Interface Inc (TILE) 2016 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Q2 2016 Interface Inc. Earnings Conference Call. (Operator Instructions)

I would now like to turn the conference over to your host, Greg Bower, Vice President. You may begin.

Thank you, operator. Good morning and welcome to Interface's conference call regarding second quarter 2016 results. Joining us from the Company are Dan Hendrix, Chairman and Chief Executive Officer, Jay Gould, President and Chief Operating Officer, and Patrick Lynch, Senior Vice President and Chief Financial Officer. Dan and Jay 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&A.

A copy of the earnings release can be downloaded off the Investor Relations section of Interface's website. An archived version of this conference call will also be available through that website.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 the 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, 2016, 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 is contained in the Company's earnings release and Form 8-K filed with the SEC yesterday. These documents 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 and may not be rerecorded or rebroadcasted without Interface's express permission. Your participation on the call confirms your consent to the Company's taping and broadcasting of it.

Now, I'd like to turn the call over to Dan Hendrix. Please go ahead, Dan.

Good morning, everyone. I'll start at the top line where our sales of $248 million were very solid, especially considering the sluggish start to the year with first quarter orders of only $222 million. This [order] of sales fill rate is the best we've have experienced in a decade.

Like the past year and a half, the best story of the second quarter was our improvement in gross margins, up 150 basis points to an all-time quarterly record of 39.9%. This is simply outstanding performance and I could not be happier with our progress here.

SG&A expenses were down slightly year-over-year, and we've cut spending in each division across the Company. But the revenue shortfall is causing SG&A as a percentage of sales to remain elevated above our target level of 26%. Nevertheless, our improvement at the gross margin line made up for a lot of our lost ground and pushed out operating margins to 12.8%, up from 12.6% in the prior-year period.

At the bottom line, the result of earnings per share of $0.32, which represents our second best quarterly earnings ever compared with the record $0.33 in the second quarter of last year.

For additional highlights of the quarter and discussion of our outlook for the remainder of the year, I'll turn the call over to our President, Jay Gould.

Certainly the lead story of the quarter is our gross margin improvement, up 150 basis points to an all-time quarterly record of 39.9%. This achievement represents months of really hard work throughout our Company. Each of our divisions contributed to the margin improvement. There were three main drivers of the year-over-year increase. First, raw material savings; secondly, improved manufacturing efficiencies; and thirdly, a shift in our product mix towards higher margin plank and other tapestry products.

Perhaps most impressive though is that gross margin increase was not driven by increased production volume. In other words, we achieved this record margin during a quarter in which we actually reduced production by 7% and drew down our inventories by $5 million. So truly wonderful progress throughout our organization.

The margin improvement made up for almost all of the 6% sales decline. Let me give you a little bit more color on the topline. First, I'd like to point out we are facing a very strong sales comparative of $264 million in the second quarter of 2015. As Dan mentioned, realizing sales of $248 million on the heels of only $222 million of first quarter orders is a great sequential fill rate.

The drivers of the year-over-year sales decrease were mostly the same as those we talked about in the first quarter. In the Americas region, 65% of the sales decline was really the result of one account in the Interface Services business that has delayed but not cancelled major flooring projects from the first half of the year and pushed them into the second half of the year. Also within the Americas region, we saw the effects of suffering oil and gas sector, with particular influence in Brazil, Western Canada and Houston.

In Europe, the sales decline was attributed to geopolitical and economic issues, including the uncertainty and hesitation in the region leading up to the June 23 Brexit referendum. And we all know how that turned out. In addition to Brexit, the region also dealt with other difficulties, including a weakened banking and financial services sector, terrorist activities and, of course, the refugee crisis.

Sales in Asia were pretty solid, especially in India and China, but that was slightly more than offset with the decline in Australia. We did make progress in SG&A with flat or lower spending across every business unit, and experienced the small year-over-year decrease in absolute dollars on a consolidated basis. But the revenue decline kept these expenses at an elevated 27.1% of sales for the quarter. That was much better than the 29.5% we saw in the first quarter, but still higher than our target and higher than our prior-year period.

