Neptune Insurance Holdings Inc (NP) 2021 Q1 法說會逐字稿

Ladies and gentlemen, thank you for standing by and welcome to the Neenah First Quarter 2021 Earnings Conference Call. (Operator Instructions)

Please be advised that today's conference is being recorded. I would now like to hand the conference over to your speaker today, Mr. Bill McCarthy, Vice President of Investor Relations. Thank you. Please go ahead.

Thank you for joining us on Neenah's First Quarter 2021 Earnings Call. We issued a press release covering financial results yesterday afternoon. And hopefully many of you have had a chance to review that information. On the call with me today are Julie Schertell, Chief Executive Officer; and Paul DeSantis, Chief Financial Officer. Julie and Paul will discuss recent activities and results as well as share some thoughts as we look ahead into the year.

As always, actual results could differ from these forward-looking statements due to risks noted on our website and in our SEC filings. Following our prepared remarks, we'll open the call for questions.

We started the year strongly with adjusted earnings of $1.04 per share. This excluded $0.55 for costs primarily related to our acquisition of ITASA. In 2020, adjusted earnings of $1.12 per share excluded $0.15 of unusual costs.

Complete details on adjusting items, along with a reconciliation to GAAP figures, can be found in our press release. As a reminder, results in both years also reflect the reclassification of our publishing grades from Technical Products to Fine Paper and Packaging. Annual sales for this business were around $25 million last year.

On a personal note, this will be my last earnings call after 17 years with Neenah. I can happily retire now that I hold the company record for the most consecutive earnings calls. Sorry, Bonnie. I've seen our company change dramatically from its origins in pulp and paper, becoming faster growing and more capital efficient while also significantly increasing cash returns to shareholders. I'm excited by the opportunities ahead, both for me and for Neenah, and it's been my pleasure to have worked with such a talented group of people through the years.

With that, I'd like to turn things over to Julie.

Thanks, Bill, and good morning, everyone. Financial results for the first quarter outpaced our plan, demonstrating strong momentum and continued demand increases in both of our business segments. Technical Product sales increased 10% over the prior year and our filtration business delivered a quarterly record in both sales and profit.

Fine Paper and Packaging revenues grew 8% versus the fourth quarter and have grown sequentially in each of the last 3 quarters, putting us right on track to achieve or exceed 2021 revenue targets. Consolidated net sales of $227 million were up 10% from the fourth quarter. So still down slightly versus last year due to the expected slower recovery of fine paper and packaging.

Adjusted operating income of $26 million was up significantly from $21 million in the fourth quarter and was just short of last year while adjusted earnings per share topped $1.00 for only the second time in the past 11 quarters. With improving volumes and disciplined cost management, operating margins expanded in both segments to mid-teen levels.

In addition, cash generated from operations of $21 million was one of our strongest first quarters and up from $14 million last year. Our strong cash generation and solid balance sheet provide the financial foundation for us to successfully execute our strategy to grow in targeted platform. This includes the recent acquisition of ITASA, which further expanded our presence, especially coating. I'm very excited about the opportunities this new platform brings to Neenah, and we'll talk more about the acquisition later in the call.

As results in the quarter reflect, we're making progress in a number of areas. However, the year has not been without a few challenges with temporary supply chain disruptions and rising input costs, which will impact us more significantly starting in the second quarter. Our teams have responded swiftly to these challenges, working diligently with key suppliers to procure necessary materials and implementing selling price increases. Paul will talk more about this later, but we fully expect to offset the impact of rising input costs over time, just as we have historically demonstrated.

Let me wrap up for now with a few additional accomplishments in the quarter. First and foremost is employee safety. We have seen a meaningful milestone in our safety performance in March as our entire global organization for the first time ever successfully completed a month with 0 recordable incidents. This demonstrates the commitment of our employees to safe work practices. Our target is 0 incidents and our teams have demonstrated this as achievable.

