Unifi, Inc.
Q3 2021 Earnings Call Transcript

Published: 1 May 2021

[Operator:]

Ladies and gentlemen, thank you for standing by, and welcome to the Unifi Third Quarter Fiscal Year 2021 Conference Call. At this time, all participants are in a listen-only mode. After the speakers' presentation, there will be a question-and-answer session. Please be advised, that today's conference is being recorded. I would now like to hand the conference over to your speaker today, A.J. Eaker, Vice President of Finance. Please go ahead, sir.

[A.J. Eaker:]

Thank you, Christel, and good morning, everyone. On the call today is Al Carey, Executive Chairman; Eddie Ingle, Chief Executive Officer; and Craig Creaturo, Chief Financial Officer.

[Al Carey:]

Thank you, A.J., and good morning, everyone. Thanks for joining us today on our call. And I want to get the call started with a few comments about our overall performance for Unifi's third quarter. And then I'll turn the presentation over to Eddie Ingle and also Craig Creaturo, who will provide you with the details. So all in all, we had a solid quarter three, stronger than we anticipated, and we continued to see a steady recovery from the pandemic. Our Brazil and Asia business had very strong sales and gross profit performance. That's whether you look at it versus Q3 of last year or versus the previous quarter. North American sales saw a year-over-year growth in March, so we now have all three regions showing solid growth trajectory. Our EBITDA performance was very positive in Q3. Our balance sheet continues to be strong as does net debt, and our overall financial performance really puts us in a position so that we can invest in growth as we move into the future. If you look at Q4, while there's still some uncertainty in the Brazil market and even the U.S. market with regards to COVID. Even with that, we see a path to sequentially improving our sales for Q4 and finishing the fiscal year in a way that sets us up for a strong 2022. I'd like to tell you about one positive trend that's growing in the market that's worth noting. There's a very definite momentum for sustainable products from consumers and also from our customers. This bodes well for REPREVE's future, and we can hear this in the discussions that we have with our customers and in their future plans for not only apparel but also home furnishings, footwear and also automotive. Many customers are increasing their commitments to making products using recycled material, and they're actually taking action on those commitments. This quarter 3, we've seen the REPREVE hang tags with our co-branding partners increase by 80%. Now that number year-to-date is 50% so that we can see the trends continuing to strengthen. For the fiscal year, we expect to end the year at 90 million hang tags on products across the marketplace, so the awareness of our brand is climbing in a very positive way.

[Eddie Ingle:]

Thanks, Al, and good morning, everyone. As Al mentioned, our third quarter fiscal 2021 results surpassed our initial expectations and are a testament to our strong global presence and the resilience of both our employees and our business model. This quarter would not have been possible without the many contributions from our employees, and I want to once again thank all of our team members for their dedication to the business and especially to our customers. Their compliance to the safety measures we put in place over a year ago has allowed us to maintain low COVID case numbers, while continuing to operate our business effectively and navigate a recovery. On slide three, we have provided an overview of the quarter. The business demonstrated another quarter of significant strength, and I'm very happy to report we exceeded pre-pandemic revenue levels. Q3 revenues were up 10% sequentially and 5% on a year-over-year basis, with solid performance across all segments and geographies. We generated a 530 basis point improvement in gross margin year-over-year due to the strong results we saw in our Brazil and Asia segments. Brazil had the strongest segment performance during the third quarter, and momentum in that region continued well past Q2 as improved selling prices and product availability during Brazil's economic recovery led to strong margin performance. Our Asia segment's also demonstrated strength during Q3 as volumes continued to trend up year-over-year, experiencing a meaningful return to growth. Our team in Asia has continued to successfully manage cost and improve product mix, allowing for gross margin expansion. In regards to the U.S. raw material costs and supply chain, the March 2021 quarter was the most volatile period we've seen in quite a few years. Many people and businesses in Texas experienced harsh weather conditions in February, but we were fortunate that our supply chain remained operational, albeit with surcharges on selected input materials and freight. Combination with rising petrochemical prices, our raw material costs exhibited a meaningful step-up during the March 2021 quarter. With those higher costs now in our business, we have been working closely with our customers to ensure that the appropriate selling price adjustments are implemented.

