Insteel Industries Inc (IIIN) 2011 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Insteel Industries second-quarter 2011 conference call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session, and instructions will follow at that time. (Operator Instructions).

As a reminder, this conference call is being recorded. I would now like to introduce your host for today's conference, H. Woltz, President and CEO.

Thank you, Javon. Good morning, and thank you for your interest in Insteel, and welcome to our second-quarter 2011 conference call, which will be conducted by Mike Gazmarian, our Vice President, CFO and Treasurer, and me.

Before we begin, let me remind you that some of the comments made in our presentation are considered to be forward-looking statements. Forward-looking statements are subject to various risks and uncertainties that could cause actual results to differ materially from those projected. These risk factors are described in our periodic filings with the SEC.

Before I turn the call over to Mike, let me say that we are pleased with our Q2 financial performance and particularly pleased by the positive contribution to earnings from the Ivy Steel & Wire acquisition in its first full quarter following the completion of the transaction. Our people, including the former Ivy employees, have stepped up to the challenge over the past few months in executing our transition plan and significantly advancing our progress toward realizing the synergies that formed the strategic and financial rationale for the transaction. I extend my sincere appreciation to all of the Insteel people who have contributed to our progress up to this point.

I will now turn it over to Mike to review our second-quarter financial results, and then follow up to comment more on market conditions, our business outlook and the status of our Ivy integration activities.

Thank you, H. As we reported earlier this morning, despite the continuation of challenging market conditions, Insteel posted improved results for the second fiscal quarter ended April 2.

Net earnings for the quarter rose to $2.6 million or $0.15 a share from $1.6 million or $0.09 a share for the same period last year. Our results for the quarter were impacted by restructuring charges, acquisition-related costs and a bargain purchase gain related to our acquisition of certain of the assets of Ivy Steel & Wire in November. Excluding these items, which netted out to $0.08 a share, our earnings for the quarter would have been $0.23 a share, the highest level since 2008.

As H. indicated, significant progress was made during the quarter with the transition and integration activities associated with the Ivy acquisition. Although the restructuring actions that we are taking necessitate the charges that are being incurred, we have already begun to realize a substantial portion of the anticipated synergies and are confident that the future returns from these measures will prove to be attractive to our shareholders.

Net sales for the second quarter were up 66.3% from the prior year, primarily due to the addition of the Ivy facilities and higher selling prices, with shipments rising 42.6% and average selling prices increasing 16.6%.

Despite the increase in shipments for the quarter, demand for concrete-reinforcing products remained at depressed levels due to the continuation of recessionary conditions in our construction end markets. On a sequential basis, shipments rose 54.7% due to the full-quarter benefit of the additional Ivy volume versus only a partial-quarter benefit in Q1, together with the usual seasonal upturn that we experience moving from Q1 to Q2.

Average selling prices were up 7.5% sequential leak as a result of the price increases that were implemented during the quarter to recover the escalation in raw material costs.

Gross profit for the second quarter rose $5.4 million to $11.6 million, or 13.3% of net sales, from $6.2 million, or 11.9% of net sales, in the prior year, due to widening spreads between selling prices and raw material costs, as a result of the price increases that were imposed, together with the incremental contribution provided by the Ivy facilities.

Our overall capacity utilization level for the quarter, including the Ivy facilities, was 46% compared with 35% in the first quarter and 49% a year ago.

SG&A expense for the second quarter rose $0.3 million or 8.2% from the prior year, primarily due to increases in sales staffing to cover the incremental business provided by the Ivy acquisition and transition-related costs. These increases were partially offset by a gain on the settlement of life insurance policies and reduced legal expenses, as the prior-year amount reflects the fees that were being incurred related to the PC strand trade cases.

Interest expense for the second quarter rose to $0.3 million from $0.1 million in the prior year, due to the interest on the seller note related to the Ivy acquisition, which was partially offset by reduced amortization of capitalized financing costs, resulting from the June 2010 amendment of our credit facility.

Our effective income tax rate for the second quarter was 40.6% compared with 17.8% a year ago, due to the $0.5 million increase in the tax refund received in the prior year that resulted from changes in the federal tax regulations regarding the carryback of net operating losses, together with changes in permanent book versus tax differences.

Going forward, our effective tax rate will continue to be subject to fluctuations based on future earnings and any adjustments that are made in the assumptions and estimates entering into our tax provision calculation.

Moving to the cash flow statement and balance sheet, operating activities provided $5.1 million of cash for the second quarter compared with $29.2 million in the prior-year quarter, with the year-over-year decrease largely due to the relative changes in net working capital and the receipt of a $13.3 million tax refund in the prior year. Net working capital used $2.3 million of cash during the current year quarter, while providing $11.3 million in the prior year, primarily due to the larger increase in receivables that occurred in the current year and the reduction in inventory in the prior year.

