Insteel Industries Inc (IIIN) 2015 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Insteel Industries first-quarter 2015 conference call.

(Operator Instructions)

As a reminder this conference is being recorded. I would now like to turn the conference over to your host for today Mr. H. Woltz, Insteel's President and CEO. Sir, you may begin.

Thank you. Good morning and thank you for your interest in Insteel. And welcome to our first-quarter 2015 earnings 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 on today's call are considered to be forward-looking statements, which 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.

All forward-looking statements are based on our current expectations and information that is currently available. We do not assume any obligation to update these statements in the future to reflect the occurrence of anticipated or unanticipated events or new information.

I will now turn the call over to Mike to review our first-quarter financial results and the macro indicators for our markets. Then I will follow-up to comment more on market conditions and our business outlook.

Thank you, H. As we reported earlier this morning Insteel's net earnings for the first quarter of fiscal 2015 improved to $4.2 million, or $0.22 a diluted share from $2.7 million, or $0.15 a share a year ago rising to their highest level for the first quarter in seven years. Net sales for the quarter rose 26.8% from last year to $110.6 million driven by the additional business provided by the ASW acquisition and the current-year quarter together with higher sales at our other facilities.

Shipments, which were up 20.9% from last year, have now risen year-over-year for seven straight quarters and at a double-digit rate for the previous four quarters reflecting the continuing recovery in our construction end markets. As I mentioned on our last call, despite the recent improvement, we are still operating well under the levels that would be expected in a more normalized construction environment as our pro forma 2008 sales exceeded $600 million including the standalone revenues for ASW's PC strand business and Ivy Steel & Wire, which we acquired in November 2010.

Average selling prices for the quarter rose 4.9% from last year partially due to favorable changes in our product mix related to the ASW acquisition. On a sequential basis net sales fell 5.5% from the fourth quarter on a 6.7% decrease in shipments due to the usual seasonal downturn partially offset by a 1.3% increase in average selling prices also related to a more favorable product mix. Gross profit for the quarter improved to $12 million from $9.1 million a year ago with gross margins widening 50 basis points to 10.9% from 10.4% due to higher spreads between sell-in prices and raw material costs together with the increase in shipments partially offset by higher unit conversion costs.

The increase in conversion cost was primarily centered at our Pennsylvania facility where we removed an older production line in preparation for the installation of a new line and at our Tennessee facility from the initial inefficiencies associated with the start up of the new cleaning house following the completion of the repair work related to the fire that occurred last January. We estimate that the excess cost at these locations had the effect of reducing our gross margin by approximately 130 basis points for the quarter. SG&A expense for the quarter rose $0.9 million from a year ago primarily due to increases in compensation and employee benefit costs together with the relative changes in the cash surrender value of life insurance policies.

The increase in comp cost is largely related to higher incentive plan expense driven by our improved financial results in the current year. Our effective income tax rate for the quarter dropped to 34.5% from 36.6% in the prior year, primarily due to changes in permanent book versus tax differences. Going forward our effective rate will continue to be subject to fluctuations based upon the level of future earnings, changes in permanent book versus tax differences and adjustments to the other assumptions and estimates entering into the tax provision calculation.

Moving to the cash flow statement and balance sheet, operating activities used $9.5 million of cash for the quarter, primarily due to a $22.7 million reduction in accounts payable and accrued expenses largely related to lower raw material purchases in the latter portion of the quarter together with changes in the mix of vendors and payment terms. Our inventory position at the end of the quarter represented about three months of shipments on a forward-looking basis calculated off of forecasted shipments for the second quarter and our inventory valuation reflected lower raw material costs than Q1 cost of sales implying wider spreads in the second quarter assuming that selling prices remain at or above the Q1 level. We ended the quarter with $10 million of borrowings outstanding on our $100 million revolving credit facility providing us with plenty of liquidity to pursue additional growth opportunities.

As we move into the remainder of fiscal 2015 we are encouraged by the continued improvement and the macro indicators for our nonresidential construction end markets. Through the first 11 months of the year, private nonresidential construction spending was up 10.8% from last year driven by double-digit increases in the office, hotel, power, manufacturing and commercial categories.

