Quad/Graphics Inc (QUAD) 2016 Q1 法說會逐字稿

Good morning, ladies and gentlemen, thank you for standing by. Welcome to the Quad/Graphics first-quarter 2016 conference call.

(Operator Instructions)

A slide presentation accompanies today's webcast and participants are invited to follow along, advancing the slides themselves. To access the webcast follow the instructions posted in last night's earnings release. Alternatively, you can access the slide presentation on the Investors section of Quad/Graphics' website under the Events & Recent Presentations link in the left-hand navigation bar.

(Operator Instructions)

Please note, this event is being recorded. I will now turn the conference over to Kyle Egan, Quad/Graphics' Manager of Treasury and Investor Relations. Please go ahead.

Thank you, operator, and good morning, everyone. With me today are Joel Quadracci, our Chairman, President, and Chief Executive Officer; and Dave Honan, our Executive Vice President and Chief Financial Officer. Joel will lead off today's call with highlights of our financial results, along with a more detailed discussion of our path forward in 2016. Dave will follow with a more detailed review of our first-quarter results, followed by a Q&A.

I would like to remind everyone that this call is being webcast, and forward-looking statements are subject to Safe Harbor provisions, as outlined in our quarterly news release, and in today's slide presentation on slide 2. Our financial results are prepared in accordance with Generally Accepted Accounting Principles, however, this presentation also contains non-GAAP financial measures, including adjusted EBITDA, adjusted EBITDA margin, free cash flow and debt leverage ratio. We have included in the slide presentation reconciliations of these non-GAAP financial measures to GAAP financial measures.

A replay of the call will be available on the Investors section of our website, shortly after we conclude. The slide presentation will remain posted on Quad/Graphics' website for future reference. I will now hand the call over to Joel.

Thank you, Kyle, and good morning, everyone. We were pleased with our first-quarter results, which reflect our ongoing efforts to improve productivity and sustainably reduced cost. Adjusted EBITDA, adjusted EBITDA margin, and free cash flow all increased compared to the same period in 2015. In addition, our debt leverage ratio improved significantly, due to our disciplined approach to continually pay down debt. Since September 30, 2015, we have reduced our debt by nearly of $0.25 billion. We remain disciplined in how we manage all aspects of our business to minimize the impact of ongoing industry pressures and economic uncertainty, and to position Quad/Graphics as the industry's high-quality, low-cost producer.

As we continue on our path forward, we are creating value in the following ways. First, we continue to focus on ways to generate sustainable, strong free cash flow. I'm proud to say that we generated more free cash flow during the first quarter of 2016 than we did in the first nine months of 2015. Our disciplined capital deployment strategy includes paying down debt and returning capital to shareholders through our sustainable quarterly dividend.

Second, we continue to improve productivity and drive sustainable cost reduction initiatives by challenging the status quo. Our employees are a huge part of our commitment to finding a better way. They continue working diligently to position Quad as the industry's high-quality low-cost producer through initiatives focused on improving quality, service and the client experience, and reinforcing the efficiency, reliability and sustainability of our platform.

We continue to focus on improving the most efficient platform in the industry by removing inefficient equipment, closing inefficient plants, and investing in state-of-the-art technology and automation. Our clients benefit by having their work produced on the industry's most well-maintained automated and dependable manufacturing and distribution platform. This disciplined focus on platform efficiencies is a primary driver of our first-quarter adjusted EBITDA margin improvement.

The third area focus for us is strengthening our balance sheet through debt reductions. With no recent acquisitions or integrations we used our strong free cash flow in first quarter to further reduce debt and improve our debt leverage ratio to 2.62 times from 2.88 times, as of December 31, 2015.

As a printer and marketing services provider, our final area of focus is enhancing and expanding the value we create for our clients. We're focused on creating solutions that help our clients improve performance in two key ways. First, we help our clients reduce their overall production and distribution costs by creating process efficiencies and improving speed to market. For example, our robust co-mail solutions to continue to help our clients significantly reduce postal costs. Our workflow discovery audits identify time- and money-saving opportunities, and our ability to manager clients Production Services creates cost savings and allows them to spend more time on revenue-generating activities. Second, we help our clients improve the effectiveness of their marketing spend through solutions that coordinate and measure the strengths of multiple digital and traditional channels to increase response in revenues.

