Quanex Building Products Corp (NX) 2012 Q2 法說會逐字稿

Good day, ladies and gentlemen. Welcome to the second-quarter conference call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session, and instructions will be given at that time. (Operator Instructions). As a reminder, this call is being recorded. I would now like to introduce your host for today's conference, Dave Petratis. Mr. Petratis, you may begin.

Good morning, and thank you for joining us for our second-quarter conference call. On the call today with me are Brent Korb, our Chief Financial Officer, and Jeff Galow, our Vice President of Investor Relations and Corporate Communications. Today's call will include a short recap of the second quarter, an update on our insulating glass consolidation program, a progress report on Nichols post the strike, and the general outlook for demand in the second half of the year. Our comments today include forward-looking statements about the future prospects of Quanex. Please refer to our SEC Form 10-K filed in December 2011 for our complete forward-looking disclosure statements. The earnings release is available at Quanex.com.

Engineered Products finished the quarter with comparable sales up 16% from a year ago, a strong showing. The gain was from strong performance at Mikron, our vinyl fenestration extrusion business, and at our HOMESHIELD business, our finished aluminum screens and door thresholds. Both businesses executed well this quarter and saw demand rise. While always difficult to precisely know where our products find their way into either the new home construction market or remodeling market, we believe favorable weather, strong new home construction, and market share gains were drivers in the quarter.

EPG's reported operating income was breakeven in the quarter, while expenses associated with EPG's insulated glass spacer facility consolidation came in at $3.7 million. I'm pleased to report the project remains on budget, and ahead of schedule. At its completion, our facility in Barberville, Kentucky will be closed, and we expected to market the building for sale. We remain confident in our estimate of annualized savings of about $9 million as a result of the consolidation, and we expect to see some modest benefits before the fiscal year end. According to market intelligence firm Ducker Worldwide, reported US window shipments for the 12 months ended March 2012 were down 7%, compared to the year-ago period, while comparable sales at EPG were up 3%.

Let's turn to Nichols Aluminum. Because of the strike, results in the quarter were poor. We made a decision to accept short-term financial pain in order to maintain our commitment to keep our customers in metal. The goal is to provide our customers with the best possible service, given the difficult circumstances we faced. In an attempt to meet improving demand, we purchased semi finished aluminum coils from third parties to help make up for our reduced casting capacity. Third-party coils are expensive, related to our internal cost of production, and they also require us to perform additional finishing work. So we did what had to be done for the benefit of our customer base, and we managed to provide all of them with product, not all they wanted, but our efforts were recognized and appreciated. Demand picked up in the second quarter. Unfortunately we couldn't satisfy it all. Bookings are up in the third quarter over the second quarter, a good sign for the second half of the year.

While this rising demand -- we're estimating strong shipments in the second half of the year, at about 160 million pounds. While customer demands and backlogs are encouraging, our scrap spread is not. Spread is the difference between our average sales price and our average raw material cost. LME aluminum prices are hovering around $0.90 per pound today as compared to $1.20 a year ago, and the aluminum scrap supply is tight. What this means is scrap costs today are expensive relative to the LME price, so we believe our 2012 second half spread will be lower than it was in the second half of 2011.

Because of the financial impact of the strike, we consider Nichols' results in the second quarter as an anomaly, as they in no way reflect the long-term viability of the business. The strike certainly hurt us, and we did the best we could given the circumstances. We came out of it with our customer base intact, and we improved the competitiveness of the business. At this time, we don't have a formal agreement with the union, but we have the crews necessary to hit our second-half shipment estimates, and our caster productivity is back to pre-strike levels. At this point, I'd like to turn the call over to Brent, who will take you through some additional financial highlights.

Thanks, Dave. I'd like to add my welcome to those of you on the call today. Quanex reported an operating loss of $0.34 per diluted share in the second quarter of 2012, compared to a loss of $0.04 per diluted share a year ago. The loss of $0.34 included $0.17 of strike-related items, $0.08 of expense associated with the spacer consolidation program, and $0.03 of costs related to the ERP program. The year-ago loss of $0.04 included $0.07 of special item expenses.

No shares of common stock were purchased in the quarter. Our $270 million revolving credit facility remained untapped. Because of certain EBITDA covenants associated with it, the available balance was about $166 million at quarter end. Possible uses of cash include funding our growth initiatives, making acquisitions that fit our fenestration vision, funding our common stock dividend, and buying back stock. With that, I'll turn the call back to Dave.

