Insteel Industries Inc (IIIN) 2011 Q4 法說會逐字稿

Good day, ladies and gentlemen. Welcome to the Insteel Industries fourth-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 turn the conference over to your host, Mr. H. Woltz III, President and CEO. You may begin.

Thank you, Mimi. Good morning. Thank you for your interest in Insteel and welcome to our fourth-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.

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

Thank you, H. As we reported earlier this morning, despite the continuation of recessionary conditions in our construction endmarkets, Insteel in steel posted improved results for the fourth quarter ended October 1 relative to the year-ago period. Net earnings were $1 million or $0.05 per diluted share, compared with the loss of $1.6 million or $0.09 a share for the same period last year.

Our results for the quarter include net restructuring recoveries amounting to $0.3 million, or $0.01 a share after-tax, from the gain on the sale of the Wilmington, Delaware, facility and proceeds from the sale of previously impaired assets, which were partially offset by facility closure and equipment relocation costs. The Wilmington plant was closed earlier this year in connection with the restructuring activities related to our November 2010 acquisition of certain of the assets of Ivy Steel & Wire.

The net loss for the prior-year quarter includes $0.4 million of inventory write-downs and a $1.5 million charge for the settlement of litigation, which totaled $0.06 a share after-tax.

We made considerable progress during the quarter with integration of the Ivy facilities and reconfiguration of our combined welded wire reinforcement operations. With the integration activities essentially behind us, our efforts are now focused on the remaining planned equipment relocations and performance improvement opportunities at certain of the Ivy facilities, which H will discuss in more detail.

Although demand for our concrete reinforcing products continued to trend at depressed levels during the quarter, we are seeing some preliminary indications that market conditions have bottomed out. In the most recent monthly Construction Spending Report, private nonresidential construction -- our primary demand driver -- rose for the seventh consecutive month, albeit at a nominal rate for the past three months. With that said, although our markets appear to be stabilizing, we have yet to see signs of a pronounced recovery taking hold.

Net sales for the fourth quarter were up 76.4% from the prior year, primarily due to the addition of Ivy's business, together with higher average selling prices, with shipments rising 50.4% and average selling prices increasing 17.3%. On a sequential basis, shipments were down 2% from Q3, while average selling prices rose 2.6% due to the additional price increases that were implemented during the quarter in response to the escalation in our raw material costs.

Gross profit for the fourth quarter rose $5.4 million on a year-over-year basis to $7.7 million from $2.3 million, with gross margins widening to 7.8% of net sales from 4.2%, due to the incremental contribution generated by the Ivy facilities and higher spreads between selling prices and raw material costs. On a sequential basis, gross profit fell $4.8 million from Q3; and gross margins narrowed by 490 basis points, largely due to lower spreads as the price increases that we implemented during the quarter fell short of recovering the higher raw material costs that were incurred.

SG&A expense for the fourth quarter increased $2.2 million from the prior year primarily due to the relative changes in the cash surrender value of life insurance policies and, to a lesser extent, higher compensation expense largely from the staffing additions required in the current year to support the incremental Ivy volume.

Our effective income tax rate for the fourth quarter was 47.9% compared with 41.9% a year ago. The effective rate for the current year was skewed higher by permanent book versus tax differences, which have an amplified impact when pretax earnings or losses are at relatively low levels and tax reserve adjustments.

Excluding these factors, our estimated marginal rate would be in the range of 38%. Going forward our effective rate will continue to be subject to fluctuations based upon future earnings, changes in permanent book versus tax differences, and the other assumptions and estimates that enter into our tax provision calculation.

Moving to the cash flow statement and balance sheet, operating activities used $3.2 million of cash for the fourth quarter, while providing $0.3 million a year ago, primarily due to the relative changes in the net working capital components of accounts receivable, inventories, and accounts payable and accrued expenses, which used $7.3 million of cash in the current year compared to $1.6 million last year. Accounts receivable decreased $1.7 million or 3.9% during the quarter, while inventories rose $5.9 million or 8.4% sequentially, due to a 1.9% increase in average unit values and a 6.4% increase in units.