As I discussed on last quarter's call, marketing continues to be upended. Consumers are now in charge of where and when they engage with content, and they are doing so across an ever-expanding number of media channels. Our clients continue to search for innovative solutions that break through the noise and deliver results. Now more than ever, they are looking for partners to help them orchestrate and measure the effectiveness of their marketing initiatives across all digital and traditional channels.

This crisis of marketing measurement has created an opportunity for us to expand our role as a marketing services provider. We're well-suited for this role, given our history and expertise with data-driven content production for print and digital output, which we have been doing for more than 30 years. We continue to build upon this foundation by establishing the strategic partnerships, investing in leading-edge technology, and securing the necessary talent to broaden our service offering.

For example, last August, we welcomed aboard Eric Ashworth to lead our BlueSoho division, which is advancing our role as a marketing services provider. BlueSoho orchestrates complex cross-media programs to give brand marketers greater predictability and control over the variables that drive consumer response. In this way, we're positioning our offering to go beyond merely providing individual outputs for our marketing campaign to actually assisting in the creation and activation of the entire campaign. Recently, we expanded Eric's role to Executive Vice President of Product Solutions and Market Strategy, where we will capitalize on his extensive background in marketing and business development to help us continue to create, in advance, the strategies that transform our offering in support of our clients.

We continue to evolve from a critical commodity vendor to a trusted partner, who can help our clients measure and optimize their media spend, using a strategic mix of online and offline channels. As we expand our marketing services, we will continue to take pride in our heritage as a printer, and find new ways to make print smarter, more personalized, and more strategic in driving action.

Before I hand the call over to Dave, I would like to share that this year is a special one for Quad/Graphics. On July 13, we'll mark the 45th anniversary of our Company's founding, an incredible milestone. Quad/Graphics began in 1971 as a tiny upstart, committed to finding a better way. Today, that commitment remains, as strong as ever, as we continue on our journey to transform Quad/Graphics to better serve our clients, compete aggressively in the marketplace, and create shareholder value.

All of us on the management team recognize our employees' contributions and thank them for their focus and hard work as a single team, united in building a path forward. With that, I will turn the call over to Dave.

Thanks, Joel, and good morning, everyone. As Joel mentioned, we're pleased with our first-quarter results. These results reflect continued progress on reducing our cost structure, through operational efficiencies and a relentless focus on all costs throughout Quad, while maximizing cash flow and strengthening our balance sheet through debt reduction.

Slide 4 provides a snapshot of our first-quarter 2016 financial results as compared to 2015. Our top-line results came in as we expected for the quarter, as net sales were $1 billion, a decrease of 4% from 2015, primarily due to a 4% decline in ongoing industry volume and pricing pressures, a 2% reduction in pass-through paper sales, and a 1% negative impact from foreign exchange. These declines were partially offset by a 3% increase on sales from acquisitions.

I would like to point out that we did make a change in our revenue reporting this quarter by reclassifying paper byproduct recoveries from net sales, where these cash flows were previously reported to the cost-of-sales line as a reduction in cost to be consistent with industry reporting norms. There's no impact on adjusted EBITDA, net income or earnings per share as a result of this change. However, net sales have been reduced to reflect this re-classification in both years presented, so the results are consistently presented and are comparative between years.

Despite top line pressures, adjusted EBITDA increased $17 million in the quarter to finish at $120 million, as compared to $103 million in 2015. And our adjusted EBITDA margin increased 200 basis points to 11.5%, compared to 9.5% in 2015. The increase in adjusted EBITDA and margin reflect ongoing improvements in manufacturing productivity, driving operational efficiencies and sustainable cost reductions from our previously announced and implemented $100 million cost reduction program, and a non-recurring $10 million benefit to the cost of sales from the collection of a vendor receivable that was previously written off.

We began to see positive impacts from our focus on productivity improvements and sustainable cost reductions in the fourth quarter of 2015, and we're continuing to build on that momentum into 2016. We're pleased with our operational and financial performance in the quarter. We will continue with diligent focus on managing productivity and costs into the future to help offset the impact of top-line industry pressures.

