Quad/Graphics Inc (QUAD) 2010 Q1 法說會逐字稿

Good morning, ladies and gentlemen. Hello and welcome to the Worldcolor conference call. As a reminder all lines will be on listen-only mode and we will conduct a Q&A session at the end of the formal presentation. (Operator Instructions)

At this time I would like to turn the call over to Mr. Tony Ross, Vice President of Communications for Worldcolor, to begin.

Thank you, Eric, and good morning, everyone. With me today are Mark Angelson, Worldcolor's Chairman and Chief Executive Officer; Andy Hines, Worldcolor's Chief Financial Officer; Joel Quadracci, Quad/Graphics Chairman, President, and Chief Executive Officer; and John Fowler, Executive Vice President and Chief Financial Officer of Quad/Graphics.

Mark and Andy will provide us with an overview of Worldcolor's first-quarter results on a brief update on the Quad/Graphics transaction. Afterwards Joel and John will make some remarks on and then we will take your questions.

Before I turn the call over to Mark I would like to remind everyone on the call that this call is being webcast and forward-looking statements are subject to safe harbor provisions.

I will now turn the call over to Mark.

Thank you, Tony, and thank you all for participating today. I am pleased to welcome Joel and John once again as guests on this call.

In the first quarter Worldcolor had consolidated operating revenues of $692 million compared with $752 million in the first quarter of 2009. Despite this lower revenue in the first quarter of 2010 and for the third quarter in a row and we were able to increase adjusted EBITDA and EBITDA margin as compared with the corresponding quarter in 2009 yet again in amounts that exceeded our own expectations.

In fact, in the first quarter we more than doubled our EBITDA and our EBITDA margin compared to the same period last year. Adjusted EBITDA increased to $79 million compared to $36 million in the first quarter of last year. EBITDA margin increased to 11.4% compared to 4.8% in the same period last year. As we said in our call last quarter, this is not as high as we would like but we continue to move in the right direction.

Yet again my thanks to the remarkable women and men of Worldcolor who demonstrate time and time again that they are willing to walk through walls to keep our customers satisfied, to attend to the endless details of preparing to complete our pending M&A transaction, including integration planning permitted by the antitrust lawyers, and mindful of the highest standard of integrity to meet or exceed our shareholders' expectations.

The quarterly year-over-year increase in adjusted EBITDA and margin is attributable to our continuing focus on cost containment and cost reduction. We are working aggressively across the platform to implement measures designed to ensure that our cost structure always is in line with current market conditions.

In the first quarter revenue decreased by 8% but we reduce our cost of sales by 16%. We will continue to work hard at our forecasting and even harder to make sure that we react quickly and responsibly to serve our customers and our shareholders. We have done this through plant closures and other workforce reductions in our facilities, in our administrative functions, and in our corporate offices.

In the first quarter we announced the closing of six facilities in North America. The facilities are being wound down in a planned and disciplined manner to ensure that there is no disruption to our customers. The work is being transferred to other facilities in our platform where it most effectively can be produced.

These measures directly contribute to our improved profitability. They are in addition to our ongoing continuous improvement and cost containment efforts that now are ingrained in our Worldcolor DNA.

Free cash flow in the quarter also improved, much to my delight. It increased to $98 million compared to $75 million in the same quarter last year.

A few words about the Canadian marketplace. Our business in Canada, a small part of our North American business, nonetheless has performed least well for us since [Quebecor World] entered creditor protection. That has gone on for long enough.

Previous management now is gone and we recently appointed Philippe Cloutier, one of our finest young managers for whom I had the very highest regard, as President of Canada and Sylvain Levert, one of our most seasoned and well respected finance executives, as Head of Finance for Canada. Philippe and Sylvain now are supported by Gary Durand and Dean Wimer and their manufacturing teams, all under the watchful eye of David Blair, the most seasoned and most technically knowledgeable executive in our company.

This new team has set about the long-overdue overhaul of our Canadian platform and even more so in partnership with Quad/Graphics brings a whole new meaning to the words fresh start.

I am pleased to report that during the first quarter we continued our multi-year trend of improving safety in our facilities. We finished the quarter with a 24% reduction in the number of lost time accidents and recordable injuries compared to the first quarter of 2009. We achieved a similar level of improvement, approximately 20%, in the number of lost time days.

