Sensient Technologies Corp (SXT) 2011 Q3 法說會逐字稿

Good morning, everyone, and welcome to the Sensient Technologies Corporation 2011 third quarter's conference call. 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, Administration, of Sensient Technologies Corporation.

I would like to welcome all of you to Sensient's conference call to discuss 2011 third-quarter financial results. I am joined this morning by Mr. Kenneth P. Manning, Sensient's Chairman, President, and Chief Executive Officer, and Dick Hobbs, Sensient's Senior Vice President and Chief Financial Officer. Also with us today are Paul Manning, President of the Color Group, and Jim McCarthy, President of the Flavors & Fragrances Group.

Yesterday, we released our third-quarter 2011 financial results. A copy of the release is now available on our website at www.Sensient.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 Private 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.

Sensient continued its solid performance this quarter. Earnings per share was $0.64, a record for the third quarter. Revenue, also a third-quarter record, grew to $363.8 million, an increase of 6.7% from last year.

The Color Group and the Flavors & Fragrances Group each reported new third-quarter records in both revenue and operating income. This is the eighth consecutive quarter we have met or exceeded EPS estimates.

The Color Group continued its strong performance, reporting revenue of $121 million and operating income of $22.9 million in the quarter. The Group's operating margin was 18.9% in the quarter, which is an increase of 128 basis points over last year's third quarter. We continue to see strong demand for natural colors and remain focused on developing new products in all our business units.

The Flavors & Fragrances Group also reported solid results in the third quarter with revenue of $221.2 million and operating income of $33.6 million. This strong performance was driven by the U.S. flavor businesses.

The Asia-Pacific and China groups reported revenues of $34.4 million for the quarter, an increase of 11.2% over the third quarter of 2010. The revenue growth was particularly strong in Australia, Thailand, and Japan.

Sensient continues to deliver exceptional financial results and consistently solid cash flows. The Company's balance sheet is strong, and we are building an infrastructure by investing in our facilities. The new natural color plant in St. Louis will be operational by the end of the year, which will significantly increase our natural color capacity in North America.

We have just opened a combined color and flavor facility in Brazil, to serve that rapidly-growing market. The Flavors Group will be completing significant modernization projects at both U.S. savory plants by the end of 2012.

We have also expanded our sales force capabilities. We have added 75 sales people across the Company since 2009. This, combined with our extended distribution system in Europe, will enable us to continue to access new markets for our products. We are focused on new product development and the commercialization of new technologies.

As an example, the Color Group's record results over the last two years have been driven by the successful implementation of its new product development program.

We see many opportunities for future growth and I am very optimistic about the Company's future performance. As a result, I am increasing our earnings guidance for 2011 to a range of $2.38 to $2.42 per share. Our previous guidance had been in the range of $2.32 and $2.37 per share.

Dick Hobbs, our CFO, will now provide you with the details for the quarter.

Good morning.

Sensient revenue was $363.8 million for the quarter ended September 30, 2011, a third-quarter record and an increase of 6.7% from $340.9 million in the same period last year.

Revenue for the nine months ended September 30, 2011, was $1.1 billion, an increase of 10.3% from $988 million reported in the same period of 2010. All of the Company's groups report increases in both the quarter and year-to-date period.

Sensient's operating income for the third quarter of 2011 was $49.9 million, also a third-quarter record and an increase of 4.6% from $47.8 million in the same period of 2010. For the nine months ended September 30, 2011, operating income increased 10.7% to $147.9 million from $133.6 million in the same period in 2010.

Both the third quarter and year-to-date period of 2010 include a $1.5 million benefit from an insurance recovery related to an environmental settlement. Excluding this benefit, operating income increased 7.9% in the third quarter and 11.9% in the year-to-date period.

Foreign-currency translation increased both revenue and operating profit by approximately 4% in the quarter and for the nine months ended September 30, 2011. Foreign-currency translation had a similar impact on reported earnings per share in the quarter and year-to-date period.

Interest expense for the third quarter was down 5.6% from last year's third quarter. For the nine months ended September 30, 2011, interest expense was down 3.7% from the comparable period in 2010.

