HNI Corporation
Q4 2015 Earnings Call Transcript

Published: 11 Feb 2016

[Operator:]

Good morning. My name is Laurel, and I will be your conference operator today. At this time, I would like to welcome everyone to the HNI Corporation Fourth Quarter and Year-End 2015 Fiscal Results Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. [Operator Instructions] As a reminder, today’s conference call is being recorded. Thank you. Mr. Tjaden, you may begin your conference.

[Kurt Tjaden:]

Good morning. Thank you for joining us to discuss our fourth quarter and year-end fiscal 2015 results. Joining me is Stan Askren, Chairman, President and CEO. Copies of our financial news release, earnings presentation and non-GAAP reconciliations are posted on our website. Statements made during this call that are not strictly historical facts are forward-looking statements which are subject to known and unknown risks. Actual results could differ materially. The earnings presentation posted on our website includes additional factors that could affect actual results. The corporation assumes no obligation to update any forward looking statements made during this call. I'm pleased to turn the call over to Stan.

[Stan Askren:]

Good morning everyone. As typical, we’ll share a brief assessment of our 2015 results, and then provide some thoughts on our outlook for 2015, and then we’ll conclude it with an open call or questions. First, let me start with the year. 2015 was another solid year. Non-GAAP earnings per share increased 31%, a modest sales growth. We again generated solid cash flow to support our long-term business investments and increased our strong dividend. We executed well on our core strategies which I'll remind you, include focusing on the core split and focus with leverage and then finally our rapid continuous improvement which is driven by the strength of our member, or our culture which is very unique and very powerful. Our businesses performed well against the competition and the challenging slow growth economic environment. Office furniture markets were negatively impacted in the second half by muted CEO and small business confidence and economic turmoil in the PRC. In our hearth markets, single family housing starts continued to improve modestly while warm weather and dramatic lower oil prices severely impact that biomass markets. Our hearth business achieved another record year of profits, delivering $80 million of non-GAAP operating profits on sales of $527 million. Sales results across that business were mixed. Solid growth in new construction and retail gas were more than offset by a significant decline in the biomass business, due to low oil prices and very warm weather. We continued to invest the strength on our industry-leading brands, profits and distribution and we are the preferred choice for builders and homeowners. Our office furniture business’ non-GAAP operating profit increased 25% on modest sales growth, strong operational performance, consistent flawless execution for our customers and benefits from our operational investments were key drivers for those increased earnings. North America sales increased approximately 2%, led by 5% growth in our contract business. Our supplies business sales were basically flat impacted by muted small business confidence. Sales in our international businesses were up 3%, despite a significant drag from the economic upheaval in China, mainly in the PRC. We continued our investment and commitment to our businesses from transformation initiative. We made strong progress simplifying and transforming our business processes to deliver more value to our customers and reduce non-value added cost. BFT remains a significant focus for our organization and a strategic investment for HNI. We believe our unique member-owner culture is a competitive advantage that [indiscernible] time and we remain committed to our core beliefs and values. And let me now comment on the fourth quarter. We finished the year strong. Non-GAAP earnings per share increased 40% despite the slowing economy and 8% lower sales. Office furniture non-GAAP operating profits increased 23% on a 5% sales decline. In our hearth business, non-GAAP operating profit margin improved 170 basis points on a 14% sales decline. Overall, I'm very pleased how our businesses are performing and our position for the future. And I'd like to thank our customers, members and suppliers for their outstanding contributions to our success. Kurt?

