Quaker Chemical Corp (KWR) 2012 Q3 法說會逐字稿

Greetings and welcome to the Quaker Chemical Corporation's third-quarter 2012 results conference call. A question-and-answer session will follow the formal presentation. (Operator instructions) As a reminder, this conference is being recorded.

It is now my pleasure to introduce your host, Michael Barry, Chairman, Chief Executive Officer and President for Quaker Chemical Corporation. Thank you, Mr. Barry. You may begin.

Thank you. Good morning, everyone. I hope all of you and your families are fine in the aftermath of Hurricane Sandy.

Joining me today are Margaret Loebl, our CFO, and Robert Traub, our General Counsel. After my comments, Margaret will provide the details around the financials, and then we will address any questions that you may have. We also have slides for our conference call. You can find them in the Investor Relations part of the website at www.quakerchem.com.

I'll start it off now with some remarks about the third quarter. Overall, we are pleased to be able to report another solid quarter. We continue to execute our tightly focused strategy. Specifically, we are driving to take share in our existing businesses and to leverage new technologies acquired as a result of our recent business acquisitions. Notably, in July of this year, we made the NP Coil Dexter acquisition, our fifth acquisition over the past two years. Four out of five of these acquisitions brought Quaker new adjacent product technologies that we can leverage over our global infrastructure.

We also announced the launch of our revised brand for Quaker. Building on our 94-year history, we are committed to take the Company to the next level. Our revitalized brand highlights this commitment by more clearly communicating our competitive advantage, which is formulating products and service solutions for our customers through the innovation, expertise and experience of our people. For Quaker, our people are our key assets, and our new brand emphasizes this aspect.

Turning to the global results more specifically, the third-quarter earnings per share was $0.80 and was relatively flat compared to last year's third-quarter EPS of $0.81, which excludes the non-cash gain related to our Mexico acquisition. This is a solid level of earnings, given the conditions we are facing in most regions of the world. Also, we generated strong cash flow in the quarter, and our cash flow for the first nine months now exceeds our best full year ever.

Let me now try to give a sense of what we experienced in the quarter, and I'll start with sales. Our overall sales were down less than 1% in the quarter versus the prior year. So just like earnings, they were relatively flat. But we were negatively impacted by 6% from foreign exchange rates.

Our volumes were up year over year by 5%. In fact, this was the highest quarterly product volume in our history, as you can see on slide five. We believe our business strategies are largely responsible for this increase, and we are benefiting in two ways. One, we continue to make acquisitions, as I mentioned earlier. And two, we have grown our volume by executing our business strategies and taking share in the marketplace. So the combination of both the acquisitions and new organic growth is the reason we have committed to grow our volumes under very difficult circumstances.

Going around the regions, Europe is our most challenging region from a sales perspective. Sales were down approximately 17%, but when adjusted for foreign exchange rates, the decline was 7%. Europe was a region where we also picked up share in the marketplace, so the inherent steel and industrial markets were down even more than these numbers. Please note all these numbers I just mentioned for Europe do not include the recent acquisition for NP Coil Dexter.

In South America, our sales were down 22%, but when adjusted for foreign exchange rates, the decline was 4%. Steel and automotive markets continue to be very challenging in Brazil. Recently the Brazilian government has business initiatives in place to help drive growth. We may see some positive impact from this in 2013.

So, while Europe and South America were down, two other large regions, North America and Asia Pacific, were up. Sales were up 7% in Asia-Pacific and up 6% in North America. Again, a good portion of this growth is due to our business initiatives.

Looking sequentially, third quarter versus second quarter, our sales were up 15% in Asia-Pacific, flat in North America and down 8% in South America and down 9% in Europe, excluding the acquisition. So, while we are experiencing relatively flat overall sales and earnings, there's quite a bit of mixed effect on a regional level.

One of the benefits of Quaker's business is that we are diversified geographically, and you can see the benefits of this as different regions are experiencing different dynamics. When you look at Quaker as a whole, there is very good stability both at the top-line and the bottom-line.

So, all things considered, we are pleased with our third-quarter performance. We had strong operating cash flow generation while continuing to invest in our businesses. And as you can see on page six of the slides, our run rate of EBITDA for 2012 is trending to be a record for Quaker.

Going forward, we continue to expect uncertainty and a challenging global economic environment. In the fourth quarter, we should also see some negative seasonality effects as some companies may take extended downtime around holidays.