Our overall safety performance measurements continue to be significantly better than those of the industry as a whole. These results demonstrate our commitment to safety and the efforts made by our employees to maintain a safe workplace.

I make special mention of some impressive milestones this quarter. Worldcolor Nashville has gone five years without a lost time accident. Worldcolor Loveland has gone four years without day a lost time accident. Worldcolor Cincinnati, Atlanta, Dartmouth, Pittsburgh, Richmond, and the Bolingbrook and Somerset mailing centers all have exceeded at least one year without a lost time accident.

My congratulations to everyone in these facilities for a job very well done but we will not be satisfied until 100% of our employees are 100% safe 100% of the time.

I also thank our customers for their continued support. When I arrived last year I was surprised and pleased that so many high-quality employees had stayed with us through our travails. I also was surprised and pleased that so many customers had remained loyal through our period of difficulty.

I now fully am aware of the direct connection between those two phenomenon. Again this quarter our sales force had important successes renewing contracts with existing customers and signing new ones. We renewed our long-standing relationship with Hearst for much of their magazine work and also extended relationships with important customers in our retail, catalog, book, direct mail, free media, and logistics segments.

For example, we expanded our retail insert printing for JCPenney essentially doubling our volume with this major customer. Other salient agreements include those with OfficeMax, Pitney Bowes, and Vermont Country Stores to name just a few. We are confident that as an integral part of Quad/Graphics going forward with their far superior, and we believe, industry-leading technology we only would enhance our standing with these and other important clients.

Please do not underestimate the value of Quad tech. Other industry participants boast of their own technology. That is because they haven't seen what I have seen in Wisconsin that makes our deal with Quad so compelling.

Our customers are attracted to us because of the scale and scope that we provide with our extensive manufacturing platform and because of our focus on quality and customer service. Just this past week we were recognized by Sears Canada with a Partners in Progress Award that recognizes excellence and customer service.

Also last week the Gravure Association of North America awarded our Mount Morris, Illinois, facility two Gold Cylinder awards recognizing overall excellence in catalog production. In Canada we received 14 Guttenberg Awards including six gold.

Just as important as our traditional print business is our ever-increasing focus on redefining print or, as Joel says, the future of print for ourselves and for our customers with smart solutions that give our customers the power to succeed in a rapidly changing multichannel marketplace.

Our V2 virtual version digital edition solution, officially launched in the first quarter, is providing our customers a cutting-edge technology bridge between print and online content delivery. We have converted a record number of our customers' printed pages into online digital pages and that number continues to grow rapidly each month.

We also are adding a mobile application for our V2 conversion, meaning that our customers' print content now easily can be viewed on cell phones and other mobile devices. V2 is part of our integrated multichannel solutions or IMCS initiative which complements our core print offerings with related multichannel marketing and communication strategies and tactics.

For example, we are completing beta testing of our integrated campaign engine, or ICE, our integrated campaign solution that combines variable data digital printing with personalized e-mails and personalized Web micro sites. ICE's integrated marketing campaign approach drives higher return on investment for our customers.

We and our customers know the power of print. We also know that print is even more powerful when combined with our digital media solutions.

Before I turn the call over to Andy I briefly will comment about the progress of our transaction with Quad/Graphics. As most of you know, this is not my first experience in planning the integration of two companies of this size and scope in the printing industry. I am pleased to say that this planning exercise is going as well or better than I expected and compares favorably to the planning aspects of previous combinations in which I have been an active participant, all under the watchful eyes of our legal advisers.

Worldcolor and Quad/Graphics have established transition teams in specific areas and functions. They are sharing as much information as the legal advisers will allow in order best to prepare a smooth launch of the new Quad/Graphics on the first day after the closing. All along we have said that we expect the transaction to be completed in the summer of 2010. Well, summer is almost here and without giving you a precise target date because some of the variables are still beyond our control I am very comfortable with our progress and our prospects and in saying that the transaction should be much closer to the beginning of the summer than to the end.

In March the US and Canadian antitrust authorities cleared our transaction. Quad/Graphics last week filed a second amended Form S4. We are hopeful that a Quad/Graphics registration statement will be declared effective in the not-too-distant future and this effectiveness will be followed quickly by the final shareholder and court approvals and the satisfaction of the other customary conditions for transactions of this type.

