Compass Diversified Holdings (CODI) 2014 Q4 法說會逐字稿

Good morning and welcome to Compass Diversified Holdings 2014 fourth-quarter conference call. Today's call is being recorded. (Operator Instructions) At this time, I would like to turn the conference over to Matt Steinberg of The IGB Group for introductions and the reading of the Safe Harbor statement. Please go ahead, sir.

Thank you, and welcome to the Compass Diversified Holdings fourth-quarter 2014 conference call. Representing the Company today are Alan Offenberg, CEO; Ryan Faulkingham, CFO; and Elias Sabo, a founding Partner of Compass Group Management.

Before we begin, I would like to point out that the Q4 press release, including the financial tables and the non-GAAP reconciliations, is available on the Company's website at www.compassdiversifiedholdings.com. The Company also filed its Form 10-K with the SEC last night.

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 certain forward-looking statements, including statements with regards to the future performance of CODI. Words such as believes, 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 factor discussion in the Form 10-K, as filed with the Securities and Exchange Commission for the year ended December 31, 2014, 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 statement, 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 fourth-quarter 2014 earnings conference call. During the 2014 fourth-quarter and full-year periods, we generated strong operating results as we continued to benefit from the leadership positions and financial strength of our middle-market businesses.

During a time when we capitalized on attractive acquisition opportunities and monetized investments that added value for our shareholders, we are pleased to have generated cash flow available for distribution and reinvestment, which we refer to as cash flow or CAD, of $58 million for the 2014 full year. Complementing our considerable success enhancing the prospects of CODI's existing family of leading-edge businesses, we made significant progress during the year implementing key initiatives to strengthen the Company from both a strategic and financial perspective.

Notably, we acquired Clean Earth and SternoCandleLamp, two attractive businesses with strong market positions, experienced management teams, healthy and stable cash flows, and solid growth potential. In addition to acquiring these two attractive platform companies, which has significantly strengthened our earnings power, we further enhanced the future prospects of Clean Earth with the add-on acquisition of American Environmental Services, or AES, a provider of environmental services managing hazardous and nonhazardous waste from off-site generators.

During the year, we also further strengthened our financial and liquidity position. Specifically, we refinanced our debt -- which lowered our borrowing costs, extended our maturities, and increased our total debt capacity by approximately $120 million to $725 million. Additionally, we completed a public offering that raised approximately $100 million of net proceeds, which was used to repay a portion of the outstanding balance of our revolving credit facility.

In July, FOX completed a secondary share offering in which CODI participated and received total net proceeds of approximately $65.5 million. With these proceeds, combined with the debt and equity proceeds from FOX's IPO in August 2013, CODI has now generated total proceeds to date of over $200 million while maintaining an approximate 41% ownership in FOX.

As a reminder, CODI acquired a controlling interest in FOX in January 2008 for approximately $80 million. Combined, these initiatives will substantially enhance CODI's ability to deliver superior shareholder returns over the long term while also increasing our financial flexibility to take advantage of market opportunities.

Turning to our results, our niche industrial businesses delivered another year of solid performance by generating predictable and strong free cash flow. For the year ended December 31, 2014, our niche industrial businesses, including contributions from Clean Earth and SternoCandleLamp -- each on a pro forma basis, as if the companies were acquired on January 1, 2013 -- posted combined revenue and EBITDA increases of approximately 6% and 15%, respectively, compared to the 2013 full-year period. In addition, these businesses produced a combined EBITDA margin of 14.7% as compared to 13.7% for the year ended December 31, 2013.

Turning to our branded consumer businesses, combined revenue and EBITDA decreased approximately 4% and 12%, respectively, for the year ended December 31, 2014, as compared to the prior year. The combined EBITDA margin for the year ended December 31, 2014, declined to approximately 18.9% compared to 20.8% in the 2013 full-year period. Please note that the results of our branded consumer businesses exclude costs which were deconsolidated from our results in the third quarter.

