Interface Inc (TILE) 2010 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the second-quarter 2010 Interface earnings conference call. My name is Stacy and I'll be your conference moderator for today. At this time all participants are in a listen-only mode. We will conduct a question and answer session towards the end of the conference. (Operator instructions). As a reminder, this conference call is being recorded for replay purposes.

I would now like to turn the presentation over to your host, Mr. Eric Boyriven of FD. Please proceed.

Thank you, Operator. Good afternoon and welcome to Interface's conference call regarding second-quarter 2010 results. Joining us from the Company are Dan Hendrix, President and Chief Executive Officer, and Patrick Lynch, Senior Vice President and Chief Financial Officer.

Dan will review highlights from the quarter as well as Interface's business outlook. Patrick will then review the Company's key performance metrics and financial results. We will then open the call for Q and A.

If you have not yet received a copy of the results release which was issued after the close of market today, please call FD at 212-850-5600. Or you can get a copy off the Investor Relations section of Interface's website. An archive version of this conference call will also be available through that website.

Before we begin the formal remarks please note that during today's conference call management's comments regarding Interface's business which are not historical information are forward-looking statements. Forward-looking statements involve a number of risks and uncertainties that could cause actual results to differ materially from any such statements, including risks and uncertainties associated with the economic conditions in the commercial interiors industry as well as risks and uncertainties discussed under the heading "Risk Factors" in Item 1A of the Company's annual report on Form 10-K for the fiscal year ended January 3, 2010 which has been filed with the Securities and Exchange Commission.

We direct all listeners to that document. Any such forward-looking statements are made pursuant to the Private Securities Litigation Reform Act of 1995. The Company assumes no responsibility to update or revise forward-looking statements made during this call and cautions listeners not to place undue reliance on any such forward-looking statements.

Management's remarks during this call refer to certain non-GAAP measures. A reconciliation of these non-GAAP measures to the most comparable GAAP measures are contained in the Company's results release and Form 8-K filed with the SEC today, each of which can be found on the Investor Relations portion of the Company's website, www.interfaceglobal.com.

Lastly, please note that this call is being recorded and broadcasted for Interface. It contains copyrighted material. It may not be rerecorded or rebroadcast without Interface's express permission. Your participation on the call confirms your consent to the Company's taping and broadcasting of it. With these formalities out of the way, I'd like to turn the call over to Dan Hendrix. Dan, please go ahead.

Thank you and good afternoon to everyone. We're very pleased with our second quarter results. We were able to build upon the improvements we began to see in the first quarter generating solid year-over-year growth in sales, orders, margins and earnings. Our sales increase in the second quarter was due largely to the ongoing recovery of the corporate office market globally. This improvement within the corporate office segment is being driven by release of pent-up demand with a focus on office refurbishment, which we believe is resulting from tenant turnover as new tenants look to update their interiors.

We also continue to experience a positive sales impact from the investments we made in our in-market diversification strategy as nonoffice segments such as retail, institutional and hospitality grew compared with last year, and emerging markets made a nice sales contribution in the quarter.

The revenue growth drove our second-quarter gross margin expansion both year over year and sequentially, and the combination of increased sales, enhanced manufacturing efficiencies and cost reduction initiatives led to a significant improvement in operating income.

Looking regionally, our Asia-Pacific Division once again delivered excellent results with sales and profitability up impressively year over year. Australia, which is now our third-largest market, was the key driver of strength in the region, with continued significant improvements across all segments. China also grew rapidly.

As previously discussed, we're building a new carpet tile manufacturing plant in China to capitalize on the opportunities we see in that market. And after a few construction delays we're on track to begin production at this facility in the fourth quarter.

Our Americas modular business had another solid performance with its third straight quarter of year-over-year sales improvement. The corporate office segment led the gain with strengthening demand from financial services sector followed by the technology sector and then energy and utility sectors. Nonoffice segments also performed well in the Americas, particularly government, hospitality and retail.

