Culp Inc (CULP) 2015 Q1 法說會逐字稿

Good day and welcome to the Culp, Inc. first quarter 2015 conference call. Today's conference is being recorded. At this time for opening remarks and introductions, I would like to turn the call over to Ms. Drew Anderson. Please go ahead.

Thank you. Good morning and welcome to the Culp conference call to review the Company's results for the first quarter of fiscal 2015. As we start, let me express that some statements made in this call will be forward-looking statements. Forward-looking statements are statements that include projections, expectations, or beliefs about future events or results or otherwise are not statements of historical fact. Actual performance of the Company may differ from that projected in such statements.

Investors should refer to statements filed by the Company with the SEC, including the Form 8-K filed yesterday, for a discussion of those factors that could affect Culp's operations and the forward-looking statements made in this call. The information being provided today is of this date only and Culp expressly disclaims any obligation to release publicly any updates or revisions to these forward-looking statements to reflect any changes in expectations.

In addition, during this call, the Company will be discussing non-GAAP financial measurements. A reconciliation of these non-GAAP and financial measurements to the most directly comparable GAAP financial measurements is included as a schedule to the Company's 8-K filed against today. This information is also available on the investor relations section of the Company's website at www.Culp.com. A slide presentation with supporting summary financial information in addition to quarterly performance charts are also available on the Company's website as part of the webcast of today's call.

I will now turn the call over to Frank Saxon, President and Chief Executive Officer of Culp. Please go ahead, sir.

Good morning, everyone, and thanks for joining us today. I would like to welcome you to the Culp quarterly conference call with analysts and investors. With me on the call today is Ken Bowling, our Chief Financial Officer. I will begin the call with some brief comments and then Ken will update the financial results for the quarter.

I will then update you on strategic actions in each of our businesses. Then, after that, Ken will review the second quarter business outlook, and then we will be happy to take your questions.

Overall, our first quarter performance was in line with our expectations, marking a solid start to fiscal 2015. We continue to experience favorable customer response to our creative designs and wide range of innovative products. Our focused effort on product excellence has been the key driver of our growth and we will continue to pursue this strategy in fiscal 2015.

Importantly, we have a scalable and flexible manufacturing platform that supports our ability to compete in a fashion-driven business that is always changing. We also have the financial strength and free cash flow to make the strategic investments necessary to support our continued growth, as reflected in our plans to significantly increase capital expenditures this fiscal year. I will now turn the call over to Ken.

Thanks, Frank. As mentioned earlier on the call, we have posted slide presentations to our investor relations website to cover key quarterly and annual performance measures as well as our capital allocation strategy. Also, it is important to note that the first quarter had 14 weeks compared with 13 weeks for the first quarter of last fiscal year.

Total sales for this quarter were $76.1 million, up 8% from the first quarter of last year. On a pretax basis, we reported income of $5.5 million compared with $5.5 million last year. Adjusted net income, a non-GAAP measure, was $4.5 million or $0.30 per share -- $0.37 per share, compared with $4.7 million or $0.38 per share for the prior year period. Overall annualized return on capital was 27%.

The Company's overall adjusted effective income tax rate through the first quarter was 16.7% compared with 14.2% for the same period last year. This adjusted effective income tax rate for ongoing estimated cash tax rate represents income tax expense for Culp's non-US entities divided by consolidated income before taxes. This information is important because the Company currently does not pay cash taxes in the US, nor do we expect to for a number of years due to approximately $45.7 million loss carryforwards as of the end of fiscal 2014.

Here are the results for our two businesses. For mattress fabrics, we reported $42.8 million sales for the first quarter, up 12% as compared with the first quarter of last year. Operating income for this segment was $4.6 million for the first quarter compared with $5 million last year. Operating income margin was 10.8% of sales compared with 13.1% a year ago.

As expected, operating performance this quarter was impacted by the increased demand for premium decorative mattress fabrics, which amplify production complexity, causing decreased efficiency. We estimate the margin impact of this pressure was about 1% to 1.5%. On a positive note, operating margin did improve over last quarter's 10.3%. Further, our mattress cover business, or class, continue to make steady improvement. Annualized return on capital for the mattress fabrics business was 30%.

Now on to upholstery fabrics. Sales for the first quarter were $33.2 million compared with $32 million in the first quarter of last year, representing a 4% increase. The upholstery fabrics business reported operating income of $2.1 million, or 6.2% of sales compared with operating income of $2.4 million or 7.6% of sales for the first quarter of last year. The 6.2% operating margin is considered in the normal range and was expected. However, the 7.6% operating income margin experienced last year was exceptional. Annualized return on capital for the upholstery fabric segment was 45%.

