Acme United Corporation
Q4 2018 Earnings Call Transcript

Published: 5 Mar 2019

[Operator:]

Good day, and welcome to the Acme United Corporation's Fourth Quarter 2018 Earnings Call. At this time, I would like to turn the conference over to Mr. Walter Johnsen, Chief Executive Officer. Please go ahead, sir.

[Walter Johnsen:]

Good morning. Welcome to the fourth quarter and year end 2018 earnings conference call for Acme United Corporation. I am Walter C. Johnsen, Chairman and CEO. With me is Paul Driscoll, our Chief Financial Officer, who will first read the 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 the 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; one, the Company's plans, strategies, objectives expectations and intentions are subject to change any time at the discretion of the Company. Two, the Company's plans and results of operation will be affected by the Company's ability to manage its growth. And three, other risks and uncertainties indicated from time to time in the Company's filings with the Securities and Exchange Commission.

[Walter Johnsen:]

Thank you, Paul. Acme United had its eighth consecutive year of record sales in 2018. We had revenues of $137.3 million in 2018, up 5% from the previous year. Our earnings fell, however, from $5.3 million to $4.6 million. Each of these past five years, our online sales have more than doubled. During that time, we increased our advertising, sponsorship and search optimization at an increasing rate to spur further growth. During the second and third quarters of 2018, our online sales flattened, but we continued to spend at previously committed higher levels. We adjusted the spending in the fourth quarter to be consistent with revenues. During 2018, we worked very hard to implement our enterprise software across all our domestic Asian and Canadian businesses. This included bringing the two Spill Magic plants onto our common software platform and integrating the DMT plants. This generated leverage in our customer service, accounting, forecasting and supply chain and provided better performance. We reduced SG&A headcount in the third quarter of 2018 by about $700,000 on an annual basis, in line with the target I mentioned in our last call. We achieved operational efficiencies in our major domestic distribution center at Rocky Mount, North Carolina after significant capital spending during the past two years and intensive employee training. We reduced commissions as our direct sales force took over major sections of the U.S. from third-party sales representatives. We realized improvements in gross margins from product mix, plant productivity, price increases and sourcing gains. These savings and cost improvements amounted to more than $1.3 million annually. On an annual basis, we anticipate that these steps will contribute over $2 million in 2019. Of course, there were also increases in unforeseen expenses, but we expect the general direction to be favorable going forward. The actions we took in 2018 were designed to bring operational leverage. The fourth quarter of 2018 demonstrates where we believe we're headed. While sales in the fourth quarter increased 3%, we realized a 39% increase in operating income. We introduced a number of new products in 2018 that we believe will drive growth in 2019. These include next generation patent pending Westcott Adjustable Scissors, which we launched last fall and that incorporate what we call Glide technology, we are now shipping to broad distribution. Our Ceramic cutters for safely opening boxes in warehouses and distribution centers have been very well received. These products use Slice safety blades and we are shipping and increasing volumes as we speak. The Camillus Knives family has expanded its selection of knives to several major retail chains as well as shipping new knives and camping tools for the Boy Scouts. Our First Aid Only products continue to gain share and the SafetyHub replenishment system is gaining distribution and use. We anticipate that these products will help provide organic growth for another record year in 2019. The first quarter of 2018 was very strong, we shipped over $2 million in first aid kits to a major distributor in the food service industry and while the program has been a success, we are now shipping refills and regular orders, but we do not expect to have the volume of last year's initial orders. We also had strong shipments in the first quarter last year, to a large online retailer, which will not be repeated at the same levels. So the first quarter of 2019 compares to a very strong prior year. We expect to have more beneficial comparisons in the remaining quarters of 2019. Nonetheless, we will be benefiting all year from the cost reductions we have instituted, as well as from the improved productivity in our Rocky Mount distribution center. For the year, we expect approximately $140 million to $143 million in sales, $5 million to $5.3 million of net income and earnings per share of a range between $1.41 at $1.50. We continue to see tuck-in acquisitions and hope to maintain our record of increasing our revenues, of increasing our dividends. This week marks the fifth anniversary of our move to our Rocky Mount, North Carolina distribution facility. As you may recall, we purchased the 33-acre site and 340,000 square foot modern warehouse for $2.8 million when we [indiscernible] stalking horse in a Chapter 7 bankruptcy liquidation. The Carolina Gateway partnership provided a $400,000 grant to equip the building in exchange for hiring 40 people, which we accomplished. Looking back, this facility had the size and scale to become the platform we needed to accommodate our growth and to add to the sophistication that our current customers require in shipping. And we are very happy with our operational team, which has been successful in reaching new performance levels. I will now turn the call to Paul.