I said when we announced this transaction earlier this year that it offered the best possible fit for Worldcolor. I am even more convinced of that today.

Finally, we intend to conduct an equity road show after the S4 is declared effective by the SEC. The exact dates will be confirmed in due course, but if you are interested in participating please at your earliest convenience notify our Vice President of Communications, Tony Ross. His contact information is available on our website at Worldcolor.com.

Now I pass the microphone to our CFO, Andy Hines, for a more detailed review of our financial results after which we will hear from Quad/Graphics senior management. Then all of us would be pleased to take any questions that you may have. Andy?

Thank you, Mark, and good morning, everyone. I would like to start by saying how please I am to present results where for the third consecutive quarter, as Mark mentioned, the Company has shown year-over-year improvement in adjusted EBITDA from $36 million in 2009 to $79 million this quarter. This demonstrates a continuing strengthening of the Company as a result of initiatives to reduce costs and improve efficiencies.

Now let me walk through some of the highlights of this quarter's results.

Just to repeat, our consolidated operating revenues for the first quarter of 2010 were $692 million, down 8% compared to $752 million for the same period in 2009. The decrease is mainly in our North American segment where revenues decreased by 9% to 637 million, primarily a result of lower volumes from the lingering effects of the recession and its impact on our customers.

To a lesser extent this segment was also impacted by negative price pressures and the loss of customers and marketing services in 2009. Our Latin American segment revenues were down 2% to $55 million.

As Mark said, we have been very responsive and successful in reducing our cost of sales by more than the decrease in revenue. This clearly demonstrates the Company's ongoing and diligent efforts to control costs and our success in rapidly realigning the structure. Also helping the Company's results were increases in scrap paper revenues driven by significant improvement in market prices and lower natural gas costs in the quarter.

During the quarter we recorded impairment of assets restructuring and other charges, or IROC as it's called, of $45 million compared to $16 million for the same period in 2009. The charge for the quarter is mainly comprised of severance and ongoing carrying costs related to the recently announced closures of six facilities in North America in addition to the realignment of our workforce for the current market conditions.

Additionally, we recorded a $5 million charge related to the post emergence expenses associated with the reorganization of the Company and another $5 million, of course, related to the proposed Quad/Graphics transactions. Both are primarily composed of professional fees. This quarter's restructuring initiatives follow the closure of seven plants in 2008 and 2009 and a significant downsizing of another.

Turning to financial expenses, which were $2 million in the first quarter compared to $88 million for the same period in 2099, the decrease is mainly due to the extinguishment of pre-petition debt upon emergence from bankruptcy and an $19 million unrealized gain on the credit facility call option as a result of the Company's substantially lower credit spread in the period. This call option is an embedded derivative under Canadian GAAP requiring an adjustment to fair value each period.

In the first quarter 2009 there was also a net loss of foreign exchange primarily as a result of unfavorable movement in the Canadian dollar and its impact on the translation of foreign currency debt. As we reported, the Company changed its functional currency on fresh start to the US dollar and is no longer exposed to foreign currency risks on its long-term debt for accounting purposes.

As required by companies under bankruptcy protection we separately reported reorganization items of $17 million, mainly professional fees, in the first quarter of 2009. This quarter, despite our strong EBITDA performance and the fact that we were cash positive, we recorded a GAAP pretax loss of $22 million mainly from our Canadian operations.

The consolidated income tax expense of $7 million largely represents taxes on US and foreign operations income. The tax benefits associated with losses from the Canadian operations were not recognized since under GAAP realization may be uncertain. All of this is to say that we reported a GAAP net loss of $29 million for the quarter or $0.40 per share compared with the net loss of $126 million for the same period last year.

I will move now to the cast cash on the balance sheet. Again, free cash flow in the first quarter was $98 million compared to $75 million in the first quarter 2009. The improvement is mainly due to the increase in adjusted EBITDA, lower reorganization items partially offset by additional restructuring charges, and a slightly lower improvement in working capital. As a result the closing -- as a result, we closed the quarter with $119 million of cash and cash equivalents of $83 million from year-end 2009.

Andy, forgive me for interrupting. That is to say we have nothing outstanding on our revolver and we have approximately $120 million cash in the bank at the end of March 31.

