Q3 2019 Earnings Call
Later, we will conduct a question and answer session and instructions will follow at that time, if anyone should require assistance. During the conference. Please press Star then zero on your Touchstone telephone as a reminder, this conference call is being recorded.
I would now like to introduce your host for today's conference Mr., Scott Silky VP Investor Relations and Treasurer and interim CFO , Sir you may begin.
Thanks for joining the call this morning.
On the call with me today is Bill Griffiths, our chairman President and Chief Executive Officer, and George Wilson, Our Chief Operating Officer. This conference call will contain forward looking statements in some discussion of non-GAAP measures are forward looking statements and guidance discussed on this call and in our earnings release are based on current expectations.
Actual results or events may differ materially from such statements and guidance and quanex undertakes no obligation to update or revise any forward looking statements to reflect new information or events.
For a more detailed description of our forward looking statement disclaimer and a reconciliation of non-GAAP measures to the most directly comparable GAAP measures. Please see our earnings release issued yesterday and posted to our website.
I will now discuss the financial results.
We generated net sales of 238.5 million during the three months ended July 31, 2019 compared to $239.8 million for the three months ended July 31 2018.
The decrease was primarily attributable to a weaker demand environment, mainly in our North American cabinet components segment and inclement weather in the us.
However, our European and North American finished duration segment continued to generate net sales growth above that of their respective market largely due to price increases related to raw material inflation recovery.
We reported net income of $11.8 million or 36 cents per diluted share for the third quarter of 2019 compared to net income of $10.8 million or 31 cents per diluted share during the same period of 2018.
On an adjusted basis net income increased by 18% to $13.7 million or 41 cents per diluted share during the third quarter of 2019 compared to $11.6 million or 33 cents per diluted share during third quarter of 2018.
The adjustments being made as our for restructuring charges certain executive severance charges non cash asset impairment charges.
Foreign currency transaction impacts transaction and advisory fees and adjustments related to the tax cuts and jobs Act.
On an adjusted basis EBITDA for the quarter increased by 8% to $32.8 million compared to $30.5 million in the third quarter of last year.
The year over year increase in adjusted earnings was largely due to the successful implementation of pricing initiative combined with operational efficiency gains.
Moving on to cash flow and balance sheet.
Cash provided by operating activities was $29.9 million for the three months ended July 31, 2019 compared to cash provided by operating activities of $26.8 million for the three months ended July 31 2018.
Free cash flow generation was strong during the quarter.
As such we generated free cash flow of $25.9 million in the third quarter of 2019 compared to the 21 million we generated during the same period of 2018.
This allowed us to repay $32.5 million in bank debt during the quarter and repurchased approximately $1.6 million of common stock.
As of July 30, Onest 2019, we had approximately 21.6 million remaining under our existing share repurchase program.
Our leverage ratio of net debt to adjusted EBITDA decreased to two times.
As a result of this did decrease the applicable margin we will pay on our outstanding revolver balance decreased by 25 basis points, which means the interest rate. We are now paying is LIBOR plus a margin of 150 basis points.
The next 25 basis point step down in margin would be when our leverage ratio is less than or equal to 1.5 times.
I will now turn the call over to George to provide his prepared remarks on operational performance.
Thanks Scott.
Despite softer than expected revenues, we achieved another quarter of strong operational performance, which resulted in consolidated margin expansion of approximately 100 basis points versus prior year third quarter.
Our European Fenestration segment again led the way with revenue growth of 9.3% for the quarter, excluding foreign exchange impact and we realized margin expansion of approximately 180 basis basis points.
Results for this segment continued to be driven by above market growth price increases implemented late last year and improvements in silicone costs for our spacer products.
Sales in both of our North American segments continue to face headwinds despite the weaker demand our north American fenestration segment still outperformed the market with revenue growth of 2.2% compared to Duckers latest calendar second quarter window shipment estimates of a negative 2.3%.
Gawker has recently reduced our full year calendar 2019 window shipment growth estimate to negative 1.2% down from a positive 0.7%.
