Mativ Holdings Inc (MATV) 2020 Q3 法說會逐字稿

Welcome to SWM's Third Quarter 2020 Earnings Conference Call. Hosting the call today from SWM is Dr. Jeff Kramer, Chief Executive Officer. He is joined by Andrew Wamser, Chief Financial Officer; and Mark Chekanow, Director of Investor Relations.

Today's call is being recorded and will be available for replay later this afternoon. (Operator Instructions)

It is now my pleasure to turn the floor over to Mr. Chekanow. Sir, you may begin.

Thank you, Sheryl. Good morning. I'm Mark Chekanow, Director of Investor Relations at SWM. Thank you for joining us to discuss SWM's Third Quarter 2020 Earnings Results.

Before we begin, I'd like to remind you that the comments included in today's conference call include forward-looking statements. Actual results may differ materially from the results suggested by these comments for a number of reasons, which are discussed in more detail in our Securities and Exchange Commission filings, including our annual report on Form 10-K and our quarterly reports on Form 10-Q. In particular, the extent to which COVID-19 pandemic continues to impact our business is uncertain and depends on numerous evolving factors, which are difficult to predict, including the duration and scope of the pandemic and of actions taken in response to it.

Some of the financial measures discussed during this call are non-GAAP financial measures. Reconciliations of these measures to the closest GAAP measures are included in the appendix of this presentation and the earnings release. Unless stated otherwise, financial and operational metric comparisons are to the prior year period and relate to continuing operations. This presentation and the earnings release are available on the Investor Relations section of our website, www.swmintl.com.

I'll now turn the call over to Jeff.

Thank you, Mark, and good morning, everyone. Before we discuss our results, I'd like to again express the heartfelt appreciation of the SWM executives and the Board of Directors for the incredible efforts our global teams continue to put forth. They are the ones responsible for delivering the strong operating and financial performance we reported yesterday.

As we all adjust to our new normal, I cannot overstate how impressed we are at the resilience and adaptability of our people. In the year unlike any other, we are fortunate to have a culture of excellence at all levels of the enterprise with an incredible commitment to each other's safety and outstanding service to our customers, enabling all our sites to operate uninterrupted during the quarter.

Following the second quarter, which COVID-19 meaningfully impacted both end market demand and operations, third quarter results exceeded our expectations as we saw improving fundamentals in key markets. Adjusted EPS increased 15% in the quarter, with higher profits in both segments. EP saw both sales gains and margin expansion, while AMS saw sequential trend improvements. Third quarter results bring year-to-date adjusted EPS growth to 6%, demonstrating that SWM's diversified portfolio performance materials is strategically positioned to deliver growth in even the most unusual of economic environments.

Cash flow is strong. Our balance sheet continues to improve. And while we are tackling the everyday challenges of the pandemic, we also remain focused on positioning SWM for further growth.

For AMS, sales increased 10%, including the benefit from the Tekra acquisition. On an organic basis, while sales declined 8% year-on-year, this performance demonstrated a meaningful sequential improvement from the previous quarter with our transportation film segment improving. Further, if we exclude the impact of the single end market, AMS as a whole would have shown only a 3% organic decline in sales, a remarkable achievement given the overall global economy.

Our paint protection films continue to be the most affected product line in the portfolio due to COVID-19, but with greatly improving trends. We are encouraged by the sales performance towards the end of the third quarter, and are optimistic that fourth quarter results will put us on a solid trajectory exiting 2020, assuming the pandemic does not cause further channel disruption. We continue to be very positive on the longer-term trends and our leadership position in this marketplace.

Consistent with the first half, medical was again our fastest-growing end market during the quarter. As we have noted, many of our materials are either direct beneficiaries of COVID-19 prevention, such as meltblown media for N95 face masks. Or are seeing indirect demand due to higher traffics in hospitals, driving usage of bedding, packaging and traditional disposable face masks.

Industrial sales increased again due primarily to packaging products as well as high demand for wind turbine blades that support the expanding green energy market. Another area of sequential sales trend improvement was filtration, which had declined in the second quarter versus last year, but was essentially flat in the third quarter. Air filtration products led the category again as HVAC units are seeing filter upgrades to higher-quality materials to improve air quality and limit coronavirus spread. We are benefiting from this upgrade cycle. And are executing several projects to continue to increase output of our higher-end HVAC filtration materials per our September 29 press release.