Inventories remained relatively flat during the quarter, rising $0.7 million or 1.1% sequentially from the first quarter, as a 9% increase in average unit values was partially offset by a 7.3% decrease in units. Our inventory position at the end of the quarter represented about 2.5 months of shipments, based on our forecasted volume for Q3, with raw materials at about 41 days, WIP at five days and finished goods at 30 days.

CapEx for the six-month period was $4.9 million and is expected to total less than $10 million for fiscal 2011. We ended the quarter with $3.9 million of cash and cash equivalents, $13.5 million of total debt and no borrowings outstanding in our $75 million revolving credit facility.

As we move into the second half of the fiscal year, we are seeing early indications that conditions in our construction end markets may be bottoming out, although there continues to be a high degree of uncertainty. In March, the AIA's Architecture Billings Index, a leading indicator for non-residential construction activity, remained relatively flat at 50.5, the fifth straight month it has been at or above the 50 threshold, although a pronounced upward trend is yet to take hold.

Despite the limited visibility regarding future market conditions, we expect that our financial results will be favorably impacted by the increasing contribution provided by the Ivy acquisition and the realization of additional anticipated synergies as we complete the remainder of our integration activities.

I will now turn the call back over to H.

Thank you, Mike. I want to focus my comments first on current market conditions and our outlook for demand over the next few quarters, and then provide an update on our integration activities with respect to the Ivy acquisition.

During our Q1 conference call, we discussed heightened competitive pricing activity in our markets that had adversely impacted margins, and increasing raw material costs driven by escalating prices for steel scrap and more robust bookings by the steel mills.

At the time of the Q1 call, we had announced a series of price increases in each of our product lines that were sufficient to recover the wire rod increases that had been announced. I can report that over the course of the quarter, we were generally successful in implementing these increases, with the exception of the PC strand market, where we only partially recovered these additional costs due to competitive pricing pressures.

In early April, we announced additional price increases for PC strand, which, if successfully implemented, would be sufficient to recover the balance of the announced wire rod price increases.

I should point out that we entered this period with compressed spreads, implying the need to raise prices in excess of the raw material and other cost increases we have incurred to restore margins to more reasonable levels. In view of the likely continuation of upward cost pressures, we expect there will be additional opportunities to recover lost spread in coming quarters.

Looking ahead to the second half of the fiscal year, we expect the usual seasonal influences to favorably affect demand for our products and order bookings through the first three weeks of April, confirmed to pick up in activity. We would caution, though, that we don't interpret these improvements to indicate the beginning of a pronounced recovery in our markets, which continue to labor under the weight of high unemployment and significant fiscal constraints at the federal and state level, factors that we don't expect to improve materially during 2011.

We maintain our conservative outlook for the rest of the year, and we're focusing on improving productivity at the newly-acquired plants, minimizing cash operating costs, maintaining our market share and preserving our financial flexibility to pursue any additional growth opportunities that may develop.

Turning to the Ivy integration, we are pleased with the tremendous progress that we've made since the closing of the transaction in November. About five months into the integration process, we've already achieved a number of milestones. We've fully implemented Insteel communications and information systems. We've completed the process of restructuring our workforce at the plants and within our selling and administrative functions to reflect the Company's new configuration. We've completed the consolidation of our Texas operations, which involved the closure of a leased facility in Houston. And we are in the advanced stages of completing the consolidation of our Northeast operations, which entails the closure of our Wilmington, Delaware facility.

Over the remainder of fiscal 2011, we will be adding and redeploying equipment across our manufacturing locations to assure proper product mix capabilities and optimum equipment configurations and capacities. During the current quarter, we expect to commission two production lines at the Arizona facility for engineered structural mesh and concrete pipe reinforcing products. Production lines for standard reinforcing products will be commissioned at the Pennsylvania and Florida plants. We expect the majority of the capacity realignment program to be completed by the end of our fiscal year or during the first fiscal quarter of 2012.

We are also focused on closing the productivity gap that exists at the newly-acquired facilities relative to our existing plants, which can largely be attributed to equipment configurations, product mix management and differences in operating culture. As we resolve these issues, we will be transitioning the former Ivy manufacturing facilities to a compensation structure that is more variable in nature and driven off the effectiveness of plant operations, with emphasis on safety, quality and productivity.

We are pleased with the enthusiasm of the former Ivy employees in welcoming these performance improvement initiatives, and we are gratified we've been able to retain the experience and professionalism that resided within Ivy.

In summary, we are solidly on track toward realizing the synergies we identified as critical to meeting our strategic and financial objectives. By the first quarter of 2012, we expect to be well-positioned to demonstrate our increased earning power as our markets recovered and our capacity utilization rates begin to rise to more reasonable levels.

