Houston Wire & Cable Company
Q1 2015 Earnings Call Transcript

Published: 9 May 2015

[Operator:]

Ladies and gentlemen, thank you for standing by. Welcome to Houston Wire & Cable Company's First Quarter 2015 Earnings Conference Call. My name is Liz and I will be your operator for today. Joining us on the call today are Jim Pokluda, President and Chief Executive Officer, and Nic Graham, Vice President and Chief Financial Officer. Today's call is being recorded for replay purposes and all participants are in a listen-only mode. At the end of the financial discussion, we will conduct a question-and-answer session and instructions will be given at that time. Comments during today's call may include forward-looking statements. Any such statements are based on assumptions that the Company believes are reasonable but subject to risk factors that are summarized in press releases and SEC filings. Forward-looking statements are not guaranteed and actual results could differ materially from what is indicated in such statements. Any forward-looking statements speak only as of the date of this call, and the company undertakes no obligation to publicly update such statements. If you did not receive a copy of the earnings press release that was distributed earlier this morning, a copy can be found under the Investor Relations page of the Company's website at www.houwire.com. At this time, I would like to turn the call over to Jim Pokluda, President and Chief Executive Officer. Please begin when you are ready.

[Jim Pokluda:]

Thank you Liz. Good morning, everyone, and thank you for joining us on our call today. I will begin today’s call with an overview of our first quarter 2015 results which I will discuss on a metals-adjusted basis, and then I will turn the call over to Nic who will discuss our financial performance in greater detail. Simply said, we had a tough quarter and although our results were certainly negatively affected by reduced industrial activity due to the low price of oil, our year-over-year Q1 sales drop was also significantly affected by a reduction in purchases from a large and ongoing infrastructure project. We are disappointed that the quarterly sales declined in this project, however our relationship with the customers solidly impact our position as a supplier has not been jeopardized, and we expect purchases to increase throughout the year likely more back-end loaded into the third and fourth quarter. Excluding sales for this infrastructure project, total sales declined 7% year-over-year which we believe is consistent with others in the industrial space. Despite headwinds from oil, the major infrastructure project previously mentioned and the quarter's 17.7 year-over-year drop in copper, there were a few positive developments including a 10% - excuse me, a 10 basis point increase in gross margin to 21.7%, expense reductions of $1.4 million, and strong operating cash flow. Transactional volume which we measure as invoice count increased approximately 5% versus Q1 2014 level, encouragingly however, is that March transactions increased 1%, 4%, and 3% respectively over February, January, and December. We estimate that sales results in our core business was services MRO demand, decreased approximately 5% and represented 69% of our total revenue and that project sales decreased 29% or 9% excluding the aforementioned infrastructure project, and represented 31% of our revenue, MRO activity was down across most geographic markets. Regions most negatively impacted were those with high concentrations of upstream, midstream, and downstream hydrocarbon extraction, transportation and refining. Despite the multiple macro market headwinds, we were encouraged to see steady gross margins and MRO transaction counts continuing to improve, growing now for the fourth straight month from the December of 2014 low. Project end-markets experiencing reduced over-year demand included oil and gas, mining and minerals, and institutional construction. Helping to offset spend reductions in these categories was a 19% year-over-year growth in the utility and power generation end0markets, the majority of which was associated with environmental compliance projects for fossil fuel power generation. Q1 project activity in the oil and gas space was somewhat more resilient than expected. Although we experienced a continued slowdown in activity, the rate of decline appears to be moderating. Hence we have often discussed though projects in a very choppy nature in which they are booked and billed makes this area of our business more difficult to forecast versus the generally more consistent revenue stream generated from MRO demand. To provide a little more color on projects, I will remind our listeners that we broadly categorize project activity into three end-markets, including, utility and power generation, industrials, and infrastructure. Project activity in the utility and the power generation market experienced strong year-over-year growth and were approximately 19%. This growth was driven primarily by investments in scrubbers for fossil fuel power generation and upgrades to existing power generating facilities to comply with proposed mercury and air toxins standards requirements. Project activity and industrials decreased approximately 8% year-over-year. We include multiple end-markets in the industrial category such as manufacturing, mining and minerals, and oil and gas. So for purposes of how we think of this project end-market, this is a very large space. There are always several advancers and decliners as we rollout this number, but at a high level, we experienced strong growth in general manufacturing which was offset by declines in mining and minerals, as well as oil and gas. Project activity in the infrastructure market which absent the previously mentioned large projects is a small to the three broad markets declined 87%. Components of this market include wastewater, transportation, institutional facilities, and telecommunications. Moving further into 2015, the low price of oil and reductions in industrial and infrastructure end-market spend are potential headwinds to our business. Fortunately copper and sub-category end-markets such as general manufacturing, utility environmental compliance has shown recent strength and given our present level of visibility the rate of decline in business activity in oil and gas markets appears to be flat. Although choppy quarters may still lie ahead, as demand in many areas of the US industrial economy remains uncertain, a relatively higher percentage of sales generated from projects can vary from quarter-to-quarter. We believe we have taken the appropriate steps to operate in the present environment. Despite any near-term headwinds to business, the long-term fundamentals of our markets are intact. Pricing power is strong, expenses have been significantly reduced, operational excellence is at superior levels, sales growth rates for new products continue to outpace traditional products and development and execution of new business development initiatives remains the top priority driven by a highly motivated and talented group of individuals. I will now turn the call over to Nic Graham, our Vice President and CFO, for a detailed analysis of our financial results. Nic?