During the first nine months of our fiscal year, our North American Fenestration segment reported sales growth of 3%. We also realized 180 basis points of margin expansion in the third quarter. This improvement was driven by price increases implemented earlier in the year, along with our continued reductions in upstream.
Now moving onto our North American cabinet components segment.
The semi custom portion of the cabinet industry continues to lose share to the stock portion and we expect that this trend will continue.
Revenue declined $6.4 million or approximately 10% year over year.
As Bill mentioned in our last quarterly call, mainly due to a tough comp we expected and realized margin degradation. In this segment during the third quarter. This was primarily driven by the timing of certain accruals along with lower volumes.
Operational improvements in the segment continued to be realized and are helping us offset the impact of a softer top line.
I will now turn the call over to Bill for his commentary on our outlook and strategy going forward.
Thank you George.
Looking forward.
Even with the optimism surrounding lower interest rates, we expect the soft demand trend to continue through the fourth quarter.
In Europe , despite the continued uncertainty surrounding Brexit.
Still anticipate above market growth, excluding foreign exchange impact as we continue to gain share in the UK and expand our international sales capabilities out of our German spacer facility.
We also expect above market growth in our North American fenestration segment in the fourth quarter.
Largely fueled by increased customer outsourcing of screens and increased volumes in our vinyl extrusion operation as new incremental business into full production.
Unfortunately, most of this above market growth in fenestration will be offset by a continued decline in our North American cabinet component segment as the market continues to shift from semi custom to self cabinets.
As a result, we now expect consolidated full year revenues to be flat year over year.
Even with the weaker demand environment. However, we still anticipate further margin expansion in our European and North American fenestration segments in the fourth quarter and for the full year.
We also expect margin expansion in our North American Cabinet components segment in Q4, which should equate to flat margins for the full year.
Consequently, even with softer revenues, we are maintaining the mid point of our adjusted EBITDA guidance.
At $102.5 million.
But narrowing the range to between 101 hundred $5 million.
Based on the seasonality of our business the fourth quarter has historically been our strongest from a cash flow perspective, and we anticipate that this year will be no different.
Our objective will be to use this cash to continue paying down debt. So that we exit the year with a leverage ratio closer to 1.5 times, while also continuing to be opportunistic with respect to buying back our stock.
We expect the into fiscal 2020, with a strong balance sheet and a demonstrated ability to generate more than 50 million of free cash flow per year.
While also adequately funded in the capital requirements at the enterprise.
As we think about capital deployment in 2020.
Dependent on the macro economic environment options. We are considering include further deleveraging of the balance sheet.
Complete install repurchases.
And possibly making additional strategic capital investments to support future growth.
We are currently evaluating capacity extent expansion projects in the three fastest growing portions of that business.
Namely our screens business in North America vinyl extrusion business in the UK.
And our space of business in Germany.
We are also evaluating potential investments in new technology to improve the competitiveness and capabilities of our us vinyl extrusion business and our stock cabinet components business.
We believe that our strong free cash flow profile would allow us to fund all of these capital investments, while still opportunistically buying back more stock and also continuing to de leverage our already healthy balance sheet.
We will of course have greater clarity on our future capital deployment strategy. When we report our fourth quarter and full year results in December .
And with that we're now happy to take questions.
Ladies and gentlemen, if you have a question at this time. Please press. The Star then the number one key on your Touchtone telephone. If your question has been answered or you wish and Weve yourself from the queue. Please press the pound key again, that's star then one to ask a question to prevent any background noise and ask that you. Please place your line on mute. What's your question has been stated.
And our first question comes from Dan Moore with CJS Securities. Your line is now open.
Hi, Good morning, it's Pete Lucas for Dan.
Just starting out with a quick question on the cabinets you mentioned the shift from semi custom to stock, but have you seen any volume improvement in July and August as the weather has improved.
July .
And August .
Really carried the same sort of trend that we've been seeing all year clearly the way they go better and yes, we did see an improvement but as the comps get tougher later in the Soma, it's pretty clear to US now that the trend is going to be pretty much as I just said.
We'll see a continued decline in the cabinet business in Q4, I think in line with the market generally speaking.
