Unifi Inc (UFI) 2014 Q2 法說會逐字稿

Good morning. My name is Melissa and I will be your conference operator today. At this time, I would like to welcome everyone to the Unifi's second-quarter earnings call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question-and-answer session. (Operator Instructions).

Thank you. I would now like to turn the call over to Mr. James Otterberg.

Thank you, operator, and good morning everyone. Joining me for the call today is Bill Jasper, our Chairman and Chief Executive Officer, and Roger Berrier, our President and Chief Operating Officer.

During this call, we will be referencing a webcast presentation that can be found at unifi.com. The presentation can be accessed by clicking the 'Second Quarter Conference Call' link found on our home page.

Before we begin, I need to first advise you that certain statements included on today's call will be Forward-Looking Statements within the meaning of federal securities laws. Management cautions that these statements are based on current expectations, estimates, and/or projections about the markets in which the Company operates.

These statements are not guarantees of future performance and involve certain risks that are difficult to predict. Actual outcomes and results may differ materially from what is expressed, forecasted, or implied by these statements. I direct you to the disclosures filed with the SEC in our Form 10-K and Form 10-Q's regarding various factors that may impact these results.

Also, please be advised that certain Non-GAAP financial measures, such as Adjusted EBITDA, will be discussed on this call and a Non-GAAP reconciliation can be found in the schedules to the webcast presentation.

Before we get to the financial details for the quarter, I'd like to turn the call over to Roger, who will provide you with an overview of the Company's markets, raw materials and some operating trends. Roger?

Thanks, James, and good morning, everyone.

I will start this morning with a few brief comments regarding the retail market.

Retail sales of apparel in the December quarter were up 4.7% compared to the prior year December quarter, and reflected a pickup in demand from consumers, along with signs of a strengthening economy. Based on the relative strength of retail apparel sales during the holiday selling season, inventory days at retail have remained steady at approximately 69 days which is a very encouraging sign going forward. The temperatures at the end of the year helped move inventory of cold weather merchandise, which will be a big plus to retailers as they transition their inventory to spring clothing. This should also benefit our sales volumes during the next nine months, as replenishment of this merchandise takes place.

In terms of total synthetic apparel consumption in the region, which includes NAFTA and CAFTA, held its sourcing share of synthetic apparel at a steady rate of 18% for the last five years, and the total square meters of synthetic apparel sourced from the region is expected to have increased 6% to 7% for 2013 compared to 2012. Another positive sign for our business is that synthetic apparel versus cotton apparel and other types of yarns has increased in each of the last five years, growing from a 38% share in 2008 to an estimated 49% share in 2013.

In terms of our other key segments, retail sales of home and office furnishings increased 6.7% in the December 2013 quarter compared to the December 2012 quarter, and U.S. auto sales increased 6.0% for the same period.

In terms of polyester raw materials, prices have stabilized over the past three quarters, and we don't expect any significant changes to raw material pricing in the March quarter.

The gap in polymer pricing between the U.S. and Asia was approximately $0.14 per pound in the December 2013 quarter compared to approximately $0.12 per pound in the December 2012 quarter. This polymer gap continues to put pressure on the lower end of our commodity business and makes it difficult for us to compete with imported yarns in market segments that do not require compliant yarns.

Overall domestic volume decreased year over year in the December quarter, primarily driven by the timing of the holiday shutdown which affected domestic sales activity during the second quarter versus the third quarter in the prior year. On the other hand, the Company experienced margin growth as a percentage of sales revenue in our domestic operations during the December quarter. This margin growth is primarily attributable to increases in our premier value-added yarns and the Company's decision to exit low to negative margin business due to yarn imports and the current pricing dynamics in this segment. Textile utilization rates in Asia remain very low, and Asian manufacturers are aggressively exporting product into the U.S., Europe, and Brazil at the low end of the market price range. The Company continues to emphasize its strategic focus on products that are profitable, defensible and compliant.