The results of our branded consumer businesses were negatively impacted by the well-publicized industry boom-to-bust cycle in 2013 and 2014 -- have significantly impacted our Liberty Safe business. We believe that we have successfully navigated through these challenges by taking proactive measures to rightsize Liberty. When combined with the underlying strength of our other branded consumer businesses, we entered 2015 with expectations of solid earnings growth in our branded consumer businesses as compared to 2014.

For the fourth quarter, we paid a cash distribution of $0.36 per share, representing the current yield of approximately 8.5%. Since going public in May of 2006, CODI has paid cumulative distributions of approximately $11.76 per share.

Although our cash flow per share in 2014 was reduced to a level below our current distribution per share following the IPO by FOX in 2013, we expect that the acquisitions of Clean Earth and SternoCandleLamp -- as well as growth from our other businesses -- to result in CODI generating cash flow that exceeds our distribution on an annualized basis going forward. Additionally, we have realized gains of more than $340 million from opportunistic divestitures of CODI subsidiaries, which have never been included in our calculation of CAD.

Looking ahead, CODI's solid balance sheet and significant liquidity position allow us to continue to aggressively pursue additional platform acquisitions as well as add-on acquisitions that are accretive to CAD. That said, we will remain disciplined on valuation and diligence while also reinvesting in our current subsidiaries to generate organic growth and increase market share. Overall, we optimistic regarding our future prospects and remain committed to seeking opportunities to add long-term value for our shareholders.

I will now turn the call over to Elias to review the quarterly performance of our current group of subsidiaries.

Thank you, Alan. I will begin by reviewing our niche industrial businesses. Please note that the revenue and EBITDA numbers I provide for Clean Earth and SternoCandleLamp will be on a pro forma basis, as if these businesses were acquired on January 1, 2013.

We are pleased to report a combined revenue increase of 6% during the fourth quarter of 2014 as compared to the year-earlier period. EBITDA on a combined basis increased by 2% as compared to the year-earlier period. However, the combined EBITDA margin declined to 14.4% for the quarter ended December 31, 2014, from 15.1% in the prior-year quarter.

Advanced Circuits posted results that exceeded our expectations for the fourth quarter. Revenue increased by 4% year over year, driven primarily by continued strong performance in assembly sales. EBITDA margins were higher by approximately 110 basis points compared to the year-ago period, reflecting lower SG&A costs as a percentage of revenue. Looking at 2015, we anticipate consistent performance for ACI as compared to the 2014 results.

Arnold Magnetics reported softer than expected results in the quarter. Revenue declined 9% year over year, reflecting the continued decline in sales of the reprographics component of the PMAG division -- which was anticipated -- as well as a decline in sales in Europe, attributable to one customer. Fourth-quarter EBITDA at Arnold declined 12% year over year. We anticipate growth in Arnold's earnings in 2015 as compared to 2014.

At Tridien, although fourth-quarter revenue grew by nearly 17%, EBITDA was slightly lower compared to the year-ago period. Margins in the quarter were affected by higher sales of lower-margin, nonpowered product, as well as higher SG&A expenses due to ongoing increased investment in R&D and administrative costs. Looking ahead, we expect 2015 results for Tridien will be consistent with 2014.

At AFM, performance remained robust during the fourth quarter. Revenue increased by more than 32% compared to the year-earlier period, representing the eighth consecutive quarter that sales have increased year over year. AFM also delivered considerable year-over-year growth in EBITDA, driven primarily by greater sales of higher-margin new products and a more efficient cost structure. This business continued to benefit from solid results on large and midsized accounts and growth in market share. We believe that AFM is poised to build on its momentum for a strong 2015, as demand levels for their products remain strong.

At Clean Earth, results for the fourth quarter were better than we anticipated at the closing of the acquisition in August of 2014. Fourth-quarter revenue increased 6% compared to the pro forma prior-year period, primarily due to increased volume in contaminated soils and hazardous materials. Clean Earth's fourth-quarter EBITDA declined, as anticipated, by approximately 8.5% compared to the same pro forma period last year due to lower revenue from dredge materials and higher material and back-end disposal costs. We anticipate modest growth in Clean Earth results in 2015 as compared to pro forma 2014.