[Nic Graham:]

Thanks Jim, and good morning ladies and gentlemen. A disappointing start to 2015 as reduced sales impacted gross profit dollars, operating margin, net income and EPS. However, despite the lower level of sales activity, there were several financial aspects for the quarter that were quite positive. Jim mentioned gross margin up 10 basis points over Q1 2014 despite the continuing competitive nature of the market and the decline in commodity prices, the internal steps that were enacted in mid-2014 to improve margins are having a positive impact. Our cost savings initiatives that was discussed in detail during 2014 as we worked very hard to reduce expenses has benefited the company. Q1 2015 OpEx of $14 million was down $1.4 million or 8.8% from Q1 2014's $15.4 million and down $500,000 or 3.5% sequentially from $14.5 million. The decrease can primarily attributed to the lower headcount and related costs, lower variable compensation and increased efficiencies in our distribution platform. Going forward, we will continue to be frugal with all discretionary expenses. However, during Q2 2015, we will incur the cost of consolidating the four SWWR Southwest Wire Rope Houston locations into one facility which we estimate will be in the range of $250,000 to $400,000. While we have moved facilities previously, this is by far the biggest move we have undertaken in the past 20 years. We’ve continued to reduce our working capital investments, receivables falling in line with the sales trend, and days sales outstanding is still within our expectations and we’ve also reduced our inventories as our regional re-profiling efforts continued to gain traction. During the quarter, working capital fell $7.4 million or almost 6% from year-end 2014. Operations generated $10.3 million in cash, the second highest level ever for the first quarter. We used part of these funds to reduce our debt obligations which fell by more than 11% from $53.8 million at year-end 2014 to $47.7 million at Q1 2015. Our debt-to-equity stands now at 43.4% or 44.8% including the bank overdraft which is the lowest level since Q3 2013. Availability under the $100 million credit facility was $45.9 million at March, more than adequate to fund our expected needs. We remain in full compliance with the availability-based covenants of our loan and security agreement, which expires in September 2016. We continue to reward shareholders with a $0.12 per share dividend and repurchase of 164,000 shares during the quarter. Since the inception of the buyback program in March 2014, a total of 710,000 shares have been repurchased. Current initiatives for 2015, we are going to complete the Houston facility consolidation as previously mentioned, continue to drive more efficient working capital utilization, consider new business development initiatives including new products and acquisitions and ensure prudent and efficient allocation of capital; maximize the efficiency of the operating expense spend, including all discretionary expenses; and renew the credit facility prior to the end of Q3 2015. That concludes the prepared remarks. At this time, I’ll turn the call back over to the operator. Liz?

[Operator:]

[Operator Instructions] Our first question comes from the line of Ryan Merkel with William Blair. Your line is now open.

[Ryan Merkel:]

Hey guys. Good morning.

[Jim Pokluda:]

Hey, good morning, Ryan.

[Ryan Merkel:]

So I guess, I want to start - I recall that March you had a tough start, and I was just hoping you could comment on how March finished? And then perhaps comment on April, what are you seeing there so far?

[Jim Pokluda:]

Ryan, it really didn’t get much better in March and April is performing, I would say, very similar to the average of the monthly performance for Q1. Slightly down – not much down, but we haven’t seen a turn.