Although the Architectural Billings Index has reflected some moderation in recent months following the 50.9 in November, it has now exceeded the 50 growth threshold for 7 consecutive months and 23 of the previous 28 months, its longest positive streak since 2007. In December the Dodge Momentum Index, another leading indicator for nonresidential building construction, was up 17.3% year-over-year and 15.1% for the prior three months relative to the same period last year rising to its highest level since February 2009. The outlook for infrastructure construction, however, remains uncertain in view of the upcoming expiration of the current MAP-21 federal transportation funding authorization in May.

Considering the 40% drop in gas prices that has occurred since the summer it would appear to be an opportune time to consider raising the federal fuel tax to cover the ongoing shortfalls in the Highway Trust Fund. A recent analysis by AASHTO indicated that a $0.01 increase in the gas and diesel fuel tax would generate about $1.75 billion of additional revenues implying that around a $0.09 increase would be required to cover the funding shortfall at current spending levels. Considering the lack of consensus in Washington, however, particularly in the House, it is appearing more likely that a short-term funding extension will be pursued to buy additional time to arrive at a longer-term solution.

I will now turn the call back over to H.

Thank you, Mike. As reflected in our earnings release and in Mike's comments, we are encouraged by the positive momentum that we've seen in our construction end markets in recent quarters. These favorable trends are largely consistent with the various macro indicators and forecasts for the construction sector and all indications are that the market should continue to improve for 2015.

Continuing the positive trend of the last few quarters, our overall capacity utilization improved to 54% from 47% last year reflecting the strengthening and demand for our products. While we welcome these recent improvements we believe that more robust rates of growth and higher levels of industry capacity utilization are prerequisites for meaningful margin expansion and that pricing will remain highly competitive in their absence.

With that said, the pricing environment for most product lines during our first quarter remained relatively stable and spreads widened slightly from the previous quarter. There's a great deal of uncertainty in worldwide steel markets driven by macroeconomic weakness and the softening in commodity prices almost across the board.

In the US steel scrap prices, which can heavily influence wire rod pricing, have generally declined over the past few months but remain high relative to iron ore and derivative metallic units. Domestic scrap pricing is expected to display unexpected strength for February due to the impact of adverse weather on incoming supplies of obsolete scrap. We believe, however, that the prevailing trend for the next few months is more likely to be downward as the scrap market seeks closer alignment with iron ore markets.

To the extent that strengthening market dynamics support stable selling prices for our products, we expect spreads and margins to widen somewhat over the next couple of quarters. As we have mentioned previously, though, it is difficult to accurately forecast our selling prices and volumes given the dynamic nature of our markets.

We mentioned last quarter that we had experienced inefficiencies related to ramping up operating hours at several facilities and that resolving those inefficiencies would be a primary area of focus for us. Over the past few months we have adjusted shift schedules and wage structures at certain facilities to address turnover and recruiting challenges with some positive results. The labor market for our Texas facilities has been particularly competitive and we are hopeful that our changes together with the recent downturn in the oil patch will support our drive for higher productivity and lower operating costs.

As we have reported previously, we spent much of fiscal 2014 recovering from the fire that destroyed the cleaning house at the Gallatin, Tennessee facility last January. During our first quarter the rebuilt facility was commissioned and ramped up to the point that the plant was self sufficient by the end of the quarter. We are pleased with the outcome of the project and the cost and productivity of benefits associated with restoration of our on-site cleaning capabilities.

As indicated in our earnings release this morning, the completion of this project is a prerequisite to optimizing the conversion costs of our expanded PC strand operations following the completion of the ASW acquisition. We are currently assessing alternative cost reduction strategies, all of which are premised upon the Tennessee facility operating at previous utilization and productivity levels. We expect to provide additional information about our operating strategy in the near future but cannot comment further at this time.

Turning to CapEx, as reflected in our earnings release we expect to invest between $11 million and $13 million in our facilities and technology infrastructure over the course of 2015. Two of the most significant projects that are under way involve cost reduction and rounding out of capacity within our standard welded wire reinforcing product line.