Our newest subsidiary, SternoCandleLamp, which was acquired on October 10, 2014, performed in line with expectations in the fourth quarter. SternoCandleLamp generated pro forma revenue of $41.2 million, up from $40.9 million in the prior year. Fourth-quarter pro forma EBITDA was $6.5 million, a slight increase compared to the year-ago period.

We are pleased with Sterno's results in the quarter and look forward to working with its experienced management team grow the business. Looking ahead in 2015, we anticipate modest growth in SternoCandleLamp results as compared to pro forma 2014, in line with the expected growth in the overall economy.

Next, I will turn to our branded consumer businesses, which includes ERGObaby, CamelBak, and Liberty. The discussion of results to follow excludes the FOX results. Revenue and EBITDA increased on a combined basis approximately 4% and 1%, respectively, over the year-earlier period. The combined EBITDA margin inclined 50 basis points to 17.7% for the quarter ended December 31, 2014. As Alan mentioned, Liberty Safe had a pronounced effect on our fourth-quarter results for our branded consumer businesses.

Turning to ERGObaby: this company delivered another strong quarter, posting revenue and EBITDA growth in the fourth quarter of approximately 17% and 24%, respectively, as compared to the prior-year period. Including Q4, this business has now posted double-digit earnings growth on a year-over-year basis for 9 out of the past 10 quarters. This business continued to benefit from the latest product releases that have experienced strong demand across both domestic and international markets.

The award-winning ERGObaby 360, the four-position carrier introduced in early 2014, is one example of an ERGObaby innovation that has realized remarkable success to date and continues to be in high demand. We remain excited regarding the prospects of this business and anticipate solid growth in 2015 as compared to 2014.

CamelBak's strong fourth-quarter performance exceeded our expectations as revenue increased 27% and EBITDA rose 29% compared to the year-ago period. CamelBak continues to experience solid demand from its latest product introductions. CamelBak has also achieved success in growing its business internationally, which has offset headwinds from a decline in military sales. On a full-year basis, 2014 military sales declined to approximately 21% of overall sales from 29% in 2013. Looking ahead, we anticipate modest growth in 2015 results compared to 2014.

Lastly, Liberty's fourth-quarter performance was in line with our revised guidance, as the Company generated full-year EBITDA of $4.5 million. While fourth-quarter revenue and EBITDA declined significantly year over year, revenue increased 12% and EBITDA increased $1.2 million on a sequential basis. Beginning in the second quarter of 2014, Liberty's management proactively worked through excessive inventory levels throughout its supply chain.

As a result of these actions, Liberty's balance sheet has improved, and the business is well positioned entering 2015. From an industry perspective, we believe inventory of retail has also rightsized and are starting to see an increase in orders from customers. We are optimistic these trends will result in demand and production levels returning back to normalized levels, and that revenue and EBITDA at Liberty will revert to the historical levels of 2011 and 2012.

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

Thank you, Elias. Today I will discuss our consolidated financial results for the quarter and year ended December 31, 2014. I will limit my comments largely to the overall results for our Company, since the individual subsidiary results are detailed in our Form 10-K that was filed with the SEC yesterday. My consolidated revenue discussion will exclude FOX, which we believe is a more meaningful discussion due to the restriction on providing discontinued operations reporting for FOX.

On a consolidated basis, revenue for the quarter ended December 31, 2014, was $264 million, up 58% as compared to $167.4 million for the prior-year period. The year-over-year increase was mainly attributable to meaningful revenue growth at ERGObaby, CamelBak, AFM, and Tridien, together with incremental net sales at Clean Earth and SternoCandleLamp from their acquisition dates, partially offset by the decrease in revenue at Liberty and Arnold.

Revenue for the year ended December 31, 2014, increased to $832.3 million from $712.8 million for the prior year. Net income for the fourth quarter was $8.9 million compared to a net loss of $5.1 million in the year-earlier period. In the 2013 fourth quarter, we recorded a non-cash impairment charge of approximately $12 million at our Tridien subsidiary.