Moving on to Europe, we're now beginning to see some very welcome improvement. Despite relatively even sales compared with the prior-year period, second-quarter profitability increased as a result of greater manufacturing efficiencies and our cost control initiatives. Most encouraging about Europe is that orders climbed 20% in local currency during the quarter, setting up for a second good half.

Emerging markets, particularly China, Latin America, India, Africa, the Middle East and Russia also contributed to an improved quarter. At Bentley Prince Street the demand for high-end broadloom remains very challenging, but the actions that we've taken to adjust product mix, reduce inventories, control cost, and increase the efficiencies resulted in a more narrow loss from this business during the second quarter, and June was a profitable month.

Drilling down a bit more, Bentley Prince Street's business is now 35% carpet tile and growing, while the broadloom side of the business has continued to decline in line with the broader industry.

Our FLOR residential consumer business continues to deliver encouraging results, with double-digit sales growth driven by the web and catalog channels. Our FLOR store in Chicago is still exceeding our expectations and we just completed the site selection for two new FLOR stores. We've ramped up our sales and marketing investments at FLOR which swung it into a loss position for the quarter, but we expect to see a further pickup in sales and profitability later this year.

Entering the second half of the year the secular shift toward carpet tile is continuing and we are optimistic about the opportunities that lay ahead. That being said, we are still operating in an uncertain environment and will continue to be diligent. Performance is generally improving across all business and with the second quarter orders up 16% year over year to $257 million, our sales pipeline continues to firm and we are hearing positive feedback from our sales force.

In addition, as a result of our efforts to lower our cost structure, we should continue to realize the leverage in our business model as demand grows. In the first few weeks of the third quarter sales and orders have continued to be very encouraging. Overall, we feel we are well positioned to execute against our strategic objectives in the back half of the year and continue leading the carpet tile category over the long term.

With that, I'll it over for Patrick.

Thank you and good afternoon, everyone. I'll now take a few minutes to talk through the financial highlights from the second quarter. Sales for the second quarter of 2010 were $226.6 million compared with sales of $211.3 million in the second quarter of 2009, an increase of 7.2%. Currency was essentially neutral year over year as the weakness in the euro was offset by strengthening of a few other currencies.

As Dan mentioned, our sales performance was driven by the improved demand in the corporate office sector as well as the retail, institutional and hospitality sectors globally. Gross profit margin was 35.4% compared with 32.7% in the second quarter of 2009, reflecting the benefits of our restructuring initiatives and increased absorption of fixed manufacturing costs due to increased volume.

SG&A expense in the second quarter of 2010 increased to $58.7 million from $52.3 million last year, an increase as a percentage of sales to 25.9% compared with 24.7% a year ago. The increase in SG&A reflects ongoing investments in our end market diversification.

Strategy. Our operating income performance continued to demonstrate the leverage in our business model. On a 7.2% increase in sales, operating income in the second quarter of 2010 improved by over 27% to $21.5 million compared with adjusted operating income of $16.8 million in the second quarter of 2009.

Operating income in the second quarter of 2009 was adjusted to exclude income of $5.9 million related to patent litigation settlement as well as a $1.9 million restructuring charge. As a percentage of sales, 2010 second quarter operating income was 9.5% compared with an adjusted 8% in the second quarter of 2009. Including all one-time items, second-quarter 2009 operating income was $20.9 million or 9.9% of sales.

Interest expense in the second quarter of 2010 was $8.1 million compared with $7.7 million in the second quarter of 2009 and down from $8.8 million in the first quarter of 2010. As anticipated during the second quarter we began realizing interest expense savings annually as a result of our recent debt reduction initiatives. We will remain focused on debt reduction in the second half of the year.

Net income attributable to Interface, Inc. for our 2010 second quarter was $7.6 million or $0.12 per diluted share. This compares with adjusted net income attributable to Interface, Inc. of $5.1 million or $0.08 per share in the second quarter of 2009, which was adjusted to exclude the items I mentioned earlier and a $6.1 million pre-tax charge related to the retirement of our 10.375% bonds during that period.

