Dixie Group Inc (DXYN) 2010 Q1 法說會逐字稿

Good day, and welcome to the Dixie Group Incorporated first quarter 2010 conference call. Today's call is being recorded.

At this time, for opening remarks and introductions, I would like to turn the call over to the Chairman and Chief Executive Officer, Dan Frierson. Please go ahead, sir.

Thank you, Theresa. And welcome, everyone, to our first quarter conference call. I would also -- I have with me Jon Faulkner, our Chief Financial Officer, and Gene Lasater, our Corporate Controller.

Our Safe Harbor Statement is included by reference to our website and press release.

The carpet industry has experienced a downturn in business for a very long period of time. Last quarter was the first time the industry experienced an increase in units sold compared with the same quarter of the previous year, since the third quarter of 2005. The quarter-over-quarter increase in square yards was 1.4%. The industry still has not experienced an increase in dollar sales compared with the year-ago quarter since the second quarter of 2006 or four years ago.

With the increase in units compared with a year ago, it appears the industry is beginning to reverse this downward trend. While Dixie outperformed the industry during most of the downward trend, the financial meltdown over the last year-and-a-half impacted the upper end markets we serve even more severely than the industry, as a whole. And, therefore, we underperformed the industry.

However, during this period we did introduce a significant number of wool products, capitalized on the movement to more environmentally friendly products, and introduced more aggressively priced, well designed value products in both our Durasilk polyester and Stainmaster nylon product lines.

Due to these and other initiatives we outperformed the carpet market in the first quarter by nearly 10% in sales dollars and over 20% in units. We believe we are positioned to continue outperforming the market as business conditions improve.

Jon Faulkner will review our first quarter financial results, after which I will comment on current market conditions and our outlook for the second quarter. Jon?

Thank you, Dan.

Looking at sales, our first quarter sales were $50.5 million, up 5.9% versus last year, down from $52.8 million in the fourth quarter. Historically, the first quarter is our lowest sales quarter. For the quarter in dollars our total carpet sales were up 6.5% while the industry was down 2.9%. Our commercial products were down 6.9% while the industry was down 7.8%, but for residential products Dixie Group sales were up 14%, while the industry was up 0.7%.

The first quarter saw a continued improvement in the residential business. We had particular success with our new Durasilk products and well designed, value oriented products. Our commercial sector, though performing slightly better than the industry, continues to be unpredictable with no clear signs of improvement.

The first quarter gross margin was 24.5%, up from 20.2% in the first quarter of 2009, but down from 27.7% in the fourth quarter. Gross margins have been impacted by the introduction and sales of lower margins, higher volume products in our residential business, and inflationary pressures until we receive the full impact of the price increase early in the second quarter.

Carpet production was up 13% in the first versus the fourth quarter and up 49% versus the prior year due to higher sales. Inventory improved, turns improved by 25% due to higher sales. Inventory dollars stayed flat at $55.8 million, up $600,000.

Expenses associated with consolidations of our West Coast operations were $211,000 during the quarter. We're still attempting to rent our Pullman Facility.

Selling and administrative expenses for the first quarter was 28.5% versus 32.8% a year ago. Versus the prior period the comparison was 28.5% versus 28.6% in the fourth quarter. Selling and administrative expenses were reduced $1.3 million or 8% compared with the same period a year ago. The lower selling and administrative expenses reflects the affect of our cost reduction initiatives despite higher sales volume.

The operating loss of $2.3 million in the quarter was improved versus the loss of $39.2 million in 2009. Excluding the affect of facility consolidation and goodwill writedowns there is an improvement from the loss of $6.1 million in the first quarter of 2009 versus a loss of $2.1 million in 2010.

Interest expense decreased $251,000 in the first quarter versus the prior year due to lower levels of debt. In addition, we entered into a new three-year interest rate hedge starting in May of 2010 at a fixed rate of 5.1% for a $25 million notional amount, replacing our expiring swap for $30 million notional amount at a rate of 7.5%.

The effective income tax benefit rate was 30.1% in the quarter. The effective income tax rate differed from the expected 36% rate, principally due to permit tax differences.

Our diluted earnings per share from continuing operations was $0.20 loss in the first quarter versus a $2.90 loss for the same quarter last year.

We ended the quarter with total debt of $61 million, down $6.8 million for the quarter, and down $23.3 million from this same time a year ago. Capital expenditures were $100,000 for the quarter, and depreciation and amortization was $3 million. We expect capital expenditures for 2010 to be approximately $3 million, while depreciation and amortization is expected to be approximately $11.7 million. And we ended the quarter with availability under our loan agreement of $15.3 million.

Thank you, Jon.

Although the first quarter started slowly, as the quarter progressed order entry continued to improve compared with the year-ago period. This trend has continued into the current quarter. Normally, the seasonal nature of the business means the second quarter dollar sales are about 10% above the first. Actually, order entry and sales are currently running well ahead of this pace.

Due to raw material increases during the first quarter, we implemented a price increase in the residential business which began to be felt in late February. We also have now implemented an increase in the commercial business and due to significantly higher raw materials have announced another increase for residential products that will be implemented in mid-May.