Our inventory position at the end of the quarter represented about four months of shipments on a forward-looking basis, calculated off of our Q1 forecast, which has historically been our seasonally low point of the year from a volume standpoint, with raw materials at 68 days, WIP at 5.9 days, and finished goods at 45 days.

Capital expenditures came in at $1.6 million for the quarter and $7.9 million for the year and are expected to total less than $10 million for fiscal 2012. We ended the quarter with $14.2 million of total debt, which includes the $0.7 million of borrowings that were outstanding on our $75 million revolving credit facility.

As we move into fiscal 2012, there continues to be limited visibility regarding the timing for a recovery in the construction sector. The Architectural Billings Index, a leading economic indicator for nonresidential construction activity, has fluctuated dramatically in recent months, sending mixed signals regarding the prospects for a recovery. Following five consecutive monthly declines, the ABI rebounded to 51.4 in August, and then dropped to 46.9 in September, implying that the prior month increase may have been an aberration.

The outlook for infrastructure spending and the prospects for a new federal highway funding bill remain unclear, with the most recent temporary extension scheduled to expire in March. As we have previously indicated, these interim measures tend to result in project delays and cancellations at the state and local level due to the lack of clarity regarding future funding levels, particularly given the extended timelines for most projects. At this point it is difficult to predict when or how the considerable differences between the most recent House and Senate proposals will be resolved.

Despite these unknowns, we expect that our financial results will be favorably impacted by the increasing contribution provided by the Ivy acquisition and the anticipated benefits realized from the related reconfiguration of our welded wire reinforcement operations. I will now turn the call back over to H.

Thank you, Mike. We continue to operate in an environment of weak demand and intense competitive pressures. Despite the fact that this downturn has now persisted for over three years, we have yet to see signs of recovery in our markets. Over the past two years the nation's leading construction forecasters have continued to push out their projected timelines for a recovery to where some of their most recent forecasts indicate the ongoing weakness could persists through 2012, with recovery not taking hold until 2013.

In view of the high degree of uncertainty regarding future market conditions, we remain focused on the attainment of further cost and productivity improvements and the pursuit of additional growth opportunities that would significantly strengthen our competitive position. We plan to maintain a conservative posture with respect to our balance sheet, thereby preserving our flexibility to navigate through any unexpected developments in our markets and the economy.

During our last three conference calls, we discussed the margin pressures we were experiencing due to heightened competitive pricing activity in our markets and increasing raw material costs. These trends continued to affect our business during the fourth quarter and are expected to persist for the foreseeable future.

The competitive pressures that we are experiencing across all of our product lines reflect the low level of capacity utilization throughout the industry, which has led some of our competitors to employ aggressive tactics to minimize further deterioration in operating rates and cash flow.

Given the acceleration of these trends over the past few quarters, the depressed demand environment, and the fact that our first fiscal quarter has historically represented the seasonal low point for our business it is unlikely that the margin environment will improve materially in the current quarter. In view of these realities, we maintain our conservative outlook and are focused on minimizing cash operating costs, maintaining our market share, and preserving our financial flexibility.

The most significant near-term improvement opportunities for the Company are related to the commissioning and startup of production lines at the former Ivy facilities located in Florida and Arizona. These plants have operated at less than 40% of capacity since they were acquired, due to weak market conditions as well as the significant improvement projects that we have undertaken to broaden their product mix capabilities and lower their operating costs.

Both facilities are in the process of completing significant equipment upgrades. In addition, the Florida facility is undergoing a construction project intended to improve material flows, which will contribute to significant reductions in indirect labor requirements. During the current quarter, these projects should be completed, and our people will begin the process of ramping up production. By the end of the second quarter, we expect that each facility would have attained reasonable levels of productivity, with new product capabilities that should result in increased throughput and revenues, together with lower operating costs.