On slide 5, we have a summary of our free cash flow, which we define as net cash provided by operating activities, including pension contributions, less purchases of property, plant and equipment. We generated a $86 million of free cash flow in the quarter, compared to $22 million in 2015, representing a $64 million increase, nearly 4 times we generated in the first quarter of 2015.

The increase was due in part to $31 million in cash generated from sustainable reductions in ongoing controllable working capital levels from improvements in our order-to-cash revenue collection cycle. A $17 million increase in adjusted EBITDA, and the remainder of the increase, $16 million, was due to reduced capital expenditure needs. Our platform requires less investment today and into the future, because it has benefited from significant past investments in automation that outpaced industry norms, and catch-up investments in maintenance on equipment from acquisitions that had previously underinvested in their platforms.

These investments have helped build what we believe is the most efficient automated and dependable manufacturing and distribution platform in the industry today. Our estimated 2016 capital expenditures represent 2% of our sales, and are nearly double the industry norm. Also of note, the sustainable improvements in controllable working capital are far from complete, and as we discussed during our last call, we believe we have $150 million of working capital improvements, of which one-third of that benefit will likely be realized in 2016.

On slide 6, you will see that we ended the first quarter with just under $1.3 billion in debt and capital lease obligations. We continue to remain focused on strengthening our balance sheet through debt reduction. We've reduced our debt by $75 million since December 31, 2015, and since September 30, 2015, when we announced our $100 million cost reduction program, we've reduced debt by $245 million. This represents a 16% reduction in our debt, nearly $0.25-billion reduction of debt in just six months.

Our strong free cash flows and resulting debt reduction, in addition to increased adjusted EBITDA, have resulted in a 26-basis-point decrease in our debt leverage ratio to 2.62 times at March 31, from December 31. We continue to focus on debt reduction as the primary use of cash, and continue to believe that operating in the 2 times to 2.5 times leverage range, over the long-term, is the appropriate target. We believe that we will be within this 2 times to 22.5 times target range by the end of 2016.

Slide 7 is a summary of our debt capital structure as of March 31, 2016. Liquidity under our $850 million revolver is $695 million, and we have no significant maturities until April of 2019. The weighted average duration under our debt capital structure is 4.6 years, with a blended interest rate of 4.6%. Our fixed rate debt is at an average interest rate of 6.9%, and our floating rate debt is at an average interest rate of 3.3%. Our debt capital structure is 62% floating and 38% fixed. Given the flexibility under our revolver and our strong free cash flow, we believe we have sufficient liquidity for current business needs, investing in our business, pursuing future growth opportunities, and returning value to our shareholders.

As we shared on our February call, we began repurchasing a portion of our $300 million tranche of 7% senior unsecured notes in the public market, due to our strong liquidity position and the high yield bond market dynamics. Those dynamics resulted in less liquidity in trading of our bonds, and what we viewed as an arbitrarily low trading price -- as low as $0.59 on the dollar in early 2016. This equated to an 18% yield.

During the quarter, we repurchased $57 million of the public bonds for a net gain of approximately $14 million. Note that this gain is not included in adjusted EBITDA. These repurchases provided an efficient way to reduce debt and leverage, while supporting the bonds in the open market by offering liquidity.

In the first quarter, we also completed a tender of our fixed rate private placement notes, whereby $60 million of these notes were repurchased at essentially par value. This tender reduced the amounts outstanding under our private placement notes to $196 million, as of March 31. Both the public bond and private note repurchases were funded by existing cash flows and our revolver. With the net result of reducing our interest expense and providing additional floating rate debt for us to pay down in the short term. Debt reduction continues to be one of our primary uses of free cash flow, as we work to get within our stated 2 times to 2.5 times leverage range by the end of 2016.

Slide 8 shows our commitment to our dividend, which is a key way in which we return value to our shareholders. In continuation of our commitment, the next quarterly dividend of $0.30 per share will be payable on June 17, 2016, to shareholders of record on June 6, 2016. We've consistently paid out a quarterly dividend, and based on our stock price since the close of the business on May 2, 2016, our annual dividend of $1.20 per share is yielding approximately 10%, but represents less than 30% of our total free cash flow. Also as mentioned in our February call, we repurchased approximately 1 million shares for $8.8 million, averaging $9 per share in the first quarter as part of our existing $100 million share repurchase program, authorized back in 2011.