Process filtration trends also showed improvement. And while water filtration remains a little choppy, customer indications are for a stronger finish to the year. Infrastructure and construction was lower versus last year, but the decline was wholly attributable to a business subunit focused on the energy sector, where low oil and gas prices have impacted demand for supporting products and services. Weaker performance here has been offset by this unit's increasing exposure to solar energy farm construction, which is a growing segment. This new channel could represent another opportunity to leverage demand for green energy Solutions. The remainder of our infrastructure and construction business showed modest growth in areas such as turf and construction.

Regarding the Tekra acquisition, integration is nearing its final stages. We have made great strides onboarding the new teams. And despite the challenges of reduced travel and limited in-person activities, we are quite pleased with our progress. As we conclude the integration groundwork in operations, sales, HR, IT and finance, we are advancing to more market synergy products. We are excited about the commercial opportunities with Tekra given our new access to advanced coating and converting technologies. And over the next 12 months, we aim to share our progress on these initiatives.

Switching to Engineered Papers. Segment performance was very strong. Volumes increased 2% during the quarter with gains in several key areas, including LIP papers. Recent industry decline rates have been more favorable versus long-term historical trends due in part to people spending less time in offices and other indoor places and more time at home or outside. In addition, a portion of our volume growth is attributable to customers building inventories as they reassess their contingency plans related to potential future COVID-19 supply chain disruptions.

Heat-not-burn products performed well again this quarter. And for the year, thus far, have nearly tripled from 2019 levels. This remains a relatively small but growing part of our portfolio, and we continue to partner with our customers on developing new products to support their launches around the world.

Also, as disclosed in our earnings release and 10-Q, we have announced the closing of our Spotswood, New Jersey facility as part of our ongoing supply chain optimization. As we continue to focus on reducing costs to meet the needs of the industry, we were able to collaborate with a key customer of that site on an innovative paper technology that is not supported by the Spotswood assets, but can more optimally run in another SWM plant. This strategic joint effort culminated in a newly signed multiyear supply agreement with that customer, under which we will provide comparable volumes from a different facility. This was, of course, a very difficult decision. I want to express our appreciation to those operating the site who have been true professionals, ensuring continued high customer service during this transition.

With that, I'll turn the call over to Andy.

Thank you, Jeff. Beginning with our segments. AMS sales increased 10%, but were down 8%, excluding the Tekra acquisition. Tekra contributed $23 million of sales in the quarter. The organic sales decline was largely driven by the decrease in aftermarket transportation films, while the remainder of the portfolio declined only 3%. These sales trends marked a sequential improvement from the second quarter.

AMS generated $25 million in adjusted operating profit in the quarter, up 2%. In addition to the contribution from Tekra, profitability in this segment also benefited from expense control initiatives and favorable raw material costs.

Adjusted operating margin was down only 130 basis points to 18%, and we note that this was a significant sequential improvement from the 15.7% margin that we reported in the second quarter. We are cautiously optimistic that some of these recent favorable trends that we've seen in the business, in particular, the rebound in transportation sales will continue to hold as we close out 2020.

EP segment sales increased 8% for the reasons Jeff detailed. Last quarter, we said that once Ancram was back running, the positive mix trends we had seen in our business would resume. And they did with price/mix adding 6% to sales growth. During the quarter, currency had an immaterial impact to sales. On the margin side, performance was also strong with adjusted operating margin up 400 basis points versus last year to 26.6%. In addition to the positive mix effects, we have successfully managed our fixed and discretionary costs and continue to see some benefits from favorable input costs. As Jeff referenced, some of the positive impacts from our customers building inventory are likely to be near-term in nature.

Unallocated costs were down $2.4 million to $9.6 million, largely due to the timing of various corporate and administrative expenses. On a year-to-date basis, unallocated costs are down approximately $1 million to $33 million, and we are trending toward the mid-$40 million level for the full year as we have previously stated.

On a consolidated basis, sales in the quarter increased 9% and adjusted operating profit and EBITDA increased 26% and 25%, respectively.

