Neenah, Inc.
Q1 2020 Earnings Call Transcript

Published: 11 May 2020

[Operator:]

Good morning and welcome to the Neenah First Quarter 2020 Earnings Conference Call. [Operator Instructions] Please note this event is being recorded.I would now like to turn the conference over to Bill McCarthy, Vice President, Investor Relations. Please go ahead.

[Bill McCarthy:]

[technical difficulty] earnings call. With me today are Julie Schertell, Chief Operating Officer; and Bonnie Lind, Chief Financial Officer. Julie and Bonnie will comment on business and financial results for the quarter as well as spend time discussing impacts from the coronavirus pandemic and actions we're taking to address this fluid situation. After our prepared remarks, we'll open up the call for questions.Let me briefly cover a few headlines. First quarter sales of $234 million were down 3% from a year ago as strong volume growth in Technical Products was offset by declines in Fine Paper and Packaging.Earnings however increased significantly. Adjusted earnings per share rose more than 60% from $0.69 last year to $1.12 while GAAP earnings of $0.97 per share were up 40%. Adjusted earnings this year excluded unusual costs of $3.5 million or $0.15 per share, while there were no adjusting items last year. Bonnie will talk more about these items later in the call. And as always, complete details along with a reconciliation to comparable GAAP figures can be found in our press release.Finally, I'll note, our comments today will include forward-looking statements. Actual results could differ from these statements due to the risks outlined, both on our website and in our SEC filings.With that, I'll turn things over to Julie.

[Julie Schertell:]

Thanks, Bill and good morning everyone.Let me start with a word of appreciation for all first responders and essential workers, our condolences for those affected by the coronavirus and our best wishes for everyone's health and safety. Obviously, the world has changed quite a bit since our February call. However, the strong performance we expected for the first quarter did not change.Before discussing results, I also want to take a moment to recognize our employees, for their commitment and agility and adapting to this dynamic environment while at the same time remaining focused on delivering strong results.Our top priority is always the health and safety of our employees and I'm especially grateful to our manufacturing team who had to adjust rapidly to new ways of operating that included enhanced sanitation and cleaning practices, temperature checks, employee zoning, additional personal protective equipment and social distancing. While navigating through these challenges and changes our teams never missed a beat.Turning now to performance in the quarter. Despite a weakening external environment, our teams delivered solid volume gains and our targeted growth categories of filtration, performance labels, digital transfer and premium packaging, this top line performance along with improved manufacturing efficiencies and continued price discipline, helped drive significant year-on-year increases in profit and margin in both business segments.With higher profits and disciplined asset management, return on invested capital increased to double-digit levels. Cash flows for the quarter increased more than $10 million versus last year further bolstering our liquidity. We ended the quarter with liquidity of just under $200 million and are committed to taking appropriate actions to preserve our liquidity and strong financial position as we work through this year.While I'd like to spend more time talking about our great first quarter, what's more important now is sharing the actions underway to address expected negative impact from the COVID-19 pandemic. I've been extremely pleased with the global collaboration and rapid response of our team during this challenging period.As I noted earlier, our top priority is the safety and health of our employees. The new protocols we implemented to protect employees and contractors has been effective, and we've had no disruption to our operations. I'm also very pleased that our safety performance in the quarter improved building on the trends started late last year.With changes in the external outlook, we quickly began assessing potential financial impacts and proactively began reducing costs. These actions included significantly cutting spending in areas like maintenance, marketing and SG&A, reducing operating labor and machine schedules, reorganizing to enable salaried headcount reductions, deferring annual salary increases, freezing travel, new hiring and internship program and idling a fine paper machine, which I'll talk about shortly.Further to maximize cash flow, we implemented additional measures, including reducing capital spending by 50% from our prior guidance, driving working capital efficiencies, reducing pension contributions and suspending share repurchases. While unable to fully offset the impact from COVID-19, we believe these actions valued at over $50 million will enable us to maintain ample liquidity.We also exited our planned acquisition of Vectorply. Between the time we tendered our offer until when the agreement was terminated, there was clearly a material change in conditions. This was a prudent decision for Neenah allowing us to maintain our strong balance sheet going into an unexpected economic downturn and more importantly coming out of it.Let me turn to our efforts with customers. As you might imagine, many customers are currently focused on their immediate needs versus longer-term projects or new opportunities. We're working with them to meet these needs while at the same time never losing sight of being prepared with the new capabilities and ways of doing business.One of the ways we're doing that is by continuing to invest in R&D capabilities. Our R&D work contributes to our long-term growth and has led to the launch of several new products this year. Many of these products such as low-emission filtration media, fiber-based plastic alternatives and digital transfer media for natural textiles has both in cost in use and environmental benefits to customers.In addition to customers, we also developed plans and worked closely with critical suppliers to safeguard our supply chain. While we've had no mandated or supply driven disruptions to our businesses, as always, we manage operations in line with customer demand. With softening economies and markets, we began to see weaker demand in mid-March, especially in printing papers. Consequently we decided to idle one of our fine paper machines in Wisconsin beginning in early May.While these are never easy decisions, it allows us to more fully load our other machines and optimize our asset footprint helping to ensure that we stay cost competitive. We expect this action to save over $1 million annually starting in the second half of the year and we'll book a related one-time mostly non-cash charge of approximately $2 million in the second quarter.As we can see, we've reacted quickly and taken aggressive prudent actions to protect our strong financial standing while staying fully engaged with our employees, customers and suppliers and with a view towards short-term and long-term success.I'll talk about our outlook later in the call, but we'll now turn things over to Bonnie to cover financial results in more detail.