We experienced flatter declining spend across the majority of our SG&A categories with the only substantial year-over-year increase being in marketing expenses. And on this particular point, we are making longer-term investments to support our growth initiatives such as branding, market development and product introductions.

On the strength of our gross margin improvement, our operating margin improved 20 basis points year-over-year to 12.8%. Our earnings per share were strong at $0.32, just a penny short of the all-time record of $0.33. So with our margins shaping up nicely, we are now even more focused on growing the topline, and we have several key initiatives underway.

In the second quarter, we launched our new global product, the World Woven Collection, which won a Best of NeoCon Silver award. The market's reaction's been fantastic thus far. Worldwide, we are also introducing more products in lower priced categories where demand has been accelerating. These new products are also margin accretive.

Sales in our Interface Services business should improve in the second half of the year as the delayed projects that I mentioned earlier flow through in a shortened time window in the back half of the year. Among other tactics, we're also enhancing our dealer programs, driving sales in non-office segments such as hospitality and also targeting specific geographic growth areas.

With our core US modular business remaining healthy and with the Asia-Pacific generally on track, we believe that our biggest uncertainty now lies in Europe where the Brexit vote, terrorist activities and other problems have disrupted business conditions and, frankly, severely impacted the value of the British pound sterling.

About 7% of our annual sales are in the UK, so we do expect to see an impact on our business there, with potentially spill-over effects in mainland Europe. But, at the same time, we believe it could give rise to other market opportunity as many businesses such as banks and other financial institutions look to expand or relocate to new offices outside of the UK.

With the uncertainty in Europe, it's somewhat difficult to forecast but we believe second-half sales and earnings will be an improvement over the first six months of the year. With that, I'll turn the call over to Patrick for the financial details.

Sales for the quarter were down 5.9% to $248.2 million versus $263.6 million in the second quarter of 2015. Currency did not have a significant impact on the consolidated comparison versus the second quarter 2015 as the strength of the euro was offset by the weaker Aussie dollar.

Although Jay's already discussed this, I do think it bears a quick repeating. Our record-breaking gross margin performance is at the high point of the quarter and continues the trends we've been seeing. Although raw materials are starting to see some small upticks in the second half of the year, we still expect in average that our input prices will be lower in the second half of 2016 versus the second half of 2015.

In the Americas, we saw sales decline of about 6% but, as mentioned, it was largely the result of the continued customer delays in our services business as well as the softness in Canada and Latin America. On the positive side, our hospitality and healthcare markets experienced double-digit increases for the quarter, and our gross margin performance continued to improve over a very impressive second quarter of 2015.

Sales in Europe were down approximately 9% in local currency and 8% as translated in US dollars. The decline was mostly experienced in the corporate office market, which was down 11% on local currency and 9% in US dollars, as buying decisions were deferred amongst the Brexit uncertainty.

Non-office segments were down to a lesser degree with the decline in education partly offset by increases in all other non-corporate office market segments. Despite the sales topline decline, the region saw a gross margin expansion of nearly 150 basis points, which led to an operating profitability that was close to our record second quarter 2015.

Gross margin again was a bright spot across our Asia-Pacific region. Despite a sales decline of 2%, we experienced expanded operating profitability as a percentage of sales in absolute dollars. Our gross margin there was up over 200 basis points for the quarter and, when coupled with a steady SG&A expense, the result was a very strong second quarter for our Asia-Pacific region.

I feel better about the direction of our SG&A spend for the quarter as we were below the 2015 levels in terms on absolute dollars. As Jay mentioned, we're still not where we want to be as a percentage of sales, but we're happy with the sequential trend here and continue to invest in the initiatives that support our longer-term growth.

Thanks to our gross margin performance and despite additional SG&A spending and the sales decline, operating income of $31.8 million was within striking distance of our operating income of $33.2 million we turned in for the second quarter of 2015. It's also important to note that our operating margin increased to 12.8% in the second quarter of 2016 versus 12.6% in the same period of 2015.

Outside the gross margin expansion, the second most impressive number in the quarter is our cash-flow generation. Despite repaying $7.5 million in debt and using $10.4 million to repurchase and retire 660,000 shares of our outstanding common stock, we were still able to generate $5 million in cash during the quarter. If you remember from our first quarter call, we increased our share repurchase program to a maximum of $50 million.