[Paul Driscoll:]

Acme's net sales for the fourth quarter were $31.1 million compared to $30.2 million in 2017, an increase of 3%. Sales for the year ended December 31, 2018 were $137.3 million compared to $130.5 million in 2017, an increase of 5%. Net sales in the U.S. segment increased 3% in the quarter and 5% for the year. Major contributors to the sales increase were first aid kits and Camillus Knives. Net sales in local currency for Canada were constant in the quarter and increased 1% for the year. Net sales for Europe increased 17% in local currency for the quarter and 9% for the year. 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 36.5% in the fourth quarter of 2018 versus 35.2% in the fourth quarter of 2017. The fourth quarter of 2018 margin was higher than fourth quarter of 2017, mainly due to less promotional spending in the e-commerce business and a better product mix. The gross margin for the year was 36.9% compared to 36.7% in 2017. SG&A expenses for the fourth quarter of 2018 were $10.3 million or 33% of sales compared with $9.8 million or 33% of sales for the same period of 2017. SG&A expenses for the year ended December 31, 2018 were $43.2 million or 31% of sales compared with $40 million or 31% of sales in 2017. The SG&A increase for the quarter and the year was due to higher outbound freight costs and sales commissions, as a result of the sales growth and the addition of sales and marketing personnel. Operating profit in the fourth quarter of 2018 increased 39% mainly due to the improved gross margin. Net income for the fourth quarter of 2018 was $591,000 or $0.17 per diluted share compared to adjusted net income of $590,000 or $0.16 per diluted share for the same period of 2017, an increase of 6% in earnings per share. Net income for the 12 months ended December 31, 2018 was $4.6 million or $1.30 per diluted share compared to adjusted net income of $5.3 million or $1.42 per diluted share in the comparable period last year, a decrease of 13% in net income and 8% in earnings per share. The unadjusted GAAP net income in the fourth quarter of 2017 and the full year of 2017 included a onetime tax charge for $1.2 million related to the US tax reform enacted in December, 2017. The Company's bank debt less cash on December 31, 2018 was $39.3 million compared to $37.8 million on December 31, 2017. During the year, we spent $1.5 million on dividends, $0.4 million on stock buybacks and generated $1.6 million in free cash flow. We expect to generate approximately $4 million to $5 million in free cash flow in 2019.

[Walter Johnsen:]

Thank you, Paul. I'll now open the call to questions.

[Operator:]

[Operator Instructions] Our first question comes from Michael Kawamoto with D.A. Davidson.

[Michael Kawamoto:]

Yeah, just a couple of questions. First is on 4Q. What was the variance versus the guidance in the quarter, looks like it's a little bit light, was that just due to shipments being pushed out or was there just some continued softness with that, with your largest online retailer, what was the variance there?

[Walter Johnsen:]

Well, the sales came in where they came in. There is no major variance that I'm aware of. We gave a guidance of $1.30 a share for the quarter, I mean for the year and we hit it. So I don't really see any variance.

[Michael Kawamoto:]

And then just given your commentary, how should we think about growth for 1Q? Would you say it's flattish or maybe down just a touch, just given what you said in your prepared remarks?

[Walter Johnsen:]

I think it would be flattish to down a touch, it's, I think the real message is in shaping the year, we've got some good new business lined up in the second and third quarters that we see it clearly and in the first quarter, we had some pretty tough comparisons because we grew 14% last year and that is faster than we do. So I'd probably shape it down a little bit in the first quarter and we'll work as hard as we can to surprise you.

