Quanex Building Products Corp (NX) 2014 Q4 法說會逐字稿

Good day, ladies and gentlemen. Welcome to the Quanex FY14 year-end conference call.

(Operator Instructions)

During today's conference call, Company management may make forward-looking statements about the future prospects of Quanex Building Products. Participants should refer to the Company's Form 10-K filed with the SEC for more complete forward-looking statement disclosures.

Additionally, the Company may refer to non-GAAP figures throughout today's call. A reconciliation to the most comparable GAAP figure is included in the Company's most recent earnings release, which is available, along with the Company's Form 10-K, at the Company's website at www.Quanex.com.

Last, participants are reminded that today's conference call is being recorded. I will now turn the conference call over to Mr. Bill Griffiths, Chairman, President and CEO of Quanex Building Products, for opening comments. Please go ahead, sir.

Thank you. Good morning. Thank you for joining us for our FY14 year-end conference call. On the call with me this morning is Brent Korb, our Chief Financial Officer; and Marty Ketelaar, our Vice President of Treasury and Investor Relations.

2014 was the most profitable year for Quanex since the spin-off in 2008, with EBITDA improving 38.7% over 2013 to $48.1 million, on a 7.3% improvement in revenue. This was achieved even with a $20 million EBITDA drag on earnings from our vinyl profile business.

As we have stated all year long, this was a result of a number of self-inflicted wounds. Firstly, freezing the resin pass-through in a year when CDI -- a key resin index -- increased 14%.

Secondly, price concessions granted in 2013 and held through this year. And thirdly, excessive repair and maintenance costs, as higher volumes caused older equipment to fail at an abnormally high rate. This also caused significant operational inefficiencies, which resulted in higher labor costs.

While all are not yet signed, we are in the final stages of negotiating new or revised contracts with our major vinyl customers for calendar 2015. All of these contracts have resin-adjusted clauses and varying levels of price recovery included in them.

We will not recover all of the lost profitability as a result of our prior resin price concessions, but we also do not expect to lose any business in 2015 as a result of adding these clauses back in. We will not be commenting further on this during today's call, due to the sensitivity and timing of these negotiations.

We are projecting to invest $35 million of capital in 2015, of which $20 million will go into our vinyl profile business. While we will not see the full benefit of this until the second half of the year, this investment will position us to return to historical levels of profitability in 2016 and beyond.

We began this reinvestment program during the fourth quarter, which will ultimately replace, rebuild or refurbish at least parts of 80% of our vinyl extrusion lines. We were clearly too optimistic in forecasting how quickly we would reap any benefits from the early stages of this program. This and lower volumes across the board were the primary cause for our poor fourth quarter.

This trend is likely to continue through the winter. And as such, we are predicting a slow start to the year. For the first fiscal quarter, we are forecasting sales to be flat to perhaps even slightly down year over year, and EBITDA levels to be around the breakeven point.

For the full year, however, we still expect revenue growth similar to this year of 5% to 7%, and EBITDA levels of $57 million to $63 million. This includes some level of recovery from our vinyl profile business.

Over the longer-term, we expect the housing recovery to be slow and steady, in the 6% to 8% growth range for the next several years. In fact, we believe that a return to mid-cycle for our end-markets will perhaps not occur until 2018 or even 2019. We define mid-cycle as a return of the 1.5 million housing starts, and a reasonable recovery in the R&R market, leading to roughly 65 million window shipments.

At this level, and absent any acquisitions, Quanex revenues would be in the range of $825 million to $875 million, and EBITDA would be in the range of $115 million to $130 million. Or said another way, EBITDA margins of 14% to 15%. Of course, any acquisitions would be incremental to this mid-cycle guidance.

I'll now asked Brent to take you through our fourth-quarter and full-year results in more detail. Brent?

Thank you, Bill. And good morning to everyone on today's call. Consolidated fourth-quarter net sales decreased 2% to $164 million, while fourth-quarter EBITDA decreased $3.1 million to $13.6 million, compared to the year-ago quarterly results. The lower revenue result was due to lower sales across all products, as customer orders slowed in an effort to reduce their inventory levels as we enter the winter.

For the year, revenues increased 7.3% across all product lines. Quanex's North American fenestration sales for the last 12 months increased 5.4%, consistent with the growth rates reported by Ducker for the period ended September 30.

Fourth-quarter 2014 EBITDA was negatively impacted by the 14% increase in resin cost -- much of which we're not able to recover -- along with higher repair and maintenance expense and labor costs in our vinyl business. For the year, 2014 EBITDA was $48.1 million, compared to $34.7 million in 2013.

Strong performance in IG spacers, screens and components helped to offset the challenges in our vinyl business that Bill outlined. Corporate costs were also lower, due to the cessation of our ERP project towards the end of last year.

