莫霍克工業集團 (MHK) 2003 Q2 法說會逐字稿

At this time, I would like to welcome everyone to the Mohawk Industries second quarter 2003 earnings release conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer period. (CALLER INSTRUCTIONS) As a reminder, ladies and gentlemen, this call is being recorded today, July 17, 2003. Thank you. I would now like to introduce Mr. Jeff Lorberbaum, President and CEO of Mohawk Industries. Sir, you may begin.

Good morning. Welcome to our second quarter conference call. With me I have John Swift, our CFO, who will now give the Safe Harbor statement.

Certain of the statements made during this conference call, particularly those anticipating future performance, business prospects, operating strategies, acquisitions, new products, the impact of military conflict, and similar matters constitute forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended. Forward-looking statements involve a number of risks and uncertainties. These and other assumptions could prove inaccurate, and therefore there can be no assurance that the forward-looking statements will prove to be accurate. For those statements Mohawk claims the protection of the Safe Harbor for forward-looking statements as contained in the Private Securities Litigation Reform Act of 1995.

Thank you, John. Business conditions showed improvement as we progressed through the period. Going forward, there still remains significant opportunity, as the economy, consumer confidence, business expenditures and retail sales recover. Mohawk's results for the second-quarter improved considerably, with sales of about 1,250,000,000, earnings of 75 million and record earnings per share for the quarter of $1.12. John, would you give a financial report, please?

If we look at the sales for the quarter, $1,245,000,000 versus 1,228,000,000, the year before, same quarter, up 2 percent. If we look at the six months, 1,233,000,000 and compare it 2,094,000,000, that is an 11 percent increase. If we pro forma (ph) it as though we owned Dal-Tile during the same period, the increase would have been 1 percent. Mohawk was up -- was down, I am sorry, 1.3 percent during this time frame. Dal-Tile was up 10.7 percent at $320 million. For the six-month numbers, Mohawk was down 2.4 percent at 1,735,000,000, and Dal-Tile would have, on a pro forma basis, been up 8 percent at $597 million.

Gross profit came in at 340 million in both quarters of 2003 and 2002. That is 27.3 of sales for the 2003 and 27.7 percent for 2002. If we look for the reasons for the lower gross profit percent to sales, two items were the most important in impact, were the start-up cost at Muskogee for Dal-Tile and the volume variances or lack of liquidation of fixed costs for Mohawk would have accounted for more than the reduction in the gross profit percent. If we look at it on a six month basis, the 615 million compared to 555 million in 2002, or 26.4 percent compared to 26.5 percent.

If we move on to selling, general and administrative cost, 210 million in the quarter of 2003 compared to 200 million. that's 16.8 percent to sales compared to 16.3 percent. The main reason for the change in the percent of sales increasing were benefit costs were up. Also, selling costs -- sales personnel and other selling costs -- were up in the quarter. If we look at it on a year-to-date basis, 407 compared to 17.4, and 340 at 16.3 percent of sales. EBIT came in $130 million and compares to $140 million the year before, the same quarter -- 208 million compared to 215. Interest expenses came in at 14 million compared to 19 million. Net income at 75 million for the quarter compared to 76 million the year before, with (ph) $1.12 in earnings per share compared to $1.10.

Moving on to the balance sheet, you'll say that the receivables came in at $580 million. That is about 42 days of sales. That compares to 581 million or 43 days of sales, so actually, the receivables are in good shape; they have come down during this time frame. Inventories came in at 803, 4.5 turns, compares to 727 or 4.9 turns. We did have a build in the hard surface inventories during this time frame. Payables 665 million, 66 days compared to 64 days. Our debt to cap came in at 28.9 percent compared to 35.3 percent and we currently have over 650 million available on our various bank lines to use for working capital, acquisitions and other things. Jeff, turn it back over to you.

Our strategy of becoming a total flooring company continues to benefit Mohawk. Today, about 70 percent of our revenues come from soft surface products and 30 percent from hard surface products. Our soft surface product sales have been slow, as 70 percent of the industry sales come from remodeling, which remains the weakest component. This category has been negatively affected by low consumer confidence and reduced business expenditures. In addition, rising raw material costs, energy costs, and distribution costs have squeezed our margins during the period. The carpet industry sales compared to last year continued negatively for the combined April-May period. However, we do expect to be some improvement in the June numbers, which haven't been announced yet.