This concludes our prepared remarks, and we will now take your questions. Javon, would you please explain the procedure for asking questions?

(Operator Instructions) Robert Kelly, Sidoti.

Good morning, Mike. Good morning, H. Can you give us the year-over-year volume increase on your organic business?

Unfortunately, we are unable to parse that out on a precise basis just due to the transfers of business that have already occurred. For example, with the Texas consolidation, we've moved volume from that closed facility to our Dayton plant. So just given where we are at in the transition process, that visibility really isn't available.

Would you assume it was up, down, flat?

Kind of at a high level, the bulk of the volume increase was clearly from the acquisition, where we would say that the change for our existing facilities, if you kind of normalize, it would have been pretty insignificant. It would have been -- probably would have been relatively flat.

Okay, fair enough. Now you saw a big boost in sales with the acquired volumes. SG&A was up a couple hundred thousand dollars. Is that the type of increase we should build into our forecasts? Or should it -- should your SG&A costs on a year-over-year basis decline once you close Houston and finish up with some of the items on your transition plan?

I think just given where we are at in the staffing adjustments, the selling and admin synergies are largely behind us, and there could be some upward movement there. There were -- as I mentioned, there was a gain on some -- on the settlement of some life insurance policies and a couple other factors that may cause that to turn up slightly. But we wouldn't expect a real significant increase from where we are running at.

Basically, all the volume increase and virtually no SG&A increase going forward with the acquisition -- with the addition of Ivy. Is that the way to think about it?

Right. We wouldn't -- I guess if you're starting from this quarter, we wouldn't view there being any -- at this point, wouldn't view there being any additional incremental SG&A related to Ivy.

Wow, okay. So in your prepared remarks, you talked about sequentially selling prices up I think 7.5%, sequentially inventory values up 9%. Are we to assume that spreads will hold relatively steady in the balance of F11, or would you expect compression, expansion? Or is it dependent on the price increases? How do we think about, from here, the Q2 spread level going forward for the balance of F11?

I think there are some offsetting changes on the horizon here, heading into Q3, where we have higher-priced -- higher-cost inventory that will begin to be reflected. Although a portion of that was already rolling through Q2. So you have that kind of on the downside. And then on the upside, we have announced increases, additional increases that would be effective around the middle of April, which will benefit us.

So assuming the price increases you announced for April are successful and no more raw material inflation, should we assume that spreads are stable for the balance of F11?

Keep in mind, Bob, that I commented that we went into the period with spreads at unreasonably compressed levels. And I guess I would sum it up by saying, if you factor out the inventory of effects, our spreads need to increase to restore margins to the levels that we believe are reasonable.

If we recover only our wire rod costs, then we haven't really addressed the spread compression that we went into this cycle with, plus we are incurring other cost increases. And I would specifically point out what is happening in freight rates, which is really significant. So I think we still have work in front of us.

Okay, understood. Five months into the acquisition of Ivy Steel & Wire, have you seen a sea change in how your customers react to price increases? Are you seeing a more disciplined response from your competitors and from your customers in this highly inflationary environment?

I think we continue to deal with volatile raw material costs. Our industry continues to be highly competitive. Our customers continue to be under pressure themselves. And this is -- this industry is going to continue to be highly competitive, Bob.

Okay. Fair enough. And just one final one. Utilization for the quarter of 46%. What happens to utilization once you complete the closure of the Houston facility? Is there a material increase there?

Well, I guess where we are planning on retaining that equipment for future usage, it would depend on how you measure capacity. From that standpoint, from attainable capacity, it wouldn't have an effect.

So utilization is still going to be fairly low for the next few quarters?

Right, until we see a more pronounced recovery in the market.

It doesn't sound like you are seeing that just yet. Thanks, guys.

Tim Hayes, Davenport & Company.

Good morning. On that utilization question, I was a little surprised that the utilization was down from a year ago. Do we assume that Ivy's utilization rate was lower than the pre-existing -- or the existing facilities, and it ended up bringing that down versus a year ago?

Yes, that's correct.

All right. And then on the inventory decline in tonnage sequentially, was that -- a lot of that just being able to consolidate facilities and inventory them in bringing in Ivy? Is that also part of the reason? It just seemed like as you step up into the seasonally stronger period, that inventory tonnage would have perhaps risen a little bit.

Tim, the inventory levels that we acquired with the Ivy transaction were really unreasonably high relative to the shipments that were going on. So I don't think it is all that surprising that those numbers ticked down some.

Then on the price increase, can you give a little bit more color on the amount of the price increase -- like, $30, $40, $50 a ton -- just so we can try to quantify that better?

Are you referring to the PC strand price increase that we said was announced in April?

Yes, that one, yes.

That is approximately $60 per ton, and it was scheduled to be implemented this week.