Corporate expenses were $7.2 million this quarter, and for the year came in at $28 million, in-line with our previous guidance. With the sale of Nichols, we now have a single business segment, so this will be the last quarter that we'll discuss corporate expenses separately.

We ended the year with a cash balance of $120 million and no outstanding borrowings on our revolving credit facility. The $75 million share repurchase program we announced during the fourth quarter is being executed through a combination of open market and privately negotiated transactions, subject to market conditions and other requirements.

At our fiscal year-end, we had purchased 1.3 million shares at a cost of $24.2 million, and nearly 500,000 additional shares subsequent to year-end. As a reminder, the program is not bound by any time restrictions and does not have an expiration date. And I'll now turn the call back to Bill.

Thanks, Brent. Let me close with a few comments on our acquisition strategy. We continue to pursue acquiring vertically integrated assets from our customers, and we continue to explore any and all opportunities within the fenestration space. At this time, however, it is unlikely that we will see a transaction within the next several months.

As I shared with you earlier, we are very optimistic about our earnings power as the market recovers, and therefore consider that our number one priority is making sure that the existing business is well-positioned to fully capitalize on that recovery. And with that, we'd be happy now to take your questions. Operator?

(Operator Instructions)

Daniel Moore, CJS Securities.

Yes, good morning.

Good morning, Dan.

For the first three quarters of the year, obviously your growth significantly out-paced the overall fenestration market. That trend appeared to have reversed in the quarter.

How much of it was just inventory rationalization, as you mentioned, Brent? And was there any other share shift or any other factors that might have driven that change?

Dan, it was effectively all due to the cyclical pattern of the year. If you will recall, I think, at the first quarter when we announced surprisingly high growth rates, we said that the curve would cross as we went through the year, and it did.

We see no evidence at all of any change in share. And I think the key number to focus on is, our trailing 12-month fenestration sales were 5.4%, Ducker's, trailing 12 months, and their offset by one month were 5.3%. So I consider we are right on top of the market.

And your guidance assumes similar trends, no major changes in market share in 2015?

Exactly. We think next year is going to look a lot like this year. The cyclical pattern, we think, will be quite different. We've certainly seen, as we close out our fiscal year, customers are adjusting their inventory levels downwards. And we've been put on notice by most of our customers that the magnitude of the winter inventory build is going to be significantly lower this year. Hence our guidance that it'll be a slow start to the year.

Okay. And guidance for next year implies $10 million to $15 million uplift in EBITDA, roughly. By our estimates, there was $10 million or more of labor inefficiencies and non-recurring maintenance expense, et cetera, in this year's numbers. Is that too high?

Or is there -- some of those inefficiencies will continue in the first couple of quarters? Or is there other expenses that are likely to come online? Just trying to understand some of the guidance, and where there might be some conservatism.

Yes. We're not going to get to granular as to how much was resin, how much was price recovery, or lack thereof, and how much was purely operations. We believe we will get some recovery -- not all of the $20 million that we lost last year. And we will certainly get better operational recovery than we did in the fourth quarter.

We were too optimistic about the rate that we would be able to reap those benefits. But that is built into the guidance next year, and into the mid-cycle guidance.

Yes, and I'll just add to that, Dan. The expectation is that those improvements would be more garnered in the second half of the year. Because as we make these investments in these lines, we don't anticipate seeing the savings from that until the latter part of the year.

Yes, if we've proved anything to ourselves -- the process, it was slower than we had anticipated and predicted, as witnessed in the fourth quarter.

Okay. And then lastly, I know you're not talking about individual contracts, and don't expect you to. But is it safe to assume that if resin prices continue to decline -- they've pulled back, obviously, oil prices have plunged -- with the contracts that you have in place, you won't necessarily get the benefit? Is everything mostly on an adjusted basis in terms of the contracts for 2015?

So first of all, let me clarify a point. First of all, resin prices have not reduced. They've increased again in the fourth quarter. There is some question as to whether there may be a slight reduction in the early part of the year.

But there's also talk that they'll go back up again. And they are not directly tied to oil prices. It is really the price of ethylene and the shortage of ethylene that's keeping the price high.

Having said all that, the way you should think about it is, assuming we get these contracts signed with these clauses intact -- which I believe will be the case -- then whether resin goes up or down next year, it should not affect our profitability one way or the other.

Got it. Appreciate the clarification. I'll jump back in queue.

Nicholas Coppola, Thompson Research Group.

Good morning.

Good morning, Nick.

I just wanted to hear a little bit more about the pricing environment in extrusions. Are your competitors acting more rationally? What's your view about what kind of success you will have putting price through in the industry?

Generally speaking, the whole industry is more receptive to pricing, but at limited levels. As you know, I think the window and door manufacturers, as a general rule, are getting price.