Our home product sales also continue to remain soft from low consumer expenditures as well as conservative retailer inventory positions. Reflecting economic conditions, the carpet industry continues to aggressively promote product to try to maximize sales. Energy and oil prices are difficult to predict for the fall, and presently remain relatively high compared to historical levels. During the second quarter, increases in carpet prices were implemented to offset raw material changes. We are encouraged by the improving trends in both the residential and commercial carpet, and do not expect the same unabsorbed manufacturing variances we had in the first half of the year as we go forward.

Our Dal-Tile segment continues to expand as we broaden our distribution and product offerings in the residential channel. Our Dal-Tile segment had sales increases of 11 percent in the second quarter. We continue to expand our residential ceramic offerings with higher price points and more stylized porcelain products. We are investing in more sales personnel, distribution points and inventory to support our ongoing growth. Our new Muskogee plant has been producing product in June. It's presently running at about 25 percent capacity and will continue to expand production throughout this year. We are anticipating production levels of about 70 percent at year end, which should allow us to cover all our costs. The plant will add about 15 percent to our total unit capacity when it is fully operating at the end of the first quarter.

We have completed two small acquisitions, which expand niches in our overall product offering. They had combined sales of over $50 million and will accretive to earnings in the fourth quarter. Dal-Tile acquired a regional company, which makes us the largest distributor of stone flooring and countertop slabs in the United States. We now have 11 stone facilities and can provide slabs to about 60 percent of the country. The inventory and assets are included in our second quarter financials. The other acquisition by the Mohawk segment was a bath rug manufacturer producing similar products to our own. The production will be absorbed by existing Mohawk facilities during the third quarter. This transaction was closed after the quarter ended.

We are pleased to be included in the 2002 Barron's 500 list. Barron ranked Mohawk number 33 in investor performance, based on revenues, stock performance and cash flow return. In addition, Business Week ranked Mohawk in its Global 1000, which measures the world's most valuable companies. Mohawk continues along a disciplined path of being a total flooring supplier. We have significant room to grow in the $20 billion U.S. flooring industry. Our debt to capitalization is about 29 percent, providing us significant liquidity to explore acquisitions and other opportunities. We have come through two tough quarters for our Mohawk segment, but we anticipate improving results in the fall as the overall economy expands. We will now take questions.

(CALLER INSTRUCTIONS) Dennis Rosenberg.

Could you talk about the price increases relative to the cost increases in the quarter? Did you offset all of the cost increases or will there be more to come? Will more of it become effective in the third quarter?

As we went through the quarter, the price increases were fully implemented by the end of the quarter, but we didn't get the full benefit of it during the quarter as we went through, so we should see the full effect of the price increase in the third quarter. Each product and category and price point went up different amounts, and we believe we basically offset the raw material costs. On the other side, as we've said before, the industry is aggressively promoting because of soft sales in the industry still and that has some effect on the margins going forward.

Okay, and the second question -- the new plant, what do you see as the swing factor to earnings in '04 versus '03?

We haven't built those in. When we put the forward estimates together for the first quarter of next year, we will be announcing what we're putting in and what we expect it to be.

Thank you.

John Baugh.

Could you comment on units in dollars in both the Mohawk division and the Dal-Tile division?

It doesn't make any sense. The units -- I mean, because we have all different products and different categories that go through. We have rugs, we have mats, we have wood products, we have all kinds of things -- a unit price doesn't mean anything as we look forward to it, so I don't have it to give you on a total basis.

Let's try that a different way -- is Dal-Tile still seeing some price per unit erosion at Mohawk or is this mix shift shift upwards offsetting that? In the carpet side, what kind of an average increase did you get in the quarter in price?

Okay. There is a slight deterioration in price, as has been the trend over the past five years in the ceramic side and it continues as the productivity increases in the business -- and there is some decrease in the unit value. On the Mohawk side, the price increase did go into effect at different points. I think there was about -- a 3 percent change between the first quarter and second quarter in the margins, which reflects the increase that went in.