Inclusive of all those items, that income attributable to Interface, Inc. in the 2009 second quarter was $3.7 million or $0.06 per diluted share.

Depreciation and amortization was $6.8 million in the second quarter of 2010 compared with $5.8 million in the second quarter of 2009. Capital expenditures in the second quarter of 2010 were $8.5 million compared with $1.8 million in the second quarter of 2009. For the full year 2010 we continue to expect capital expenditures to range from $25 million to $30 million.

Now I'll take a few minutes to review some of the details of our individual business segments. Our modular carpet segment continued its strong performance in the 2010 quarter. Sales in this segment were $202.7 million, up 8.6% from $186.6 million in the second quarter of 2009. Operating income for the modular carpet segment in 2010 second quarter was $25.4 million or 12.5% of sales, compared with $17.5 million or 9.4% of sales in the second quarter of 2009. The 2009 second-quarter figures included restructuring charges of $1.6 million or 1% of sales.

Turning to Bentley Prince Street, the progress we made in streamlining the segment's underlying manufacturing operations since the year-ago period has been significant. But low demand for the high-end broadloom continues to impact sales for the segment. Sales were $23.9 million in the second quarter of 2010, down 3.2% from $24.7 million in the second quarter of 2009. However, the operating loss at Bentley Prince Street improved to $1.1 million in the second quarter of this year compared with an operating loss of $2 million in the year-ago period, which included a restructuring charge of $0.3 million.

Turning now to the balance sheet, we exited the quarter with $73.2 million in cash compared with $89.9 million at the end of the second quarter of 2009, and $71.4 million at the end of the first quarter of 2010. Inventories were $121.9 million at the end of the second quarter of 2010 compared with $122.9 million at the end of the second quarter of 2009. Average DSOs during the second quarter were 52 days compared with 50 days in the year-ago period. And inventory turns in the second quarter improved to 4.9 compared to 4.6 times in the second quarter of 2009.

We've continued to balance our focus on reducing our fixed cost base with selective reinvestments in the businesses. Going forward our priorities for investment are the successful startup of our China manufacturing plant and our sales and marketing initiatives to further expand our segmentation strategy in Europe and North America. Debt reduction will also be a continued -- to be a focus. Our restructuring actions have yielded a stronger, more profitable operating platform, and as a result we feel well positioned to capitalize on new market opportunities ahead.

Now I'll turn the call over to the operator for your questions. Operator?

Thank you. (Operator instructions). Your first question comes from the line of Keith Hughes with SunTrust. Please proceed.

Thank you. Just a couple of questions. The orders were fantastic, particularly in Europe. Can you give us any sort of color around that, of -- is financial issues in Europe not affecting you, why the end-user markets are up so much, anything along those lines?

I would say that the office market in Europe is, particularly Germany and the UK, is starting to bounce back. I mean, Germany from an economic standpoint has done very well, and that's our third biggest largest -- third biggest market in Europe. And then if you go to the UK, the financial services segment there is rebounding significantly and there's not really any office space in London. So we're getting a rebound pretty much from the corporate office group. And then we're winning -- and France, actually, was okay, too, which is our second biggest market.

I would say it's a combination of two things, Keith. One is that the office piece is starting to rebound and our nonoffice strategy is paying dividends as we penetrate government and education and healthcare there. And I think we're also taking share. [I know] the market wasn't up 20% but we were.

And what were the orders in Asia-Pacific and US in tile?

As far as being up?

Yes, how much were they up?

We didn't really give that out. We just gave Europe because we thought people were looking for Europe to make a turn. But all those markets were up double digit.

Okay. And final question, Patrick, the corporate expense income and elimination number a little higher than usual, anything unusual on that?

Nothing in particular. I think it's fairly level with Q1. But no, it's nothing unusual.

Is there any way to model that number a little more precisely in the future? Is there a metric to use or is it just going to bounce around all the time?

Yes, it's going to bounce around from $1 million to $2 million, $2.5 million, kind of in that range. I'd say this is kind of the high water mark for it.