Our balance sheet is in great shape and leaves us with the flexibility to invest as necessary in the business as well as continue to return capital to our shareholders. As a result, we increased our quarterly dividend to $0.06 per share per quarter.

Depreciation and amortization was $7.5 million in the quarter compared with $7.8 million last year. Capital expenditures in the second quarter were $8.3 million compared with $7.6 million in the comparable period in 2015. For the full-year 2016, we expect our capital expenditures to be in the range of $35 million to $40 million.

With that, I'd like to turn the call over to the Operator for questions, please.

(Operator Instructions) Mike Wood, Macquarie.

First question on the services business. Is the gross profit margin profile materially different from your average core gross profit margins?

I wouldn't say that it's materially different but it trends to be lower in our services business, slightly lower than our traditional core modular business but it is lower.

Got it. And on price, I'm just curious your thoughts on the idea of what happened with price sequentially 1Q and the 2Q and how long do you think you can hold price or continue to push price higher in this type backdrop that we're in?

Sequentially, pricing is pretty neutral. On a year-over-year basis we're up a little bit in pricing but there certainly is some pricing pressure in the market and we'll continue to monitor that over the next couple quarters. Right now, it seems to have kind of stabilized.

Great. Just final question. You mentioned you're not happy with SG&A as a percentage of sales. Does that absolute dollar number though, is there still room to push that lower and can it near term be sustained at this $65 million level of sales or in this area going forward?

I think sequentially for the balance of the year you'll see right around these dollars in absolute and we'll get better as a percentage over the second half of the year.

Great.

Kathryn Thompson, Thompson Research.

First touching on raw materials given the stabilization of energy prices and slight pickup that you mentioned in your prepared comments, what are your expectations for raw material impact the balance of 2016? I believe you had previously forecasted a $7 million to $8 million [tailwind]. Really basically has that changed and how should we think about the second half?

Right now we're looking at -- we'll still be lower year-over-year but it's going to uptick a little bit here. Right now the current projections are about $2.5 million increase in yarn cost for the balance of the year based on some recent pricing we took on yarn. So that $7 million, $8 million is coming down by about $2 million, $2.5 million for the second half of the year.

Okay. Could you give color on how orders trended in the quarter and any color into July would be helpful?

Sure. Orders April, May, June -- we finished April down 6%. May was up about 5%, and then June was a very difficult comp, probably our single largest month in our history. We came in around 10% down in June. So the net effect for the full quarter was down about 5%, and we're currently trending about down mid-single digits here in the first three weeks of July. July continues to be a tough comp. The comps get easier in August and September.

Okay. And more color if you could just remind us what drove the tough comps last year. Is it a large order or is it anything unusual that we should think about?

I think it really goes back to the end of 2014 where we really saw a softness in 2014 and the early part of 2015 and then came through pretty strong Q1, Q2 and midway through Q3 that worked its way through, which created a pretty strong environment for two-thirds of the year there in 2015.

Are you seeing a difference in the types and size of projects? What we've seen in our other coverage of everything from basic materials to office furniture [you're just] seeing a greater number of smaller projects versus mega projects? What are you seeing in terms of order trends for types of projects, at least in the US?

I think we'd be consistent with that, Kathryn. We're seeing -- 80% of our business is renovation, which tend to be smaller projects like that. People tend to do a floor at a time as opposed to a building. I would say we're consistent with the trends you're seeing from other building products.

Okay. Great. Thank you very much for the last question. Thanks very much for the color on the drivers for the gross margin improvement, but of the buckets that you outlined, is there any one bucket that was a greater driver of the gross margin improvement?

It really was the production manufacturing efficiencies and the benefit of a lot of our lean manufacturing initiatives around the world that are really paying some pretty significant dividends right now to more than offset a 7% decline in production. Our folks have really done a tremendous job to create some really positive manufacturing variances despite lower volumes. So I would say manufacturing efficiencies was really our biggest driver.

Great.

John Baugh, Stifel.

Congrats on a great margin quarter. I think I heard Australia was down. That had been, I believe, recovering nicely since the fire. Could you just go into some of the dynamics you're seeing in that market?