Glass looks as though it's going up. We have had some success at the back-end of the year with some price increases. So I think the environment continues to favor getting price on an annual basis going forward here, but I think you should think about it at low single-digit levels.

Okay, that's helpful. And then, a long-term question. What kind of runway is there to improve efficiencies and improve operations? And clearly, you're upgrading equipment. Where else do you see opportunities, and what do they look like?

We feel very good about the other product lines and where those businesses are positioned. Clearly, we've had issues this year in our vinyl profile business. We are well-down the path of implementing a recovery plan that really does revolve around a significant upgrade to the infrastructure and the equipment in that business.

As I said, we're going to put a significant amount of capital in that business, and that's because we believe in the long-term future of the vinyl profile business. We think this has good growth opportunities for the future. It's been a good business historically.

We've hit a big bump in the road here, but that bump is temporary. And this program will give us the opportunity to get it back to where this business has been, from a profitability standpoint, historically.

Okay. Thanks for taking my questions.

Al Kaschalk, Wedbush Securities.

Good morning, guys.

Good morning, Al.

Two questions; first, an easy one. It looks like inventory levels from at the end of this year have increased substantially versus last year. I don't know if there's components to that you can discuss, or what that may be caused from?

Yes, I'd say it's across the board and differing reasons for the various product lines. But we have brought on some new product lines at a couple of the businesses that have required us to take on some additional inventory here late in the year. And I would say that's probably the single largest factor.

But does that account for -- if I did my math, that's about $15 million, $16 million up from the year-ago period?

Well, yes, the challenge is -- I'd say about half of that is going to relate to the new product lines. Then we also get right with the resin increase.

The price of the resin is going to drive a big chunk of that from our vinyl business. Just the increase in resin prices are going to drive a 14% increase in inventory -- just that alone -- at constant volume.

Right, okay.

So those are going to be that two biggest factors in it that drives that $15 million.

Okay. And then, obviously it will work down with the flow of products sold, but given the push out, your ability to improve the working capital situation on that will take a couple quarters. Is that fair?

Yes, but that is our focus. Clearly, the ability to take the working capital down, generally, is in our third and fourth quarter.

Right.

Not a huge amount of movement. And we do tend to build a bit of inventory in the winter, just to balance load facilities where we can.

Sure. You talked about the resin relationship -- and appreciate that, because there certainly is some confusion out there. Are you seeing any other places where costs may be elevated, or at a level beyond your expectation, that may be struggling? Whether that's wages or -- anything you can share on that would be helpful.

Well, first of all, on the material side, I think as we have said before, we're well-protected with pass-throughs on basic materials in the rest of the business, so that isn't an issue for us. We're not seeing excessive wage inflation. But I think, like everybody else now in the US, we are definitely finding it more and more difficult to find quality workers -- not going to be an issue through the winter, because of our seasonality. Typically, we're not in a hiring mode.

But this summer was a struggle as employment levels dropped, and we anticipate a similar situation next year. We are being forced in some areas to compete with people that are paying higher than we typically would pay.

But generally, I think the answer is, we're not seeing significant cost inflation anywhere. We continue to watch very carefully freight costs, although they have stopped their escalation as a result of drop in fuel costs recently. But that's been an issue for some time now.

Thanks for bringing that up. Just to refresh -- I apologize if this is obvious. But what percentage are you able to pass through on transportation the fuel costs? Or said differently, what percentage of your product do you have responsibility for distribution costs?

You know what? We obviously have those numbers; we'll have Marty put something together on that. Off the top of my head -- I don't want to mislead you. I just don't have those numbers, off the top of my head.

Fair enough.

But we can get them to you.

No problem. And then finally -- and please take this in the light that it's meant to be constructive. With the lack of OEMs not having the volume that they want, therefore, you're not able to have the M&A opportunity that you're looking for.

Do you stay contained or complacent with the strategy that vertical integration is the way for growth and for the benefit of the operation? Or do you look for tendencies outside of that, to perhaps areas where there could be equal-or-better capital returns?

I understand the question. We are still looking at adjacencies. It is clearly a lower priority than it was earlier last year. And the reason it's a lower priority is, we clearly see that this is a great business just as it is.

Even if we were not even able to do another vertical integration acquisition, the fact that we think, as we go through the cycle here, that we can get this in the mid-$800 million revenue range, and maybe around $120 million of EBITDA. We don't consider that to be a bad business, nor does it necessitate having to do something strategic.

We clearly recognize that we have the opportunity to accelerate the rate of profitability here by focusing a lot more attention on our internal operation, which we will do through the course of 2015. We are still in active negotiations within our space, but nothing that's going to be imminent. So I think the strategy of being cautious about stepping out too far into an adjacency when we have work to do at home, and still some fenestration opportunities that may yet come to us through the course of next year.

Very good. Thank you, Bill.

Scott Levine, Imperial Capital.