For the year ended December 31, 2014, net income was $291.2 million, which included a one-time gain of approximately $264.3 million on the deconsolidation of FOX. Net income for the year ended December 31, 2013, was $78.8 million, which included a $61.3 million supplemental put expense reversal in connection with the previously announced termination of a supplemental put agreement.

Cash flow for the quarter ended December 31, 2014, was $17.5 million as compared to $9.9 million for the prior-year period. Cash flow for the fourth quarter of 2014 reflects year-over-year growth at our ERGObaby, AFM, and CamelBak subsidiary businesses as well as positive contributions from Advanced Circuits, Sterno, and Clean Earth, offset by the lower results at Liberty and Arnold.

For the year ended December 31, 2014, cash flow was $58 million as compared to $73.5 million for the prior year. FOX was included in our calculation of CAD last year prior to the successful completion of its IPO in August 2013.

Turning now to the balance sheet, we had $23.7 million in cash and cash equivalents and net working capital of $179.6 million as of December 31, 2014. We had approximately $323 million outstanding on our term debt facility and approximately $170 million in borrowings outstanding under our revolving credit facility as of December 31, 2014.

We have no significant debt maturities until June 2019. In addition, we have borrowing availability of approximately $226 million under our revolving credit facility at year-end.

As previously discussed, we lowered our ownership in FOX to 41%, below a controlling interest, through a secondary offering in early July 2014. As a result of this offering, CODI received total net proceeds of approximately $55.5 million, and we deconsolidated FOX from our consolidated financial reporting.

The sale of shares in July resulted in a $76 million gain in the third quarter. And the deconsolidation resulted in $188 million accounting gain in the third quarter, totaling $264.3 million of gain. Further, our 15.1 million shares of FOX are now reported as an equity method investment on our balance sheet, with a value of $245.2 million as of December 31, 2014.

Turning now to capital expenditures, during the fourth quarter of 2014 we incurred $4.6 million of maintenance capital expenditures, an increase as compared to maintenance CapEx of $4.3 million for the prior-year period. For the full-year 2014, we incurred maintenance CapEx of $13.6 million as compared to maintenance CapEx of $14.2 million for the year ended December 31, 2013. For the full year 2015, we expect to incur maintenance CapEx between $18 million and $22 million and growth CapEx between $3 million and $4 million as we continue to invest in the long-term health of our subsidiaries.

I will now turn the call back over to Alan.

Thank you, Ryan. To recap, we made considerable progress on our long-term goals in 2014. Specifically, we continue to actively manage and create value for our family of medium middle-market businesses. Secondly, we acquired two accretive platform companies that will increase our 2015 CAD to a level that we believe will cover our distribution on an annualized basis. Lastly, we improved our financial flexibility by accessing the capital markets through various equity offerings and generated new debt financing under attractive terms.

I would like to close by commenting briefly on acquisition activity. Currently, the M&A environment for middle-market businesses remains competitive, and valuations remain high. As we've done in the past, we will continue to employ the same disciplined approach to valuation and diligence as we seek to add profitable companies to our family of businesses that meet our strict acquisition criteria and have a reason to exist.

This concludes our opening remarks, and we will be happy to take any questions you may have. Operator, please open the phone lines.

(Operator Instructions) Larry Solow, CJ Securities.

Just a quick -- more of a general question. Sort of the general pulse on the economy -- it seems to be getting a little better, I guess, unless you were sort of -- if you were an energy-related company, obviously you wouldn't say that. But I guess most of your companies probably would not be impacted by that. So would you guys sort of agree with that statement over the last -- say, in the back half of 2014 as you enter 2015, in terms of just generally how you look out at your companies?

You know, Larry, as we think about our group of companies and look at 2015, I think it's reflected in the comments that we made here today. I think we think that we are in a slow-growth economy right now.

And not being economists, I certainly don't think we are prepared to really make predictions beyond that, but based on what we see from our companies --

Right.

-- the economy seems reasonably solid, up -- albeit in more of a slow-growth mode than a high-growth mode.

