Sensient Technologies Corp (SXT) 2014 Q3 法說會逐字稿

Good morning everyone, and welcome to the Sensient Technologies Corporation 2014 second-quarter (SIC- should be "third-quarter" see press release) 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, Senior Vice President, Administration, of Sensient Technologies Corporation. I would like to welcome all of you to Sensient's conference call to discuss 2014 third-quarter financial results. I'm joined this morning by Paul Manning, Sensient's President and CEO; and Dick Hobbs, Sensient's Senior Vice President and Chief Financial Officer. Yesterday we released our 2014 third-quarter financial results. A copy of the release is now available on our website at 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 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 Paul Manning.

Good morning. Sensient reported third-quarter diluted earnings per share of $0.78, an increase of over 8% compared to the $0.72 reported in last year's third quarter. Both amounts exclude the impact of restructuring costs. Operating profit in the third quarter increased by about 3% of local currency in the Company's operating margin improved about 70 basis points to 15.7%. Third-quarter cash flow increased more than 20% to $58 million.

We are continuing our efforts it to shift to value-added and technology-driven products while actively rationalizing non-strategic and low-margin business. Removing the impact of these efforts consolidated revenue was slightly up in the third quarter and up about 2% for the first nine months of this year. The impact in the Flavors and Fragrances Group was approximately 3% in both the third quarter and year-to-date periods. Sensient's Color Group is the global leader for food and beverage colors, and we have unique ability to provide both synthetic and natural color solutions to our customers. We're also the global leader for digital inks and cosmetic ingredients and have strong capabilities in pharmaceutical excipients and industrial colors.

The Group continued to deliver solid results, reporting higher revenue, operating income, and operating margin in the third quarter. Third quarter revenue and operating income grew by 3.3% and 4.3% respectively in local currency. The Color Group's operating margin also remained a strong, increasing 30 basis points to 22.8% in the quarter. In local currency the Color Group's revenue year-to-date is up 3.5%, and operating income increased by 6.9%. For the first nine months, the Group's operating margin is 22.9%.

To add some perspective to the Color Group's results, five years ago annual revenue was $375 million, operating income was just under $59 million, and the operating margin was 15.7%. The 2014 results are expected to be about 40% higher for revenue and 100% higher for operating income compared to the 2009 results, while eliminating approximately $50 million of non-strategic and low margin revenue. We've made significant progress in the last five years and we expect continued success in the Color Group.

Our Flavors and Fragrances Group has strong capabilities in sweet beverage and savory flavors, Natural Ingredients, and fragrances. Last year we realigned our commercial and technical activities around common product lines to better serve our customers. We are continuing our strategy to shift the Group's product mix from simple ingredients to more complex flavors and flavor systems. We're also progressing with the restructuring program and our other efforts to lower cost. The combination of upgrading our product mix and reducing our cost structure will make the Flavors and Fragrances Group more competitive.

Many of the groups of businesses are performing well and several achieved double-digit profit growth in the quarter. In particular the Natural Ingredients, Flavors Latin America, European Beverage, and the Fragrance businesses each reported double-digit profit growth in the quarter. While we are seeing signs of the successful implementation of our strategy, we still have businesses which will require more work to transform their product mix and to achieve more consistent results.

Our operating income was off around 3% in the third quarter, but operating margin improved to 14%. For the first nine months of the Groups operating income increased by 3% in local currency, and its operating margin has improved by 80 basis points. Our actions and strategies to achieve operating margins in the high teens are on track. We still have significant work to do, but we are very optimistic about the future of this group.

Cash provided by operating activities increased by $10 million in the third quarter to $58 million. The stronger cash flow was driven by higher earnings and improvements in receivables and inventories. Capital expenditures were $17 million in the third quarter and $47 million in the first nine months of this year. Year-to-date, our capital spending is down more than $30 million from last year's levels, and we expect 2014 capital expenditures to be between $65 million and $75 million. Our previous guidance for capital spending had been between $75 million and $85 million. Improving Sensient's return on capital is going to be an ongoing effort, and we except continual improvement in both cash flow and return on invested capital over the next several years.