Diluted earnings per share for the third quarter of 2011 increased 8.5% to $0.64, a third-quarter record level. For the nine months ended September 30, 2011, diluted earnings per share were $1.84, compared to $1.65 in the prior-year period, an increase of 11.5%.

Diluted earnings per share in the quarter and nine months increased 12.3% and 12.9%, respectively, excluding the $0.02 benefit from the 2010 reported earnings per share.

The Company reported $106.6 million and $110.5 million of cash from operating activities in the first nine months of 2011 and 2010, respectively.

Total debt at September 30, 2011, was $322.1 million, a decrease of $9.3 million in the quarter. Over the last 12 months, total debt has decreased by $38.2 million, resulting in a debt to total capital ratio of 23.8% compared to 27.2% one year ago. Excluding the effect of foreign-currency translation, total debt has been reduced by almost $40 million in the last 12 months. Debt to EBITDA is now at 1.4, compared to 1.7 at September 30, 2010.

I'll now take a brief look at the results of our operating groups. Sensient's Color Group reported third-quarter record revenue of $121 million, an increase of 6.8% from $113.3 million in the comparable period in 2010. Revenue for the nine months ended September 30, 2011, was $379 million, an increase of 13.4% from $334.2 million reported in the prior-year period.

Foreign-currency translation increased Color revenue by approximately 4% in both the third quarter and year-to-date period.

The Color Group's operating income of $22.9 million was a third-quarter record and was up 14.2% from $20 million in the same period in 2010. For the nine months ended September 30, 2011, operating income increased 18.4% to $69.9 million from $59 million in the prior-year period. Foreign-currency translation increased operating income by approximately 5% in both the quarter and year-to-date periods.

Operating margin in the quarter increased to 18.9% from 17.7% reported in the third quarter of 2010.

Flavors & Fragrances Group revenue in the quarter ended September 30, 2011, was $221.2 million, up 6.7% from the prior year's quarterly revenue of $207.2 million and a third-quarter record for the Group. For the nine-month period, revenue increased 8.5% to $654.4 million from $603 million in the prior-year period.

Strong performances by the U.S. Flavor businesses drove the growth in the quarter. Foreign-currency translation for the Flavors & Fragrances Group increased revenue by approximately 3% in the quarter and nine-month periods.

The Group reported third-quarter record operating income of $33.6 million, an increase of 4.5% from $32.2 million in the prior year's quarter. Operating income for the nine months ended September 30, 2011, was $98.7 million, an increase of 6.6% from $92.6 million in the prior year. Foreign-currency translation increased operating profit by approximately 2% and 3% for the quarter and nine-month period, respectively.

This quarter's operating margin was 15.2%, compared to 15.5% in the third quarter of 2010.

Revenue in the Corporate & Other segment, which includes the Company's operations in the Asia-Pacific region and China, was $34.4 million in the third quarter of 2011, compared to $31 million in the prior year's third quarter. For the first nine months of 2011, revenue was $99.6 million, an increase of 20.9% from revenue of $82.3 million in the comparable period of 2010. We saw growth in most of our key markets across the region.

As Mr. Manning stated, Sensient has increased its guidance for the remainder of 2011. As a result, Sensient expects 2011 diluted earnings per share to be between $2.38 and $2.42. The Company's previous guidance had been between $2.32 and $2.37.

Thank you very much for your time this morning. We will now open the call for questions.

(Operator Instructions). Christopher Butler, Sidoti & Company.

The first question I have is directed towards the Color Group and the top line there. You had been growing at something close to 17% in the first half of the year, and that slowed noticeably here for the third quarter. Are we looking at cautious customers? What's the reason for the slowdown?

First of all, it's a very good question and I know it's being asked of a lot of companies across the street, Chris. I would also say it would be very applicable to us if we were in the cellphone business or the iPad business in terms of measuring volume.

But if you look at the operating margin in Color, you'll see where we're going. We are trying very, very much to increase the mix of the business towards high-margin business. You're looking at a nice increase in the margin, and I think as time goes on, you'll see even a nicer increase.

