Acme United Corporation
Q3 2019 Earnings Call Transcript

Published: 18 Oct 2019

[Operator:]

Good day, and welcome to the Acme United Corporation’s Third Quarter 2019 Earnings Conference Call. At this time, I would like to turn the conference over to Walter Johnsen, Chairman and Chief Executive Officer. Please go ahead sir.

[Walter Johnsen:]

Good morning. Welcome to the third quarter 2019 earnings conference call for Acme United Corporation. I’m Walter C. Johnsen, Chairman and CEO. With me is Paul Driscoll, our Chief Financial Officer, who will first read a safe harbor statement. Paul?

[Paul Driscoll:]

Forward-looking statements in this conference call, including without limitation, statements related to the company’s plans, strategies, objectives, expectations, intentions and adequacy of resources are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995.Investors are cautioned that such forward-looking statements involve risks and uncertainties, including without limitation the following

[Walter Johnsen:]

Thank you, Paul. Acme United had a strong quarter of – third quarter of 2019. Our sales were $37 million, an increase of 7% over 2018. Our net income was $1.1 million, an increase of 31%. Our earnings per share were $0.30 compared to $0.23 last year, a 30% increase. We had excellent performance in the U.S. from our first aid and safety business. Our SmartCompliance first aid kits, which provide comprehensive safety products to employers, had particularly strong sales. The sales increase demonstrates how much employers value the fast, easy to requisition manage and track items that we are offering.We began starting several new industrial distributors and had growth with many of our large industrial customers. Our first aid refill business with our SafetyHub replenishment software continued to generate exceptional results, which is encouraging and demonstrates the potential strength of this business in the future. The Westcott school and office business had a solid back-to-school performance with online sales as we expanded categories and products with e-commerce retailers. We also had substantial growth with the mass market.The office superstore market in the U.S. was weaker than last year, reflecting overall trends that I’ve talked about in past quarters, but it is a decreasing proportion of our business. Our Camillus hunting, Cuda fishing, Clauss industrial cutting and DMT sharpening product lines had good performance. As you may recall, we’ve recently increased the production capability of our DMT diamond sharpening business, which is helping to propel our growth. Our international business was excellent. In Canada, sales increased due to a strong back-to-school, and our European business had a record quarter. We are gaining market share in Europe in the office products market and generating excellent sales online with all customers.We have been benefiting from the cost savings program that we instituted a year ago. As you may recall, we reduced headcount by implementing our ERP software across all our U.S. operations, improved shipping efficiency and lowered our cost to reach market. Consistent with the targets we set, these savings total about $2 million annually. We continue to identify cost-saving opportunities and are formulating new targets for 2020. Our net debt has declined nearly $11 million during the past 12 months from $46.9 million to $35.1 million. We are very pleased with this performance, and it provides new capital for growth and perhaps our next acquisition.As I have mentioned in past calls, we are always on the lookout for potential candidates, particularly in the U.S. and Canada where we have the sourcing and distribution capabilities that could quickly add value. Based on what we see now for the fourth quarter, we have updated our guidance for 2019 to $142 million in sales, $5.2 million in net income and $1.48 earnings per share.I will now turn the call to Paul Driscoll. Paul?

[Paul Driscoll:]

Acme’s net sales for the third quarter were $37 million compared to $34.7 million in 2018, an increase of 7%. Sales for the nine months ended September 30, 2019, were $109 million compared to $106 million in the same period in 2018, an increase of 2%. Net sales in the U.S. segment increased 6% in the quarter and 2% for the nine months ended September 30. Sales of first aid and safety products were strong. However, there was some softness in sales of school and office products into some of the superstores.Net sales in local currency for Canada increased 6% in the quarter but declined 3% year-to-date Net sales for Europe increased 21% in local currency for the quarter and 22% for the nine months ended September 30. The sales increase for both periods was primarily due to new customers in the office channel as well as higher sales of DMT sharpening products. The gross margin was approximately 36% in both the third quarter of 2019 and 2018. The year-to-date gross margin was 37% compared to 37% in last year’s period.SG&A expenses for the third quarter of 2019 were $11.4 million or 31% of sales compared with $11.1 million or 32% of sales for the same period of 2018. SG&A expenses for the first nine months of 2019 were $32.7 million or 30% of sales compared with $32.9 million or 31% of sales in 2018.Net income for the third quarter of 2019 was $1.1 million or $0.30 per diluted share compared to net income of $800,000 or $0.23 per diluted share for the same period of 2018, increases of 31% and 30%. Net income for the first nine months ended September 30, 2019 was $4.5 million, or $1.32 per diluted share, compared to $4 million or $1.12 per diluted share in the comparable period last year, increases of 13% and 18%.The company’s bank debt less cash on September 30, 2019, was $36 million, compared to $47 million on September 30, 2018. During the 12-month period, we paid $1.6 million in dividends, spent $0.4 million on stock buybacks and generated $14 million in free cash flow. We were able to reduce inventory by $2.3 million or 6% while growing the business 7%. We expect to end 2019 with approximately $35 million of net debt and to generate $7 million to $8 million in free cash flow for the year.

