Primo Water Corporation
Q3 2016 Earnings Call Transcript

Published: 1 Nov 2016

[Operator:]

Good day, ladies and gentlemen and welcome to Primo Water's Third Quarter 2016 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. [Operator Instructions] As a reminder, this conference is being recorded. I'll now like to introduce your host for today conference Ms. Katie Turner. Ma'am, please begin.

[Katie Turner:]

Thank you. Good afternoon and welcome to Primo Water's third quarter 2016 earnings conference call. On the call with me today are Billy Prim, Chairman and Chief Executive Officer; Matt Sheehan, President and Chief Operating Officer; and Mark Castaneda, Chief Financial Officer. By now, everyone should have access to the release that went out this afternoon at approximately 4

[Billy Prim:]

Thank you, Katie. Good afternoon, everyone, and thank you for joining us today to review our third quarter 2016 results. I’ll begin today's call by discussing the positive macro trends that continue to benefit our business and some thoughts on our previously announced acquisition to Glacier Water. Then, Matt will provide the highlights on our recent quarter and an update on the progress of our key strategies. Finally, Mark will review our financial information in more detail and provide our outlook for the reminder of the year. We are pleased report another quarter of impressing growth driven by a strong momentum across our business. The strength of our performance continues to be driven by a couple of factors. First, health and wellness continues to be the top driver of growth in the water category. The portion of consumers avoiding sugar in their diet is up 7 percentage points over last year to 61% according to an annual survey by the International Food and Information Council. Not surprisingly, approximately 70% of those surveys say they are switching to water. Secondly, the increase consumer concern over municipal water quality. Here in North Carolina where we're headquartered, the state in our utilities continually debate the cause of contamination of the ground water supply. Similar examples can be found all over the country. This highlights the continued media attention to the drinking water quality. We believe these factors are helping drive the growth in the bulk water category. Industry sources predict that bottle water will on a per capital basis outperform carbonated soft drinks in 2016 for the first time ever. We also continue to see strength in consumer dispenser purchases and conversion of these purchases into new water households using our exchange and refill water. We are proud that Primo Water is increasingly the trusted water solution for consumers in search of healthy, safe and quality drinking water across the U.S. and Canada. With those market forces inland, we are also excited as we work towards the closing of our previously announced acquisition of Glacier Water, which is on track to be completed by the end of the year. We expect this acquisition to be transformative for our company with the following strategic benefit. On a combined basis, we will more than double meaning as a key financial metrics of our current business including net sales, operating income and adjusted EBITDA. We will benefit from increased scale and in-turn significant synergies and efficiencies. Additionally, the transaction diversifies our retailer, consumer concentration by doubling our locations to 46,000. Importantly, we can achieve this location growth with little or no overlap of machine placement at the same retail locations, creating a nearly fully complementary business combination. We also expect the acquisition will offer cross-selling opportunities for our portfolio of products. Finally, the strong recurring cash flows of our combined businesses will facilitate a rapid debt reduction and provide the capital for continued growth. Both the Primo and Glacier brands have strong consumer recognition. This acquisition will fit perfectly within our core business and long-term strategy as we will gain a truly complementary offering to our existing retail business. This allows us to drive market leadership in each business we operate. Post-closing of the transaction, we will schedule an Analyst Call to review the financial projections of the combined business for 2017 and beyond. Before I turn the call over to Matt, I would like to welcome him to our Board of Directors. On behalf of the Board, it is with great pleasure that I announce his appointment as a new Director effective October 31st. Matt has been an instrumental leader and his contributions have played an incredible role in the development and achievements of Primo since he joined the team in 2012. In addition upon closing of the acquisition, we’re pleased to have Charles Norris, Chairman of the Board of Directors of Glacier Water join our Board as a new Director. We believe the addition of both Matt and Charles with their seasoned experience and strategic leadership skill will be valuable at this important juncture in Primo’s history and we look forward to their future contributions. We couldn’t be more pleased with the hard work and dedication of our team that they have consistently executed our strategic growth initiatives over the last several years. Going forward, we excited to create an even stronger foundation for growth of the combined company through the additional of the Glacier team. Today more than ever before, Primo was strongly positioned with the right product offering, strategic initiatives and team of committed employees to support our future growth over the next several years. In summary, we are confident in our ability to deliver on our future goals in which we believe will drive long-term value creation for our shareholders. With that, I will now turn the call over to Matt to discuss the highlights of our recent quarter and a few of our key strategies in more detail. Matt.