We could play the volume game, and so Red 40, Yellow 5, Yellow 6, all these high-volume, low-margin products, but we'd rather give that to our competitors, focus on the margin. We're not going to give away our premium products, as we did maybe years ago. We are going to get a good value for these.

So the focus there is on increasing the operating margin. We're very comfortable with where the business is going. They're going to have a record year. And 2012 is going to be a good year as well.

One other measure of our business, it takes about a year to 1.5 years of a typical project, particularly in Color, and this means that you have to build your pipeline over several years. Our pipeline now is extremely strong. We're looking at a good 2012. This is a strategy that maybe we should have articulated a little bit more, but we are going for margin. Certainly in Color. Dick, did you want to add something to that?

Yes, thank you, Ken. I would add as well, because Mr. Manning's comments focused on Color, that in the case of Flavor, as we look at the fourth quarter and we look at the business plans for the fourth quarter, the margins will be up in Flavor, as well.

Yes. And this question is worth a little bit more time, so if you don't mind, I'd like to just expand a little bit further on it, Chris. Paul or Jim, do you have any comments?

Well, I would comment a bit more about the pipeline, not only for new sales but also the new product development pipeline. As was indicated, many of the acceptance periods for customers can be rather extensive in some of the businesses we serve, particularly businesses like inks, like pharma, even natural colors to a certain degree.

So I think the pipeline that we have in place globally is very good, but I think even more as we grow incrementally, the new product development pipeline is very strong and it's very diverse across each of those businesses I just described.

Okay. Chris, it's a very good question, and we'll be very glad to spend as much time as you want with it after the call as well.

Just to follow up on that, can you quantify the business that you willingly walked away from in the quarter, then?

No. You mean, how much Red 40 I wanted to give to my foreign competitors? No.

I understand that you're adding capacity in Color to go after your more attractive business. Is this partly because you're capacity constrained in certain areas, that you're just trying to shift up the product mix?

Well, yes. First of all, in the case of natural colors, which is really our high margin and really a very, very important focus, we are capacity constrained. We can do more business. And in other areas such as pharma, you're going to see more activity certainly in Europe in inks, which has really done extremely well. You're going to see some more activity in terms of expansion in Europe, in particular.

Paul, did you want to add anything to that?

I would add when you look at much of the capital that has been done and that we plan to do, these are really strategic additions to capital. While we may have some capacity constraints in certain areas, we see that the ability to really obtain sales in the future is going to be contingent on our ability to deploy capacity around the world.

And so to that degree, when you look at St. Louis, this is a very much developing market for natural colors in the United States, North America, not nearly to the same level as Europe. And so to be waiting for the business to come and then think about capacity would be a big mistake for us.

So we are being very strategic in how we add the capacity, whether it is North America, Brazil. As was indicated, we opened up a new natural facility there, but with respect to expansions in Europe, we've completed some work in Italy, we have work for Germany, and we are being ahead of the market in terms of demand.

And Paul, if I can add on with that on the capital question, and to Chris and others on the call, I'm sure someone is going to ask the question about capital. And this year with a budget in excess of $80 million, we expect to get probably somewhere between $70 million and $80 million of spend in 2011.

But to what Paul is referring to, as we look at the Company and specifically as we look at the Color Group, there are projects coming in, projects that grow the top line, projects that make the businesses more efficient, that would cause us to have a budget for next year that will -- and that budget will be approved by the Board in December, but we expect that to be into three digits, that we would be looking at $100 million-plus in a capital budget.

And we feel very good about that, and we still have the capacity to pay down debt even after spending that money. But the key is that the business units, as Paul is indicating here, have the plans and have the market expectations that make us very comfortable with spending that money.

But this is a very good area, Chris. This is really what it's all about. We are far more strategic than we've been. We're looking at operating margins and -- good question.

I appreciate your time. I'll go back in the queue.

Edward Yang, Oppenheimer.

I'd like to follow up on the colors question one more time. It doesn't sound like you were capacity constrained in the commodity colors business, and it appears that's the area where you walked away or ceded some market share there. So incrementally, what changed during the quarter? Was there a competitor that was more competitive? What changed?