[Ryan Merkel:]

Okay, and when you say slightly down, is that year-over-year or is that down sequentially in dollars?

[Jim Pokluda:]

Down sequentially, yes.

[Ryan Merkel:]

Yes, down sequentially, okay. And then, the comment that the rate of decline in energy is moderating. Just curious if it’s too early to sort of call that there is a bottoming there - or just kind of what are you thinking in terms of the outlook, I guess, is my question?

[Jim Pokluda:]

I think it is too soon to call it. Although we are definitely encouraged by the flattening of the line, the pipeline looks pretty good Ryan. The volume of opportunities in dollars has improved sequentially, which is certainly encouraging. The number of bids that we have in the final stage of the sales funnel that we call the negotiation stage, that is also up on a sequential basis. As we mentioned on the last call, some big liquefaction jobs down along the Gulf Coast have been approved and they are advancing in their progress not as fast as we like, but they are certainly moving forward and just the top three alone represent $30 billion in the downstream space. So, I was - really as I said in my prepared remarks, a little surprised that the oil impact wasn’t in the order of 10% like I thought it would be during the last call closer to 6%. So, all I can do is, report on the most recent information we have, I would say, the data doesn’t appear to be getting worse. In fact, the data says it it’s stabilized and getting quite a bit better. The manifestation of that into flow rates, orders, volume et cetera hasn’t yet been seen. But you have to start somewhere and I think that the data is little bit more positive as opposed to a little bit more negative. The macro data.

[Ryan Merkel:]

Right, okay. Last one for me and I'll sort of jump back in line. So, I guess, in terms of energy, maybe a flattening of the line, industrials, it is a big market you said, but general manufacturing was good. So let's talk about what wasn't good, NAT resources, potentially waste transportation and telco. Is that summing up?

[Jim Pokluda:]

Yes, transportation, our infrastructure markets are smaller for us, but transportation is definitely down. Water, really hasn’t been good for quite sometime, water, waste water, tunnels, roads, bridges, really pretty flat. Let’s see, also as you mentioned, general manufacturing, I was encouraged to see that improving. The largest was just that non-recurrent event with the major project that’s been going on for some time. So there is a lot of gives and takes in that market. Unfortunately, all in, if you were to bridge it, I think about it like this, the telecommunications phase on a year-over-year basis was down about 9. Oil and gas down about 6 and others all in pros and cons down about 3.5.

[Ryan Merkel:]

Okay, very helpful. I’ll get back in line. Thanks.

[Jim Pokluda:]

All right.

[Operator:]

Our next question comes from the line of Sam Darkatsh with Raymond James. Your line is now open.

[Josh Wilson:]

Good morning. This is Josh, filling in for Sam. Thanks for taking my questions.

[Jim Pokluda:]

Hey, good morning, Josh.

[Josh Wilson:]

So, I want to make sure I understand the large project issue, so this is a delay in the project would be the right way to describe it?

[Jim Pokluda:]

Yes, as we’ve often discussed, Josh, these things are notoriously cyclic and as what would have it, Q1 and Q2 last year was pretty good for this project and it’s slowly tapered from there throughout the remaining of 2014. We are hopeful that the business activity would pick up in the present period similar to the prior year. It did not, obviously, the first questions we ask are heavily been displaced. We do something wrong, we make a mistake et cetera. And we have an extremely high level of assurance that none of that has occurred. It’s just simply a pullback in activity on the job. We are still the alliance partner on the job. They are just not as busy as they were in the prior year.

[Josh Wilson:]

Got it. So there is a comparison issue here as well. And then, on the gross margin outlook, you talked about some headwinds from metals deflation and competitive environment. I assume the mix shift towards MRO was a benefit. Could you quantify that benefit and call out any other puts and takes on the gross margin line?

