GCP Applied Technologies Inc (GCP) 2017 Q4 法說會逐字稿

Good day, and welcome to the GCP Applied Technologies Fourth Quarter 2017 Earnings Conference Call. (Operator Instructions) Please note, this event is being recorded.

I would now like to turn the conference over to Joe DeCristofaro, VP of IR. Please go ahead.

Thank you, Nicole. Hello, everyone, and thank you for joining us on today's call.

With us on the call are Greg Poling, President and Chief Executive Officer; and Dean Freeman, Vice President and Chief Financial Officer.

Our earnings release and corresponding presentation slides for our fourth quarter results are available on our website. To download copies, please go to gcpat.com and click on the Investors tab.

Some of our comments today will be forward-looking statements under U.S. federal securities laws. Actual results may differ materially from those projected or implied due to a variety of factors. We will discuss certain non-GAAP financial measures, which are described in more detail in this morning's earnings release and on our website. Our comments on forward-looking statements and non-GAAP financial measures apply both to the prepared remarks and to the Q&A. References to EBIT refer to adjusted EBIT and references to margin refer to adjusted gross margin or adjusted EBIT margin as defined in our press release.

Greg will start us out today with a business update. Dean's commentary will include highlights of our fourth quarter financial results and outlook.

We are discussing these results on a continuing operations basis to account for the sale of Darex Packaging Technologies. Additionally, we de-consolidated Venezuela as of July 3, 2017. All revenue and associated growth rates in this discussion are stated on a comparable constant currency basis, which adjusts for the impact of foreign currency.

With that, I will turn the call over to Greg.

Great. Thanks, Joe, and good morning, everyone.

GCP had a strong fourth quarter. Our sales increased 11% and were up 7%, excluding acquisitions. Sales were favorably impacted for the first time in quite a while by foreign exchange, which did add about 2 points to our growth. Adjusted EBIT grew 16% due to higher sales and the positive impact of our restructuring programs. Both our SCC and SBM businesses grew in the quarter and momentum has continued into the early part of 2018. Our customer activity and our project pipeline are both healthy.

We completed 2 bolt-on acquisitions during the fourth quarter. Ductilcrete provides specialty concrete flooring and expands our product line into engineered systems. The company has patented technologies that combine specialty admixtures and reinforcing fibers with design support. The products are sold through a licensed contractor network to deliver high-performance, low-cost floors. The company has accretive margins to GCP and we do see attractive growth opportunities in this market segment.

We also acquired Contek, a provider of quality control software that manages an optimized mix design for ready mix producers. We'll integrate Contek with our VERIFI systems to expand the value we offer to customers through time and material savings as well as the improvement in the quality of concrete.

VERIFI continues to gain market acceptance. We recently assigned 3 new contracts, which, along with our existing customer commitments, will provide growth throughout 2018. New and existing customers are realizing value from VERIFI. New customers are adopting the technology while our existing customers are expanding VERIFI into their fleets.

We introduced 2 new cement products in the quarter. OPTEVA is a quality improver for low alkaline cements and TAVERO is a grinding aid that stabilizes vertical roller mills. The new products provide cost efficiency, reduce CO2 emissions and enhance cement product quality.

Our restructuring programs following the Darex divestiture are now mostly complete. We have delayered our commercial organization to be closer to our customers. Our sales teams are focused on their local markets and delivering high-value projects designed and built around the world. A great example of this approach is the Mexico City Airport where we are selling waterproofing, concrete admixtures and fireproofing solutions to this important infrastructure project.

Turning to 2018. Global construction markets are healthy. We have plans to introduce a number of new products over the next few quarters, and we look forward to announcing them as they're brought to market. One example that will be introduced this summer is a new cloud-based quality control software system developed by Contek to improve flexibility and mix design analysis.

Our SCC segment is gaining new cement additive business and customer conversions are underway. In SBM, our project pipeline is stronger than it was at this time last year. And our bolt-on acquisition pipeline is robust and includes a number of near-term opportunities. With the completion of the Darex transaction, we have a strong balance sheet to fund bolt-on acquisitions, invest in technology and reduce the cost of our debt.

I'd now like to turn the call over to Dean.

Thanks, Greg, and good morning, everybody.

Just a reminder, we are discussing results on a continuing operations basis to account for the sale of Darex. Additionally, we de-consolidated Venezuela as of July 3, 2017. And also, all revenue and the associated growth rates in my comments are on a constant currency basis as Joe mentioned earlier.

