Compass Diversified Holdings (CODI) 2013 Q2 法說會逐字稿

Good morning and welcome to the Compass Diversified Holdings 2013 second quarter conference call. Today's call is being recorded. All lines have been placed on mute. (Operator Instructions.)

At this time I'd like to turn the conference over to Michael Cimini of the IGB Group for introductions and reading of the Safe Harbor statement. Please go ahead, sir.

Thank you, and welcome to Compass Diversified Holding's second quarter 2013 conference call. Representing the Company today are Alan Offenberg, CEO; Jim Bottiglieri, CFO; and Elias Sabo, a founding partner of Compass Group management. 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 filed its Form 10-Q with the SEC this morning. Please note that throughout this call, we will refer to Compass Diversified Holdings as CODI, or the Company.

And now I will read the following Safe Harbor Statement. During this conference call, we may make certain forward-looking statements, including statements with regard to the future performance of CODI. Words such as believe, expect, project 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. And some of these factors are enumerated in the Risk Factors discussion in the Form 10-K as filed with the Securities and Exchange Commission for the year ended December 31, 2012, as well as in other SEC filings. In particular, the domestic and global economic environment has a 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 second quarter 2013 earnings conference call. We are pleased to report strong second quarter results that were consistent with management's expectations. For the three months ending June 30th, 2013, CODI generated cash flow available for distribution and reinvestment -- which we we refer to as cash flow -- of $23.5 million, or $0.49 per share.

Based on our performance we paid a cash distribution of $0.36 per share for the second quarter, representing a coverage ratio of cash flow to distributions paid of approximately 1.35x for the quarter and a current yield of approximately 8%. Since going public in May of 2006 CODI has paid cumulative distributions of approximately $9.60 per share.

Overall we continue to benefit from the operational and financial strength of our niche businesses. For the six months ended June 30, 2013, our leading branded products businesses, consisting of Camelbak, ERGObaby, Fox, and Liberty, achieved combined revenue and EBITDA growth of approximately 13% and 15% respectively, as compared to the six months ended June 30th, 2012. These four businesses, which represent approximately two-thirds of our total subsidiary EBITDA, also slightly increased EBITDA margins on a combined basis during the six months ended June 30th, 2013, to approximately 20.1% from approximately 19.9% for the six months ended June 30th, 2012.

In terms of our niche industrial businesses consisting of Advanced Circuit, AFM, Arnold, and Tridien, we continue to generate predictable and strong free cash flow. For the six months ended June 30th, 2013, these four businesses, which represent approximately one-third of our subsidiary EBITDA, hosted combined revenue growth of approximately 2%, although EBITDA declined slightly by approximately 1% as compared to the corresponding period in the previous year. In addition, they produced a lower combined EBITDA margin of 14.3% as compared to 14.8% for the six months ended June 30th, 2012.

Please note that all references to combined revenue and EBITDA and EBITDA margin for our niche industrial businesses were prepared on a pro forma basis as if we acquired Arnold on January 1st, 2012.

During the second quarter we further strengthened our financial position by expanding the size of our term loan facility by $30 million and reducing the interest rate by 125 basis points. We also lowered the interest rate for our revolving credit facility by 50 basis points, which Jim will discuss in more detail later on the call.

In addition we expanded the size of our revolver by $30 million earlier this month, as we were pleased to have once again taken advantage of the favorable credit market conditions. With significant access to capital, CODI remains well-positioned to capitalize on both organic and acquisition-related growth opportunities that create significant value for our owners. As previously announced, Fox filed a registration statement on Form S-1 with the Securities and Exchange Commission for a proposed initial public offering of common stock. The offering priced last night at $15 per share and will begin trading today on the NASDAQ Global Select Market under the symbol FOXF. This IPO represents a major milestone for our company, as Fox is the first subsidiary in CODI's seven-year history to be public, as is a testament to the considerable strength of our business model.

