FreightCar America, Inc.
Q4 2016 Earnings Call Transcript

Published: 28 Feb 2017

[Matt Kohnke:]

Thank you, and welcome to FreightCar America’s fourth quarter 2016 earnings conference call and webcast. Joining me today are Joe McNeely, President and CEO; and Ted Baun, Chief Commercial Officer. I'd like to remind everyone that statements made during this conference call relating to the Company’s expected future performance, future business prospects or future events or plans, may include forward-looking statements as defined under the Private Securities Litigation Reform Act of 1995. Participants are directed to FreightCar America’s 2015 Form 10-K for a description of certain business risks, some of which maybe outside of the control of the Company that may cause actual results to materially differ from those expressed in the forward-looking statements. We expressly disclaim any duty to provide updates to our forward-looking statements whether as a result of new information, future events or otherwise. We will also make references to adjusted operating income and adjusted operating loss, which is not a measure in accordance with GAAP. For a reconciliation of adjusted operating income and loss to operating income and loss to the most directly comparable GAAP measure, please see the supplemental disclosure attached to the earnings release. Our 2015 Form 10-K and earnings release for the fourth quarter of 2016 are posted on the Company’s Web site at www.freightcaramerica.com. Let me now turn the call over to Joe McNeely.

[Joe McNeely:]

Thank you, Matt, and good morning, everyone. The fourth quarter proved to be a difficult quarter, and the results did not meet our expectations. In the quarter, we experienced challenges related to the production rates and overall efficiency with the first time car builds. We continue to identify opportunities to improve our production processes and strive to become more productive, and believe improvements will be made in 2017. As Ted will highlight, the railcar industry is in the midst of a more pronounced downturn than previously anticipated. Fourth quarter non-tanker orders were approximately 4,000 railcars, which were sequential worse than the third quarter of 2016. Non-tanker orders for all of last year were less than 17,500 units, which is on par with the bottom of the market in 2009. Given these low order rates, we reevaluated our cost structure earlier this year and have taken additional steps to align our cost to where we’re at in the market cycles. These new cost reductions are expected to save $3 million annually. These savings are in addition to the $5 million of annualized savings announced last year. Furthermore, we’ll be idling our Danville, Illinois manufacturing facility, effective March 31, 2017 in an effort to reduce access capacity within our manufacturing footprint. In addition to the uncertainty around the demand for new railcars, the impact of the administration’s proposed tax, trade and infrastructure improvement policies provide further uncertainty. While we’ve all came in support of any improvements to our nation’s infrastructure and energy trade and test reforms, specific policies and portfolios going to be set forth to determine the near-term and longer-term economic impacts in the associated demand for railcars. With such uncertainty, it's difficult to predict with any degree of confidence in future orders and deliveries. As a result, we are basing our 2017 delivery guidance, primarily on the current production schedule and customer delivery requirements, which is expected to be between 3,200 and 3,800 new railcars. Ted will now update you on our markets and commercial activities.

[Ted Baun:]

Thank you, Joe. The level of railcar enquiries and orders in the fourth quarter of 2016 remained well below average. We received a net order for 10 railcars in the fourth quarter of 2016, resulting from a customer substitution. Comparatively, we received net orders of 67 railcars in the fourth quarter of 2015 and 620 railcars in the third quarter of 2016. Deliveries for the quarter of 2016 totaled 1,264 railcars, which included 1,137 new and 227-rebuild railcars. This compares to 2,464 railcars delivered in the same quarter of 2015, which included 1,692 new railcars, 672-rebuild railcars and 100-railcars leased. There were 1,214 railcars delivered in the third quarter of 2016, all of which were new. Our order backlog at December 31, 2016 was 4,259 railcars with the sales value of approximately $419 million, down from a backlog of 9,840 railcars at December 31, 2015 and 5,613 railcars at September 30, 2016. Industry-wide, non-tank car orders has graphically fallen over the past couple of years. Non-tank car orders for 2016 totaled 17,500 units compared to 41,200 units in 2015, and 99,700 units in 2014. Please note that these industry figures do not include orders, deliveries or backlog totals for rebuild railcars. Commodity loadings on U.S. railroads in the fourth quarter of 2016 were down 0.8% when compared to the fourth quarter of 2015. U.S. intermodal container loadings grew by 4.5% in the fourth quarter of 2016 from fourth quarter 2015 levels. Grain loadings grew by 12% over the same time period but coal, metallic ores and crushed stone, sand and gravel loadings, all weakened. U.S. coal car loadings for the fourth quarter of 2016 were down 2.2% versus the same period in 2015, yet reports late in the pointed to a slight resurgence in metallurgical coal exports. Looking forward, we do not expect to see a meaningful recovery in enquiry and order levels until commodity traffic and asset utilization trends improve. Now, I would like to turn the call over to Matt to address our fourth quarter financial results.

