Primo Water Corporation
Q1 2014 Earnings Call Transcript

Published: 8 May 2014

[Operator:]

Good day, ladies and gentlemen, and welcome to the Primo Water First Quarter 2014 Earnings Conference Call. [Operator Instructions] As a reminder, this conference may be recorded. I would now like to turn the call over to your host, Ms. Katie Turner. Ma'am, you may begin.

[Katie M. Turner:]

Thank you. Good afternoon, and welcome to Primo Water's first quarter 2014 earnings conference call. On the call with me today are Billy Prim, Chairman and Chief Executive Officer; Mark Castaneda, Chief Financial Officer; and Matt Sheehan, President and Chief Operating Officer. By now, everyone should have access to the release that went out this afternoon at approximately 4

[Billy D. Prim:]

Thank you, Katie, and thank you for joining us on the call. We're going to start with a few comments on the overall business, and then turn the call over to Matt Sheehan, our President and Chief Operating Officer, who will go a little deeper into our operational initiatives. Mark Castaneda, our CFO, will then review our first quarter financial results and the outlook for the remainder of 2014. We are pleased with our first quarter performance as we continue to experience positive momentum across our business. The first quarter marked the ninth consecutive quarter of positive adjusted EBITDA, reflecting a 42% increase to $2.7 million, which was ahead of our guidance. This performance was due to top line sales increases, coupled with gross margin expansion and continuous leverage of SG&A expenses. Our team has continued to improve the operational fundamentals of our core businesses, and we are well-positioned to execute our long-term growth strategies. These include 5 key strategies. First, to continue scale through incremental revenue and operational improvements. Second, to increase household penetration of our innovative water dispensers. Third, to grow our points of retail distribution to 50,000 to 60,000 locations. Fourth, to refinance our debt and lower cost of capital. And lastly, to continue to drive operational efficiencies across our business model. We believe we are well-positioned to deliver on each of these initiatives during 2014. Our strategic alliance with DS Waters will generate additional revenue through location growth, and also help lower distribution costs. A transition of bottling and distribution to DS Waters will happen over a 2-year period and is currently on plan. Next, we expect our conversion from independent service providers to company-employed technicians and the addition of telemetry remote monitoring will continue to improve our Refill business service levels and gross margins. These also give us leverage in the business model to generate more margin as we grow. We also believe we will continue to drive more dispenser households through the most comprehensive line of water dispensers available at retail at attractive prices with innovative features. We believe that the additional dispenser households lead to more Primo Water users. As we continue to grow our adjusted EBITDA, we believe we can refinance our debt with lower cost capital. All of these combined should drive earnings growth. Water industry trends continue to be very favorable. People are drinking more water. And Primo is getting its share of that growth in water sales. Consumers are shunning for additional soft drinks and looking for healthier low-calorie beverage options. Importantly, Primo's product offering targets this shift in consumer preference and offers beverage solutions that resonate with most households. We're pleased to see the further illustration of this point with an acceleration of growth in our U.S. Exchange business, same-store sales were up 12.1% in the first quarter, compared to 10% in 2013. With that brief overview, I'll turn it over to Matt.

[Matthew T. Sheehan:]

Thank you, Billy. Keeping our 5 long-term strategy in mind of scale, household penetration, growth, refinancing and efficiency, we continue to be pleased with the progress our team is making across our business. As we've previously communicated, our team undertook an operationally intensive approach in 2013, which resulted in foundational improvements, leading to financial gains. This, as planned, has positioned us to begin growing the business again. In the first quarter of 2014, we have executed on our plan to evolve and continually improve the core as we grow the business. To do so, as explained in the last earnings call, we are operating on 4 key tenets

[Mark Castaneda:]

