Interface Inc (TILE) 2016 Q4 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to the Interface Inc. Q4 2016 earnings conference call. At this time, all participants are in a listen-only mode. Following management's prepared remarks, we will host a question-answer session and our instructions will follow at that time. (Operator Instructions) As a reminder to our audience, this conference may be recorded. It is now my pleasure to hand the conference over to Mr. David Foshee, Vice President. Sir, the floor is yours.

Thank you, operator. Good morning and welcome to Interface's conference call regarding fourth quarter and full-year 2016 results. Joining us from the Company are Dan Hendrix, Chairman and Chief Executive Officer; Jay Gould, President and Chief Operating Officer; and Greg Bower, Vice President and Corporate Controller. Dan will make the opening remarks and Jay will review highlights from the quarter as well as Interface's business outlook. Greg 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 An archived version of this conference call will also be available through that website.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 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 may 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. Please note that during this call, it's being recorded and broadcasted for Interface. It contains copyrighted material and may not be rerecorded or rebroadcasted without Interface's expressed 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.

Thank you, David. Good morning, everyone. As you saw in our announcement yesterday, this will be my last investor conference call as your Company's CEO. After 16 years in this role and a total of 34 years working at the Company, I've decided it's the right time for me to step back from day-to-day operations of the Company. Our Board has agreed with me that Jay has done a fantastic job since he joined our Company two years ago. He has embraced our culture, our mission; he has enhanced our performance and strategy; he's brought a fresh and energetic perspective to the way he runs our business. Jay has been properly seasoned and he's more than ready to take over the reins from me as CEO. I'm proud of what he's accomplished so far and I'm confident that he's going to make us even more proud of what he's going to do for us in the future.

All that being said, this is not goodbye. I'll be staying on as Chairman, serving as an advisor and a sounding board to Jay, leading our Board of Directors to help the Company advance toward its sustainability and business goals. I can truly say it's been an honor and a privilege to serve as the Company's CEO, CFO, and all the other roles I've played over the last 34 years. I've enjoyed getting to know all of you and I really appreciate the relationships we've developed and will continue to share. We have some good fourth quarter results to discuss. We've just come off two of the best years in the Company's history and I'm really looking forward to what we're going to accomplish over the next few years. With that, I'll turn it over to President, COO, and now CEO elect; Jay Gould. Jay, please go ahead.

Thank you, Dan. I'd like to start by personally thanking you, Dan, for your mentorship and your partnership over the last two years. I really appreciate the confidence that you've entrusted in me and the confidence that you have in my leading the Company and I'm really pleased that you're staying on as Chairman and an advisor to me. With that, let me turn our attention to the quarterly results. I am really pleased with the fourth quarter results especially given the sluggish environment that we faced for most of the period and I say most of the period because we saw a noticeable increase in order activity following the US Presidential election in November and that trend has continued into 2017. Our gross margin remained under pressure during the quarter due to our move to the new centralized distribution center in the Americas, which we discussed in our call last quarter. This transition continued for most of the fourth quarter, but we did wrap it up by year-end and we expect gross margins to begin to recover as we look forward.

I was also really pleased with our cost containment efforts as we held SG&A expenses to $64 million in the quarter. This was our lowest quarterly level for the year and it puts us on pace to stay within our 2017 targeted run rate of $260 million to $265 million. Excluding the restructuring and asset impairment charge, we delivered fourth quarter EPS of $0.28 pulling even with the fourth quarter of the previous year and closing out the full year of 2016 at $1.03, which is our second best earnings in the history of the Company. The momentum we picked up in the fourth quarter does give us optimism about our prospects for value creation in 2017. As you'll recall, in our last quarterly call I described the four activities we're focused on to yield earnings growth over the next few years. And they are firstly, is to grow our core carpet tile business with improved branding, expanded sales reach, and more productive innovation.

The order progression that we saw throughout the fourth quarter coupled with improvements in the US macroeconomic indicators and signs of stability in Europe point to topline growth in our core carpet tile business for 2017. We think the core growth will be in the range of 3% to 4%. Our second initiative is to optimize our flagship manufacturing and distribution assets in Troup County, Georgia. As I mentioned earlier, we completed the transition to a new distribution center and we have substantial capital upgrades to our manufacturing plan for 2017. Ultimately our Troup County optimization project when it's completed will yield annualized savings of $30 million with those full benefits flowing in 2019. Thirdly, we have now entered the modular resilient flooring market with a unique product that allows customers to integrate hard and soft flooring in a truly modular installation.