Next is continue to expand our presence in key targeted markets. Our filtration business is growing at accelerated rate, both in core markets and in newer markets, like air and industrial filtration. Examples include our highest performance transportation grade, face masks media, water filtration products and evaporative cooling materials. Also, in Technical Products, our backings business is growing with new tape products and geographic share gains. We're seeing nice traction in performance labels with recently launched DISPERSA, a dissolvable food label product that provides users added convenience and a more environmentally friendly footprint with 0 landfill waste.

In Fine Paper and Packaging, we were recently awarded significant new business with incremental placement at large retailers for our consumer products and new premium packaging business within our targeted verticals of spirits, beauty and technology as customers increasingly value the environmental sustainability of our offerings. Both the new packaging and consumer products business will begin shipping later this year.

We took significant steps forward during the quarter on important environmental, social and governance initiatives. We published our 2021 corporate sustainability report highlighting Neenah's sustainable sourcing practices, reductions we've achieved in our carbon footprint, water and energy usage and the increased diversity of our Board and workforce. Also, I recently joined the CEO Action for Diversity & Inclusion organization and we've introduced employee resource groups so that employees can connect in new ways. I strongly believe a diverse and inclusive workforce leads to greater performance, growth and opportunities.

In all, I was very pleased with our strong financial performance. The results of our employee safety efforts, early benefits from the Neenah operating system and the successful execution of our strategy to grow and expand in targeted new markets, including the addition of ITASA. I'll talk more about this and some of our other strategic initiatives later in the call, but now Paul will cover first quarter financial results in more detail and share a few thoughts on our outlook for this year.

Thank you, Julie, and good morning. Both business segments delivered another sequential quarter of improved sales, earnings and margins. Versus the fourth quarter of '20, sales were up 10%, adjusted operating income grew 25% and margins reached the mid-teen mark. Our cash generation remained strong and we ended the quarter with liquidity of just under $200 million.

We also closed on ITASA in early April and financed this acquisition with a more favorable term loan B. As you will see later today in our 10-Q, we've modified the way we group our Technical Products category to better reflect our alignment with ITASA. Filtration, which remains our largest business, will represent over 40% of segment sales. Our release liner and digital transfer business now including ITASA will form the core of a new specialty coating subsegment. Our third grouping is industrial solution comprised of tape and abrasive backings, along with a number of other categories. Specialty coatings and industrial solutions are each expected to represent about 30% of Technical Product sales.

Turning to financial results in the first quarter. Technical product sales of $145 million increased 10% from the first quarter of last year. The volume-driven growth was led by filtration, which delivered record top and bottom line performance. Filtration sales grew more than 20%, with strength across all end markets. Revenues in the quarter also benefited from a stronger euro, so this was largely offset by lower selling prices in the quarter. Adjusted operating income of $20 million was up more than 20% from $16 million in '20 driven by higher volumes, continued spending discipline, good manufacturing performance and favorable foreign currency translation.

Turning to Fine Paper and Packaging, quarterly sales were $82 million and have continued to increase sequentially, with sales up 8% from the fourth quarter of 2020 as demand recovers. Revenues were still short of last year, primarily due to lower volumes, especially in commercial print used for advertising and marketing, which has been hardest hit. Adjusted operating income of $13 million in the first quarter of '21 was down from the exceptionally strong $17 million in the first quarter of '20, primarily due to lower sales and production volumes and a less favorable mix. Partly offsetting this were benefits from lower costs including SG&A.

We also regrouped our product categories in Fine Paper and Packaging. Our faster-growing premium packaging and consumer products now make up almost half of segment revenues and will help improve the growth trajectory. Commercial print, which includes publishing, makes up the other half of revenues.

I'll turn to a few corporate items. SG&A expense was $24 million in the first quarter of '21, down from $27 million in the prior year as a result of actions we've taken to manage spending and reduce costs. Unallocated corporate costs after adjusting for onetime items related mostly to the ITASA acquisition were $6.2 million and in line with the prior year. In 2021, excluding ITASA, we expect quarterly SG&A to average approximately $25 million with unallocated corporate costs of about $5.5 million. We're in the process of completing purchase accounting and mapping ITASA P&L line items to U.S. GAAP. We'll provide further details on this later in the year.