Good morning, guys.

Good morning, Scott.

Really just trying to get a sense of confidence level around the guidance for this year, and sensitivity to some of these changes within the profile business. If we were to assume, call it, flat year over year in the second quarter -- you've given guidance of breakeven for EBITDA in the first quarter -- it implies, by my math, somewhere between 6 to 10 (technical difficulty) in year-over-year increase in EBITDA in each of the last two quarters.

I'm just trying to get a sense of -- it sounds like some these measures you're implementing are late-stage, but maybe still subject to some market and customer receptivity. What's your confidence level in the achievability of guidance? Is a realistic? Is it aggressive? Or how dependent is it on some of these factors, other than market conditions, for you to hit your numbers that you've laid out for 2015?

That's a very fair question. I mean, clearly, I just got badly burned by being optimistic. I do not believe that the guidance for next year is optimistic, and I certainly don't think it's optimistic through the cycle. I believe it's realistic; I believe it's achievable.

The one unknown, in all fairness, is, it does -- as you point out -- it does include a pretty reasonable revenue growth rate in the construction season, which is our second half of the fiscal year. And look, the truth of the matter -- who knows right now?

Last year, the expectation was that single-family housing starts were going to go up 20%. They're now in the mid-single digits or high-single digits. There's a 19% forecast out there, again, for next year, which we think is way too optimistic.

So we've tempered that somewhat. But if it's a poor construction season, then we could see lower growth, and that could put some stress on those numbers.

We are very confident in the recovery of the vinyl business. We know what has to be done there. And our fault was that when we started that program, we expected to get much faster rates of return.

It wasn't because it was executed and the returns weren't there. We just couldn't execute it as fast as we thought, which is why we're now saying it's going to take us most of next year to get that done.

So our confidence level there is very high. But the market is still a bit of an unknown at this point.

Got it. That's helpful, thank you. And as my follow-up -- on the capital deployment side, I know the buyback is open-ended. You suggested here that M&A is more likely to focus on your core market than adjacencies. But is it a situation, you still have no leverage on the balance sheet?

Is it a situation where maybe by the middle of next year, if you've exhausted the buyback -- and there's some assumptions in my question -- where you might think about -- I think you suggested you'd consider levering up for an acquisition of size, but not a buyback. Is there any update to your thought process on that side?

I think all I will say is, once this buyback has been completed, and we look at the M&A picture at that point in time, and look at where we are in the year -- you recall, typically we don't -- because of the uncertainty through the winter, we typically don't give too granular of guidance. We've done more than we normally have this year.

I think as we go into the mid-year point of our fiscal year, this buyback will be over. We'll have a clearer picture of what the year looks like.

At that point, we will certainly re-evaluate whether we will do another buyback or not. No certainty we will do one, but we will certainly have it front and center at our Board meetings at that time.

Got it. Thanks, Bill.

(Operator Instructions)

John Koller, Oppenheimer.

Good morning. It's Oppenheimer & Close. How are you guys doing this morning?

Good. How about you?

Well, thanks. A quick question on capacity utilization for the year. I know it's going to vary by product, but if you could just give me a rough estimate, that would be helpful.

Overall, total Company -- in the 60%, 70 % range, I think it's probably fair to say. I think, other than perhaps one or two individual factories having to expand, capacity isn't going to be an issue for a while.

Okay, great. And then, I know that Kay will be out shortly, but I was wondering what the inventory position looks like, as far as resin goes? And how much you are carrying -- maybe months of supply, or something along those lines?

If we're carrying more than our normal month of supply resin, is that the question?

Right.

No, I would say we're at a normal level of supply. In the past, we've taken on higher amounts of resin as we felt the resin price was going to increase, just to save some cash down the road. But with resin prices more likely than not to decrease, we're not in that position right now.

Okay, great. And then to clarify, $25 million of the $35 million was going to be spent on equipment for --?

$20 million.

$20 million.

$20 million of the $35 million, approximately, will go into the vinyl business.

Okay, great. And then, just to clarify, your earlier comment that ethylene was remaining high -- that was a year-over-year figure, not a sequential figure?

Well, I guess I was talking more generically, that the reason that resin prices continue to be inflated is because of the shortage of, and therefore the price of, ethylene. I think there's a misconception that the price of resin is directly related to the price of oil, and therefore, everybody had expectations it would plummet. That is not the case.

Okay, great. Thanks a lot.

Thank you. This does conclude the question-and-answer session of today's program. I'd like to hand the program back to management for any further remarks.

Well, thank you, everyone, for joining us. I realize it was a short-notice call this time. And we'll look forward to seeing you at the New Year's conferences, and then a further update in early March when we release our first quarter. Thank you.

Thank you, ladies and gentlemen, for your participation in today's conference. This does conclude the program. You may now disconnect. Good day.