Third quarter 2020 GAAP EPS decreased to $0.78 from $0.90. The decrease was largely due to onetime expenses of $0.18 related to the planned shutdown of the Spotswood site. We expect to incur some expense in the fourth quarter as well, which will also be excluded from adjusted financials. Adjusted EPS increased 15% to $1.16. The increase was due to higher profits in both segments and a decline in unallocated costs for the third quarter. We are also pleased that the strong quarter brings our year-to-date adjusted EPS growth to 6%, demonstrating the strength of our diversified portfolio, even in the middle of a challenged economic environment. The tax rate embedded in the adjusted EPS calculation was 19.7% during the quarter and 20.8% year-to-date.

While we continue to not reinstate guidance for the balance of the year, we are very pleased with our results to date and expect to exceed $100 million of free cash flow again. We acknowledge that our year-to-date results have been strong. And it is possible that we could exceed last year's adjusted EPS results. However, we believe it's prudent to caveat our comments, especially in light of rising COVID-19 cases not only in the U.S., but around the globe. We remain cautious and vigilant with respect to the pandemic.

On recent calls, we have spent more time reviewing our debt structure given general investor interest in our liquidity position as the impact of the pandemic rippled through the economy. However, given the healthy position of the balance sheet and cash flow, we intend to pare back this detail going forward.

To summarize, we have over $475 million of available liquidity between cash on hand and our revolving credit facility, and have continued to delever the balance sheet. We currently stand at a healthy 2.5x net debt-to-adjusted EBITDA. Our CapEx through 9 months of the year totaled approximately $24 million as we continue to conservatively deploy capital.

Now back to Jeff.

Thanks, Andy. So to wrap up our comments, I'd like to step back from the quarter's results and talk a little bit more broadly about the portfolio. Obviously, we are pleased with the recent performance of our business throughout the year despite the numerous challenges. More importantly though, we believe our resilience is the result of a multiyear effort to strategically build a diversified portfolio, positioned to deliver strong results throughout an economic cycle.

Our paper business, while mature, has continued to offer highly stable adjusted operating profits, exceeding $120 million in each of the past 3 years and is on track for a fourth in 2020 while also providing robust cash flow. To drive long-term growth, we have built AMS into a $500 million-plus scaled and integrated unit with a broad array of products and strong presences in diversified end markets. Some offer noncyclicality, such as medical, while others are positioned for accelerated long-term growth like filtration and transportation.

Such a diverse portfolio across the company has served us well recently, and we believe we are positioned to emerge from COVID-19, a stronger company. Our performance has required a great deal of collaboration and ingenuity to pivot as necessary and overcome the challenges of the pandemic. Throughout the year, though, we have not lost sight of the longer-term strategic initiatives to support future growth. These include innovative product development activities in both AMS and EP, commercial synergy realizations from Tekra, cost reduction and footprint optimization programs as well as investments in training and developing our people.

Now before I wrap up, I'd also like to highlight an important milestone for SWM. November 9 will mark the 25th anniversary of SWM as a stand-alone public company. Over the years, the organization has undergone transformational change, executing numerous strategic long-term initiatives to grow, optimize, diversify and innovate. We are proud of what we have achieved. Thankful to those who have contributed to our progress, and look forward to the next 25 years of continued growth and success.

That concludes our remarks. And Sheryl, please open the line for questions.

(Operator Instructions) Your first question is from the line of Kurt Yinger with D.A. Davidson.

I just wanted to start off in Engineered Papers. I mean looking at this year, you had some inventory destocking in the second quarter, and it seemed like that came back here in Q3. Maybe you could just talk a little bit about the visibility or what you're hearing from your customers as far as whether you expect order patterns to normalize or I guess, continue to see some volatility?

Yes. So I've had direct conversations with most of our major customers around this. And as you can imagine, one of the advantages they have of working with SWM is we're able to supply their plants on a global basis. But I think they've become through the realization that they might have been keeping too skinny in inventory at their sites, and how critical it is for them to maintain appropriate inventory levels for continuous business.

So most of the customers I have spoken to have directly increased their carrying inventory levels, and don't expect those to reduce for the near future because of what's happening. We do, though, expect order patterns to go back to more normalized levels in the coming months. But again, I still have to caution that with this COVID epidemic, and we're seeing it around the world increase again, there's still a level of uncertainty there. But we have very deep and close relationships with our customers. And so our supply chains are pretty well integrated.

Okay. That's helpful. And then turning to AMS. Could you just update us on where Tekra is tracking relative to the sales and EBITDA margins that you kind of discussed when the deal was announced? And just remind us how you think about the big market synergy opportunities and the overlap with the existing portfolio?