Company's strong third quarter results were in line with our expectations, and I'm confident that we will meet our full year EPS guidance. We have narrowed the range for our adjusted EPS guidance, which is now between $2.98 and $3.02 per share. Previous range was $2.95 to $3.02 per share. Earlier this year, Sensient announced several actions to enhance shareholder value. These actions included a restructuring program, governance improvements, a dividend increase, and a share repurchase program. Let me give you an update on each of these items.

The objective of our restructuring program is to improve operating efficiencies by eliminating underperforming operations and consolidating manufacturing facilities. These actions are on track. We will continue to evaluate and execute our plans to ensure that we are improving our capabilities and minimizing the disruption to both the business and our customers. We still expect to incur pre-tax charges of between $120 million and $130 million and to generate annual savings of approximately $30 million upon completion of the program. We expect most of the activity to be completed by the end of 2015.

We have made a number of enhancements to our governance and compensation policies this year, including the appointment of two new Directors in August consistent with our stated plan. The two new Directors bring valuable leadership experience and will add new perspectives to Sensient's Board. We are continuing to evaluate other potential Director candidates. And we are committed to refreshing our Board as an ongoing practice. We've also made a number of changes in our compensation policies to strengthen the link between pay and performance. One example is our recent change to share-based compensation for officers, in which 100% of future rewards are linked to performance targets.

Sensient expects to return more than $155 million to share holders via dividends and stock buybacks in 2014. Earlier this year, the board increased the quarterly dividend to $0.25 per share, and the Company repurchased 2 million shares of its common stock. In July, the Board approved a new share repurchase authorization, allowing the Company to purchase an additional 5 million shares. This authorization gives us the flexibility to continue with our share repurchase program now and in the future. We plan to resume our share repurchase on an opportunistic basis beginning in the fourth quarter. Our strategy is working. We are delivering operating profit growth, improved margins, and strong cash flows. In addition, we have taken several actions this year that demonstrate our ongoing commitment to provide sustainable long term value to our shareholders.

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

Good morning. Sensient's revenue was $364.5 million for the third quarter of 2014 compared to $370.5 million reported in the third quarter of 2013. Operating income as reported was $36.1 million compared to $49.1 million in last year's third quarter. The third quarter operating results includes $21 million of restructuring costs compared to $6.6 million of restructuring costs recorded in the third quarter of 2013. These costs are reported in the Corporate and Other segments.

Excluding the restructuring cost, operating income was $57.1 million, an increase of 2.5%. Interest expense was $4 million in the third quarter of both years. The tax rates, excluding the restructuring impact in both periods, were 28.9% in the current quarter and 30% in last year's third-quarter. Diluted earnings per share from continuing operations as reported was $0.47 per share compared to $0.64 last year.

Excluding the restructuring impact in both periods, earnings per share were $0.78 in the current quarter compared to $0.72 in last year's third quarter, an increase of 8.3%. Foreign currency translation did not have a significant impact on revenue or operating income in the current quarter. For the first nine months of 2014 and 2013, revenue was $1.1 billion in both periods.

Year-to-date operating income was $94.4 million compared to $134.9 million for the first nine months of last year. Excluding the impact of restructuring and other costs, operating income grew by 7.7% to $173.2 million in the first nine months of 2014. Interest expense was $11.9 million for the nine months ended September 30, 2014, a decrease of 3.7% from $12.3 million in the comparable period last year. The tax rates, excluding restructuring, were 29.8% and 29.7% in the first nine months of 2014 and 2013 respectively.

