HNI Corporation
Q3 2013 Earnings Call Transcript

Published: 17 Oct 2013

[Operator:]

Good morning my name is Tracy, and I will be your conference operator today. I would like to welcome everyone to the HNI Corporation Third Quarter Fiscal 2013 Results Conference Call. (Operator instructions) And as a reminder, today’s conference call is being recorded. Thank you. Mr. Schmidt, you may begin your conference.

[Derek Schmidt:]

Good morning. And thank you for joining us today for the HNI Corporation conference call to discuss third quarter 2013 results which were announced yesterday after the market closed. My name is Derek Schmidt, Vice President of Finance for HNI Corporation. If you have not received a copy of the financial news release, it is available on our website, www.hnicorp.com. A presentation intended to accompany this call has also been posted to our website under the investor information section. We encourage you to review this presentation as it contains details of our financial performance including the non-GAAP, GAAP reconciliation. Joining me on the line today from HNI Corporation are Kurt Tjaden, Vice President and CFO, and Stan Askren, Chairman, President and CEO. Stan and Kurt will review the results, and then open the call for questions. Before we begin, please be advised that statements made by the corporation during this call that are no strictly historical facts, are forward-looking statements. Forward-looking statements are subject to known and unknown risks. Actual results could differ materially from expected results. Additional information concerning factors that could affect actual results can be found in the conference call presentation posted at the HNI Corporation website. The corporation assumes no obligation to update any forward-looking statements made during the call. I now have the pleasure of turning the call over to Stan Askren. Stan?

[Stan Askren:]

Thank you, Derek. Good morning, everyone. I’m pleased with our sales performance and profit growth over prior year. We delivered top line organic growth of solid profit improvement in both business segments, strong operational execution and investment returns drove third quarter profit improvement while we continue to invest in new products and operational capabilities to meet the changing market demands. We delivered solid sales of profit growth under office furniture businesses despite a much greater than anticipated decline in federal government spending. Organic growth in office furniture was 2% including a 30% decline in our federal government business. Organic growth in our supplies business was 1%, the strength in our commercial business was offset by weakness in federal government sales. Sales in our other office furniture businesses, increased 5% even with the government decline as project activity and demand for new products remain solid. Our Heart business continues to deliver outstanding performance, sales in the new construction channel remained specially strong with 30% growth driven by our leading market position, and the housing market recovery. Remodel/retrofit sales were also strong and improved 13% led by strong remodeling activity. Overall I feel good about our third quarter results which exceeded expectations. I’ll now turn the call over to Kurt to review specific financial data for the third quarter. Kurt?

[Kurt Tjaden:]

Thank you, Stan. For the third quarter 2013 consolidated net sales increased 2.7% to $566 million or 5% on an organic basis. The third quarter 2013 includes results related to the addition of EP [ph] a year ago, and the disposition of several small businesses including dealers spinoffs. Sales for the office furniture segment decreased 0.3% to $466 million or increased 2.3% on an organic basis. Net sales for the Heart product segment increased 19.8% to $99 million. Consolidated gross margin was 35.3% compared to 34.7% in the prior year quarter due to higher volume and increased price realization partially offset by new product ramp up and operations reconfigurations to meet the changing market demands. As the percent of net sales, total selling and administrative expenses including restructuring and impairment charges, increased 0.2 percentage points due to investment and strategic initiatives and higher incentive based compensation partially offset by higher volume, network distribution realignment savings and lower restructuring charges. We ended the quarter with $37 million of cash, operating activities generated $88 million of cash in the first nine months of 2013 compared to $81 million of cash in the same period last year. Stan?

[Stan Askren:]

Thanks, Kurt. I am encouraged by the continued strong performance of our businesses. We will achieve our objectives of growing sales and solve [ph] the increasing profits in 2013. We expect overall growth in the fourth market, excuse me, the fourth quarter of 2013 to be modest as continued weakness in government sales and broader concerns related to the government and budget uncertainties are dampening near term growth in our core office furniture businesses. Demand in our supplies driven business is expected to be relatively flat as continued strength in our core commercial markets is projected to be offset by a steep decline in government business. Our brands are well-positioned to continue to out-perform the market. We expect solid year-over-year growth rates in our other office furniture businesses to continue as new business activity remains positive across our brands. Our Heart segment is expected to deliver continued strong profitable growth, we anticipate continued double digit growth in a new construction channel, but at a moderating rate given strong year-over-year comparisons. Growth in the remodel/retrofit business is projected to be solid on remodeling activity improvement. I remain excited about our ability to continue to outgrow the market through our Core Plus strategy. We continue to invest in our core North American businesses to capture new growth opportunities while at the same time, we’re investing in our core, at the same time, we’re investing in our core, we’re also aggressively pursuing attractive Plus prospects in key vertical and fast growing international markets. We continue to invest in our international business particularly in Asia where we are well positioned to outperform the market. Overall, I feel very good about our relative performance and in the investments we are making to strengthen our market position and deliver long term profitable growth for our shareholders. Kurt will now provide the financial outlook for the fourth quarter and 2014.