GCP's consolidated revenues were up 9% year-over-year to $286 million in the quarter. Revenues increased 5%, excluding acquisitions, and FX added an additional 2 points of growth.

SCC sales were up 5% on improved sales to admixture customers from pent-up demand following weather events in the third quarter. Cement additives also performed well, benefiting from healthy worldwide construction markets and new customer cement additives plant conversions. VERIFI installs grew almost 40% year-over-year.

SBM's revenue increased 16% year-over-year and 7% excluding acquisitions. Building Envelope sales were up 25% and grew 7%, excluding acquisitions, as global project activity continues to improve. Specialty Products, which includes our fire protection, injections grouts and Halex product lines, increased 12%.

Looking at the regions. North America revenues were up 10%. Sales, excluding acquisitions, increased about 8%. Our admixture business was up 20% with VERIFI also growing at an impressive rate. Growth in our fire protection business in North America was offset by modest declines in Building Envelope and residential as well as the divestment of Halex's low-margin commodity business.

EMEA was up 10% organically and 25% including the Stirling Lloyd acquisition. Concrete admixtures increased 9% and cement additives were up 7%. Our fire protection and specialty waterproofing injections business performed very well, growing at double-digit rates in the region.

In Asia Pacific, revenues declined 1% as 26% growth in the Building Envelope was offset by a decline in admixtures.

Latin America declined 7% in the quarter, primarily due to the de-consolidation of Venezuela. However, looking at our 2 largest markets in the region, Mexico grew at a double-digit rate, while Brazil was flat compared to the same period last year after an extended period of declines.

Moving to our earnings and margin performance. We continued to experience raw material inflation due to increased costs across the petrochemical chain, which is impacted by environmental regulation in China that reduced capacity and third quarter weather events in North America. We're also seeing increased logistics costs due to higher fuel prices and capacity constraints. We've initiated price increases to cover these incremental costs. However, we expect our normal lag on the impact of pricing due to contractual obligations and project timing.

Adjusted gross profit increased 5% as higher price and the positive impact of our acquisitions was partially offset by unfavorable product mix and the negative impact of raw materials and logistics inflation. Adjusted EBIT increased 16% in the quarter on higher sales volume, restructuring program savings, which more than offset the negative impact of material inflation.

SCC's gross margins declined 190 basis points to 35.2% as the negative impact of material inflation was partially offset by higher price. Segment operating income was flat compared to the same period last year.

And SBM's gross margins declined 200 basis points to 42.3% due to the negative impact, again, of material inflation. SBM segment operating income increased 15% in the quarter due to higher sales volume and the impact of acquisitions.

Rounding up the consolidated results for GCP in the quarter. Interest expense totaled $14.1 million. Our income tax expense for the quarter included $82 million related to our provisional estimate of the impact of the Tax Cuts and Jobs Act. Our net loss from continuing operations in the quarter was primarily due to this income tax expense. We estimate the tax impact of this expense will be less than $70 million -- the cash tax impact of this expense to be less than $70 million paid out over 8 years.

Adjusted EPS, which excludes the tax expense related to the new law, was up 33% to $0.24 a share and our diluted share count was 71.7 million shares.

Our adjusted free cash flow came in lower than expected due to strong revenue growth late in the fourth quarter, which increased our working capital usage. Our sales in November and December, in particular, were much stronger than seasonally normal, which caused accounts receivables to build. We will have collected most of these receivables in the first quarter.

Looking at our 2018 guidance. Last quarter, we gave you an early indication of our expectations, those expectations were for sales growth of 5% to 10% and adjusted EBIT growth of approximately 10%.

We've now finalized our 2018 operating plan. We are confirming sales guidance of 5% to 10% and providing an adjusted EBIT guidance range of $135 million to $150 million. The top end of our guidance would reflect healthier-than-expected project activity and a moderation of expected inflation trends, with the low end of the range taking into account higher-than-expected inflation and a slowdown in construction activity that could result from a weaker economy or rising interest rates. Our guidance range includes increases in salary and benefits, incentive compensation, growth investments and, again, inflation in raw materials and logistics expenses.

While we're still assessing the impact of the new tax law, it is a positive development for GCP. We are forecasting a lower effective tax rate for 2018 as a result of the new law between 28% and 31%. We also have potential for increased flexibility with our cash globally.

We are forecasting an adjusted EPS range of $0.84 to $1.03. The range includes the annual impact of interest expense savings from paying down about $400 million in term loan and revolver debt in 2017 as well as the lower projected tax rate due to the U.S. tax reform.