As a follow-up, could you describe trends in raw materials, what occurred in the June quarter, what has occurred since. I'm not asking you to predict oil prices, but your gut as to what you think is going to happen in the second half?

I'm not sure I can predict the future. The overall increase has basically been sustained, that we have increased the raw material costs at most of our suppliers have still remained high. As always, there are individual items that there is some slight movement in, but not enough to affect the whole process. Going forward, your guess is as good as mine at this moment. At this point, I don't see any increases in the near future based on what I know.

Is your guidance of $1.25 to $1.35, John, what kind of assumptions on raw materials does that assume?

(Indiscernible)

Okay, thank you much.

Laura Champine.

I was impressed with your gross margins in the quarter. Could you comment on any hedges you had in place on oil and gas prices?

Sure. Historically, we tend to run about 30 to 40 percent what we call long-term hedges, which are more than a year. And then typically, we have rolling on and off the short-term hedges that typically last less than a year. Presently, I think that we have recently hedged some more of it. I think on average at this point going past the end of the year, which normally we wouldn't consider -- past the end of year now, we are probably in the neighborhood of about 50 percent.

This is for natural gas, now.

This is for natural gas. We are probably in the range of about 50 percent at this point, and we are every day trying to figure out what to do. There is a broad spectrum of what people believe the price should be, and it ranges from as low as $4.50 to as high as $6, so we are having a difficult time understanding -- making these things, so we're implementing on a piecemeal basis. Other than that, we really don't have any other hedges of consequence.

Yes, we don't have any on oil.

Okay. What is oil or oil derived compounds as a percentage of your cost of goods sold?

Oil-derived compound. If you look at the carpet side, almost everything we use comes from oil-based materials. On our surface side, just the energy for the plants.

And raw materials as a percentage of cost of goods sold?

On the soft side, it is around 65 to 70 percent is material, and that is all oil-based.

So also, maybe gross margin related, the inventory build in the quarter, could you talk about what the Delta was in carpet or soft surfaces inventory and also could you quantify inventory that you have acquired in the quarter?

Most of the increase in inventory was in hard surface product categories, as we are building inventories to support higher sales and new introductions on both the Dal-Tile and the Mohawk side, to support higher growth and higher service levels. We actually increased on the Dal-Tile side inventory so that we could have a higher percentage of sales available to our customers. The stone acquisition was in the numbers -- I think it was in the 7 to $10 million range. In addition, there was the increase in the cost of goods from materials on the soft surface side also affected the inventories -- the price increases moved through to the inventory side of the business.

Thank you.

Keith Hughes.

First, following up on John's, I know you had the spike in polypropylene prices in the first quarter. Sequentially, did those lighten up any in the second quarter?

The polypropylene prices are a commodity that move up and down almost daily, weekly.

I mean something significant sequentially?

They have come down a little bit, but there is also announcements for increases for them going up. They are moving up and down. They are still higher than they were at the end of the year and significantly higher than they were last year.

With your announcement of pulling out of the Surfaces Trade Show, how many of these regional shows do you expect to do and is that going to be cheaper or more expensive than going to Surfaces?

We expect the investments to be similar. We break the country up into nine regions, and each of the regions will have at least one and some will have as many as two or more, depending upon whether we make them large ones or between the pieces (ph). We believe that it is going to assist us in having better communication with our customers, having better discussion with the customers, how their ongoing business is, and we believe it is going to be positive to our business.

And at these trade shows, you're going to be showing carpet, hardwood, Dal-Tile, the whole thing, right?

Yes.

Thank you.

(CALLER INSTRUCTIONS) Sam Darkatsh.

One of these days -- your name, my name, they're both tough to say. The two acquired businesses, I think the run (ph) load is about 30 million in annualized sales, but can you combine for us the expected annualized sales run for both of the combined businesses and then give us a sense of the consideration paid?

The run rate was slightly over $50 million a year for the combined businesses of the two. I guess part of the thing, we have agreements with people not to tell the amounts that they got paid. I am not at liberty to give you the numbers.

We have danced around what the Dal-Tile impact on EPS is going to be next year, perhaps. But looking at the third and the fourth quarter with the utilization rates rising and perhaps your need for sourcing coming down, can you give us a sense of what operating margins you are expecting in the third and fourth quarter out of the Dal-Tile segment?