[Kurt Tjaden:]

So let me comment on the fourth quarter 2015. Consolidated net sales decreased 7.7%. Office furniture sales decreased 5.3%. Sales in our supplies-driven business were down 7%, while sales in our other office furniture businesses were down 3%. Sales in our hearth business decreased 14%. New construction sales increase 4%, and sales of our biomass products decreased 38% due to dramatically lower oil prices and the seasonally warm weather. Non-GAAP consolidated gross margins improved 220 basis points versus the prior year to 37.9%. Strong operational performance, structural cost reductions, favorable material costs and prices realization were partially offset by lower volumes. As a percent of sales, non-GAAP selling and administrative expenses decreased 50 basis points, primarily due to cost reductions and lower incentive based compensation, partially offset by investments. During the quarter, we reported $12.7 million of research and impairment charges and transition cost. These expenses included goodwill and intangible impairment charges of $11.2 million related to a small office furniture business and $1.5 million of restructuring and transition costs in connection with previously announced closures, acquisition integration and structural realignment. For the year, we generated $61 million of free cash flow and our year-ending debt to EBITDA leverage ratio was less than 1x. Stan?

[Stan Askren:]

Okay. Thank you, Kurt. As we look to 2016, we expect the weak economic environment to continue impacting our competitive markets. Our exposure to short cycle business provides us early visibility in the market shifts. We are navigating the near-term, our remaining focus of long-term value creation. I'm confident we can deliver strong profit performance in any market environment. Our seasonal experience team has effectively managed through multiple business cycles in the past. Consistent with our long track record - and listen to this please. Consistent with our long track record of driving significant structural cost reductions, we are working on several large restructuring initiatives. The estimated impact of these initiatives will result in $50 million to $60 million of restructuring charges over the next three years. Once completed, we expect to realize $35 million to $40 million of annual savings. While these initiatives are not yet final, I have confidence in the opportunity and the magnitude that I just indicated. The initiatives are broad-based, including corporate functions, office furniture and hearth businesses in both domestic and international businesses. These actions were not developed just in response to the slower economy. These initiatives have been in process for some time in varying levels of readiness. We will not provide additional detail on specific initiatives at this time, so as to allow flexibility for planning, communication and execution. We will disclose the economic impact of each of these initiatives at the appropriate time consistent with our past practice and regulatory requirements. I continue to believe we are well positioned to create long-term shareholder value. We have that right strategies, the right products and the right people to continue to outperform the market. Kurt?

[Kurt Tjaden:]

So our financial outlook for the first quarter of 2016. We anticipate overall sales to be down 3% to 7%. Office furniture sales are expected to be down 4% to 8%. Supplies-driven office furniture sales are projected to be down 6% to 10%. Sales in our remaining office furniture businesses are forecasted to be down 3% to 7%. In our hearth business; overall sales is expected to be up 1% to down 3%. New construction channel sales are forecasted to be up 4% to 8%. And we expect remodel retrofit channel sales to be down 3% to 7% driven by lower biomass sales. Non-GAAP gross profit margin is expected to improve modestly from the first quarter of 2015 levels of 35.5%. Non-GAAP SG&A as a percentage of sales is expected to be modestly higher than the first quarter 2015 levels of 32.2%. Our estimated non-GAAP earnings per diluted share for the first quarter is in the range of $0.16 to $0.21 per share. So our full-year 2016 outlook, we expect consolidated sales to be down low to mid-single digits. We are forecasting office furniture sales to be down 4% to 7%, and sales in our hearth business are expected to be down slightly to up slightly. The effective tax rate for the year is projected to be approximately 35% and we expect capital expenditures to be in the range of $105 dollar to $110 million. Consistent with Stan’s earlier comments about the weak economic environment and high degree of uncertainty, we are expanding the range of our full-year earnings per share guidance. Our current best estimate of non-GAAP earnings per diluted share for the full-year 2016 is now in the range of $2.20 to $2.60 per share. Stan?

[Stan Askren:]

Okay, let me wrap this up and summarize. I'm confident in our ability to deliver long-term shareholder value in any market environment. Our businesses are strong, as are well positioned for the future. Our brands are competing well in their markets. Our strategies are working and our investments continue to deliver strong financial returns. So with those comments from Kurt and myself complete, we'll now open it up to questions. Operator, you there please.

[Operator:]

[Operator Instructions] Our first question comes from the line of Budd Bugatch with Raymond James. Your line is open.