As a selling stockholder in this offering, we expect CODI to generate net proceeds from equity of approximately $66 million to $81 million, pending the exercise of the underwriter's green shoe option, while maintaining a majority ownership in Fox upon completion of the IPO. In addition, Fox intends to use proceeds from the sale of primary shares in the IPO, combined with borrowings under a new credit facility with a third-party lender, to repay in full the outstanding balance under their existing credit facility with CODI. We anticipate that this facility will have an outstanding balance of approximately $61.5 million as of the closing of the Fox IPO.

Based on both our debt and equity interests in Fox, we expect CODI to generate total proceeds of approximately $127.5 million to $142.5 million from this IPO and still maintain a majority ownership in Fox. As a reminder, CODI made loans to and purchased a controlling interest in Fox back in January of 2008 for approximately $80 million, representing an exceptional return to date on behalf of our owners.

Going forward, we will continue to report Fox on a consolidated basis. While our cash flow per share is expected to be reduced to a level below our current annual distribution per share as a result of not including Fox's future cash flow, it will not result in a reduction in our current level of cash distribution given the gain generated from this sale. In addition, our current strong liquidity position has been further enhanced by this transaction and we intend to deploy the proceeds from the Fox IPO into accretive acquisitions as we have done in the past.

I will now turn the call over to Elias to review our current group of subsidiaries in more detail.

Thank you, Alan. I will begin by reviewing our branded businesses.

During the second quarter our branded product businesses produced combined revenue growth of approximately 9% for the second quarter of 2013 over the year earlier period. The combined EBITDA, however, was essentially flat quarter over quarter and EBITDA margins declined to 19.2% for the quarter ended June 30th, 2013, from 20.7% for the quarter ended June 30th, 2012 for these four subsidiaries on a combined basis.

Three of the four branded products businesses grew both revenues and EBITDA by double digits in the second quarter, led by Liberty, which increased revenue approximately 42% over the year earlier period. This business posted another record quarter in Q2 as we continue to capitalize on the robust demand for the company's premium home and gun safe. In addition, the success we have achieved in further scaling this business contributed to a significant increase in EBITDA, more than 41%.

At ERGObaby we delivered revenue and EBITDA growth of approximately 23% and 40% respectively, as we maintain our focus on strengthening ERGObaby's brand awareness and expanding the company's domestic and international distribution channels. Including the second quarter, ERGObaby has now posted double digit revenue and earnings growth in each of the past four quarters.

At Fox, this business posted another strong quarter, with revenue and EBITDA growth of approximately 16% and 29% respectively. As Alan mentioned earlier, Fox successfully priced its IPO and will begin trading today under the symbol FOXF.

Finally, at Camelbak, as anticipated, this business was adversely affected by the fulfillment of a contract with the U.S. Marine Corps that was completed in the first quarter of 2013. In addition, unfavorable weather conditions stemming from unusually heavy rainfall in many of the company's markets led to lower product demand during the second quarter. Although Q2 revenue and EBITDA declined approximately 22% and 42% respectively, the company's growth prospects remain strong. By leveraging Camelbak's premier brand as an innovator of best-in-class personal hydration systems and expanding the company's leading product platform, we expect to increase consumer penetration levels on a worldwide basis.

Next I will turn to our niche industrial businesses, which we are pleased to have produced combined revenue and EBITDA growth of approximately 4% and 7% respectively during the second quarter of 2013 as compared to the year earlier period.

Advanced Circuits delivered year over year revenue growth of approximately 7% in the second quarter due to the add-on acquisition of Universal Circuit, partially offset by the continued softness in our defense and aeronautical business. Demand for the company's core quick-turn production services remain stable.

Our newest subsidiary, Arnold Magnetic, exceeded our expectations in the second quarter, with EBITDA increasing approximately 19%. Although Q2 revenue was flat, we benefitted from a more favorable sales mix, consisting of higher margin products. This business has now posted three consecutive quarters of EBITDA growth, as we maintain our focus on taking advantage of Arnold's leadership position in the specialty and rare-earth magnetic industry.

At Tridien, revenue increased year over year by approximately 7%. However, EBITDA declined approximately 18%. On a sequential basis, EBITDA was essentially flat. We continue to invest heavily in R&D in an effort to bring new innovative products to market by the end of 2013 or early in 2014 as planned.