[Bonnie Lind:]

Thanks Julie. Good morning, everyone.I'd also like to add my appreciation for everyone who is fighting the fight during these challenging times, and similarly, recognize the amazing job by our employees responding to these conditions.We had a very good first quarter across all financial metrics, top and bottom line performance was impressive, margins improved significantly, cash flow and liquidity were very good and return on capital increased.Consolidated sales of $234 million were down 3%, but we delivered strong volume driven increases in technical products and solid growth in premium packaging, though not enough to overcome declines in a very challenging paper market and headwinds from currency.GAAP operating income was $24 million and was $27 million on an adjusted basis. This was up from $17 million a year ago. While there were no adjustments in 2019, there were $3.5 million of unusual cost this year.These adjusting items were

[Julie Schertell:]

Thank you, Bonnie.I'd like to start by talking a bit more about how we're managing through the current situation and then add some thoughts on near-term impacts and recovery. Obviously, it's a very fluid and uncertain period for everyone making accurate forecasts challenging. By taking swift and smart actions to maximize liquidity, we expect to emerge in a position of strength that will allow us to take advantage of potential market opportunity.Initial activities in a crisis are focused on containment, and our number one priority was to protect the health and safety of employees. As I mentioned earlier, we quickly initiated robust safety protocols at all sites to protect our people.Our second priority was to ensure business continuity. We implemented a war room structure and our leadership team met each morning to resolve issues and provide guidance and directions to support global operations and safeguard our supply chain. We increased the frequency and transparency of communications internally with employees and externally with customers and supply partners.Our third priority was liquidity. We entered the crisis with a strong financial position and it was important that we developed and executed plans to maintain this. We ensured we had clear and timely visibility to daily dashboards with critical information to help us make informed disciplined decisions and we developed plans and actions focused on things we can control that would reinforce the resiliency of our business. As I said earlier, the steps we've implemented so far represent over $50 million of added cash flow versus our original plan.On the revenue side, we've connected with customers in new ways. Our sales and marketing teams are having regular virtual meetings with customers and we've implemented technology enabling more streamlined automated ordering for portions of our business. One example of how our efforts were successful with our ability to quickly develop and ramp up face mask capabilities.While having only a modest financial impact, we expect to provide the media this year to support the production of roughly 100 million face mask. These efforts are not only the right thing to do to help fight the virus, but also provide new opportunities to partner with customers in innovative and collaborative ways to support longer-term growth.Despite the many actions our teams are taking, it's clear, the second quarter will be very challenging. In the great recession of 2008 and 2009, our sales initially declined by roughly 30% before recovering. Demand for many of our categories is correlated with GDP and published forecast shows second quarter GDP declines ranging from 30% to 40%.Our level of decline and pace of recovery will vary by business with Technical Products categories being more resilient than Fine Paper and Packaging. Filtration and labels are likely to hold up well with transportation filtration rebounding as the economy recovers and miles driven begin to increase.Our remaining technical products categories should also fully recover though likely at a more measured pace. Commercial print papers will feel the most pressure especially if the recession is lengthy as companies spend less on marketing and advertising or find alternatives.Input costs are likely to remain subdued, so favorable