Compass Diversified Holdings (CODI) 2011 Q1 法說會逐字稿

Good day, everyone, and welcome to the Compass Diversified Holdings first-quarter 2011 earnings conference call. Today's call is being recorded.

At this time I would like to turn the call over to David Burke. Please go ahead.

Thank you and welcome to Compass Diversified Holdings' first-quarter 2011 conference call. Representing the Company today are Alan Offenberg, CEO, and Jim Bottiglieri, CFO.

Before we begin I would like to point out that the Q1 press release, including the financial tables, is available on the Company's website at www.CompassDiversifiedHoldings.com. The Company also expects to file its form 10-Q with the SEC later today. Please note that throughout this call we will refer to Compass Diversified Holdings as CODI or the Company.

Now allow me to read the following Safe Harbor statement. During this conference call we may make forward-looking statements including statements with regard to future performance of CODI. Words such as believes, expects, projects, and future or similar expressions are intended to identify forward-looking statements. These forward-looking statements are subject to the inherent uncertainties in predicting future results and conditions. Certain factors could cause actual results to differ on a material basis from those projected in these forward-looking statements.

Some of these factors are enumerated in the Risk Factors discussion in the Form 10-K as filed with the SEC for the year ended December 31, 2010, as well as in other SEC filings. In particular, the domestic and global economic environment has significant impact on our subsidiary companies. CODI undertakes no obligation to publicly update or revise any forward-looking statements whether as a result of new information, future events, or otherwise.

At this time I would like to turn the call over to Alan Offenberg.

Good morning. Thank you all for your time, and welcome to our first-quarter 2011 earnings conference call. We are very pleased by our strong start to 2011, as our first-quarter results exceeded our expectations.

While Jim will discuss our Q1 financial results in more detail, I would like to note that CODI generated cash flow of $14.3 million for the three months ended March 31, 2011, an increase of 26.7% from the year earlier period. As a reminder, our first quarter has historically been our weakest quarter due to seasonality factors at a number of our subsidiaries.

Our Q1 results were positively impacted by our acquisitions completed in 2010, specifically the add-on of Circuit Express into Advanced Circuits, as well as our two new platform businesses, Liberty Safe and ERGObaby.

Overall we continue to benefit from the leadership position of our subsidiary companies, their relative financial strength, and the maintenance of efficient cost structures during a period of increasing revenues, generating significant operating leverage.

Before I turn the call over to Jim to give some specifics on the financials, let me now make some general comments on each of our subsidiaries.

Advanced Circuits exceeded our expectations in the first quarter. Each component of our revenue, including our growing assembly business, performed very well in Q1 leading to a 40% increase in revenue. The acquisition of Circuit Express in March 2010 expanded our customer base in the aerospace and defense market and allowed us to utilize our operating capacity more effectively. Demand for our products and services remains strong.

American Furniture performed below our expectations during the first quarter. This business continues to be adversely affected by the soft retail environment in the overall furniture industry. As a result we recorded a $7.7 million impairment charge in Q1 related to our ownership of this business.

It is important to note that this non-cash charge does not have any impact on our Company's operations or cash flow. Going forward, we will maintain our focus on leveraging AFM's strong parent-level financing structure and leadership position to expand penetration levels among new and existing accounts, as we have in the past, while aggressively managing costs.

ERGObaby, our newest platform company, exceeded our expectations in the first quarter. Since acquiring this business in September 2010, we have made notable progress building ERGObaby's infrastructures to support its strong growth trajectory.

Led by a new management team, ERGObaby has already begun to expand both its product line and distribution, which contributed to a 51% increase in revenue during the first quarter. As global demand for wearable baby carriers and related products continues to increase, we remain focused on developing new products and increasing customer penetration levels both domestically and internationally.

At Fox Racing Shox, we posted another strong quarter in terms of both revenue and profitability that exceeded our expectations. By leveraging Fox's leading reputation for high-performance suspension products, we continue to gain market share in our core premium mountain bike business and increase penetration levels in new verticals, particularly powered sports.