[Kurt Tjaden:]

So for the fourth quarter 2013, we anticipate overall sales to be flat to up 3% or up 2% to 5% on an organic basis. Office furniture sales are expected to be flat to up 3% organically, or down 2, to up 1% including the impact of divestitures. Organic sales in the supplies driven channel are expected to be relatively flat, and organic sales in the contract channel, are expected to be up, 1% to 4%. Heart sales are expected to be up 8% to 11%. Non-GAAP gross profit margin is expected to be similar to the fourth quarter 2012 when it was 35.3% excluding restructuring and transition charges. Non-GAAP SG&A as a percentage of sales excluding restructuring and transition charges is expected to be slightly lower versus fourth quarter 2012 when it was 29.3%. Net interest expense is projected to be $2.5 million and the effective tax rate is projected to be approximately 34% for the full year. For the year, we are expecting capital expenditures to be $80 million to $85 million and expect full year 2013 depreciation and amortization to be $46 million to $48 million. For the full year 2013, we are projecting non-GAAP earnings per diluted share to be in the range of $1.35 to $1.40. So looking forward to 2014, our current estimate of non-GAAP earnings per diluted share, is in the range of $1.55 to $1.80. Our philosophy is to provide our shareholders our best perspective on our business and these estimates reflect our latest view of next year’s market conditions. For 2014, we are projecting modest domestic economic growth and no significant economic change related to concerns regarding a U.S. government debt default of another federal government shutdown. For our office furniture segment, we expect low single digit organic growth next year. We project solid margin improvements driven by continued operational execution improvements and benefits from our 2013 investments. Our Heart business is expected to deliver strong profit improvement next year. Low double digit sales growth is projected in 2014 driven by continued strength in the new construction channel, and modest growth in the remodel/retrofit channel. We will plan to provide an updated view on our 2014 outlook during future earnings conference calls. This summarizes our outlook for the fourth quarter 2013 and full year 2014. I’ll now turn it back to Stan.

[Stan Askren:]

Thank you, Kurt. I’ll provide some closing comments here and then we’ll open up to questions. I remain confident in our strategy to drive profit improvement while simultaneously investing for long term profitable growth. Our Core Plus strategy is working, and we are making strong progress in our markets competitive position, and corresponding financial results. Going forward, our strategy remains unchanged, but with a deeper understanding and implementation of specific elements required to adapt to a changing environment. So with those comments complete, we’ll now open it up to questions.

[Operator:]

(Operator instructions) Your first question is from Peter Lisnic with Robert W. Baird.

[Peter Lisnic:]

Good morning, gentlemen.

[Stan Askren:]

Good morning, Pete.

[Peter Lisnic:]

First question if I could, just on the Heart business, the strong incremental profitability, and Kurt, you talked about you know, good base for that to continue into ‘14. As we look at that business, you’re still pretty far away from a quote-unquote "normalized" housing environment, where can this business go? I mean we’re pushing pretty good margins relative to historicals, but how much upside should we think about in terms of profitability in that business as we kind of move towards a more normal housing environment?

[Stan Askren:]

Yes, good question, Pete. We anticipate continued solid leverage on this business going forward. As we went through the down turn, we, the team, really made some excellent moves around restructuring, reorganizing, simplifying product lines while at the same time investing in the future. And we anticipate that the payoff on that is going to continue here, certainly through 2014 and as we look forward, we expect that we’re going to, as we begin to see the more normalized housing market, we expect to have better margins than we had, than when we went into the recession.

[Peter Lisnic:]

Okay. And as we think about the cost structure of that business, is it still a, let’s call it a 25% to 30% on a normalized basis, incremental margin type of business?

[Stan Askren:]

That’s a good place to be.

[Peter Lisnic:]

Okay. All right. And then when you look at the top line there, I’m just wondering if there was any sort of impact that you may have seen, particularly on the remodel side, I guess with the movement in rates that we’ve been dealing with over the past couple of months? Sounds like the home builders maybe saw a little bit in terms of their traffic numbers, but I’m just wondering more on the remodel side if you saw any sort of impact from rate moves?

[Stan Askren:]

Nothing worth calling out, Pete. Certainly, we’re watching that closely, but nothing at this stage that would cause us to change our outlook.