[Matt Kohnke:]

Thanks Ted. Consolidated revenues were $135.5 million in the fourth quarter of 2016 compared to $203.3 million in the fourth quarter of 2015, and $113.5 million in the third quarter of 2016. The consolidated operating loss for the fourth quarter of 2016 was $3.1 million, which included $700,000 of charges incurred associated with our previously announced cost reduction plan. Excluding these costs, adjusted operating loss for the fourth quarter of 2016 was $2.4 million compared to operating income for the fourth quarter of 2015 of $16.1 million and adjusted operating income of $1.5 million in the third quarter of 2016. The decrease in the results versus the third quarter of 2016 reflects production inefficiencies on first-time car builds that Joe mentioned earlier, as well as an unfavorable product mix. Selling, general and administrative expenses for the fourth quarter of 2016 were $9.1 million compared to $11.2 million in the fourth quarter of 2015, and $8 million in the third quarter of 2016. The increase on a sequential basis was primarily attributable to sales commissions on international orders. The Company’s effective tax rate for the fourth quarter of 2016 was favorably impacted by $2.7 million tax benefit related to a reduction for a reserve for an uncertain tax position. For the full year of 2017, we currently anticipate an effective tax rate of approximately 35%. Turning to our balance sheet, our financial position remains strong with no outstanding debt, and nearly $99 million in cash, including cash equivalents and restricted cash at December 31, 2016. We generated positive operating cash flow of $215,000 in 2016 despite the $32.9 million payment made in connection with the settlement of our retiring medical benefits litigation earlier in the year. We are pleased with our strong financial position and with the flexibility that it provides. Capital spending in the fourth quarter of 2016 was approximately $800,000, while our full year 2016 capital expenditures were $13.8 million. For the full year of 2017, we currently expect capital expenditures to be between $4 million and $5 million. In the fourth quarter of 2016, we incurred approximately $700,000 of charges related to our cost reduction plan, bringing the full year 2016 charges to $2.3 million. We expect to incur approximately $400,000 of additional cost in the first quarter of 2017. We remain on track to deliver $5 million of annualized cost savings once these changes are fully implemented. As Joe noted, in January 2017, we took actions to further reduce our annual operating cost by $3 million on annualized basis. These actions include the reduction of salaries, administrative personnel and the elimination of certain discretionary costs. Combined with the $5 million of savings expected to be generated from the initial cost reduction plan, we are now targeting $8 million of annualized savings, primarily within selling, general and administrative expenses. The total estimated costs related to the 2017 cost reduction actions are approximately $1 million of employee related net costs. As the personnel reductions have already occurred, we expect to realize savings in the first quarter of 2017. Let me now turn the call over to Joe for concluding remarks.

[Joe McNeely:]

Thanks, Matt. 2016 was a difficult year as the financial results demonstrate. However, we have delivered on our couple of key strategic objectives over the course of the year. As we have stated on previous calls, expanding our product offering has and continues to remain key to our long-term success. We added to our product portfolio with 33 newer redesigned products sold over the last five years. We have proven our ability to build and sell a diverse portfolio of high quality railcars. Finally, we settled a long running recovery benefits litigation, which removed a significant contingency from our balance sheet. And we entered 2017 with a very strong balance sheet that’s nearly $143 million in liquidity, including unused portion of our amended credit facility and no debt. Looking ahead, we continue to face headwinds from the industry-wide lump in railcar demand, and the loss of operating leverage on our fixed cost given the anticipated reduction in deliveries. In response, we have right-sized our organization for this point in the market cycle, and have taken capacity out of our footprint. Our focus will remain to prudently manage our cost structure, improve production efficiencies, and drive positive operating cash flow. This ends our prepared comments. And we are now ready to address your questions.

[Operator:]

[Operator Instruction] Our first question today will come from the line of Justin Long representing Stephens. Please go ahead.

[Justin Long:]

First question I had was on Danville, you mentioned that you will be idling that facility, so I was wondering if you could comment on the expected impact from that. And is that amount included in the $3 million of additional annualized savings that you talked about?

[Matt Kohnke:]

The Danville idling will happen at the end of March after our current build that’s in process; after that, the carrying cost associated with that building are relatively insignificant. You might remember that few years results we wrote-down the assets into 2013. And as such, there is not a lot of carrying costs remaining on that building going forward.