During the first quarter, Larry Enterline was appointed the new CEO at Fox, following the retirement of Bob Kaswen, who served the company very well for many years and who will remain with the company as a consultant to ensure a seamless transition. Previously, Larry served as CEO of the COMSYS Holdings until the company was acquired in 2010. We are excited to have Larry join our team and are confident his extensive experience and leadership qualities provide a strong foundation for the future as we continue to execute Fox's growth strategy.

At Halo, the company's Q1 performance met our expectations during this seasonally low operating quarter. We remain focused on adding new reps and increasing our customer count through additional add-on acquisitions as we have in the past.

At Liberty Safe, this business exceeded our expectations in the first quarter. Since acquiring Liberty just over a year ago, we have worked closely with the subsidiary management to enhance operational efficiencies and optimize the company's marketing efforts. For 2011 we expect a strong year, given the company's robust backlog at this time.

Moving to Staffmark, we posted our fifth consecutive quarter of double-digit revenue growth. The company's increased profitability reflects the cost-containment measures implemented in 2009, many of which remain in effect today.

In March, the Staffmark board promoted Lesa Francis, the company's president, to the position of CEO following the retirement of Fred Kohnke. Fred has been a terrific CEO for Staffmark for a decade and will continue to serve the company on its board going forward.

In addition on April 12, Staffmark filed a registration statement on form S-1 with the Securities and Exchange Commission for a proposed Initial Public Offering of common stock. Please note that as this company is currently in registration we are unable to take questions regarding Staffmark during this call.

Finally, at Tridien Medical, we reported Q1 results consistent with our expectation as demand for the company's core products remained steady. The new subsidiary management team has taken proactive measures to increase the company's scalability while we continue to invest in the development of the next generation of medical support services and new wound-care technologies.

As previously announced we paid a cash distribution of $0.36 per share for the first quarter. Our Q1 distribution represents an increase of approximately 6% from our previous quarterly payout and reflects the confidence our Board has in our family of companies.

Since going public in May of 2006, CODI has raised its quarterly distribution a total of 4 times, without ever lowering it, for a cumulative distribution of approximately $6.36 per share. Going forward we intend to utilize our balance sheet strength to capitalize on favorable platform and add-on acquisitions that are accretive to cash flow while reinvesting in our current subsidiaries to maximize their long-term intrinsic value.

With those introductory comments complete I would like to turn the call over to Jim Bottiglieri to add his comments on our financial results.

Thank you, Alan. Today I will discuss our financial results for the three months ended March 31, 2011, including a review of the operating results of each of our eight subsidiaries.

On a consolidated basis, revenues for the quarter ended March 31, 2011, increased 19.9% to $424.1 million as compared to $353.6 million for the prior-year period. The net loss for the quarter was $6.6 million as compared to a net loss of $15.3 million in the year-earlier period.

During the first quarter of 2011, CODI recorded a $7.7 million non-cash impairment charge relating to its ownership of American Furniture Manufacturing. We also recorded a $3.2 million non-cash supplemental put accrual expense during the quarter ended March 31, 2011, which was based on a periodic review of current cash flow generation levels of our subsidiaries, as well as estimated market multiples for those businesses in the event they were to be sold in the current environment. During the first quarter of 2010, CODI recorded a non-cash supplemental put accrual expense of $14.4 million.

Now turning to our separate subsidiary results, beginning with Advanced Circuits. For the quarter ended March 31, 2011, Advanced Circuits' revenue increased 40% to $20.3 million compared to $14.5 million in the prior-year period. During the first quarter of 2011, sales attributable to Circuit Express, which we now refer to it as ACI Tempe, were approximately $5.1 million as compared to $1.1 million in the year-ago period. As a reminder, we acquired Circuit Express on March 11, 2010.

Income from operations for the quarter was $7.1 million as compared to $0.9 million for the same period in 2010. This increase in operating profit is largely due to the increased sales volume as well as for the recording of $3.8 million in non-cash stock compensation expense during the prior-year quarter.

