Spectrum Brands Holdings, Inc.
Q1 2011 Earnings Call Transcript

Published: 10 Mar 2011

[Operator:]

Good morning. My name is Michelle, and I will be your conference operator today. At this time, I would like to welcome everyone to the Spectrum Brands First Quarter Fiscal 2011 Earnings Conference Call. [Operator Instructions] I would now like to introduce Mr. David Prichard, Vice President of Investor Relations. Mr. Prichard, you may now begin your conference.

[David Prichard:]

Thank you, Michelle, and good morning, and welcome to Spectrum Brands fiscal 2011 first quarter earnings conference call and audio webcast. I'm Dave Prichard, Vice President of Investor Relations for Spectrum Brands and your moderator for today's call. With me this morning to lead the call are Dave Lumley, our Chief Executive Officer; and Tony Genito, our Chief Financial Officer. Also with us today for the Q&A session are Terry Polistina, President, Global Appliances; and John Heil, our President of Global Pet Supplies. Now our comments today include forward-looking statements including our outlook for fiscal 2011 and beyond. These statements are based upon management's current expectations, projections and assumptions and are by nature uncertain. Actual results may differ materially. Due to that risk, Spectrum Brands encourages you to review the risk factors and cautionary statements outlined in our press release dated February 10, 2011, and our most recent SEC filing and Spectrum Brands Holdings' most recent 10-K. We assume no obligation to update any forward-looking statement. Additionally, please note that we will discuss certain non-GAAP financial measures during our remarks, including adjusted diluted earnings per share, adjusted EBITDA, free cash flow and net sales excluding foreign exchange translation. Spectrum Brands' management uses these metrics because it believes they first provide a means of analyzing the company's current and future performance and identifying trends; and second, provide further insight into our operating performance because they eliminate certain items that are not comparable either from one period to the next or from one company to another. Additionally, adjusted EBITDA can also be a useful measure of a company's ability to service its debt and is one of the measures used for determining the company's debt covenant compliance. Also, management believes that free cash flow is useful to both management and investors in their analysis of the company's ability to service and repay its debt and to meet its working capital requirements. Free cash flow should not be considered in isolation or as a substitute for pretax income or loss, net income or loss, cash provided by or used in operating activities or other statement of operations or cash flow statement data prepared in accordance with GAAP or as a measure of profitability or liquidity. In addition, the calculation of free cash flow does not reflect cash used to service debt and therefore does not reflect funds available for investment or discretionary uses. While Spectrum Brands' management believes that these non-GAAP financial measures are useful supplemental information, such adjusted results are not intended to replace the company's GAAP financial results and should be read in conjunction with those GAAP results. I want to caution the audience that although net income is the GAAP measure from which adjusted EBITDA is derived, projected adjusted EBITDA results discussed during this call may differ significantly from net income results due to factors not included in the calculation of adjusted EBITDA. Now in our press release dated February 10, 2011, which has been furnished on a Form 8-K filed with the SEC, we have provided the reconciliations for the following non-GAAP information in the tables indicated

[David Lumley:]

Thanks, Dave, and thanks to all of you for joining us on the call this morning. I'm pleased to report Spectrum Brands is off to a solid start for fiscal 2011, building upon the momentum we created as we closed out fiscal 2010. The message I want to leave you with today is one about excitement about our future. We are on track. We're ahead of schedule in, one, the strategic development growth of our businesses; two, our financial results; three, the strengthening and deleveraging of our balance sheet; four, our across-the-board operating cost reductions; and five, our synergies and synergy estimates from those actions. Earlier today, we reported record quarterly net sales in adjusted EBITDA for the first quarter of fiscal 2011 as we reconfirmed our full year guidance, which was given during the fiscal 2010 year-end call in early December. The takeaway from this is we are continuing to see very real success from our Spectrum Value Model [ph] (28

[Anthony Genito:]