[Joe McNeely:]

And then to add-on to that in terms of the additional $3 million that does not include the Danville cost. That’s more G&A related cost.

[Justin Long:]

And looking ahead, if we want to paint a bullish scenario where railcar demand accelerates in 2018 and beyond. How should we think about this $8 million of annualized cost reductions coming back into the business? I am just curious what portion of these costs would come back versus being structural cost reductions that you think are sustainable?

[Joe McNeely:]

I think when we look at that, there would be some costs that there are some, what I call incentives compensation numbers, that are in this year-over-year changes that would come back with the portion of this would structural.

[Justin Long:]

And then, lastly, I wanted to ask about the cash balance. It ended the quarter right around the $100 million. If you assume the demand environment doesn’t really change versus where it is today. How long do you think that cash balance could support the business when you account for any expected changes in working capital and CapEx?

[Matt Kohnke:]

So we -- the cash balance that ended up at the end of the year was in line with our expectations at the end of the third quarter. To the extent that we don’t get more orders, going forward, we’ll continue to work down our existing working capital and monetize that, going forward. So, that being said, we should generate more cash, which should be sustainable for a fairly long period of time, and sustain downturn market.

[Justin Long:]

And maybe on working capital, do you have an expectation for where inventory levels will go by year-end based on the delivery guidance you provided?

[Matt Kohnke:]

Based upon the guidance that we provided, it should decline. But given uncertainty, especially in the second half for the year, it's hard to quantify at this point.

[Operator:]

Our next question today will come from the line of Matt Elkott of Cowen and Company. Please go ahead.

[Matt Elkott:]

But do you guys say if you’ve gotten any orders in the first quarter?

[Ted Baun:]

We do not comment on current order activities.

[Matt Elkott:]

And just staying on the order front, I just wanted to make sure you said in your production forecast, it's based on schedule deliveries. So there are no assumptions for -- or no projections for orders coming-in in 2017 for same delivery and that production number?

[Ted Baun:]

Just a small amount that we expect to come in, but we’re being conservative with our outlook, with our position on this.

[Matt Elkott:]

And then just finally, you had solid top line in the quarter, you have solid deliveries. But the gross margin I think it was lowest in 1Q 15. Can you just give us some more color on that?

[Joe McNeely:]

Really, it's two things. One as I mentioned with some production and efficiencies on some of our first time car builds, which was combination of a number things between material issues, equipment issues, people issues. We’re making changes to address that. The other that was impacting that, as Matt had indicated, was product mix.

[Operator:]

Our next question today comes from the line of Matt Brooklier with Longbow Research. Please go ahead.

[Matt Brooklier:]

So, I had a question around your delivery expectations for ‘17. I think at the end of the third quarter, you had indicated that what you had in backlog, which was a bigger number, you anticipated to lever most of what you had. And the 3.5,0000 mid-point that guide us a pretty change. I’m just trying to get a sense for what’s changed over the past couple of months, where you anticipate delivering a fewer amount of cars that you have in your backlog?

[Joe McNeely:]

I think what changes again is the market looks a little softer than we thought when we talked back last fall. Again orders, there was only 4,000 non-tank cars ordered in the quarters. So, we anticipated being a little softer. And with the uncertainty that’s built into marketplace what the administration is doing, the visibility was any good read of confidence and the back half of the year, it's tough enough to be a little bit more conservative on our projections.

[Matt Brooklier:]

And then maybe you could talk to the cadence of deliveries, how your annual delivery guidance shakes out during the first half for the full year versus the second half?

[Joe McNeely:]

Given what we’ve got in the numbers of 32 to 38, we expect a majority of that is front-end loaded with some of that trickling the back half. So, we do have capacity in the back half of the year that we’re trying to sell.

[Matt Brooklier:]

And then my final question, we’ve seen some relative improvement in terms of coal car loadings, particularly towards the back end of fourth quarter. Just trying to get a sense for, has there been any increase in terms of enquiries for cars refurbishments at this point in time? What’s your sense? I think previously you’d stated you’re not too optimistic that we’re going to see some of those refurbishment orders potentially trickling in during '17. But just given the direction improvement in the coal car market, I guess what's -- has there been a pick-up in terms of enquiries and what are your expectations for the year?