We have strong expectations that we will do better in both North American and European fenestration relative to the market, although the market there clearly is softening as well.
Got you next with relation to you fenestration you mentioned the growth there above the market due to price increases and.
Silicone costs.
Are you seeing any market share gains and if so do you think those are sustainable.
Yes, absolutely.
You know the price increases took place.
Late last year as part of the recovery for.
Not only silicon, but resin price increases, but we are continuing to gain share in the UK vinyls segment and.
We are continuing to expand our international sales opportunities, particularly out of the German space at facility.
Hence evaluating whether we should look at capacity expansion in both of those operations in 2020.
Got you and last one from me with Brexit looming in the pound following what type of impact do you expect from each of these two factors.
Ooh fenestration.
Revenue and margins over the next couple of quarters.
It is really just translation.
Effects.
The the real impact it will be the relationship between the pound and the euro which could have a direct impact on raw material input costs.
Very helpful. Thanks, I'll jump back in the queue.
Thank you and our next question comes from Steven Ramsey with Thompson Research Group. Your line is now open.
Good morning, I wanted to hit on a couple of the growth products.
Categories, I guess, starting with the spacer business in Germany.
Can you talk more to the sales and growth in margin aspirations in this business, maybe kind of ballpark.
Timeline, if its near term or long term and then kind of the investment needed to get to where you're hoping to go.
Yes, so one of the things that we've been doing somewhat quietly as we've gone through this year.
As we've transferred more and more of the international sales responsibility.
For our space the business out of North America.
Into would Germany firstly.
We have stronger capabilities, there and more importantly on a global basis.
It's actually more beneficial to trade out of mainland Europe than it is out of North America.
So we're starting to see increased opportunities and if you'll recall the space. There is really the only one of our products that we can manufacture and ship pretty much anywhere in the world. The rest of our products have a very limited radius. So we've had an active program for some time now to develop that international business, where we're seeing some benefit as you've seen in the results throughout this year.
Hence the consideration if we want to continue to grow that business.
As we go into 2020 and 2021.
It looks as though capacity expansion in Germany.
Would be a smart thing to do.
Secondly, the other fast growing portion of our business again as you see in Europe is our UK vinyl profile business.
We've been taking share.
As some of our competitors have struggled a little bit in that environment.
And again, we may consider a capacity expansion there.
In 2020 going into 2021.
And then in North America.
We have talked before about.
As our customers in the window business.
Run up against capacity constraints, one of the easiest product lines to outsources screens, it's labor intensive and takes all the floor space.
And we have been seeing increased opportunities.
Two would take additional screen business that may require some selected expansion in regions of the country, where we're currently on this.
And Thats under evaluation I think to tie ribbon around the whole thing, it's pretty clear from a macro economic environment right now.
2020 is likely to be overall relatively slow growth.
In the residential segment at least that's the indications we are seeing right now.
But they are all bright spots that we want to take advantage of and our focus through this year things certainly going into next year is going to be on the things. We can control. So the segments of that business, where we do see growth will make investments there.
And anticipate sort of following the market with the rest of our product lines.
In terms of cost if we funded every one of these growth projects to the full.
Our capex of normalized around $25 million.
Could reach.
$40 million, but no higher than that and it's not likely that we would do that all at once that might get spread out over the next two years, a lengthy answer but hopefully that covers what Josh.
Yes, very helpful. Thank you and Im sorry, if I missed this but wanted to get a little more clarity on the pricing front.
More in the cabinet business with the shift in product categories. How are you approaching pricing and given the shift in market dynamics and the shift in your own capabilities to serve.
We put through price increases last year late in the year and some in the early part of this year in our cabinet business because of all the dynamics going on and in cabinets nail consolidation.
And this shift.
We have not push for price increases for the balance of this year and quite frankly, I'm not sure we'd be very successful at getting price.
As we enter a 2020, so again, we're focusing on what we can control.
I'm going to work on our cost structure and capabilities, particularly so that we can be more competitive in the stock cabinet segment, which is a relatively small portion of our business right now.
Great. Thank you.