Thanks, Dave, and good morning, everyone. I'm pleased to say that we've continued our momentum from fiscal 2010 by completing a solid fiscal 2011 first quarter. This positions our company well for further operating and financial progress in the rest of this fiscal year. The company reported consolidated GAAP net sales of $861 million for the first quarter of fiscal 2011, up 45.5% from $592 million in the year-ago quarter. The addition of Russell Hobbs businesses as of June 16, 2010, and solid sales growth in both Global Batteries and Remington, which we refer to as Personal Care, drove the net sales increase. These results were negatively impacted by $14 million of foreign exchange. When we included the fiscal 2010 first quarter results of Russell Hobbs, net sales for 2011 first quarter of $861 million increased 2.4% versus $841 million last year. Excluding the negative foreign exchange impact, net sales increased 4.1% in the first quarter of fiscal 2011 versus last year's first quarter. The company's gross profit for the first quarter improved to $299 million, an increase of 62.2% from $185 million for the same period last year. Total operating expenses for the first quarter were $230 million, up from $166 million for the comparable quarter last year. The increase of about $65 million was driven by

[David Lumley:]

Thanks, Tom. We're excited about Spectrum Brands' outlook for value creation, both in the short term and over the long term. Our company continues to be well positioned for strong financial results as a global, superior value proposition leader. As our earnings release said, and as Tony described, we expect another year of improved sales in fiscal 2011 and significant increases in adjusted EBITDA, free cash flow and along with more than $200 million of debt reduction. This will lead to an even stronger balance sheet and significantly reduce leverage over the next several years. More importantly, we will persist on what we believe is a winning strategy for our businesses

[David Prichard:]

Operator, if you could now begin the question-and-answer session please?

[Operator:]

[Operator Instructions] Your first question comes from the line of Bill Chappell from SunTrust.

[William Chappell:]

I just wanted to first dive into the outlook and maybe what you're seeing on the battery side in terms of the price rollback -- the price increases that everybody's taking this quarter. When do you expect that to kind of benefit your bottom line? And then second question on commodities in general. I don't know if you really quantified what you see as the commodity basket increasing year-over-year and how hedged you are, I know certainly on zinc and on some other things you are, but on some of the other items kind of where you stand?

[David Lumley:]

This is Dave Lumley. I'll answer batteries. I'll make a comment on commodities and then have Tony talk about the hedges that we have on materials as well as financial hedges. I think that the outlook for batteries, especially in the second half this year, is much better than it’s been over the last 18 months. There is pricing in the market by the leading companies on some of the battery types, 9 volts, Cs and Ds. The change in strategy of more batteries by all the 3D battery companies and changing that to a [indiscernible] (00

[Anthony Genito:]

Sure. From a hedging standpoint, I’m not going to get into the specifics. It's probably good to bring the picture too, here. I think most people know this but I'll reiterate it again, and that is there's no one single commodity that quite often keeps me up at night. For instance, zinc, we constantly focus on zinc. But zinc represents about 1.5% of our consolidated cost of sales. And as Dave said, there's other chemicals out there that prices fluctuate, and we see periods where they're going up and they're coming down, and they do have a loose negative correlation to currency, which also impacts us since we're a global company. But for everybody's sake on the phone, we do have a very disciplined hedging program. We do hedge zinc which is a component in the manufacture of batteries. It's a very disciplined program, as I said. We have a rolling six-quarter average that we put in a certain layer every quarter, so it becomes almost $1 averaging. And right now, we are currently hedged over 70% of our projected purchases for 2011 and about 50% for 2012. So we look to layer in a fixed amount as I said. And then if we see an opportunity -- again, this is not to play the market. This is really just to take a variable off the table. If we see an opportunity where the prices seem to dipping, we might put a discretionary additional hedge on top of the fixed amount that we have for our policy. With respect to currencies, about 70% again of our currencies have been hedged for 2011 and about 25% for 2012. I think it's also important to note that we feel pretty good about '11 because -- just a little tidbit, the Appliance business, which is part of the Global Batteries and Appliances segment, the Appliance business which is obviously the former Russell Hobbs and the Remington business, about 40-plus percent of the EBITDA of that business is behind us through the first quarter. So that's basically "in the bag." So that's a good thing. And again we continue to hedge currencies in a very disciplined process that we've instituted, and we feel pretty good about that. The business is a complex business. There's a lot of moving parts, a global business like I said. It's typically -- we've got commodity impacts, we've got foreign exchange impacts, and there's a loose correlation between those two as I said, and usually they are inverse to one another. So with all the moving parts, we feel that we can manage through the white waters ahead, and like Dave said, what's impacting us is impacting every other company out there as well.