With the upsizing of our term loan B from $200 million to $450 million, we negotiated more favorable terms, including a reduction in the variable interest rate from 5% to 3.5%. Quarterly interest expense is now expected to be approximately $4.7 million, which includes $1.2 million of noncash amortization expense. Our effective income tax rate was 21%, in both the first quarter of 2021 and the first quarter of 2020.

ITASA carries a blended tax rate in the mid-20s, so our tax rate may rise over time, but a rate of 22% should still be in the ballpark for this year. Cash taxes continue to be about 2/3 of our book rate, primarily as a result of utilizing prior period R&D credits. Cash provided from operations of $20.7 million in the first quarter of 2021, increased from $14.2 million in the first quarter of '20 as a result of lower working capital requirements. Capital spending of $4.8 million in the first quarter of '21 was consistent with the prior year. And we expect full year spending to be around $35 million.

Our balance sheet remains in great shape. Following the acquisition, projected debt to EBITDA is around 3x and with cash of $41 million and nothing drawn on our revolver, we continue to have plenty of liquidity.

I'll wrap up with a few additional comments on our outlook. Clearly, an encouraging sign has been the strengthening demand we're seeing in both segments. We just had a very strong quarter, evidencing the traction of our strategy that's beginning to show. As we look ahead, we expect Technical Products to resume a more typical seasonality with sales softening as the year progresses. Both segments will also have our usual costs for annual maintenance down in the third and fourth quarters.

Like many companies, we are facing a rapid escalation in input costs, affecting prices for fibers, chemicals and transportation. Because our manufacturing formulations in Technical Products utilize a significant amount of polymers and other chemicals as well as fiber, the impact of rising input costs on this segment will be larger and about twice that the Fine Paper and Packaging. To be clear, Neenah has historically been able to recoup raw material price increases, and I expect this time to be no different.

In our February call, I indicated that input costs this year could be more than $20 million higher than in 2020. And that we would more than offset that through our pricing actions, volume growth and cost reduction efforts. Since that time, fiber and chemical price forecasts have increased and now we project the impact to be north of $30 million this year, an unprecedented amount in this short period of time. As such, we are and have been quickly taking additional actions to offset this incremental impact. Consequently, I still believe that with our strong Q1 performance and these additional actions, will offset the impact of higher input costs this year.

While I feel good about our prospects for the full year with contractual timing delays in many of our fiber contracts and annual pricing for some customer contracts, we'll see a significant cost impact beginning in the second quarter. Compared to the first quarter, the impact of higher input costs in the second quarter of '21 net of our actions is likely to be around $7 million. The impact should begin to moderate from there as contractual selling price adjusters and additional actions take effect.

Ultimately, we expect to recover input cost increases with pricing, as we have historically, as additional contracts are reset, price adjusters fully take effect, and our direct pricing actions are completed.

Let me turn to a few financial highlights of ITASA. ITASA has annual sales of about $140 million or approximately $35 million per quarter with a mid-teen EBITDA margin. Since we're still in the process of finalizing purchase accounting, I won't comment on U.S. GAAP numbers, but would note that while organic businesses carry a depreciation and amortization rate of about 3% to 4% of sales, this percentage for acquisitions can be double that due to reflecting the fair value of intangibles and other assets. We expect the transaction to be immediately accretive to earnings and to deliver attractive returns on our investment.

Having been at Neenah for a year, I've been pleased with our clear strategic direction to drive profitable growth and with the talent and can-do attitude in place to execute these strategies, and all enabled by our strong financial position.

Neenah remains committed to disciplined financial principles, including an attractive return to shareholders.

And on that note, I'll turn it back to Julie.

Thanks, Paul. I'll wrap up with some comments on our strategy and the actions we're taking to execute it. As mentioned, that we're focused on extending our presence in growing markets, both organically and through M&A. We've identified 4 target growth platforms. Filtration, specialty coating, engineered materials and premium packaging. These platforms are made up of large, growing, profitable and defensible markets that align with our manufacturing technology, leverage our material science expertise and share common customers and paths to market.