They are all built into the assumptions on the $1.25 to $1.35 with all of the estimates that we have at this point. The fourth quarter, the reason we haven't announced yet, it really depends on what the economy does and what assumptions you want to make about the economy, and depending upon which ones, it could be significantly higher or lower than last year.

But one would think that the margins would expand from Q2 levels -- is that an unfair assumption?

That is reasonable.

Okay, thank you.

Margaret Whelan.

Really tough quarter in a tough environment. You've answered a lot of questions about the margins already so not to belabor the point, but we have a lot of U.S. manufacturers who have a lot less energy exposure than you have and who are getting creamed. I there anything that you're doing that's different or is it just the industry structure?

We have the same problems as everyone else in the industry. It is a significant cost to our businesses, and the hedges that we have -- historical ledges that we have been running at are probably in the low $4 range. And the market prices today, I guess you know, are what -- mid-fives?

5.60, something, yes.

So we're (indiscernible) the same costs everyone else is as those things run out during the year.

Congrats on that. The second question I have is just about uses of cash going forward. (indiscernible) these smaller acquisitions, but what would be your appetite for something big and what would you be looking at? Would it be within your core businesses or maybe into hard flooring or something different?

We consider anything in the flooring business a core business today. We would consider any acquisition in those categories that might sit. Acquisitions are where we would like to spend the money. We think we can improve the shareholders' value best through acquisitions. We're always talking to a lot of people; very few of them come through as we go through. But that is the major direction that we have.

So in terms of priorities on use of cash, that would be stronger than maybe a dividend?

The first, as we have continually said, number one is to do acquisitions. The second would be to capital expenditures, to improve the productivity of the plants. The third would be to -- you can't reduce the debt much more of where we are normally -- and then it would be to look at dividends if it makes sense.

Okay, thanks very much.

Let's talk one in the middle. The stock buyback would probably come above the dividend piece at this point. We are willing to rethink it. We continually talk to our Directors and to our financial supporters to determine if a dividend -- if we don't have the acquisitions like we like is better than buying the stock back, and we haven't concluded because at the moment we are still looking at acquisitions as the major use of cash.

Thank you very much.

Errol Rudman (ph).

Can you tell us how much overhead was not absorbed by the new plant? You indicated the plant would be fully absorbed by the -- in the third quarter, so how much was not absorbed in the second quarter?

It was somewhere about $2 million. We had expected it to be in the 2 to $3 million range, so it is about 2 million. We have the same expectation for the third quarter. And then the goal is -- I mean, there are a lot of variables, but the question is, with a little luck, it'll break even in the fourth quarter or be plus or minus just a little bit.

Okay. Old Mohawk hard surfaces, can you give us the dollar or percent increase in the second quarter?

The Mohawk piece continues to grow at double-digit rates. We don't give out specific dollar amounts on product categories.

Could you characterize how high double-digit?

Our goal is to grow it in excess of 20 percent on an annual basis. It could be more. It is a goal that we strive for, and I think that we will hit it and maybe do better.

Would you consider -- sometimes in the past, you have given us annual run rates. Would you be willing to share that with us?

Last year was about 300 million at the end of the year. This year, I mean, our goal is to try to make another -- close to 400 million would be a nice goal. Our goal is to try to hit that run rate by the time we hit the end of the year.

I would just like to say that we are very pleased the way you enunciated the methods for disposing of excess corporate cash.

(indiscernible) people agreed with us on anything, but we appreciate it.

Thank you very much.

Lee Cooperman (ph).

Same old crew here. Let me just tell you that I normally agree with Mr. Rudman, but I disagree -- all's you did was you enunciated the alternatives, but you didn't say much. And I would say to you -- this is a free advice -- you'd have been steadfast in mentioning how one day your family's going to have to diversify its wealth, and now with the new tax law -- at least what you're going get for the next three or four years -- the tax rate of capital gains of 15 percent is identical to the tax rate on dividends of 15 percent. I think that you may have a salutary effect on the stock if you went to a dividend, given the free cash flow profile of the Corporation and could result actually in lowering your cost of capital.

Have you speaking to my family? I think that you could be a relative.