[William Chappell:]

I assume you're unchanged top line guidance basically is not assuming any price increases taken this year, though it sounds that's likely. And then also on the battery side, would you expect the March quarter to be pretty, for lack of better words, ugly as you see discounting pushing up, plus is there some kind of hangover instead of selling one pack of 12, last year you're selling one pack of 15, so the pantries are fuller than normal?

[David Lumley:]

To the first point, pricing in some markets is going up. We are gaining pricing on some global markets and some segments everywhere, and some are more difficult. As I originally said, Bill, all you have to do is open the Sunday circular, and you could see the discounting. And I think that it's flushing through, and everyone's motivated to do that. And I think like I said the first half of this calendar year, this thing will flush through in the second half should be returned to normalcy. That's what it looks like.

[Operator:]

Your next question comes from the line of Reza Vahabzadeh from Barclays Capital.

[Reza Vahabzadeh:]

You talked about the North American business, the batteries gaining share in sales. If you can just talk about what is driving that, is it shelf space, new customers or expanding shelf space at the existing customers? And then on the other hand, pet sales were lower year-over-year as were Russell Hobbs in the North America, can just you talk about those three segments sales trends?

[David Lumley:]

This is Dave Lumley. I'll address batteries, and then we're fortunate to have our presidents of those two divisions, Pat and Russ Hobbs [ph] (01

[John Heil:]

Let me break it down into a few different parts. First, as I mentioned on the last call, we lost some distribution on our companion animal business. The first quarter is the third quarter that we have of that loss, and the next quarter will be the last quarter, then we will have anniversaried. So I'm still dealing with that which is having a negative impact on my companion animal business. Without that particular loss of distribution, our companion animal business is actually up versus a year ago and doing very nicely, and we feel good about the rest of the year. In Europe and rest of the world, our volume is up modestly. Europe is doing quite well on the companion animal. Aquatics is flat. Rest of the world, other than Europe, pretty much the same. Our North American Aquatics business is dealing with a soft category, and we are finding customer by customer differences. Some customers are up, and some are off. But overall, net-net, the industry on aquatics continues to be down versus a year ago, and that's a large part of our portfolio.

[David Lumley:]

Terry, you want to talk about Appliances in North America and overall sales?

[Terry Polistina:]

Yes. First of all, Dave mentioned in the opening remarks how well the Personal Care business did, and I think that's a direct reflection of the Spectrum Brands' globalization of that category. And we're going to copy with pride [ph] (01

[Reza Vahabzadeh:]

Besides zinc, Tony you mentioned that the small ingredient cost for you -- but besides zinc, what are the other larger or commodity costs that you spent time thinking about?

[Anthony Genito:]

That's a great question, Reza. There really isn't a lot. There's other chemicals for instance, there's EMD which is manganese ore, that's about the same percentage of zinc on a consolidated basis for batteries. But after that, of course, there's steel, there's gas prices, oil prices and packaging materials and of course, fuel costs, transportation costs, and so. But there's not one of those items that represent something that’s a deal breaker. Maybe the best way to analogize it is, if you think about our former fertilizer growing media business, we had three commodities that went into the bags. It was diammonium phosphate or DAP, potash and urea. And basically [indiscernible] (01

[David Lumley:]

This is Dave Lumley. I think that's an important point for the products that Spectrum Brands sells. There is no overriding giant one commodity. Like you said, in fertilizer, you could think of the plastics industry, there are certain companies that give 40%, 50%, 60% of their cost of goods is [indiscernible] (01

[Operator:]

Your next question comes from the line of Torin Eastburn from CJS Securities.

[Torin Eastburn:]

First question is on Personal Care in the shavers, that industry has been strong. Your performance within the industry has been strong. What's your outlook both for the industry going forward? And what are the things you think you can do to continue …?

[David Lumley:]

This is Dave Lumley, and then I'll have Terry jump in. Terry just inherited the Shaver business. Are you talking about men's electric shavers? Or are you talking about shaving, in general?

[Torin Eastburn:]

Well, mostly, the whole Personal Care segment.