Thank you as a reminder, ladies and gentlemen that Star then one to ask a question. Our next question comes from Julio Romero with Sidoti. Your line is now open.
Hey, good morning, everyone.
Morning want to Julio.
Just on that last point Bill you had talked about evaluating options for 2020 and potentially for stock Cabinet segment.
Could you, possibly convert some existing manufacturing to service that stock cabinetry or does it take a greater undertaking for a new facility or something along those lines.
It wouldn't be a new facility.
We're looking at some technological investments in existing facilities and you're right. Some potential conversion of capabilities elsewhere is still in the early stages of evaluation.
But at least wanted to get it out there we recognize this trend it looks as though it's going to continue and.
Clearly a high priority for us strategically.
Is to figure out a way to make that an integral part of our business at similar levels of profitability.
And enjoy the growth prospects.
Okay, very good and I wanted to ask about how tariffs are affecting the industry and consequently quantix.
I would assume that tariffs on cabinet components coming out of China would be driving some increased quoting your way can you talk about it.
If if thats happening and how that should flow through your PML in the coming quarters.
We are seeing increased quoting activity, but in all fairness.
I think it's driving the business to all the low cost countries outside of China.
So a lot of it.
Is is really going to move I think to Mexico to existing cabinet manufactures facilities a lot of it is moving towards Vietnam and Indonesia.
So as of yet we have not been successful in being awarded any of that business.
And.
Frankly, right now I think it's unlikely.
As this goes to all the low cost countries.
Understood I appreciate the detail there and best of luck in the rest of 2018.
Thank you.
Thank you and our next question comes from Ken Zener with Keybanc. Your line is now open.
Thanks, Good morning, everybody.
Okay.
Wow. So this is one of the more dynamic calls I think not only because your businesses are performing well, perhaps better than expected on certain levels, but you're also talking about reinvesting.
So if I could just take a broad picture I mean, why hesitations do you have given the.
Slowdown in housing growth, obviously, our view is that it will be kind of flat to up modestly both new in our north.
But at what concerns you have given.
Your experienced last cycle, where asset investing at this point of the cycle. I mean are you basically saying that your German expansion UK extrusion that you're.
Running at 100%.
Or just about.
And how do you balance those incremental sales that you want with what would be.
Perhaps more.
From an incremental margin drag is.
As you.
Add capacity and fill it out.
Yes, so trying to take.
Trying to trying to take.
This piece by piece.
It's been very clear I think through this year that European General has been a positive surprise.
All around I mean, given the political chaos.
The fact that that business continues to to perform.
You know and I think it's going to continue to be insulated from many of the things we see in the us.
We've talked in the past about if they were acquisition opportunities Thats a jurisdiction, we will probably look at.
Our view now is.
That.
Investment in expanding capacity there.
It is a better way.
All continuing to grow those market, we're not talking about bricks and mortar.
We're talking about and we're not bumping up against a 100% capacity at this point, yes. This is a forward looking view.
We feel.
Europe's going to settle down and we think all the pieces are in place for us to continue to get growth. There. So we just want to be ready for it in terms of production capability.
In the us.
Most of the same thing applaud any potential acquisitions too.
Fuel our growth in North America.
A few and far between and as we look at the horizon. It actually makes more sense for us to increase capacity in those segments, where we know we can get growth the labor issue isn't going to go away.
So I think we can continue to enjoy.
Increased screen business that will require setting up.
At least one if not two and possibly even the.
Good screen manufacturing plant.
The capital investment there is minimal.
It's a few hundred thousand dollars in a leased facility, we may utilize existing facilities to do that but there is opportunities for growth there.
The the harder ones are.
Investments in technology to better position, our vinyl extrusion business, which as you know is one of our more competitive product lines.
And the stock cabinet business, and we will monitor the potential investment against what's likely to happen in the residential markets. In 2020, we concur with you will view it we think starts will be.
Flat flattish next year.
We're not convinced that there is a downturn on the way and when you put all the pieces together.
It's not a bad time to invest in the business and really take advantage if things continue to slow down.
Very slow answer.
