Sensient Technologies Corp (SXT) 2008 Q4 法說會逐字稿

Good morning, everyone, and welcome to the Sensient Technologies conference call 2008 fourth-quarter and year-end conference. Today's call is being recorded.

At this time for opening remarks, I would like to turn the call over to Mr. Steve Rolfs. Please go ahead, sir.

Good morning. I'm Steve Rolfs, Vice President, Controller and Chief Accounting Officer of Sensient Technologies Corporation. I would like to welcome all of you to Sensient's 2008 year-end earnings conference call. I'm joined this morning by Mr. Kenneth Manning, Sensient's Chairman and Chief Executive Officer; Dick Hobbs, Sensient's Senior Vice President and Chief Financial Officer; and Rob Edmonds, Sensient's President and Chief Operating Officer.

Yesterday we released our 2008 financial results. A copy of the release is now available on our website at www.sensient-tech.com.

Before we begin, I would like to remind everyone that comments made this morning, including responses to your questions, may include forward-looking statements as defined in the Securities Litigation Reform Act of 1995. Our statements may be affected by certain factors, including risks and uncertainties, which are discussed in detail in the Company's filings with the Securities and Exchange Commission. We urge you to read Sensient's filings for a description of these factors. Please bear these factors in mind when you analyze our comments today.

Now we'll hear from Ken Manning.

Thanks, Steve. Good morning. As was stated in our earnings release, Sensient's revenue, operating income and earnings all achieved record levels in 2008. Sensient's revenue reached $1.3 billion this year, an increase of 5.70 over the prior year. Our earnings per share rose 14.5% to $1.89. This is the third consecutive year in which Sensient has produced double-digit EPS growth.

As I have stated throughout the year, this has been a year for solid demand and improving prices across our Flavor and Color businesses. The Flavor and Fragrances Group reported a 5.4% increase in 2008 revenue to $809.6 million, which is an annual record for this group. The Color Group also reported record revenue in 2008 of $402.4 million, an increase of 6.2% from the prior year.

Our profits grew at a faster rate than our revenues. This was the result of our ability to increase prices and control costs. Operating profit for Flavor and Fragrance increased 7.6%, and Color profit was up 7.5%. Sensient's overall operating margin improved 50 basis points this year to 12.9%. This was the third consecutive year in which we have increased our operating margin.

In the fourth quarter of 2008, Sensient's underlying rate of growth remains solid, but our reported sales and profits were impacted by the strengthening of the US dollar that occurred late in the year. Sensient's fourth-quarter growth in local currencies was 5.4%, which is consistent with the solid growth we saw in the third quarter and above the growth rate in the first half of the year.

Sensient's fourth-quarter operating income, as stated in local currency, increased 14.4%.

As I have mentioned in the past, the Company continues to pursue a number of initiatives to accelerate its organic growth. We are making investments in our facilities in order to broaden and enhance our capabilities to develop new products. Examples of these new products include preservative free natural colors, new pharmaceutical colors and coatings, and unique natural flavor extracts.

We are also preparing to enter new geographic markets in order to generate additional sales. We're in the process of strengthening and extending our distribution system so that we can take advantage of these market opportunities. Our consistent long-term strategy has delivered solid organic growth. I expect Sensient's underlying growth prospects to remains solid even in today's challenging economic environment.

I will now turn the call over to Dick Hobbs, our CFO, to give you some of the details.

Good morning. I will now provide details of the results for the year and quarter ended December 31, 2008. Annual revenue for 2008 increased 5.7% to a record $1.3 billion. Each of our operating groups contributed to this year's strong revenue growth.

For the fourth quarter of 2008, revenue was down 2.4% to $293.8 million in comparison to $300.9 million in last year's fourth quarter. Foreign currency translation had a modest 1.6% favorable impact on Sensient's full-year revenues, but currencies had a negative 7.8% impact on fourth-quarter avenues. As Mr. Manning stated, Sensient's local currency revenue growth in the fourth quarter was 5.4%, which is consistent with the local currency growth we saw in the third quarter and above the growth rate experienced in the first half of the year.

Sensient's 2008 operating income rose 9.7% to $161.6 million, a record for the Company. Each of Sensient's groups reported increased profits and improved margins in 2008. Sensient's overall operating margin in 2008 increased 50 basis points to 12.9%.

