in Asia.
Driven by weaknesses do too.
Zero Covid policies and many of those countries and just the weak macro in Japan.
And that segment has done very well in passing price to offset the inflation, we've seen as well.
Yes.
Okay. Thank you for that.
And on the inventories.
You had talked a little bit about blocked it in anticipation.
They came down somewhat in the third quarter.
How much more do you think you've got to come down there to be where you'd like to be.
In terms of the inventory levels.
We still have ways to go.
We are pleased with our progress.
That rebate.
Through the year I mean, we build a lot of inventory last year in the second half.
Primarily by supply chain difficulties.
We started taking it down earlier this year.
Wish we could have done more but slower sales lower volumes in Q3 were still little bit high. So my anticipation is we will still.
<unk> made significant progress in the fourth quarter and really come end of this year early next year. It will be in the normal working capital cycle of the supply chain issues pretty much behind us. So there is not a reason to hold more inventory than we need to come end of this year.
<unk>.
And once we normalize we'll be able to go with a normal working capital cycle in 2023.
Yes, that's right and just Joe don't forget high inflation 10, 11% is also on those inventory balances as you just think about the level.
Right right Okay.
One one more if I may.
A lot of companies have talked about the difficulty in the hiring and retention environment.
Just wondering how you guys are climbing.
Your ability to hire people in or retain people that you want to retain.
We haven't had any issues. We saw we saw a little bit of a pickup in attrition last year and 21 in the summer.
But this year, it's been running pretty flat I mean, it's still a very competitive market, but we're not having.
Difficulties, even with attrition all with hiring people.
Okay, great I'll get back in queue. Thank you.
Thank you Joe.
Thank you. Our next question comes from Greg Burns from Sidoti. Please go ahead. Your line is now open.
Good morning.
With the.
Ed.
Covenant.
Flexibility with the New Amendment.
Go into five times.
Where do you foresee.
Where do you foresee leverage kind of peaking here.
The current outlook do you do.
I feel like you are going to rise to that level and work down from there or how should we think about leverage going forward.
Yes.
Greg as I talked about fourth quarter. This year, we're going to be in that 3839.
And the new ratios that kind of four and a half is that $4 five.
So that kind of 50 60 basis point.
Differential.
It would be as we look out.
The lowest price.
Hi, its lowest point.
Differential.
And we really got it to get more headroom.
For next year as we go into this uncertainty, but not worse than kind of that 50 basis point spread.
Thats, what you are looking to again, yes. So we don't we don't expect to get to five we don't expect to know.
Got it for.
Flexibility of headroom given the uncertainty in the environment typically our leverage peaks in Q2 as we build in.
Four.
For back to school, so as Deb said, we expect to be at least 50.
50 points below that buybacks.
And Greg the one nice thing two is the banks were really supportive on that seasonality and so going forward, we will have that higher.
Ratio in the first and second quarters for that seasonality that <unk> spoke to.
Okay great.
And then.
And in North America with the retail.
Side of the business.
Where do inventories channel inventories currently stand and then can you just talk about.
How that impacts you gave a little color on how that's going to impact the first half of next year, but do you.
She is stronger.
Selling and.
Early part of the year next year to replenish those inventories how does that historically play out.
Yes, the inventories right now are pretty low in the channel.
Doesn't mean that they won't be able to go lower it all depends on the wall.
Sell through is.
Retailers will get.
Certain number of weeks on hand, depending on what the sell through is.
But we expect.
Our retailers to be conservative with inventory.
All the way through the first half of.
Next year. So this year as Deb mentioned in the prepared remarks, they brought in inventory early.
Because of the supply chain issues to prepare for back to school, we think thats not going to happen next year, we think that.
Given them both.
The economic challenges and easing of supply chain.
It will be more chasing inventory well bring in what's wrong, what's necessary and then try to chase sales.
With additional purchases in Q3.
So we think that that's what happened in 2021. So we think it's what's likely is.
Sure.
Retailers will be conservative with inventory in the first half and then as they sell through in Q3 that will bring more inventory.
Okay.
And then on the commercial side in North America, how far below pre pandemic levels is that business still.
Do you think you can get back to pre pandemic levels there.
Yes whereabouts.
So if you look at.
During the bad debt equity loss, let's call it 15% or sorry on the commercial side, we made up about two thirds of that so we're down about 5%.
Yes.
We are calling our back and people are going back to offices and that's driving.
So we think that we will be able to make it up in 2023.
Okay.
And then just lastly on on power.
Do you think that business is fully kind of reset from the pandemic bubble or is there additional kind of normalization that needs to happen in North America and what's the status on.
Your.
Our strategy to kind of expand that business globally.
The footprint.
Place to do that or is there more investments that need to be made.
Sure.
So globally is growing very well.
Business.
Has been growing globally in two.
2022, and that's both in EMEA.
And.
Internationally.
And we will continue to invest in and expand that footprint in the SaaS growth that we feel very very comfortable in our ability to do that.
Sure.
In North America.
Still normalizing and my expectation is there will continue to do that through Q4.
Just driven by partially by steel supply chain issues, they're still semiconductor chip shortages that affect people's ability to buy both.
Xbox series X as well as the <unk>.
Playstation <unk>.