Now I would like to turn to American Furniture Manufacturing, or AFM. For the quarter ended March 31, 2011, AFM's revenues decreased by 18.3% to $35.9 million as compared to $44 million of revenue in the prior-year quarter.

AFM reported a loss from operations of $8 million as compared to operating income of $2.7 million in the first quarter of 2010. As mentioned earlier, the loss of operations is largely attributable to non-cash impairment charge of $7.7 million reflecting a decline in the estimated current fair market value for this subsidiary due to the continued soft retail environment in the overall furniture industry.

Turning now to ERGObaby which we acquired on September 16, 2010. For the quarter ended March 31, 2011, revenue climbed approximately 51% to $11.5 million compared to $7.6 million for the prior-year period, which was prepared on a pro forma basis as if we had acquired ERGO on January 1, 2010. This increase reflects strong product sales in international markets and the addition of new distributors.

The company reported pro forma income from operations of approximately $2.6 million for the first 2011 as compared to pro forma income from operations of $2.4 million in the same period last year. The increase was mainly due to higher sales partially offset by higher SG&A expenses related to the company's expansion initiatives. SG&A expenses for the first quarter of 2011 also include a $0.5 million accrual related to an earnout provision with ERGObaby's former owner.

Turning to Fox Racing Shox, revenue rose approximately 31% to $42.9 million for the quarter ended March 30 1, 2011, compared to $32.7 million in the prior-year period. This increase was due to greater sales in our core mountain bike sector and from higher sales in powered vehicles, including our partnership with manufacturers in the growing side-by-side ATV market and from increased sales with Ford. Income from operations climbed approximately 76% to $5 million during the first quarter, compared to income of $2.9 million for the quarter ended March 31, despite higher SG&A expenses to support the company's continued sales growth.

Moving on to Halo Branded Solutions, for the quarter ended March 31, 2011, the company's revenues rose approximately 10% to $32.7 million compared to $29.7 million for the same period last year. The increase was due to higher sales from existing customers as well as from new accounts resulting from an add-on acquisition in February of 2010.

The loss from operations for the three-month period ended March 31, 2011, was $0.5 million compared to a loss of $0.8 million for the first quarter of 2010. As a reminder, based on the seasonality in this business, Halo typically generates the majority of its annual EBITDA during the third and fourth quarters.

Turning to Liberty Safe, which we acquired on March 31, 2010, for the quarter ended March 31, 2011, revenue increased approximately 27% to $20.2 million compared to $15.9 million in the prior-year period, which was prepared on a pro forma basis as if we had acquired Liberty Safe on January 1, 2010. This increase was primarily due to higher revenue from our national sales channel. The company reported operating income of $0.9 million for the first quarter of 2011 as compared to pro forma operating income of $1.6 million in the same period last year, due to increased advertisement expenses and from higher raw material and transportation costs.

Moving on to Staffmark, for the quarter ended March 31, 2011, revenue increased 13.5% to $246.8 million compared to $217.4 million for the same period last year. The company's loss from operations was $0.3 million for the first quarter of 2011 as compared to a loss of $0.8 million for the previous-year period.

As a reminder, cash flows from Staffmark are typically lower in the first quarter of each year than in other quarters due to reduced seasonal demand for temporary staffing services and due to lower gross profit margins during the period, associated with the front-end loading of certain taxes and normal payments associated with payroll paid to employees.

Now on to Tridien Medical. For the quarter ended March 31, 2011, revenue decreased by 9.6% to $13.9 million as compared to $15.3 million for the same period last year. During the first quarter of 2010 we experienced higher than normal sales as a result of $0.9 million in nonrecurring sales to one customer that needed to replenish its rental inventory that was previously supplied by another vendor. Income from operations for the first quarter was $1.2 million compared to $2.2 million in the same period of 2010, as we continue to experience pricing pressure from customers and have also increased our investment in research and development.

Turning now to our balance sheet, we had $17.1 million in cash and cash equivalents and had net working capital of $132.8 million as of March 31, 2011. We also had $73.5 million outstanding under our term debt facility and $7 million of revolving borrowings outstanding under our $340 million revolving credit facility as of March 31, with no material maturities until late 2012. We had borrowing availability of approximately $253 million under our revolving credit facility as of March 31.

