Oil-Dri Corporation of America (ODC) 2007 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Oil-Dri second-quarter earnings teleconference. My name is Tony, and I will be your coordinator today. At this time, all participants are in a listen-only mode and we will conduct a question-and-answer session towards the end of this conference. (OPERATOR INSTRUCTIONS) I would now like to turn the call over to Mr. Dan Jaffee, President and Chief Executive Officer. Please proceed, sir.

Okay. Thank you, Tony, and welcome everybody to our second-quarter teleconference. Let me introduce our usual cast of characters here in the conference room in Chicago. We have Andy Peterson, our Chief Financial Officer; Charlie Brissman, our Vice President and General Counsel; and Ronda Williams, our Director Manager of Investor Relations. I don't know, she gets to make up her title every quarter.

That's fine with me.

All right, take it away, Ronda, from a Safe Harbor standpoint.

Thank you, Dan. Welcome, everyone, and thank you for joining our teleconference today. On today's call, comments may contain forward-looking statements regarding the Company's performance in future periods. Actual results in those periods may materially differ. In our press release and our SEC filings, we highlight a number of important risk factors, trends and uncertainties that may affect our future performance. We urge you to review and consider those factors in evaluating the Company's comments and in evaluating any investment in Oil-Dri stock. Thanks, Dan.

Great, thanks, Ronda. Every quarter I say that I am just going to make a few comments and not steal Andy's thunder, and then every time I pretty much cover everything he's going to cover. So I'm not going to do that this time. Andy, why don't you go first. That way you get to cover what you're going to cover, and then I will put a little color on your play-by-play.

Okay. Thanks, Dan. The fact that sales in the second quarter were down was disappointing. However, the fact that this revenue shortfall was more than offset by much higher margin was encouraging and consistent with our pricing strategy. Sales of $52.9 million for the quarter were down 2% from last year's $54 million. Lower volumes sold offset significantly higher average selling prices.

The higher selling prices in combination with our cost reduction efforts led to a gross profit margin of 21.7%, up 2.1 points from 19.6% in last year's second quarter. Our margin in the quarter was more in line with recent historical levels, 21.5% in 2005, and 23.3% in 2004.

Operating expenses in the quarter increased by $900,000 compared with the prior year, to 16.4% of sales. An increase in the incentive bonus accrual, higher audit costs due to SOX 404, and stock-based compensation expense accounted for approximately 80% of the increase in operating expenses.

EPS in the quarter was $0.28, up 8% from last year's $0.26. Through the first six months of fiscal 2007, operating cash flow was $7.1 million, up from $500,000 in the comparable period in fiscal 2006. We finished the quarter with cash and investments of $28.4 million compared with $29.5 million, at 1-31-06.

Dan, for the color?

Great, I will be happy to jump in and put a little embellishment on that, because very happy about the cash generation. We got our inventories back down. Our accounts receivable did go up, but much less than a year ago in the same quarter, and that generated on a relative basis free cash. We talked about net sales, net sales per ton, tonnage. The tonnage volume was soft compared to a year ago.

A year ago in the quarter we did -- in the first half we did 514,000 tons; this year we did 500,000 tons. So we were about 14,000 tons shy in the first half. Our average selling price, though, and it's something we talk about a lot because it's something we focus on internally a lot, was under $200 a ton a year ago in the first half; it was about 198. And it was at $214 this year, so up 7%, which is good.

And on the margin front, Andy's numbers are exactly right. In '04, we made 23.3% gross profit margin, '05, 21.5%. '06 dipped down to 18.6%, and we said we were hoping for a rebound and we're going to continue to push until we get back to where we were. And we showed nice improvement, 20.5% in the first quarter, 21.7% in the second quarter, but it sort of led me to look at, you know, the percentages get watered-down as you keep raising prices to keep covering rising costs. And you could theoretically make more money per ton, even though your percentages start to go down.

So I looked a little bit and it was interesting. And again, you guys have these numbers so you can run the math yourselves because I always give you our tons. But even in '04, when we made 23.3%, our average selling price back then was only $180 a ton. So you multiply the two or you divide our gross profit by the tonnage back then and you come to just under $42 a ton. We made $41.91 gross profit per ton. We made $46.51 this past quarter.

Then you've got to get into the time value of money and inflation is what is a dollar worth today versus what a dollar was worth in '04, and I understand all of that. But the fact of the matter is, we are continuing to raise prices, we are continuing to extract more value out of the sorbent minerals that we produce and market, and the key going forward is what is going to happen to the volume? If the tons are assured of coming in and the prices keep going up, things look good. But if you get your prices up but the tons start to soften, that minimizes some of the benefit of what we call strategic pricing.

So looking forward, I am sure it is on top of the investors' minds, because it's certainly on top of our mind, is what can we expect, what can you expect from a volume standpoint going forward? As Andy said, we were disappointed that sales were down in the quarter.