[David Lumley:]

Well, we have a joke around here. We don't know too many women or men who leave their house without cutting, shaving their hair and shaving. So we feel pretty good about that, and that goes back to what we talked about nondiscretionary products for everyday use. I think what you're seeing is that the price increases in wedge shape for the handle and blade are so pronounced over the last three to five years. You go back and see what it cost five years ago and what it costs today, it's hard to imagine that you can buy our best-selling rotary shaver for $39, and the payback is about two or three months versus wedge shape, which is really kind of hilarious if you think about it. So I think what you're getting at is men who are more attuned to personal grooming, not only on shaver, but all these grooming devices that we sell, beards or 2-day growth, or trimming body hair and all those types of things and the wet good that goes with it and the accessories. And on the women's side, same thing, the cost of going to a salon -- instead of going every week, it could be every other week as they can get devices, whether it's a straightener, a curling iron, a dryer and some of the accessories that go with it, the wet goods that go with it, so a little bit more of do-it-your-own, a little bit of price shock from what I would call the wedge shape blade business. Even though they're doing well in pockets, but not overall. You think about where most people shop and the large mass merchants' price points are important and total outlie of how much money you're going to spend is important. We live in a world today where some people only buy the gas they need for the next couple of days; they don’t put $100 of cash in their car. So the same thing is true here. I think it's just better products that perform better. One of the reasons we're selling more shavers is we came out with a new product that flexes and pivots and it works better, same with the grooming thing; and on the women's side, faster products that straighten their hair, dry their hair faster and do things they just do [indiscernible] (01

[Terry Polistina:]

I think you captured it. The product pipeline that we have is coming out -- certainly on the Personal Care side of business doesn't keep me up at night as far as where we're going to grow in my segment. So I feel good about the growth that's going to come out of PC.

[Torin Eastburn:]

In the Home and Garden business, I would imagine you're getting close to receiving orders for the selling season, if not starting to get them already, what is the outlook as early as it is for Home and Garden?

[David Lumley:]

You know last year, there was an unusual early launch to Home and Garden. There was great weather. There was tremendous enthusiasm. Everyone's shipped a lot early. Everyone sold a lot early. Everyone extrapolated that we're going to sell twice as much. It was a very good year, but it all kind of balanced back out. This year, I think, the industry has to overcomp that in the early launch, but nevertheless, there continues to be strength at big mass merchants, in particular home centers in North America, of people taking care of their lawns and spending more times in their backyard. So you're right. All the orders and decisions were made long ago. You have to build that all winter, which is partially why you lose money in the first quarter because you don't ship anything [indiscernible (01

[Operator:]

Your next question comes from the line of Hamed Khorsand from BWS Financial.

[Hamed Khorsand:]

On a quarterly basis, do you think Q1 sales will be the peak for the year?

[Anthony Genito:]

I think if you were to look at a historical trend of our sales -- now obviously, if we adjust for that Russell Hobbs and you make that churn, you'd see that our first fiscal quarter does represent typically the single largest quarter, but we do have a strong third quarter as well because of the Home and Garden season. There's a lot of sales that straddle between the month of March and April, May, June as well. But typically, I would say that our first fiscal quarter would be at the height of sales dollars.

[Hamed Khorsand:]

What are you doing to gain traction at big retailers whom only carry the top two battery brands and the store brand name?

[David Lumley:]

We work very hard to show them what the opportunities they would have if they carry our brand. I don't mean to be funny in that. I think that the Battery business is one that for some retailers is very important, and some it's not so important. And what I mean is that some of them are more focused on different segments in their store. In our case, we believe we have a compelling proposition now for them, and that is that you can have a product that lasts as long as the two leaders. It has a better value, lower inventory costs to bring in. And we present it and we go in and we do research and we show it just like any other company would, and I think that we are slowly converting them as they go along. Batteries are something that usually are very profitable for a retailer, but they have to decide if they want to be in the business. Meaning, they had to give it enough space, batteries are 60%, 70% impulse. So they have to decide to give that space, but that sometimes there's more of that issue than it is how many brands they carry. And then of course, you have some retailers who are very -- they come in and out of private label in this category. And that is something that I think is a big opportunity for the branded companies as we move forward, especially a company like Rayovac. Because the private label business [indiscernible] (01

[Operator:]

Your next question comes from the line of Mary Gilbert from Imperial Capital.

[Mary Ross Gilbert:]

Kind of following up on some of the things that you brought up. It sounded like in Home and Garden you're seeing expanded distribution and I just wondered by segment, what is the status of shelf space in terms of expansion opportunities and also with regard to Russell Hobbs and integration into emerging markets?