As we described in the recent press release, we rolled out the full LVT product launch in the Americas earlier this month and the other regions around the world will follow in the coming months. Lastly, I described our planning discipline around SG&A expenses. Our fourth quarter spending level results put us on a run rate to achieve our annualized SG&A target, again which is about 26% of sales or $260 million to $265 million. With the operational cost structure we've created along with our product innovations and upcoming plant improvements, I believe we're poised for both revenue and earnings growth in 2017. I also believe we're well on our way towards becoming the world's most valuable interior products and services company. And with that, I'll turn it over to Greg for more discussion on the fourth quarter.

Thank you and good morning, everyone. I'll take a few minutes now to walk through the financial highlights for the fourth quarter. Sales for the fourth quarter of 2016 were down 2.9% to $239.5 million versus $246.6 million in the fourth quarter of 2015. On a consolidated basis, currency was not a significant factor in this decline as on a constant currency basis, our sales declined approximately 2%. Changes in currency rates had a negligible impact on operating income for the quarter. As we saw in the third quarter, our gross margin was down compared to the corresponding period in 2015. For the fourth quarter of 2016, our gross margin was down 220 basis points to 37.6% of sales versus a very strong 39.8% of sales in the fourth quarter of 2015. As Jay has already mentioned, the largest factor in this decline was the impact of a third-party warehouse move in our Americas group and associated transition issues.

Costs associated with the start-up and service level of the recovery efforts totaled approximately $2.5 million for the fourth quarter. We believe those issues are behind us now as customer service levels are returning to expected levels and we iron out the transition concerns. It is worth noting that Europe despite the Brexit headwind managed to improve its gross margin over 200 basis points for the quarter. On a consolidated basis, we did see an improvement in gross margin on a sequential basis versus the third quarter of 2016 as well. Our sales in the Americas were down slightly with corporate office flat for the period versus the fourth quarter of 2015 and non-office segments' declines 9% in retail and 7% in healthcare were partially offset by a 14% increase in education sales. The FLOR business was down approximately 6% for the quarter versus a very strong quarter in 2015.

As previously announced, we are significantly restructuring this business to exit the majority of our retail stores while maintaining an online presence as well as three design centers. We have already closed three retail stores and are keeping the remaining stores open for the balance of the first quarter. Sales in Europe were down 9% as translated into US dollars for the quarter, but were impacted by both the weaker pound and euro. As on a currency neutral basis, sales were down 4% in the region for the fourth quarter of 2016 versus 2015. As expected, due to the Brexit and associated issues, the most significant decline was in the United Kingdom where sales declined over 25% in US dollars and 18% in pounds. The rest of Europe was slightly higher in constant currencies for the quarter and through the first seven weeks of the year, the order trend in Europe is positive overall.

Asia Pacific sales for the quarter were flat compared to the fourth quarter of 2015 with a 10% decline in Asia offset by an 11% increase in Australia. Currency was not a significant factor in the comparison and was in fact a slight tailwind for the region. Non-office segments experienced a 15% increase for the quarter with improvements in government and hospitality, corporate offices down 5% for the quarter in Asia Pacific. As Jay has discussed, SG&A expense was the highlight for the quarter as we saw improvements in both absolute dollars as well as a percentage of sales as compared to the fourth quarter of 2015 with SG&A at 26.6% of sales for the fourth quarter as compared to 26.8% of sales for fourth quarter of 2015. This represents the first quarter of the year that showed an improvement as compared to the prior year period. Our SG&A expense of $63.8 million is in line with our target run rate of $260 million to $265 million.

The decline in SG&A expense is due to lower administrative selling and marketing costs as well as lower incentive compensation costs for the quarter. As we have previously communicated, we intend to use the SG&A savings from our restructuring plans to reinvest in our strategic priorities to grow both the core carpet tile business and our new modular resilient flooring product lines. As previously announced, we incurred a restructuring and asset impairment charge of $19.8 million in the fourth quarter that included workforce reductions of our FLOR team members and a number of other employees in the commercial business in the Americas and Europe as well as writedowns of certain underutilized and impaired assets. These actions are well underway and we could start to begin realizing the savings from these actions in the first quarter of 2017 with full realization in the second half of the year.

Despite the lower sales and stepback in gross margin thanks to the SG&A performance, we exited the fourth quarter of 2016 with operating income excluding the aforementioned restructuring and asset impairment charges of $26.2 million or 10.9% of sales compared to $27.6 million or 11.2% of sales for the comparable period in 2015. Including the restructuring and asset impairment charges, our operating income for the fourth quarter of 2016 was $6.4 million or 2.7% of sales. Want to say a quick word on cash. As you could see from our release, we finished the quarter with cash of $165.7 million, an increase of $52 million during the quarter. This increase was a result of borrowings in which one of our foreign subsidiaries through EUR61 million under our syndicated credit facility. The funds were distributed to the US to fund current and projected cash needs including capital expenditures associated with our Troup County optimization project and anticipated share repurchases.