Diluted earnings per share from continuing operations as reported was $1.13 per share in the first 9 months of 2014 and $1.72 per share in the comparable period of 2013. Excluding the impact of restructuring and other costs in both years, year-to-date earnings per share increased 10.5% to $2.31 from $2.09 in the comparable period of 2013. Sensient's cash from operating activities increased over 20% in the current quarter to $57.7 million from $47.7 million in 2013. The increase is due to higher earnings and improvements in receivables and inventories. For the nine months ended September 30, 2014, cash from operating activities was $127.1 million, which is an increase of 7.9% from last year's reported amount of $117.8 million.

Total debt as of September 30, 2014 was $461 million compared to $355 million as of September 30, 2013. The increase is mainly due to the Company's share repurchase program. As a result of the debt increase, debt to EBITDA increased to [1.7] as of the September 30, 2014 compared to [1.4] as of September 30, 2013. Our balance sheet and cash flow remains strong. We generated free cash flow of over $40 million in the quarter. After our dividend payments this allowed us to reduce total debt by over $25 million in the quarter.

I will now take a brief look at the results of our operating groups. Sensient's Color Group revenue increased 3.1% to $127.8 million in the third quarter of 2014 from $124.1 million in last year's third quarter. The Color Group reported third quarter operating income of $29.1 million, an increase of 4.3% from the $27.9 million reported in last year's third quarter. Operating margins increased 30 basis points to 22.8% in the third quarter of 2014 from 22.5% in the comparable period of 2013. Several of the groups the business units delivered double-digit growth in the quarter.

Revenue for the Color Group was $392.4 million and $378.9 million in the nine months ended September 30, 2014 and 2013 respectively. Operating income was up 7.4% to $90 million for the nine months ended September 30, 2014 compared to $83.8 million in 2013. Foreign currency translation did not have a significant impact on revenue or operating income in the quarter or year-to-date periods.

The Flavors and Fragrances Group reported revenue of $215.5 million in the third quarter of 2014 compared to $225 million reported in the third quarter of 2013. Operating income was $30.2 million in the current quarter compared to $31.2 million in the third quarter of 2013. Operating margins increased to 14% in the third quarter of 2014.

The Natural Ingredients, Flavors Latin America, European Beverage, and Fragrances businesses all reported double-digit profit growth in the quarter. Revenue for the Flavors and Fragrances Group was $645.1 million for the first nine months of 2014 compared to $667.5 million in the comparable period of 2013. Operating income was $93.7 million, an increase of 2.3% from the $91.6 million reported in the comparable period of 2013. Foreign currency translation did not have a significant impact on revenue or operating income in the current quarter or year-to-date periods.

Revenue in the Corporate and Other segments, which includes the Company's operations in the Asia-Pacific region and certain flavor operations in Central and South America, was $36.2 million in both the third quarter of 2014 and 2013. For the nine months ended September 30, 2014, revenue was $110.5 million up from the $108.7 million reported in 2013. Year-to-date revenue is up 5% in local currency, as sales are strong throughout the Asia-Pacific region. As Paul stated Sensient now expects 2014 diluted earnings per share, excluding the impact of restructuring charges, to be between $2.98 and $3.02. Previously this range was $2.95 to $3.02.

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

(Operator Instructions)

Mike Sison, KeyBanc.

Hello, nice quarter.

Hello, Mike.

In terms of flavors and fragrances, Paul, could you give us a feel on the pulse of demand there. I know some product rationalization is in there.

Sales are down third quarter in a row. But maybe highlight some of the areas that you are growing. Give us a sense of what product rationalization is and any thoughts on maybe Europe, if you're worried about that part of the economy.

Okay. Yes, I would say number one, I think we're seeing, and I'm seeing, very strong evidence that the strategy is working. That the days of really being focused on ingredients exclusively are certainly coming to an end. That there's a much stronger emphasis in execution on products that in some cases would contain those ingredients and in other cases may not.

But it's certainly moving in the direction of selling more sophisticated fragrances and flavors with additional technologies being integrated. We're seeing a lot of success in our beverage businesses right now along that dimension. Were seeing successes in our fragrance business.