Thank you.

Sure.

Your next question comes from the line of David MacGregor with Longbow Research. Please proceed.

Yes, good morning, guys. Afternoon, I guess, sorry. It's been a long day. I wondered if you could talk --

Or a short one, depending how you look at it.

Yes. I wonder if you could talk about a couple of things for me. First of all, raw materials and the pass-through effectiveness in the quarter and the outlook for the second half. And then I guess you talked in passing about share gains and I wonder if you could just elaborate maybe a little further on what you're seeing there?

Well, it's difficult to get a handle on share gains. But if you look at the US market, the consensus is the commercial market was actually down 2% in the second quarter. And our business was obviously up nicely in the US. And then you go to Europe, we just instinctively know that there's not 20% growth coming out of Europe. And then we had significant growth in Australia and Asia-Pacific. So that's where the share gains come from, just looking at the macro environment and then trying to drill it down to our industry.

Okay. And within that US, you're saying commercial down 2% and you had a pretty good quarter, you talked about end markets. Are there certain products -- within the broader scheme of modular tile, are there certain product tiers or segments of the market?

Yes, I would say that the biggest difference in the US market for us is that we're seeing the corporate office piece bounce back pretty strongly.

Right.

And we -- I alluded to it on the call, but the financial services group, there's a lot of pent-up demand in that group because they didn't really do a lot during the credit crisis. And we're starting to see the banks and the insurance companies and so forth start to invest in their offices again. And then if you go back to the -- if you go to the technology segment, we're positioned very well with the technology players and they're making a lot of investments in their offices, actually globally. We're doing a lot of multi-national accounts with them. So it's -- to me the biggest change in the US is the office market continues to gain momentum.

And where within the mix are you seeing the strength? Is it more the upper end of the mix, the lower end, the opening price points?

I would say that we're seeing it across the board. We have -- we're pretty much the price leader out there, if you're not talking about a niche player. And we're seeing it across the board.

Okay. And finally, just -- I know from the standpoint of seasonality this is typically a pretty good quarter for the education market. Did it come through as planned? Was it ahead of (inaudible - multiple speakers)?

Education market was flat for us and I think that's indicative of what's going on in the funding side of the equation.

Right.

But I think we did very well in it; it just was flattish for us than we had hoped.-

Is it a timing issue? Do they figure more prominently in that order build-up or it is just a, as you say, it's kind of a sign of the times and what's happening out there?

I think it's a sign of the times in education.

Okay. Thanks very much. Congratulations. It was a good quarter.

Your next question comes from the line of [Rick] Glover with Canaccord Adams. Please proceed.

Hi, thanks. Just wondering if we could go back to that share gain issue for a second. I'm -- the share gain is mainly coming from the shift toward modular tile or do you think you're actually taking share?

I think we're actually taking share of that space. But there is some of the secular shift as well.

Okay, and then I was wondering if you could talk a bit about how customers' preference -- I should say growing preference for green products is influencing their decisions to go with Interface products?

Well, I would say that our position on sustainability obviously keeps us in good stead with the advocates that care. And I would say that more and more companies care about what's going on with the environment and their position on sustainability and what's going on with LEED. And we're -- we're considered the leader in the sustainability movement and I think we're winning business because of that. Now we introduced -- every product we introduced at NeoCon had post-consumer recycled fascia on it. And so we're doing very well with our story around sustainability and winning business. And I think there's a growing concern about the environment as well. And [Op oil] was our theme at NeoCon and I think that played very well.

Great, thank you.

Thank you.

Your next question comes from the line of John Baugh with Stifel Nicolaus. Please proceed.

Good afternoon.

Hey, John.

Will we get more education business to shift in the third quarter? Will the schools just be late in letting go some of these budgets or will you be flat or negative in education year over year?

I think -- I think we have a chance to be flat to up in the third quarter but you hit a good point. There was a lot of lateness in people letting go of the budget, so that's very true.

Okay.

I think we're going to benefit from that in the third quarter. A lot projects were delayed but some of them came through.