Yes. I'll give you a high level. So from a top line perspective, Tekra is on track. Probably the mix in terms of how we're getting there is a little bit different than what we expected. As you recall, Tekra does have some medical exposure, which we've seen some really good growth there. But then they also have a transportation element, which has underperformed.

When you kind of blend it all together, I would say, on a margin side, it is trending on -- it is on track. But I would highlight that generally, those transportation-related products are one of our highest margin products that we have in our portfolio. So in general, we're really pleased with the results. We've done really a terrific job, I think, integrating the business. As we've closed on it now, probably 8 months ago, and we're pleased with the results, and we're optimistic about what it's going to add in the future.

Yes. So Kurt, just -- you asked about where the commercial synergies lie. The most immediate ones are both in the medical applications groups and the transportation group. So those 2 are direct easily achieve synergies that we're looking forward to growing. But it does add additional capabilities, both in coatings and converting. And that's an upside to us that we like quite a bit, and we're spending a lot of time trying to see how we can leverage those in the other market segments that we have.

Got it. Okay. Makes sense. And in the release, you talked about the transportation channel kind of returning to growth in the fourth quarter. Should we take that as you expect also your surface protection business to resume the positive growth trajectory as well?

Yes. I mean our expectation, as we ended the third quarter, we saw a really good sort of rebound in that product in surface protection. And our expectation is that the fourth quarter could have a pretty good outlook for that business returning back to normal and returning to growth on a year-over-year basis.

Right, right. Okay. And pulp maybe will be less of a tailwind as we look ahead, but it doesn't look like it's going to be much of a headwind either. How should we be thinking about other potential inflationary pressures? And any discretionary type expenses that you would expect to start to flow back into the business over the next couple of quarters?

Yes. Kurt, you're right on that front. If you kind of look at the 2 -- the 2 raw materials that we have the most volatility with, pulp would be one, which we did see a modest benefit in the third quarter, just a little over about $1.5 million. And that index was favorable about 7% year-over-year. If you look today, it is modestly up from where we were year-over-year. So it could be a modest headwind. So I give you those numbers in the context, maybe it's a headwind of $0.5 million or so, as we sit today.

On the resin side, polypropylene, that was a benefit to us in the quarter by about $1 million. And that, similar to pulp, was favorable about 8% year-over-year. If we look today, polypropylene is going to -- is flat year-over-year. So we're not really going to see that same benefit in the fourth quarter. And those are really the two, I would say, the 2 raw material inputs that really have the most volatility. Anything else with TPU and the thermoplastic polyurethane or anything to that effect, there's a little volatility in those prices.

Okay. All right. That's helpful, Andy. And then just lastly, on cash flow and capital allocation. I guess first off, do you expect working capital to be a use of cash on a full year basis? And secondly, the portfolio has performed really well. Despite all the volatility, you guys continue to delever. How are you thinking about potential M&A in this environment? And does the performance of the business this year impact your thinking around what type of leverage, I guess, the platform can support?

Yes. It's a great question. So we are really pleased with our cash flow year-to-date, and we continue to generate good cash flow. So I would -- if you look at where we were last quarter, we were at 2.8x on a net debt basis. We delevered it at 2.5 this quarter. I'd expect us to have some modest delevering to this as we close out the year. As we look at working capital, it kind of goes back to we also want to make sure that we are supplying our customers and have safety stock for our customers. So you may see some inventory levels a little bit higher than we've traditionally seen at year-end to make sure and give assurances to our customers that we can -- are prepared for any sort of -- if there is any sort of possible shutdown or anything like we saw in spring.

But our expectation is that we'll continue to delever as we close out the year. We've paid down, I think, $62 million or so in debt into Tekra acquisition. I'll expect that to continue to -- it could be up to $80 million or so as we close out the year. And your one point about the portfolio, it's -- we're really pleased with the resilience of the portfolio in terms of how it's held up in this economy. So for us to be able to delever this backdrop throughout the course of this year has been really encouraging.

I'll let Jeff answer the M&A question.

Yes. So Kurt, I think we've been pretty consistent about our approach to how we do business. So the first thing we continue to focus on, and you'll hear us talking about our results is the day-to-day business and making sure we're able to demonstrate continued organic growth of the business, and make sure our cash flows and everything remain healthy.