[Michael Kawamoto:]

And then just, we met at SHOT Show. I was very impressed with what you had at Camillus and DMT. Can you just talk about what you learned there with talking to retailers or any products that you felt were really resonating well?

[Walter Johnsen:]

Well, we met with one very large retailer at SHOT Show that has given us some new business in the third quarter, and it's well over $1 million dollars of forecast business, so we were thrilled with that. We always met with designers of new products during events like the SHOT Show and they generate ideas and we pay royalty sometimes when we execute them and there were several of those. We've met with the Boy Scouts and worked on some new programs, a new Jamboree and looking forward during the year camping supplies, maybe some first aid supplies. These were all good things. But most importantly, we had good attendance. We had, we were busy and the major retailers are coming in, seeing what we're doing and responding. So think it was a very, very successful show.

[Michael Kawamoto:]

And then last one from me, I'll jump back in the queue, but gross margin was up nicely in the quarter, sounds like some of that was mix and some cost and efficiencies. But how are you thinking about margin expansion for 2019 given everything that's going on?

[Walter Johnsen:]

I'm delighted about the the margin expanding, especially when you read about so many companies under pressure with their margins. I think part of that is innovation. We are getting paid for innovation and I outlined some new products in this presentation with Glide scissors, which are hitting retailers all over the country right now, the new Camillus Knives, the coatings that we're working on. And that works its way into the margin. So first, I'm very happy with the trend, and I think that it's affordable during 2019.

[Operator:]

Our next question comes from Michael Mork with Mork Capital Management.

[Michael Mork:]

Hi. My question has to do with, you were talking about the online, the Amazon basically, business flattening out in Q2 and Q3. And the question is, has it remained flattish and I know it was kind of a mystery to you why it did flatten out. Have you analyzed that to figure that out and do you think it'll start growing again?

[Walter Johnsen:]

Mike, I think that's a very good question. Not only did it flatten out in the second and third quarter with that online customer, but they've bought a lot of inventory in expectation of additional growth, so it caught them as well with more than they expected, at the end of the first quarter. The simple answer is, I think that we reached the levels that the items we were selling were going to achieve. However, there are some very good programs that we're working on with Amazon right now both in the first aid area, as well as additional products in the Westcott family to bring on to Amazon. So while we did flatten out in the second and third and frankly fourth quarter at Amazon, there is some very real programs in place to reaccelerate that growth.

[Operator:]

Our next question comes from Ryan Ruggaard with Bard Associates.

[Ryan Ruggaard:]

Hi guys, thanks for taking my question. You kind of answered a little bit on the previous question with Amazon. I was just, sort of a follow-up on that. Are you seeing any changes in the competitive environment with your major online customer in terms of them launching new products again, sort of the categories that you already are in? If you could talk a little bit about their plans and how that's working out?

[Walter Johnsen:]

That's a really good question, Ryan and I don't want to get too deep into some aspects of it, but one area that Amazon has been strong in is in their private label business and when you have a best selling product, the Amazon Basics, will often get preferential placement within their site and also have pretty competitive pricing. We lost some of the Westcott business to the Basics business during 2018. On the other hand, if you will, the supplier of some of these private label initiatives, might benefit from it and there's certainly those opportunities both in the Westcott family as well as in our Camillus and in the first aid area, and I hope that we're able to succeed with some of that. So while the private label initiative can siphon off some sales, it can also work to your benefit and in the case of our Westcott products [indiscernible] the lowest cost producer in the world. So if somebody wants big volumes, we can help them.

[Operator:]

Our next question comes from Richard Dearnley with Longport Partners.

[Richard Dearnley:]

Good morning, Walter and Paul. Paul, what tax rate is implicit in the guidance this year? Predicting tax rates is not something I'd like to have to do.

[Paul Driscoll:]

Okay. It's 22%, Dick.

[Richard Dearnley:]

And Walter you've talked about the products that were strong, which ones were weak in the second half for the year?