Thanks, Brent. Moving the discussion to our 2012 business outlook, we expect to see a modest improvement in home starts in US window shipments. We know our outlook puts us on the conservative end of things, but we still believe it pays to be cautious, particularly when access to credit remains constrained for many consumers. We do, however believe 2011 represented a bottom for our markets. It's the slope of the recovery that we continue to debate. To drive this point home, Ducker lowered their 2012 US window shipments estimate by about 5% to 40.5 million units, so we believe staying conservative is still appropriate at this time. With that, we're ready to take your questions.

(Operator Instructions). I am showing our first question comes from Trey Grooms from Stephens Inc. Your line is open.

Could you guys back out the contribution from Edge Tech, sales and profit, on Engineered Products?

So Trey at this point we're not going to break out the contribution as much, because through the consolidation of the facilities, it becomes very difficult to do so. On the sales front, that's one that's a little easier to get at. I think we had it in the release here. I was even trying to look. We'll have to get back to you on the sales side on Edge Tech, but I think we have it in the release.

Yes, okay and if you look at the sales that you guys put up, I mean you talked about favorable weather and market share gains and that thing. Did price improvement play any role at all when you look at the year-over-year sales number in Edge Tech, because I know there was some initiative to try to get a little bit of price at some point, when TiO2 and some of the other costs were moving up.

Trey, I think you've got to look at our improvement at EPG in the growth. Number one, it was impressive but number two, its being driven by new construction at the low end, multi-family. We don't see the replacement market working, and that's really where our higher performance products engage. So, we're doing well with growth in the market but the Edge Tech products really kick in where you've got strong energy codes and standards working, and that's not happening in this market recovery yet.

Right, so I guess looking at the market, what we really need to see from an engineered products standpoint is really a higher-end type of home start. Is that pretty fair?

High-end but we also need the replacement market working. If you pull back the Ducker numbers, the replacement market is flat with 2011 and down to 2010 when we had the window tax credits working. The growth we're seeing in EPG is predominantly servicing those new home starts, and we see the bulk of that activity operating at the lower end.

Okay. Thanks for that. And then on the $9 million of [aya] cost savings, should we expect a full year run rate in fiscal 2013 from that?

Yes, we should get fairly quickly up to that $9 million run rate. So yes, 2013, if it's not the full $9 million, pretty darn close to it.

Okay, and then lastly, the timing of the $2 million strike-related expenses, should we think about that all being in the third quarter, fiscal third quarter?

Yes, that will be entirely third quarter.

Okay, thanks. I'll jump back in the queue.

Just as a follow-up for the benefit the question on Edge Tech sales was about $20 million in the second quarter of 2012.

Thank you. Our next question comes from Daniel Moore from CJS Securities. Your line is open.

You mentioned you don't yet have a formal agreement but with regard to Nichols, given the integration of so many new employees. Can you give us any color on where you are in terms of productivity, maybe where to start the quarter where you are now. How quickly those new employees are ramping up?

I'm extremely pleased with the integration of those new employees. We hired in from the outside roughly 100. We had roughly 30 crossers and then we returned 80. We cast 31 million pounds in the month of April. The total quarter, I believe was 61 million. 31 million pounds would be normal operations for us at casting, so I think the team has done a good job to come up the productivity curve, and we're happy with that.

In terms of margin and cost obviously the LME will be the bigger determinant, but feeling pretty comfortable about where you are on the cost side there?

Some of the big issues on the table there were modernization of the healthcare benefits. Two-tier raise structure and then some modernization of the language. We continue to work on those issues, but our goal is to improve the competitiveness of Nichols.

And then a follow-up. You expect 160 million pounds shipped in H2. Willing to give us any color in terms of the ramp. How we might think about spreading those over the last two quarters, given many moving factors?

I think it's -- considering that we're at 31 million pounds in April, that will be normal demand across the quarter.

You could think of it as almost split in half. Plus or minus between the two.

Perfect and one more I'll give a stab. At EPG last quarter you talked about poor execution at the Alabama facility. Any lingering impact there in terms of the numbers in Q2 and going forward?

So that impact at Alabama would be on the Nichols side.

Of course, yes.

We see that facility stabilizing and coming up to speed in terms of its output. We are investing additional capital in that facility to improve its capability.

Okay, so the impact, nothing disclosable going forward?

No.

But a few investment dollars?

Correct.

Okay I'll jump back, thank you.