That is correct.

Bravo.

And as of today it's even higher.

I saw a little trickle there this morning. Please continue, I am sorry to interrupt.

Thank you. My throat was getting scratchy. Despite the cash increase that we just talked about, working capital did decrease compared to December as driven mainly by a reduction in accounts receivable of $112 million related to an improvement in DSO and the seasonal impact of lower operating revenues during the first quarter.

Trade payables declined by $26 million because of lower operating expenses and accrued liabilities declined by $21 million largely due to lower compensation costs. The term loan increased by $5 million mostly due to amortization of financing costs and preferred shares increased by $9 million as a result of an increase in the effective interest rate.

As Mark just said, based upon our improved cash position we did not draw on our revolving credit facility this quarter. In addition, the Company is fully compliant with all of its covenants and continues to have significant headroom. As Mark said earlier, we are very pleased with the year-over-year improvement in our results. Nevertheless we continue day by day to work on improving our processes, profitability, and balance sheet.

Thank you, Tony. Thank you and back to you, Tony.

Thank you, Andy. Now we will turn the call over to Joel Quadracci and John Fowler for a few comments.

Thank you, Tony, and thank you, Mark, for allowing us to join your Q1 conference call. John Fowler, our CFO, and myself will briefly just comment on the integration as well as our own transaction update.

Starting with the Quad objectives in the integration I think we want to be clear on what those are and really it is to be ready to go at closing. We want to be able to get the synergies on schedule from what we discussed while controlling our costs, retaining our customers, and performing for them at the level that they expect. And also, very importantly, create a smooth transition for our employees with certainty as soon as possible.

So far in terms of the deal and the integration process itself we have had a very good customer reaction and support for the deal. And I believe we will continue to have that support.

In terms of our integration process, we have a very disciplined structure but also process, not only within Quad/Graphics but between Quad/Graphics and Worldcolor. Of course consistent with all antitrust laws with plenty of legal supervision to go around for everybody.

In terms of our progress, I will say that Mark is accurate that I think we are very happy and pleased with where we are at today with plenty of more work to go. But confident that we are all doing what we need to do to be prepared.

In fact, Quad really started investing before the announcement to prepare for the successful integration. We did this by investing in our platform to make sure that we were prepared from that standpoint and our staffing is based on preparedness versus first-half workload, which was down just under 3% year-over-year in line with our expectations.

Quad has been very successful in the marketplace. We have been very successful with our industry-leading margins and return on capital by having the right balance of short-term and long-term strategies. And so for Q1 and Q2 there is a heavy focus on the long term due to the incredible value and power of synergies that this deal will create. We will continue to invest to be prepared as appropriate because that is what our shareholders expect of us as well as our customers and our employees.

In terms of a transaction update, I will turn it over briefly to John Fowler, our CFO.

Thanks, Joel. As Mark indicated, we were very pleased that we cleared both Canadian and US antitrust back in March. We had indicated initially that we had a financing commitment of $1.2 billion in the form of effectively a bridge commitment. I am very pleased to share today that on April 23 we executed the final credit agreement for a total of $1.230 billion.

I think equally significant, the original breakout was to be $800 million of term loan B and $400 million of revolving credit. Due to the strong response we got from a very strong bank group we were able to increase the amount of the revolver from $400 million to $530 million without having to do a formal syndication.

What that means for us long term is that we have very strong cash flow in this transaction and that, yes, that allows us to pay down debt. But by having a larger revolver that gives us additional dry powder as the revolver is paid down and that is a very important element of liquidity as we look to move back to being an investment grade credit.

We are really pleased with the bank group that we have. There is a total of 13 banks; seven of them are at $50 million or higher. There were no sell downs other than from the original bridge and we feel we have an outstanding group of banks that can meet all of the Company's global needs both today and going forward.

Turning to the term loan B, the term loan B is being closed at $700 million. It was significantly oversubscribed with a really strong group of approximately 62 institutional lenders and I would like to give some kudos on a great job by Andy O'Brien and his team at JPMorgan. We are really pleased at how the financing came together on the term loan B.

The combination of the both got us the economics that we were originally projecting and had built into the models so we are very pleased about finalizing the financing.