I appreciate that could you go within that outlook is there a way now that we have you know 19 guidance pretty much.
Slide down by quarter is there a way we should think about growth relative to incremental margins in each of your segments.
I mean, usually you know companies offer 20 or 30% Incrementals is as you as your base business stabilized enough that we could hear from you some type of guidance.
In that regard.
Yeah, I think as we.
That would be more appropriate I think on our December call.
As we've talked about before.
The reason it becomes difficult is the business product lines as you know a completely different.
And as we've said the screen business, which is where we are seeing growth.
Kind of has the lowest drop through rates.
Clearly weve been awarded some new business in our vinyl business.
That will change that a little bit. So we will attempt to do a better job clarifying that as we guide towards 2020 in December .
Thank you very much.
Thank you and once again, ladies and gentlemen that Star then one to ask a question.
Our next question comes from Rueben Garner with Seaport Global Securities. Your line is now open.
Thanks, Good morning, guys.
Good morning, everyone.
So I had some technical difficulties. So excuse me. If this was already asked but I just wanted to try to understand your top line guidance a little bit.
What.
What changed for you guys from your last guide was it predominantly the pressures that the secular pressures in cabinets or are you seeing a softer consumer and housing outlook is a combination of the two what what really was the difference between.
You know what you guided a few months ago and what your gut today.
I think the biggest change is that in the fenestration segment.
That there we have not seen the bounce back in mid to late summer that was originally anticipated, particularly by our customer base and I think the housing sentiment.
Guys clearly sort of weaken this summer has gone on here.
So.
So the benchmark we use.
Docker forecasts window shipments.
At the start of the year that marketing group forecasted window shipment growth in the low single digits and is now forecast in the full year to be negative.
Year over year. So we're seeing that the good news is because of the things I just talked about.
We're actually doing much better than.
The market in that case in case of cabinets.
The KC M&A numbers continue to show.
About a 5% decline in semi custom compared to a 5% increase in stock cabinets. So we're seeing a continuation of that but really the change since our last guidance is the continued softness in in primarily the North American Fenestration segment, which of course is that biggest.
And so in the fenestration settlement forgive me for not knowing this but is it possible that your customers built up.
Built up some inventory in anticipation of demand being better and that's leading to them not necessarily ordering as quickly as they do otherwise would have.
I don't think so I think the channel.
Remains as.
It always has I think overall demand is there and if you recall, we talked earlier in the year that really the constraint on whether we would see a pickup in the second half.
To recover from the weather in the first half was really going to be labor and I think thats what were seeing now there's just not enough labor even for renovation projects as well as new construction to pick up the business that was lost earlier in the year.
Okay, and then last last one for me would this past quarter, we heard some good.
Order commentary from some of the builders I mean.
If anything changed in the last month as you would think that that wouldn't ultimately flow through to you guys. I mean, you know mortgage rates have come in.
I know that there's.
Broader macro concerns with the consumer seems to be doing okay is there anything that would lead you to believe that you know that trend may not continue or essentially lead the business for you guys. As we look into your next fiscal year.
Well all I think we can say is these numbers. We just reported are as of the end of July we are in the process of closing a month of August and the trend. We saw in June and July continued into the month of August .
And right now the expectation is we'll see that trend continue into September as well.
So the answer is no we're not seeing it.
Despite and that's why I said on the remarks here, there's a lot of optimism around the interest rates and mortgage rates continue to fall to an all time low.
Driving a lot of refinancing, but it does not seem to be driving.
An increase in new construction.
At least not yet.
All right. Thank you guys.
Thanks.
Thank you and I'm not showing any further questions at this time.
I would now like to turn the call back over Bill Griffiths for any closing remarks.
Thanks, everyone for joining us on the call today.
We look forward to updating you in early December .
We expect a strong close to the year as we continue to focus on the things that we have direct control over.
So once again, thanks, and we'll see some of you as we hit the road here in the next few weeks thanks, everyone.
Ladies and gentlemen, thank you for participating in today's conference. This does conclude todays program and you may all disconnect everyone have a wonderful day.