year-on-year comparisons will diminish as we move through the year. The major challenge of this year is clearly demand. While short-term earnings pressure is inevitable, as a result of our actions, we don't anticipate that same magnitude of impact on liquidity.We've modeled several scenarios to analyze a range of potential outcomes, and if the outlook were to worsen, we've identified additional levers that we could quickly pull to further reduce spending and improved cash flow. Consequently, I'm very confident that Neenah is taking the appropriate steps to support our liquidity position during this time.Prices often can bring opportunity especially when operating from a position of strength, as I believe we are. During this time of uncertainty, we will continue to build on what made Neenah successful, strong customer relationships, superior product quality, disciplined decision making, a focus on capital efficient growth and providing a return to our shareholders through a meaningful dividend. Our strong financial position is valued by customers and we benefit from a local footprint and supply chain in our primary markets.We are collaborating with customers and suppliers and continuing R&D efforts to support short and long-term growth. We're significantly reducing discretionary spending, organic capital and have suspended share repurchases. We'll continue to identify acquisition opportunities that can add value. So during this current period of uncertainty, we're clearly more cautious.Last but not least, we remain committed to our dividend and based on our modeling, we expect to have ample liquidity through the downturn. While this year will be challenging, I'm confident we're taking the right actions and first quarter results clearly demonstrated the strength of our underlying business fundamentals.But ultimately it's our people that drive our success and Bonnie has definitely been one of those people. I look forward to working with Paul DeSantis, our incoming CFO and would like to extend my deep appreciation to Bonnie for all that she has done for Neenah over the past 16 years.Neenah has always had a talented and dedicated workforce. Their commitment to each other and to Neenah is inspiring and it was demonstrated again by their ability to work safely and push all the way to the end to deliver a strong first quarter. I'm excited to be a part of this team and to grow our company together in the years ahead.Thank you for your time today. And I'll now open the call for questions.

[Operator:]

[Operator Instructions] The first question comes from Jon Tanwanteng of CJS Securities. Please go ahead.

[Jon Tanwanteng:]

First, I guess, congrats on the strong quarter, and Bonnie also on your retirement. Looking forward to working with Paul who I have worked with before.

[Bonnie Lind:]

Great. Thank you.

[Jon Tanwanteng:]

I guess my first question is, I was wondering about the strength in your filtration media and kind of the comments you've made on Q2. We've seen some other consumables, going to autos that are related to miles driven, fallen quite dramatically like 60% to 70% entering Q2. I'm just wondering what's giving you the confidence in that business

[Julie Schertell:]

I think a couple of things, Jon, I think one thing is remember that about 50% of our business is in heavy duty versus passenger cars and that volume has continued for the most part. And then secondly, about 80% of our media goes into the aftermarket, not new car sales. So even though miles driven has fallen in the short term, we have a little bit of a lag effect and we expect it to come back. But we're seeing data that says it's fallen about 40% in the US and similar rate in Europe, but we expect that to come back in the near term as the shelter-in-place starts to exit.

[Jon Tanwanteng:]

Got it. Thank you for that color. And then just wondering about your expectations for input prices, I think you mentioned modest declines and kind of losing that year-over-year benefit as you get into the second half. I'm just wondering why only decreasing that much as we've seen a lot of commodities and other inputs fall dramatically? Is there anything special in the - in your inputs that we should be thinking about that would preclude that sort of a price mix.