Thanks, Matt. I'm going to spend a few minutes reviewing highlights and our outlook. To help investors understand our operating results, we do provide certain non-GAAP financial measures, including adjusted EBITDA, which I'll discuss in a few moments. Overall, we are very pleased with our financial results, which were ahead of our expectations. Specifically, our adjusted EBITDA grew at 42% on a 5.4% increase in revenues as we expanded gross margins 260 basis points to 26.3% and leveraged our SG&A spend. We experienced revenue growth in both our Water and Dispenser segments. First, our Dispenser segment revenues grew 3% to $7.6 million compared to the first quarter of the prior year. This increase in selling was a reversal of the trend a quarter sooner than we expected. Dispenser revenue has much smaller impact on our economics as we manage this segment with thin operating margins to drive household penetration. That pricing strategy continues to work, as we had another growth in consumer purchases of dispensers at retail, which were up 3.9% to 112,000 units in the quarter. Our operating income for this segment doubled to 328,000 as we expanded gross margin and lowered our SG&A spend. We believe that increased Water Dispenser penetration will continue to lead to further increases in recurring Water sales. Second, our Water revenue increased 6.6% to $15.9 million, the increase of Water sales was primarily due to 10% increase for U.S. Exchange sales, driven by strong same-store sales unit growth of 12.1%. This growth is even more impressive as numerous retailers stated that weather negatively impacted their foot traffic during the quarter. Moving on to gross margin. Our Water segment gross margin increased 330 basis points to 35.6%, primarily due to improvements in our Exchange as a result of the DS Water strategic alliance. Our operating income for the Water segment increased 19% to $4.8 million, due to revenue growth, margin expansion and SG&A leverage. Next, we continue to leverage SG&A spend, which decreased to 16.9% from 17.2% as a percentage of sales. We expect to continue to leverage our primarily fixed SG&A costs across the business. Our net loss from continuing operations for the first quarter was $3.6 million or $0.15 per share, compared to a loss of $2.4 million or $0.10 per share for prior year. The year-over-year change was primarily due to a $1.8 million or $0.08 per share nonrecurring transition cost associated with the transformation of our Exchange distribution network. For the first quarter of 2014, cash flow from operations increased 11.5% to $4.4 million, compared to $4 million in the first quarter of the prior year. Continuing on to our balance sheet. Highlights for the quarter include improved working capital management. We reduced inventory by approximately $300,000 compared to last quarter, and continued improvement in our accounts receivable DSO to 32 days from 38 days in the prior year. Additionally, our accounts payable balance increased $3.4 million due to extended terms from a major supplier that started in the second quarter of the prior year. We expected accounts payable benefit to cash flow to reverse over the next couple of quarters as we plan to reduce the extended terms and reduce our costs. Turning to our outlook. We continue to expect total full year 2014 sales to increase between 7% and 12% to a range of $98 million to $102 million. We are increasing our full year 2014 adjusted EBITDA guidance to a range between $10.9 million to $11.4 million to reflect their actual Q1 results, which exceeded our estimates. We expect second quarter 2014 sales to be in the range of $24.5 million to $25.5 million. And adjusted EBITDA to increase between 17% and 26% to a range of $2.7 million to $2.9 million. For the second quarter, we expect positive Water and Dispenser segment growth. In addition, we plan to pursue opportunities to refinance our debt later in 2014, as we continue to improve our balance sheet and operating metrics. We were less than 2.5x levered at the end of Q1, and expect that leverage to continue to decrease. This concludes our prepared remarks. Now, I would like to open the call for questions.

[Operator:]

[Operator Instructions] Our first question comes from Kara Anderson of B.Riley.

[Kara Anderson:]

I'm wondering if you're seeing any trends in revenue per existing location, if you could expand on that a little bit?

[Billy D. Prim:]

Yes. And when we look at revenue per existing location, and as we mentioned we divide it into Exchange and Refill. In the Exchange business, we did experience better than 12% same-store sales. That's the identical stores that we're selling at the same time last year. That is an acceleration of same-store sales so we are seeing nice increases there. In the Refill business, we did see an uptick in the Refill business, and revenues grew 3%. Because of the way we read meters, we can't exactly get the timing correct to give same-store sales, in other words, you don't read the meter on the same time this quarter, as you did the same time last quarter last year. Now with telemetry, once that's fully implemented later this year, we'll have visibility there. But as an overall, we saw a 3% increase in Refill sales.

[Kara Anderson:]

Okay. Got it. And what was the location count at the period-end?

[Mark Castaneda:]

Total locations at the end of the quarter were 23,400, with the growth from last quarter of about 500 locations in Water.

[Kara Anderson:]

And is that partially related to the DS Waters customers?

[Mark Castaneda:]

There is a very small number of locations that were DS Water customers.

[Kara Anderson:]

Okay. And I'm wondering if you could talk about any particular trends that you're seeing in the type of dispensers consumers are purchasing or the types that retailers are loading in their stores?

[Billy D. Prim:]

We continue increase to see an increase in the bottom-load dispensers, or the higher-end dispensers, being sold in retail. That number has been solid and actually continued to grow nicely. Even though the first quarter was a really terrible weather quarter for most retailers, our sales were good. In fact, had we've been able to ship more, we could have probably sold more, but most of it went to the higher-end, toward the bottom-loaders.