Okay. And what is your PC strand tonnage of your total mix roughly these days?

I guess we haven't disclosed that on a regular basis. I think you could probably approximate it based on the revenue mix for the prior year. And then layering in the Ivy sales, which are all welded wire, it would probably be up in the $60 to $65 range, welded wire, versus $35, $40, strand.

Okay, that's close enough. And then finally, the product lines that you're bringing back into Arizona -- actually, it was just maybe a little interesting to hear that, because we think of the West Coast market being so bad. Is that -- are you seeing a pickup out there or what is the motivation for increasing product lines at that Arizona facility?

We had inadequate capacity to service the engineered structural mesh market in Arizona due to some commitments that we inherited that we are working through, as well as just an equipment configuration out there that just didn't seem to make a lot of sense to us in view of market activity.

In the case of concrete pipe reinforcing, the production line that is being installed in Arizona is intended to enhance the quality of the product that we are producing and to reduce the labor required in producing the product, more so than just solely to expand capacity.

Okay. Thank you.

Alan Brochstein, AB Analytical.

Congratulations on a great quarter. When you guys announced the Ivy deal, one of the benefits that you discussed was a better product mix -- I guess enhanced mesh being the primary issue. But can you just update us as far as any positive mix shifts?

I think what was behind that comment initially was that Ivy's product mix was traditionally weighted heavily toward engineered structural mesh and concrete pipe reinforcing, and considerably lighter with respect to standard reinforcing products. And we view the growth prospects and the profitability prospects with engineered structural and concrete pipe reinforcing just to be superior.

So we can confirm that we continue to believe that is the case, and that we have continued to pursue maintaining our market share and growing in those segments, and we believe that the comment that we made at the time of the acquisition would still be relevant.

So is it starting to kick in yet or not yet really?

Well, we are not seeing a recovery in the markets for those products, but we did advance our participation in each of those markets with the acquisition, and we have maintained that participation.

So I would say that we've accomplished what we thought we were going to accomplish.

Okay. And then as we look into the future, as far as road construction, how much -- what can we look to there in terms of trying to gauge any improvement there?

In terms of indicators or --?

Sort of legislative hurdles to overcome on the state and federal level. What types of things should we be looking for? What are you incorporating into your expectations?

I think that the big question is at the federal level, the resolution of a new, multiyear transportation funding authorization. And the prospects for that have gotten a lot cloudier, just given the political dynamics and the heightened deficit concern. So just in terms of one of the key drivers, that is something that we are continually monitoring.

I think another factor that will influence the infrastructure spend is going to be the degree to which the states begin to recover in their tax receipts. And actually, there has been some positive news on that recently, but I think that they have so far to go that most states are still in significant budget-cutting mode. And it is going to be a while -- I think it's going to be a while before you see that recover.

Okay. What percentage of your business do you think is tied to road construction?

We ballpark -- overall, we ballpark the split as being 90% non-res versus 10% res. And then within the 90%, around 35% being infrastructure and then the other 55% being all other non-res categories.

Got it. Okay, thanks a lot, guys.

[John Kohler], Oppenheimer & Close.

Good morning, gentlemen. I was wondering if you could comment at all on industry capacity, if you are seeing any reduction there or if it still remains pretty flat with the prior quarter.

I would say it remains flat with the prior quarter.

Okay, too bad. Sorry to hear that.

I think last quarter, we had referenced a couple closures, but there really haven't been any changes on that front over the past three months.

Do you think most of the high-cost capacity has been removed or do you think there is still some room there?

I would say that most of the high-cost capacity has probably been dealt with in the industry. I would not expect to see significant changes.

Okay, great. And then the acquisition obviously was extraordinarily well-timed, and it's proving very successful. Even at these depressed levels, it looks like the Company is going to generate a significant amount of cash. Any thoughts on what you have earmarked that cash for? Obviously, another acquisition is probably not in the cards immediately, but I would like to hear some of your thoughts there.

I don't think that our position has changed from what we've communicated in the last many quarters, that the Company's primary objective is to look for growth opportunities while maintaining a solid financial condition that allows us to take advantage of opportunities during difficult markets. And I think that this market will continue to be challenging for some more quarters, and so our primary objective is to look for other growth opportunities.

And I believe that given the distance that we've come in integration of the Ivy assets that we would be prepared internally to undertake further growth opportunities if they were to come available.

Okay. Would those opportunities be in the industry or would you look for an ancillary?

They would be within the industry.

Great. Thank you very much.

(Operator Instructions) I am showing no further questions in the queue.

Okay. We appreciate your interest in Insteel, and we welcome your follow-up. Thank you.

Ladies and gentlemen, thank you for your participation in today's conference. This concludes the program. You may all disconnect. Everyone have a great day.