However, we remain committed to delivering good results for the execution of our business strategies. I tend to think of our business initiatives in baseball terms where we have numerous initiatives in all regions that are like singles. We tend to string a series of these singles together to generate our runs or earnings growth. I believe we are seeing this effect in our current results as our many singles are helping us to offset the negative impact of slower global economic activity and foreign exchange rates and are a big reason we have achieved record product volumes this quarter.

The bottom line is that I continue to be confident in our future. We have demonstrated in the past that we can manage through uncertainty, and we see this year as no different. Our expectations and guidance have not changed, and we expect 2012 to be another good year for Quaker.

In closing, I want to thank all of our associates whose dedication and expertise helps to create value for our customers and differentiate Quaker in the marketplace.

And now I will turn it over to Margaret Loebl, our CFO, so that she can provide you with more details behind our financials, and after that, we will address any questions you may have.

Thank you, Mike. Turning to the financials portion of the call today, I will reiterate that Quaker continues to report strong results in the third quarter of 2012 and year-to-date 2012.

As you know, we reported earnings per diluted share were $0.80 for the third quarter of 2012 compared to earnings per diluted share of $1.03 for the third quarter of 2011 or $0.81, excluding the non-cash gain on the revaluation of a previously held ownership interest in the Mexican affiliate of $0.22 per diluted share.

The third quarter of 2012 includes certain uncommon expenses totaling $0.05 per diluted share, largely consisting of severance and brand launch costs. In addition, changes in foreign exchange rates negatively impacted the third-quarter net income by $0.04 per diluted share.

As a general comment, the strong US dollar versus the euro and Brazilian real and the weakening versus the renminbi for both the third quarter and year-to-date 2012 versus the same period in 2011 has been impacting Quaker's reported revenue and net income, and on balance has been negatively impacting Quaker's reported revenue and net income in this quarter.

Looking at our operating performance, I would like to first comment on product volume. We tracked metalworking process chemical segment product volumes and recorded total product volume this quarter of almost 54,000 kilos, as you can see on our investor charts on the web. This is a record quarter for Quaker from a product volume perspective.

Net sales for the third quarter of 2012 were $180.9 million, a decrease of less than 1% from $182.3 million in the third quarter of 2011. Foreign exchange rate translation decreased revenues by approximately 6%, which more than offset increases due to product volumes of approximately 5%, including acquisitions.

Net sales for the first nine months of 2012 were $535.4 million, an increase of 5% from $510 million for the first nine months of 2011. Product volumes, including acquisitions, were higher by approximately 6%, and selling price and mix increased revenues by 4%, while foreign exchange rate translation decreased revenues by approximately 5%.

Our gross margin was relatively flat versus the prior year quarter, but it was down 1.6% versus the second quarter of 2012. The decline was due to mix and other effects in our business. In general, we continue to expect raw materials to be relatively stable to slightly down as we progress into the fourth quarter of 2012.

Gross profit increased by approximately $13.6 million or 8% from the first nine months of 2011 with gross margin increasing to 33.5% from 32.5% for the first nine months of 2011, reflecting the Company's initiatives to restore margins to more acceptable levels through price increases and the mix effects noted earlier.

Turning to selling, general and administrative expenses or SG&A, this increased approximately $1.3 million compared to the third quarter of 2011, primarily related to acquisitions and higher selling, inflationary and other labor-related costs, which were partially offset by decreases due to foreign exchange rate translation. SG&A for the third quarter of 2012 includes certain uncommon charges totaling $0.05 per diluted share, largely consisting of severance and related items and costs related to the Company's new brand launch.

As a result, the third quarter of 2012 SG&A as a percentage of sales increased to 23.9% compared to 23% for the third quarter of 2011. For the first nine months of 2012, SG&A increased by approximately $10.6 million compared to the first nine months of 2011, primarily related to acquisitions and higher selling, inflationary and other costs on increased business activity, which were partially offset by decreases due to foreign exchange rate translations.

Notably, the first nine months of 2012 SG&A include charges of $0.06 per diluted share for certain customer bankruptcies in the US, $0.03 per diluted share related to CFO transmission costs and other charges of $0.05 per diluted share noted above of uncommon expenses.

SG&A as a percentage of sales increased to 24.3% from 23.4% for the first nine months of 2011. For the third-quarter 2012 and year-to-date periods in 2012 versus the same period in 2011, the decrease in interest expense was due to lower average borrowings, partially offset by increases related to the accretion of certain acquisition-related liabilities.

The decrease in other income in the third quarter of 2012 and year-to-date 2012 periods was primarily due to a $2.7 million or $0.22 per diluted share non-cash gain recorded in the third quarter of 2011 related to the Company's third-quarter 2011 purchase of the remaining ownership interest in our Mexican joint venture.