[Matt Sheehan:]

Thank you, Billy. On today's call, I'll discuss some of the highlights of the quarter and provide more detail on the progress against our key strategies. First to the third core performance, we are pleased to announce result exceeded our guidance with record revenue of 35.5 million and record adjusted EBITDA of 6.7 million. The strength and consistency of our performance continues to be driven by our focus on operational execution of our strategies. Further, we capitalize on the strength of our dispenser unit sales and conversion of these purchases between new water households using our exchange for refill water. We are proud that Primo Water is an increasingly trusted water solution for consumers in search of safe, quality and convenient drinking water across the U.S. and Canada. With that high level overview of the quarter, I would now like to provide a few notable updates on our key strategies. As a reminder, we have six key strategies that continued to drive our performance. First, grow household penetration of dispensers; second, improve connectivity of all dispensers and our water; third, increase retail outlets; fourth, drive unit economics; fifth, having highly engaged team; and lastly, doing all of these while leaving our company values. First, grow household penetration of dispensers. In the third quarter, we continue to see strong dispenser sell-through which was 166,000 units. This was a record level of dispenser sell-through not only in 2016 but since inception. We are excited by this growth especially given increasing base upon which we grow. This performance was not only in our core U.S. business, but also in our license model in Canada. The second notable strategy is improving connectivity of our dispensers in our water. The record level of dispenser sell-through are propelling 8.9% increase in U.S. exchange same store unit growth. We believe this continues to demonstrate how increased dispenser sells-through is driving water sales. The third quarter marked our 18 consecutive quarter of 8.5% or higher same store unit growth and our U.S. exchange business. We are increasing our focus on ways to connect consumers to our water at the point of initial purchase of a dispenser. The majority of our marketing initiatives are directed to; one, drive household dispenser purchases through retail or online partners; and two, help connect them to our exchange or refill water. We have been and continue to test programs that will help us understand incremental sales opportunities. Additionally, upon closing of the Glacier acquisition, we will be able to market an outdoor refill option to our dispenser consumers, making it significantly more convenient. Next, increase retail outlets. During the third quarter, we added 300 net retail locations, the majority being Wal-Marts in both the U.S. and Canada. Over the last year, we have added approximately 1,900 overall locations before taking into account store closers. We are confident in our location pipeline while being mindful of the closer and consolidation trends in the marketplace. This consolidation well it may impact our net location comp historically has had very little impact on our account. Finally, drive unit economics. Driving unit economics comes from increasing unit revenue, reducing operating cost or decreasing capital spent per installation. As it relates to unit revenue, we will continue to focus on gaining productivity from existing location, which is much more valuable than a new location. We continue to analyze and test tactics at our existing stores to drive improvement. For instance, we continue to test and scale programs in refill that help drive awareness of the compelling value proposition to consumers. These tests including price per gallon call out and digital messaging have shown an initial positive impact on same-store sales and healthy ROIs. As we have previously discussed, we have regimented test protocol in which we test small, constantly iterate and scale successful test rapidly. We look forward to discussing needs and other tests as we analyze and may grow our decisions. Moving onto operating costs, the third quarter continued to demonstrate the availability of incremental leverage to improve cost of distribution in water and cost improvements in dispensers. This drove a 300 basis points gross margin improvement to 31.2% in the third quarter versus last year. In summary, we are pleased with our execution and excited about the opportunities ahead as we continue to focus and deliver on our key strategic initiatives. With that, I will turn the call over to Mark to cover our financial results.

[Mark Castaneda:]

Thanks, Matt. I will review our financial results in more detail then I'll provide an update on our full year guidance. Lastly, I'll turn the call back over to Billy for closing remarks. To help investors understand our operating results, we do provide adjusted EBITDA and pro forma EPS, which are non-GAAP financial measures. A reconciliation of these can be found in today's earnings press release posted on our website. We are very pleased with the results from our third quarter, which exceeded our guidance on both sales and adjusted EBITDA. Our third quarter top line grew at 4.8% to a record 35.5 million, driven by growth in the Water segment. During the quarter, Water segment sales increased 7% as a result of an 8.1% growth in our U.S. exchange business and 5.4% growth in our U.S. refill business. Dispenser revenue selling through the channel was essentially flat at 9.3 million compared to prior year. However, our dispenser sales group grew and consumers increased 13.4% to a record 166,000 units. Moving down the P&L. Gross margin expanded over to 300 basis points to 31.2% compared to 28.1% in the prior year period. The significant improvement in margin is due to our continued supply chain cost improvements as we generate greater leverage across fixed costs in both our Water and Dispenser segments. We believe these improvements will remain near these elevated levels throughout 2016. Next, SG&A decreased to 4.9 million from 5 million in the prior year, and decreased to 13.8% from 14.7% as a percentage of sales illustrating the leverage in our business. Interest expense for the quarter decreased 3% to 477,000 as a result of a lower average debt balances. Adjusted EBITDA increased 28.1% to a record 6.7 million from 5.2 million in the prior year period. This illustrates the leverage in high quality of earnings in their model. On a GAAP basis, net income was up over 85% to $2.5 million and diluted earnings per share increased to $0.08 from $0.05 in a prior year. On our pro form basis diluted earnings per share was up $0.13 from $0.09 in the prior year period. Continuing to our balance sheet, we ended the quarter with $2.3 million in cash and had over $15 million available under our revolving credit facility. Our total leverage ratio at the end of the quarter was below one time adjusted EBITDA. This was a significant improvement from a couple years ago as we substantially increased our EBITDA performance and paid down debt. On a standalone basis, we are raising our guidance for the full year and expect sales in the rate of 133.2 million to 134.4 million and adjusted EBITDA 22.3 million to 22.7 million. After we complete the acquisition of Glacier Water, we will conduct a financial modeling cost to review our 2017 outlook for the combined businesses. We filled our Form S-4 with the SEC on October 21st and will work through the process of registering the shares, we're issuing in connection with the acquisition. As Billy mentioned, we expect the acquisition to close in 2016. I will now turn the call over to Billy for closing remarks.