First of all, there's several -- we have plenty of uses for synthetic colors, particularly in cosmetic, particularly in inks. And the competitor or competitors that we may have let have the business at laughably low prices were more in food and beverage.

But this is a strategic move to move on the high-margin businesses. We pay our salesman not on volume, but on gross profit. They have an incentive system. And we pay new product bonuses. So, our incentive system is focused on things like natural colors, cosmetic, inks, areas of this sort.

Red 40 has been around probably for 30 or 40 years. Yes, I'm not going to compete down and dirty on that. And if somebody wants to make that in India or China, or at least say it's certified, and they have laughably low business, that's fine.

People who do business with us on synthetic colors buy the whole value proposition. And nobody can support the product better than we can. And that's the way we're going.

But this is a very strategic move. The business is going to grow very nicely in the next several years and it's going to grow very profitably. Paul, did you want to add anything to that?

No, I think that pretty much covers it. There is certainly an opportunity to upsell within any of the businesses that we serve, and so to the extent you can do that in synthetic colors, we've certainly capitalized on that.

I understand the move towards a premium priced and premium product strategy. So what's related to that, how much would primary dyes represent of color at this point? I think back in two or three years ago, it was about a quarter of colors. What percentage of the overall colors is it today?

In food and beverage or all markets?

All markets.

I couldn't quote you a number right now in terms of where it is, and don't misunderstand here either. We're not exactly surrendering the synthetic color market here.

But clearly, there are different customers who value your services differently from others. And so, as we review the portfolio and the products we're selling and the value proposition that we can achieve at a customer, this is accepted in various ways from your customers. So a lot of this is having the discipline to build your value proposition, build a pricing strategy, and deploy that in the marketplace.

And along the way as you see lack of discipline in either one of those factors, you act on that. And much of what we have been doing over the last year or so has been directed at that goal.

That's helpful. And moving on to Colors, Dick mentioned that you expect margins to be up year over year in the fourth quarter. I think that you --

Ed, do you mean Flavor?

Flavor, sorry, yes. On Flavors, you expected margins to be up year over year. The last several quarters, I think you had earlier in the year repriced some prices down in anticipation of raws, and the pricing is now catching up to raw materials. So that would be a nice change and a nice progression. What's driving that progress? Is it more on the North American side or on Europe?

Certainly North America is stronger. I will say, though, that Europe was up both as reported and in local currency in the quarter. But the great strength came from North America, and that's what we expect in the fourth quarter as well.

Great. And staying on Flavors, a couple of the big F&F players are based in Switzerland. Did the Swiss franc over the last couple quarters or so, did that affect business at all? Were you able to capture some additional business because of the franc's strength? And subsequently, the franc has declined. So how does that affect the competitive dynamics?

No, you answer it.

As far as our competitors are -- because I'm just pulling up my chart on the franc -- can you take that?

To phrase my question another way, was Givaudan or Firmenich constrained in competing because of the franc's strength (multiple speakers)

Our controller is diligently -- he's right next to me and he's just pulled up Givaudan, which I guess is the principal player. In their Q3 and their local currency, their sales were up 5.4%. And the Fragrance & Flavor were both up about the same amount.

So, yes, I would say looking at our local currency sales in Europe, we're in that ballpark. We're lower single digits; they're mid-single digits. We're in that ballpark. But clearly as we said, we're stronger in North America.

Okay. Thank you.

(Operator Instructions). Summit Roshan, KeyBanc Capital Markets.

Congrats on the nice quarter here. Just going back to the Colors and walking away from, say, the commodity-type color businesses, did that just begin this quarter? And looking into Q4 and to 2012, does that begin to accelerate a little bit?

I think the -- we certainly have been looking more strategically at Color in the last two years than we've ever looked before.

So I would have to tell you this has been more of an evolution. There are contracts, there are product development periods, and it's a case of having a more robust new product development program; a very, very disciplined pricing strategy; and aligning the activities of the operations and the sales force with the strategy of the Company.

So I would say this has been about a two-year process. But I will let the group comment on that. Paul, do you want to comment on that?

No, I don't think I would add anything to that. I think it has been a process that is ongoing. I don't expect to see any incremental or decremental activity going into the fourth quarter or 2012, for that matter.