Now, turn to the balance sheet. Maintaining a strong financial position and generating free cash flow will continue to be top priorities for this fiscal year. During the first quarter, we achieved $1.4 million of free cash flow after investing a total of $5 million in capital expenditures, working capital, and long-term investments. As of the end of first quarter, we reported $31 million in cash and cash equivalents and short-term investments, compared with $27.6 million a year ago.

Consistent with our capital allocation strategy, the Company paid a $0.40 per share special dividend and a $0.05 per share quarterly cash dividend during the first quarter, totaling $5.5 million. Total debt was $5 million at the end of the quarter, which includes long-term debt plus current maturities of long-term debt and our line of credit. After the end of the first quarter, we made a scheduled annual principal payment of $2.2 million, thus further lowering our debt to $2.8 million. The final $2.2 million principal payment is due next August, at which time we expect to be debt free.

During the first quarter, the Company purchased approximately 32,000 shares of Culp common stock for $556,000 at an average price of $17.23, pursuant to our 5 million share repurchase program. Notably, since June 2011, the Company has returned a total of $26.2 million to shareholders in the form of regular quarterly and special dividends and share repurchases.

Looking ahead, we expect fiscal 2015 to be a good year for free cash flow with capital expenditures projected to be higher than normal and modest growth in working capital. Further, we expect capital expenditures to be approximately $10 million, and depreciation and amortization expected to be approximately $7 million. Frank?

Thanks, Ken. I will now provide you with an update on both of our operating segments. And let's start with mattress fabrics. We were pleased with our continued growth in this business and our ability to keep pace with changing consumer demand across all price points and fabric styles in the mattress industry. Our outstanding designs and innovative product offerings are resonating with customers, many of whom are looking for a much more fashionable and decorative look in mattress fabrics and covers. We are well-positioned to capitalize on this trend with our extensive manufacturing platform, technical expertise, and reactive capacity.

Since the end of fiscal 2014, we have continued to experience increased demand for premium decorative mattress fabrics, which has also amplified our production complexity. As expected, we had some short-term production challenges during the quarter related to this growth.

In order to meet customer delivery commitments, we did incur additional overtime expenses that affected our margins for the quarter. We also needed to utilize some contract suppliers to ensure we could meet this higher demand. We took these additional steps to maintain our excellent customer service and delivery standards, which are a top priority for us, as most of you know.

As previously announced, and in order to meet this growing demand and to improve our efficiency and throughput, we are currently underway with a $9.5 million expansion plan to increase our production capacity and finishing capabilities. As we continue to work through this construction and installation phase, we are experiencing some typical disruptions and space constraints as we move equipment and people to accommodate the build-out and the installation. This ongoing activity has required additional overtime hours as well to meet our production schedules.

However, we are pleased with our progress to date with these expansion activities, and expect to meet our targeted completion dates in the second half of this fiscal year. These investments will significantly enhance our production capabilities and further demonstrate Culp's commitment to our customers and to the continued growth of our mattress fabrics business.

We continue to make good progress with respect to Culp-Lava, our mattress cover operation. With the initial set up, staffing, and training complete, we believe Culp-Lava will continue to show steady growth and make a positive contribution to our business. We are excited about the future growth opportunities in this category.

Overall, the fundamentals of our mattress fabric business are strong and Culp has a solid competitive position as we continue to outpace the overall industry growth. While we have many changes underway in our operations, we remain confident about our ability to execute our strategy with continued success throughout this fiscal year.

Now I will comment on upholstery fabrics. We were pleased with our upholstery fabrics sales performance for the quarter, especially when compared with the exceptionally high level of sales for the first quarter of last year. Notably, we increased our sales of cut and sew kits compared with a year ago, reflecting increased demand for this product category.

The key drivers of our sales performance continue to be our creative designs and product innovation. We are seeing -- continue to see a positive response from our key customers, especially for our latest product introductions.

We have also continued to pursue marketing strategies to diversify our customer base. Our flexible and global platform supports these marketing efforts and allows us to quickly adapt to changing market trends and consumer style preferences. China-produced fabrics accounted for 92% of our upholstery fabric sales during the first quarter, reflecting our ability to offer a diverse product mix of fabric styles and price points with excellent service and quality. Our product diversity has allowed us to target additional end-user markets for upholstery fabrics, including the recreational vehicle and hospitality markets.

Our US operation continued to deliver a consistent performance and contributed to our sales growth for the quarter. However, sales for Culp Europe, which represented 2% of sales for the upholstery fabrics business, continue to be challenged and we are currently assessing the future strategy for taking advantage of this market's opportunities.