[Walter Johnsen:]

Trying to think, Dick. Actually in the second half, we had a fall off in pencil sharpeners and then in the fourth quarter, we picked up and so although it had fallen off in the second and a little bit in the third, it was strong in the fourth. We did have less titanium [indiscernible] that was being sold, one online retailer and they bought a bunch of it in the first quarter of last year and so it was an overhang. And that's been corrected now in no time, but that softened. But in the fourth quarter, we grew over the previous year, so I would say we had any major drop [multiple speakers].

[Richard Dearnley:]

Nothing major, okay. And DMT seems to be especially strong in Europe. Is there any particular reason you can identify for that? And I don't know whether that's versus the US, but it feels that way from the language.

[Paul Driscoll:]

So for those that don't know, DMT is a manufacturer in the US of diamond sharpening tools. And we believe they have the best hand tools for sharpening in the industry. And they have a premium price. In the US market, there is competition that comes from China, that we think less robust, but nevertheless, it takes some of the business away. In Europe, particularly Germany, they are evaluating the DMT performance and it has, it's about $1 million line in Europe right now, and that's about a double in 12 months. We're continuing to see that kind of growth and in a fact we're stretching some of the production in our plants and adjusting for production, so that we can meet the demand. It's a high margin product for us and we're frankly delighted with the performance in Europe.

[Richard Dearnley:]

And is it, now that you have over a year, and some under your belt with the seasonal shifts, do you have a feel for going forward how the seasonality is more spread out and there is less in the second quarter, do you think '18 is pro forma for the future or is it too early to tell on all that?

[Walter Johnsen:]

Well, I think the shift to online sales continues and particularly with the back-to-school customer. However, we've also got some new business in the third quarter that we didn't have last year, that is not online, but it's going to make the third quarter particularly strong, we think. And in the second quarter, I'd probably look at the numbers we have and add a growth factor to the, from last year.

[Operator:]

[Operator Instructions] Our next question comes from Jeffrey Matthews with RAM Partners.

[Jeffrey Matthews:]

Hi, Walter. Just wondered if there's any changes you see in your supply chain over the next year or two years, given what's been happening out of China et cetera?

[Walter Johnsen:]

Jeff, thanks for that question. Well, there's a lot of changes in the supply chain. First, it looks as if the tariffs have worked their way through, we did put price increases through the items that were covered and that was a 10% tariff, of course, those numbers warrant the increases because it's off our cost. But nevertheless, we executed some price increases and it appears to us that the tariff discussions are going in a way that there won't be a roll back in the current tariff levels, but there probably won't be any further increases either. We have seen a strengthening of the Chinese currency slightly since I was there in September and I think it's in part because the uncertainty of the trade issues that's becoming more clear. We are beginning to source some of our items that we had been heavily in China and other locations and that's an initiative that was started during the past few years, but it's increasing and I think that when it is executed will help balance our supply chain into some other countries and I'm excited about that. We'll be able to report more of that probably in the April quarter, but we're working on some programs right now. Overall, the business environment in China seems to be stable. I don't see any particular growth happening and we're not hearing the factories struggling with liquidity issues [indiscernible] we're not hearing that they're expanding. So it's pretty stable.

[Jeffrey Matthews:]

Okay. And then on the free cash flow, did I hear $4 million to $5 million in 2019?

[Paul Driscoll:]

Yes.

[Jeffrey Matthews:]

Okay. And is that kind of across the board working capital plus earnings? Is there any special line item where that might be more heavily weighted to?

[Paul Driscoll:]

It's both working capital and earnings.

[Jeffrey Matthews:]

And receivables and inventory are like or?

[Paul Driscoll:]

Yeah, less, less growth in inventory. So that will improve the free cash flow.

[Operator:]

Thank you. And we have no further questions at this time.

[Walter Johnsen:]

So if there are no further questions, I would like to thank you for joining us. We'll be participating in the Sidoti Spring Conference in New York City on March 28, and look forward to seeing some of you there. We'll also be at the ROTH conference in the middle of March. And I know some will tend to see us there. Thank you for joining us today. Good bye.

[Operator:]

Ladies and gentlemen, this concludes today's presentation. You may now disconnect.