Let me ask you just a few housekeeping questions. I apologize if they were asked before knocked off the call by mistake and I came upon. Depreciation and amortization and CAPEX this year and next year? Just three quick questions.

Depreciation, amortization and cash. John --

CAPEX --

The CAPEX should be about the depreciation level. The depreciation level -- for next year or this year?

For both this year and next year in just modeling out basically.

Depreciation --

Depreciation and amortization is 51 million for the half so --

About 100 million.

Should be a little over 100 million for depreciation. We should spend somewhere in the neighborhood of 120 to 125, 130 million.

What about next year, preliminary thinking?

Next year preliminary would be more in line with the depreciation level unless we make decisions to significantly expand capacities.

So right now you think 100 for both, something like that?

Yes, for next year that would be good.

For next year, for this year it is going to be call it --

No, I got that. Second, your free cash flow is largely your net income essentially, whatever that may be. Second, what price did you pay for the 100,000 shares you bought back in Q3?

It was $49.75.

Third, I believe earlier this year you gave guidance for the full year actually by quarter. I noticed that the guidance you gave now for the third order only as opposed to giving guidance for the full year. I'm not trying to be (indiscernible) but I'm curious, is that because the fourth-quarter is very uncertain? It can be a lot better, a lot worse or just an oversight or are you giving guidance for the year that I just missed?

None of the above. We have not given than one-quarter out for this year.

You may have seen an analyst giving guidance.

I see, okay. Basically going back to the point, I think it -- you should show your patriotism to the Presidents dividend program. He pushed real hard and I think you would help the price of the stock given the free cash flow of the Corporation, basically we are generating -- basically our net income is our free cash flow. So whatever -- how many shares do we have outstanding again?

67 million.

67 million and I guess the earnings estimate is not yours but the street estimates are around, we will call it 430. So if I take 67 million multiply it by 430 you're generating $38 million of net income. So let's say 250 of free cash flow and whatever that number is and basically it would probably be wise to consider under the new tax law, to share some of that with shareowners. But guess what, you guys are smarter than I am. You have done at fabulous job running the company and whatever you do I'm sure will be the right thing.

We appreciate the input.

Scott Shearer (ph).

The 2.1 million in the other income, can you just explain what that is?

That primarily is translation -- it's foreign currency and also some assets we disposed of that we had gains on. It is a onetime event.

John, if you can clarify the diluted shares outstanding -- 66.7 versus 68.6. Was that all attributable to buyback or did some options come out of the calculation because of where the stock price was?

The options actually forced it up. We bought back that many shares.

So year-over-year, that is how many shares you bought back? And you bought back 100,000 in the second quarter, and what did you buy back in the first quarter?

I got it here.

Give him a minute to get his hands on it.

Go ahead with your next question.

That was it. It was just the other income question and then the share count question.

He may have to call you back on that one.

No problem, I will get it.

Cecil Corl (ph).

Answer your other question, if you found it.

492,700 shares.

Okay? I was just wondering with the soft flooring getting a little bit softer and the hardwood flooring picking up -- I've noticed an effort in the general marketplace of marrying the two, trying to create more coordinated programs of carpet on the area rug, you know, because of the hardwood and the soft flooring. Is that going on at all? Do you see any more of that marrying the two, or -- ?

What do you mean by marrying?

There is (indiscernible) going on. I went to the Atlanta Road Show and I saw that a lot of people have the broadloom now will coordinate programs with their existing area rug programs and trying to market them together and help it along, because the hardwood -- hard flooring is picking up and the carpeting is going down. So I thought if there was anything going on with that area.

We believe that we are moving rapidly to take advantage of the changing consumer preferences. I think we're the largest manufacturer of rugs in this country, the largest supplier of ceramic in this country. We're moving into the other hard surface products. So as the consumer preferences change, we believe we are well positioning ourselves to supply whatever the consumers want. On coordinated merchandising in stores, we are trying to leverage our relationships with customers to provide them all product categories. So we see the things going on and we believe we can take advantage of them.

We just started recently with our consumer advertising, advertising in magazines, where we are putting hard surface, carpet and different product categories all under the Mohawk brands to promote the brands within them to make the consumers more aware of our product categories. So we see it moving, we think we're trying to take advantage of it.

Okay, thank you very much.