Thank you. Our next question comes from Peter Lisnic from Robert W. Baird. Your line is open.

First question, if we can, Brent, if we can get the impact of the strike. Where that was recorded in COGS versus SG&A?

Yes, the vast majority, of that $0.17 that we talked about, the vast majority that's going to be cost of goods sold. What it's really broken down into is about $5 million of what I'll call direct costs. Which is really the hot band issues, buying the pre-finished material from competitors. So, that will all flow through cost of goods sold, with some other things such as security and some other stuff that does flow through SG&A, but the vast majority would be in cost of goods sold. The remaining $4 million is our best estimate of the impact from the volume, what loss volume did we have?

Okay.

So that's again, going to follow with the vast majority of cost of goods sold.

Yes, okay. Makes perfect sense. Good on that. Then if I look at the Engineered Products group, the op income forecast basically flat, maybe slightly down year-over-year for the second half. Is that just simply the mechanics of the adverse mix with more new housing, running through the numbers in the back half of 2012 versus 2011?

Yes, there's going to be a little bit of a mix and this is again excluding the impact of Project Alpha, but it's I think really flat to just slightly up over the second half of last year. But yes, a little bit of the hangover of mix going away from some of the energy efficiencies driven by the tax credits.

Okay, and then if I could switch gears, last question on the Nichols business, the $0.43 spread that you have assumed for the back half of the year, sounds like -- or maybe I should ask it this way. Can you give us a little bit of color on what you're assuming there for spread one and spread two as you think about that $0.43 number?

No, I can't break that down into what's spread one and spread two. We tried to get a little more information, to provide a little more color. What I would tell you is, really what that's assuming are pricing about where we stand today or holds for the second half of the year. So, obviously any increase or decrease to that will have an impact on us.

Are you getting any lift on the margin from lower gas cost at Nichols?

I think a little too early for us to see just yet, but we would expect to have some favorable impact to us over time from that.

Okay.

We are a big consumer.

Okay. Thanks for your help. I appreciate it.

Thank you. Our next question comes from Bill Baldwin from Baldwin Anthony. Your line is open.

Can you all talk a little bit about the products and the markets that you're currently serving in the commercial sector, the non-residential sector of the market?

So we're a small player in the commercial sector. Our lead products would be our IG business through Edge Tech where you're building curtain walls, it's clearly a development opportunity for us. We've got three of our salespeople that are dedicated to that market. It's opened up some opportunities for us in our vinyl business, which would be non-historic for us into the refrigeration space. So, it's one of the benefits of Edge Tech traditional Quanex Building Products Corp had no presence in the commercial basis. We would have Edge Tech customers in the IG business that both in Europe, the UK, and the US, but it's small.

Secondly, can you and if you already answered this I apologize, but have you made any comments on the status of the start up of the German plant there for Edge Tech?

So we commissioned the German factory in May of 2011 so its been opened up a year. We're producing on two IG lines. We are able to do some mixing and tape operations. Our biggest opportunity there is growth in the marketplace. We have encouraged some start up costs over the first and second quarters, but we've got to grow that and we're aggressively working to put volume in that facility, but all systems go.

Thank you.

Thank you. Our next question comes from Robert Kelly from Sidoti. Your line is open.

Just a question on the Engineered Products guidance for the second half. Basically flat to a little bit up from a year ago. What is the assumption for top line? By my math, you did almost 8% organic growth in the second fiscal quarter. Do you see that decelerating or going negative in the second half of the year?

I guess the way I would characterize it is, we have a conservative forecast for the back half of the year, so we have it decelerating a little bit from some of the early gains that we've seen in the first half of the year.

Okay, so is mid single-digit the bogey?

I don't have the percentage in front of me, but it would, you'd be in the order of magnitude, yes.

Then as far as the plant consolidation savings, you mentioned in the prepared remarks, we would start to see some benefits before the fiscal year was out. So, the $9 million savings goal, is that at current production, current utilization?

The $9 million is, yes it's really at what we projected 2013 to be, is how we modeled that $9 million.

But the $9 million could potentially be better over time if you get utilization productivity up?

Oh, yes.

That's for now though, okay, got it.

Yes.

Then just as far as project Nexus, I know we're in the early stages of that ramping up. Is that contributing to top line or EPS in any material way?

It's definitely having an impact. To say material would be difficult to really measure to put a number on it. But we are clearly seeing activities, contract signings, new customers and the like that we would not have, we don't believe we would have enjoyed prior to us consolidating our sales force.