From an integration perspective, over the past three months we have transitioned three of the four former Ivy facilities to a compensation structure that is more variable in nature and driven off the effectiveness of plant operations, with particular emphasis placed on safety, quality, and productivity. We appreciate the way the former Ivy people have embraced these changes, and we are pleased to report substantial progress following the implementation of Insteel compensation systems. The remaining opportunities for improved performance are related to increasing operating uptime on each production line and improving our yield performance.

The volatility that we had experienced earlier in the year in our raw material markets has diminished in recent months, due to more stable market conditions for steel scrap and softening demand for wire rod. As we have seen over time, however, it would be a mistake to assume that the recent stability will continue into the future.

Conditions in the wire rod market require continuous tactical shifts and short-term planning horizons. Domestic producers appear intent on maintaining selling prices and are willing to reduce operating hours if necessary to curtail the supply available to the market. Offshore wire rod supply opportunities have not been much of a factor in the marketplace in recent months, due to stronger market conditions in other regions of the world and the weakness of the US dollar. With the recent strengthening of the dollar, however, we have seen renewed interest in the US market on the part of foreign producers and believe this could potentially provide us with additional purchasing options in the coming months.

As we move into the slow time of the year, we plan to bring inventories back in line with their historical levels in the coming months, implying a reduction in the range of $5 million to $10 million. Consistent with our conservative outlook for business conditions for 2012, we intend to limit our capital expenditures to maintenance requirements and cost-reduction opportunities. CapEx should not exceed $10 million in any case, and could come in closer to half that level depending on our final decision with respect to adding new production capabilities at one of our plants.

In summary, the outlook for construction markets continues to be concerning as we begin our new fiscal year. While continued market weakness is not welcome, we believe this difficult environment could yield additional growth opportunities that would further strengthen our competitive position and our earnings potential.

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

(Operator Instructions) Robert Kelly, Sidoti & Company.

Good morning. So can we just walk through the sequential changes, 4Q compared to 3Q '11? Sales were roughly even. SG&A pretty much was in the ballpark of 3Q. But the big difference was gross margin.

Was that all raw material-related? Is that the way to think about it? Utilization wasn't terribly different. Just trying to get a sense of, I guess, your inventory position and how that plays out over the next couple quarters.

Yes, it was. From a gross profit standpoint the sequential change was primarily driven by compression and spreads, where the increase in the raw material costs that flowed through in the quarter exceeded the selling price increases that we were able to push through in our markets.

So, like a price/cost mismatch for 4Q is a good way to characterize it?

And now the wire rod prices have dropped again pretty sharply here into the middle of October. Is there any sense that the lack of pricing discipline you saw in the industry during 4Q won't again depress margins in the first half of '12?

You know, it's hard to know what is going to happen going forward, Bob. But I would tell you that over the past three quarters we have seen gradually heightening competitive pressures, and I don't see any reason to believe that that is going to change.

So, it is just very difficult to know what is happening. We do see just heightened aggressiveness from competitors, and we are absolutely intent that we are going to maintain our market share.

So we just have to see where it goes. But the trends, as we have reported for three quarters, are definitely concerning.

Okay. The positive I see is that you did get some pricing, not all the pricing; but the way your inventory moves is really showing up as a big negative on the gross margin line.

I mean -- so, in a steady -- I know it never happens; but just to give us a sense of how to think about your earnings going forward, in a steady price and raw material environment is there a target you have for your spread or where you think the spread shakes out industry-wide?

I don't know that -- I don't know that we could really reference a target amount, just given the volatility and the timing issues. I think this past quarter you saw the impact of the higher-cost material from inventory flowing through even though rod costs were relatively stable, just due to the lagging nature of those inventory costs. That is where we were largely squeezed.

We got our selling prices up, but not proportionate to those rod increases. But I don't know that we'd want to throw out a reference, a target amount for spread.

Let me try it this way. Assuming you did not have the incremental cost from the FIFO accounting running through, are your spreads holding firm over the past couple quarters? Have you seen any change in the discipline since acquiring Ivy?

We have more so in those markets where Ivy was active in ESM and the concrete pipe reinforcing, as you would expect. But in the other markets, I would say generally the pricing competition has been more intense.