During the current quarter we expect to commission a high output standard welded wire reinforcing production line at the Pennsylvania facility that will replace obsolete technology and provide increased capacity for certain SKUs where we have routinely experienced capacity constraints. We expect the production line to contribute to earnings during the second half of fiscal 2015.

During our third quarter we expect to commission a wire production line at the Florida welded wire reinforcing facility that will round out capacity and contribute to reduced operating costs. Other expenditures will be focused on maintaining our facilities, improving quality, lowering our operating costs and improving our information technology infrastructure.

Finally as we mentioned following the ASW acquisition, we plan to significantly expand the manufacturing capabilities of the Houston facility. This project will entail initial capital expenditures during fiscal 2015 and additional expenditures during fiscal 2016. We will provide future updates as the project advances.

We are pleased to see that the recovery in nonresidential construction markets is continuing although the market environment remains highly competitive. Consistent with prior periods we will continue to focus on achieving further improvements in the effectiveness of our manufacturing operations and identifying additional opportunities to broaden our product offering and grow through acquisition.

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

Absolutely. (Operator Instructions) Tyson Bauer, Kansas City Capital Associates.

Good morning, gentlemen. Excellent quarter.

Let's hit on the one topic that we discussed in the last call. At this point it looks like you have a little better outlook going forward and that was the decision between asset rationalization and growing into your available capacity.

It sounds like now given the outlook that you are -- it is more of a hybrid decision that you have made and that is in certain areas take advantage of those economics and the need for either better capacity or fulfill the capacity you already have. And maybe other areas of weakness you may see some rationalization, would that be an accurate depiction of what you have decided?

I think our direction, Tyson, has continually been toward evaluating all of our assets and configuring them for optimal cost effectiveness. And in terms of the rationalizations that we've made over the last few years, particularly following the Ivy acquisition, I think we are in good shape concerning our current technology, our current geographic footprint and our product mix. So I feel pretty comfortable there.

But we will continue to evaluate our technology and our opportunities to reduce costs relative to what is available in the marketplace. And we are in a good position to continue investing to stay on the leading edge of costs in our industry.

With that said in the outlook that you have provided, where do you think you can get that capacity utilization up when we are in our seasonally stronger Q3 and Q4?

I think it is hard to say, it just depends at the rate at which we see the market recovery continue, but we really haven't tried to forecast where capacity utilization will go and when we will get there. And I think we have mentioned previously on calls that capacity utilization varies by product line where some product lines are running at significantly higher levels than the average and some at lower levels. So that continues to be the case and we expect that it will be the case going forward.

Do you have a sense of where you think the distribution channels are going to be on the wholesale level as far as their inventory levels as we get into the warmer months, given the outlook that you provided that we could be seeing some pricing fluctuations as we go forward? What is your sense on how that is going to be situated?

You mean as far as the inventories throughout the supply chain, our customers, or?

Yes.

I think at this point we don't see there being any inventory stocking changes or hedging moves on the part of our customers. I think everyone is just focused on maintaining their inventories at reasonable levels rather than taking exposure either way.

I would go so far as to say, Tyson, that I think there's a reasonable amount of conservatism in the market with just the macro factors that you see affecting commodity prices. I don't think that those trends have created any impetus for significant inventory growth.

Okay, and the last issue at the risk of being a kid where parents tell you don't touch it and you touch it anyway, talking about federal funding for infrastructure. Obviously we know the history here and we may get some eye rolling on will they or will they not actually do something this time. Is it likely that we could see states act before the federal programs in where they take advantage of increasing some of their spending as they act somewhat quicker than the feds have, obviously, so you may get a benefit maybe at the state level first before we see it at the federal level?

Yes, I think you are already seeing that trend underway where over the past year or so there's been a significant number of states that have pursued increases in fuel tax as well as changes in their wholesale tax or sales taxes and more movement toward the private public partnership. So I think when you look at the state and local construction spending there's actually been some upward movement there recently whereas at the federal level it has remained relatively flat. And we would expect those trends to continue going forward.