It is important to note that we remain committed to growing our sales in Europe. It is the second-largest market in the world, and the majority of upholstery fabrics utilized are sourced from China. Also importantly, we have never invested much capital in our European operation. We peaked at approximately $3 million two years ago and we are now under $1 million, which is all working capital related. We expect to have an updated strategy in place for the European markets by our fiscal year end.

Finally, as most of you know, we have been and continue to be in the very fortunate position of generating significant free cash flow above requirements to grow our business organically and maintain a strong net cash position. Again, as many of you know, we have a clearly defined strategy for capital allocation, which is presented as a separate document on our website.

Additionally, I have covered the strategy on many of these quarterly calls. A key element of our strategy is to return funds to shareholders that exceed our net cash threshold of $25 million, as measured at fiscal year end, and assuming the following: we have not already used these funds for opportunistic share repurchases of our stock; our economic and business outlook remains favorable, and there has not been an acquisition during the year; and, at year-end, we don't see a near-term opportunity to invest the funds in an acquisition.

We are expecting another good year of free cash flow this fiscal year, as Ken mentioned, even after a high level of CapEx investment and modest working capital growth. It is also important to note that this is the first fiscal year in which we do not have to use a part of our free cash flow to build our net cash position to our established minimum threshold of $25 million, as we are already at this level.

Therefore, even though we expect free cash flow for the year to be somewhat lower than last year, due to our high level of CapEx, we expect to generate meaningful funds above our $25 million threshold, again assuming that we have not already used these funds for share repurchases and there hasn't been an acquisition.

Ken will now review the outlook for the second quarter and then I will have a few concluding remarks.

We expect overall sales to be in the range of 1% to 5% higher as compared with the second quarter of last year. We expect sales in our mattress fabrics segment to be 2% to 5% higher compared with the same period a year ago.

Operating income and margin in this segment are expected to be slightly lower than the same period a year ago, as we continue to address the impact operating efficiency caused by the increased demand for knitted fabrics. Although this segment continues to experience margin pressure during the first and second quarters, we expect profitability to return to higher levels during the second half of the fiscal year, especially for the fourth quarter.

In our upholstery fabrics segment, we expect sales to be flat to slightly higher as compared to the same period last year. We believe the upholstery fabric segment's operating income and margin will be slightly lower than the second quarter of last fiscal year, due primarily to margin pressure relating to Culp Europe.

Considering these factors, the Company expects to report pretax income for the second fiscal quarter in the range of $4.2 million to $4.9 million. Pretax income last year second quarter was $4.8 million. For the full fiscal year, we expect sales and pretax income to be higher than last fiscal year, with improvement in profitability expected in the second half of this fiscal year as compared with the first half of this fiscal year. Now, back to Frank.

We are pleased with the solid start to this fiscal year and with the leadership positions we have in both businesses. We will continue to leverage our strengths, outstanding design capabilities, innovative product offerings, and a scalable and global manufacturing platform in order to move the Company forward in the year ahead.

We believe Culp is favorably positioned for continued growth, with a proven ability to keep pace with changing consumer style preferences. At the same time, we have maintained a solid financial position and generating strong free cash flow, allowing us to reward our shareholders with significant dividend payments and share repurchases. Above all, we are committed to outstanding performance for our customers as a financially stable and trusted source for innovative fabrics.

With that, we will now take your questions.

(Operator Instructions) Bud Bugatch, Raymond James.

This is Bobby, actually, filling in for Bud. Thank you for taking my questions.

First, just to circle back to Culp Europe, is the issues kind of you guys are facing there, is it more demand-related from the market? Or is it just having to get the right strategy in place? You know, maybe if you can comment a little on what you are seeing demand-wise and how that has kind of changed over maybe the last six to 12 months.

As we look at our Culp Europe experience, most of you know, who have followed us, we do try a number of things. And we tried Culp Europe, and the strategy we employed is just not working very well and we have been honest about that. But, you know, everything just doesn't work well the first time.

We have learned a lot and now we are looking at the things we have learned in terms of product, in terms of customers, and assessing where we go from here. At the same time, as I mentioned in my comments, we are reducing the capital -- have been reducing the capital committed there. I would -- as we look at it, Europe is a place we think is important to be. And so, we are taking our time in assessing where to go from here as we reduce the capital there and how best to penetrate that market on a meaningful basis over the long haul.

With the fabulous China platform we have, and most of the fabrics in Europe coming from China, we should be able to sell into Europe with the right marketing and sales approach and people. Bobby, I don't know if that answers your question, but.

That's helpful. I appreciate the color. That does answer -- does give me some detail on what I was looking for. And then, lastly, just on Culp-Lava, it was called out in the release and you called it out in your prepared remarks, making progress, and the initial setup is kind of behind us. Can you maybe comment or give a little bit more color on that type of progress and maybe the timeline until Culp-Lava gets to where it is operating fully and as efficient as you believe it can?