Our capital investments could be slightly higher in 2018 than our target of 5% of sales due to investments required for our new VERIFI contracts and 3 new admixture plants to replace sites sold with the Darex transaction. We are projecting $35 million to $45 million in adjusted free cash flow with improvement in the first quarter comparatively to last year due to receivable collections in the first quarter.

Overall, our sales and earnings should resemble a more seasonal pattern in 2018. We expect strong comparative results versus the first quarter of 2017 and forecast that the quarter will produce around 20% of 2018 sales and 10% to 12% of 2018 adjusted EBIT. The second quarter is expected to be the strongest, followed by the third quarter and the fourth quarter seasonally weaker, though stronger than the first quarter.

And with that, I'll turn it over to Greg for closing comments.

Thank you, Dean.

To wrap up, in 2017, we repositioned GCP Applied Technologies as a strong focused construction products technologies company. Our performance in the fourth quarter provides momentum going into 2018, and we have a healthy global construction market. We are launching new products and focused on value pricing and increasing productivity to offset inflation. We will continue to pursue bolt-on acquisitions that add unique capabilities and improve our market positions. We have a strong balance sheet which provides flexibility to improve our earnings and cash flow. The GCP team remains committed to creating shareholder value.

We want to thank you for joining our call. And now, Dean and I would be happy to take your questions.

(Operator Instructions) And our first question comes from Mike Harrison of Seaport Global Securities.

Greg, you mentioned that there was some weakness in the concrete admixtures market in Asia Pacific. Can you give some additional color on what you're seeing there and whether you expect that to return to growth in 2018?

Yes. I think, last year, we said there was some loss of some customers in Asia and we had some softer markets. We actually think the Asia market for 2018 looks relatively healthy. The Australian market's good. China should be a bit better. We're seeing some recovery in Singapore. And, in fact, we like the way we started in Asia coming into 2018.

All right. And on the SBM side, you mentioned that the new project pipeline looks better than it did a year ago. Have we just seen some delays there and the pipeline continues to grow and, therefore, things are looking stronger? Or do you think that this is strengthening in the overall underlying market? I would find that surprising given your comment on -- maybe a little bit of concern about interest rates weighing on construction demand.

Yes. I mean, first, for the interest rate comment, we have not seen that impact demand. It's just that -- in terms of our forecasting or our projects to this point. I would tell you that our project pipeline both is a little more even. If you remember last year, it was back-end loaded and then we got the poor weather in the third quarter and it pushed some of those programs out. So we are benefiting in some of those projects that we've been talking about now, up and running and coming to fruition, some good infrastructure projects. I would also tell you that the overall pipeline across sort of the spectrum is a little healthier than it was a year ago, both in infrastructure and new products. And I also think that we've got some benefit from the acquisitions as we've added those companies that are added into our pipeline. So that's where those comments come from.

All right. And then, last one for me. For now, it's for Dean. It seems like there are a lot of moving pieces in the adjusted free cash flow as we bridge from the roughly $9 million you did in 2017 to the $35 million to $45 million guidance for 2018. Obviously, $8 million to $18 million of that is coming from the higher EBIT guidance. I don't know if there's some cash tax savings in there from tax reform, but can you help us kind of walk through where the rest of that free cash flow improvement is going to be coming from?

Yes. I mean, I think one of the comments that I made earlier is we are going to a more normal seasonality of our working capital. So as the first half of the year is a bit stronger versus 2017, we've got a more efficient and optimized working capital cycle, so that's one improvement you'll see. The other one is we paid down a fair amount of debt in 2017. We'll pick up those savings. And then, to your point, cash tax savings as well as the expansion of EBIT all contribute to the performance that we expect. And then, lastly, I'll just say, obviously, the acquisitions will contribute to cash year-over-year as well.

Our next question comes from Laurence Alexander of Jefferies.

Could you help us think through how to think about the corporate line in 2018 compared to 2017? And sort of -- and just -- and then also for the engineered systems, how you think the margin profile for those will differ from your -- from the balance of your portfolio? And then, I guess, the last one would be in terms of raw materials versus pricing, when do you think SBM could get margins back up so you can recoup the full 300 basis points of lost gross margin?

Yes. Let me -- Laurence, this is Greg. Good questions. So let me take the first 2 and I'll let Dean chime in if I missed something and talk a little bit about the corporate costs.