During the first quarter of 2011 we incurred approximately $2.3 million of maintenance capital expenditures. As noted on our prior call, we anticipate incurring maintenance capital expenditures of somewhere between $9 million to $10 million for the full year of 2011, as we remain committed to ensuring the long-term health of our subsidiaries. We also incurred approximately $2.2 million of growth capital expenditures which were largely spent at Liberty Safe to increase production capabilities.

I will now turn the call back to Alan, and then we will take questions.

Thanks, Jim. Again, we are pleased by our strong start to 2011. With a diverse family of the niche-leading businesses, combined with a strong capital structure, we remain well positioned to drive future performance while providing attractive cash distributions. We will also maintain our disciplined approach in pursuing accretive acquisitions that create significant value for our owners.

I would like to thank everyone again for joining us on today's call. We will be happy to take any questions you may have. Operator, please open the phone lines.

Operator, can you repeat the instructions of how to place a question?

(Operator Instructions) Larry Solow, CJS Securities.

Hi, good morning, guys. Just wondering if you can just provide just a little more color on some of the trends you saw sequentially during the quarter. Obviously you guys have a diverse set of businesses, so I imagine it is different amongst the different businesses. But I always like to hear your thoughts considering your diversity.

Any change in spending behavior from your customers? Obviously you have a nice mix of consumer and corporate and healthcare. Any color and thoughts on that?

Yes. No, Larry, I think we remain cautiously optimistic based on the trends we saw in the first quarter. I think obviously the notable exception is American Furniture.

However, as mentioned in both my remarks and Jim's remarks, the first quarter was either within expectations or above expectations for the balance of the portfolio. So again I think it is a moment of cautious optimism.

Just at American Furniture, obviously it's -- do you think that -- could that be cash flow positive for the year? I think it was a little bit below in Q1. Do you actually see that business losing money this year on a cash flow basis?

Obviously, it's too early in the year; but, Larry, our estimates are that it will be slightly cash flow positive.

Okay. And not to pin you down on acquisitions, but just any thoughts on the environment? I guess towards the end of last year maybe things sped up as there was some fear of tax changes and whatnot, and how that set the trends to start this year and what you are seeing today.

Yes, I think when you look at the statistics for the overall market in the first quarter, it certainly suggests that activity was down and that there was a rush to get deals done prior to the end of last year, due to the expected changes in the tax structure. However, the deal flow I think has certainly been there. We have seen good quality assets available.

I would say the biggest change, Larry, in the environment since the last time we talked is I think it's one in where we are seeing prices start to move upwards. I think that the leverage has certainly come back into the market in support of buyout transactions.

There is also a lot of private equity capital available, as well as companies; many have a lot of cash on their balance sheet. So I think it is a competitive market in the combination of available capital, both debt and equity.

We see prices moving upward. So I would say the environment is a competitive environment and one in that we are seeing good opportunities, but it is certainly competitive.

Got you. Jim, do you just have an actual -- the EBITDA number for the quarter? If not, we can just get it later.

Yes, in our 10-Q, Larry, there is a --

That's fine. We'll get it later. Okay, guys. Thanks a lot. Appreciate it.

Vernon Plack, BB&T Capital Markets.

Thanks very much. Good morning. Wanted to just ask a question about your acquisition strategy at this point. Is it going to be more focused on add-ons or new platforms at this point?

Vernon, I think it is balanced, I think as it always has been. I think that we will continue to look at opportunities to add to our existing subsidiaries when appropriate and also always looking for new platform acquisitions.

So I don't think there is any shift between one and the other. I would suggest to you that it is a balanced approach, and I can't think of a time when it wasn't particularly balanced.

Okay, and the strategy as far as American Furniture at this point is just to try and work hard on generating more sales?

I think it is on not only generating more sales but also focused on managing our costs and to be as efficient as we can during a period of depressed demand.