The recent acquisition of ITASA is just one example of how we're building out these growth platforms. ITASA is a leading manufacturer in the multi-billion dollar global release liner market providing us a new, large addressable market opportunity. Release liners are used in a diverse set of end use categories, such as labels, hygiene, tape, industrial, medical and composites, making ITASA well positioned to capture growth in multiple avenues.

ITASA is also well-positioned geographically with a strong market presence and state-of-the-art technology. Historically, the release liner market has been resilient throughout economic cycles. Going forward, the market's anticipated growth is supported by several key macro trends, such as the growing demand for medical and hygiene supplies, increased labeling and shipping and lightweighting of the products through the use of composites. ITASA has demonstrated a strong track record of growth and margin expansion with historical growth of around 8% annually.

Strategically, this acquisition provides a meaningful foundation in release liners, from which we can build upon both organically and through future acquisitions. With overlapping customers and end markets as well as complementary technologies and supply chains, we're excited about how this new platform integrates with our core business.

One of the most compelling aspects of this transaction is the talent and leadership team of ITASA. I'm very encouraged by our early integration efforts and the potential value we'll create together as one team. Integration is well underway, and we anticipate about $4 million end of curve synergies coming both from commercial and cost opportunities.

For Neenah as a whole, we're targeting to deliver average top line growth of around 5% annually, with a faster bottom line growth rate as our margins continue to expand. M&A will continue to be a key component of our strategy, combined with a number of catalysts in place to drive organic growth.

Let me talk about some of these mix. From a top line perspective, with investments and resources biased toward our core growth platforms, we expect to accelerate our organic growth rate with an improving portfolio mix. In filtration, we've seen strong results across all end markets. While transportation filtration remains very strong, our air, water and industrial filtration business is growing in double digits and represents a large market opportunity. We'll continue to invest to extend our technologies and expand our presence in these complementary infiltration markets.

I've talked about the opportunities we have in specialty coatings with ITASA and with our digital transfer business. Our third platform, engineered materials, utilizes some of our most specialized material technologies in growing markets. This business is growing double digits top line and bottom line with future growth supported by recent investments that will increase our capacity. While our growth will come disproportionately from Technical Products, which is now 70% of Neenah, we're also successfully growing in premium packaging and consumer products. I mentioned earlier a few of these recent successes that are driving growth in these areas.

Finally, I'd note that all 4 of our targeted growth platforms benefit from favorable macro trends, like the need for improved air and water quality and aging population and a growing preference for sustainable products. Innovation is also a key catalyst that will add to our growth rate, while always a part of our focus, I'm encouraged by the direction we're heading under our new global head of innovation. We've aligned our R&D teams to leverage their knowledge and skills across Neenah and are tapping into employees and customers for inputs, insights and ideas. This will allow us to identify and act more quickly on opportunities to unlock even greater value with existing and new customers and end markets, and I expect our pace of development to continue to increase over time.

Turning next to margins. We expect both segments ultimately to achieve sustainable mid-teen EBIT margins. Margins will benefit from an improving and diversified mix as our faster growing and more advanced products tend to be the most profitable as our performance this quarter demonstrates. And our innovation efforts will also be pointed to these higher-margin products and markets.

The Neenah operating system is another way we'll continue to drive meaningful and sustainable margin improvement. As a reminder, this global manufacturing initiative is based on lean principles, and we've recently begun implementation at 2 of our largest facilities. Thus far, results have exceeded our expectations, and ultimately, we expect to unlock $20 million of value annually and support our employees and customers with improved safety, quality, delivery and cost.

As I said in our last call, none of this would be possible without the right people. I'm pleased with our talent and with a culture that makes safety the top priority, is results-oriented with a strong bias of speed and is collaborative and inclusive. We started off the year strong with our growth and margin engines delivering ahead of expectations. In the near term, we are facing inflationary headwinds, and we're taking actions to overcome these, just as we have historically. We have a strategy with clear catalysts and initiatives underway that will create long-term value and continue Neenah's transformation into a faster growing, more profitable specialty materials company.