A significant portion of these borrowings are expected to be repaid in the first quarter of 2017. Absent this increase in borrowings, our cash declined by about $11 million for the quarter; of which $8 million was due to the repurchase of 515,000 shares of our common stock under our established repurchase plan. As described in our earnings release, our debt net of cash on hand was $104.7 million as of the end of 2016. This is compared to debt net of cash on hand of $137.8 million as of the end of 2015. Our interest expense was $1.4 million for both the fourth quarters of 2016 and 2015. Depreciation and amortization was $8.2 million in the fourth quarter of 2016 compared to $7.6 million in the fourth quarter of 2015. Capital expenditures for the quarter were $7.2 million compared with $3.5 million in the comparable period of 2015. For the full-year 2016, our capital expenditures were $28.1 million compared to $27.2 million in 2015. With that, I'll open the call up for questions. Operator?

(Operator Instructions) John Baugh, Stifel.

Dan, congrats on a great career and Jay, good luck in your new role. I wanted to first ask a question on the Troup County move. I think you mentioned service levels got better. Assuming service levels then were impacted, is there any way to think about how that maybe interrupted revenues in either the fourth quarter or how it could impact first quarter?

John, honestly it's hard to say. I don't think we lost any business. We just didn't get it out the door when we should have so we disappointed some customers along the way. I think we'll repair those customer relationships here in the first quarter. I'm thrilled with the new operation, I want to be clear about that, really a significant step forward for us.

And in terms of how you measure in-stock or delivery times or whatever the metrics may be, as we sit here today, those are back to normal levels or maybe even improved or where are we?

Actually improved. We look at on-time and full delivery and we're running above 95% now, which is a world-class metric.

Raw materials, update us what you're seeing there. There's been a lot of discussion about some of the increases in some of the chemicals or perhaps temporary and not sustained, but just curious what your suppliers are telling you and what you're expecting?

We're definitely seeing headwinds in input costs. We're estimating for the full year to be between $10 million and $13 million of raw material inflation. Fortunately we're in a good position to help offset that with our productivity initiatives. So, in our core business we're still seeing a 50 basis point improvement in gross margins offset of course by the exit out of the FLOR business. So, net-net I see our margins between 38% and 38.5% for the year.

Okay. And I wanted to follow up on the definition of core business. So, I think you mentioned something about revenues or orders this year. Just define for us is that simply taking out FLOR or is that US only or the consolidated et cetera?

That's a good question, John. When I talk about core, I'm really talking about our global carpet tile business so taking FLOR out of that. So, the revenue walk outlook for the year is kind of walked like this and we're going to have a negative roughly 140 basis points because of the FLOR store exits. We think the core carpet tile business is going to grow in the 300 basis point range and that LVT is going to add between 200 basis points and 250 basis points. So, you walk that down and we're looking at roughly 350 basis points of growth for the year.

And my last question is around the UK, could you perhaps walk us through the progression of that business in the fourth quarter and what you're seeing in the first quarter? I think you said orders in Europe are up year-to-date seven weeks and I assume that includes the UK, but love a little color on the UK and Europe in general.

Let me start with 2017 and then we can walk back to the fourth quarter. On a currency neutral basis, orders in Europe are up about 4% year-to-date so through the first seven weeks. On a pure euro basis, we are actually down 2% and that's the impact of the British pound. So in local currency, our business is up; but as it's translated to either the euro or dollar, it's actually down.

And the fourth quarter, were there any trends there in the UK stabilizing and what did you see year-to-date in the UK?

So, again in British pounds we've seen a growth in the UK year-to-date so in the first seven weeks we're up about 5% in British pounds. So, that's actually really encouraging news and that trend did start in December. And I know we're talking about the UK, but post US elections we really saw a rebound in our business globally.

Matt McCall, Seaport Global Securities.

Congrats Jay, on the new role and Dan, good luck on the next phase, your next venture. So, maybe follow-up on that last question from John. You said, Jay, that you saw an inflection in order patterns, can you put any numbers behind that? How the quarter progressed and what you're seeing kind of year-to-date overall by geography, whatever you want to share?

So core was down double-digits, November was basically flat and December was up about 8%. So that all combined for a slight decline, but the optimism as we head into the year and so the first seven weeks we're seeing about plus 5% globally. That's currency neutral. It's about 4% if you let currency flow through there.

Okay. And what about North America specifically?

It follows that trend.

So you quantified the distribution moves, I think you said or $2.5 million maybe that was you, Greg. So, all that's going to be gone in Q1 or are there some residual effects that will impact the margins as we start the year?