[Craig Creaturo:]

Thank you, Eddie, and good morning, everyone. Like the rest of the team, I am pleased with our third quarter fiscal 2021 results and our ability to navigate the complexities of this recovery with a regional and responsive business model. Because of these strong results, we are able to return to our quarterly comparative discussions on a year-over-year basis, which is something that we have not been able to do for the past several quarters. I will begin with a quick overview of profitability before moving on to slide five. Operating income and adjusted EBITDA were up significantly from Q3 of fiscal 2020. The increase is primarily attributable to the gross profit outperformance by Brazil, further aided by robust results from Asia. Operating income and adjusted EBITDA in the just completed quarter included two specific expense items that are worthy of additional commentary

[Eddie Ingle:]

Thank you, Craig. I will conclude with slide 10 of the presentation and provide some context around our expectations for the fourth quarter of fiscal 2021. You will note we were able to include more detailed forecast information than we have been able to provide in the past couple of quarters, as our business visibility continues to return to, let me say, more normal levels. The third quarter's strong performance supports the expectation we laid out earlier in the fiscal year that we will see incremental progress in net sales trends throughout fiscal 2021. We are encouraged by recent sales trends in our REPREVE and other value-added products and expect recent strengths to continue. With this sustained business momentum, the company anticipates sales volumes to increase and June 2021 quarter net sales to improve sequentially on the March 2021 quarter by approximately 1% to 3%. Adjusted EBITDA for the fourth quarter of fiscal 2021 is expected to be in the range of $12 million and $14 million and includes our current expectations for the following

[Operator:]

Your first question comes from the line of Chris McGinnis with Sidoti & Company.

[Chris McGinnis:]

It was a nice quarter. If we could start off just on the raw material. A lot's changed since, I think, the last time we've seen Unifi in a pretty volatile period of raw material. Can you just talk maybe a little bit about maybe the strength and the relationship with the customer base? I think the big thing is REPREVE growing to a bigger percentage of sales. Does that change the positioning to get price increases through quicker? Can you just talk a little bit about your thoughts around the increases and how easy you can pass it along?

[Eddie Ingle:]

Yes, Chris, thanks for the question. We have experienced, like we said, significant raw material increases that we weren't suspecting this, but I think what happened in Texas really highlighted for a lot of people, some of the difficulties with some of the supply chains. Fortunately, we weren't impacted from a supply chain point of view. But from a raw material point of view, we do traditionally lag increases. We give our customers time to adjust. What we're doing is no different from all of our competitors. But I do believe that during this Q4 -- by the time we reach out of Q4, most of the raw material increases that we have to pass on to our customers due to raw materials will have been implemented. There will be some residual that will be -- will happen in the beginning of our new fiscal year due to the indexing that we have with some of our customers. But I think the environment is everybody knows raw material prices are going up. There is inflation and it's a natural take from our customers, albeit they don't like it and we don't like passing it on, but we are managing to get from that. I think on the REPREVE side, that is because we've had increased demand in the region, particularly in the U.S. and Central America, we -- certainly, people understand that because of the strength of our brands and because of the tightness in the market for recycled products, we're able to get the full increase there during this quarter. Thank you.

[Chris McGinnis:]

Great, thanks for that. And I guess just to stay on REPREVE, it sounds very successful, obviously, and seems to be ramping up. Can you just talk about the changes of the conversations you're having? Is it just the environment being pushed by the consumer? Where are you seeing the biggest kind of, I guess, request as you start to see this increase in demand come in from -- on the sustainable side?

[Eddie Ingle:]

Well, as you said, it is driven by the consumer. But what, I think, the big point is the brands that service the consumers, they are recognizing that the consumer wants this. And we're in the right -- we're in the sweet spot to be able to deliver that globally, both here and in Asia. So if you look at the Nike's new sustainability report that the commitments they're making around sustainable products. If you look at Walmart, so whether it's a big brand or a big retailer, everybody is out there declaring sustainability targets. And a lot of that is due to the inputs. And polyester is a perfect product because it can be recycled and it is recycled at a very high rate around the world. And with our REPREVE brand, that has transparency and traceability and gives that brand comfort, we are the natural go-to company to supply that sustainability needs.

[Al Carey:]

Chris, this is Al. I just wanted to add to Eddie's answer. I can't be precise on this but sometime around August and September, as we moved through COVID, it just appeared that the momentum went up for environmental sustainability pretty significantly. When we started seeing that, the discussions went up. Also, just one observation is some of the key leaders in these retailers and brands are millennials. They're starting to get to that stage of their careers where they're taking over pretty big roles in these companies. And they're starting to get close to the 2025 commitments that some of these companies have in terms of the amount of recycled material they include in their products. So if you have a goal by 2025, you got to get moving now; otherwise, you miss the goal and I don't think any of those companies want to do that.