We have continued to work diligently to reduce costs and, as Jon mentioned, have improved our inventory utilization significantly. We plan to keep our capital expenditures at a modest level for the year.

Looking at our markets, the commercial business has begun to show some signs of improvement, but order entry continues to be erratic and project specific. Due to the diversity of our market segments we're not as dependent as some on one segment, such as the corporate sector, which has been slower than most other segments.

The improvement in the residential business is centered in the replacement market. The sale of a home often triggers the purchase of carpet. During the housing booms one in six homes sold was new. Today it is only one in 20. So the replacement market is significantly stronger than the market for carpet in new homes. The replacement business also tends toward higher styled and more expensive carpet.

We are experiencing improvement in the residential market across all three of our brands, Fabrica, Masland, and Dixie Home. As the increase in volume has come, we have begun running our plants on a more normal schedule, which will improve our absorption of fixed costs. The better running schedules, along with the significant cost reductions at all levels of the organization, should improve our operating results going forward.

During the downturn we have continued to invest in beautiful, differentiated products. As business improves this commitment to new product should help us perform better than the market.

At this time, we would like to open up the call for questions.

Thank you. (Operator instructions.)

We'll take our first question from Sam Darkatsh with Raymond James.

Yes, a couple of quick questions here. Dan, you mentioned mix, what was a headwind in the quarter. Talk about industry competitive pricing, if you could? I mean I understand that the price increase went through industry wide earlier in Q1, but competitively how promotional do you see the industry as -- and if you could talk about that both residentially and commercially that would be great?

Let me start with the residential side, Sam. First quarter tends to be the most promotional quarter of the year because it is a slow quarter. We did have a price increase mid-quarter. I think it was implemented, at the time that we implemented it raw material costs had not escalated as much as they now have. And, therefore, it was a modest increase. And certainly in the lower end parts of the market probably was not as impactful as it was in the rest of the market.

The increases that have been announced for mid-May in the industry I think will probably be of a magnitude of two times the increase in the first quarter, simply because raw materials have moved up fairly significantly. So the raw material costs in the first quarter moved up faster than the price increases. That should reverse itself in the second quarter or late second quarter and certainly in the third quarter.

On the commercial side there were no cost increases, excuse me, no price increases implemented during the quarter. We did implement one in early April. And that certainly will be felt in second quarter. I would say the first quarter was also a very difficult quarter on the commercial side. And, again, I think it depends on what price points you want to talk about, but the lower the price the more competitive the pricing and the more competitive the marketplace.

Does that answer your question, Sam?

It does. Also, do you look at or can you parse out residential versus commercial margins? I know you've combined some of the manufacturing, but how would you categorize those, if you could?

Sam, normal margins or standard margins are relatively stable versus what we had expected. During the quarter, you had somewhat lower margins on both sides of residential, commercial from some lower margined projects on the commercial side and some more competitively priced polyester products on the residential side. But they were comparable as we expected and not substantially different. So the have a variance that you saw, it was more operational improvements due to fixed absorption of overhead during the quarter relative to a year ago.

So the gross margins on the commercial versus residential side for you are not meaningfully different?

Sam, no, but during any quarter your mix within each business and, for instance, in the commercial business in the first quarter we had more of our national account business. That tends to be a little lower margin than our running line business. On the residential side we probably saw an emphasis on rolled goods in the first quarter that we had not seen in the fourth quarter, so it was probably a little more competitive on the residential side for that reason. But as business has improved I think, and as our variances improve from better running schedules we should see better margins.

Two more quick questions, then I'll defer to others. Talk about gross margin expectations over the next couple of quarters, Dan? As your absorption rates improve and perhaps the mix improves and the pricing goes through? And then, finally, Jon, if you could give interest expense expectations for the next couple of quarters, that'd be great? Thank you.

Sam, as you know, we do not give forecasts, so I'm going to try to answer your question without giving any forecasts. But we've already stated that we have brought our yarn facility from a three-shift operation to a four-shift operation. Our volume is up significantly in our yarn and tufting plants. We're no longer depleting our inventory, which we were doing a year ago and much of last year. So all of that should add to significant improvement in margins as we go forward. Also, the price increases that I just spoke of should add to that improvement, as well.

And, Jon, if you'd answer the other?

Talking about interest, our interest -- first of all, debt levels will be up during the quarter because of higher receivables and seasonal increase in inventories, but our interest expense actually should be equal or slightly down because we have an interest rate hedge coming in in the middle of the quarter that is lowering our effective borrowing rate, plus more of it will be floating than has been through from that hedge from $30 million to $25 million. So I would say flat to slightly down on the interest expense.

Thanks much.

(Operator instructions.)

We'll go next to [Tom Lewis] with [High Road Value Research].

Hey, good morning.

Hello, Tom.

Hey, first off, with respect to the raw materials can you give us a ballpark sense of during the downturn how much they came down, and did they come down more or less in synch with raw materials or with the feed stocks?