[Billy Prim:]

Thanks Mark. We are very pleased with our year-to-date results and believe we have made significant progress on our strategic plan resulting in top line growth, improved operational efficiencies and greater profitability. Further, the acquisition of Glacier Water will strengthen our foundation as we continue to execute on our key initiatives and drive increased value for shareholders. As always, we appreciate the hard work and dedicate in our employees, service providers and retail partners and remained committed to our mission of inspiring healthier homes to better water. This concludes our prepared remarks. We are now ready to take your questions. Operator.

[Operator:]

Thank you. [Operator Instructions] Our first question comes from Kara Anderson of B. Riley & Co. Your line is open.

[Kara Anderson:]

Hi, thanks for taking my question. I'll start with the couple of housekeeping item. Can you provide the margin for water and dispenser separately in the quarter, gross margin that is?

[Billy Prim:]

Sure, the gross margins for the dispensers were around 11.4%, gross margins for water at 38.2%.

[Kara Anderson:]

And then second housekeeping question is on total location count at the end of the quarter, could you provide the breakout of water versus dispensers?

[Billy Prim:]

Sure, the total location covers from 7,600 dispenser locations and just over 19,000 with water.

[Kara Anderson:]

Great. Thank you. And then when thinking about your full-year guidance on raise and what it implies for Q4. I am just wondering, if any part of that dispenser segment was pulled forward into Q3 from Q4 relative to sort of your expectation?

[Billy Prim:]

Well, Q4 is a non-peak quarter for us, so we did raise our guidance slightly, but we didn't want to raise it too far just because it is a non-peak quarter, where we're being conservative.

[Kara Anderson:]

And then last for me, if you could and maybe I missed this but your plans or expectations for new locations given the pending acquisition with Glacier Water expect data format?

[Billy Prim:]

Kara, good question. Glacier will get us to about 46,000 locations and we still see a good runway to 50,000 to 60,000 locations overtime.

[Kara Anderson:]

Are you able to provide sort of what you might expect on an annual basis or it will see a pause maybe as we go to the acquisition?

[Billy Prim:]

I think our targets -- our annual targets remain about same 1,500 to 2,000 a year.

[Operator:]

Thank you. Our next question is from Matt Blazei of Lake Street Capital. Your line is open.

[Matt Blazei:]

A couple of questions, your exchange to refill mix on the water segments somewhere around two thirds and one thirds at the traditional Primo Water, what do you think that looks like post the Glacier acquisition?

[Billy Prim:]

So post the Glacier acquisition, we expect our refill to be just over 50% of the business and exchange to be around 25% somewhere in those ranges.

[Matt Sheehan:]

Got it. Okay. It’s basically flip-flop so the refill will be about two thirds and exchange will be above one third.

[Billy Prim:]

Yes. That is correct.

[Matt Blazei:]

Okay. And secondly, I’m just curious when you do finish the transactions. What are the integration, are there any integration issues that you’re going to attack over of that I mean it seems that as part of integrations one of your pretty straight forward one?

[Billy Prim:]

Matt, this is Billy. It is fairly straight forward as far as details about what that integrate is going to look like, that’s what we’re going to give on the Analyst Call going forward. But you got to remember we're buzzed in the refill business, so they are very similar businesses. So, we don’t expect a lot of complexity there.

[Operator:]

Thank you. Our next question is from Mike Grondahl of Northland Securities. Your line is open.

[Mike Grondahl:]

The first question just has to do with obviously the acquisition is going to bring a lot of scale and a much larger platform and having 46,000 locations up from 26,000 locations. How do you think you can benefit or sort of leverage the marketing side of the business, any plans or ideas there?