As it relates to the S4, Mark indicated that we filed amendment number two. We are anticipating filing amendment number three by the end of this week to answer some final questions, incorporate this financing as well as incorporate our complete Q1 into the S4 as we move towards a finalization of our effectiveness.

So with that I will turn it back to Joel for any final comments.

Overall, I think it's clear that we are very pleased with where we are at in the integration process as well as the transaction details. We have plenty of work to do but I will say that people on both sides of the fence here are working diligently along with our collective advisors to make sure that we continue to have a fast pace in terms of our planning and our ability to succeed.

So with that, thank you Mark and Tony. I will turn it back over to you.

Thank you. We will now open the call for questions. I will turn it over to Eric to explain how you can get into the queue to ask a question. Eric?

(Operator Instructions) Scott Cuthbertson, TD Newcrest.

Thanks very much and good morning. Great quarter. I just wondered on the restructuring initiatives you mentioned that there is only sort of [400 parts to the 1,700] planned for. I just wondered if you could help us with the potential savings and timing from this move.

This is Andy Hines, Scott. How are you? Good morning. We go through a very vigorous process when we look at the planning for any of the plant shutdowns, closures. That process requires that there be a payback obviously that would justify this kind of a charge, this kind of an action.

I would say as a general rule the payback is usually within year and a half to two years.

It's Mark Angelson, Scott. Andy is almost as conservative as John Fowler. When we took these actions we took these actions as a stand-alone company. These are actions that would have been taken with or without the combination with Quad/Graphics.

I am actually a little bit more bullish than Andy on that question but he is certainly not wrong.

Okay. So $45 million in a year -- one and a half to two years I guess is what I am hearing from you.

That is right.

One of the things I continue to struggle with and I know investors do too to some extent is that you are doing such a great job with respect to the numbers that you had out there before. I think your full-year estimate was around $358 million, your LTM number is ahead of that.

I just wondered with these results obviously continuing to exceed everyone's expectations how does this impact your view on what you might be able to do this year?

First of all, thank you for the compliment and, second of all, look, when we came into this platform on September 8 of last year we started basically a platform wide study of where we were going, how much we were going to be able to do and so forth. You heard me say last quarter that you can only cut your way to glory for so long.

Then along comes the industry leader, not only in margins but most important for us, in technology. We are behind in technology. This company could have invested differently under different circumstances in technology going forward. So as much as it appears that we are robust in our overall financial performance, first of all, this ain't our first printing company. We know how to do this.

Second of all, we didn't even have to do the Quad transaction. We wanted to do the Quad transaction and, believe me, if I didn't think that this was going to be a palpable improvement and the long ball that we needed in order to catch up in technology we wouldn't have done it.

We are delighted. Knowing everything I know today I would do it again tomorrow and the next day and the day after that. This combination is going to be very powerful.

Great. Okay, thanks. A final question if I may. Just outlook, big picture, you mentioned in the MD&A that you expect that the volume will stabilize this year. I just wonder would you see that happening first half, second half. Is there any differences by service vertical in the outlook?

Joel, why don't you speak to that, if you would please?

Well, I think we are certainly not going to predict what the -- the future in sales for the rest of the year but I will say that we have seen a stabilization of the marketplace. In fact, I think we believe that will continue on into the second half.

Where that is? Again, very hard to predict right now with all the world events that have been happening but again we feel good that year-over-year things have stabilized quite a bit.

I will give just a little bit on an industry wide basis as you can appreciate during the pendency of this transaction it is difficult to tell from the Worldcolor platform how the world is moving so we need to look at the industry as a whole.

I do believe we have bottomed out. I don't think that anybody can talk about whether the comeback is going to be slow or quick or a little up or a little down or whatever, but I do think we have seen the trough.

Great. Well, thanks very much.

Jim Reynolds (sic), RBC.

Thanks very much, it's Drew McReynolds. Maybe just a follow-up to Scott, just on the big macro side. Appreciate the color you gave. Maybe just talk to visibility if you may. Obviously things are a little bit of a moving target right now but when you look at the trough stabilization sequentially and is visibility presumably improving in your industry?

Yes.

Secondly, when you look at your closures and your restructuring charges in Q1 I just want to combine the top line that you are seeing in terms of, quote-unquote, stabilization with these new restructuring charges.