And Dan, Europe I think has Middle East in it or other parts that aren't Western Europe. Are those boosting this 20% number or is it true Western Europe that's -- it's also up 20%?

It was true Western Europe. It was across the board.

Oh, okay, great. Leave it to the analyst to find something negative in a great quarter, but the SG&A numbers and you referenced, I know, in the comments FLOR marketing. What other types of things are you doing? You mentioned they all relate to diversifying and the segmentation. But could you just give more color around it and then some guidance where that percentage falls out over the next few quarters, year or two, whatever?

I would -- we've been talking about investing in the consumer business and we increased that budget over $3 million going into this year over last year. The European business, we're investing in segmentation and we're having a lot of success with that. But obviously the SG&A part is going to be ahead of the sales increase. But we are getting the sales increase now. And we're also investing in the -- in Asia-Pacific, in the emerging markets. That's been a big investment for us. And I'd say we held investment down in 2009 pretty well, and we're trying to invest in sales people. We're adding sales people in the US and in Asia-Pacific, particularly Asia and China, what we call Southeast Asia and China. And it's -- we just see opportunities that we're going to go out there and invest and grow. And we're also having a delta of a couple million dollars a quarter related to we're now paying bonuses. We didn't pay bonuses last year, so that's probably not factored in as much into people's models as the impact this year. It will be about a $10 million increase in SG&A just by the fact we're achieving bonuses now.

Okay, that's helpful. So Patrick, where does all that shake out in terms of where SG&A gets modeled going forward '010 and/or '011?

I think -- well, to me we need to drive the percentage down. We're making investments at the $58 million, $59 million level and my hope is to keep that $60 million or less and let the top line grow.

Okay, great.

Drive it down.

I didn't fall out of my chair but I certainly squirmed a little when I heard that Bentley Prince Street was profitable in June. Was there some volume jump in June or was there some difference to the cost structure in June and how do we think about --

There's -- we've done a lot of the heavy lifting in that business. We've rationalized the SKUs, about 70% of them. We've raised prices on products to get the right margins in that business, made the decision we're going to have the right margins if we're going to manufacture on the West Coast and ship those products. And that's coming through. And then we have -- we had a pretty good volume come through in June, that's our five week month. I'd say that from a manufacturing efficiency standpoint that the team out there has done a great job in getting that model where if you get the sales increase you get the leverage. And now it's really about getting the sales increase and moving that business more to carpet tile.

Is that still a $25 million per quarter roughly break-even situation?

It's right at $25 million, $26 million, yes. I think we can get to $25 million and keep the manufacturing momentum we had in May and June that we're break-even.

Okay. And I know you did a restructuring in Q1 and particularly in Europe. And I assume that contributed to your margin expansion in Europe. But was there-- your sales were flat you mentioned there. Was there something else besides headcount reductions that drove that margin?

I -- we were -- we ran the plant very well. We've right-sized that plant now where we've got -- we're getting better flow-through out of the manufacturing part of it.

Okay. And I think that's it. Thank you.

Okay, there was one question I didn't answer that the previous caller, and that is -- is raw material. We've had raw material price increases. And the actual impact is about $10 million negative versus last year and we've been able to raise prices to offset that.

And your next question comes from the line of Matt McCall with BB&T Capital Markets. Please proceed.

Thanks. Good afternoon. I want to continue on that theme, Dan. I think last quarter or I think I remember one of our conversations we've talked about materials availability, raw materials availability with some of the -- maybe the residential guys seeing some improvement in their demand trends. You sound like you saw prices go up, you were able to offset that, but is the availability an issue?

Yes, it is. The -- our lead times have been stretched out a little bit because of availability from a yarn supply standpoint. It probably cost us $4 million or $5 million in sales by not having the yarn availability. But I will tell you it's getting a lot better. But the -- we surprised our suppliers in how robust our business has been compared to where they were modeling it this year. So there's been a bubble that's been coming through the supply chain that we've had to deal with. But we're getting on top of it and we're seeing lead times hopefully starting to improve.