Like the work that we've done, we started Project Nexus July of 2010. We've integrated Edge Tech. We're at full integration, and I think our results in Q2 reflect that we're on the right path.

Just one final one if I may, on Nichols. Someone tried to draw it out of you earlier, the spread one and spread two embedded in that $0.43 estimate for the second half. If you can't put a number around it, could you at least give us some help with whether the price discipline is holding up in the marketplace, as you see it, for Nichols?

Yes, clearly on the spread one side which is what you're asking about, we have not seen a big change in the spread one. What you're seeing in the volatility of the overall spread is generally being driven by spread two. But yes, we still see some good discipline in the market on the pricing side.

Thanks a lot.

Thank you. Our next question comes from Tim Hayes from Davenport & Company. Your line is open.

Actually, my questions were on some more detail on the spread but they've been asked and answered. Thank you.

Thank you.

Thank you. Our next question comes from Jack Kasprzak from BB&T. Your line is open.

On EPG, when you add back the consolidation expense in the quarter, still a fairly modest margin. How would you describe that in terms of the expectations going into the quarter, adjusting for that expense?

I think what we see as just a sluggish replacement market, which tends to pull through our higher-margin products so there's some mix shift going on. Clearly, the replacement market is lower than it was. But 2010, we get some updraft in the new construction market but it's at the low end.

Okay.

I would just add too, just remember with the seasonality of our business as well, when you really look at the first half of the year and the volume levels that we're at -- I mean that's always historically close to breakeven. So, you really see to breakeven so you really see more in the third and fourth quarters.

Okay, fair enough, and stepping back on EPG, with the various things you guys are doing, and are still doing with facility consolidations and of course the Edge Tech acquisition and expansion. I mean when we go down the road and some of those strategic moves you've made are in place. What kind of business should EPG be in terms of margin? Is this going to be a 10% margin business, or should this be more in the mid-teens in terms of a margin business, when it's really where you want it?

Yes, so we haven't given the specific items but if you looked historically at EPG through a cycle, it would be low to mid-teens margin business. Clearly, we feel confident that the strategic moves over there we have made and continue to make will push that higher. We just haven't given what a margin percentage would be.

So the moves are not just in response to a sluggish market and hoping you'd get back to where you were but you think that you can in fact go higher?

Absolutely. We have clearly changed the game in terms of what our cost structure is for the future.

I would say Jack, too, the opportunities that we've got in the UK and Europe for growth that's driven by energy efficiency is attractive to us. In 2013, the codes will change in the UK, eliminating a significant part of the market that uses cold edge spacer.

Okay, great. Thanks a lot.

Thank you. I'm showing we have a follow-up question from Peter Lisnic from Robert W. Baird. Your line is open.

Yes, just a couple quick ones I hope. Dave, can you give us a little feel for what you're seeing in terms of any competitor or OEM capacity rationalization on the Engineered Products side?

I don't see a lot on the OEM side. I continue to see almost monthly consolidation at the window fabrication level. Where they're vertically integrated, you could see, you could stretch it to say OEM, but I'm not seeing a lot in our space in pure OEM take-out. The bulk of that would seem 2009 and 2010.

Okay and is it safe to say that's okay, good thing, bad thing? How do you classify it?

We would clearly like to see more capacity take out. We're at about -- Ducker is about 40 million units this year. That will force some hard review on the guys that are marginal.

Okay, and then just on the guys that are marginal. Does the shift to more new housing maybe create share opportunities for you as some of those suppliers that are more reliant on that higher-margin remodel piece maybe suffer a bit financially?

I think a continued lag in the replacement markets are going to continue to force more pressure on window fabricators. On the OEM side, I think where I would have expected those players to be -- to evaluate their strategic options 2010 and 2011. It appears the new reality is setting in on some of those OEMs, and they're considering their strategic future which helps us on the acquisition front.

Okay. That is very helpful. Thanks again for your time.

Thank you. I'm showing our next question comes from Phil Gibbs from KeyBanc Capital. Your line is open.

Dave, what's your sense of the inventory position at the nationals?

I think they continue to run extremely tight. The response that we had in the vinyl business is reflective of that in the quarter. So as I have met with our big customers, the big OEMs, the big fabricators, they have taken a very conservative line. As you have seen an uptick, it's shown our strength, our ability to respond to that, but there's not a lot of inventory in the channel.