We are committed to increasing long-term shareholder value and are confident in our future outlook of the Company, and as a result, we believe limited share repurchases are a prudent use of cash and represent an attractive opportunity to increase returns to our shareholders. We are also carefully balancing the share repurchase with our stated use of cash to continue to reduce debt and leverage.

Our first-quarter results were strong and we remain on track for delivering our 2016 financial guidance. But much of our year still remains in front of us in a seasonally heavy back business in the back half of the year. As we move forward in this challenging industry and economic environment, we'll continue to serve our clients well and be disciplined in how we manage all aspects of our business, especially in driving improved productivity and sustainable cost reduction initiatives to drive efficiencies in our business and remain a low-cost provider.

Additionally, we remain focused on generating sustainable, strong free cash flow (technical difficulty) obtain a strong and flexible balance sheet to adjust to changing industry conditions, while also investing in our business and returning capital to our shareholders through our quarterly dividend and recent share repurchases, among other priorities. And now, I'd like to turn the call back to the operator, who will facilitate taking your questions. Operator?

(Operator Instructions)

Jamie Clement, Macquarie.

Joel, Dave, Kyle, good morning.

Joel, first question to you: broadly speaking, I was noticing CBS's numbers this morning for advertising. Quite strong, compared to where they've been over the last couple of quarters. And there have been a couple of the other TV guys who said the same thing through this earnings season. Looks to me like some of your product lines were a little less bad, compared to the recent trend line -- certainly compared to the second half of 2015. What's going on? Is the marketing environment, broadly -- is it a little less bad?

I think it's -- as you know, really, this is a first-half, half-year light industry, and hard to draw conclusions from one quarter. I mean, it was notable for ad pages -- speaking to advertising -- for the industry were less bad. They were off about 7% as an industry, and I think as we look at our mix, we are even less worse than that, and only down 3.4%. But I also think that people are still digesting the less-than-stellar economic growth in the first quarter.

For sure.

Definitely have an eye towards, where does this go, through the rest of the year. So, we stay cautious about it, because, again, it's still a tough industry, but it's a tough economic climate. And so, you have to be careful to try and draw conclusions from one quarter. But again, we feel good about what we've done here and translated what we do have from our clients, I think, and do some really good things.

Can you speak in a little more depth to the margin performance here in the first quarter? You don't have to give the specific internal productivity metrics that you look at, but can you help us understand from a high-level managerial level at Quad/Graphics what you saw in terms of your internal numbers?

This goes back to the whole thesis of the consolidation that we embarked on years ago -- that we had this huge platform that's made up of just really incredible assets. And we knew that there had to be a big reset in the industry, but that it would take some time, and it's not easy to do. And so we've closed a lot of plants, which is not fun -- I grew up building plants, seeing them be built. But the idea was, as you know, you make sure that your customers in the resulting platform are on the best platform in the industry, which means taking out the assets that are no longer good. It also means that you have to play catch-up with the assets you do keep.

Many of these were underinvested, and the kiss of death in this industry is pulling back on maintenance of your equipment. These are complicated pieces of equipment. If you pull back on that, sooner or later you run into problems. And so we spent a lot of money over this period bringing those platforms up and getting rid of the stuff that we didn't think was worth the investment. And so, I spoke in 2015 about being the first year of not dealing with one of these massive integrations. So that the organization now could focus on the resulting platform, and now to think of it as its own integration and focus on making sure that the productivity numbers get to where the investment deserves.

We saw, obviously, a blip in third quarter, but again, that was due to a lot of the efficient platform receiving a lot of work and us getting caught short in a (technical difficulty) environment. You know us -- we saw that, we worked really quickly. I think you saw that in the fourth quarter, but I think the fourth quarter was more reflective of where we naturally should have been, given all the efforts and the focus and the investment we've done the past. And so we're very pleased with this, but we're not going to stop.

Again, the economic environment obviously has an impact on every industry, but I'm excited about the momentum, because I've got a really fired up group of people who are seeing the fruits of their labor. I mean, my entire employee base, after doing all this heavy lifting, it's nice to see where you've got true sustainable productivity improvements. It's a great attaboy for everybody we have. And again, we talk about sustainability; and also, we have clients who are starting to pick what platform that they want to be locked in long-term, and so we're spending a lot of time really trying to understand where we can help them in addition to the platform, and that is in helping them grow their top line as they sort of partner with us and recognize us as the long-term player that they want to be with. And so it's all the blocking and tackling that we've done, it's just that it's all coming together and we'll continue to push really hard.