We, fortunately, have some very positive trends going forward from a volume standpoint. A number -- this in the retail and wholesale group primarily, but we're picking up new accounts in the private-label segment of the business, getting a lot of interest in accounts that want our high quality and access to our geographic distribution of our plants so they can take advantage of the freight savings that we could offer them versus some of the other players in the industry.

So we are in the process of gearing up for pretty much, let's say call it, mid March to late March ramp-up of our private-label business, and it is going to be a nice chunk of business; on an annualized basis, maybe 70,000 tons. So we were short in the first half by 14,000 tons. Picking up 70,000 on an annual basis is a good thing. Again, annualized sales call it north of $12 million, you could do the math then and figure out it is going to be south of our average pricing per ton of $200 -- as we said, $214 a ton in the quarter.

But because it is incremental business, we're not putting in new capacity behind it, we believe it will be accretive; it will be incrementally profitable to the business and certainly very strategic. This is further aligning ourselves with key accounts for us that are very big supporters of our brand, help us better utilize our truckload shipments and our own freight efficiency.

So we are very happy about it and like I said, the most important thing is it does give us all, both us internally and you externally, a lot of short-term reason to expect that the volume will not be soft certainly in the fourth quarter, but even midway through the third quarter where we have got the cavalry coming over the hill. So that feels good.

I would like to cover some questions that I am sure are on a lot of your minds, and let me just cover them and then we will open it up to Q&A. But we have the usual questions that we usually go through and I figured why not -- not too preempt it, but maybe to speed it up or make sure that everybody gets a chance to hear what's sort of on our radar screen.

You may or may not have been reading about RFID and Wal-Mart. It has been in the papers a lot, and we are not in the first wave of suppliers who are becoming radiofrequency ID compliant with Wal-Mart. We would be in a second or maybe a third wave. That wave is currently on hold, so we don't see anything in the real short-term where we're going to be doing this. But certainly if and when Wal-Mart wants us to do it, they will.

The costs to us will not be material. Fortunately, they're not looking at the unit level, meaning every bag, for a cat litter supplier. They understand the relatively low value of a bag of cat litter, so they are really looking at the pallet level. So that is a ton, and so on a per-ton basis, it is not that expensive. And we believe there will be efficiencies, and to the extent that there aren't, then the pricing is going to have to support the incremental cost. So we don't see the RFID compliance as either being a big technological hurdle or a big financial hurdle, so that is a good thing.

We have talked in the past about Brick Aid and where that is going. Unfortunately in the quarter, we trended down again with our Brick Aid sales. And so we did -- I think I have always talked about the tonnage, and we did abruptly 150 tons in the quarter, which was down from last quarter and down from a year ago.

The good news is we have sort of realigned that and put it into our industrial and environmental products group where they have a team of salespeople. So we don't just have one guy trying to run around and generate interest and trials. We have got numerous people now, and they are having some headway. They are getting some trials, they are getting some success and some new tests. So, you know, cautiously optimistic, but I would say not likely to be a company-transforming product line anytime soon.

We did mention the emerging trends in biofuels, and that is continuing to generate opportunities for us, both on the front-end of the process and the back-end. So we are aligning both our IC, our innovation center; they have got people dedicated to this; our marketing people and then our salesforce, so that is good. Have not as of yet hired any specific people to support that initiative, but if and when we did, that is something we talked about and we would certainly address that.

I would say we can't talk about a lot of our new stuff because as we have said many times in the past, we don't want to celebrate until we make it into the end zone, mostly because why bring up competitive resistance against what we're trying to do.

But this one, I think, is something that we're sort of uniquely qualified to do. So I am happy to talk about it in a very generic way, which is we're working on an engineered granule. You can decide for yourself what that means, but obviously, it is utilizing a lot of our clay as the core component or ingredient in it. And that granule is being engineered to specific customer needs and properties where it's got to need a certain hardness, but then it needs to break down and release whatever it is this customer would want us to carry to wherever they wanted to be carried. And that is about as much as I'm going to get into, but it is a real market.

It is currently being supplied by other non-clay carriers if you want to call them that, and there is reason to believe that our products could bring at equal to or maybe even better pricing equal to or better properties. So we are very excited about that because it is an existing market; it is nothing that we have to create. We have customers who are sharing information with us to help us help them as it were.

Nothing new on the [camturner] front. That usually comes up, but that is nothing new there. I'm sure this is going to come up, so let me just get it off on the table now. You probably saw a lot of insider transactions in the last quarter by me, by others. I do have a 10b5-1 plan that sort of orchestrates when these things happen, because we have got them expiring in September of '08. And I would think an ultimate idiot test for whether you're assessing the mental capacity of management would be if we let options that were in the money expire unexercised, if I were you, I would run for the hills because that is just flushing money down the toilet, and we are not that stupid.