In the fourth quarter, Sensient's operating income stated in local currency was up 14.4%. Unfavorable foreign currency translation reduced our reported operating income by 11%. As a result, Sensient's reported fourth-quarter operating income was up 3.5% to $36.3 million. Our increased quarterly profit is a result of solid local currency growth in our operations and lower expenses.

Diluted earnings per share as reported increased 14.5% to $1.89 for the 12 months ended December 31, 2008, up from $1.65 in 2007. In the fourth quarter of 2008, diluted earnings per share as reported rose 10.3% to $0.43 compared to $0.39 in last year's quarter.

The Company reduced its total debt by $27.2 million in 2008 for a debt to total capital ratio of 37%, down from 38.4% at the beginning of the year. Debt to EBITDA at December 31, 2008 is 2.3, down from 2.6 at the beginning of the year. By the end of 2009, we expect debt to be less than two times EBITDA.

Sensient's focus on debt reduction, together with the current low interest rate environment, contributed to a $1.5 million reduction in interest expense in the fourth quarter. At prevailing interest rates, we expect to see additional reductions in interest expense in 2009.

Sensient's effective tax rate for the year was 29.7% compared to 30.1% in 2007. The effective tax rate for the fourth quarter was 28.9% compared to the prior year rate of 29.9%. Our tax rate in both years included benefits from the settlement of prior year tax matters and other adjustments.

I would now like to take a brief look at the results of our operating groups. The Flavor and Fragrances Group reported record revenues in 2008 of $809.6 million, up 5.4% compared to 2007. Group revenue in the quarter was $193.5 million, off 1.2% from the prior year's fourth-quarter revenue of $195.8 million. Stated in local currency, quarterly revenue grew 5.8% in the quarter.

Flavors and Fragrances Group operating income rose 7.6% to a record $123.5 million in 2008 compared to $114.7 million in 2007. Operating margins in 2008 increased 40 basis points to 15.3%.

For the fourth quarter, group operating income was $29.2 million compared to $29.7 million in 2007, a decrease of 1.8%. Operating income in local currency grew 5.4%. The impact of unfavorable foreign currency translation on the Flavor and Fragrances Group in the fourth quarter reduced both revenue and operating income by about 7%. Sensient's Color Group reported record revenue in 2008 of $402.4 million compared to $379 million in 2007, an increase of 6.2%. Revenue for the quarter ended December 31, 2008 was $89.6 million compared to $95.9 million in 2007, a decrease of 6.6%. Stated in local currency, quarterly revenue grew 2.4% in the quarter.

Color Group operating income in 2008 was up 7.5% to $71.6 million. For the year operating margins improved 20 basis points to 17.8%. Color Group profit was up 6.2% on a local currency basis for the fourth quarter. The fourth-quarter operating income reported for the Color Group decreased by 3% due to the strength in the US dollar.

Revenue in the corporate and other segment, which includes the Company's operations in the Asia-Pacific region, increased 12.5% in 2008 to $75.6 million on strong sales gains in China, New Zealand, the Philippines and Thailand. Fourth-quarter revenue for these operations grew 5.4% to $17.4 million, despite an unfavorable foreign currency impact of about 11%. Stated in local currency, fourth-quarter revenue in the region grew over 16%. Sensient expects 2009 diluted earnings per share as reported to be between $1.90 and $1.95.

I will now turn the call over to Rob Edmonds, President and Chief Operating Officer, for some concluding remarks on this year's performance.

Thank you, Dick. I would like to conclude the call by highlighting the achievements in the operating groups this year.

Sensient's focus on organic growth produced impressive results this year. Our Flavor and Color businesses achieved record revenues, increased profits and improved operating margins. Sensient's underlying organic growth in local currencies was in excess of 5% in both the third and the fourth quarters versus prior year.

In the Flavors and Fragrances Group, we saw strong sales growth in the US and Canada for dairy and savory flavors. The dehydrated flavor product line also continued to perform very well. Price increases across our business have offset the impact of higher raw materials and energy costs.

In the Color Group, consistent demand for food and beverage colors resulted in higher sales, and we were able to increase prices in all major regions. Sales of cosmetics and pharmaceutical colors were up significantly in 2008, and we also saw improved profitability within our technical color product line.

