Armstrong World Industries Inc (AWI) 2007 Q1 法說會逐字稿

Ladies and gentlemen, thank you for standing by. Welcome to Armstrong World Industries first quarter 2007 earnings conference call. At this time, all participants are in a listen-only mode, and later we will conduct a question and answer session. Instructions will be given at that time.

As a reminder, this conference is being recorded. I will now turn the conference over to our host, Ms. Beth Riley, Director of Investor Relations. Please go ahead.

Thank you, Hilda. Good morning, and welcome. Please note that members of the media have been invited to listen to this call and the call is being broadcast live on our website at armstrong.com.

With me this morning are Mike Lockhart, our Chairman and CEO, and Nick Grasberger, our Senior VP and CFO.

You've seen our results in this morning's release, and both the release and the presentation Nick will reference during the call are posted on our website in the investor relations section. Because we held our last earnings call just a few weeks ago, this will just be a brief update to complete the picture of the first quarter. Nick will cover a few slides on the quarter's financial results, and then we will ask for questions. Following the call, I can be reached for additional questions at 717-396-3278. As a reminder, regarding our strategic review process, we will not be commenting unless and until a decision is reached.

In keeping with SEC requirements, I advise that during this call we will be making forward-looking statements that involve risks and uncertainties. Actual results may differ materially from those expected or implied.

For a more detailed discussion of the risks and uncertainties that may affect Armstrong World Industries, please review the report we have filed with the SEC, including the 10-Q filed today. In addition, our discussion with operating performance will include non-GAAP financial measures within the meaning of the SEC Regulation G, including references to operating income on an adjusted basis, as defined in today's press release. A reconciliation of the differences between these measures with the most directly comparable financial measures, calculated in accordance with GAAP, is included in the press release and the appendix of the presentation we will reference during this call. Both are available on the website.

And, with that, I'll turn the call over to Mike.

Good morning, everybody, and thanks for listening in on today's call. We had a good quarter in the first quarter, and I'll let Nick take you through the numbers. I just want to say that while our second quarter is expected to be better than our first quarter in absolute terms, in keeping with our normal seasonality, but last year we had a terrific second quarter, and we won't be showing the same kind of year-over-year performance in the second quarter that we did in the first.

And, as Beth said, the other thing is we won't be answering questions with respect to the strategic process. Nick?

Okay, thanks, Mike. Okay, I have four charts here. The first chart is a simple reconciliation of the reported operating income in the first quarter to the adjusted number that we will reference throughout the balance of the slides. You can see we had no so-called non-recurring items in the first quarter. We did have $2 million of Chapter 11-related cleanup costs. We expect that figure to be $5 million to $10 million for the full year. These are legal, accounting and valuation costs associated with Chapter 11.

We also had $6 million of fresh-start accounting adjustments, so to make the first quarter in '07 comparable to the first quarter of 2006, we are taking those out, so the $6 million is comprised as follows. We had $2 million of additional depreciation and amortization. We had $2 million of additional amortization of our investment in WAVE. We had a benefit of $8 million in our accounting for our benefit plans, mostly the U.S. defined benefit pension plan and we also had a $2 million benefit from writing down to fair market value some natural gas hedges.

So the net of all those items was a positive $6 million for the quarter, and we are excluding those in our adjusted number.

Okay, the second chart shows our key financial metrics in the first quarter of '07 versus '06, and, again, this is on a so-called adjusted basis, so we've adjusted for -- in addition to the things I mentioned a minute ago, this is also a constant currency.

So, for the first quarter, sales were up about 3%. Volume, unit volume, was roughly equal to a year ago. Increase in prices accounted for about 175 basis points and better product mix accounted for about 125 basis points.

If you look down at the gross profit, gross profit increased 9%. The margin was up 130 basis points, largely due to higher pricing, better product mix and good performance in most of our manufacturing facilities in the quarter. SG&A expense was up 2.5%. If you look at just the business units, the business units were up about 2%. We had some higher corporate costs year-over-year due to a new equity incentive program for management.

And, finally, operating income, as I mentioned, was up 28%, the margin up 1.5 points. So the fall-through was quite good, sales $26 million higher year-over-year for the quarter and $14 million of earnings increase for the quarter. Cash flow, we typically due to seasonality have a rather negative cash flow in the first quarter. It was roughly breakeven, or $100 million better than year ago, really driven by the higher cash earnings year-over-year.

We had a rather sizable decline in inventory in the first quarter versus year ago, and we also received an extraordinary dividend from our WAVE joint venture with Worthington. And just to reiterate the guidance on cash flow for the full year that we discussed a few weeks ago, we do expect cash flow to be around $300 million for the full year.

Okay, the third chart is a reconciliation of adjusted operating income in the first quarter of 2007 versus 2006. We earned $48 million in the first quarter last year. We increased earnings by $15 million in the first quarter this year due to better pricing, and that is mostly in our commercial businesses, both in the U.S. and in Europe. And cabinets, also, our cabinets business also showed an increase in the first quarter.

The offset would be the U.S. residential businesses. Pricing was generally down in the U.S. residential businesses. Volume and mix contributed $4 million of earnings to the quarter. Again, this was largely derived from the U.S. commercial business, but also our businesses in Europe and Asia, as well as cabinets.

The raw material and energy inflation was a negative $7 million in the quarter. Raw material inflation was negative. Energy costs actually were down year-over-year, mostly natural gas. So within raw materials, most of the inflation was in the building products group, waste paper, mineral wool, starch. We saw inflation in each of those product categories.

Within flooring in North America, we actually saw a deflation in many of the input costs, such as PVC and plasticizers. Manufacturing costs, we had a good quarter in manufacturing. We saw $5 million of improvement in profit due to manufacturing, mostly in building products and also in the U.S. flooring businesses.