[Ted Baun:]

We’ve seen a little bit of an uptick in enquiries, some around coal, but it's mostly the eastern coal market that’s seeing the majority of the improvement from one quarter to the next. But still, structurally, we don’t see any real demand for coal cars, rebuilds or otherwise in the near-term. There is still a lot of equipment over-hang out there, both in the east and in the west. I would say the east could come back quicker given the met-coal exports that are taking place right now. But structurally, still a challenging market.

[Joe McNeely:]

One other thing, as Ted mentioned on the east exports, it's a little different while we’ve seen some loadings tick up, a lot of those contracts are short-term in nature that are not long term. So not the duration and therefore we think that we would start ordering cars to replace the fleet. But we’ll see at time as that one stays consistent loadings stay consistent or will drop back-off.

[Operator:]

Next we’ll go to line of Mike Baudendistel with Stifel. Please go ahead.

[Mike Baudendistel:]

Just wanted to ask you, you said there is no a lot of carrying cost at Danville, going forward, not at the site. But could you quantify what those carrying costs are?

[Joe McNeely:]

What the what cost…

[Mike Baudendistel:]

The carrying costs associated with Danville, now that you sided, but you said there were many. But if you could just quantify that, that would be helpful?

[Matt Kohnke:]

So, we haven't publically said that number and prefer not to at this point. But it is certainly not a significant number going forward.

[Mike Baudendistel:]

And then do you guys have any further thoughts on whether you still need the three manufacturing facilities given your outlook?

[Joe McNeely:]

Given the uncertainty in the railcar demand and what's going on with the administration, I think at this point we would make no decisions. And I think we’ll wait to see how the railcar market evolves and what demand, if any, some of the administration policies generate overtime.

[Mike Baudendistel:]

I just had a couple of questions on that help us with the model, I think on a gross margin percentage, first quarter was about 5% and that was a pretty steep drop. And maybe if you can just help us with what that should look like going forward. And I know you didn’t give guidance in that area, but maybe just directionally, given that there is lot of moving pieces with cost being taken out and changes in production rates et cetera?

[Matt Kohnke:]

You’re right. We don’t give guidance on it. Given where we are in the marketplace and the capacity that’s out there, certainly pricing on jobs is soft, and will hurt margins relatively to what I call normalize rate. So, what we said in the past is, in margin, we would like to have somewhere benchmark around 10% in an softer environment is going to be below and a good environment is going to be above that.

[Mike Baudendistel:]

And then just want to ask you in the fourth quarter ASP, I mean, that was better than I think we were expecting, and especially considering some rebuilds in the fourth quarter. And maybe if you could just talk -- can you give us a sense for what the ASP per unit was excluding those rebuilds and surges on the new car deliveries?

[Matt Kohnke:]

ASP during the quarter includes some of the rebuilds was still stronger relative to prior periods, rather not call out the specific numbers there. But certainly mix for the cars that we’re delivering in the quarter, certainly led to the higher ASP.

[Mike Baudendistel:]

Okay. So, is a mix issue then?

[Matt Kohnke:]

Yes.

[Mike Baudendistel:]

Okay, that’s all I had. Thank you.

[Operator:]

And we have a follow up from Justin Long. Please go ahead.

[Justin Long:]

I wanted to ask about a comment you made in the prepared that sales commissions sequentially bumped up due to some international orders. If you look at the backlog today, how much of that backlog is allocated to international markets versus North America?

[Ted Baun:]

Justin, right now, looking forward, there is very little international activity in the current backlog.

[Justin Long:]

And then I also wanted to ask, follow up on the question, about coal cars. You guys used to disclose the number of coal cars in storage. And I was just wondering if you have that number available today. And maybe you could provide a comparison of where we stand today versus the peak, which I am guessing was the middle part of last year?

[Joe McNeely:]

Justin, it’s a number that we still track. But we’re just not comfortable with the science behind it, if you will. And so that’s really the reason we don’t disclose it. It’s more or less just a very subjective measure. We would say that that number is somewhere around 30,000 cars out of call it 230,000 car fleet. But again, there is some east versus west ambiguity and some aluminum steel new versus existing, and it's just tough to really pin that down and have a confidence in it.

[Matt Kohnke:]

And Justin I think, though, it’d be fair to say it is probably down from the peak that we saw, but there is still lot of cars on storage.

[Operator:]

And gentlemen, there are no other questions queued up at this time.

[Matt Kohnke:]

This concludes today’s conference call. Thank you for joining. A replay of this call will be available beginning at 1 PM Eastern Time today at 1800-475-6701, passcode 418019. See you next quarter.

[Operator:]

Ladies and gentlemen, that does conclude our conference for today. Thank you for your participation and using the AT&T executive teleconference. You may now disconnect.