The Company's operations in Asia also saw higher sales in 2008, driven by markets in China, New Zealand, the Philippines and Thailand. Combined sales in this region increased 12.5% this year.

In the fourth quarter of 2008, despite a difficult economic environment, our overall organic growth in terms of local currency continued to show strength. Going forward we will stick to our strategy of investing in our businesses in order to ensure that Sensient continues to generate solid organic growth.

Thank you very much. We will now open the call for questions.

(Operator Instructions). Mike Siso.

Congratulations on another great year. In terms of your 2009 outlook, the $1.95, could you maybe give us a sense of what you think market demand for Flavors and Colors will be next year and to maybe some degree what the sales growth outlook underpins that $1.90 to $1.95?

I'm going to make some comments and then let Dick follow because I think this is a very good question.

If you look at our business in terms of the markets, the markets are growing very, very nicely, and Dick will give you some numbers in a second.

If you look at the business world in terms of a strengthening dollar and currencies going one way or the other, we have chosen to be careful with our guidance of $1.90 to $1.95. We have not disappointed you fellas in several years, and we don't want to now, but we want to be careful.

The actual demand for our products is increasing. As people go to maybe less expensive products to attract consumers, this gives us a chance to reformulate. That is always a win-win. We can use other ingredients. We generally get a higher margin, and the customer gets a product that is more suitable for his customer.

So reformulation has always been good. We are very, very positive about our markets. I just cannot predict to you what the dollar will be in terms of all the currencies that we deal in, but the markets themselves are great.

Dick, did you want to add something to that?

Looking at our overall mix of customers, we have a very strong customer base, and in 2008 the sales to the top 25 customers was up over 8%. As we look ahead and we look at some of the reports from our customers and from individuals who are selling into our markets, they expect strong growth as indicated by Mr. Manning. And as evidenced by our own experience in the fourth quarter of 2008, we are looking at our results on a local currency basis. Certainly particularly if you look at the Flavor business on a local currency basis, we are up nearly 6%. Colors was up between 2% and 3%, but Asia-Pacific was up in the high-teens.

So globally, as we look at these markets, we feel that we are having a robust experience that we are coming out of in the fourth quarter, and we see that carrying into 2009.

Okay. I guess the way to look at it is that given that the economic backdrop in the US and Europe is basically in recessionary conditions, it is sort of prompting your customers to find solutions for consumers looking to sort of trade down, and that essentially has been a positive for you heading into the year?

That is correct. Reformulation, Mike, as a rule of thumb, almost an axiom, is music to our ears. It gives us an opportunity to produce a new product for the customer with new ingredients, and we usually get a better margin, and it is just the way to go. This is not only true of food, beverage, this is also true of cosmetics.

Okay. Then when you think about local currency growth for '09, it is going to grow but maybe not to the same levels you saw in '08?

Well, when we look at local currency versus as reported, certainly for '09 we feel that in local currency our topline is going to be up in the mid to higher single digits. And when you look at some of the things that we have done in the Company and the way of taking out costs and you look at the fact that we did get hit with some raw materials, right through the end of 2008 to the extent there are some carryovers, we see that going away as we certainly get into 2009 and particularly as we get into the second, third and fourth quarters of 2009. So we feel on that basis and certainly on the basis of things like our interest expense because we brought the debt down, that even if the currencies stay where they are -- because who knows what is going to happen with currencies -- but even if they stay where they are, we feel we have enough lift from enough areas in the Company that we're comfortable with our $1.90 to $1.95 forecast.

Okay, great. I will get in queue. Thank you.

Christopher Butler.

Jumping off the last conversation a little bit, you have been able to generate some pretty strong growth out of Asia. I'm just wondering if the global recession is going to have any more significant an impact on that region for you as it may be fairly new to some of your products?

Right now we are not seeing that. People are still eating and drinking things. We do sell a lot into those markets, but we also buy some raw materials from them, and we see raw materials costs coming down.

So I think this is a very good business to be in in a time like this. The only real concern we have is the one we just voiced that we cannot predict what the currencies are going to do, but the organic growth looks pretty good.