And SG&A was up $3 million year-over-year. The SG&A in the North American flooring businesses was down and SG&A was up 2, 3% elsewhere. So, again, $62 million of adjusted earnings for the quarter versus $48 million, or an increase of about 30%.

The last chart simply shows by reporting segment the sales and earnings performance of the businesses. Beginning with sales, the resilient flooring segment was down 4%. We actually saw volume growth in Europe and Asia, but that was more than offset by volume declines in the North American resilient business. In wood flooring, sales were down 3%. Most of that decline was due to volume.

Price was a little off, as was mix. What was interesting about the wood flooring business during the quarter is we actually saw growth in sold wood flooring, principally due to some promotional activities in the big box channel. The independent channel, however, was down, as were sales of engineered wood flooring.

In building products, building product sales were up 14%. North American volume was basically flat. Volume in Europe and Asia for building products was up and price and mix were up in each geography within building products.

Cabinet sales were up 9%. Volume, price and mix contributed to the growth, although volume was the big driver of the 9%. Turning to operating income, resilient flooring, that segment increased operating income by $3 million year-over-year. North America, the profit growth was driven by the cost reduction and also the deflation in some of their raw material categories.

The profit in European resilient was flat year-over-year and in Asia it was up slightly due to the growth in sales. In wood flooring, operating earnings declined $7 million year-over-year due to the price, volume and mix softness that I mentioned a minute ago. We also have seen hardwood lumber prices increase about 4% over the first quarter of 2006, and we've also made an investment in media spend in the wood flooring category.

Building products increased earnings by $17 million year-over-year, driven mostly by gains in sales, but as I mentioned earlier, they also had a very good quarter in manufacturing, and the only negative was the raw material inflation on a year-over-year basis.

Cabinets, cabinets increased their earnings by $1 million, driven by sales, and at corporate, the costs were up about $2 million year-over-year. The staff expenses were largely unchanged. The increase here is principally due to the accounting for equity grants.

Okay, should we now open the line for questions?

Yes, Hilda, please now open the line.

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Our first question comes from Ian Zaffino with Oppenheimer. Please go ahead.

Hi, good morning and good quarter. Just two questions here on the guidance. What are your assumptions as far as housing starts? And when you say that this coming up quarter, the quarter we're in now, is going to lag last year's. Are we talking about everything, EPS, revenues and also margins? Thanks.

Well, I don't think we have any unique insight into housing starts. If you look at the figures, we would expect, given that we clearly lag housing starts, that that segment would be down 15 to 20% for the year. That's the assumption that we've made. We've also assumed that the remodel business would be weak for the balance of the year in North America.

In terms of the quarter, the second quarter, it's really not saying that we expect things to get worse in terms of what we're seeing in the marketplace today. Again, it's more a reflection of the very strong quarter we had last year.

But, yes, I think that's what we're saying, is that the year-over-year growth in earnings, including EPS, would be -- would be less than what we saw in the first quarter.

Okay, great, thank you very much.

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Our next question comes from Daniel Lawrence from Citadel Investments. Please go ahead.

Good morning, how are you? Question on the WAVE joint venture. Can you provide some detail as to what happened with margins in the quarter.

Yes, we saw good volume growth in the quarter. I think the WAVE volume was up about 4%. Unit volume was up about 4%. But going into the year we did expect volumes to contract somewhat. Perhaps what you're looking at, though, is the reflection of the impact of fresh start accounting. We did, as we mentioned, write up our investment in WAVE as part of fresh-start accounting, so the amortization running through the P&L associated with that is significantly higher year-over-year. So if you factor that out, the change in WAVE's margins is really relatively minor.

Okay, thank you. Post the distribution, what are the cash and debt balances at WAVE?

The cash and debt balances at WAVE?

Yes.

I believe we have funded debt at WAVE now of about $50 million. The cash balance I don't know offhand. It's less than $25 million.

Okay, so looking forward, how much additional debt do you see, are you comfortable with, adding additionally or your partners willing to add to incur additional distributions, or I guess what kind of leverage metric would you guys be comfortable with in terms of levering up that business?

Well, implicit in the $300 million of cash flow guidance that I provided for the year includes a second extraordinary dividend from WAVE that would be about $25 million to Armstrong. So for the full year, we expect extraordinary dividends, at least our portion of them, to be about $75 million and then another $30 million or so of kind of normal course dividends paying out quarterly earnings.

So at the end, we'll have I guess roughly $75 million to $100 million of debt at WAVE, and clearly given that their EBITDA is roughly $100 million, we're very comfortable leveraging that business at one times.

Okay, thank you very much.

Our next question comes from Aaron Weitman from Appaloosa Management. Please go ahead.

Hi, guys. My first question is do you guys see raw material inflation going into Q2, and do you guys think you'll be able to offset that in a weakening for modeling in the residential environment? My next question is how much of a lag do you see in terms of housing starts affecting the business in terms of time?

Okay, well, the first question, no, we would not expect to recover inflation in the residential business. However, as I indicated at least in vinyl, we're seeing deflation in input costs for vinyl. Wood, lumber prices are up, and we would not anticipate in the weak market regaining the impact of that through higher pricing.

Aren't vinyl costs expected to go up next quarter?

Vinyl, no. On a year-over-year basis, we expect vinyl costs to be down.

And then in terms of a lag?

The lag is sort of five to six months, is the lag between housing starts in most of what we do.

Thank you.

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At this moment, we don't show further questions in queue.

All right, Hilda. I think that ends it. everyone, again, thank you for joining us for the call and I will be available all day for any follow-up questions.

Thank you, ladies and gentlemen. This concludes today's conference. We thank you for participating. You may now disconnect.