Okay. And just in terms of energy impact, did you guys -- I guess Clean Earth and Arnold would have some impact on that. Did you guys see any of that? Do you anticipate any impact on that? And also, FX -- maybe not on an operational basis, but with your international sales, competitive reasons, would that maybe impact you guys at all, the stronger dollar?

Interestingly, Clean Earth had virtually no impact attributable to energy. They have some business located in the Pennsylvania area, where the development -- oil and gas development is happening, but it's a very, very small piece of business. So immaterial, really, to their results in the context of your question.

And Arnold has had a bit more of an impact, although energy represents approximately 10% or less of Arnold's business. And not all of that energy business has been impacted by the recent disruption in the energy markets, as many of the applications are used to reduce the costs associated with oil and gas exploration activities.

So they certainly had an impact. It remains to be seen what type of ongoing impact, but I don't think that we really anticipate any meaningful degradation to Arnold's 2015 results associated with anticipated problems in the energy segment.

Got you. And just in terms of your newer acquisitions, Sterno and Clean Earth, again, you said you had a few months now to look under the hood. Anything positive surprise, negative surprise as you look out?

Certainly no negative surprises. And I think -- I wouldn't call it a positive surprise, but I think, as you said, after a few months you do get a different look at a company than you're going to have when you are in the due diligence period. But we are just really pleased with the strength of the management teams, the strength of the business models, and really looking forward to long, successful partnerships with both companies.

Okay. Just lastly, with a competitive acquisition environment, obviously you guys were still able to complete two very nice strategic acquisitions. But prices obviously remain high. And I know you have looked and done some add-on acquisitions, including one this quarter, but might we see a potential acceleration on the smaller add-in/tuck-in side of things?

I think that's something we always pursue. Historically, you seen Advanced Circuits do that a lot. More recently, you seen Clean Earth do that. Liberty Safe has done a small add-on in the past.

And so that's a model we really like. And we think all of our subsidiary company management teams are very capable acquirers and integrators. So that's a model that we have always pursued and will continue to pursue. And so I hesitate to call it an acceleration of those efforts; rather, I'd refer to it as a continuation of those ongoing efforts.

Got it, great. Thanks, I appreciate it.

Vernon Plack, BB&T Securities.

Thanks very much. And I was looking for perhaps some more color on SternoCandleLamp. It's a meaningful contributor to total EBITDA, and just wondering -- how do you increase cash flow on that company longer-term? What are the priorities? Is it focusing on greater market share, expanding the product offering, maybe operational efficiencies? Do you add businesses to it? I'm just -- will be interested in your thoughts on SternoCandleLamp.

Yes, thanks Vernon; it's Elias. So Sterno is a very strong market share player in the core canned heat market for food service. So I think -- you know, thinking it will continue to take market share in order to grow is probably not something that is a realistic growth target, just because its share is so high.

So it's an extraordinarily well-managed team; it's an incredibly efficient operator. So I think we see a couple of areas of growth. One is the Sterno brand really has great meaning in its core categories, and we think has the ability to be brought into adjacent markets on an organic basis, where we can come into some new adjacencies and develop products in new adjacencies.

Second, you hit on acquisition possibilities. This is a really phenomenal management team and very efficient operators. We think that there are some adjacent categories within the distribution channels that we serve currently that we would be able to acquire into this management team and be able to increase cash flow that way.

So I think it's really kind of more on new product development and acquisition rather than on market share growth. We also think that the market overall grows in line with the economy. And we have no reason to believe that we would have any market share losses. And so we would expect to have just gains that are produced along the lines of economic growth.

Okay, that's great. Thanks for the color.

(Operator Instructions) Greg Mason, KBW.

First, on the available capital, I know you said you had $226 million of borrowing capacity and $245 million of FOX capital. How do you view your existing availability of capital as you are looking through markets that have potential opportunities? And can you increase that borrowing capacity, or is it much more of a fixed basis -- you would have to increase equity and debt going forward to up that capacity?