[Bobby Griffin:]

Good morning guys. This is Bobby actually filling in for Budd. Thank you for taking my questions. First off for me is just a little bit more around biomass and the comparisons. How should we think about those comparisons throughout 2016? When will the comps from the lower fuel start to ease I guess is part of my question or the main bit of my question.

[Stan Askren:]

Yes, it should, Bobby, work through and we should reach the bottom end 2016. Likely step down another 10% to 15% down to historic lows and then level out in 2016.

[Bobby Griffin:]

Would the historical lows probably hit sometime in mid-summer? Would that be a rough guess?

[Stan Askren:]

It's very seasonal, Bobby, so using mid-summer is not really representative [ph] heating appliance purchase seasonal, and so you would say not till the end of the year, not till we get through the burn season at the end of the year or really going to be throw it [ph].

[Bobby Griffin:]

Okay. And then on the office segment - inside the office segment, was there any big shifts in products that you're seeing pressure on shift from the consumer to different style product maybe?

[Stan Askren:]

No.

[Bobby Griffin:]

And the weakness is pretty broad-based across all your product categories?

[Stan Askren:]

Yes sir.

[Bobby Griffin:]

And price points as well?

[Stan Askren:]

Yes sir.

[Bobby Griffin:]

Okay. And then lastly, when you look at supplies, the supplies channel business, and you referenced the other non-supplies channel business, that's mostly North America contact, correct?

[Stan Askren:]

It includes international as well. It’s multi-North American contact, yes.

[Bobby Griffin:]

All right, I was just trying to get a parse of what North America contract did for the quarter. Are you guys disclosing that?

[Kurt Tjaden:]

For which quarter, Bobby?

[Bobby Griffin:]

For the fourth quarter that we just had.

[Kurt Tjaden:]

So fourth quarter, we would have seen North America contract down slightly, in line with our expectations.

[Bobby Griffin:]

All right, thank you. I appreciate you guys answer my questions and best of luck in 2016.

[Kurt Tjaden:]

You bet.

[Operator:]

Your next question comes from the line of Matt McCall with BB&T Capital Markets. Please go ahead.

[Matt McCall:]

Thank you. Good morning everybody.

[Stan Askren:]

Good morning, Matt.

[Matt McCall:]

Okay. So maybe I'll follow-up on the last question. North American contract down little bit. What’s - did you talk about the specific expectations from North American contract in ‘16?

[Kurt Tjaden:]

We did not on that, Matt. We talked general office furniture as we talked about 2016, overall down.

[Matt McCall:]

Okay. So any comments on underperformance, outperformance for your different segments?

[Stan Askren:]

Well, Matt, I think if you look at what’s transpired over time, we've outperformed certainly on the contract side, we have - if you look at over the last 24 months, I'll remind you our perspective, any quarter or even a year compare, you really run the risk of distorting your picture, so it's more likely to use the 24 month period. So we would say HNI North American contract in the last two years is up I think 6.7% on average, difference up 4.6. 2015 I think we indicated for the year North America contract in HNI was flat to about the same. Supplies is basically been flat and modestly. We think based on what we look with our largest customers in the market research we do, we are tracking slightly ahead of that. So we would expect regardless of what the economy gives us that we would continue to outperform. So the numbers we're giving you here are more reflective of what we think the economy is going to do, rather than us indicating that we think we are going to lose some positions. I think we said at once in the conference, we said it at least four times we expect to continue to outperform the market in the long-term. Watch the short-term stuff because in this industry, you don’t screw it up.

[Matt McCall:]

Got it, okay. So you talked about your several large restructuring initiatives and I know you don't want to give specifics, I understand that. But you said you'd been working on this for long time, so maybe outside of just the [indiscernible] and I know that didn't drive the decision. Can you just talk about maybe the strategic nature of what you're trying to accomplish here because it sounds like it's been on the drawing board for a while? What changes are you trying to make?