Greg Buckley (ph).

Did you guys mention how much revenue contribution was from that acquisition in the second quarter?

It was very little. That was toward the end of the quarter, so it had very little impact.

Practically none.

Okay, thank you.

Ronald Brief (ph).

Two questions, both very general. One, given the conditions in the industry -- revenues, raw material costs, energy costs, etc., there must be a multitude of companies at this point hanging on by their fingernails. Could you describe the marketplace -- in general terms; I'm not asking if you're negotiating with anybody at this point, but just in general terms, how the industry competitive situation presents itself, are some of these companies weakening, are they becoming acquisition opportunities? Let's do that one first.

We are always talking to various companies within the industry. If you look back historically, when they marketplace is at the bottom of the cycles, typically there are not that many acquisitions done because you can't agree on value. Typically, as it picks up, there tends to be a few more acquisitions done as the profitability improves. We constantly talk to various people. Very few of them come to fruition because of more of value questions and perceived value. Typically, the buyers want you to pay for future value of what you're gone to do with it and we want to pay for historical performance.

You don't see any Chapter 11s becoming available?

We have seen some go bankrupt, but in the end, you say is it better to take over their market position or to buy the company. In this particular instance I'm thinking of, it looked like it made more sense to take whatever market position you could.

Anecdotally, you're one of the few companies that has that broad base of product to offer the retailers and to be a full-service supplier -- a full-product supplier. You have been with Dal-Tile for over a year now. Could you just give us some general comments on how successfully that product diversification seems to be helping you increase your market share?

I think that we are putting an infrastructure in that is helping us. On the commercial side, we are being able to specify both product categories and influence more customers on both sides through specifications to large end-users, as well as coordination of the different job availabilities in the marketplace between the different sales forces. We are working together in the new construction business to offer our customers a broader selection of products to go into the new home business. And then we are coordinating our efforts with the retail replacement business and actually competing with ourselves to have different products under different brands in the marketplace, as well as just being supported by independent distribution that we also support.

Have you gotten Dal-Tile into pretty much all your Mohawk customers?

Not even close. But we are really taking multiple strategies. You're looking at it as Dal-Tile. The real question is, our goal is to sell ceramic to as many customers as we can, and then we are using different brands to segment the different channels. Basically what we're doing is using the Mohawk brand to go after the historical retail chain that has not been in the ceramic business, and we are using both the Mohawk and the Dal-Tile brands to go after the large ceramic players and try to get a much larger position with them, and then we are coordinating the efforts. All of the ceramic direction is being driven by the Dal-Tile management, so even though the sales forces are using it in different brands, they are coordinating the efforts and direction of both.

Would it be safe to assume that you're showing significant increases in market share?

I thought that the increases we had in Dal-Tile last quarter weren't bad. We should do a little better.

Thank you.

Barbara Allen.

How are you all doing? You should be doing great.

(indiscernible) so far.

Okay. I wondered if you could give us a little flavor on what you are seeing in terms of commercial demand. I was pleased that you mentioned that you were seeing some improvement or was it wishful thinking on my part?

I think that we are seeing some improvement in demand. At the same time, there is some pressure on the price points, so some people are trading themselves down. We went through the commercial marketplaces; it appears that some of the design firms are starting to hire more people. It does appear like there's more activity, but I can't say that the spigot has been turned on, but it does look directly like we are going in the right direction.

That is encouraging. On the residential replacement market in carpet, what are the trend there?

The residential replacement business is under the most pressure this year. The customers are not remodeling the homes as rapidly as they would have historically. And I mean 100 people have asked us why we don't have the answers. We believe it has got to do with low consumer confidence, which even though things are better, it still has very low confidence. I believe people may be buying new and existing homes -- or existing homes and not remodeling them as aggressively until they get more confidence in it. We hope that as the confidence level improves that we will see a significant increase. We are hearing inklings out of the retailers that there is a little more traffic in the stores and so we are a little more confident about the direction it's going.

Okay, thank you.

At this time, we have no further questions. Do you have any closing remarks?

We would like to thank everyone. We appreciate it. Have a nice day.

Thank you for participating in today's teleconference. You may now disconnect.

(CONFERENCE CALL CONCLUDED)