Before we open the line for questions, I'd like to thank Bill McCarthy, who has been our Investor Relations leader from the start and with over 66 quarters of earnings call experience with Neenah. In addition to IR, Bill has been involved in multiple areas in Neenah, and we have valued and benefited from his expertise, guidance and advice, internally and externally.

On our next call, we'll introduce Kyle Anderson, who will be taking over the IR function and whose contact information is on our website. Kyle has deep and broad experience with Neenah, and I'm confident he will also be highly effective in this role.

I'd now like to open the call for questions.

This is Julie and Paul. I don't know if we have a bad connection. But if you can hear us, ask questions, we're here and available to answer.

Can you hear me?

I can.

Yes.

I don't know -- you never get what happened here. It's Pete Lukas with CJS for Jon. Congrats on the quarter. You answered a lot of the questions, and I appreciate that. Just wondered if you could talk a little bit how demand is trending in April and May. And if you've seen any surprises, either positive or negative on the demand side.

I would say we're continuing. It's a little bit different by segment. We don't give formal guidance, obviously, but we're continuing to see recovery in Fine Paper and Packaging, just as we expected, more so in the consumer product side and packaging and still a little bit lagging on commercial print. And then tech products has really recovered from any impact from COVID and is continuing strong demand, just as we saw in the first quarter.

Great. And in terms of filtration, usually, you negotiate those prices at year-end. Do you think you'll be able to pull that forward given the current environment?

That is the question of the day. The teams in both segments have announced and implemented pricing. And you're exactly right. The ones that have a little bit more of a lag for us typically are in filtration because we have annual agreements. We're in a pretty unprecedented environment and so we're working closely with customers during this time to see what different approaches we may use. But the pricing we've announced, we've pulled through, it's -- in effect, it's delivering value just as we expected. And over time, there might be some timing differences here.

We have a history of recovering input costs. We're expecting the same thing with these input cost escalations. The other thing I would tell you is because it's so condensed and so fast in this year, we're really focused on how we close that gap, not just with pricing, but with incremental volume with an improved mix in the growth platforms we've talked about, with cost reduction efforts, with our Neenah operating system efforts as well as pricing.

Great. And then I guess last one for me, sticking with filtration. Given that you're having a record quarter, are you starting to [build up] the Appleton capacity now?

Our filtration business is strong across all of the categories in which we compete, transportation filtration, water, air filtration, evaporative cooling, industrial air. So really strong demand signals that we're getting. We've talked about in the past, we don't manage by asset as much as we do in the system. So we do make trade-offs. Really excited and thrilled with the margins and demand in that business. But I would tell you, as far as our North American filtration, transportation filtration business, it is not yet delivering on where we expect, and it is still a drag on our financials. So record performance, but it's not really being driven out of our North American transportation filtration.

Chris, we can see your name on the screen, but I don't know if you can hear us.

Can you hear me?

Now we can.

Now we can.

All right. Sorry, this is a long day, but I didn't get prompted, so I apologize. Congratulations on a strong start to the year. Bill, thanks for all the help and good luck in retirement. I'm going to miss you.

I guess just to start with the demands around filtration, since you were just talking about it. How much of that is maybe pent-up demand, versus maybe change in the market? Has COVID changed the market to a higher growth rate in some of those end markets that you're working with, filtration, like the air and water [mix].

Well, I think there's some great macro trends, particularly in areas like water filtration and air filtration, indoor air pollution control, indoor air quality. So those macro trends are, I think maybe escalated coming out of COVID, just because there's a heightened awareness in all of the population.

As far as transportation filtration, we're not seeing a significant amount that's pent-up inventory or pent-up demand at this point. It continues to recover and has recovered nicely. There's also a small amount of face masks in there that we didn't have last year. We're doing about $4 million a quarter of face masks, and so it's small in total. What it does, though, is really provide another avenue and entry into indoor air quality, air pollution control, industrial air, and cemented Neenah as a strong provider technically in that market.