[Stan Askren:]

Yes, first off let me comment on the drawing board for a while. If you go back and you look at our history, Matt, certainly sometimes, we always have major productivity structural cost take-out initiatives underway. It's part of our Lean RCI sort of environment and culture. The second part is the industry is always changing. We are always changing. We are always responding. We are getting smarter. There is a new sort of ways of thinking about things. We do acquisitions often on a go. So these are simply things that impact logistics, cost impact, operational cost impact sort of overall facility cost. These are investment in productivity, new technology. These are investments to deal with the shifting mix of products et cetera. So it is extremely broad-based. And I said corporate office furniture businesses, hearth businesses, international, domestic. It just goes on and on. So the objective is to continuously drive more, better, faster with less for our customers to creating value for our shareholders to deliver return on these investments and so more of the same. The point is these things were underway before the slowdown. We simply are - I guess I'm quite pleased that we are in a spot that these things have been worked. They've been vetted. We've done our due diligence. We've done our homework. We are actually underway and we’re beginning to roll those things out over the next two to three years and we are simply saying, hey, ladies and gentlemen, this is a slower economy but we are going to do well through that and we are not going to waste this crisis. We are going to use this as an opportunity to do what we do well, which is continue invest for growth, but also adjust our cost structure so that we are more competitive driving better returns for our shareholders.

[Matt McCall:]

Okay, that's helpful. And then, so that quantified that total benefit I think $35 million when everything is done. Can you talk about maybe what is assumed - what kind of benefit is assumed in the guidance for ‘16, your outlook for ‘16? I don't know if you gave margin outlook for ‘16. If you have that, that would be helpful.

[Kurt Tjaden:]

Yes, if you think about this, Matt, is assuming we proceed with these, it really becomes - it's a total of $35 million to $40 million of benefit, and it is over a three-year period. And assuming we proceed with these, you will start to see nominal benefit in the fourth quarter ‘16. I'd call a 5% of 10% of that that range that Stan talked ramping up to kind of half to two-third run rate in ‘17, and by ‘18 we would expect to be on plane that number that Stan talked. Again all subject to time, but that’s kind of how I think about the ramp, so not a big impact on our guidance for this year.

[Stan Askren:]

And then, Matt, the other thing is right behind these, we’ll be working and developing the next sort of initiatives to continue to drive productivity and structural cost as well. So we are simply stating those is that clearly this is what we have teed up, but behind that we'll be looking for more.

[Matt McCall:]

Okay. I have two more quick ones or two more quick questions. We'll see about the answers. But the inflationary environment, maybe talk about it in two ways, the impact on your customers. I know I think Bobby asked about where you are seeing weakness? I mean, we've heard there is more weakness in the energy and industrial than there is elsewhere. It sounds like you are seeing it across the board, but so is there any negative impact from the inflation in some of your customer groups and talk about the deflationary benefit on your price cost situation?

[Stan Askren:]

Yes, let me comment on Bobby's question. The way I took Bobby's question, is there anything that we are seeing in our business that’s inconsistent with the overall economy? I think anybody in business these days is seeing the energy section slow down. We are participating fully in that. And there is across the board. I think my answer is, look, ladies and gentlemen, look at the overall economic. We are tracking the overall economy. Look at the overall sectors. We are tracking the overall sectors. Look at the overall price points. We are tracking the overall price points. So I don't want to imply to use that energy is we are just seeing along and everything is good and we are not doing as well in some of these areas. I simply was commenting, we are tracking the overall economy. Your deflationary question is a good one, Matt. Certainly that is a benefit to us as it relates to materials. We are seeing inflation in people cost, so pay rates, healthcare etcetera continues to go up and that's a significant cost as part of our business. The opportunity in this lower material inflation environment to get price is less. So it kind of offsets when we kind of look at it. We benefited in the past from a decent ability opportunity to get priced, that's going to be harder going forward. The other side, material costs should get better as things go forward and we should benefit from that.

[Matt McCall:]

Okay, all right. Perfect. And last one, since you've been asked this, but the current situation you compare it to previous periods, most recent we had compared to kind of 2011/2008, right. So if you think about what your feeling today, what you're hearing from customers, what you’re sensing your business, does this compare more to what happened in 2008/2011, or does it feel totally different than those two periods?