And lastly, AFM met our expectations, as revenue increased year over year and the company achieved near-breakeven cash flow in the second quarter. While the market for promotionally priced furniture remains challenging, we believe our ongoing efforts to improve operations has positioned AFM well to benefit from an eventual recovery in the overall economy and housing market and expect this business to generate at minimum breakeven cash flow in 2013.

I would now like to turn the call over Jim Bottiglieri to add his comments on our financial results.

Thank you, Elias. Today I will discuss our consolidate financial results for the quarter ended June 30th, 2013. I will limit my comments largely to the overall results for the company, since the individual subsidiary results are detailed in our Form 10-Q for the quarter that was filed earlier this morning.

On a consolidated basis revenue for the quarter ended June 30th, 2013 was $245.8 million, as compared to $230 million for the prior year period. This increase was attributable to the double digit revenue increases at ERGObaby, Fox, and Liberty.

Net income for the quarter was $2 million as compared to net income of $2.2 million in the year earlier period.

During the second quarter of 2013 we recorded approximately $6 million in higher noncash supplemental accrual expense. This expense is based on a periodic review of current cash flow generation levels of CODI subsidiaries and anticipated mark-up multiples for those businesses in the event they were to be sold in the current environment, reflecting the increase in value of our subsidiaries.

For the second quarter of 2013, CODI recorded lower interest expense of approximately $2.6 million as compared to the prior year period due to a reduction in borrowing cost and for a change in fair value of interest rate swaps. During the quarter ended June 30th, 2012, CODI recorded a loss from discontinued operations of $1.7 million, which consisted primarily of transaction-related costs from the sale of HALO.

Cash flow for the quarter ended June 30th, 2013 of $23.5 million was essentially flat as compared to $23.3 million for the prior year period. Cash flow from the second quarter of 2013 reflects strong year over year growth in our ERGObaby, Fox, Liberty Safe, and Arnold Magnetic businesses, largely offset by Camelbak, as was previously mentioned. For the six-month period ended June 30th, 2013, we reported cash flow of $44.3 million as compared to $40 million for the six months ended June 30th, 2012, representing an increase of 10.8%.

Turning now to our balance sheet. We had approximately $17.8 million in cash and cash equivalents and have net working capital of $177.2 million as June 30th, 2013. We also had approximately $281.2 million outstanding in our term debt facility and $17 million of borrowings outstanding under our revolving credit facility as of June 30th, 2013, with no significant debt maturities until 2017.

We have borrowing availability of approximately $271 million under our revolving credit facility on June 30th, 2013. During the second quarter we exercised an option under our credit agreement to increase our term loan facility by $30 million. We utilized those proceeds from the incremental term loan, which was issued in part to repay borrowings under our revolver. Concurrent with this increased borrowing, we amended the pricing terms of our term loan facility by a total of 1.25%.

Effective April 3rd, 2013 amounts borrowed bear interest at either LIBOR plus a margin of 4% as compared to the previous LIBOR margin of 5%, or base rate plus 3% as compared to the previous base rate margin of 4%. In addition, the LIBOR floor was reduced to 1% from 1.25%.

We also amended the pricing terms of our revolving credit facility by 50 basis points. On the terms of the amendment, amounts borrowed now bear interest based on the leverage ratio defined in the credit agreement as either LIBOR plus the margin ranging from 2.5% to 3.5% as compared to the previous margin that ranged from 3% to 4%, or a base rate plus a margin ranging from 1.5% to 2.5% as compared to the previous margin that ranged from 2% to 3%.

In addition, the unused fee for the revolving credit facility was reduced to 75 basis points from 1% when the leverage is lower that the defined ratio; and the maturity date for the revolver was extended to April 2017. All of the terms of the credit agreement remain unchanged.