So we will be exercising all of the options that are in the money, and a big chunk of them for the management team that was around 10 years ago or even subsequent to that do expire in September of '08.

That is about it of questions that I can anticipate. It may be the last would be -- dividend always comes up. We were happy to maintain the dividend again this quarter. Annually, we tend to look at that in October. It is really the board's prerogative to make a move on that. And a year ago was an anomaly in that we did it in June, but that was because it was driven by a dividend/split, whatever you want to call it.

Again, the board will address it at our upcoming meetings, but I would say for sure it will be on the agenda in October. It doesn't mean we will do it; it just means it will be on the agenda, and really would not expect much before then.

So, Tony, what I would like to do is open it up to questions and answers, get anything else that is on people's minds that I may have missed in my opening comments. But as always, I would like you guys to ask your questions and then get to the end of the queue if you would, just to let the maximum number of people get in and get out and get on with their day.

(OPERATOR INSTRUCTIONS) Ethan Starr.

Good morning. Last quarter you indicated that the boost in CapEx spending this year and I guess last year's fourth quarter is being spent to double the capacity of Oil-Dri's highest-margin fastest-growing business, or I guess one of your highest-margin fastest-growing businesses. When this additional capacity comes online, how much might it add to sales and earnings on an annualized basis?

Well, it is more than just the capacity coming online. It is the capacity coming online and then being fully utilized. I mean, you have got to sell it out, and we are certainly overshooting the target, meaning we want to have room to grow. So do you want me to answer you hypothetically if it were all filled or --?

Both, if you could.

Okay. You know, short-term, I would say not materially all that -- you won't notice that much, because what was happening is we were in an overcapacity situation. You may actually be seeing it in some way in our inventory and things like that. We were having to build inventory, run 24/7, a lot of overtime, a lot of things. We were in a nonoperationally excellent mode of trying to meet orders. We always joke, it's like a Lucille Ball skit.

When you get beyond 95% capacity utilization, you really get into an inefficient zone. This one was up to 105, 110. So we were having to do all sorts of things to meet the orders. So short-term, it got us back into again an OE, an operationally efficient mode where the crews are back properly done, the overtime is back into a reasonable level, the inventories have come back down and frankly, we were able to meet blips a lot better. We couldn't even meet blips back then if they were unanticipated because we would not have had the capacity.

So I would say short-term, I could see a lot. Long-term, it's obviously our desire and our goal, and on the horizon it looks promising to sell out that capacity. What could it mean? I don't know, Charlie, how well do you want me to answer this question?

Well, Ethan, Dan can give you a ballpark on this, but it is completely hypothetical. Like any sort of significant move to increase capacity, we did a lot of forecasting internally ourselves. But as Dan described, the basic move here was to get us back to even with the existing customer base. Building from there, has all of the risks associated with it as if it were almost a new product introduction.

So let me give you -- you can do the math on this. I will give you a general -- let's say you're adding 30,000 tons of capacity and you want to take a guess that it is more than our average pricing. So you want to throw a 250 on it, let's say, so you're at $7.5 million in sales. And then you want to throw more than our average margin on it. So you pick your number, but if you want to go 25%, 30%, you will be plus or minus something, and you will see it is material. To a company our size, the profitability anyway, that incremental margin if and when we can sell out that capacity is valuable to Oil-Dri.

Okay, sounds good. I will go back in the queue.

(OPERATOR INSTRUCTIONS) We have a follow-up question from Ethan Starr.

I'm not sure who else is on the call today, but I will continue until somebody else --.

Yes, you get to keep going now.

Okay, good. Well, let me ask you about the Taft Plant. Is the Taft Plant unprofitable, marginally profitable, or better than marginally profitable?

It is certainly better than marginally profitable. It is underutilized, but the good thing about it is it is predominantly skewed towards branded cat litter sales. The Jonny Cat brand continues to be very strong out West and has high marketshare and high consumer -- probably our highest consumer recognition and loyalty. So it is profitable for us.

Okay. Do you manufacture anything other than cat litter and floor absorbent out there?

Nothing materially, no.

Okay. How is the regulatory environment to the state level, in the various states you have facilities in?

Ethan, it's Charlie Brissman. Why don't I take a stab at that? You know, as we say in our risk factors, we are -- and frankly any company in the mining industry is facing increasing regulation across the board, but increasingly complex and increasingly demanding environmental and land use regulation. Our facilities all having been in operation for a long period of time and having built a good regulatory track record in all of those states -- Illinois, Georgia, Mississippi, California -- we feel like the current state of play and what we see in the future is generally good.

But every time we consider improving our facilities, we are generally having to run through a matrix of air quality, water quality, and land use regulation. And that often adds meaningful cost and certainly meaningful time to any sort of improvement or modernization at our facilities.