[Jim Pokluda:]

Sure. There definitely is a positive impact as the shift in our revenue streams becomes more heavily weighted to MRO. They are just smaller transactions, quicker turnaround, more needed now demand filled. We don’t have it broken out for the audience in a granular detail of profitability per MRO order versus project order. But certainly MRO is more profitable. The copper headwind is certainly a problem. I mean, it’s down 17 plus percentage year-over-year and down 10 plus percent sequentially and we have a large inventory service demand and it takes a while using our average cost a ton in treatment to smooth those wrinkles out. So, you might say what does that mean, Jim. It’s wonderful. It’s good that copper has gone back up into the 290 range. That takes pressure off. But we still have the trailing effect from our average cost of ton in treatment. So it will take a while for us to really realize the full benefit of this recent copper inflation. It’s headed in the right direction. We are happy about that. It’s still a headwind. So we just have to keep our eye on it. Having said all that, as I said on our prior call, we’ve done a remarkable job holding margin. We are up 10 basis points year-over-year. We are getting the value for our goods and services. Historically, copper deflation like this has applied more pressure to the business and I think our ability to execute in this market speaks very highly to our controls, training to not let near-term macro events negatively affect our profitability.

[Josh Wilson:]

And do you have an expectation or any guidance you could give us on either a dollar amount or in terms of turns that you are targeting for inventory levels by year-end?

[Jim Pokluda:]

Our turns, as we are a specialty supplier, nowhere near what you would see at a typical customer of ours would be in electrical distributors. So, that’s the bit of sweet part of being a specialty guy. He gets to make a little bit more money on the transaction, but the specialty nature of the goods just drives down your turn. So we are focused on turns. Obviously, we are focused on inventory stratification and more strategic inventory profiling for goods to bring the inventories down which should drive improvement in turns. But we haven’t ever forwardly discussed the turns goal and the detail that you are asking.

[Josh Wilson:]

Good luck with the next quarter.

[Jim Pokluda:]

Thanks Josh.

[Operator:]

Our next question comes from the line of David Manthey with Robert W. Baird. Your line is now open.

[David Manthey:]

Thank you. Good morning, Jim.

[Jim Pokluda:]

Hey, good morning Dave.

[David Manthey:]

So, on this large project, I don't recall hearing about this before and if I look back over the past three years, there was never a big upstroke that would correlate with this type of down-stroke you are seeing today. I’m just confused as to the magnitude of this. Where it came in, where its - where the impact is, because again, if you look at the past three years within the projects segment, it’s been pretty much down and if you have this size project in there that goes away there is kind of a negative impact. I’m just wondering how it snuck in here without having above the corresponding positive impact?

[Jim Pokluda:]

It was a very – we’ve been involved in this project for quite some time, Dave and it’s been a surprisingly smooth growth rate over the past several quarters. Never really had anything that I would categorize as overly significant project growth. It’s just been growing fairly steady for the past several quarters. Last year it peaked in actually Q2 and because they had so much inventory build through Q1 and Q2 purchases from us, the spend started to taper out through Q3 and Q4. We were hoping that we’d see resurgence in activity. It hasn’t happened. We are frankly a little bit surprised to see a drop-off this fast. That’s why we felt like it is important to mention it on today’s call. We likely will find similar discussion in Q2’s results. Beyond that, there is not a lot more color I can add. It built slowly over the past several quarters and then just really, really slowed down in the Q1 of 2015.

[David Manthey:]

And so given what you said about the second quarter, are we to assume that, is the project over or is there some expectation that you could potentially see at ramp back up going forward?

[Jim Pokluda:]

The project is definitely not over and we certainly sold them material in Q1 and we are selling them material today. It’s just not at the formerly purchased rate. So, project is not done. We are still the primary supplier. They are definitely buying now and the feedback is that that spend will slowly build throughout the year. As I said more likely back-end loaded. I just don’t think it’s going to be at quite a level it was in the former years.

[David Manthey:]

Okay, and then, just a much more broad question. I think, Nic, in his monologue had mentioned new products and M&A and that sort of things. I'm just wondering, Jim, if you can articulate the Houston Wire & Cable strategy as you look at the business. I mean, we get kind of tied up in copper prices, in oil and gas, and these more near-term tactical issues, but could you lay out the bigger picture as we look out three to five-plus years, what the company is trying to do?