There are also continuing in the food and beverage business trends that are very, very positive to us. People are still using more naturals rather than synthetic. That is a real upside. We see that particularly in color more than half our colors now are natural and years ago that we had just a small fraction of that. We see that trend continuing. The naturals are still growing double digits.

So I think there is a lot of very good things, and I think the only thing that we are cautioning the group on is that we cannot predict where the currencies are going to go.

And how about any sort of destocking by consumers in their pantries or customers? Has that been -- had any impact on you in the fourth quarter or moving into 2009?

Well, we have to feel that the destocking probably goes back to October or something like that. So certainly you see that in areas like automotive and a lot of different things. Housing, people probably are not buying refrigerators.

But with our stuff that we are selling, this stuff turns over, and yes, there probably was some of that. But, in general, we feel that because of the markets we are in, 80% plus of the Company is selling into food and beverage markets, that that is going to continue to turn over, and as was just said, with some of the reformulations, we should get some lifts.

Yes, I think if there was some destocking, most of that is behind us. It is not like auto parts or stuff like that with a long shelflife. People may start using less-expensive cosmetics, but they will still use them. People may start drinking nonbranded beverages, but they will still drink beverages. And this is the beauty of the versatility of this business.

And finally, I'm sorry if I missed it, but could you give us an idea of the bottom-line impact from currency in the fourth quarter?

Looking at the Company as a whole, I will just kind of go down the list. As reported, revenue in the quarter was a minus 2.4%, but in local currency it was up 5.4%. Operating income was up 3.5% reported but in local currency up 14.4%.

And then looking at net earnings, net earnings as reported in the quarter $11.9 million. I'm sorry, 11.9%. Sorry. I'm looking at -- (multiple speakers)

Pretty much had a heart attack on that one.

Yes, 11.9% up where there's 25.3% up in local currency. What I just gave you is percentages.

So let me say it again, 3%, 5% on an operating income, and in local currency it is 14.4%, 10.3% on earnings before taxes, local currencies up 24% and net earnings 11.9%, 25.3% in local currency.

[Matt Haggerty].

Could you just help me on the corporate and other line being down, and I apologize if you covered this, but being down $2.3 million or so year on year? What were the components of that being down?

What that is is it is a net of our corporate expenses and also our business synergies that are not part of the Flavor and Color Groups, and those entities are in the Asia-Pacific region. So you do have an income element to that line.

Those earnings were very robust. They were up very nicely. I talked about the revenue in that area being up in the high single digits. The earnings were up significantly as well. And, in addition to that, we have had very strict cost control throughout the Company. This has typically been how we have operated, but we even stepped that up, and we continue to step that up.

So with the cost control and the results from the Asia-Pacific, that had the lion's share of the impact on that line. (multiple speakers) But I should note it was a very favorable change because it is on that expense line.

We have been really watching our costs, and although our sales are going up, in the last three years, we have added 31 people. Three years ago we had 3582 people, and now we have 33,613 people.

So we really have been watching headcount, watching expenses. We do not anticipate any layoffs. In fact, we anticipate adding some salespeople and some technical sales support people.

Okay. If I may, one question on the balance sheet. The accrued employee and retiree benefits was down sequentially quite a bit. I guess about almost $8 million. I was just curious what that was about?

It is really twofold. We did have some payments of retirement benefits. That brought it down. Also, as that figured is revalued at the end of the year because interest rates -- corporate interest rates went up at the end of the year, that brought the value of that liability down slightly.

As long as you ask the question, I would like to add something that I think is important for investors listening in. We have certainly some of these costs, and we have some of these items on the balance sheet as accruals related to these costs. But in general, the Company does not have huge legacy costs hanging over it. The Company does not have defined benefit pension plans of any significance that are hanging over it. We do not have huge work groups who are subjected to those plans.

And also the Company got out of the retiree medical business quite a few years ago. So certainly we provide very good benefits to people, but we don't have a big hangover, a big legacy hangover obligation to the Company that is going to affect us going into the future.

I understand that the absolute dollar value is not large relative to your enterprise value. I guess what I was going was more the revaluation that you mentioned, would that have run through operating income?

No, absolutely not.

Where does that run through?

It winds up being an actuarial gain or loss, and it does not run through the P&L.