Is that to suggest that there are opportunities within American Furniture to realize some meaningful cost savings at this point? I have had the impression that you are fairly lean there to begin with.

Yes, I think that they are historically a lean operator. I think that post the fire, upon the reconstruction of their facility and the utilization of some other facilities that they have used in the past, allowed them to maybe get a little less lean than they have been historically.

However, management has taken a lot of steps to get the business -- it is back under one roof almost entirely now. They have been able to rationalize their work force a little bit. I think that they just continue to do everything they can to be as lean as possible.

So I think that there are some expenditures that we think we can not undertake, that we have undertaken in the past, and potentially some ability to further rationalize the company. So we would expect to see the company achieve cost savings throughout the rest of this year. And again I think that management is very focused on balancing that, along with growing their top line.

Okay. Thank you very much.

Robert Dodd, Morgan Keegan.

Hi, guys. Just on American Furniture, if we can stay there for the minute, is the weakness there entirely the result of market demand? Or has there been any loss in distribution share?

We have not suffered any material loss in distribution, so we attribute this to demand. I think the consumer that is the purchaser of American Furniture is a consumer that remains under pressure, either due to unemployment or $4.00 gas prices or just an environment where it is tough for them to make ends meet.

So I think that this segment of the market, given the current state of this economy, is particularly under pressure due to the pressure that the typical consumer for their product has. So we think it is a demand-driven decline and that the company has not lost any major outlets for distribution, nor have they really been the victim of lost floor space.

We think they are maintaining their share. But we just believe that the market for promotionally-priced furniture is depressed for the reasons I described.

Okay, fair enough. On Advanced, if I can, obviously you lap the Circuit Express acquisition or fully lap it next quarter. Can you give us an idea of what the pro forma or the like-for-like revenue growth there is versus their -- obviously not a 40% level.

Yes, this is Pat. So, Advanced Circuits just at ACI was, let's see, up about $2 million in revenue or about 14%.

Great; thank you. Then just on Halo, if I can get to that, are you starting to see any -- obviously there are some improving trends there, etc. But are you starting to see any acceleration in demand for promotional products? Or is that still in a muted?

Yes, and I think that -- and I will ask Elias to elaborate array to the extent necessary. I think given Halo's business and that the first quarter is typically, as mentioned in the remarks, a seasonally low quarter for the business, I think it is probably hard to extrapolate first-quarter data into what demand might look like for the year. But, Elias, I don't know if you had anything you would like to add to that?

Yes, we have seen some modest uptick in booking levels. So I would say we are -- as Alan said earlier about the tenor of the overall business, we are cautiously optimistic at Halo as we stand right now. We haven't fully recovered from and the industry hasn't fully recovered from the big downturn between '08 and '09. We do think this is the little bit of a laggard in the cycle as it starts to return.

But there has been a slight increase in the rate of growth that we are seeing this year over what we saw last year. And like I said, we are remaining cautiously optimistic at this point.

Okay, great. Thank you.

(Operator Instructions) Troy Ward, Stifel Nicolaus.

Good morning, gentlemen. Real quick, Alan, one of the things that we have heard preached at CODI for a long time is on acquisitions, how important the manager at the operating level is. And you're not trying to buy distressed companies, of course; you are buying strong management teams.

We were a little bit surprised to hear of all the new management teams being put in place. Can you walk through just what is going on, and if any of those are surprises, or it's just part of the plan?

Yes, sure. I think I would say they are all part of the plan. So I think when you -- let's start with our newest company, ERGObaby. That business, from day one the plan was to support the existing founder/entrepreneur in the buildout of the company. Karin Frost, he'll still work with the company overseeing design.

But that acquisition was always centered around bringing in a CEO and building out a management team to allow the company to have the infrastructure necessary to take it through its next growth phase. So that was 100% part of the plan.

At Staffmark, Fred Kohnke had worked with the company for over a decade, and Lesa Francis was brought in years prior, was made president, and took over for Fred in conjunction with a planned retirement. So that was again completely part of the plan.