They were down for the quarter. We have seen a rebound though overall in Australia, and we expect growth for the full year. Bit of an anomaly in last year's numbers and the comparative. We had a big order in last year's second quarter numbers.

Great. I'm sorry; I got in a little late. Did you make any comments on FLOR retail, either revenues or margins, EBIT there?

No, we didn't and we haven't really covered that yet, John. I would say FLOR had a tough quarter. We were down double-digit topline. We lost about $1 million in the quarter operating. Our June promotion didn't meet our expectations there. So it was a bit of a tough quarter for FLOR in Q2.

Okay. Then lastly, you made a comment about the back half I think in revenue and earnings being better. Was that a Europe-specific comment, Patrick, or was that consolidated company?

Consolidated company, John.

Great. Thanks for that color and good luck.

Keith Hughes, SunTrust.

A couple questions. One, I know you've been doing some share repurchase and carrying a pretty heavy cash balance for some time. Is there any plans to start redeploying this faster in terms of share repurchase?

I don't know that -- I mean, I think we'll continue to be opportunistic as we have been. Right now, I have to -- a lot of that cash right now is overseas. It's going to take me three or four months here to reconfigure a few of our legal entities and so forth to get that cash repatriated but, hopefully, have that done by the end of the year and that will facilitate some of the share repurchases and so forth.

And on your last answer, second half of the year being better than the first half, are you talking specifically on EPS there? Or EBITDA? Or what metric?

Broadly speaking across most metrics. Seasonally the Q3, Q4 have historically been our better than the first half of the year and we expect that trend to continue here in 2016.

Final question on sales. You'd referenced in the press release that your tile business, excluding the service stuff that's already been discussed, is up 1%. That looks slightly above where the industry is. Given your order pattern once we hit the easier comps starting in August, September, do you think you'll start to comp positively in the United States towards the end of the year?

Yes. Based on our current trends, we expect that to be the case.

Okay.

Sam Darkatsh, Raymond James.

Excellent job on gross margins this quarter. Couple, two, three questions. Regarding gross margins as you look into the back half, constructively you took production lower during this quarter so I'd imagine that production would normalize and that would help your throughput. But you also have the input costs rising and then we are getting close to the long-term target of 40%. How should we look at gross margins going forward? Is there still expansionary possibilities there or is this the level that we should assume?

I think for the back half of the year we'll be consistent where we've been in the mid- to high-39 range. As you called out, we do have a couple of things working against us in terms of raw materials and then perhaps some [downward] pressure on the topline related to the Brexit across EMIA. But what we've done in our efforts there, we'll probably still stay around the mid-39s to high-39 range for the balance of the year.

Patrick, you just gave me a good segue for my next question which would be the UK anecdotally. It doesn't sound like it's affecting you yet at all. It sounds like maybe your July orders in Europe were okay. Anecdotally, what are you hearing from your sales force in terms of the appetite of the UK customers for large-scale discretionary purchases in the back half?

We have certainly been hit by the decline in the pound, just as we translate that back. People are concerned but, you're right, the order pattern in Europe is still pretty strong. Now the UK is a bit weak but the rest of Europe has more than made up for that thus far. So right now, it's a watch out, a warning signal, but that hasn't translated to the order sheet yet.

Final question if I could. Interface Services, a drag in the second quarter. I think you're suggesting that some of the large projects were delayed into the second half. What might be the benefit or the tailwind that you get from services in the back half versus the headwind that you saw in the front half?

The first half of the year was impacted by $10 million or $11 million from that one customer. We don't think we can execute that full boat there, but I think we can get 75% of it in the back half. That also is a drain on gross margin. It was a positive in the first half; it's a drain in the second half.

But accretive to EBITDA I'm guessing. Right? A drag on gross margin but accretive to the profitability?

Yes.

Okay. Again, well done on gross margin.

(Operator Instructions) I'm showing no further questions in the queue. I'd like to go ahead and turn the call back over to management for any further remarks.

Thank you for listening to the call, and hopefully we'll have great news in the third quarter. Thank you.

Ladies and gentlemen, thank you for participating in today's conference. This concludes today's program. You may all disconnect. Everyone have a great day.