Okay, and what's your internal view for home starts in calendar 2012? Or is that less relevant than the view for windows?

So we built our business plan around 40 million units, and of course we did that for our fiscal year. It was actually a little weaker in our Q1. Ducker's come in and said 40 million units for the calendar year, so we're pretty --we're in line with our thinking. New home construction is a little bit stronger than we had forecasted and again that's at the low end. We're disappointed we're not seeing a little bit stronger activity on the replacement, but we're in line with what we believed we would see. What is pleasant --and I want to reinforce this, I think we're doing a fine job on the front end of supporting, marketing, and executing for our customers. So that drives some discussions around share gains.

The replacement market being subdued is I guess not surprising to me whatsoever given the state of the economy. Do you see anything potentially in the pipeline over the next 12 to 18 months that would spur increased demand?

The macro indicators that we all look to will have to improve. There's clearly, you had some pull. You had some demand that was pulled through by the window tax credits.

Do you see any more tax credits? I think that's more what I was getting at. Do you see anymore of that playing out?

I don't think so. There's certainly discussions that something might get tucked into a bill, but I don't think that would happen. I would just as soon see us get to pure demand.

One other thing to keep your eye on is really on the foreclosures and what's going on with that with the settlements that took place with the banks a few months back. There's discussions of the ability to clear through some of these foreclosures or willingness to take more and more short sales. So, I think that may have some more of an impact on the repair and replacement. It's still going to take the consumer believing that house prices have at least leveled off if not started to increase before they go spend big money.

I would add one other element I think is important for us in this replacement market, and that's around codes and standards. The new EPA standards, ENERGY STAR standards are being developed for 2014. If you look at some of the industry magazines you'll see Quanex all over that. That's our reorganization of our front end. We've been successful with influencing those codes and standards in the UK. We will be in Europe, and we think, just slight movement on that will benefit us significantly.

That's terrific, and I have just one more just shifting gears to Nichols. How do you see the supply/demand balance in the US for the products that you sell at this point in time?

I would say that it's tight, and we became a big buyer of hot band, during the strike to keep our customers in metal. We were able to suck up any excess in the market pretty quickly. So I would describe, if I understand your question correctly, is metal supplies are relatively tight.

Okay, terrific. Thanks a lot guys, good luck.

Thank you. Our next question comes from Daniel Moore from CJS Securities. Your line is open.

Yes, just quickly, a follow-up in terms of the ERP implementation. How is that trending both in terms of the cost and time relative to your initial expectations?

It's clearly we are spending a little bit -- we're spending more today than we would have projected early on. It's too early to say what the overall impact will be, probably slightly higher but we are adjusting our game plan mid shift as to how we're going to try to turn this into more of a Company-led effort going forward but so a little bit more, a little bit longer is what I would tell you.

But nothing changed in terms of the ultimate goal?

Oh, no definitely not. The real issue is really, our initial implementation is intended to be a design for the entire Company, not just doing this one business unit at a time. So, we're spending a little extra dollars, a little extra time up front to make sure we get it right on the first one, and make it much more efficient as we go through all the remaining conversions.

Thank you very much.

(Operator Instructions) I'm showing our next question comes from Justin Boisseau from Gates Capital Management. Your line is open.

Follow-up on the ERP question. Given the adjustments you're making. How much longer do you expect to be breaking out those costs in corporate? What do you expect those costs to total or how much of those are actually remaining? Then second, what are your expectations for CapEx for this year, want to see if anything has changed from your prior expectations? Thanks.

Yes, we will begin to break it out more and more I think as we progress, and we started this year with going live with our payroll systems. So, that had some dollars flowing through now, as we quit capturing that component of capital and are running that through as depreciation. As this investment becomes larger and larger, I think you'll see us break it out more. Your second question regarding capital, I would say that the cash side of what we expect to spend in capital this year remains about on track with where we thought it would be. I mean we expected this year to be one of the highest if not the highest capital years. When you combine the ERP and the Project Alpha dollars in line with even our standard capital spend, and we really see ourselves on that same path from a cash perspective.

Okay, thanks.

I'm showing no further questions at this time.

You could expect us to continue to push our lean process initiatives, drive for productivity improvements, lower our costs and expand our regional customer base. Our vision for profitable growth remains on track. That concludes today's call. Thanks for joining us, and have a great day.

Ladies and gentlemen, thank you for participating in today's conference. This does conclude the conference, and you may now disconnect. Everyone, have a wonderful day.