And then also there.
Lack of chips some of the wireless accessories.
So thats impacting availability as well as well as just normalization of demand people will stay home and playing games.
Now the traveling in going out and playing this game and I think that's going to be big is still the case in Q4, but we do expect that to recover and rebound.
2023, and we expect growth in the polyol business in 2023.
Just kind.
Got it.
Julien on the growth outlook is that mostly going to be coming from.
The rest of the world or North America.
North America again.
And grow too or is that mostly going to be coming from Europe and Asia.
We do expect North America to grow.
Growth rates will be much higher in Europe .
And international that it would be North America, while we do not expect growth in North America.
Okay alright, thank you.
Thanks, Greg.
Thank you. Our next question comes from Kevin Steinke from Barrington Research. Please go ahead. Your line is now open.
Good morning.
Yes.
Good morning Boris.
Just wanted to start off by asking about gross margin.
You noted.
You expect some improvement in 2023.
In light of the price increases you are implementing on January 1st then.
Maybe some cost reductions but.
Yes.
I would assume we should think of gross margin progression is.
I don't know fairly gradual.
Still maybe.
Meaningfully meaningfully below that 33% target just trying to get a sense of.
How much you think can be accomplished and I know inflation is kind of still the wildcard.
Any thoughts on gross margin progression.
Yes, I mean, I'll just start it out and I'll, let <unk>.
Add on but.
I think youre exactly right its going to be a gradual improvement and expansion in gross margin.
And we are still fighting and we still haven't gotten to the price cost differential as we sit here in the third quarter right. So we've got 10.
<unk> hundred 11% inflation eight 9% price. So we're still lagging and we've got to do to catch up on that.
And that's going to take that January price increase to do it. So you are right its going to be gradual it's going to be throughout the year.
I think the 33% is a little bit of ways.
Yes, I agree with that Kevin we're going to be making progress I'm expecting progress in Q4 and.
Certainly throughout 2023.
Don't think were going to get fully to that 33% number until after 2023.
We're going to be catching up in 2023.
Right, Okay that makes sense.
You mentioned in your prepared comments.
Modifying some contracts to allow for more price increases maybe sounded like that was fairly isolated to a few customers that are in this trial.
Trying to get a sense as to.
How broad of an initiative that is in.
Sure.
How meaningful that could be in terms of your ability to.
Catch up to inflation maybe.
Maybe a little more quickly.
Yes.
That's specific to EMEA.
Really couldn't do.
Price increases more than twice a year.
In normal environment.
That's okay, but when you have inflation, 14% a year, that's not frequent enough. So.
Our teams are working with customers to modify the contracts to allow us to do more frequent price increases. So we can keep up with inflation and by the way. It works both ways with both increases and decreases I'm sure nobody will complain about more frequent price decreases but nevertheless.
Contractually allows us to develop.
Okay, great well, thank you for taking the questions.
Thanks, Kevin.
Thank you as a reminder, if you would like to ask a question. Please press star followed by one on your today. Thank you Pat now.
And our next question comes from.
Costa from PW financial. Please go ahead. Your line is now open.
Hi, good morning.
So the first question was is the lower stocking levels, resulting in shorter order intervals from retailers.
Meaning more frequent and smaller orders on that is that what you mean.
Yes.
Yes.
It is resulting in that that is correct.
Are you able to.
Be efficient and that kind of operating.
Operating structure.
Well, we do have minimum order quantity so we.
Charge.
Above a certain amount.
Outbound freight is included in the pricing of three below a certain amount of they have to pay for outbound freight. So there is a delta in financial incentive to keep the orders.
Certain level and what happens in reality is.
The retailers go to wholesalers for really small orders because we won't it's not economical for them to get it from us.
So.
Even though there is some shifting too.
More frequent lower.
Dollar orders.
There is economic incentives built in.
To make it.
Inefficient for us.
Okay.
And how does the product mix changed greatly for four years to what retailers are willing to stock.
And how does that relate to the inventory you have on <unk>.
In your warehouses.
It really hasnt changed and our retailers typically stock AMB items in.
Seeing the items they offer.
On an as needed basis.
And that that has continued I mean, all the time, if I look at over the last 510 years certainly the mix has changed.
<unk>.
Computer accessories.
So the volume products and away from storage and organization.
I look at within this year kind of individual skus.
It's Phil.
And these skus being stopped in C&D skus being brought in just in time whats really driving this.
Yes.
Blake on.
Replenishment is just the economic outlook in retail is becoming very very conservative.
With how much inventory they want to stock given that they are forecasting a economic recession.
Okay, great. Thank you.
Thanks, Alex.
Thank you. This concludes our Q&A session for today, So I'll hand, the call back to Bonnie Anderson for closing remarks.
Thanks Maxine.
And thank you everybody for your interest in ACCO brands.
Previously, we have managed well in difficult environments, and our confidence in our ability to navigate the current economic challenges.
We're also confident that we have the right strategy and believe we are well positioned to continue to deliver organic sales growth compelling market performance and improved financial results as global economies recover.
We look forward to talking to you in a couple of months to report on our fourth quarter results. Thank you.
Thank you ladies and gentlemen. This concludes today's call. Thank you for joining you may now disconnect your lines.
Okay.