Okay. And then I think I heard you say that China was delayed a little bit or maybe I misunderstood, but you were talking about a Q4 launch. Is it still on track or have you delayed it a little bit? And then what's the expectation from a volume perspective out of the gate?

That's a lot. Well, we were gearing up to open the plant in September. We talked about third quarter. We'll now open it up probably in late October.

Okay.

So that's been the delay. It's just been some construction delays in getting the lines put together and operating and commissioning them. As we said a lot of times, we've built the volume so when that plants starts up it can run a full shift immediately. We are taking about $500,000 a quarter in fixed costs associated with the start-up of that plant. So we're going to offset -- we talked about a $3 million incremental increase, but we're -- we'll expense $2 million to $2.5 million this year in fixed costs associated with that plant. But my expectations are that plant when it starts up will -- within two quarters we'll be profitable with that plant.

And then on the growth investments, did you quantify? Was there -- did you invest more in the quarter? I think you said you invested more on FLOR and you lost money. I think last quarter you made money. Was there more investment relative to Q1 and then what was the loss in FLOR?

Yes, there were more investments because of all the marketing plans and so forth. When we approved the budget in December, it took at least a quarter to get those all executed. We made a little bit of money in the first quarter and we lost about $1 million in the first quarter.

In the second quarter?

Yes.

Okay. And then finally, any update on the Bravo relationship?

Well we've -- we're going to launch that, we've signed the deal and we're going to start shipping product in July and August. And we're very positive about the outcome of that, about that relationship.

So no initial stocking orders at this point?

Yes, we actually have one initial stocking order. We haven't quantified it to the Street, but we have it. It's [$2] million dollars.

It was in Q2?

In Q2, right.

Okay, perfect. Thank you all.

Thanks.

(Operator instructions). Your next question comes from the line of Glenn Wortman with Sidoti and Company. Please proceed.

Yes, good evening, guys.

Hi, thanks.

As far as the -- on the orders, a very impressive growth there during the second quarter. As we moved into July did things slow down at all?

Actually, July looks very, very good. Our first three weeks came out of the gate pretty strong.

And with respect to the raw material costs, looking at 3Q versus 2Q do you expect your average cost to be higher in the third quarter and --

I think it will be comparable to the second quarter. We're fighting some raw material price increases but we got suppliers that are not supplying us, and so we're in debate about that. Hopefully it will be comparable to the second quarter.

All right. And then on China can you just remind us what your long-term sales goals are there for that region?

Well I think that region is going to be one of the largest carpet tile markets in the world. And we've built a model that says we could grow that business 20% a year compounded.

All right, thanks for your time.

Thank you.

Thank you.

Your next question comes from the line of Carl [Reichardt] with Wells Fargo Securities. Please proceed.

Hey guys, how are you?

Hey, Carl.

Carl.

I got most of my questions, I had one left. The multinational account thing was interesting to me. Dan, can you talk a little bit about, say, two years ago where you were in terms of penetration with multinational type of accounts? Has that grown a lot in the last two years? And is it incrementally adding sales to the (inaudible - multiple speakers)?

Yes, it's growing. Companies are really starting to pay attention to their global footprint. A lot of companies are trying to reduce their global footprint by density. And when we talk about global accounts and where we can service them around the world, we obviously have a very great service model in the fact we manufacture on four continents and we've got our own sales people in those markets. And we get their attention when they start talking about a global contract. And we do very well in that space and yes, we're expanding that whole global -- we call it global accounts business. We had a very good second quarter in global accounts.

And adding sales to a global account is incrementally less expensive than acquiring a new customer, I would assume?

Yes, you're right.

So that's helpful as that grows. Okay, thanks, that's all I got. Thanks.

Sure, okay.

And at this time I'd like to turn the call back over to management for closing remarks.

Well, thank you all for listening to our call and hopefully we'll have a great third quarter. Thank you.

We thank you for your participation in today's conference. This does conclude your presentation. You may now disconnect and have a great day.