[Matt Sheehan:]

Mike, I think it’s a good question. As Billy mentioned, we’re still early getting here and trying to still learn that Glacier business, that’s one of the good opportunities for us. We do think that cross-selling, if I can use marketing on a broader sense will be important to both retailers and consumers. For instance, there are Glacier refill locations that do not have dispensers today. So, if I use marketing in a broad sense, I think those are pretty good opportunities, not just for retail partnerships, but also for consumers to find the razor and a blade in the same store.

[Mike Grondahl:]

Got you. And following up on that a little bit, how many I don’t know if it's top 10 or top 15 of either the Glacier or the Primo customers, would you see don’t have dispensers, refill or exchange, trying to map out your main three products in your top say 15 stores. I mean, is there a lot of opportunities there?

[Billy Prim:]

We are not sharing numbers at this time, but we think that opportunity is healthy not sure what frankly those numbers are exactly yet, but we'll be digging into that over the next couple of months.

[Mike Grondahl:]

Okay. And then if you see and when you see those opportunities to roll out dispensers or outdoor refill like you mentioned. Is there a reason why you that stuff couldn’t be tackled in executed say over two to three year time?

[Billy Prim:]

Matt, I don’t see any reason that we can't fully integrate and start realizing some of the benefits in the first couple of years. I think as it goes to specifics that you're asking for how many potential overlaps or there how many you're going to try add year one, year two, year three. I think those are things that we would like to give out in detail only Analyst Call after we close the acquisition. So I ready to give out two general statements at this point time when we're going to give some specifics in the next few weeks.

[Mike Grondahl:]

Sure. No, that's fair. And then the last question for me. As I've been just thinking of the synergies and the opportunities, could you talk about historically if you had any price increases at Primo? And then how we might think about price increases going forward?

[Billy Prim:]

I think we've said in the past the pricing has been very stable in this business and we think it will continue to be very stable. We feel comfortable, obviously, we are competitors in the market place, but the market place has been fairly stable and we think it will be that way going forward.

[Operator:]

Thank you. Our next question is from Mike Petusky of Barrington Research. Your line is open.

[Mike Petusky:]

Good afternoon guys. Nice job. So, I think the second quarter conference all you guys talked about offering a broader number of lower end dispenser products as trying to capture first on buyer, and given Billy's commentary around just the positive drivers in water. I am wondering are you guys either anecdotally or by qualifying, can you give any sense or you give any traction with some of this lower end dispenser product that would be interesting for investors?

[Matt Sheehan:]

Yes, Mike, this is Matt. Good question. We're not sharing you know skew-by-skew roll out of how each one do, but we certainly have things like [Thompson Crocks] and table tops that you really well in the market place. And we've been moving those into the market over the last few years. And we do see those as fairly successful to help consumers get into the franchise if you will. So, we’ll continue to push those because you can get consumers at $25 and they still drink a lot of water, so we really like the strategy and we’ll keep pushing it.

[Billy Prim:]

And I think it’s worth adding there Mike that, we’ve had some retailers that have noticed that too and are starting to add comps and lower cost ways to get into this business. So, that is perspective and that's exactly what’s happening in the marketplace as you're findings more ways to bring consumers and households into this business at a lower price point.

[Mike Petusky:]

Okay. I mean intuitively I would think you might see a lot of that action in places or places that had some municipal water issue. I mean, is that true or is it very difficult to say?

[Billy Prim:]

We definitely see those units move really- really. Well we do have issues, but frankly Mike, those work everywhere. And so when a consumer is thinking about committing to water as we say, it’s really nice them to be able to take that, that step in with a $25, $35 dispenser. And so, it certainly helps when there is hurricane [ph], it's a really nice option for them, but that’s far from only places.

[Mike Petusky:]

So, Billy has consistently kind of said that look the best investment that you guys have found is kind of reinvesting into the business. Does that change at all as you guys kind of move into ’17 with the Glacier as a part of the business or do you think that’s kind of continue to be the case?

[Billy Prim:]

Well, it doesn’t change and our strategy hasn’t change. Glacier is our core business. So, the operative business that is our core and that’s what we’ll be investing in. We’ll continue to invest and finding ways to put more sales to this locations that we have and add new locations in these four categories that working extremely well.

[Operator:]

Thank you. At this time, I see no other questions in queue. I’d like to turn it back to Prim for any closing comments.

[Billy Prim:]

Okay. Thank you, guys. We would like to thank everyone for your participation on today’s call and your interest in Primo Water. We look forward to providing you with an update on the combined businesses following the completion of the acquisition of Glacier Water. Have a good evening. Thank you.

[Operator:]

Ladies and gentlemen, thank you for your participation in today’s conference. This concludes the program. You may now disconnect.