Overall, gross profit from our operations in Brazil declined slightly in the current December quarter compared to the prior year December quarter for two principal reasons: One, lower margins attributed to price pressure from imported DTY; and two: changes in currency translation stemming from the weakening of the real against the U.S. dollar, which reduced profits when stated in U.S. dollars. With continued pressure on our margins from imports in Brazil; particularly at the low end of the market price, we will continue to focus our efforts on mix enrichment as well as our initiatives to recover gross profit through pricing strategies, improved capacity utilization, and overcoming the loss of VAT benefits with the reduction in POY import duties.

Despite an inflation rate of nearly 6%, we continue to believe that overall business conditions in Brazil will improve. The improvements will be gradual however as we move through the second half of the current fiscal year and into our next fiscal year. That said, we are encouraged by the amount of development work that we are involved in, which is focused on mixed enrichment with higher margin products such as solution dyed yarns, air covered yarns, and REPREVE programs. These programs can take anywhere from 6 to 12 months to get adopted, and we might not necessarily see a significant turnaround from Brazil in the balance of the 2014 fiscal year.

The soft market conditions in China resulted in lower sales volume in the December quarter, which were partially offset by improved unit gross margin. We remain committed and encouraged by our business platform in China and we still expect several new programs to come online that utilize Repreve and other PVA products in calendar year 2014.

To continue to build consumer awareness for our flagship Repreve product, Repreve will return as the official recycling sponsor of ESPN's X Games Aspen, which will start tomorrow and continue through Sunday, January 26th. REPREVE will help make X Games Aspen greener by turning more than 100,000 recycled plastic bottles into ESPN course signage and lanyards as well as REPREVE-based merchandise such as shirts and beanies.

A highlight of the event will take place on Saturday, January 25th, when REPREVE will help X Games Aspen turn the SuperPipe green. Thousands of lime green REPREVE beanies, each of which is made from 6 recycled plastic bottles, will be distributed to fans at the Women's SuperPipe finals, and we hope you'll tune in to see the excitement being created around REPREVE.

Elena Hight, a Women's Snowboard SuperPipe professional athlete and two-time Olympian, will once again be featured in a TV ad showcasing the REPREVE brand on ESPN during X Games Aspen. This year, her competition jacket by Volcom will be made with REPREVE, using 50 recycled bottles. Elena has also collaborated with Volcom and REPREVE to design exclusive REPREVE-based T-shirts, which will be available through Volcom.com and REPREVE.com.

We are also launching a consumer-driven #TurningItGreen campaign that will focus on education and the benefits of recycling. The campaign will invite consumers to submit photos or videos that show how they live a more sustainable lifestyle by recycling or reusing materials. We invite you to visit our repreve.com website to see more on our Repreve marketing efforts.

Given the success of REPREVE to date, we announced last year that we would increase capacity at the Repreve Recycling Center in Yadkinville to produce more Repreve and other PVA products. We expect the machinery for the third line in the Repreve Recycling Center to arrive in late March, and we will have the new equipment online in our fourth quarter this year. Once up and running, the new machinery will result in a 70% increase in our domestic capacity to produce Repreve.

In addition to the production of Repreve yarn, we continue to sell Repreve chip into other market segments that do not compete with our core yarn business. This initiative continues to provide growth for our Repreve polymer, and we are excited about several potential contracts under negotiation to supply Repreve chip.

With that as a backdrop, I will turn the call back over to James.

Thanks, Roger.

I will begin with a review of our preliminary Financial Results for the December quarter on page 3 of the presentation, with Net Sales and Gross Profit Highlights by Segment.

For all periods presented, the Company's Polyester Segment has experienced sales volume and revenue declines that have been offset by improvements in gross profits. The timing of the holiday shutdown and reductions in lower margin business are the primary reasons for the sales volume and revenue declines, while the Company's mix enrichment strategies improved average selling prices and gross profits.