At Fox, again another retirement which was planned, with Bob Kaswen stepping down and Larry Enterline coming on board. So those three, I would say, were all in conjunction with plan. So it does happen occasionally, so real no surprises from our perspective.

What about the Tridien situation? Did you have new management there as well?

Yes, Tridien was a situation where the CFO was promoted to chief executive officer of the company. And while not as planned as the others, it was a situation where there was a vacated position at the top and we promoted from within to move that company forward.

Further -- more commentary on Tridien, please. Can you give just some color? You said the year-over-year comparison was impacted by some 2010 events. I didn't have anything in my notes about that from 2010.

Can you talk about what were the unit sales in the quarter and how you see those are trending?

Yes, so in 2010 we actually had a large customer that was replacing some rental inventory. And as a result of that, as you know, rental inventory -- these products can really last anywhere from three to seven years. So when you get a major product replacement like we had, it had a substantial boost to unit sales.

That started to wane in the fourth quarter of last year, and our revenues started to come down commensurate to that. Now, going forward, this is much more consistent with final sellthrough rather than kind of any build of inventory right now. So we think that we are at a much better running rate right now, more consistent with final demand.

The business does continue to grow absent changes in our customer's rental inventory. So for the first three quarters there will be some tougher comparisons to go up against, as we in the second and third quarters of last year had the majority of that rental inventory build. So those will be the toughest periods to go up against.

Is there any difference in that rental build in 2010 in margin? How should we look at the gross profit in Tridien 2011 versus say 2009 versus 2010?

Well, there is no difference in terms of the rental product that was being built. That product line was pretty much consistent with the overall book of business that we have. Now as we have discussed and I think in the fourth quarter -- on our fourth-quarter conference call we talked about the margin environment changing, that we had some contracts with large customers that were coming up where there was going to be some margin impact as we extended those contracts. In fact, we are starting to experience that.

I think we all know that raw material costs are rising pretty rapidly out there. And we are seeing foam cost, which is the majority of the product cost here, rising at a relatively rapid rate. So you should expect to see margin compression in 2011 over 2010.

Clearly we are doing all that we can to increase yield, to reduce direct labor and reduce overhead in order to offset some of the margin declines that are being experienced at the gross margin level. But 2011 will clearly be under some pressure relative to 2010.

On ERGObaby, can you repeat the financials for the quarter, revenue and operating income?

Sure. Revenue was $11.5 million compared to $7.6 million which was on a pro forma basis. And operating income was $2.6 million versus $2.4 million. But the $2.6 million includes a $0.5 million accrual for an earnout provision.

Okay. Then Alan, one final question.

Sure.

Is there some reason why you can't have the segment financial information available at the same time as the release, so we could have it before the call, so we could have this information and have some insight into the businesses, when this is the only chance we can talk in an FD type of format?

That's a good suggestion. We will take that under consideration. I think we might be able to do that.

Great. Thank you.

Jim Stone, PSK Advisors.

Good morning, gentlemen. I am getting on the line really with a suggestion. I always tend to get a little leery when I see reports which just give me a lot of numbers straight without reducing them to a per-share basis. I often wonder then, what is management hiding that they are not wanting to tell us what is happening on a per share, which of course is what really counts to the investor. So calling to ask you to please in your

Actually, a lot of the numbers we give are cash flow numbers. And under SEC rules, you're not allowed to give a cash flow per-share number.

Got you. Okay. I understand on that; but you can still do it pro forma and report it both ways.

We also try to provide in our earnings release, we try to give you the shares outstanding so that someone can do that on their own.

Understand. But again some investors like to do less work than others; and therefore the less work they have to do, the more appealing it is. So would appreciate if you could do more by the share count arithmetic.

Appreciate your comments. Thank you.

We have no further questions at this time. I would now like to turn the call back over to Alan Offenberg for any additional or closing remarks.

I just want to thank everybody for joining us on the call today. We appreciate your support and we look forward to speaking with you next quarter. Thank you.

Once again, this does conclude today's conference. We do thank you all for joining us.