[David Lumley:]

Well, think of Home and Garden though in three segments. You have the controls which are mostly outside. You have household which is mostly pests inside your house, and then you have repellents, right? And if you think about it, I think our Home and Garden division, which its legacy name is United Industries, with its Cutter brand, [indiscernible] brand, (01

[Terry Polistina:]

I would say because of the merger, we became from a middle-of-the-pack guy to a very, very near the top of worldwide market share in small domestic appliances. And so that helps us become more relevant. The Spectrum infrastructure that we gained is allowing us to have very, very good distribution opportunities, Dave alluded to it at the very beginning. But we've started to ship into eight countries in Eastern Europe which probably would have taken me 10 years to get to on a stand-alone basis. And we have other examples of that around the globe with personal care coming into some of those locations that we had strength. So I think there's actually very good distribution expansion opportunities for the Appliance business over the next few years.

[David Lumley:]

Mary, this is Dave Lumley. What Terry is referring to is we made, despite our financial challenges of the last few years, we made a significant bet in investment to build our Eastern European business through our battery platform. We brought Remington in there. And now we can bring appliances right in there, and it's a really good significant part of sales and a good infrastructure we have in place. I'm talking whether it's Russia, Poland, Bulgaria, Romania, Czech Republic, it doesn't matter, Turkey. We went in, and we got distributed. We did all that work. So that's when we say we have opportunities to go [indiscernible] (01

[Anthony Genito:]

As we've said, Mary, the $25 million to $30 million of synergy savings, which we've announced and we feel really, really good about those, that does not include any opportunities coming from revenue enhancements that Terry and Dave just described.

[Mary Ross Gilbert:]

So this is incremental? This isn't built into your total guidance for the year, the EBITDA guidance, that doesn't incorporate the entrance into some of these emerging markets. Is that correct?

[David Lumley:]

That's correct.

[Mary Ross Gilbert:]

Also following up on that, you reiterated your free cash flow guidance. You've obtained interest savings, and then you've also talked about additional savings because we're really looking at $32 million to $40 million now over the next two years? Are those being offset because there was no increase in...

[Anthony Genito:]

Let me answer that one, Mary. Let's take the first one. With respect to the interest savings, yes, we will have, on an ongoing basis, if we held the debt at $680 million which, of course, we want to make payments on that debt -- but interest rates and the debt at $680 million, we're going to save over $20 million a year. However, this year, there's obviously a cost to do that. We had a [indiscernible] (01

[Karru Martinson:]

How should we look at changes in working capital this year? Is that going to be an increase, given inflation?

[Anthony Genito:]

Even though the business will be increasing, we've talked about a 3% or 4% increase on the top line. I think the best assumption to use is that working capital will remain relatively flat because we still have some savings in there.

[Operator:]

Your last question comes from the line of Karru Martinson from Deutsche Bank.

[Karru Martinson:]

Did you guys actually give what the market share for battery is in North America?

[Anthony Genito:]

No, we didn't. Actually, we've drawn the line in that -- had we released what the new market share is for batteries in North America, I don't think we've publicly released that, but I don't know if we want to. It's Nielsen data so.

[David Lumley:]

It'll be published next week. They'll be able to see it if they subscribe to Nielsen. I would just say that we're in the high teens.

[Karru Martinson:]

When we look at the inventory at retail, are we still in that six to eight weeks of inventory? Or do you feel that has built up here through the holiday season?

[David Lumley:]

I think it's different for each battery company. I can speak to ours. Ours is in line with the retailers.

[Karru Martinson:]

In terms of the softness in the home category versus small appliances in North America, is there any kind of change afoot to address that? Or is this more of a broader industry issue that you guys just have to kind of wade through?

[Terry Polistina:]

I think what we're doing to address it as a company is bringing out more performance for the same, as Dave said, as far as the Spectrum Value Model. We actually see some nice improvement in the back half of the year in our products and placement. So just speaking from our side of the equation, I think it's looking much better in the back half of the year for us.

[David Prichard:]

Everyone, thank you very much. I just wanted to say again on behalf of Dave Lumley and Tony Genito, Terry Polistina and John Heil, again thanks to all of you for joining us on today's Spectrum Brands First Quarter 2011 Earnings Conference Call. And we will talk to you again next quarter, and have a good day. Thank you.

[Operator:]

This concludes today's conference call. You may now disconnect.