[Bonnie Lind:]

Yes, Jon, I only have like two words for you, toilet paper. So virgin pulp is in tremendous demand right now. So even though you see other kinds of commodities falling because the lower demand, we're not seeing lower demand in that. And the other thing that we have, we use quite a lot of recycled office waste, and as we all know, who are not in an office that there is not nearly as much of that, so pricing has gone on up for that.So having - we do not expect prices to go up as much as what we expected in - when we had this call in February, but we do expect a gradual change still favorable, though versus prior year.

[Jon Tanwanteng:]

Got it. We truly live in interesting times as I say. Okay. Bonnie just one more for you. I'm just wondering as to the timing of your retirement, which is well learned to start with. But I'm wondering between you and John, both retiring this year, I'm wondering about the timing of the planned succession and kind of how that was impacted by what was going on in the economy or maybe it wasn't, just any color on that would be helpful.

[Julie Schertell:]

Sure. I can take that one, Jon. I think from a succession planning process, Neenah has a really robust succession planning process, both internally and we use outside agency work as well. So Bonnie has a fairly long succession, I mean, she will be here till October 1st. So we'll have her expertise and knowledge and guidance for quite a while. And for John and I, we were part of a succession planning process for almost two years. So even though just downturn happened right now, it definitely wasn't expected, but it was a 24 months type of succession planning process that we worked through together.

[Bonnie Lind:]

Yes. Our succession was unexpected.

[Julie Schertell:]

It was COVID, right. The only thing kind of expected was the COVID pandemic.

[Operator:]

Our next question comes from Steve Chercover of D.A. Davidson. Please go ahead.

[Steve Chercover:]

So my first question is with respect to that idled paper machine. You didn't say if it was temporary or permanent. But can you talk about the capacity of the machine? And are all the capabilities of that specific machine duplicated elsewhere in your system?

[Julie Schertell:]

Yes, that was one of our lower capacity machines and lowest capability machine. So all of the capabilities are duplicated elsewhere in our system, and it was in that 10%, 15% range of our total capacity in the system. So it has been idled without current expectation of restarting it.

[Steve Chercover:]

Okay. And then since you're not integrated on the pulp side, does it have a material impact on the balance of the paper mill in general?

[Julie Schertell:]

Steve, what - can you elaborate on that? We really are just transferring the volume to our other assets, so it really improves our cost position and keeps us cost competitive by better loading, almost fully loading our other assets. It doesn't have a impact from a fiber standpoint.

[Steve Chercover:]

Yes, no, I understand that. I mean, in an integrated mill, you take down a machine, now you're running too much pulp or your digesters or boilers out of whack. So this is kind of just direct costs?

[Julie Schertell:]

Right.

[Steve Chercover:]

I think there's a lot of variable costs. Okay. And you told us, it's $1 million a year savings, versus $2 million Q2 hit. And then how big is that a opportunity in face mask media. I mean, you said, it's like 100 million units.

[Julie Schertell:]

It's really moderate right now. I think the bigger opportunity for us - so face mask is probably under $10 million in revenue this year. But the bigger opportunity for us is that's a great extension of our existing technologies and transportation filtration into air filtration, which is a growth platform for Neenah.And so it's just an acceleration of that growth platform with existing and new customers. And we have great capabilities and technologies as we grow into that type of - into that type of platform. But face mask, I think is fairly small, but was a nice opportunity to support the cause and to grow and collaborate with different customers as well as existing customers.

[Steve Chercover:]

Sure. Okay, thanks for that. And then you kind of quantified the volume impact that you endured back in the great recession. And then on the paper side, some of your big commodity freesheet peers are looking at better than a third of their capacity or demand going away in Q2 and this is basically office demand. And I'm concerned that might never come back. But I mean, your papers by and large are not office papers. So, your end markets, do you expect them to have a permanent hit the way office papers might have?

[Julie Schertell:]

You know, I think it's probably premature to speculate on if it's permanent demand destruction in fine paper at this point. We recognize it's a risk and we're working to manage that business in a responsible manner, thus the paper machine that we shuttered in May. The longer that the economy is weak, the more detrimental it is for fine paper.Our end user applications are - they lean more towards advertising and marketing and there is the opportunity for switching in the marketing need. I think the point that's important though is, and what I would tell you about fine paper is, it's still a really financially strong business for Neenah, has nice margins as you could see in the first quarter. Almost 18% margins in the first quarter and it throws off a lot of cash.So I wouldn't want to discount the role of fine paper in our portfolio. But it is. It's different - a little bit different end market, some of it's used in the office. It's just kind of premature to determine if that's a permanent change in the dynamics of that market.