Okay, thanks. Will the recently announced acquisition of LESCO by John Deere provide you with any opportunities to increase sales, perhaps?

That is a jump ball; it could go either way. It could help us; it could actually hurt us. So we are obviously going to work towards making it help us. But that one is a jump well, fortunately again, not material, but good catch on your part.

Okay, thank you. How is the search for a person to run the consumer business going?

Done, we found our person. We have found the enemy and he is us. No, we promoted from within and I'm very happy to do so. It was a win-win-win. We promoted Tom Swank to Vice President and General Manager. He has been with us for nearly 10 years now. He's got a wealth of consumer package experience. He has been with a variety of players, even within our industry. He was one of the big growers and creators of value for Scoop Away. He then -- they got bought out and bought out, and on the final buyout, we were lucky to get him in that consolidation. So he has grabbed the reins, and he and his team are doing a fabulous job.

Glad to hear that. Okay. Anything happening with the R&D or new product front, besides the one you mentioned already?

Yes, I mentioned what we'll called the engineered granule. They're also working on what we call an all-in initiative. I am not ready to unveil it too much, but feel very positively about it and still have a lot of hope for it. And then the three legs of the stool, the third leg is the whole biofuels opportunity area. So that is where they're spending a lot of their time and energy, and gearing up both in terms of outside contracted resources but also in terms of hiring people and staffing up. So still very bullish on being able to extract more and more value out of our sorbent minerals.

Okay, so the all-in initiative is separate from the engineered granules?

Yes.

Okay, anything happening with M&A in the absorbent clay industry recently?

Fortunately no, in the sense that if it had happened and we were it, you would know, and so I am glad nobody else has done anything. We are continuing to be an active -- to wanting to acquire. Just timing, I would say, is more deterrent at the moment than anything else. I also think in general, it is a statement that the industry is in a pretty healthy state at the moment. So there is really nobody, or maybe one or two, but very few players that are just absolutely dying to get out of the industry of the moment. So it is all quiet on the Western front.

Okay. Why no stock buybacks in the quarter?

Same reason as last time, just continue to wanting to keep our war chest full for opportunities, and we're not going to pry things away, but we want to stay ready. And there are enough things on the horizon that like I said, there is nothing imminent, there is nothing reactive or we would have talked about it. But sort of that is -- I don't know if that answers your question, but just hoping; maybe that is the right word.

Okay, so you want to have more than enough cash on hand?

Yes.

Okay, for the first time in several years, the corporate bylaws were amended in December, and I have to say that frankly I was very disappointed to see that Article III, Section 1 was not amended to require that directors be shareholders. I really don't see what is so onerous about requiring directors to own a minimum of 100 shares of Oil-Dri stock.

Actually, Ethan, every one of our directors is a stockholder. And as we were reviewing our bylaws, which had last been amended and restated more than ten years ago, it seemed that embedding that sort of requirement in the bylaws, first of all, I think from a lawyering standpoint, I would say that is not the right place for that requirement. We have got corporate governance guidelines now where that could have resided, but it is one of those things that you actually don't have to say to have happen, and so we didn't build it into the bylaws.

Okay, I appreciate it. Thank you very much for answering my questions. I look forward to future quarters.

Great. Any other questions, Tony, from anyone else?

No, sir, no questions in queue.

Okay, I will make a few concluding comments, and then we will be done. First of all, you may have noticed that Bob Smith from the center of performance investing was not on the call today. He was tied up with other things, but we obviously look forward to his future participation and future calls, and so we missed him today. You know, we are continuing to be very bullish, both short, mid-term and long-term. I think, as I have said before, if there is value in sorbent minerals, then we are a very good vehicle to participating in that value. And everything we can see is there is a lot of long-term sustaining value in sorbent minerals.

And sort of the most challenging part is that the creation of that value really comes from our own creativity. We're the only ones really investing a lot of money in basic research behind our minerals, and so if we don't find it, the odds of us just being able to tag along and be a fast follower or a me-too player behind someone else finding it is not very high in our industry. However, the benefit of that is we will be able to, either through patents or through trade secret or just through momentum, be able to capture a large part of the value of those opportunities if and when they come to market.

So we either continue to pile a lot of money into research and development and want to hope that it will continue to pay off. And certainly, one of the best metrics of all of that is what are we getting for every ton we ship, and that number has continued to climb. Just again to conclude with a historical perspective, back when I started looking at it, it was at $155 a ton; we're now up to $214. It's up almost $60 a ton or nearly 40%, which is huge. So that is a nice validation that there is value in sorbent minerals.

So thanks again for your loyal support, and we will be back at you in three months.

Ladies and gentlemen, thank you for your attendance in today's conference. This concludes your presentation. You may now disconnect. Good day.