Houston Wire & Cable Company
Q2 2015 Earnings Call Transcript

Published: 8 Aug 2015

[Operator:]

Ladies and gentlemen. Thank you for standing by. Welcome to Houston Wire & Cable Company's Second Quarter 2015 Earnings Conference Call. My name is Amenda 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 record 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, Amenda. Good morning, everyone. And thank you for joining us on our call today. I will begin today’s call with an overview of our second quarter 2015 results, and then turn the call over to Nic who will discuss our financial performance in greater detail. Market weakness experienced in the first quarter of 2015 continued into the second quarter. And year-over-year sales decline of approximately 25% resulted from a combination of reduced demand in oil and gas and industrial market, inflation in the price of metals and the decline in purchases on large and ongoing infrastructure project. Excluding metals and the estimated sales reduction from oil and gas markets and in telecommunications project, we estimate the total sales decline approximately 3% from the record Q2, 2014 revenue produced in the prior year. Gross margin at 21.7% remain consistent with Q1, 2015 and flat to the Q2, 2014. Recognizing that the prior year period did not contain the market headwinds we are experiencing today, I am pleased with the company's ability to exercise such strong pricing discipline in the present environment. Transactional volume which we measure as invoice count, decreased approximately 11% versus the record level reached in Q2, 2014. As I continue with my prepared remarks, I'll discuss results on a metals adjusted basis. We estimate the sales results in our core business which services MRO demand, decreased approximately 15% and represented 70% of our total revenue. MRO activity was down across most geographic markets, Eastern and certain Midwest markets where MRO demand is more highly concentrated in general and industrial manufacturing, performs significantly better than oil and gas rich geographies. Project sales decreased 30% or 35% excluding the previously mentioned infrastructure project. And represented 30% of our revenue. Our three primary end markets for projects include utility power generation and environmental compliance, industrials and infrastructure. Project activity in the utility power generation and environmental compliance market was down approximately 5%. Sales and business activity improved in substation and alternative fuel power generation; however, it was not enough to offset decreased activity in fossil fuel power generation and environmental compliance devices. Project sales within the industrial segment declined approximately 15% year-over-year. Excluding the oil and gas segment, which is included in this category, sales increased approximately 16% over the prior year period. Project activity in the infrastructure segment decreased approximately 64% year-over-year, excluding the decrease in spent on the large telecommunications project, sales in this area of our business increased approximately 69% year-over-year. Moving further into 2015, as I think back to the second quarter of 2014, today's operating environment is certainly much different. At this time last year we had just posted our second consecutive record revenue quarter. And economic conditions were continuing to slowly improve. A year later headwinds extraordinarily driven from the reduction in the price of oil, metals inflation and reduced large project activity have halted that progress. There is certainly no question that we are disappointed with the operating environment. However, our businesses, the services we provide and mainly the markets in which we excel are strongly intact. I believe an internal key performance metrics and customer feedback indicate that we are executing well in the areas or business that we can control. Our value proposition remains very important to the channel, customer satisfaction is exceptionally high and revenue growth is occurring in fulsome market. Highly disciplined management of expenses and working capital, extreme focus on operational execution, and gross margin optimization are our top priorities. Business development initiatives and product line expansion continue to gain traction, and growth rates for several are outperforming traditional areas of our business. Varying degrees of uncertainty involving the recovery of oil and gas markets and that also likely remain throughout the second half of the year. We believe we have taken the appropriate steps to operate in the present environment, and will with vigor, execute our business plan through a group of highly motivated and very talented individuals. I'll 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. It was a disappointing quarter which fell short of our expectations due to the continuance of several market and economic headwinds that Jim outlined. The decrease sales level and resulting lower gross profit dollars curtail operating margin, net income and EPS. Our operating model was more heavily based on fixed cost such as facilities, employees and the related infrastructure. When throughput falls short of available capacity, our results are impacted. Despite our continuous success in reducing operating expenses, this achievement cannot make up for the lower levels of gross profit. Our results for the quarter also include an impairment charge of $3 million. The bulk of which was thee write-off of goodwill of the Southwest Wire Rope reporting unit. We performed the annual impairment test in October each year, but during the second quarter concluded the some impairment indicators existed. Accordingly, we had a third party perform a normal test and determined that the carrying value of the reporting unit's goodwill was not supported by the implied fair value. This impairment is a non cash item. There were however several financial aspects of our Q2 performance and our current financial position that were positive. Excluding the impact of impairment charge, our operating expense decreased from $15.6 million in Q2, 2014 to $14.2 million in Q2, 2015, an 8.8% improvement. As we benefit from and continue the cost saving initiative that commenced in 2014 to drive down our overall cost structure. The current quarter's operating expenses also includes the moving cost of the consolidation of the Southwest Wire Rope's four Houston locations into one facility. We estimate this cost to be approximately $250,000 which is at the low end of our original estimate of $250,000 to $400,000. The new facility was occupied in a series of staged moves in June and is now fully operational. This consolidation is culmination of a lengthy building modification project which lasted approximately 18 months. In addition to the operational efficiencies that we expect to obtain from this consolidation. We have currently identified approximately $400,000 of annual savings. Additional operating expense reductions will begin to manifest themselves once we develop an operating track record from this facility. Excluding this moving cost from our operating expenses, decrease that the OpEx expense of $13.9 million or 10.5% less in Q2, 2014. As mentioned on previous call, we continue to focus our efforts on more efficient use of our working capital investment. During the quarter, our working capital felt by 7.4% or $9.1 million from March 31, 2015 level including $5.4 million of inventory. The inventory reduction is a result of the regional reprofiling which is constantly under scrutiny. Since December 2014, this re-profiling initiative has delivered working capital savings of $12.7 million. Operation generates $12.2 million in cash, the highest level ever for the second quarter. We use part of this fund to reduce our debt obligations which fell by more than 11% from $47.7 million at March 31, 2015 to $40.3 million at Q2, 2015. Total debt is now fallen by $13.5 million or 25% since the $53.8 million level at December 31, 2014. Our debt to equity ratio now stands at 38.1% or 39.2% including the bank overdraft, the lowest levels since Q1, 2010. Availability under the $100 million credit facility was $46.9 million at June, more than adequate to fund our expected needs. We remain in full compliance with the availability based covenance of our loan and security agreement. We continue to reward shareholders for the $0.12 per share dividend and repurchase of 155,000 shares during the quarter. Since the inception of the buyback program in March, 2014, a total of 865,000 shares have been repurchased. Looking at some of the key 2015 initiatives, we are looking to renew the credit facility which expires in September 2016 prior to the end of Q3, 2015. We began this exercise in Q2 of this year and are making excellent progress. Continue to drive more efficient working capital utilization primarily focused on our inventory investment, further develop and drive new business development initiative including new products and markets and ensure a prudent and efficient allocation of capital. Continue to maximize the efficiency of the operating expense spent including all discretionary expenses. That concludes our prepared remarks. At this time, I'll turn the call back over to the operator. Amenda?