Okay. The last question on the Color business, your organic growth there in local currencies in Q3, it was on the order of 9% or 10% if I'm not mistaken and this quarter down to 2.4%. Any reason for that sequential slowing?

We feel that the Color performed very well throughout the year. We are going to have not exactly the same kind of numbers in every quarter. So it was up, and if you look at the Color Group operating income in local currency, I would like to note that it was up 6.2% in the quarter.

Matt, there is no issue if that is what you're asking. We expect Color to have an up year.

Margot Murtaugh.

I wondered why the SG&A was down so much in the quarter absolutely and as a percentage. Was there anything non-recurring in there?

Well, I would like to note that because of the effect of currencies, the selling and administrative expenses in the quarter have a huge component that is foreign currency related. And so it is just really kind of academic and mathematical that that would come down because the effect on currencies.

As far as any one-time items in there, there really is not anything in there that is outside the normal course.

But would that have any implications for SG&A in 2009? I mean --?

Well, certainly we have had very tight control, as I mentioned earlier, on our expenses in general. We have endeavored to bring down the selling and administrative expenses, and we will continue to do that.

If you look at the year, for example, versus last year, our selling and administrative expenses have come down from 18.1% in 2007 to 17.5% in 2008.

Yes, I see that. Okay. Also, I think your operating cash flow came in less than you expected for the year, and inventories have been up a lot in the first quarter. Can you tell us where inventories are now?

Yes, that is a very good question, and I would like to comment that with the inventories we have in the case of our operations that produce dehydrated flavors, we had a very robust production, and we had a higher yield. We ended up with some inventories, all of which are going to be sold out.

In addition to that, we did have higher costs in the Company during 2008. We are having some of that in our inventory. I mentioned earlier we see our costs coming down throughout 2009. We see that as an opportunity. These inventories will move out, and we expect that in 2009 we will have a reverse impact on the cash flow, and we expect it to be well in excess of $100 million.

Okay. Thank you.

Andrew Cash.

I'm new to the Company, so please forgive me for dumb questions I might have. But just looking at Sensient over a very long period of time, it looks like you have some very, very strong franchise positions in your products. But I'm a little bit surprised that the financial returns are not higher given these what I think are very strong positions. So I was just wondering is it perhaps --

Andrew, how long of a period are you looking over?

I'm looking at like the last six or seven years.

All right, so you're going way back. You're going back way, way back. Because we (multiple speakers) we would be considered -- right now we have done something very few companies have done, which is we have had 12 consecutive quarters of doing better than our expectations and doing better than the street expectation for us. And so I think most people would view our performance with very high regard. As a matter of fact, we would be considered a growth opportunity Company. So I'm not sure what you are referencing.

Well, the returns on equity for example, they are in the low double-digit level. You are generating pretty good cash flow. But I -- (multiple speakers)

The returns on equity have gone up. I would say they have been going up 30, 40 basis points per year during this period of time that the Company has had these very excellent results. (multiple speakers)

Andrew, maybe this will help you a little bit. This is Ken Manning. The Company just a few years ago was kind of a commodity company. Our mainline product was yeast. We were also manufacturing frozen potatoes, bulk cheese, stuff like that. We are not in any of those businesses anymore. And in 1997 when we started to transform the Company and we did 21 acquisitions, which basically is the Company you are looking at today.

Bringing those acquisitions together was a task. That task went on for several years. About three and a half years ago I announced that we had it together and that the Company was going to grow, and that is exactly what it has done.

But the early days of bringing all these different cultures, different people, different companies, transferring technology, getting set up, it took some time, it took some effort, but that is done. And the last three years I think would be more representative of the Company as a result of this transformation, and consequently going forward I would recommend any investor to look at the last three years if they really want to see where the Company is going to go for the next three.

Well, you know, looking at the return on equity back in the early 2000s, you were 15%, 16%, 14%. Do you think you will get back to those sort of -- (multiple speakers)

That is where we are heading. The companies that moments before a business collapses from lack of investment, I guess a lot of returns peak because of the capital base among other things. We have had to invest in the new business, but the one company, which was a higher returner, the yeast business, is now out of business. All the plants are closed. And we sold that in 2001. I guess its demise came about 2005 or 2006.

The potato business we do not know where that is. We cannot find that on the reports of the Company that bought it from us, and the cheese business is out of business.