[Jim Pokluda:]

Sure. M&A has been a tough – I’ll start with the M&A. M&A has been a tough one for us Dave. For a company our size, we have a lot of dry powder and we are ready to go when the right opportunity presents. The challenge that we encounter is finding the right opportunity that will support the channel as opposed to potentially conflict with the channel as we sell through electrical distributors. So, somebody might say, well, why don’t you sell motors? And maybe superficially that would sound like a good idea, but our channel sells motors. So we wouldn’t want to be an obstruction to them in that context. So the strategies define something that will complement the channel’s product mix without conflicting. We’ve been through the alter a few times in a couple of deals that I think would have been good. But, as you know, we are a value-driven organization, low cost organization and we just had to draw a line in the sand and quit chasing some of these deals that got a little bit expensive when they went to market. So, unfortunately, when we thought we are getting close to a deal, we were out bid and they didn’t come to fruition. Well, we are still interested in the M&A, but I would say that the opportunity set is somewhat difficult. New products however I think is a different matter. We were good distribution machine, a very powerful distribution machine, 800,000 square feet of warehouse, tens of thousands, 65 plus thousand buyer names in our master database. As you know, operational excellence it’s absolutely outstanding, 99% plus on time performance, 99% plus order accuracy. A good field engineer type sales force. So, when we launch new products like some of the oil and gas cables that you heard me mention before and even the higher grade power and control cables that were mentioned in the press release and the aluminum that we’ve discussed before, we are able to leverage those products into our machine selling them to the same customers without a lot of incremental cost. And all of those initiatives have gone quite well. Moving forward, we have other new product initiatives in the pipeline. We haven’t discussed in specifics what they are, but they will be launched later in the year. We’ve been working on it for well over a year. So we are very excited about that and I am looking forward to discussing it when the time is right. It’s just be a little premature right now. So, I feel, the management team feels that, with respect to new product strategy, product line extensions, there is a lot of options for a company to leverage through this very powerful distribution machine.

[David Manthey:]

Okay. Thanks Jim.

[Jim Pokluda:]

You are welcome.

[Operator:]

[Operator Instructions] Our next question comes from the line of Michael Conti with Sidoti. Your line is now open

[Michael Conti:]

Hey good morning.

[Jim Pokluda:]

Good morning, Mike.

[Michael Conti:]

Yes, can you just give us an idea on which of your end-markets outside of oil and gas are seeing a positive or a negative impact from lower oil prices? I mean, are you guys seeing any type of contagion around some of the oil rich areas in the country?

[Jim Pokluda:]

Well, it’s pretty tough to get your hands – arms around this Mike. When it comes to the MRO end of our business, because we transact several hundred orders a day on the MRO need and since we are working through distributors, it’s pretty difficult to pinpoint exactly what end-markets these products are going to. We certainly have a pretty good feel. But to get really specific, it becomes a little bit difficult. As I look across broad markets involving project activity, we can use that as kind of a proxy, because project activity to some order of magnitude does lead MRO activity. So to give you some examples, in the most recent couple of quarters, mining and minerals has been down. As I mentioned earlier, lot of the infrastructure stuff, waste water, transportation, and institutional facilities like schools, hospitals, et cetera have been down. I was a little bit surprised to see general manufacturing up as high as it was, frankly, quite encouraged by that, because although we are not directly related to, perhaps a negative impact of a strong dollar from an export perspective, we are tangentially first derivative associated if you think about the products that we sell as they are used in manufacturing, OEM manufacturing. So, although we don’t sell our products overseas, we sell to – we sell products that go into other products that are potentially sold overseas. So I was kind of surprised to see that, despite a lot of buzz in the industry about that, we did as well as we did with general manufacturing. Getting any more specific I think would be pretty difficult, Mike.

[Michael Conti:]

Sure, now that's helpful. And then Nic, you mentioned you plan on renewing the credit facility. I’m just curious as to what your expectations are for your, I mean, borrowing costs given, your exposure to oil and gas and there is articles indicating how banks are requiring more collateral, et cetera?

[Nic Graham:]

Yes, Mike, our facility is asset-based secured by our inventories and receivables. So, it gives the banks a fair amount of – well, it gives them relief, a complete coverage on any borrowings you make. It’s one of those are obviously only loans at certain rates. So, we are striving to get a very good deal as we normally do. I don’t foresee any major issues here, into the five year term again. So, I don’t foresee any real issues in getting this renewed, Michael.

[Michael Conti:]

Okay, thanks.

[Operator:]

I’m showing no further questions on the phone lines at this time. I’d like to turn the call back to Jim Pokluda for closing remarks.

[Jim Pokluda:]

Thank you, Liz. And thanks again to all our valued team members for the continued hard work and dedication to the company. To our shareholders, we extend a special thanks as well. We appreciate you joining us on the call today and look forward to future success ahead. Good day everyone.

[Operator:]

Ladies and gentlemen, thank you for your participation in today’s conference. This concludes the program and you may now disconnect. Everyone have a great day.