On your first question -- or last question on the price -- I guess it was your middle one -- price and margins. Look, the raw material costs are starting to flow through. We've been out with price increases. We would -- typically, as we've said, it's a quarter or 2 to recapture the margins. We started that pricing program in the fourth quarter, so as we roll into the second quarter, we'll start to see some improvement in the margins. And some of that, specifically, is in SBM, which is what you asked about. I mean, we start to recover those SBM margins second and third quarter relative to the inflation. There is a lot of mix in the early part of the year as well as the last part with SBM. So some of the margin, that 280 basis points, I think about 200 of it was inflation, maybe it was 260. The rest of it is a mix profile. So we'll also recover that in the middle part of the year as the mix gets to our normal calendarization.

So on margin and price, we're out getting the price, inflation continues, butadiene is up, the rubbers are up, films are up, oil continues to be higher than it was last year, but the market's pretty good and we're working the price hard.

Yes. And, look, Laurence, to your question on the corporate line, our total G&A, just to give a little perspective, improved about 200 basis points year-over-year as a percentage of revenue. In that, includes the impact of the acquisitions and about $7 million of restructuring savings that we achieved -- excuse me, about $6 million to $7 million of restructuring savings we achieved in 2017. We anticipate another $4 million to $5 million of net restructuring savings benefit in 2018.

And overall, I would say -- I don't want to give much more color than this -- our total G&A as a percentage of revenue should be about flat, maybe up a little bit as we re-baseline incentives and we make certain investments in our G&A growth programs.

(Operator Instructions) Our next question comes from Chris Shaw of Monness, Crespi.

I guess, a general question to start, and it's somewhat reflected, I guess, in the guidance, but the overall market conditions right now, North America -- maybe outside of Latin America, they're -- is this sort of the best of times for the industry? I know some of the commercial construction indices are fairly positive, backlog may be hitting a record. Does it get better than this, again, outside of Latin America?

Well, if you look at historical, we're not at peak construction levels as we were, but this is a nice even growth rate. I mean, this is good consistent growth. We see -- if I sort of went around the world, we think there's some upside in Brazil. We think the North American market continues and, as we look at infrastructure, that should extend out the cycle as we see it. The European market, we keep seeing recovery. And I'm pleased with the infrastructure work we're seeing in the Middle East. We were a little concerned the Middle East might be off because of the volatility in oil, but the infrastructure is good there. And as we said, Asia feels a little, especially the ASEAN countries, a little better to us. So I wouldn't call this a peak structure, but I do think it's nice growth, consistent around the world. And so we're pleased with the market.

That's helpful. And then, in terms of your guidance for '18 on the revenue line, 5% to 10% constant currency, what -- is there any -- I guess, sort of 2 questions. Is there any projection for future M&A in that number? And how much of that number has the benefits from the deals you did in '17?

Yes. And I'll let Dean also sort of chime in on the FX, how we did that, but you don't have any future deals in that number, but we have rolled in any of the lap on the existing deal. So the range includes the existing acquisitions we've made, but we don't project anything for the future until we get it done.

And then, Dean, on the FX comment?

Yes. I mean, we essentially forecasted a 12-month weighted average foreign exchange outlook for 2018. We kind of think about how 2017 played out. The dollar was weaker sort of first half and it strengthened in the second half. As we look at the early part of what we're seeing in 2018, we've got a little bit of tailwind, but it's tough to know exactly how they'll all play out. But essentially, we use the 12-month weighted average FX rates for the key foreign exchange currencies that we operate in.

Sure. Just quickly, you mentioned before the debt pay down last year. Do you guys have any more plans for paying down debt or is that -- you're kind of comfortable right now?

I think we're always looking at opportunities and evaluating, assessing cost of our debt. And as and when the opportunities present themselves, we'll take necessary action, I think, like we've historically proven, but any other plans outside of that, I wouldn't want to comment.

Our next question comes from Connor Cloetingh of KeyBanc Capital Markets.

So I was just wondering if you could maybe put a percent on how much you think new products will help with volume growth in 2018? You mentioned the new cement product and then more coming out over the course of the year. And how much do you think those will help margins improve versus price increases?

Yes. So let me -- it's a great question. We like new products from 2 perspectives. One is the -- the growth you get from the new products, but it also allows you to go in with your customers and provide a suite that provides them more value. So we get 2 benefits as we take new technologies to our customers. I would say it's a couple of points, the high end 3, depending on the acceptance rate. And I'm not really counting VERIFI in there as a new product, I don't think. So, cut 2 to 3 points on the new product side, but you're -- these build over time in the marketplace.

And then, in terms of each one of those products that we build through the R&D, we try to have a ground rule that those be accretive to our margins as we come out and launch. So places where we're investing in new technology, we want it to be a net positive to GCP, maybe not just the specific product line, but to GCP overall. So those margins should be at a higher rate.

