Kimball International, Inc.
Q1 2019 Earnings Call Transcript

Published: 6 Nov 2018

[Operator:]

Good morning, ladies and gentlemen. My name is George, and I will be your conference call facilitator today. At this time, I would like to welcome everyone to the Kimball International First Quarter 2019 Fiscal Results Conference Call. [Operator Instructions]. As with prior conference calls, today's call, November 6, 2018, will be recorded and may contain forward-looking statements as defined under the Private Securities Litigation Reform Act of 1995. Actual results could differ materially from the forward-looking statements. Risk factors that may influence the outcome of forward-looking statements can be seen in the Kimball International Form 10-K and today's release. The panel for today's call is Kristine Juster, CEO of Kimball International; and Michelle Schroeder, Vice President and Chief Financial Officer of Kimball International. I would now like to turn today's call over to Kristine Juster. Miss. Juster, you may begin.

[Kristine Juster:]

Thank you, George, and good morning, and welcome to our first quarter fiscal 2019 call. We announced yesterday our results for our first quarter ending September 30, 2019. As in prior calls, there is an investor presentation slide deck on your website that includes important information on the quarter along with trending data. I'll start with a few brief comments before turning over to Michelle, and then we'll open the call from investors and analysts for questions. First, let me take a moment to introduce myself. While I've only been CEO for less than a week and the team Jasper is smiling at me right now. I've been on the board for 2.5 years and this provides me a truly unique perspective. Living with the strategies and working alongside with talented executive team. In my 23 year at Newell Brands, running four different divisions, I've had the opportunity to transform some of the most cherished brands from low growth to consistent double-digits delivery, all by winning in the market. Throughout that journey, I've spent significant time building high performance teams, developing new business models, new routes to market and making digital a part of everything that we do. I very much look forward to bringing these experiences to Kimball International. I wanted to start safe conversation by thanking and acknowledging Bob Schneider, the past CEO, the executive teams and the entire organizations for delivering the incredible turnaround since it's been in 2014. What I clearly see today, a strong foundation of government and financial discipline, our executive team and organization that is highly engaged. A strategic plan that captures real and exciting opportunities and a board that is incredibly supportive and ready to take it on. But what I value most is what I've call the special sauce that is been created over time, the beautiful respect of our founders that is in our core DNA. The authentic culture of caring that happens every day at Kimball International and a definition of winning that is grounded in helping all of our stakeholders to succeed. The path ahead is clear. It's about designing and building a new growth chapter, grounded in aspirational strategy and through big debt. The David Edward acquisition is just a small example. In our town hall call last week, we declared this chapter Kimball International NXT, a purpose-driven aspirational growth strategy with aligned resources in organization. My commitment to all of our stakeholders it will deliver short-term while setting up this exciting strategy. The magical blend of delivering today and tomorrow, I'm thrilled to take this on with the entire organization and sets Kimball International up for a truly exciting future. Now let's talk about the financial performance. Michelle will give more details, but I wanted to cover a few of the highlights. We have solid revenue growth of 11% and 8% organic. Orders were very strong at 18% and 15% organic. Both sales and orders were broad based across all vertical except government. Hospitality was exceptionally strong in access of 20% growth for the last three quarters and 20% order growth in the last two quarters. Demand remains strong, but as we all know sensitive to developing economic activity of raising interest rates and trade discussion. Higher transportation and commodity costs continue to put pressure on margins. The team has done an outstanding job in significant progress made on our $7 million cost reduction plan we announced in May. Q1 saw a partial benefit of that work. The recent price increases have also started to be reflected in Q1. National brand was affected in April and Kimball brand was affected in July. We expect the cost reductions in taking price to mostly mitigate both higher transportation and commodity costs starting next quarter. In addition, we are working to mitigate the impact of tariff that started as we all know 10% in September and 25% in January. Tremendous heavy lifting has been done by the team to minimize the impact that our customers. We are negotiating with the prior partners in China, moving production out of China and looking at alternative sourcing. We've been in close contact with our customers regarding the tariff. National has implemented a midyear price increase in effect in November and Kimball Hospitality has put price into effect on program products. The Kimball brand is also in full execution of the July increase. At this point, we feel we have covered the majority of the impact of the tariff assuming no further escalation. Overall I am really encouraged by the favorable environment of our market. Orders remain strong, activity is robust, reduction in the tax rate has provided capital to invest, unemployment remains low and corporate profits are healthy. As we all know, increasing interest rates and ongoing trade disputes could pose challenges, but for now, the overall outlook is promising, before I turn it over to Michelle, I wanted to provide you an update on David Edward acquisition that we announced on October 19. The asset purchase is now complete. We're excited to leverage the high quality reputation of the David Edward brands, expanding the portfolio, making it the premiums source of our postered products for architects and designers. At the same time, we're leveraging the capacity for Kimble Healthcare expansion, and the expertise in design and speed of innovation. We are very pleased to have the David Edward employees as a part of our Kimball International family. And now, I'll turn over to Michelle for more detailed on financial results before we open the call for questions.