Now these companies had a very low basis in terms of their capital, so consequently you would get very high returns. But you got to stay in business. We have had to invest in technology. We have had to invest in a lot of things that have been very expensive, but this business is going to be around for a lot of years.

Okay. So you're more of a -- not in a harvest stage, but you're seeing that we should see the fruits of these labors in the future?

Right. Andrew, you gave me the line. We are in the growth stage.

If I could ask just one other question, your working capital, maybe you have to have that amount of working capital -- I mean you did mention there was a question there about the inventory. But it seems like it's a fairly high level of working capital. Is that something that maybe as a percentage of sales, a percentage of assets may be trending down, but it would free up a lot of cash free cash flow for you.

Certainly we always endeavor to bring that down wherever we can, and based on what I just said about inventory, we see that as a real opportunity in 2009.

If you look at our businesses and you look at things like our receivables and you look at what they are in terms of day sales outstanding in different markets around the world, you look at our inventory and you compare based on -- we have certainly businesses selling into the same markets and the same customers, but we have different kinds of products that we're making, and different kinds of products call for different types of inventory planning. We are consistent within each industry on the inventory, and then payables is payables. We certainly -- that is part of working capital as well. (multiple speakers)

Yes, the strength of the business is it is a specialty business. Every product is really a customized product for what the customer needs. Consequently businesses like that rather than commodity businesses, which we came out of, tend to have higher working capital because you have a broader product line and you have broader requirements. So you could not run a labor business with the same number of products that you run a yeast business. You have to have dramatically more products because the customers use dramatically different products in a broad range of them.

So typically the working capital requirements of these businesses would be higher. If you looked at some of the other companies in the industry, I think you would see that.

Okay. Yes. Well, thanks a lot. I look forward to following your Company. If I can ask just one last question. Did you give (multiple speakers) capital expenditure outlook for the next few years?

Sure.

We are looking at I think the fairest number would be $50 million to $55 million or so -- (multiple speakers)

Kind of per year? (multiple speakers)

Per year. I would say that certainly, and we do have certainly ROI projects in that. We have a lot of ROI projects. If we had a big ROI project get in front of us, that number could be a little higher because certainly we are not going to pass up a solid ROI project, and we certainly have plenty of balance sheet capacity.

As a matter of fact, I should note that we have -- and I think maybe we talked about this at the last conference call -- but it is worth repeating for some of you new folks.

The Company has totally financed its balance sheet. We have very favorable terms through two major instruments that we did, one in June of 2007 and the second one September/October of 2008. We raised $405 million, which carries us to June of 2012. So we have plenty of available credit to do whatever is in the best interests of the Company.

And Andrew, thanks for your questions, and welcome to the conference call. You gave us an opportunity to talk about our business, so thanks a lot.

Well, thank you very much. I look forward to meeting you some time.

(Operator Instructions). Edward Yang.

This is [Louise]. Just a question on your organic growth. Was that mostly price or, could you break it down by segment? (multiple speakers) -- volume price?

Sure. We had certainly as I mentioned raw material costs increases, and we were able to get pricing to offset that. But as well, and this is always the case with our Company, we endeavor to move our products up. As a matter of fact, looking at the current new products in the pipeline, the new products in our pipeline are up 28%. And with that, we are endeavoring always to increase the mix, to improve the mix and to sell higher end products. So that was a component as well, but it was a combination really of certainly pricing to cover the raw materials increases. We more than covered the raw materials cost increases with our pricing. We still seek capability to continue pricing where needed. And in addition to that, we did get a lift from volume and mix.

Okay. Thank you. And just could you update on the Canadian plant expansions? Is there anything new there?

Well, it is complete.

All right. But are you ready -- I mean are you shipping more product from there right now? Have you seen growth from that?

Yes, it is really kind of the second or third most profitable profit center in the Company. It is really doing well. We're really happy for the capability. It has really been a win. So does that answer your question?

Yes, that helps. Thank you.

We have reached the allotted time for questions. Are there any closing remarks?

I would like to thank everyone for joining the call this morning, and as the moderator stated, if there are any follow-up questions, please feel free to call the Company after the call. Thank you.

This concludes today's conference call. You may now disconnect.