[Walter Johnsen:]

Thank you, Paul. We’ll now open the call to questions.

[Operator:]

Thank you. [Operator Instructions] We’ll take our first question from Jeffrey Matthews of RAM Partners.

[Jeffrey Matthews:]

Hi Walter thanks and congratulations.

[Walter Johnsen:]

Thanks Jeff.

[Jeffrey Matthews:]

On the cash flow there, it’s nice to see the balance sheet with some dry powder.

[Walter Johnsen:]

That was very powerful because we’ve basically recharged our balance sheet without going to any outside capital.

[Jeffrey Matthews:]

Yes. I’m not going to switch around for what you might be looking for. I really want to get to China and find out your perspective because you’ve been – so early on, the changes going on in China from a labor cost perspective and looking at other places to outsource and bringing product back into the U.S., what do you see there now? And how do you see the landscape for Acme’s supply chain over the next five years?

[Walter Johnsen:]

Well, I just returned from three weeks in China and Taiwan and Hong Kong. And I can tell you that the suppliers that we work with in all of those places are very supportive of our business, and many of them are independent businessmen. And between getting some concessions on our cost of sales because of the Chinese currency weakening and their willingness to reduce margins, we’re in a position to be able to respond very effectively, and have been, to some of the tariff issues and our customer demands. So we’re – I feel we’re in a very strong position with that.Some of the customers – some of the suppliers in China are looking to move some of their operations to places nearby China, for example, Myanmar or Pakistan or Thailand. And we will probably shift some of the supply with them. And that’s avoiding tariffs, but it’s also diversifying our supply base. The basic business in China is still very, very competitive. And when I say that, we think we were among the lowest-cost producers of some of our products like scissors in the world. And that continues to get owned better and better.So even though labor is going up and for some of the sourcing, we think we’re best positioned globally. Other areas, there’s some opportunities. Some of the first data items, we’re now sourcing in other parts of the world and stepping that up. We’re sourcing a little bit more in India. And I think that’s healthy for the company’s risk profile. But the net of this is during the past 12 months, we were just putting together what looks like our ninth record year of sales. And you can see with the gross margins, we’ve been able to maintain them and maybe able to increase them.So I’m quite optimistic as we’re looking forward. And again, the independent businessmen that we’re working with in China are absolutely in tune with us as we look to move some production to other places where maybe the tariffs aren’t as large. Then that will become a competitive advantage for us.

[Jeffrey Matthews:]

Great, thanks so much.

[Walter Johnsen:]

Thank you.

[Operator:]

Thank you. Our next question comes from Tim Call of Capital Management Corporation.

[Tim Call:]

Hello, congratulations on a great quarter.

[Walter Johnsen:]

Thank you, Tim. Tim, you’re mute.

[Tim Call:]

Sorry, congratulations on a great quarter.

[Walter Johnsen:]

Thank you.

[Tim Call:]

Falling so fast, you still have your interest expense rise. And the Federal Reserve is lowering interest rates now. So would we expect interest rates to start falling soon – interest expense to start falling for you?

[Walter Johnsen:]

Absolutely. First, we’ve got the reduction in the rates and – well, LIBOR plus 1.75%, so LIBOR has dropped. Second, our debt is now down potentially. So while we’ve got interest expense higher at this stage, you can expect that to be dropping meaningfully during the coming quarters.

[Tim Call:]

Congratulations again on a great quarter.

[Walter Johnsen:]

Thank you, Tim.

[Operator:]

Thank you. We’ll take our next question from Michael Mork of Mork Capital Management.

[Michael Mork:]

Hi. Yes, again, reiterate the other guys, great quarter. One thing that’s going to help you, as you just mentioned, was lower interest rates. Just looking at 2020, without giving any exact projections, what will be the positives, the wind at your back and what potentially could be negatives, a little wind in your face, in the year 2020?