[Operator:]

[Operator Instructions] Our first question comes from Sam Darkatsh of Raymond James. Your line is open.

[Sam Darkatsh:]

Good morning, Jim, Nic. How are you? A couple questions here. The dividend of $0.12 a quarter, obviously that -- with the current level of business would suggest more than 100% payout on earnings and historically, it's been 30% to 50% or so. Jim, what are your thoughts on where the payout should be and what your thoughts are on the dividend on a go-forward basis here at these levels?

[Jim Pokluda:]

Certainly, Sam, yes so dividend is a long term business decision we make based on our view of the present state and what we believe it would be for an extended period. So with that thought in mind we did land on the payout rate that you articulated a moment ago. We have the capacity via very strong balance sheet to pay the dividend and a period where performance is less than expected, less than desired. However, we view this is a more of near-term condition and again with that thought in mind that the present operating environment is somewhat extraordinary driven by few unexpected events. Really the best way to look at the dividend is with long term view in mind. The view we had presented when we made the decision to offer $0.12.

[Sam Darkatsh:]

The funded debt to EBITDA then, what would your comfort level be on a max basis, Nic?

[Nic Graham:]

Well, we are only leverage -- we were leveraged less than 40%, this amount of equity, Sam, I mean we are really low leverage, we operate a lot higher, we operate at almost a 100% so I am not particularly uncomfortable moving up considerably on our leverage at this point. So it is not really an issue at this point.

[Sam Darkatsh:]

Okay. Moving back to the business then ahead, the accounts payable seemed a little higher than I expected at least. Was that better terms from suppliers, Jim? Were there some special buys that you took advantage of or was it just timing of purchases? Or am I looking at it the wrong way?

[Nic Graham:]

Hey, Sam, this is Nic. I think it is purely timing, Sam. It just really depends on when invoices come in from the vendors, it does move up and down but it is really more timing than anything else. We discount most of our vendor invoices, so it is purely timing.

[Sam Darkatsh:]

Got it. And then two more quick ones if I could sneak them, just housekeeping. If metals pricing remains flat from here, what would the impact on sales be in the third quarter and fourth quarter as we look through the year?