[Steve Chercover:]

Got it. Thanks and good luck in your new role. Bonnie, congratulations. And Julie, it's going to be interesting to see if you and Paul can finish each other's sentences the way John and Bonnie always did.

[Bonnie Lind:]

We're happy to work on it. That was a classic, Steve. Thank you. We'll - I'll miss you.

[Operator:]

The next question comes from Chris McGinnis of Sidoti. Please go ahead.

[Chris McGinnis:]

You know, it's my first call with you. But I know there was some good rapport there. So a nice quarter. I was just wondering if there could be any potential kind of added costs with COVID coming in, whether it's external or internal due to the safety measures or may be external just with some of the suppliers.

[Julie Schertell:]

Well, we booked $1 million that we had experienced in the first quarter that were direct out of pocket types of costs. Going forward, we will continue to isolate that for things that we might have to pay for like personal protection stuff like that.

[Chris McGinnis:]

Okay, but nothing that would - I guess, would remain going forward that you see it today.

[Julie Schertell:]

No, nothing structurally different.

[Chris McGinnis:]

Okay. If you can just talk about the health of the customer base, a little bit of a write-down in the quarter, just how you see it and maybe how that plays out over the next couple of months, given the pressure?

[Julie Schertell:]

Yes, are you suggesting like from a credit standpoint health?

[Chris McGinnis:]

Yes. Exactly, yes.

[Julie Schertell:]

Yes. We're managing it pretty tightly as you would imagine, and our customers have been very healthy so far, and - from what we can see and we're working very closely with them. Our percent current hasn't really moved at all, but we're working with them very closely, and providing a little bit of flexibility of strategic customers if we need to, but we're clearly not a bank and we're not going to finance customers, but working closely with them.But we're not seeing significant risk at this time. We did increase our reserve, I think as Bonnie mentioned in her portion of the prepared remarks and ensuring that we're managing that tightly and being conservative in how we look at it.

[Chris McGinnis:]

Great. And then just one last one. Just kind of given the disruption due to COVID, outside of the media for masks, are there any other opportunities you see kind of taking advantage of in the near term that better positions Neenah longer term?

[Julie Schertell:]

I think it's probably more learning from how quickly we moved and then extending our face mask media into the broader category of air filtration. And then from a macro trend standpoint, there is some macro trends that will shift that will inform our longer-term strategy.So things like - as awareness of health increases that likely lends itself to greater awareness of environmental stewardship with a lot of Neenah products compete in areas where we're the environmentally preferred alternative where we're competing with things like plastics or another area might be where - a macro trend where consumers have shifted their buying preferences to more online sales and ensuring that we're well positioned with our retailers like Amazon and Staples, where we have a strong presence in the right portfolio and basket mix for those offers. I think the team has done a nice job of getting more on the offense in that regard and looking forward, but more longer-term.

[Chris McGinnis:]

Okay, great. And then just around volume or buying terms you're probably seeing, just any noticeable change - not noticeable, maybe - but at least maybe the bottoming after April, obviously has been probably the most difficult, I would think. Are you seeing at least stabilization in trends at the current - in May, I guess, early May?

[Julie Schertell:]

I think it's still hard to call right now. I would love to tell you we're seeing stabilization, but I think it's still hard to call right now. We definitely see more stability or stability probably isn't the best word, but more resiliency in our technical product categories, not as much so in our fine paper categories.

[Operator:]

This concludes our question-and-answer session. I would like to turn the conference back over to Bill McCarthy for any closing remarks.

[Bill McCarthy:]

Okay, thank you. Once again, thanks for your interest in Neenah today, and as always, please reach out to me just not physically for now, if you have any questions. Thank you.

[Operator:]

Conference has now concluded. Thank you for attending today's presentation. You may now disconnect.