In addition, the Company experienced higher foreign exchange losses in the first nine months of 2012 and also received lower third-party licensees in the first nine months of 2012, primarily as a result of the prior year purchase of the remaining ownership interest in the company's Mexican affiliate, as discussed above.

The Company's year-to-date 2012 and 2011 effective tax rate was 26.9% and 27.1%, respectively, reflects decreases in reserves for uncertain tax positions due to the expiration of applicable statutes of limitations for certain tax years of approximately $0.15 and $0.14 per diluted share, respectively. The first nine months of 2012 earnings per diluted share of $2.52 reflects an approximate $0.11 per share dilutive effect as a result of the Company's equity offering in May of 2011.

Turning to our balance sheet and cash flow, capital spending and payments related to acquisitions net of cash consideration was $8.8 million and $2.6 million, respectively, for the first nine months in 2012.

With respect to capital spending, we continue to invest in a new plant in China and are commencing a capital investment in India. As mentioned earlier, we did close our acquisition of NP Coil Dexter in the third quarter of 2012 for a net cash consideration of approximately $2.6 million net of cash acquired.

In the first nine months of 2012, the Company's net cash provided by operating activities were $41.8 million, which surpasses any previous full-year results. Net operating cash flow of $19.8 million was generated in the third quarter of 2012, primarily led by the Company's third-quarter net income and improved working capital position.

Cash was up $13.3 million from year end, while the Company paid down $9.7 million of debt, including the paydown of acquisition debt. Net debt is down to $8.4 million at the end of the third-quarter 2012. Trailing 12-month EBITDA of $77.8 million continues its upward trend. This is adjusted EBITDA reported on a trailing 12-month basis versus an annualized run rate used in the past. The details are outlined in the reconciliation we provided in our set of investor charts on the website. The Company's consolidated leverage ratio remains strong at less than 1 times EBITDA.

Quaker continues to have a strong balance sheet with sufficient financial flexibility to support its strategic initiatives and future acquisition plans. I, too, would like to thank the Quaker associates for their strong performance, and this concludes my prepared remarks for today.

Thank you. Mike?

Thanks, Margo. At this stage, we would like to address any questions from the participants on this conference.

(Operator instructions) Liam Burke, Janney Montgomery Scott.

Mike, you stated a strategy with your core products on how you were going to take share, and you have been getting traction there. It's a long selling cycle. If I look at the acquisitions as they have been integrated, have you been able to get similar traction on the market share gain side?

Yes, that's a good question. You are right. We do have a long sales cycles. So if you look at the five acquisitions that we've made, the first one was the aluminum acquisition from D.A. Stuart. And that one, as an example, since that's about -- over two years old now at this point, we have made significant traction there. So when we bought a business at the time was somewhere on the order of $6 million to $7 million. And we have expanded those sales dramatically both domestically, selling our products to their customers, as well as taking their technology and expanding it globally. So I don't have the exact numbers in front of me, but it's probably close to double of where the original amount is. So that's a good example, to me, of how we do things. That does take a while.

If I start looking at the next acquisition, Summit Lubricants, again we are in the -- we are still making progress there. We have initiatives in all the regions of the world to do that, and we have made some progress on some additional sales there. But over time, we expect that to be a lot more of a contribution than what it is today.

And then, if you look at the most recent acquisitions, they are just getting started. So it generally takes a couple years to really get traction, get enough people and expertise in other regions in place to be able to sell these new products. And we are on track to where we expect to be in that.

Okay. And you mentioned product mix and Margo, I guess, in her comment mentioned product mix on the gross margin front. Are those acquired products, or what is in that mix that made such a difference on the gross margin side?

It can be, really, even just customer mix. Some customers we said -- it's not so much, I would say, acquisition mix. It's really kind of timing of shipments to different customers and different regions. Some products have better margins than others. So I think it's more just a whole series of mix and maybe some other kind of issues that happen over time with inventory and so forth. So it's nothing unusual, I would say.

Did you see any significant effect with the higher oil prices on your raw materials costs?

On the raw material side, it looks region by region. In general, we are starting to see raw materials come down, slightly down. But like, for example, raw materials in Europe were higher in the third quarter than they were in the second quarter. But in other regions of the world, that wasn't true. But as a general statement, I would expect raw materials going forward to be flat to slightly down.

Laurence Alexander, Jefferies.

First of all, could you give a little bit of additional commentary around regional trends and market trends, particularly what you are seeing into the fourth quarter, and anywhere where you see are there particular changes in momentum, either positive or negative?