Yes. We have really made terrific progress over the last -- over the first quarter and so far in the second. As you know, we have had some challenges in that area in our third and fourth quarter last year -- some growing pains. But, we are feeling much better and we are seeing very good performance, really, since early July, and believe that we are on a really positive track there.

And it's -- but, things -- when you do new things, they just take time. And I think one thing you can count on us to do, we are conservative, but we are not going to be that conservative. We're going to try different things and they all sometimes take a little bit of effort to get on the right track. And we feel very good about Lava and the progress we have made there.

Thank you, Frank, and thank you, Ken, for answering my questions and best of luck through the rest of the fiscal year.

John Baugh, Stifel.

I had two questions. I guess the first one is, obviously, you are doing a fair bit in the manufacturing capacity expansion, with particularly knitted fabrics. Is there -- and now it will have a continued impact on margin. I guess not just this quarter, but maybe into the third and/or fourth quarter as well. So I would love a comment on how long you think that disruption will continue, and whether or not there is anything else other than that issue. You mentioned having to meet demand with contract suppliers and that would explain margin weakness in the mattress cover segment.

John, no, that is the principal reason. There is no really other reason. The demand exceeded we had capacity for, and so that is why, really, after we came out of the Vegas market last -- early February, as you may remember, with the placements we achieved there, we knew we had to start on a more aggressive CapEx program for this fiscal year. And we are doing that and, so far, it is going on schedule.

But, in the near-term, it is affecting our operations with some of the things I mentioned. And we thought it was important to give you a little meat behind one of these factors that are causing the margin pressure. But, as Ken said in his remarks, it is 100 to 150 basis points. It is not -- it hurts, but it is understandable as we have to outsource more to meet the delivery commitments.

And what is really impressive about our team is, we have met the delivery commitments. We are absolutely going to make sure we do that. Even with all the moving parts and moving equipment and building, we are meeting our commitments to our customers. And we will continue to do that.

Now, the second part of your question, is this going to continue into future quarters, we have said it will affect us in the second quarter. There will be some pressure. But, we do not -- that pressure will begin to subside significantly in the third and particularly in the fourth.

In our release earlier last month, we did indicate that the project is really two phases. The first phase, which includes the building expansion and a lot of knit capacity and finishing, is going to be done by the end of November. We are on schedule for that. So that is the major impact.

The second phase is installing additional knit machines in the latter part of third quarter and fourth quarter. So I think we're going to see -- we certainly believe that we are going to see the margins return or significantly improve from where they are today.

Okay. And, I apologize if you addressed this question. We got cut off. The outlook, particularly mattress fabrics, I think you guided overall Q2 [1 to 5]. I don't know if you guided by segment.

But, in light of some pretty encouraging Labor Day news that we are hearing, just curious whether you are just a conservative number, or that is really where you think it is based on the quarter's trends to date.

Very good question, John. And the mattress segment, we do give the outlook and guidance by segment for sales and that is 2% to 5%. And, as you pointed out, we are hearing the same thing you are. Labor Day was very good; maybe even low double-digit comps. And that certainly -- we are seeing that.

But, the issue always is follow-through. And as good as Labor Day was, we have seen years in the past when Labor Day was great, and by the end of September, it had changed. So we are going to be conservative in our outlook.

Now, if the business stays with some decent follow-through, yes, you would be right. There is a good chance for the high end of the range or exceeding the range, but we have seen years where that follow-through just isn't there. Sometimes it is. Maybe this year will be one of those years it is. I certainly hope so. (multiple speakers)

We are going to be more conservative as a rule, for those of you who know us, for a long time.

And, Frank, if I could ask sort of the same. What is your sense of the sequential last 60, 90, 120 days in upholstery? What is your sense of where business is trending there? Thank you.

Our sense is, bedding is better and upholstery is okay. It was -- August retail wasn't that great in upholstery and we heard numerous things of weakness. But it was encouraging that Labor Day seemed to be good in furniture as well, particularly upholstery.

My own expectation is we are going to see gradual growth in upholstered furniture, just like we have seen the last three years. We all get our hopes up for a faster growth rate and we hope housing trends -- housing gains translate into furniture, but it is really just gradual, consistent growth. So that would be our expectation of what we are going to see.

Right. Thank you and good luck.

(Operator Instructions) James Fronda, Sidoti and Company.

Both my questions were already answered, but thank you.

And there are no further questions at this time. I will turn the conference back over for any additional or closing remarks.

Thank you, operator. And thanks again, everyone, for your participation and your interest in Culp. And we will look forward to updating you on our progress next quarter, and have a great day.

This does conclude today's conference. Thank you for your participation.