Sales volume for our Nylon Segment was also impacted by the timing of the holiday shutdown, but that impact was offset by new PVA programs that contributed to improvements in average selling prices and gross profits.

For all periods presented, the Company's International Segment has experienced declines in sales volume, net sales and gross profit.

While overall sales volume for our Brazilian operation has remained relatively flat, net sales and gross profits have decreased due to: changes in exchange rates; and an unfavorable change in mix as more volume is concentrated within Resale products.

For China, a soft market has created period over period declines in sales volume that have unfavorably impacted net sales and gross profit.

Turning to the Income Statement Highlights for the three months ended December 29, 2013, which are shown on page 4, the Company is reporting earnings per basic share of $0.34, on net sales of $160.6 million. Although net sales declined, earnings per basic share increased $0.22 per share from the $0.12 per basic share reported for the December 2012 quarter. This increase in EPS was due to: the improvement in gross margin from 9.7% in the prior period to 11.5% for the current quarter; the benefits of lower net interest expense; and improved earnings from our equity affiliates which will be discussed later in this presentation. Gross profit increased $1.8 million and 180 basis points due to: higher conversion margins from mix enrichment efforts and lower depreciation expense; while SG&A Expenses remained relatively flat versus the prior year period. These improvements, when combined with $3.9 million of increased earnings from equity affiliates, increased Pre-Tax Income for the December 2013 quarter to $10.1 million versus $4.4 million for the prior year quarter.

Turning to the Income Statement Highlights for the six months ended December 29, 2013, on page 5, the Company is reporting earnings per basic share of $0.80, on net sales of $329.3 million. Earnings per basic share has improved $0.57 per share due to: improvements in the Company's gross margin; combined with declines in SG&A and interest expense; as well as improved earnings from our Joint Ventures. Gross profit increased $3.8 million and 160 basis points, due to: higher conversion margins from mix enrichment efforts and lower depreciation expense; SG&A expenses declined due to lower sales and slightly lower spending levels for the domestic operations; and Interest Expense declined due to: the benefits of both lower average debt balances outstanding and a lower weighted average interest rate. As a result, Income Before Income Taxes of $24.5 million for the six months ended December 29, 2013 improved $14.8 million versus the prior year.

Turning to the highlights for our Equity Affiliates on page 6, the Company's share of Earnings from Parkdale America during the current quarter increased to $4.8 million versus $655,000 for the prior year quarter; and $10.7 million for the six months ended December 2013 versus $697,000 for the six months ended December 2012. The results for Parkdale America have been favorably impacted by higher operating margins and the timing of deferred revenue recognition related to the EAP cotton rebate program. For the first six months of the Company's fiscal year 2014, cash distributions received from Parkdale America have totaled $2.6 million. In addition, for the current fiscal year, earnings from the Company's Nylon POY joint ventures have totaled $527,000.

Turning to page seven, adjusted EBITDA for the three months ended December 29, 2013 was $12.6 million versus $12.2 million for the prior year period. For the six months ended December 2013, the Company's Adjusted EBITDA improved $1.1 million over the prior year period to an Adjusted EBITDA amount of $27.0 million, at an EBITDA margin of 8.2% or 68 basis points higher than the prior year. Add-Backs to arrive at Adjusted EBITDA for the current fiscal year to date period included: non-cash compensation charges; expenses for Repreve Renewables; and cost incurred to relocate machinery; as well as amounts provided for severance costs.

Turning to the Working Capital Highlights on page 8, Adjusted Working Capital decreased $10.6 million during the December 2013 quarter primarily due to: decreases in sales volume impacting Receivables; the reduction of on-hand inventory pounds; and the effects of a weakening Brazilian Real versus the US dollar. The Company expects that its investment in Adjusted Working Capital will increase during the March 2014 quarter.