Yes, sure. I would say, if I look at Europe I would think, even as some of the numbers I mentioned, we really saw a decline in Europe between the second quarter and the third quarter, and we continue to expect that same kind of level to stay with us in Europe. We don't have big expectations of getting worse, but we don't have expectations that it's getting better from the third quarter as well. So a trend versus the third quarter I see relatively flat in Europe.

With Asia-Pacific, we saw a positive trend for us coming from the second quarter to the third quarter, and we expect that positive trend to maybe continue or be flat. In other words, it wasn't, hopefully, a one-time lift. But we expect, in general, Asia-Pacific to be a good region for us, especially longer-term. But we don't expect dramatic increases or decreases from where we are today.

In the United States in North America -- well, in the United States in general, I think we see a little bit, certainly, a decline. If you look at steel production and steel capacity utilization, it has been trending downward. But when you look at the signs where expectations are for next year with autobuilds and steel production, I still see North America being a good region for us, relatively -- continuing on pretty well from where it is.

And then South America. South America has really been hit hard with steel production. Auto production is way down. Heavy equipment is way down, down there. The government has put in initiatives. Our expectation is kind of the third quarter there will be more at the bottom. Fourth-quarter we are hoping for some pickup, it might be relatively flat, and then our expectations are maybe next year some improvement in South America.

So it is definitely a mixture. But as a general statement, I don't see -- while things are at a low point here, I don't see it changing much in the short-term. So I see relatively consistent industrial production, if I look at the global basis, going forward, for the foreseeable future. And then, as we go into next year, hopefully we should see some increases.

And then on the M&A front, two related questions. One, if you look at the acquisitions you have already done and the technologies you have layered in, are these modest accelerants to your topline growth, you know, a few basis points each year, or do you expect them to be significant, adding 50-100 basis points of sales each year, in aggregate, as you rolled them altogether?

And then, as you look at the M&A landscape, what do you see as the likelihood of significant availability of assets over the next, call it, six to 12 months, or does it feel as if everybody is hunkering down right now?

Right. Well, I wish I knew the second to that last question. I really don't. We are still actively looking. We still have conversations going on in different areas. But it's always hard in our industry to predict when somebody is ready to sell. You tend to have a lot of businesses that are operated by family and have different dynamics or reasons for selling. So in a lot of ways, it's more particular to their situation, but we will continue to pursue there, and we hope to continue to make some acquisitions in the future.

On your first question, how much are the acquisitions that we've made so far and how much are they going to provide to our growth? Definitely I would have expectations that they would provide at least 1 percentage point or more, 1 to 2 percentage points on our growth by leveraging our global infrastructure and then taking these different technologies out. So it's that 1 percentage type number.

(Operator instructions). Summit Roshan, KeyBanc Capital Markets.

Looking at the spending on the branding launch here, I just want to get some initial feedback from what you are hearing from customers there, a little bit more color on maybe what you are expecting as we go into the end of the year here and into 2013-2014 for the midterm?

You mean going on with the brand -- is that all related to branding, or is it the first question?

Yes, it all relates to branding.

Yes, we've had positive feedback so far, but it is kind of early days. We just put it out and rolled it out in the month of September. And our marketing campaigns, our trade shows around this, use this new campaign. And so it has been positively received. And we are putting, as a company in general, putting more emphasis on marketing and working Quaker.

Quaker is a very well-known name. When you talk about specific pipelines that we are in like steel, all the steel companies know Quaker. And our hydraulic fluids have a very strong brand name.

But when you get into some of these other product lines that we are in, we are not as well known, and now we are making acquisitions in other product lines. So we really thought it was important to really promote and strengthen our brand, revitalize it and get that out there.

So there is more emphasis on marketing, get the name Quaker out there for both our -- all our product lines, including our new product lines.

Great. And just a quick follow-up on that one. Do the costs there largely roll off as we head into the next quarter? Here there's going to be some kind of sustained levels of spend on that market?

Does our spending levels roll off? Is that what your question was? Okay.

Yes, yes.

Okay. Well, we had an initial launch, which means like we're changing a lot of things that we have or everything we have going out with the different logos. So there was more of an upfront cost associated with that that we experienced recently here. And then ongoing, there will be some more marketing. But we also spend marketing over time. So there might be some levels of spending more, but it won't be that much, won't be that unusual.

Okay. And as a point of clarification here, from the Q, it sounded like organically volumes were up in the quarter. Am I looking into that right, and could you parse out what you are seeing in terms of the magnitude of underlying demand and how much that is down and to the extent that new product introductions and new business wins are offsetting that?