[Stan Askren:]

Yes, again this is a question everybody is trying to ask regardless of what your business is, and the question is if I restate it, Matt, is this a soft patch or is it a recession? I don't know. I think it's more likely to be somewhere in the middle, soft patch. I mean you see what we are calling. Again I think we are calling not just our performance, we are calling the overall view of the economy which is its going to be down. We've gone back and looked at all these data. It's not the same as the Wall Street mortgage crisis. It's not. There is not that big of a shock. I think this is more of an asset - global asset repricing sort of the quantitative easing coming off, global slowdown. And I think it's more likely to be a soft spot, soft patch or a mild recession if you ask me. And look, my opinion is not worse much on this. There is all sorts of people that are smarter than we are looking this and feeling this. This is simply our response to I think an overall slowdown and overall I think souring or slowing of CEO confidence. I think most indicators are seeing or lagging I would say and small business confidence has been shaken and the question is how long does that go and how fast do they shape if off and then begin investing in are [indiscernible] but non-revenue non-income producing assets for the office furniture.

[Matt McCall:]

Very helpful. Thanks Stan. Good luck.

[Stan Askren:]

You bet.

[Operator:]

Your next question comes from the line of Kathryn Thompson with Thompson Research Group. Your line is open.

[Steven Ramsey:]

This is Steven Ramsey filling in for Kathryn. My first question on non-GAAP operating margins, the improvement in Q4 in reference to the structural cost you're taking out in the office business so far. How much of this is permanent first cost being only reduced in the low volume environment?

[Kurt Tjaden:]

So I think the way I'd answer that Steven is that is ongoing structural cost. It’s not a temporary adjustment, if you will. We've been making - when you think about activities in the third quarter or structural cost we had a plants come off-line last year that we've seen benefit flow through this. So I would say the majority of that structural cost take-out I would expect to be repeating and continue, and it's part of why you see if you look at our 2016 outlook and kind of take the midpoint of guidance say very favorable deleverage and continues to expect returns on those investments that will [indiscernible].

[Stan Askren:]

Let me take another shot at this Steven. The volume is good for us on cost. So when volume comes off, there are things we can just sort of stop spending and make our financials look better, number one. Number two, we are actually investing - continue to invest for the long-term. We have long-term view of this business. To deliver results but we get paid to deliver long-term value creation for shareholders and our customers. And so we don't do anything that's going to be sort of a short-term thing that will impact a long-term. As Kurt says, what we take out is longer term structural cost and we would expect to do that going forward. So I'm not sure I totally understood the question but I think we are hopefully answering that for you.

[Steven Ramsey:]

Right. That's helpful. I appreciate that. My next two questions are on the hearth side of the business. New construction is made up about 40% of the sales there in the past, recent past with the recent declines on the R&R side. Do you expect this 40/60 composition to shift in 2016 where new construction would make more sales, and if so, does that change the margin profile of the business at all?

[Stan Askren:]

The answer is yes, obviously based on the how the numbers just work out. Hearth sales will be made up larger - more largely of new construction than recent and the margins will remain during the same. The mix doesn't impact the margins is another way to saying that more clearly.

[Steven Ramsey:]

Great. And then last question on hearth. Excluding biomass, how was your core R&R business performing? The R&R market as a whole seems to be strong based on our survey work and recent reports from large publicly traded companies, so wanted to get your take on that.

[Stan Askren:]

Yes, and excluding the biomass, our R&R hearth business would be tracking at or above the R&R indices. So it's doing well. We have great market position. We have great products and that business is doing very fine.

[Steven Ramsey:]

Excellent. Appreciate it. Thanks.

[Stan Askren:]

Okay. You bet, Steven.

[Operator:]

Ladies and gentlemen, there are no further questions. I turn the call back to the presenters for closing remarks.

[Stan Askren:]

All right. Well, thank you so much for your interest in HNI and for tuning in, and we look forward to talking to you in the future. Have a great day.

[Operator:]

This concludes today's conference call. You may now disconnect.