[Kara Anderson:]

And I'm sorry if I missed it, but did you guys provide a gross margin for Dispensers in the quarter? Or can you?

[Mark Castaneda:]

Yes, we did not, but, yes, I could pull that number up. Gross margins for Dispensers for the quarter was 7% versus 6.3% last year. So we were up a little bit.

[Kara Anderson:]

Okay. And I guess last question, I know that you've mentioned that you expect to refinance the debt in the second half of the year, and I know there's a prepayment, I think, penalty of some sort, but remind me why the second half of the year and why not today?

[Mark Castaneda:]

Sure. The prepayment penalty we have on our existing debt goes from 5% to 3%, so 200 basis points, and over $20 million in debt that we have today, so it's a substantial savings for us to wait, the timing is mid-June.

[Operator:]

Our next question comes from Robert Strauss of Gilford Securities.

[Robert D. Strauss:]

Congratulations on the quarter. There's just a few questions. So first of all, I just thought I'd give you the opportunity to talk a little bit about the promotional activity and environment that you saw in the first quarter, and more importantly, what you think that environment's going to look like over the next couple of quarters?

[Matthew T. Sheehan:]

Yes. Robert, great question. We have not done a lot of proactive promotional activities, at all. Trying to be fairly stable from a pricing perspective. That will likely remain consistent. Although, we continue to identify ways to increase volume at retail.

[Robert D. Strauss:]

Okay. And then, on the telemetry, what percent of that is completed or rolled out to date?

[Matthew T. Sheehan:]

We're past the halfway mark at this point and getting closer. But we're still months away from being completed.

[Robert D. Strauss:]

And just to review, when that is completely been rolled out, would you -- can you just review the biggest benefits that you expect from that?

[Matthew T. Sheehan:]

Sure, yes. Another great question. Now first one is service levels, I'll call it proactive service level. So we will have real-time visibility into our units at retail. And so we will respond very quickly. But we don't have that kind of speed today, and so that is the biggest advantage for us. It will also normalize some of our billing and meter reads, as Billy talked about before, from measuring our business on a same-store. So I think there are some metrics information that will benefit. Most of this is on service levels, which will certainly help our retailers and those relationships.

[Robert D. Strauss:]

And as it relates to growing the number of locations, it looks like, I'm not sure if it was quarter-over-quarter or sequentially, but I think I may have heard a plus-500 locations to get to 23,400. Where are we on that increase? And does the organic increase in locations kind of take a back seat to the DS Waters integration?

[Billy D. Prim:]

Robert, it's Billy. We will continue to increase locations, both organically and through DS Waters' customers. I think you're going to see the number of water locations to continue to grow this year, it grew 500 in the first quarter, I think you will even see an acceleration of that over the next 3 quarters, and it will be mostly in the Water locations, where we're getting most of the margin. On the Dispensers side, on the other hand, I don't see that growing, in fact, it could contract some, we just -- Kmart is closing some stores, as well as Office Depot. So I don't think it will impact sales because most of those are lower-volume locations, but I do believe that you're going to see most of the growth in locations in our Water business and, as I said, it will accelerate both through organic and DS.

[Operator:]

Our next question comes from and Eric Wagoner of Source Capital.

[Eric Wagoner:]

Good job. Actually, as all the questions that I had were answered. And I guess, one last little thought on the location count. We're currently at 23,400-some odd number, what do you think we might be at year end, have you given any estimates on that kind of growth for the next 3 quarters so we'll have a year-end kind of account number?

[Billy D. Prim:]

We have not given a -- an exact count or guidance on that Eric -- I'd say the best I can tell you, we think it will increase more than 500 per quarter in the next 3 quarters, but the rate in which DS comes on and sometimes the lead time to convert a chain can slide a quarter-to-quarter, so it's really difficult to give out guidance on that, that is exact.

[Operator:]

Thank you. At this time, I'd like to turn the call back over to management for any closing remarks.

[Billy D. Prim:]

Thank you. We are pleased with our progress in 2014 to date, and believe we are well-positioned to execute on our strategic initiatives and to capitalize on our future growth opportunities. We appreciate your interest, and thank you for your support. We look forward to providing you with an update on our business progress next quarter. Thank you.

[Operator:]

And ladies and gentlemen, that does conclude your program. Thank you for your participation, and have a wonderful day. You may disconnect your lines at this time.