[Peter Lisnic:]

Okay. All right. And then last question just wondering if you can maybe touch on a little bit the business optimization initiatives that you’re putting through. I’m just wondering if there’s any sort of milestones that you can kind of lay in the ground force to give us a sense as to how those are progressing. Do you still feel confident with them, and then just sort of any sort of benefits that could be accruing at this point?

[Stan Askren:]

Yes. I mean, to summarize, we feel good, continue to feel good about those investments. They’re on plan, they’re doing what we had hoped and thought they would do. There’s no significant changes, really more of what we’ve been talking about in the past. Certainly, you can see our, I think positive leverage, this quarter we expect to continue to invest and continue to, still at the same time, drive positive leverage. As it relates to this business system transformation, it’s again, more of the same. We continue to work out, understand, simplify, standardize and then connect and automate processes significant work underway by the organization. We’re deep in really kind of the operational design phase. And so, we’re heavier in the investments, not so much in the return phase of that project.

[Peter Lisnic:]

Okay, got it. And then Kurt really quickly, any sort of CapEx number that you can throw out for us for ‘14?

[Kurt Tjaden:]

I think you should look at a similar rate this year Pete as we go forward.

[Peter Lisnic:]

Okay, perfect. Thank you for the time and details and nice execution. Thanks.

[Stan Askren:]

Thanks, Pete.

[Operator:]

Your next question is from Budd Bugatch with Raymond James.

[Budd Bugatch:]

Good morning, Stan. Good morning Kurt, also my congratulations on your execution. I guess let’s talk a little bit about government and what it looks like in the fourth quarter, in terms of what do you think it will be for the office side?

[Stan Askren:]

Yes. I think, Budd, it’s got to be similar to the third quarter. I think it’s going to be down another 30% to 35%. There’s no positive sort of factor there. As we indicated Q3 was actually worse than we had anticipated. We knew it was going to be bad, we didn’t quite really I guess do a good enough job of forecasting this whole wrangling in Washington and the impact there.

[Budd Bugatch:]

And so, what is it as a percentage of sales in the third quarter? What was it a percentage of office or total sales? How would you –

[Stan Askren:]

Federal government is typically running 5% and it’s going to, I think run similar to there. I mean, we’ve come down it was as much as 10% in 2011 and 12%, something like that. Now it’s 5% and it’s going to continue to I think in 2014, excuse me, it will be more like 4%.

[Budd Bugatch:]

Okay. There was no rush to budget, I know as we came to the end of the fiscal year, usually you get above at that last second, now?

[Stan Askren:]

Unlike anything we’ve ever seen before, it was dead.

[Budd Bugatch:]

Okay. Thank you. On the organic side or inorganic side, refresh me now how that’s going to play out into the fourth quarter and into next year? What do we have left in the divestitures to factor into our estimates for the base for next year?

[Stan Askren:]

State your question again here, Budd. I’m not sure we picked exactly –

[Budd Bugatch:]

Okay. We made some divestitures, when do we anniversary them? And what’s the quarterly impact for the next couple of quarters?

[Kurt Tjaden:]

Yes. It will start to be less of an impact as we roll forward, Budd. And you’ll see it really roll off in the second half of 2014. But I guess it will become much less of an impact as we go forward quarter-to-quarter.

[Budd Bugatch:]

So it was 12.5 in the third quarter, right Kurt? The net of impact, is that right?

[Kurt Tjaden:]

That’s correct. But it is a couple of $1 million a quarter for the next couple of quarters going forward.

[Budd Bugatch:]

Okay, all right. And the last question for me I guess is DNA for next year, you gave us the CapEx run rate, I guess with that moving up, DNA will move up as well?

[Kurt Tjaden:]

I would say that’s a fair assumption.

[Budd Bugatch:]

And so, 46 to 48 this year, what do you think it is next year 50 to 52 or –

[Kurt Tjaden:]

I think that’s probably a reasonable assumption as well, Budd.

[Budd Bugatch:]

All right. Thank you very much, congratulations.

[Stan Askren:]

Thanks, Budd.

[Operator:]

Your next question is from Josh Borstein with Longbow Research.

[Josh Borstein:]

Hey, Stan, Kurt, and Derek, thanks for taking my questions here. Just to follow up on one of Budd’s question on GSA. When you said, it’s 5%, that was in 3Q and was that for as a percentage of your total sales?

[Stan Askren:]

It was for the full year, Josh. And it is percentage of our total office furniture sales.

[Josh Borstein:]

Office furniture, okay. And have you seen any GSA project has been delayed or actually cancelled here? Is that part of the reason why maybe GSA came in worse than you had anticipated?

[Stan Askren:]

Yes. I mean, I am not aware of any significant projects that have been cancelled, Josh, certainly there’s been delay. And a lot of what you’ve seen is even the, we call it the day-to-day transaction stuff has been on hold very tight as well. So the question is, is what happens as people come back, did some of that pick up or is that perpetual? Certainly, we don’t anticipate a significant increase as we go forward. I think we’ve taken a more conservative view on this.