[Jim Pokluda:]

We use an average cost accounting treatment for inventory and the value of our inventory slowly moves down over time with copper inflation and slowly moves up over time with copper inflation. So as we move forward we will continue to bring in new material and blend down our cost of goods for individual SKU, but it takes a couple of quarters to do that. So moving forward we still have copper headwinds. And at this rate if copper were to stay at the 235 level where we exist today which incidentally is down 15% versus Q2 close, we still got another two to three quarters of averaging down to do before what I will call large effective copper worked is way through the system.

[Sam Darkatsh:]

So the 5% impact that you saw here in the second quarter -- I guess I can do the math going back in terms of what the lag might be, but would that down 5% be similar in Q3 if copper holds steady at current rates? Or might it get more pronounced? Or just give a sense of how that lag goes through.

[Jim Pokluda:]

Sure. They stays at 2.35level and admittedly I have to run through the math myself it is quite detail calculation but I can certainly comment intuitively, if stays at the level it's at today, I would expect another 4% to 5% headwind moving into Q3 and possibly Q4.

[Sam Darkatsh:]

And then final question, Jim, can you remind us the largest project runoff effects, when do you anniversary those?

[Jim Pokluda:]

Well, last year we are pulling out of this. As I mentioned in my prepared remarks, we put up two strong quarters and we are starting to feel quite a bit better about the market. At that time, I still wouldn't have described the project market as strong as it was pre recession. But certainly well on its way back. The reduction in the price of oil that occurred later in the year certainly put the brakes on that growth. So I am in a position now to say Sam that we are back to where we were couple of years ago. We've really gotten as I mentioned a very high percent of our business, 30 percentage is oil and gas related so it is going to take a while for this to work its way through the system. And we definitely need oil to come back to help us accelerate that growth rate to 2007 and 2008 period, we experienced pre recession.

[Operator:]

Thank you. [Operator Instructions] Our next question comes from Michael Conti of Sidoti & Company. Your line is open.

[Michael Conti:]

Hi, Jim and Nic. How are you? Just a quick question, Jim, in the past you mentioned a 10% decline in revenue particularly from oil and gas, which would bring you to around 3.50 this year. And then just taking into account the infrastructure project and the stated weakness in industrial is that something you continue to anticipate just given current volume and billing trend with your customers?

[Jim Pokluda:]

This time, yes, Mike. Of course there are headwinds beyond the oil and gas variable but I would still use that 10% number as a function of overall revenues. To help you sort of bridge our performance on a year-over-year basis, Q2, 2015 versus Q2, 2014, there was an approximate 25% decline. I think about copper representing 4% to 5%, of that telecommunication piece of business about 7%, oil and gas approximately 10% and then the balance would be another.

[Michael Conti:]

Okay, great. And then Nic, can you just comment a bit more on the potential synergies of the $400,000? I mean where do you expect to see that and I guess the timeframe in which you guys can I guess include that in your financials?

[Jim Pokluda:]

Yes. Mike, it is primarily rental savings. We've obviously bought a business facility which takes the place of four other facilities, three of which were rented and one which was owned and obviously that facility will eventually are sold. So that's the bulk of -- or the savings also we had some fairly expensive security costs while we were -- while we occupy and remodel this building, so basically those two are pretty much -- that's the $400,000. There is going to be some additional savings on top of that. Obviously, once we get settled as other aspects like freight, personnel, there was probably some duplication in these other facilities. So that $400,000 is pretty much lock but we are thinking when we get some more -- things like telephone, when you consolidate four buildings, you now got one telephone platform, they will also be on our VOIP telephone platform as you might remember we put a VOIP platform nationwide in last year when we could not obviously hook up these other facilities. It wasn't economic. So they are now all in VOIP, we have no idea what we are going to save, we are going to save some money. Salaries dimension, utilities, trash that kind of stuff so there is going to be some more savings but we are looking forward to seeing those come through.

[Michael Conti:]

So is this more of a 2016 in terms of modeling from the savings?

[Jim Pokluda:]

I think at this point, Mike, I am modeling the $400,000 -- I think to be fair I think six months of kind of operations will certainly give us a better indication. So I would model $400,000 I think anything else would be upside but we will comment some more on that once we get a little bit more history out of this new building.

[Operator:]

Thank you. I am showing no further questions. I'll like to turn the call back to Jim Pokluda for closing remarks.

[Jim Pokluda:]

Thank you, Amenda. And thanks again to all our value team members for a continued hard work and dedication to the company. To our shareholders we extend the special thanks as well. Appreciate you are joining us on our call today. And look forward to success in the period ahead. Good day everyone.

[Operator:]

Ladies and gentleman, thank you for participating in today's conference. This does conclude today's program. You may all disconnect. Everyone have a great day.