Tom, that's a difficult question to answer. And conceptually they came down some as oil went down, but we've seen the intermediate chemicals probably go up more than oil has gone up. So we have -- did not have as big a reduction as you might have thought and have had significant increases in certainly our latex, certainly our backing, and now in our face fiber, as well.

Interestingly enough, polypropylene has probably been hit the hardest of all the fibers, but that price escalating dramatically, that certainly impacts all the backing material for the industry. Then I would take nylon after that and polyester the least.

Oh, okay. So I mean has there been any evolution in that point of -- in the supplier chain where petrochemical feed stocks are rendered into the materials that you need that has made it more or less of a buyers or sellers' market to you over the last few years?

I'm not quite sure how to answer that, Tom. Nylon intermediates, for instance, do not drive the price -- nylon production does not drive the pricing of the intermediate chemicals from which it's made. So it's a small part of the market, whereas, maybe in polyester it's a greater percentage of the market. So I really cannot respond to that adequately, I don't think.

All right. So going to switch it to the product side, to the extent that a share of your, a big portion, I would think a big portion of your residential demand is discretionary in the sense that the homeowners are looking at the floor and getting tired of the way it looked. I would think that that's a wallet that pretty much slammed shut back sort of in that timeframe, that you kind of laid-out in describing late 2003, or no, wait -- Q3 '05 and into '06. As we think about pent-up demand, is that a way to think about pent-up demand?

Tom, I really look -- you know, if you look at what happened in 2008, the door really did shut. And the comparison I've always used is if you have a leak in your roof I don't care how you're doing you're going to replace, you're going to repair that roof some way. But if your wife wants new carpet in the living room and you don't have a job and your neighbor doesn't have a job, you're not likely to buy it.

We really look at two things primarily in our business, that's the stock market and consumer confidence. And if you think about where both those were March a year ago --

Right, right.

-- it was at rock bottom. And certainly since then we've seen major improvement in both, and we think that's what's fueling the increase in business that we're experiencing today. And we think a lot of the things we did during the downturn, we did not cut-back on product introductions, we did not cut-back on innovations, and we think that's really positioned us to come out of the downturn in a very strong manner.

Okay, and I totally get the increased interest in a more value oriented product. I have to think there's a fair amount of your residential demand is coming from a lot of foreclosures changing hands and someone having to fix it up to make it rentable or sellable. Is that something you have any feel for?

Tom, really not directly related to foreclosures, but you're right. In studies we've seen on the industry the three months before a house is sold or the three months after a house is sold is very, very often you will see carpet purchased for the house. Either to dress it up to sell or once you get in it to beautify it. And it does trigger carpet consumption.

Okay, and, finally, you mentioned the ongoing strength of your wool product, that continues to stand-out. Is that still a function of just increasing the availability and the awareness? Or can we think of that perhaps as a proxy for a recovery of discretionary spending at the high end.

Well, I think it's a little bit of everything. First of all, we entered into the wool business knowing that most of our competition there were small mills, that did not have a full line and were not able to service the business as well as we are, either from a sales person standpoint or a manufacturing and delivery standpoint and quality standpoint. And that's certainly proven to be the case.

I don't know how much the wool market has grown, but we've grown dramatically in the last two years in wool. And I think it will continue to be an area where we can outperform our competitors in that end of the business. It certainly does, though, as you indicate, because wool is not cheaply priced, the wool we sell is relatively expensive and we're seeing a good demand for it. I still think the environmental story is part of that, as well.

All right. Okay. Thanks, Dan.

Thank you, Tom.

(Operator instructions.)

We'll go next to Arnold Brief with Goldsmith & Harris.

I had two questions. I don't know if you can answer this, but maybe anecdotally you can give us some insight. The expiration of the tax credit in April is obviously stimulating the sale of houses. Do you think that's having any impact on your March, April business? Or do you think it's going to fall more into the second, third quarter, the affect of that? And another question after that.

Arnie, I don't think there's any way we could really get to the bottom of that question. But anecdotally, again, home resales do impact carpet sales. Very little of our carpet, though, goes into new housing. It's mostly the resale of homes, and that's held-up relatively better than the new houses, as we're all aware. But certainly the numbers that we've seen recently and the tax credit have helped in that area. I cannot give you a number, but I would tend to think particularly our higher end goods it has not impacted dramatically.

Okay. I know you don't give guidance, but I wonder whether you would, without getting into numbers, whether you would tell us whether or not you believe the second quarter will be in the black versus the red?

Arnie, that would get into the guidance area. We're certainly optimistic about business. We think we're going to have better pricing, and certainly lower cost. But I really can't say not more than that.

Okay. Thank you.

Thank you, Arnie.

And that does conclude the question and answer session today. At this time, Mr. Frierson, I would like to turn the conference back over to you for any additional or closing remarks.

Thank you, Theresa.

And apropos Arnie's question, I'll just remind everyone that our objective, first objective has been to return to profitability at the existing levels of business that we have today, and we feel like we're well along the way there. We also feel like that our order entry and sales are running much better than we had anticipated a month or two ago. So hopefully this -- the recovery has started in earnest for the industry, and we can take advantage of that and build on that.

Thank you very much for being with us.

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