Yes. Organic growth is relatively flat, maybe slightly up. You look at a region, if I use Europe as an example, we had some really large wins in Europe and some pretty big share gains. But they weren't enough to even offset the significant loss that we saw just in the inherent business that we had. And then you go into other regions like North America and Asia Pacific and so forth where the markets were relatively flat to slightly up, and then we had gains on top of that.

But when you put all that together, certainly I think the picture is that you had, especially in the third quarter, was from an inherent demand on our existing customer base was down, but we were able to offset that by market share gains, and so it was relatively flat from that perspective. And then you have the acquisitions and so forth.

Great. And then one last one here, on your CapEx spend and looking at the new plant in China and some of the investments we're making in India, have you broken out timing and the expected size and ramp up of those?

We haven't broken out that data in the past. I believe, for the rest of the year, that we could see some ramp-up from some increase versus run rates, but I don't expect anything unreasonable. So you can look at our run rates and extrapolate from that going forward, but I do expect -- I do believe there can be some increase versus run rates. But I don't think it will be anything -- nothing unreasonable.

Okay. And just a quick follow-up for that one. Is that going to be largely for legacy products, or are you going to be trying to leverage some of the new technologies that you acquired?

Most of it is really just the demand for our base business. But we also are having some -- adding capacity to also make some additional products that they currently do not make in China, for example.

(Operator instructions) Chuck Murphy, Liberty Park Capital Management.

I just had a couple quick questions for you. First, kind of wanted to dig in a little bit more on the organic sales trends. I guess, one, could you state what the contribution was from NP Coil Dexter, and two, what were the sequential pricing trends through your products?

Well, we don't really give really specific acquisition by acquisition things. But the impact from NP Coil Dexter this time was slightly negative, but we don't expect going forward that that will be a negative contribution. It was more kind of the initial startup of the acquisition and closing costs and hitting the August time period when the European thing is down. But it was not that material, either.

So NP Coil Dexter in itself, we expect as we go further on would be positive to our performance. The pricing trends -- your question was on pricing trends? Is that --

Yes, yes, go ahead and answer that, and I'll ask my next one after that.

Sure, yes. Pricing trends -- we have -- it really depends on where we are coming from. First of all, if you look at it on a constant currency basis, because you've got to put foreign exchange into this equation as well, the foreign exchange was a stronger dollar. And you translate everything back, it would look like prices maybe are somewhat coming down. But if you look at it on a constant currency basis, they tend not to be.

But we have fluctuations. We have contracts with our customers that go up and down with raw materials. So part of our contract base just adjust with some of the raw materials that go up or down, and that really depends. So maybe if you look at the first part of the year, raw materials are going up. So we had contract adjustments of pricing going up. And then as raw materials come down, eventually there will be an adjustment for pricing to come down.

So it's kind of a mixed bag. As I think about pricing right now, I think we are a relatively stable situation.

Yes, got you. And since you can say what NP Coil sales were in the quarter, could you say what the organic trends were sequentially? I know you said year over year it was flattish.

Yes.

What about sequentially for organic revenue?

Organic revenue -- let's see, relatively flat, maybe slightly up, but relatively on a flat basis sequentially. But again, as I mentioned, there's a lot of dynamics going on there. So we were up pretty significantly in Europe, flat in the US and down in Europe and South America. But when you put all that together, we are relatively flat.

And then my other question had to do with the gross margin. I think you had said before it had to do with product mix and customer mix in terms of it being down versus 2Q. What exactly -- which types of products are higher margin or lower margin for you, same thing? Which types of customers are higher margin or lower margin, and do you expect those changes to hold in Q4, or is it something that reverts back to the way it was in Q2?

I think a lot of it has to be more related to customer mix, and it would be impossible for me to go through and identify all the different products and customers that have different things.

But another thing I would say is that I think we had an untypical or slightly negative mix of business in the third quarter. And assuming raw materials stay where they are, I hope that mix would improve going forward.

I am showing there are no further questions at this time. I will now turn the floor back over to management for closing remarks.

Okay. Given that there are no other questions, we will end the conference call now. I want to thank all of you for your interest today. We are pleased with our results for the third quarter, and we continue to be confident in the future of Quaker Chemical. Our next conference call for the fourth-quarter results will be in early March. And if you have any questions in the meantime, please feel free to contact Margo Loebl or myself.

Thanks, again, for your interest in Quaker Chemical.

Ladies and gentlemen, this does conclude today's teleconference. You may disconnect your lines at this time, and we thank you for your participation.