[Michelle Schroeder:]

Thanks Kristie, and welcome to your first earnings call. The entire management team here at Kimball is very excited to have you on board and we are looking forward to working with you on the next chapter of Kimball International. We have a really nice start for fiscal year 2019 on the revenue line. Our first quarter sales were $194.1 million, which was an 11% increase over the first quarter of last year, and that was the highest level in over 15 years. And on an organic basis, our sales increased a strong 8%. As Kristie mentioned, growth in revenue was broad based among our verticals. The only vertical that declined was the government, and the largest contributor to the increase was our hospitality vertical with 43% sales growth. Now most of the D'style acquisition sales are included in this vertical. So on an organic basis, sales increased still a very strong 27% in the hospitality, as we saw growth in both our custom products and our program business. We put a lot of focus on growing our custom business and we are starting to see that pay off those efforts from our sales team. We saw another strong quarter from the healthcare vertical market, with first quarter sales growth of 20% over the prior year. So we are starting to see the benefits from the investments we made in the healthcare space and the acquisition of David Edward will further fuel growth within this vertical. We are really excited to have the David Edward team on board with us. Sales in the finance vertical market increased 38%, education increased 9% percent, and sales to the commercial vertical market increased 8%. These are all very healthy increases in these vertical markets. Sales to the government did decline 38% in the first quarter and we had a couple of large projects that hit in the first quarter of last year that did make for a little bit tougher comparable to last year. Our consolidated orders increased an incredible 18% in the first quarter or 15% organically, and similar to sales the growth was broad based with increases in all of our vertical markets except for the government. The significant increase in orders during the quarter resulted in an order backlog at the end of September of 151.8 million and that 23% higher than September of last year or 17% on an organic basis. So that high backlog sets us up nicely going into the second quarter. We are continuing our emphasis on bringing to market new innovative products and they are doing quite well in the market. We saw a 30% increase in sales of our new products during the first quarter and new products sales represented 25% of our total sales during the quarter. And just as a reminder, we do exclude sales from the hospitality vertical in this metric because hospitality products are primarily hotel brand specific. Our consolidated gross profit ended at 33.9% in the first quarter compared to 36.5% in the prior year. The benefit that we realized from the price increases, and the savings that we have from our cost reduction initiatives, and the leverage we gain on the higher volumes, all combine to increase our gross profit by approximately 290 basis points. We saw some nice gains there. These gains more than offset the higher transportation, commodity, labor and healthcare cost increases that we experienced during the quarter. Unfortunately, we did have an unfavorable sales makeshift when compared to the prior quarter. And that makeshift along with an increase to our LIFO inventory reserves, resulted in the lower margin this year. We do believe transportation costs have stabilized however at the elevated levels, but we did see commodity costs continue to rise in the first quarter. Our selling and administrative expense increased 8.6% in the first quarter compared to last year due to the additional expenses from the D'style acquisition that we didn't have in the first quarter of last year. We have higher healthcare claims and increased employee compensation costs in the quarter. We also incurred $1.1 million of expense this year related to our CEO transition, and that does include expenses related to the amendment of Bob's equity award agreements on the date team announced his retirement and then also the recruiting fees. Partially offsetting these higher costs, gains recorded on the sale of assets were about 700,000 higher in the first quarter of this year compared to last year. So with all of that said, our operating income margin was 7.1% in the first quarter compared to 9.1% in the prior year and that's on a GAAP basis. If you exclude the non-reoccurring CEO transition cost, our adjusted operating margin in the first quarter of this year was 7.6%. Our effective tax rate for the first quarter was 24.4% compared to 33.4% last year and the lower rate is primarily due to the benefits from tax reform that had about $1.4 million favorable impact in