[Walter Johnsen:]

That’s a very insightful question, Mike. Things to our positive, I think that we’re stabilizing with some of the office superstores in their – as they stabilize their businesses. So I think we’ve got a floor there in our office products area. I see fairly substantial growth opportunities with our first aid and safety business, particularly as we continue to gain with the implementation of the SafetyHub, which is the automatic replenishment. So every time you place a new first aid SmartCompliance kit, the SafetyHub is capturing an increasing percentage of the refill business.So that’s an annuity and it’s building. The decline in interest rates, every – it was an average of $40 million of debt for us, and it’s actually going to be less next year. Well, 1% is $400,000. And that means every point – every 0.25 point is $100,000. And that’s going to be in our favor. The tariffs, I feel as if we’re in control of that, and we have been. There may be an opportunity to get some savings for our products as we move to places that don’t have a tariff. We’re introducing a line of box openers that is gaining – we have introduced it, but it’s gaining positioning, and the product family is growing.And this is for opening boxes that are in distribution centers throughout the world. And that’s ceramic-based. That’s working for us, and it’s working well. There’s some declines that will be secular, the pencil sharpener business with less pencils. And that’s not that big of a business for us, but that will probably decline a few percentage points next year. The ruler business declines a little bit. But other than that, the hunting, the fishing, the DMT sharpening, these are all areas that we’re building on. So as we look into next year, the stabilizing of that office channel, which I think is happening, and then the upsides, is a pretty good platform for next year’s growth.

[Michael Mork:]

That sounds good. And of course, with your recharged balance sheet, there’s always the potential of an acquisition. And I know you don’t do acquisitions unless they’re accretive, so that’s good.

[Walter Johnsen:]

Well, you’re right. And I can’t emphasize that enough because by driving in the past year, not only the profits but getting the inventory down and generating cash flow, we did. We’ve basically done a small financing without doing it. So we haven’t – we’ve recharged and there are plenty of opportunities.

[Michael Mork:]

Yes, sounds very good. Congratulations.

[Walter Johnsen:]

Thank you.

[Operator:]

Thank you. We’ll take our next question from Stephen Percoco with Lark Research.

[Stephen Percoco:]

Thanks. Looks like you had a pretty good benefit from working capital in the quarter. I wonder if you could talk a little bit about that. And looking at last year’s fourth quarter is when you had bigger benefits, so I’m assuming you won’t have anywhere near as much of a benefit in this year’s fourth quarter. If you could confirm that, I’d appreciate it.

[Walter Johnsen:]

Okay. I will turn that to Paul.

[Paul Driscoll:]

You’re right about that. And the fact that the free cash flow for the prior 12 months was $40 million and we’re projecting $8 million for the year would suggest that we wouldn’t have as much of a benefit in the fourth quarter. And that’s mainly because the inventory reduction started the fourth quarter of 2018, so we already have that benefit. That’s a big part of why there’s a timing with the cash flow and we’re not – but we still got a very strong cash flow for the year.

[Stephen Percoco:]

Okay. Also, your CapEx are down this year, and I’m assuming that, that will continue in the fourth quarter. What’s the outlook for CapEx in 2020? And if you can identify maybe some of the bigger items that you’ll be spending money on.

[Walter Johnsen:]

Well, I would suggest to you that our CapEx will be about the same as our depreciation, which is about a little over $2 million annually….

[Paul Driscoll:]

No. I actually think it’s going to be closer to probably $3 million next year. We’re undergoing some projects that – this year was low. It’s probably $1.7 million. Last year, it was, I think, $2.5 million. But this year, it was particularly low. It’s not going to be the same next year.

[Walter Johnsen:]

Well, one area that – Steve, that we are working on is we’re putting some warehouse management software in our major distribution center during the next 12 months. And that is very powerful for efficiencies when it’s implemented. We believe that to be true. And it positions us for substantial growth with our online business. So I guess Paul is looking at that piece, and that is over and above our normal spending. But it has a reasonably good payback.

[Stephen Percoco:]

Okay. And the final question that I have, you mentioned that you’ve completed your $2 million cost reduction program. But if you look at the numbers, it suggests that you haven’t gotten the full benefit of that. In other words, $2 million hasn’t dropped straight to the bottom line. So it looks like there have been some offsets in higher costs. I wonder if you could talk a little bit about what those have been and whether you see those continuing because I’m assuming that you’ve kept the $2 million under your belt and that will continue going forward but it’s already achieved. And so the question is do the offsets in costs, if they’re there, will those continue? Will they get potentially worse down the line? Do you see them getting better? If you could give us some color on that, I’d appreciate it.