Okay. Would we actually see an increase in federal spending, or is this just to backfill their deficit of revenue generation for that trust fund and we may just continue at the level we have been at, they just find a new funding mechanism?

I would be very surprised if on a net basis there is any significant increase in spending at the federal level.

Okay. Thank you.

Mike Conti, Sidoti & Company.

Just a few questions. I guess we started with the average selling prices, that's three consecutive quarters in a row of increases. Can you describe what is driving that?

Certainly. This quarter the ASW acquisition had an impact on it. But there has been no wholesale change in market conditions with respect to selling prices and moving them up or down or their fluctuations.

It's mainly a mix issue.

Okay. And then being that it is a mix issue and ASW was with the PC strand, are you seeing any quantifiable benefits from the exit of Chinese imports?

Actually, those imports exited in 2009 and 2010 and certainly the trade case that caused that exit has turned out to be a good investment for the Company and the industry. But much of that volume has been replaced by other countries, which is an expected phenomenon. It is just the way that the marketplace works, so imports of PC strand have always been a consideration for the Company and they always will be.

At this point we are keeping a close eye on the underselling that is going on by four or five different countries and when it is time to act we will. But for right now it is more of a monitor situation for us.

Great, got it. And what are you seeing more from a regional point of view? I know you have stated the big three Texas, California, Florida but what other regions are showing signs of strength or perhaps weakness?

Well, seasonally speaking certainly you are seeing the upper Midwest and the Northeast sort of lethargic right now as they wait for better construction periods. You named the largest reinforcing consuming markets in California, Texas and Florida. They all are showing signs of life although there is seasonality associated with those markets as well where Texas has had ice, California has had torrential rain.

So the seasonal aspect of the business doesn't go away even as geographies. But I wouldn't say that there's any geographic area that is exceptionally weak at this point. I think you could say they are all recovering to one degree or another and certainly that is a welcome sign for Insteel.

Sure, absolutely. And Mike, you mentioned on your comments you guys had a mix of vendors and your payment terms are changed. Is that an issue going forward?

Well there's always going to be some volatility there depending upon the mix of domestic purchases versus imports where depending on the specific vendors that have balances outstanding as of the end of the quarter that can skew the days payable higher or lower. So I think there's always going to be some fluctuations related to that and then this past quarter it was really a timing issue where if you look back at Q4 we had a significant build in our payables just related to the timing of purchases at the previous period.

This quarter it swung in the other direction where within the quarter there was a drop off in purchasing activity near the end of the quarter. So assuming that purchasing activity picks back up again, particularly as we head into busy season you would expect to see it go back in the other direction.

Yes, and just to clarify in case there is any question about it, we have not experienced any change in payment terms from any specific vendor. It is a mix issue. It is not a negotiation issue.

Sure. Okay. And then H., I just wanted to clarify you mentioned the spread expansion. Obviously you have seen commodity prices go down yet, low carbon wire rod prices have been relatively stable, can you give some insight on that price divergence and I guess some implications on how that should affect the second quarter and the second half of this year?

Let me start by saying that we are notoriously poor at forecasting those things. But certainly it is well-known that steel scrap has declined. It is well-known that steel scrap is an important factor, the price of steel scrap is an important factor and the price of our primary raw material, which is hot rolled wire rod and that to the extent that scrap continues to decline, if wire rod prices were to reflect similar declines and if the strength in our markets that we have seen over the past couple quarters and in the improving trends, if they were to continue so that we developed just a little more pricing power in our market then I think the math would tell you that a widening of spreads and potentially an improvement in margins could be in the offing for Insteel and for the industry in general.

But there are a lot of ifs in that explanation and we have seen environments where these trends worked to our benefit in the past. It is possible that they will this time but that is not a promise. It's a hypothetical.

Great. No, that's all the questions I have.

Thank you. I'm showing no further questions in the queue. I'd like to turn the conference back over to Mr. Woltz for any closing remarks.

Okay, thank you. We appreciate your interest in the Company and if you have questions don't hesitate to call us back. Thank you.

Ladies and gentlemen, thank you for your participation in today's conference. This does conclude the program and you may all disconnect. Have a great rest of your day.