And subsequent to the quarter ended June 30th, 2013 we exercised an option under our credit agreement to expand our revolving credit facility by $30 million, increasing the total amount available under this facility to $3320 million, subject to borrowing base restrictions. We intend to utilize the incremental borrowing capacity under our revolver to fund the future growth opportunities and to provide for working capital and general corporate purposes.

We appreciate the support of our lending group in amending both our credit facilities under favorable terms, and they've led CODI to considerably increase its financial flexibility and to lower future interest expense.

During the second quarter of 2013, we incurred $3.2 million of maintenance capital expenditures as compared to maintenance capital expenditures of $2.7 million for the quarter ended June 30th, 2012. For the full year 2013 we anticipate maintenance capital expenditures of between $11 and $13 million -- which has not been adjusted for Fox -- as we continue to invest in the long-term performance of our subsidiaries.

We also incurred approximately $2.5 million of growth capital expenditures during the quarter, an increase compared to growth capital expenditures of $0.6 million in the prior year period. For the current year we expect to incur growth capital expenditures of between $7 and $9 million, largely for initiatives at Camelbak and Liberty subsidiaries.

I will now turn the call back over to Alan.

Thank you, Jim. To close I'd like to add some commentary on acquisition activity.

We've seen a modest increase in M&A activity among middle-market businesses since the start of the year and are cautiously optimistic that deal flow will increase over the balance of the year. Valuation levels remain relatively high for higher-quality companies, driven by the continued availability of attractive debt capital and by the prevalence of strategic and financial buyers seeking to deploy capital. As we have in the past, we will maintain our disciplined approach by acquiring companies with a real reason to exist under favorable terms and valuations that are accretive to cash flow.

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

(Operator instructions). We'll pause for just a moment.

And we'll take Larry Solow with CJS Securities for our first question.

Hi. Good morning, guys. I wonder if you could give us sort of your read, your outlook across companies. I realize Camelbak obviously had a temporary and expected drop. What's your read as you look today versus last time from your quarterly call?

Larry, in terms of just an overall economy?

Yeah. Just the economy, how your businesses are doing in general; just like a broad brush.

Yeah. I think as described in our opening remarks, the businesses on balance continue to perform relatively well and consistent with our expectations. I think with respect to comments or as compared to comments that we made in our first quarter conference call, I don't think we have any material changes to our outlook over the balance of the year.

Okay. Great. Thanks.

We'll take our next question from Troy Ward with KBW.

Great. Thank you and good morning.

Can you just give us a little more color on potential margin pressures you're seeing? You said in the industrial segment -- to give us some color of what those are related to and whether you think those are going to abate or you think you see that continue.

Yeah, Troy. I think that it's probably different for each of the companies. But I think that certainly competitive markets can impact the margins. I would say right now Advanced Circuits finds itself in a pretty competitive situation, as does American Furniture. So that's certainly been a challenge.

I think to probably a lesser extent, material costs have been challenging but not nearly as meaningful as I think the competitive situation. Elias, Jim, would you add anything to that broadly?

Elias?

No. You know, Alan, the only thing I would add is I think the margins in the second quarter really just reflect the mix shift across the companies and each of the individual companies are holding in with their margin. It's really just more a component and mix shift issue than it was actual margin degradation in company by company.

Okay. Great. And then on Tridien, this quarter sounded like when you talked about the new products coming on, the R&D that we've been working on for quite some time, you hedged a little bit and talked about early 2014, whereas before I believe that was kind of viewed as a 2013 event. Is that the correct assumption? Did I get that correct? And is there something at Tridien that we should be concerned about in our modeling?

Yes. So you did hear correct, that we've said it's early late 2013 or early 2014 where we'll be launching a number of new products. I would say it's pushed out slightly from what our initial timeline and expectations were. These products are quite complex, as you can imagine, and they go through quite a bit of testing.

So we do expect -- there's still a potential that we could get some revenue from new product launches in the back part of 2013, although we feel 2014 is more probable at this point.

All right. Great. Thanks, guys.

(Operator instructions.) And we have no further questions at this time.

We'd like to thank everybody again for joining us today. We look forward to speaking with you next quarter.

This concludes today's conference. Thank you for your participation.