Turning to the Capital Structure Highlights on page 9, the Company ended the December 2013 quarter with Total Debt of $102.8 million and Net Debt of $87.3 million. For the first half of fiscal year 2014, the Company generated $22.6 million of cash from operating activities, which was used to:

Repurchase 771,000 shares of the Company's Common Stock at an average price of approximately $24 per share; and,

Invest $9.4 million in new capital expenditures.

As of December 29, 2013, Cash on hand was $15.5 million and $28.1 million was available under the Company's ABL revolver.

Before I turn the call over to Bill, let me also note that,

We expect to file our Form 10-Q for the December quarter on or before the filing deadline which is Friday, February 7th.

With that, I would now like to turn the call over to Bill.

Thanks, James, and good morning, everyone.

I am pleased with our earnings results for both the December quarter and the first half of our fiscal year, particularly as they relate to our domestic business. The stability in the price of raw materials, coupled with our ongoing strategic focus on lean manufacturing initiatives, enriching our product mix and deriving value from sustainability initiatives, contributed to significant improvements in our domestic gross margins. We expect to see strong demand for our PVA products continuing into the second half of the fiscal year, and we are encouraged by the ongoing consumer shift towards synthetic apparel and the continued growth in regional production.

However, as both Roger and James mentioned, we are disappointed by the pace of recovery in our international operations. Brazil and China are lagging the first half of this fiscal year versus the same period last year, both in terms of revenue and earnings. The consumer demand in Brazil continues to be hamstrung by high inflation and a weakened economy, and these conditions continue to negatively impact our revenues and gross profit. And as Roger mentioned, China market conditions are soft and our volumes there have suffered. We will, however, continue to focus on increasing sales of our higher margin products as well as our PVA products in both Brazil and China, and aggressively managing price to overcome inflationary cost increases.

One thing I would like to specifically touch on is our year-over-year revenue declines in both the December quarter and in the first half of our fiscal year, which totaled $15.7 million. In our first fiscal quarter, the strong performance in our domestic operations was offset by revenue declines in our international segment. In our second fiscal quarter, the international shortfall continued and makes up over half of our total year-to-date decline. Domestically, we experienced lower sales volume in most product lines in the second fiscal quarter due to the timing of the holiday shutdown period, which fell primarily in the second quarter while it spanned the second and third quarters in fiscal year 2013. This timing issue, in itself accounted for approximately half of the fiscal year-to-date decline. Other than that, our domestic revenues were flat. Lower volumes in our POY and DTY segments due to our strategic decision to exit low or negative margin business, as well as a consumer driven shift to a lighter denier mix, were replaced with higher margin beaming, nylon, and PVA programs.

When evaluating the Company's overall performance, however, the Company improved operating income by $3.4 million and adjusted EBITDA by $1 million despite this year over year revenue decline.

Turning our attention to the Trans Pacific Partnership trade pact negotiations, which I discussed in the past, little has happened in these negotiations since our last conference call. The Obama administration's goal to complete these negotiations in 2013 was not met and several difficult issues remain to be resolved beyond the textile chapter. These include contentious Agricultural and light truck tariff cuts, import safeguards, monetary policy, and the U.S. government's aggressive environmental agenda. Textile negotiations have nearly concluded and the US textile industry remains heavily involved. My expectation now is for possible completion of the negotiations sometimes in mid-2014, though that is likely to be a moving target.

Deriving value from sustainability based initiatives is one of Unifi's business strategies. And, as I have shared with you in the past, Repreve Renewables is one of these initiatives. Let me share a brief update with you as to our progress with this business.