That's terrific. Thanks for the additional color. Dave, if I could just ask one other question to you and then I'll get back in the queue.

With respect to guidance -- and I realize it's early in the year -- but two things that I wanted to specifically ask about. One was free cash flow guidance, and then the other thing was interest expense. Is there -- I know that, ahead of the second half in the heavy season, working capital may be more of a temporary investment, but you certainly spend a decent amount on CapEx with respect to the guidance range that you've previously given. At this point, should we be thinking more about the middle to high end of free cash flow guidance at the very least?

We're definitely pleased on how we started the year, Jamie. And if you remember, we've been talking about working capital improvement in the business now close to a year and a half. And we're going to start annualizing some improvements we started to make towards the back half of the year. So, some of the working capital improvement you see, and you're going to continue see out of us, will come back at us a little bit as we start to annualize some of the numbers. So the run rate on working capital, which was $30 million of improvement in the first quarter, as I talked in my prepared comments, we think will probably closer to $50 million by the time of the end of the year. So you can't really take that $30 million and annualize it out to $120 million -- it's going to be more closer to $50 million or so. We will keep working at that.

I think we're going to keep our heads down, and we're going to continue to work on cost reduction and driving free cash flow the sustainable way, through adjusted EBITDA improvement. What you saw out of us this quarter in free cash flow -- it's not just the working capital story. That was half the increase in free cash flow. The other parts of that increase was a $17 million increase in cash earnings from adjusted EBITDA -- so really strong cash generation coming out of the core business because of operational improvement, and a more moderated level of CapEx -- it was down $16 million year over year. But yet we're still investing more than the industry norm in this, because we've caught up with all the investment, as Joel talked about. So cash flow -- what I really liked about this quarter is -- you saw it: it was really coming from very sustainable means.

And in working capital, quite frankly, we have got a long way to go. I think we're not even halfway to the point of where we need to be in terms of sustainable improvement in that. You're going to see us continue to drive at that as we move forward.

And Dave, you talked about that towards the end of last year in a lot of detail, and that's one of the reasons I was asking the question. I get that you annualize this, but it also sounds like over the next six to eight quarters, you've got more benefits to realize.

We sure do. We've got a lot of years still in front of us; we liked the start to this year; what you're seeing is a very motivated team. We've got a great tremendous employee base that's really focused on controlling what we control, which is in our four walls, and running efficient plants and taking care of our customers. And that's what you're going to see from us.

Dave, just the last question here.

Given that you paid, I think it was $57 million of the 7.0%s -- is that how much you paid during the first quarter, $57 million?

$57 million that we purchased back; correct.

I would suggest, to me, $85 million $90 million of annual interest expense -- that looks high, based on what you just said.

I think what you're going to see with those two tenders and how quickly we paid down the debt, our interest rate should be lower than -- our interest costs should be lower than that.

Fair enough. I'll get back in the queue. Thanks very much for your time, as always.

Jamie, we're told that there's no other questions in the queue. So instead of getting back in, if you want to ask more, you can.

Joel, one of the things I was a little curious about was, I know you all don't have much, if any, direct election exposure. But to the extent that other industry presses -- and maybe they're not all [long running] and maybe this isn't an apples to apples -- to the extent that capacity is being utilized at other areas of your marketplace, in looking at your numbers -- and you haven't been public for that long -- it does seem to me like your even years, which is the election years, tend to be a little bit better. Is it just -- is the data sample too small?

Yes, it is. And for us, in the product lines we are, it's not a place that we participate much in. And I think that -- keep in mind that it's not just -- what we're doing here is not just the United States. We're improving performance in a lot of our businesses. So, you're just seeing the result of a lot of focus. And in terms of the election stuff, that hits a part of the market, but really it's imperceptible to us.

I've got some questions that would probably bore the other people, so maybe we should take it offline later.

So you can bore us one on one? Okay.

That's exactly right.

Thank you, Jamie.

Operator, any other questions? With that, we thank you all for joining us. We thank our employees for executing how they did. We look forward to seeing you next quarter. Thank you.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.