I think when you look at some of the market dynamics right now, certainly dairy has been a problematic market for the year. We certainly see volume down. In yogurt, we see it down -- and ice cream, which as you know is a fairly big part of that business for us.

But even on the savory side, we see market declines in many of the markets, most notably US, with respect to soups and other savory-related products. So I think that our best evidence that it is working are in some of the -- I can give you a couple of examples of that. I think to your point about Europe, and then I'll get to your rationalization piece as well.

I think Europe in general is showing very good improvement for us. We're seeing good top line growth. We are really turning around what has fundamentally been a business that we've struggled with for many years.

Yes, there are certainly headwinds in that market. But I think with our focus on the types of customers that we're focusing on, we've seen, say, less of an impact there perhaps than others. But certainly we're seeing headwinds in that market.

With respect to rationalization -- calling, however you like to call it. As I've indicated on some of these calls in the past, as you look at the flavor portfolio a year/year-and-a-half ago, as I looked at that, it was clear that roughly 10% of that portfolio was not going to be strategic or of a profit nature that was of interest to us moving forward.

It was either commoditized or was quickly going to become commoditized or it was just simply not consistent with our strategy. And so those rationalization efforts continue. We spoke to the impact in this quarter with the revenue.

I think it's not unlike the situation we had in color, where we rationalized about 10% of that portfolio as well but were still able to grow the operating profit. So I think that's a trend that is developing. I think that you're certainly going to see more of that in 2015 -- more of that rationalization, that is.

I think the restructuring is going to highlight opportunities to rationalize. It certainly may not make sense to transfer products that are not being produced at a profitable level or at a profitable volume. So I think each of those factors will continue to feed into this overall effort.

Okay. Great. And then in terms of the $30 million in terms of annual savings that you plan to generate. How much do think you'll have in the bank this year? And how much comes in next year on a run rate basis?

I would say for this year, it's going to be less than, say, $2 million. I think for 2015, figure about 20% to 25% of the savings will come in. I think by 2016, most of it and then certainly by 2017, all of it.

That's kind of how we lay it out as coming in. You can certainly understand some of the complexity of the restructure. We make announcements.

But then there's a long process with customers and formula, and there are certainly labor laws in many countries that we have a set time frame. And then by the time we've processed that, your inventoried. So that's a little bit of the lead time considerations.

And it's certainly going to be in our best interest to mitigate these risks and preserve the customer relationships that we have. That should give you a pretty good sense of the timeframe we're looking at here.

No, that's great thank you. And then final question. The balance sheet is in really good shape. You can buy back a lot more stock, obviously. But what are your thoughts on the M&A environment? Are you seeing things that could be incremental or additive for Sensient?

And I think your goal has been to find some good bolt-on technologies. Is that still where you want to play? Or do you have appetite maybe to do a third leg down the road?

I would say both. I think for right now my appetite is very much for a bolt-on acquisition that could enhance technology or market access. I know it's very easy, in my humble opinion, to overpay for an acquisition nowadays. I have no intention of doing that. We need to be very mindful of the dangers of paying too much. And earning that return over such a long period of time could create an undigestible level of risk, so to speak.

So I continue to look at that very closely. Again, bolt-on acquisitions -- I think that's a good discussion that you used. But certainly in time, whether we call it a third leg or a fourth leg, I think as we look at this business as a specialty chemical business, I think we can identify a number of different possible synergies for us to bring into the business and really to start to create the foundation for another growth avenue for the Company.

But I think for right now, we'll stick to our knitting, so to speak, and focus on the businesses that we're in. Certainly flavors and fragrances, it's about fixing those businesses. But to the extent we saw technology opportunities and cosmetics or inks, for example, that could be very compelling for us.

Great, thanks, Paul.

Okay, thanks, Mike.

Christopher Butler, Sidoti.

Hello, good morning, everyone.

Good morning, Chris.

I was hoping you might be able to break down volume versus price mix on the flavors and fragrance and colors segment for the quarter?