You would think that the spread in margins levels would not be sustainable because it's -- we believe that we are the cost leader in our markets and our competitors are feeling some pain now as well. So you would think that this couldn't continue indefinitely. But it is just difficult to predict the timing of when we will see a change.

I would also point out, Bob, that even in the markets where Ivy was a substantial player, that we have strong regional competition. We have competitors who are struggling for market share, and they definitely have -- they definitely impacted Ivy before our acquisition of the company, as well as Insteel. And they continue to be factors today.

Our view is that, as Mike pointed out, we have the cost structure to maintain our market share, and we are going to do it. And where this thing ends is difficult to know.

Okay. Just one final one on -- you talked about CapEx going forward and not more than $10 million, but also referencing a minimum maintenance level. What is that number?

In the past you have spent as little as $1.5 million to $2.5 million on CapEx in a year. Should it drop down to that level in F12 and F13?

It won't drop -- I wouldn't see it dropping to that level, Bob. I think that -- and keep in mind that we are assimilating all this ourselves right now. But I would say post-Ivy that maintenance is in the $5 million to $6 million level.

The variable that could take it up to as high as $10 million would be pending a final decision on some new production capabilities that we are evaluating. It is just unknown at this point. So I think you are safe in using $5 million to $6 million as a maintenance level.

All right. Thank you, guys.

Bob, one other comment on your first question on the sequential changes. With SG&A there was a pretty significant change where it was up about $1 million from Q3 to Q4. But that was largely related to these changes in the cash surrender value of life insurance policies.

We would generally view the third-quarter level for SG&A around right in the $4.9 million, $5 million range as probably being more representative of a run rate following the impact of Ivy.

Right. Thank you.

Tim Hayes, Davenport & Company.

Hey, good morning. A few of my questions have already been asked. Just to be clear, in terms of the price increases that you had put forth early in the year, did you have to back away from any of those? Or was it generally just the COGS catching up maybe more so than I figured?

Yes, you know, it is really a day-to-day and week-to-week matter, Tim. In some cases, we never fully collected increases that we announced. In other cases we have week-to-week pricing discussions based on jobs and with specific customers, and it is changing. It changes daily.

So I guess as a direct answer to your question -- yes, we backed away or partially backed away from some increases that we had collected or partially collected initially, but which were not sustainable going forward.

Thank you.

Tyson Bauer, Wealth Monitors.

Good morning, gentlemen. Given the recent action and the wire rod softness, you have the opportunity -- if you have the availability -- to hold prices, to try to mitigate some of the further compression. Obviously, you are trying to be as sticky as possible.

What do you see right now in the near term or intermediate term on that ability just to hold what you have without losing traction there?

And give us a little, if you would, Mike, the thresholds that need to be met which determine whether you will do any writedowns on the inventories in the next couple quarters.

Just with respect to your first question concerning movements in wire rod and what opportunity we might have to hold on to any price decreases we get, I would just repeat what I said to Tim. It's a day-to-day -- this is a day-to-day matter.

I also pointed out in my comments that the wire rod producers have been more successful than you may think in hanging on to their prices, as they are clearly willing to reduce operating hours to control supply. So how all this works out it is difficult to say, because it is pretty dynamic.

I guess where we don't disclose our selling prices, I don't know that we would want to relay any thresholds at which inventory write-downs would occur. That is obviously just going to be a function of -- to the extent that rod prices decline, whether the changes in our selling prices are proportionate. But I don't know that we would want to go into more detail on that.

We certainly feel no obligation to pass through price declines on our raw materials. The market will determine what actions we have to take there.

It was only this past spring where we had the re-startup of some of these East Coast or Atlantic wire rod facilities. Are we in the same situation almost a year later, where they are making those decisions at those top levels of whether they keep capacity open or not?

No, I don't think it's -- I didn't mean to imply that I believe there are serious considerations about taking capacity off-line. It is more controlling operating hours and matching their production to their order book without making desperation moves to lower prices and try to fill the mill up.