So if you look back over the third and fourth quarter, we spent about an incremental $5.5 million. I think we'll recapture at least $4 million of that in this year and maybe more. So we're operating a slightly higher target than what we had set out, but I think over the next three or four months, we'll figure out how to run at the target levels. What was critical, Matt, is that we got the service levels where we needed them so we've got a little bit labor at it. But the operation is running really well, really pleased.

Okay. So, you talked about the LVT launch so the US launch occurred you said earlier this month so February so all this is going to hit 2017. Can you quantify the impact on SG&A? SG&A outlook's good at $260 million to $265 million so how much incremental spend associated with LVT both in the US and globally is included in that number?

We reallocated about $10 million SG&A cuts into growth initiatives including LVT. So, roughly $5 million to $6 million is what we're putting into the LVT launch.

Okay. And any thoughts on where are that other $5 million went?

It went to refuel incentives, which we didn't pay out at full payment last year.

Kathryn Thompson, Thompson Research GP.

Dan, best of luck, I know you'll be enjoying some of your Florida State football. And Jay, best of luck in your new role. Wanted to follow up on LVT. Wanted to get additional thoughts on the mechanics behind LVT rollout, what's the initial reaction been to the market, and additional color just in terms of balancing the dynamic of rising raw materials and margin profile for that product relative to carpet tile given the raw material dynamics? Thank you very much.

The market reaction to LVT has been tremendous. The energy level from our selling organizations around the world have just been incredible, Kathryn, honestly. The thing that most excites the customers is first of all, the full integration between hard and soft with no transition strips required. Secondly, the modularity of the product that it goes down with our tack tiles. And thirdly, the other piece of feedback I've gotten just recently is because we designed the product at the exact same size as our carpet tile, the designers have really reacted to that very positively. So, we did launch the product in February into the US selling organization, actually across North America so it includes Canada and Mexico, and then we will begin late in the first quarter to roll that out in the UK, Spain, France, China, and Australia.

So, we've had sales meetings in each one of those markets to introduce the product to the selling organization and we start to sell in late March. Regarding the margin structure of the business, I've talked to you previously that we modeled this business at 35% gross margins and accretive operating margins at about 20%. We're running north of that right now and the market reaction to our pricing has been very positive. So right now as we fold it into the P&L, it's margin accretive even at the gross margin line. We'll see how that goes, we're protecting ourselves. I think the modeling is still safe at 35% and we haven't experienced any cost increases from our Asian supplier as of yet. So, I'm feeling really bullish about the margin structure of the LVT business.

I know you have a couple of moving parts with some of the operational changes that you really have been looking over the past several years with the entire Interface team, but also in particular over the past two quarters it sounds like you're mostly there in terms of completion. But as you walk through the year and more importantly as you look over the next two to three to four years, where do you see Interface's business strategically? Where would you like it to be by the end of 2017 in terms of mix and margin looking at both gross margins and SG&A? And then over the next a little bit more longer term, two years to three years, where would you like that to be?

Let me start with the latter and I'll go to the former. You know that our margin goals as a company is to get to 40% gross margins and 14% to 15% operating margins and I think we're well on track to get there. We're not going to get there this year, but I certainly expect getting there over the next two years. This year our margins, I'm expecting gross margins in the 38% to 38.5% range and SG&A at about 26%. So, we are looking for a step-up in our operating margin to roughly 12% to 12.5%.

Thanks very much for taking my questions today and good luck to both you and Dan.

You didn't mention my Harvard football team by the way.

Last time I checked, Dan's team did a little bit better so best of luck.

(Operator Instructions) David MacGregor, Longbow Research.

To what extent is the order growth tied to the LVT launch or is the order growth you referenced excluding LVT?

It doesn't include LVT yet so that's all core carpet tile growth.

You talked about the LVT launch and thanks for going through the detail on that. How should we think about the upfront costs of the launch and to what extent could that change some of the numbers that you referenced as being kind of your baseline expectations?

The biggest single cost in the launch is frankly sampling, which will grow with sales. So, it's not a front-loaded event.

Certainly the Troup County manufacturing optimization project, I think it was expected to generate about $7 million of the total of $30 million in savings in 2017. Is this still a good number we can use?

Yes.

There are no further questions in queue so now I'd like to hand the call back over to Jay Gould, President, for closing comments or remarks. Sir?

Thank you for your support. I know this is an emotional time seeing Dan kind of step into a new role. I just want to reinforce he's not leaving us, he's staying on as Chairman and a real advisor to me. And Dan, you've built an amazing company, I'm so happy to help you create value with it as we look forward and 2017 is going to be a great year. So thanks, everyone, appreciate it.

Ladies and gentlemen, thank you for your participation on today's conference. This does conclude the program and you may all disconnect. Everybody have a wonderful day.