[Walter Johnsen:]

So the $2 million has been achieved, and probably more than that. However, we haven’t paid bonuses in two years, and we want to make sure that our employees are properly compensated. So that’s an offset that hopefully continues because as we drive that P&L, which, of course, to the future, that we continue to pay good, solid bonuses to our people delivering those results. But the $2 million has been achieved.

[Stephen Percoco:]

Okay. The bonuses – your bonuses don’t show up. I think the increase in the nine months or so. There have been some other offsets, have there not?

[Walter Johnsen:]

No. We accrue them during the year.

[Stephen Percoco:]

Okay. So all of the offset would be in bonuses.

[Walter Johnsen:]

Yes. Pretty much.

[Stephen Percoco:]

Okay. All right. Thank you.

[Walter Johnsen:]

Sure. Thank you.

[Operator:]

Thank you. We will take our next question from Richard Dearnley of Longport Partners.

[Richard Dearnley:]

Good morning. Could you talk about the – how the move to direct sales in first aid has been going?

[Walter Johnsen:]

Okay. So what you’re talking about is during the past several years, we’ve been moving away from manufacturers reps and putting in our own direct sales guys who would be accountable for the sales of – larger system sales. And that’s been going very well. There was a period where we ran a duplicate where we had the manufacturers’ reps plus the direct sales guys. And as part of that $2 million savings we did last year, we scaled back the manufacturers’ reps because we now had to train direct team. They’ve been responsible in part for the growth we’re getting right now with the SmartCompliance kits and the strong performance we’re getting in the first aid and safety area. So it’s working.

[Richard Dearnley:]

Great. And then the – could you talk about the mix that the refill business is at the moment of your first aid sales? Could you also break out what first aid was versus Westcott in total?

[Walter Johnsen:]

I’ll turn that one over to Paul.

[Paul Driscoll:]

First aid was approximately 42% of the total sales.

[Richard Dearnley:]

And what was that for the nine months?

[Paul Driscoll:]

It’s pretty similar.

[Richard Dearnley:]

Okay. And then the refill part of that 42%?

[Paul Driscoll:]

Refill...

[Walter Johnsen:]

I don’t think I want to get that granular, Dick. But you can be fairly certain that as you install a first aid kit, you have an annuity that follows it. And historically, one first aid kit generates about the same amount of sales refills in a year. Now that varies depending on the experience of how safe the environment is that they’re being used in. But on average, that’s where it’s been. So it’s a – the refill part is a very important part of the overall business and the [indiscernible]. And that’s why the direct sales force is so important. Hit those box out there and then you’ve got the annuity that follows.

[Richard Dearnley:]

Right, the direct sales force cares more about the sales and the follow-on part than the reps did.

[Walter Johnsen:]

Sure.

[Richard Dearnley:]

Great. Okay, thank you.

[Walter Johnsen:]

Thank you.

[Operator:]

[Operator Instructions] We will take your next question from Jeffrey Matthews of RAM Partners.

[Jeffrey Matthews:]

Hi, Walter, I want to follow-up on the acquisition environment. You made the comment that there are a lot of opportunities, and that’s not really intuitive given how much private equity money is chasing deals. And I know you are opportunistic. I know you tend to do smaller businesses. But what’s making there lots of opportunities? Is it a function of something going on in the environment? Or is it a function of things you’ve done to kind of get your infrastructure in place and your relationships with the online sellers in place? What is it that’s providing opportunities, do you think?

[Walter Johnsen:]

So we’ve been contacting companies for the last 15 years. And all of the companies – not all of them, most of the companies that we’ve acquired have been self-generated. So there are companies that either we compete with, there are adjacencies to our existing business or we see them out at trade shows. And it looks like a step that would be appropriate for us. So there’s a 15-year database of that. And so when I say there’s a lot of opportunities, these aren’t out in the market and they typically haven’t been. So there’s a lot of opportunities.

[Jeffrey Matthews:]

All right. Great. Good luck.

[Walter Johnsen:]

Thank you.

[Paul Driscoll:]

Thanks.

[Operator:]

Thank you. And at this time, there are no questions in queue.

[Walter Johnsen:]

Okay. Well, if there’s no further questions, this call is complete. We look forward to bringing 2019 to a successful close and updating you with our full year results. At that time, we’ll also give you some insights into the growth strategies we are perusing for 2020. Good-bye.

[Operator:]

Thank you, ladies and gentlemen. This concludes today’s conference call. You may now disconnect.