Our focus for the remainder of fiscal 2014 is to develop the animal bedding market, specifically poultry bedding. We have three core goals for the year. One, secure commercial scale trials with the leading poultry integrators in the US. Two, prove the ability and value proposition to contract or lease acres and have our largest planting year ever and three, prove the product value with the integrators. Through the first two quarters of our fiscal year, we have successfully gained commitment for commercial trials from 10 leading integrators in the US, representing over 30 chicken and turkey commercial scale grow-out facilities. These integrators represent leading household brands of turkey and chicken products today. We have over 700 acres under contract with more to come for our spring planting which is a significant increase over previous years. We anticipate we will gain sufficient performance data from the trials we will be running over the next year to clearly define the value proposition in this market. If these efforts are successful, we would expect significant growth in our planting and product revenues into this market in 2015.

Before I turn the call over for questions, I would like to take a few minutes to touch on cash. Due to our strong financial performance, we have generated sufficient cash to fund important strategic capital projects. For instance, we have recently purchased and installed eight texturing machines in our domestic operation, installed two additional texturing machines in El Salvador, and contracted to purchase all equipment for our recycle center expansion project which will increase capacity by 30 million pounds and is expected to be completed in our fiscal fourth quarter as Roger mentioned. In addition to this, we have repurchased in excess of 1.8 million shares of our common stock over the last 12 months for roughly $38 million. We have achieved this while reducing net debt by slightly more than $4 million in that timeframe. Through these strategic initiatives, we have significantly enhanced shareholder value over the last 12 months.

We are very pleased with our overall performance, and will continue to focus on our core strategies to drive further improvements in the second half of our 2014 fiscal year. Looking forward, we expect that the anticipated stability of raw material prices and the strength of our domestic business will offset the slower recoveries in our international operations. We expect Adjusted EBITDA in the third quarter to be slightly lower than the second quarter due to negative manufacturing cost variances that were generated from the holiday shutdown that will be partially offset by higher sales and revenues. However, we expect, on whole, the second half of this fiscal year to be better than the first and re-affirm our guidance of Adjusted EBITDA in the mid to high 50s for fiscal year 2014.

With that, I will turn the call over to the operator for questions.

(Operator Instructions). Chris McGinnis, Sidoti & Company.

Good morning, gentlemen. Just a couple of questions. First, on the strategy to improve your product mix. How much of that -- in exiting the lower margin business, how much of that is part of the revenue decline? The exiting of the lower margin business?

Let me first give you a number. The -- in the last half of my paragraph there before Bill talked about our cash and how well we have been generating cash, I might have said $2.6 million. It was actually $22.6 million. But when you look at the revenue declines, we will let Bill follow up, the biggest in the magnitude were the impact of the shutdown, currency changes in Brazil, and then the effects of exiting some of the lower margin business and replacing it with new programs and other PVA products. But it is not going to be a majority of the revenue decline.

And I guess just with the commentary about Asia, is there any risk that that -- the domestic volume trend changes? I think it's around that 18% if that -- I'm correct offhand -- has that changed? Is there any -- are you seeing more competition in the US coming in and is it only on the lower end and are they trying to compete at all on the higher end?

Yes. I think we are talking about a couple different things here. The actual share of the region holding firm at 18%, we expect that to continue, basically because we have got a good cost-effective supply chain set up here now which can compete with Asia. The exiting of the lower end business which Roger mentioned, that is more related to one, the cost gap between here and Asia being about $0.14; and two, there being a very slow market in China right now which is basically driving some of those yarn producers to export more to the US than they normally would and selling at, frankly, prices that are actually below their costs right now.

This happens from time to time. I don't know that it will continue, but we have been able to replace -- for all intents and purposes all of the business we exited on the low end, we have been able to replace that with higher value programs. Should that gap between here and Asia reduce, I would anticipate we could potentially pick up some of that lower end business back if it makes sense to us. But right now we are running very near total capacity with the programs we have and especially I mentioned the shift to lower deniers. A lot of the programs here in this region have shifted to lighter deniers which doesn't necessarily affect our margins though it does affect our revenues slightly.

So overall, I think those are the two things that are going on right now.