the quarter. Our net income for the first quarter ended at $10.9 million compared to $11 million in the prior year, and again a favorable impact of the lower-tax rate offset the lower margin, so our net income was only down slightly from last year. And if you exclude the CEO transition cost, our net income was actually up 6%. Our first quarter earnings per share equaled $0.29 for both years. Kristy mentioned the acquisition of David Edward is now complete. The acquisition did close at the end of October, so there was no impact to our first quarter financial results. And in case you missed our press release announcing the acquisition, there is quick summary of the financial aspects of the deal. The purchase price was $4.9 million and that's subject to normal post-closing working capital adjustment. Annual revenue for David Edwards for their fiscal year ending on September 30 was approximately $15 million. They will not be accretive our consolidated results out of the gate. We expect the business to be accretive to EPS at approximately 24 months and we expect the return on our investments to begin exceeding our cost of capital in approximately 36 months. The results will be immaterial to Kimball International profitability during this time. And we believe the long-term impact on our Kimball brand will be very significant with this acquisition. Moving to the balance sheet, our cash, cash equivalents and short-term investments balance was $84 million at the end of the September. Operating cash flow in the first quarter was $7.1 million compared to $7 million in the first quarter of last year. And we paid $2.6 million in dividends and repurchased 196,000 shares totaling approximately $3.3 million. At the end of September, we had 1 million shares remaining under our current share repurchase program. We will continue to monitor the market and repurchase shares opportunistically. Our capital expenditures totaled $4.7 million for the quarter, primarily related to investment in manufacturing equipment, automation and renovation for our corporate and Kimball brand headquarters. We expect capital expenditures for fiscal year 2019 to be approximately $30 million as we continue these investments. Our balance sheet remains strong with very little debt as of September 30, we have a $30 million credit facility and are in compliance with all covenants. As a reminder, I do want to mention that the new accounting rules for revenue recognition were effective for Kimball, international beginning in the first quarter, the most significant change was the reclassification of certain items on our statement of income. For direct bill customers, previously any fees paid to dealer agents for facilitating the sale and performing certain services were netted against revenue. Under the new standard, these are recognized as revenue with an offset either in cost of sales or selling expense. In addition, any commissions and fees we paid to third-party purchasing organizations are recognized as a selling expense rather than being netted against revenue. So, the results of these changes was an increase in net sales, an offset in increase in cost of sales and selling expenses, so that equates to a minimal impact on our operating income dollars, but there was a reduction in operating margin because of the higher sales number. So, we restated the prior year, so the numbers we are reporting are comparable year-over-year. Also, I wanted to mention that we received notification from the GSA in response to our April 2016 self-reporting of non-compliance in our GSA subcontractor reporting. The GSA reviewed our corrective action in the disclosures we provided, and based on current information, I'm pleased to say they informed us, that they do not anticipate taking any further action on this matter. So, to wrap up, we were very pleased with the great start to fiscal year 2019 with sales increasing 8% and orders increases 15% organically. We started to see the benefit for the actions we are taking to offset the transportation and commodity cost increases, and we've made real headways in offsetting the impact of the tariff. So, going forward, the executive team is very excited about Kristy joining the team and we look forward to our next chapter. With that, I'd like to open today's call to questions. George, do we have anyone with a question?

[Operator:]

And we show no questions at this time.

[Kristine Juster:]

Okay, I'd like to end the call today and thank everybody for listening. I'm thrilled to be a part of the Kimball International team and very much look forward to sharing more detail of our path forward. You our customers and our employees have my full commitment. Look forward to meeting everybody in person. Thank you.

[Operator:]

At this time listeners, may simply hang up to disconnect from the call. Thank you and have a nice day.