As a stand-alone entity going forward would you be close to being done in terms of kind of marrying your platform to end demand? In other words, I guess maybe margin is the output of that, but what else would there be to go given the environment is in fact getting better?

It's a very interesting question. As a standalone platform there is all sorts variables that could take place. In the extraordinarily unlikely event that we have to address we will, but otherwise it would be complete speculation on my part and I don't think it would be helpful to anybody. But there is -- how should I say? -- there is plenty more we could do.

Okay. Just on the IROC charges, presumably the bulk of it is cash?

The bulk -- probably 60/40. So about 60% of it would be cash and about 40% of it would be non-cash.

Okay, thanks. Maybe a last question perhaps for Joel or John. Just looking at the Quad platform, clearly Mark -- and I think the rest of the industry do speak very, very highly of the platform. I know there has been some disclosure on CapEx intensity of that platform.

Maybe if you could just comment on over time do you guys tend to spend more on CapEx or invest more in the business or do you just invest a little smarter in the business and your capital intensity is comparable to the rest of the industry?

This is John Fowler; I will do my best to address that question. The good news going into this transaction is, frankly, Quad/Graphics have made a very large investment, its shareholders over the last five years it exceeded $1 billion which was a blend of, I will call it, heavy machinery as well as automation as well as process.

As Joel referenced on an earlier call, the downturn in the industry has left us with a good amount of available capacity that is already set and very efficient. Candidly, Worldcolor has also made investment in good equipment. I think when we marry the two together as we look at major pieces of equipment we don't need any significant investments in buildings and major pieces of equipment.

We have a little bit of a different view of the rest of the industry. If you go through the stuff that is in the S4 and we have said before if you combine the projected capital spending of Worldcolor and the projected capital spending of Quad/Graphics it comes to approximately $175 million a year. On the combined company that represents slightly less than 4% of sales.

We think in that 3.5% to 4% we can maintain the state of the platform, we can continue to invest in the targeting things that customers are looking for, and we can continue to invest in automation so that we, frankly, can continue to bring our costs down. So we have a little bit of a different view where I think some other people are trying to get to a lower number but we think that is a really sustainable number and, frankly, even after that it generates a tremendous amount of cash flow.

This is Joel Quadracci. I think the benefit Quad has had is staying very disciplined. It's not necessarily about what is the CapEx number but it's the effectiveness of the CapEx that you spend. I think over time we have consistently had to discipline to make sure we are investing in the right things. Whether it has added capacity in the good times or in the bad time such as this past year, we continue to invest in automation that kept driving the platform forward.

So we are very careful in not kinking the hose, so to speak, but again spending the right amount of capital for the right projects is really our measurement. And that is how we have over time consistently been able to keep a modern platform. Because I think once you stop investing or once you pull back it's very hard to play catch-up.

And without keeping that investment going in the right things it's very hard to lower your cost in this type of an industry.

Mark Angelson speaking. I would like to think I know a little bit about investing in the printing industry. There is really only one number that matters, lots of people will tell you it's EBITDA. It's not. It's EBITDA minus CapEx.

I am ever so slightly frustrated but I will get over it real soon because I am withdrawing from management and back into the board room where I belong but just watch what these guys do in terms of generating cash, free cash, which is what this is about, to pay down debt and become investment grade. I am satisfied that they know as much or more than anybody in the industry about how to do this.

The thing that makes their CapEx number sound ever so slightly higher than some of our other friends who are listening this morning is the way they invest in technology. It is literally unbelievable. Someday, perhaps someday soon, we will be able to take an analysts tour around some of the Quad plants. You can see what I saw the first time I did it; it's like entering the Starship Enterprise. It's just very, very special.

Okay, look forward to that. Thanks very much.

That was our final question. I will now hand the call back to our speakers for final remarks.

Ladies and gentlemen, thank you very much for your participation this morning. Joel and John, thank you as always for coming. Andy, a pleasure as always.

We will be keeping in touch with you at this point principally by filings. So the next thing you should see is what we hope will be one last S4 filing, as John said, by the end of this week and we will be as forthcoming as the circumstances and our lawyers permit about timing from here to closing.

But we feel pretty good. We feel like we have the wind at our backs; the integration planning process is going remarkably well. Good day, God bless, thank you very much.