And Bill and Chris, just to add to Bill's comment, your reference to the imports usually are coming at the low end of our business. So, that -- the commodity sector, so as we talk about product mix enrichment, replacing that lower end business with more value-added products, differentiated products through our product development efforts has been one of our core strategies for several years.

I appreciate that. I guess just in supporting the REPREVE initiative and in your PVA initiative, I am a little surprised to see your SG&A flat year over year. Can you maybe just talk about a little bit what's -- how you are controlling that, but also supporting your newer growth initiatives?

Yes and if you look at our consumer marketing campaign with REPREVE, you look at our spend rate last year versus this year, last year we spent a lot of money creating I would say a lot of backbone-type website activity and marketing collateral.

This year we didn't have to re-spend that money. So we had more funds going out directly to more consumer marketing. Last year we were building up a lot of that foundation of the platform. So, our exposure out to the consumers is probably a little more this year than last year, even though our SG&A expense in that area is relatively flat.

And just to touch on Renewables real quick, obviously the Chemtex plant opened or at least broke ground. Could you talk about maybe any contracts you have with that or maybe provide a little more insight of your relationship with the Chemtex plant?

Okay. We have contracted a couple hundred acres for that plant in southeastern North Carolina, and I would expect once the plant begins to be built and once they begin to -- the farmers there have a little more confidence in that plant being built, I suspect we could have some additional sales. Now the majority of the feedstock today is going to be Arundo and Switchgrass which has already been contracted. But I would expect that there is potential for some more business there.

Is there anything else on the horizon for that or on the bio side -- on the biofuel side?

Well, certainly there are several different competing technologies which are being developed right now. I would expect at some point in time we will determine what the winning technologies are, and then once we do that, Miscanthus is still is at least for most of those technologies a very viable and in many cases the most effective product to be fed into those technologies. So I think once the industry sorts out what the winning technology is going to be, there will be some significant opportunities for us.

But that is still probably a few years down the road, which is why we are focused now on a market that appears to be ready and which is the poultry bedding market.

No, that makes sense. And just in looking at things, Europe is pretty strong. Similarly Europe has a stronger presence of the Miscanthus and the bedding market already and should sort of adapt over time here, I would imagine.

Yes. I mean certainly in Europe, miscanthus is very strong in the power market also, the electricity market. A lot of electricity there is generated by biomass and a good portion of that is miscanthus. But that market is much more mature there in Europe than it is here in the US.

Sure. And with the testing that you do have wound up over the next year you talked about, do you see any problems with -- I guess, what are the issues in terms of getting the supply? Is it getting farmers to come on board still, or is that going to be your own that you are going to grow yourself? Could you maybe walk us through how you plan to supply the kind of demand for the bedding market?

Well, first let me talk about our testing. Right now, our testing is with several of these -- they are called chicken houses, but they are really growth facilities for chickens. And what we are replacing is basically sawdust and woodchips. Initial testing we did at the North Carolina State University indicated that the health of the chickens and the growth of the chickens was actually enhanced by using chopped miscanthus versus the woodchips.

We are now going to confirm that or we will either prove or disprove it and in some large commercial scale test, should that be successful, the demand could be quite large. We have got two different models. One is we would be potentially leasing land ourselves and growing it, selling it. Another model is we would be planting for farmers who would then grow it and sell it. And we are probably going to have some mix of those two scenarios should we be successful and move forward.

Now, should we be successful, my anticipation would be several thousand acres would be planted over the next couple of years to feed a multiple number of tons into this market. But, again, until we prove the value proposition and the viability of this product in that market, it is going to be difficult to say how big it could be. But certainly if we are successful, it could be quite large, but again, still probably two or three years down the road.

Great. Thank you very much for the time today.

(Operator Instructions). There are no further audio questions at this time.

Okay, thank you, operator. And I guess, thank you all for joining in. We are looking forward to continuing to improve and we will continue to update some of these potential benefits in future quarters. Thank you.

Thank you for joining today's conference call. You may now disconnect your lines.