So I am not aware and I don't suspect that there are any major deliberations going on concerning taking wire rod production out of the market on a permanent or semi-permanent basis.

H, from your standpoint you saw a great opportunity with Ivy a year ago. It sounds like you are more into that bunker attitude or going into the foxhole this go-around.

Is that accurate? Or will you seek or find opportunistic opportunities? Are you willing to go after those as you did with Ivy?

The Ivy acquisition I think was timed very, very nicely for us, and our people have done a great job assimilating it. This environment is as difficult as I have seen in the 30-some years I have been in this business, and I do believe it will give rise to other opportunities for Insteel to grow, and to grow in an intelligent way.

I think the thing we keep in mind on a regular basis is that any growth opportunities have to be viewed in the context of the realities of this terrible market that will eventually improve. But I don't think that you would find Insteel trying to justify growth and expansion based on rosy and optimistic demand scenarios for our products.

It would have to work in the current environment, and I think there will be those opportunities. But just as we had said for a couple years leading up to the Ivy acquisition, patience is the key word. Continuing to focus on what we do well and getting better at it is very important for us now.

We will just sit back, and run this business, and be in tune with what is happening in terms of those opportunities. But I would like to see that come together, and I would like to find another transaction that shares a lot of the similarities that we saw with Ivy.

Okay, and last question for myself. In the past you've talked about the possibility of -- whether it was advantageous or not to control your raw material flow and going that direction on an integration, if there was a plant available. In this environment more or less advantageous to control your wire rod manufacturing?

Oh, I don't think that I have changed my opinion on that in terms of -- these aren't decisions that are made based on what is happening in a quarter or in even a year. I would reiterate my view that over our history in this business I would have to tell you that being an integrated producer would not have been beneficial for Insteel.

We continually review that and look at it as a potential opportunity. But I can't tell you that my opinion has changed a lot at this time.

All right. Thanks a lot, gentlemen.

(Operator Instructions) John Kohler, Oppenheimer.

Good morning, gentlemen. A quick question on the Arizona and the Florida facilities that you mentioned. You are going to try to improve production in the coming quarters. Given the environment in both those areas I am just wondering how you view the competition.

I imagine it is probably even more intense there than elsewhere. So if you could give just a little bit of background on how you expect to be able to expand those.

Well, in Arizona, clearly the Western market conditions are as weak or weaker than what we see elsewhere in our footprint. We inherited with the Arizona facility some supply obligations that will be falling off.

And the plant had actually very limited capabilities in terms of product mix, the breadth of product mix. So we have expanded those capabilities.

I think it is a reality that it's going to take us some time to meet our objectives out there, just in view of the market challenges. But Insteel has wanted a Western outpost for a lot of years. We look hard at establishing a facility in that area when times were better. And I am confident that while it is going to be a tough go for a while that we will do well enough to justify our presence out there while we wait for a recovery in the market.

The situation is somewhat different at the Florida plant. It has been disrupted by a pretty significant construction project that will have a very beneficial impact on our operating costs. And we have also broadened the product mix there.

So these things have taken time. They are really not on much of a different schedule today than we thought they would be six months ago, and we are reaching the end of this process. But certainly the market conditions are a concern in the East as well.

Great. Then it seems like the multifamily housing is one bright spot at this point. Did you have any visibility in any endmarkets that you think have the opportunity to improve or are particularly robust at this point?

I can't point out any overall endmarket that is particularly robust. And in terms of multifamily, those are largely brick-and-stick kinds of construction so they wouldn't have in themselves a real strong impact on Insteel.

We see more activity geographically in the Texas area, where there are a number of specific projects that are sizable and are under way. But I wouldn't characterize it as a recovery as much as it is project oriented.

Okay, great. Well, thanks a lot. Keep up the good work.

Thank you. I am showing no further questions in the queue at this time.

Okay. Well, we appreciate your interest in the Company. Thank you and we will talk to you next quarter.

Thank you. Ladies and gentlemen, this concludes the conference for today. You may all disconnect and have a wonderful day.