And I guess just to follow up on that, you talked about those expansion of markets. Are you already started into that, or (technical difficulty) I guess, can you just -- I know that you just brought those online last year, so can you just explain how you're approaching that?

Sure. So the easiest -- penetrating the markets is never easy, but the easiest place to do it is where you have customer overlap. So that's where we started, where we have customer overlap and path-to-market overlap. And so where we provide transportation filtration historically, many of those same customers are also buying indoor air quality filtration media, or air pollution control, or industrial air type of media. So that's where we started. We've continued to see nice demand and we're continuing to [direct] our resources and investments into more of those focal areas.

Right. And I probably should have started with this. I missed some of the call, I have a number of earnings today, so I apologize if there's any overlap with my question. But I guess, just from thinking about maybe last quarter, what you said about sequential improvement, do you still expect that for the businesses for the remainder of the year, or is the issues around raw materials possibly impact that, on any demand trends? Are you worried about that with the escalating raw material prices?

So you're asking about demand sequential improvements or bottom...

Yes. Yes. No, top line, but -- I guess, just because of the rising input prices, have you seen any changes with your demand environment because of those or the price increases?

The short answer is, no, we're not seeing that impact the demand. What I would tell you is tech products has pretty much recovered, you could see that in Q4 and Q1. From a demand standpoint, we expect it to return to some of our normal seasonality, where it typically starts more front-end loaded and gets a little bit softer, particularly in Europe in the summertime. I would expect that in tech products demand.

In Fine Paper and Packaging, which is where are we had intended to message continual sequential improvement, we're continuing to see that business come back. It's just at a more lag time line because it's really driven by some things like advertising that comes back a little bit slower. But we're really seeing that come back continuing throughout the year, and nice improvement, and 50% of that segment, which is now consumer products and packaging and not solely dependent on commercial print, which is more lagging in recovery.

Just on the packaging side, are you benefiting from the e-commerce push? And I guess, are you growing with new customers, and actually just expand? Just talk a little bit about that growth.

Sure. Both in the packaging and in consumer products, which are really where we have stronger market dynamics, we've had some really nice recent wins. Some of it is related to e-commerce. A lot of it is related to sustainability, environmental sustainability, and our customers bias towards that. And that's continuing to accelerate. So both in consumer products we've been awarded new business, it'll start shipping significant new business, so I wouldn't mention it, that will start shipping in the latter half of this year. And then we've been awarded nice new business in our packaging area as well, primarily in the technology, beauty and spirits vertical. And some of that is driven by dot.com, particularly everybody on the Amazon.

And then just around ITASA, can you just talk a little bit about -- I know you just closed on it, but the integration there, and I guess, how does it strengthen your go-to-market strategy? Can you just discuss a little bit more of the benefits from the [acquisition]?

Sure. So ITASA, we are in the process of early integration. It's going really well. As we talk about our growth platforms, one of those growth platforms is specialty coating. We do a lot of coating and saturation at Neenah. So the technology overlap, chemistry overlap, how we go-to-market a similar supply chain. We have customer overlap.

So some of the benefits as we work through integration, we're expecting about $4 million of synergies that will ramp in starting in the latter part of this year and be at that run rate by the back half of next year. It's really split between cost benefits in areas like transportation and warehousing and procurement as well as revenue overlap, where we have a significant amount of opportunities in North America in particular, that Neenah does a lot of business. If you think about our industrial segment, tape and abrasive, that's where we see a lot of common customers between tape and abrasive and release liners.

Great. I appreciate that. I won't get you on Appleton, but somebody already put that question, but...

You have to get in the queue sooner.

There are no further questions at this time. I'll turn the call back to Bill McCarthy for closing remarks.

Okay. Thank you for your time today. It's been my pleasure to get to know many of you through the years, and I know I leave you in good hands with Kyle and Paul.

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