But at the same time, we always believe it's important and prudent for us to be looking at opportunities to continue to grow the company. Tekra and Trient was an example of that. And so we always have our eyes out for something that's attractive. But again, we're pretty disciplined on how we approach those things. So it really has to fit into our strategic plan and really add some capabilities to us. But it is something that we believe is a value creator for us. And hopefully, we've demonstrated that track record over the last several years.

Your next question comes from the line of Chris McGinnis with Sidoti & Company.

Nice quarter. I may have missed this. I don't know if you provided kind of any color around 4Q. But typically, seasonality plays into the business. I guess just, obviously, in 2020 and the impact of COVID may change that. Would you expect sequential improvement? I don't know if you -- can you maybe just give us a little color around demand trends going into Q4? And just given that 2020 is 2020, maybe an abnormal year for maybe trends and thinking about Q4.

Sure. So as I look at the AMS business with recovery of our transportation films products, I would expect our AMS business to be up year-over-year. And we're cautiously optimistic, but you never know how people will handle their supply chain in November, December. And to be frank, when you look at the history, we always have the most volatility, frankly, in November, right around Thanksgiving until the end of the year is where we have the most sort of volatility where you can have some customers pushing orders to the following year or they're trying to manage their own working capital.

So I hate to give you a nonanswer. But there is -- we do have some volatility with some of our customers there. Last year -- so AMS, we would expect growth, but we're cautiously optimistic. I would say, in EP, we did have a really good fourth quarter last year. We have seen our customers build some additional safety stock this year. So it remains to be seen in terms of how they're feeling. We'll start having active discussions with their customers here, frankly, as we close out in terms of what sort of safety stock do they need. So EP, I would say, probably has a little bit more of a challenging comp. It's particularly where we are year-to-date. But this ends with -- probably with AMS growth.

Okay. No, that's helpful. I appreciate that. And I guess just thinking about the portfolio and how well it's performed through this year. Has the pandemic made you think about investing in certain maybe product lines or new product innovation? Can you just maybe talk about how that's changed your outlook over maybe for the next 12 months of the way you think about the portfolio and where you're going to invest?

Well, I mean, directly, you saw from our announcement, so filtration and medical, those are 2 areas that we're really trying to debottleneck. So if you want to think about investments there, we might be doing things around debottlenecking, et cetera. But I don't think it's materially changed our long term portfolio. We like filtration. We like medical. We like our surface transportation.

So I actually think it's confirmed our strategic focus more than anything else. So I think we're comfortable with the portfolio and the horses that we have. We'll look to invest in all of them.

Yes. And maybe just to add, there are areas in EP, too, that are promising as well in terms of some of the growth that we've had in heat-not-burn and some other areas. So that also is another area that we're looking for to help sort of fuel -- provide stability within that segment.

Yes. And Kurt -- Chris, I think it's important. I answered it from COVID perspective, but I think Andy's build is correct because we do think we have opportunities to do things in the EP business as well. So I think that was an important add.

I wanted to ask about the EP. You did talk about with heat-not-burn, some new product -- may be some new product introductions. Can you just maybe dig into that a little bit of what's coming out? Or is it geographically based? I guess just provide a little bit more color on that, if any.

Yes. There's a number of initiatives, right? So a lot of the things that we're talking about are interesting new products that we think have longer-term growth perspectives, but still haven't materially moved the needle as big as we hope they will in the future.

So in heat-not-burn, most of our customers continue to introduce new products. And those are being successful in the marketplace based on working on some of the innovations we've done with them. We're also seeing a bigger increase in pouches. Nickel ethylene delivery pouches from many of the customers. And here's another example of a cross-sell opportunity. So some of those materials are based on -- pouch materials are based on materials we make on AMS, and we're excited about that.

The EP business also has a focus on botanicals and hemp-based papers and materials that we think have interesting market applications. So we have a significant effort on those that are starting to show some interest. But again, have not delivered yet significant amounts of opportunities. But as you start going through it, there are numbers of opportunities that the teams there are putting into the portfolio that I think will give us some future growth opportunities to continue in that business.

(Operator Instructions) There are no further questions. Are there any closing remarks.

No. This is Jeff again. So just -- I want to thank my global team, tremendous job. You guys are doing a terrific activity, and we're really proud of you. Stay safe, and we'll talk with the investment community at the end of the fourth quarter again. So thank you, everyone.

Ladies and gentlemen, thank you for your participation. This concludes today's teleconference. You may now disconnect.