[Josh Borstein:]

Okay. And it sounds like now for the full year, it will be down something in greater than the 15% to 20% you had thought?

[Stan Askren:]

Yes. I think the full year is going to be more like 20% to 25% down.

[Josh Borstein:]

Okay. Okay. That’s helpful. Thank you. And on the 2014 outlook, could you just talk a little bit more about the office furniture component? What the expectations are? What you kind of see in maybe by, in some of the greater verticals for you?

[Stan Askren:]

Yes. I think overall, Josh, it’s a lot more of what we’ve seen this year. I think it’s steady somewhat choppy growth. The core feels very strong to us. And then we pick up some drag from the Federal government still. I think the international has come down as much more muted than it was last year. And I think international will start to come on a little bit more. But we’re not anticipating big blow out sort of growth there as well. So, more the same, Federal government drag, international picking up modestly.

[Josh Borstein:]

Okay. And you were talking about lowest single-digits organic growth in office furniture for 2014?

[Stan Askren:]

Yes.

[Josh Borstein:]

Yes. Okay. So more or less in line with my projections?

[Stan Askren:]

Yes.

[Josh Borstein:]

Okay. And then just last on the international business, you touched on that a little bit. But what did you see in this quarter and your expectations for the next quarter in that piece of the business?

[Stan Askren:]

Yes. I mean, the international business was impacted by A, slowdown in China. It has been over the year, certainly the Mid-East upheaval has slowed things down, and then everybody else is associated with that. And so, we did see a relatively, well, a muted sort of performance, a muted growth here this year. We expect this next quarter is going to pick up. We’re seeing increase activity in Asia. And I think the rest is starting to improve. And then as I say, ‘14 I think will be more conservative but I think solid there.

[Josh Borstein:]

Great. Thank you. And good luck to you.

[Stan Askren:]

Thanks, Josh.

[Operator:]

Your next question comes from the line of Josh Schwartzman [ph] with Sidoti & Company.

[Todd Schwartzman:]

Hi, gentlemen, it’s Todd Schwartzman. Just a couple of items, not to be the dead horse on the GSA, but what was the sales delta for Q3?

[Stan Askren:]

Versus what, Todd? Make sure we understand your question.

[Todd Schwartzman:]

Year-over-year, sorry.

[Stan Askren:]

Something like 10 million, 8 million to 10 million, Todd.

[Todd Schwartzman:]

And that was down 25%-ish?

[Stan Askren:]

More like 30.

[Todd Schwartzman:]

Okay. So the comment on another potentially 30% to 35% down, does that refer to 4Q on a year-over-year basis?

[Stan Askren:]

Correct.

[Todd Schwartzman:]

Okay. In general, how is the pipeline of large projects shaping up now versus three months back?

[Stan Askren:]

Pipeline is solid, it’s good. Similar to what it was three months back. The question really has to do with sort of does it flow through the pipeline at the same rate given the uncertainty? Still feel good about that. But it’s something we’re watching closely.

[Todd Schwartzman:]

And in terms of verticals, any pockets of strength or weakness that you’d want to highlight?

[Stan Askren:]

Nothing that’s significant to point out to you.

[Todd Schwartzman:]

And what about discounting?

[Stan Askren:]

I think it’s more the same. I think it’s stable.

[Todd Schwartzman:]

Got it. That initial take you gave on 2014, thank you. That is helpful, but looking at that buck 55 to 180, does that assume OpEx in the 29% to 30% of sales range?

[Kurt Tjaden:]

Yes. I think 25% plus, Todd, you’re probably good.

[Todd Schwartzman:]

25 plus.

[Kurt Tjaden:]

Well, think of it in terms of operating leverage. So you can come back in between margin and SG&A to get that OpEx. But if you got to take what we’ve given for the top line and you think about the earnings, it goes through to about a 25% operating leverage.

[Todd Schwartzman:]

Okay, so the contribution margin.

[Kurt Tjaden:]

Exactly.

[Todd Schwartzman:]

Okay, great. What are you seeing as far as commodity pricing, what’s your outlook for next year?

[Stan Askren:]

Modest inflation.

[Todd Schwartzman:]

Okay. Thanks a lot.

[Stan Askren:]

You bet, Todd. Thank you.

[Operator:]

There are no further questions at this time. I turn the call back over to Mr. Askren for closing comments.

[Stan Askren:]

Thank you. We appreciate your interest in HNI, and I look forward to speaking to you in the near future. Take care.

[Operator:]

Ladies and gentlemen, thank you for joining. This concludes today’s conference call. You may now disconnect.