Well, I think if we were to see our cash flows from our subsidiaries grow, we hope that could also add some capacity to the items that you referenced. But I do think you have hit on the two largest areas where our capital is going to come from.

And I think relative to our strategy, which is a consistent strategy that we've employed since being a public company, we feel good about that level of capital in the context of it being sufficient to support our add-on as well as platform company acquisitions.

I think as we grow our business, that's certainly something we would like to grow as well over the long term. And as you seen over the years within our Company, we sometimes go from periods of having a lot of available capital -- more than what we have at this time -- to, after an acquisition or two, finding ourselves with less available capital. And so those cycles, I think, will be normal for us as they have been in the past. But for right now, and as we enter 2015, we feel as though we have adequate available capital to execute on our strategy.

Okay, great. And then looking at Arnold, I know you talked about the oil impact, but what about -- just the general commodity complex has declined pretty meaningfully, and I know there's a rare earth metals ETF out there that is down, like, 30% since August. How is that impacting the business? Just the decline in the commodities complex?

We don't believe it's had much impact at all. The rare earth entities that you're referring to are largely suppliers of materials to Arnold, and so that really doesn't, I think, impact Arnold's end markets so much, or their business. But it's something we obviously pay attention to. But at least during the period of our ownership, we really have not seen any material impact of Arnold's business associated with shifting commodities markets.

And how could that flow through to the cost of goods sold and the end operating profit margin? It looks like cost of sales actually went up in the fourth quarter. As commodities were going down, I was kind of thinking that maybe the cost of goods sold could decline a bit. Can you just talk about that dynamic?

Yes, I think it can have a modest impact, depending on the product mix associated with Arnold. But, again, it's not like some businesses -- for example: if you look at American Furniture, for example, where they are huge users of foam. And the price of foam, one way or another, can have a dramatic impact on that company's margins, either negatively or positively. I don't believe that Arnold faces a similar dynamic with respect to the inputs of the materials that are used to manufacture their magnets and magnetic assemblies.

Okay. Great, I appreciate it, guys.

Bob Napoli, William Blair.

Just a -- given that the environment is so competitive today for new acquisitions and the pricing is high, are there any thoughts in 2015 around divestments? This is probably a great market if there's something you didn't think fit as well, or just the timing was right to do that. And so I was just wondering your thoughts around potential divestments?

Sure. I'll just point out before I answer your question directly that the market was very similar in 2014, if not exactly the same, as what we're seeing today. And we were able to consummate two new platform acquisitions. And so I think that the markets are always a little bit tough to predict -- although prior to those two acquisitions, we had an extended period of inactivity, because we were unable to find companies that we thought provided good risk-adjusted returns for our shareholders.

So we are still cautiously optimistic that we can find good opportunities to be acquirers in 2015. And to answer your question directly, I think that part of our business model has been and will continue to be opportunistically divesting subsidiaries from time to time.

And so I don't think 2015 necessarily represents a thought process that is inconsistent with how we've done things historically, although I don't mean to be dismissive of your question. When you see what's going on in the market, some of the prices that are paid can't help but make you question what some of your subsidiaries may be worth.

However, what we really do focus on first and foremost is to build these businesses both organically and via acquisition, to reinvest in the businesses, and to really plan to own them forever. And if opportunistic opportunities arise for us to consider a divestment, we certainly would consider that.

Is there anything today in your portfolio that you think is -- you know, fits less well?

I will say it; and it's probably been said before, but I'll say it again. That's like asking me to answer to you, which one of my children do I like more than the other? (laughter)

So I think they all are wonderful fits, and I am dodging your question a little bit. But I will say that we do look at all of our businesses in the same way. We love them all equally, and we will continue to try to optimize, and build, and grow all of them. And so that's a really hard question for me to answer directly, other than in the manner in which I just answered it.

Great. Thank you.

Thank you. I'm showing no further questions. I would like to turn the call back to management for closing remarks.

I would like to thank everyone again for joining us on today's call and following the CODI story. We look forward to sharing our progress with you in the future.

This concludes Compass Diversified Holdings's conference call. Thank you and have a great day.