Sure. Let me start with color, and then we'll get into flavors and fragrance. As I think going back a couple of calls, we didn't see a tremendous amount of raw material inflation.

Certainly there are exceptions. There were a few items here or there which we were able to overcome in the market. But I think in general, the color growth has been about a 50/50 split between volume and price.

Let me give you this data point. When you consider the year-to-date revenue and factor out culling, the top line has grown about 6% in color in local currency, which I'm obviously fairly happy with that. Of that, it's here, again, about 50/50 volume and price that we're seeing in the market.

But when you look at flavors, as you factor out the culling, which, again, is very much negating any growth that we may see at this point, I would say depending on the business unit -- there are some business units for which it's volume dependent. In fact, it's all volume dependent. There is perhaps very little pricing -- owing to, say, the commoditized nature of those products.

In other business, it was strongly related to volume. So for instance, beverage would be more related to volume than, say, price. But I would say, overall, if you're looking at a breakdown between volume and price and flavors, at this point it's more heavily weighted towards price.

I'm sorry, but what are the numbers on flavors and fragrance?

Depending on the business unit, it could be 50/50. On an all-up basis, you could probably say about 3 to 1 price to volume.

And if we're looking at this business and the sluggish end markets, do you need the end markets to pick up? Do you need better new product adoption from customers who may be a little bit more reluctant now in order to get the operating income growing in this business? Or can you do this organically just from market share gains over the next couple of years?

Well, in terms of where we're going with the business and the type of customer focus we have, I think that we can be successful. Certainly the end markets are providing a headwind, but I think we can certainly execute on our strategy.

Now as you look at some of the existing business -- I've referenced some of that dairy business before -- yes, the markets are providing a substantial headwind, which unless that can pick up with new product introductions from those companies, that will be a challenge. So it's a little bit of a mixed bag.

When you go over to color, where we have a far greater access to the who's who of the CPG world, certainly what has driven colors growth over the years has been our achievement of the lion's share of new product launches. With that slowdown, you can see that it becomes a little bit more of a headwind.

But I think the notion of expanding the customer base beyond the sluggish multinationals at this point to, say, more local and regional companies, I think that's a reality for the color group. We see it as a little bit of a new normal.

And so our way of working around that, of dealing with those headwinds, is expanding the customer base in color. So that would be high level how I'd frame that one up.

And just sticking with color, could you talk to the restructuring that took place in the color group? I don't know that I was aware that part of the new plan included cuts in the color group instead of just flavors and fragrances.

Yes, well it's about, let's say, probably 95% flavors. This is about a $5 million piece of revenue. Say an OPC organic photoconductor and organic light emitting diode business that was essentially, in my opinion, was no longer going to be core to the strategy moving forward. So that is classified now as a discontinued operation. Dick can give you some more granular detail on that if you'd like, but that's very much the nature of it.

There's no other businesses in color group affected by it. But I think when we say the restructuring is almost all flavors, it is truly almost all flavors. The one exception being this very small piece of the color group, which has been completed. That operation ended at the end of September. And there's nothing further to talk about on color.

Dick can give you couple of --

Yes, Chris, just a little bit of background here of oversight. If you look at our P&L on the press release, you see lots of discontinued operations. That's the item that Paul is referring to, and it's shown net of tax on this schedule. A big portion of that is actually restructuring costs as they relate to that particular business.

So the business itself had an impact that was small. Being treated as a discontinued operation, it comes out of the third quarter of both years and the year to date of both years. So the impact was small for the actual results of the business, and certainly it was a drag on return on invested capital.

All right, appreciate the added information. Thanks for your time.

Thanks, Chris.

(Operator Instructions)

There are currently no further questions. I will now turn the conference back to the Company for closing remarks.

Okay, thank you again for your time this morning. If there are no further questions at this time, we will conclude the call. If anyone has a follow-up after the call, please feel free to call the Company. Thank you again.

Again, thank you for your participation. This concludes today's call, and you may now disconnect.