How much growth we're going to get out of price versus new products? That's always a trade-off. We do, do a lot of work on reformulations to try to improve our productivity. So we don't count that in the new product. Those are reformulations and we'll get some of that favorability and productivity there. But we have to work all 3 of those: productivity, price and the new products to offset the inflation.

Okay. Great. And then, just one more on price. Have you been noticing any pushback from customers? Or have they been pretty accepting on the price increases given the raw material environment?

We have sophisticated customers and many of them are very good purchasers and they always push back.

Our next question comes from Laurence Alexander of Jefferies.

If you don't mind, two longer-term questions. Can you flesh out a little bit your current thinking for VERIFI in terms of capital spending, that is how much you think you will need to spend over the next several years? The sales and then the margins, how we should think about the payback on that investment? And then, on engineered systems, how much higher margin is that compared to the rest of the portfolio?

Yes. On the first one, on the engineered systems, it would be in the range -- at the higher end of the range of an SBM type of product. Now, that's in the concrete business, but it's more an SBM kind of margin than it is a traditional concrete kind of margin if I frame it that way. That's why we like that system selling concrete.

Look, we think VERIFI is accretive. It's accretive to our earnings. We do have to invest cash with it. We have not publicly talked about that number, but we did say, with the couple of plants that we have to build coming out of Darex and the investment in VERIFI, our CapEx might be at the 5.5% range on the total revenue versus the 5% this year, depending on how the revenues come in and exactly the timing on that investment, but we do try to project that VERIFI capital within that 5% range. It's going to be a little higher this year. And then, the margins on VERIFI are accretive to the concrete business. They're very good gross profit margins, but we do have the depreciation that flows through that. So it's not a traditional calculation on that standpoint. We really look into a couple of points of EBIT growth relative to the company out of VERIFI, if you want to frame it that way, and we would expect to look at a doubling of that business in 2018. I know I'm not giving you specific numbers, Laurence, but that gives you a framework to work from.

But just to be clear, I mean, what you're getting at is that it is EPS-accretive already and the EPS accretion should grow from here?

It was probably about breakeven on an EBIT basis. We probably got a little bit on -- after depreciation last year, but it should -- it will be positive going forward.

Yes.

Our next question comes from Mike Harrison of Seaport Global Securities.

I had another question on VERIFI as well. I think you said that the installed base increased by 40% in 2017. You're expecting that business to double in terms of revenue in 2018 or installed base? Can you just maybe give a little bit more color on kind of what your expectations are?

Yes. I think just -- plus or minus on the doubling of the revenue's our target. Some of it will be timing-based in terms of the installs because we scale up, but we're at a bigger install rate than we were last year. And then, we get the benefit of everything that sort of laps, so you got it right.

Okay. And then, you mentioned needing to build some new admixture plants. I believe that there have been some other capacity additions in the admixture space. Can you just talk in kind of general terms what you're seeing in terms of supply and demand dynamics or competitive dynamics and your ability to get pricing in the concrete admixture space specifically?

Yes. That's a great question. We have to replace 3 plants that we had with Darex because we moved on the site. That capital is in our numbers. We'll spend some of it this year and it will flow into 2017. In fact -- I mean, '19.

Yes. It shouldn't flow back.

But that is -- we'll get some productivity on those plants, but it's actually not new capacity. It's replacing the capacity that we had.

But frankly, on the admixture business, you have to be close to your customers. It's not a capacity-driven business relative to the value sell. You've got to have the right products, pricing, service and distribution. The capacity utilization in that business really is not going to be the driver of price. It's going to be the other value that you bring to your customers in terms of the types of products, the service. And you have to be close to your customers in order to make the deliveries and be effective. So these plants are about providing good service in the markets in which we're in.

All right. And then, I know you mentioned that the M&A pipeline is pretty robust right now. You expected some new -- some near-term activity there. Can you just comment on whether you're seeing any larger targets out there? Are we generally still looking at kind of bolt-on type of acquisitions like you've done over the last year or 2?

Yes. I mean, I would tell you that we like this bolt-on acquisition strategy. We like the pipeline we're seeing. We're adding some unique capabilities to the company. That's our primary objective in terms of reinvesting the cash as we've said. It doesn't mean if something was compelling that we looked at that fit the company, we wouldn't take a look, but we're really pursuing this bolt-on acquisition strategy.

This concludes our question-and-answer session and concludes the conference call. Thank you for attending today's presentation. You may now disconnect.