Great, thanks. And just a quick question. On your tax rate, I think you've been averaging about 31%, 32% in the first half of the year here. And in the third quarter, I think it came down to about 29%. Is that mostly on geographic mix? And how should I look at that going into the fourth quarter?

What we have in any given quarter is a whole variety of settlements in different tax jurisdictions. And in the third quarter, those settlements were a little bit more favorable than what they were earlier in the year.

But in addition, our tax rate, our effective tax rate, what I'd call the organic base, that is improving. And so, we had the effect of that cumulative improvement in the tax rate, so the base tax rate has come down about 40 basis points.

And so, yes, in general, I think the management of the taxes globally in all the jurisdictions help that. But in addition, we did have some settlements that were in our favor also in the quarter. As we've had typically in most quarters, we'll have a variety of settlements and end up with some reduction in what I'd call the organic or base rate.

Great. Thank you.

Christopher Butler, Sidoti & Company.

Thanks for taking my follow-up. Wednesday night, you made an announcement of an acquisition, but also a restructuring. I think the cost was going to be $4 million in the fourth quarter, pretax. I was wondering if you could give us some details on exactly what you're restructuring; what you're hoping to achieve, and further thoughts there.

Great, great, appreciate the question. Yes, we did have an announcement about a very excellent strategic business in Brazil.

Which, if I can just comment on that a little bit before I get into the charge, Brazil is the third largest cosmetic market in the world after the U.S. and Japan. It's a fabulous market of 200 million people who like these types of products.

And we have a business there that we were a partner in, and the business has had a very robust experience. And we had the opportunity to buy our partners out. We've taken advantage of that. And we did have a gain as accounting rules would require us to have because of the value of that business versus what we had it on our books for, and that will now be consolidated in the Company's numbers going forward.

With that, we certainly had some opportunities that we had been looking at in places like Flavor Europe and, to a lesser extent, Color Europe where we could take some costs out. A lot of that has happened already in October, so far in October. And these are costs that we felt were redundant, where we felt there was an opportunity to make our businesses more efficient, and to set the stage for greater profitability and more efficiency in 2012.

And we would expect the cost of taking those items would be roughly somewhere close to the $4 million or so. But all that gets sorted out during the course of the quarter. But I can tell you, because the Brazilian transaction is not a taxable transaction, per se, I can tell you in any event the net bottom-line effect of taking the restructuring charge this quarter will not result in any kind of -- anything any worse than a wash in the bottom line. So you will not see any adverse earnings impact from the restructuring.

And then, going forward into 2012, we do expect to get a benefit in excess of $2 million from those restructuring charges.

Now is your restructuring plan completed or is this the start of an overall review that may take more time?

No, this review has been completed. The plan is completed. We're executing on the plan, -- maybe that's not a good term. We're going ahead and --

Implementing.

-- implementing the plan, and we just have the final bits and pieces to a plan that we're implementing.

And earlier in this call, Dick, you had mentioned that after the CapEx spending, there would be cash left over for debt reduction. I was wondering where share repurchase might fit in on that with the authorization that you pointed to in the last conference call.

There are certainly targets we have where we will step into the market because we have ample, ample capacity of hundreds of millions of dollars to do a lot of things because our balance sheet is so strong.

And at certain price points, as we indicated with the press release, we will make that decision to buy back shares. And we just wanted to alert the markets. We did make that announcement when the market was moving downward, so it will be a matter of what the market does, really, because the Company's value will continue to grow.

We also have some very, very good internal projects, ROI projects. And we would and have been looking at the possibility of some small strategic acquisitions.

So in terms of everything, yes, we still have as a backup strategy the buyback of stock. But I would have to tell you that internal investment and the possibility of small but strategic acquisitions would probably be favored over buying back stock, in most cases. If the market were to plunge and we had an opportunity, we certainly would take advantage of that.

That's what I have. Thank you.

There are no further questions at this time. Mr. Rolfs, are there any closing remarks?

Thank you, everyone, for participating in the call this morning. If there are any follow-up items after the call, please feel free to call the Company. Thank you.

Thank you. Bye.

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