[Chris McGinnis:]

Sure. And I appreciate that. Thank you very much.

[Operator:]

Your next question comes from the line of Daniel Moore with CJS Securities.

[Daniel Moore:]

Yes, thank you. Good morning. Just really quickly, Tom, if you are on the call and if this does mark your last call in official capacity at Unifi, just thank you for all the help over the years, and particularly, your candor and straightforward approach. It's been really excellent to work with you and refreshing, so thank you. Just want to maybe touch on the North America first. Poly flipped to positive growth in March, I think I heard. Do you expect that to continue into Q2 and beyond, particularly given kind of easier pandemic-related comps? And any further color or update on the trade dispute progress would be helpful.

[Eddie Ingle:]

Thanks, Dan. I'm sure Tom will appreciate that comment. Regarding North America, we are continuing to see growth in demand. And we do see this continuing in Q4 and then -- and beyond. And the beyond part is definitely related to the antidumping initiatives that we took place that we initiated back in December. We'll get a preliminary ruling sometime in late May, sometime early June, and that will, we think, be the emphasis to further accelerate the growth of volume in North America, particularly in the U.S.

[Daniel Moore:]

Very helpful. And maybe just dig into Brazil a little bit. It's kind of been boom to bust to back to boom. Is the COVID crisis -- is the -- is it limiting competition? Is that a big factor in margin -- the big margin gains, number one? And number two, just how do we think about how -- what's kind of a realistic sustainable gross margin level on a longer-term basis?

[Eddie Ingle:]

Yes. I think there's two questions and one is on the volume side. And yes, the retail environment did get constraints late March and then into April. We are seeing the retail environment open up, and that is giving us confidence that the volumes as we -- and this quarter, this April through June period, the volumes we expect to return to normal. Margins were exceptional, as you know and that was pretty boom boom-ish. And we do believe that it will come back to the normal margin range. But because the volumes will be up there, the total gross profit in the business will be, going forward, something that we'll be quite pleased with.

[Daniel Moore:]

Okay. And just last housekeeping; what's driving the tax rate in Q4? And what's an expectation for a more normalized rate as we think about fiscal '22?

[Craig Creaturo:]

Yes. I think, Dan, for Q4, we've got a mix of earnings, U.S. and internationally. We are catching a bit of a higher rate because of more tax on the GILTI high tax here in this nine month period that we just completed. We're also expecting that in June as well. We're not able to use as much foreign tax credits as we have in the past periods as well, so that's driving a bit of a higher rate. Going forward, we think that will normalize a little bit. Really, the key for that is as we continue to improve the profitability in the U.S., that has an overall balancing or blending impact that's favorable to Unifi, and that will push down the rate a little bit more in the long term. So as we look out longer term, it will be a more reasonable rate than that kind of large rate that we're expecting for Q4.

[Daniel Moore:]

All right, congrats. Momentum looks forward, more surely.

[Craig Creaturo:]

Thank you.

[Operator:]

Your next question comes from the line of Marco Rodriguez with Stonegate Capital.

[Marco Rodriguez:]

Good morning, everybody. Thank you for taking my question. I was wondering if you could kind of follow back up on Brazil here. I mean, the last quarter -- well, this quarter, obviously, you had very good performance and last quarter also as well. And I believe on the last call, we were kind of talking about this performance, and there was some expectation that you'd have some sort of a competitive response in this quarter. That doesn't seem to sort of played out the way maybe you were anticipating. Maybe if you can kind of share some color in terms of what's sort of going on with competitive dynamics in that market that, I guess, sort of allowed you guys to have spectacular performance once again here in Brazil.

[Eddie Ingle:]

Good morning, Marco.

[Marco Rodriguez:]

Good morning.

[Eddie Ingle:]

Marco, thanks for the question. This is Eddie. Yes, it was a remarkable quarter and it did surprise us. I think the team down there is just very agile and really know how to react in certain market conditions. And so the biggest competitor we have in that market are imports. And with the volatility of the currency and with the uncertainty of the pandemic, we did see the opportunity to gain market share against these imports and against one other local competitor down there. So we do think we can maintain our market share going past this current Q4, April through June period, where there is slowing in demand. So we expect to see volumes bounce back to the recent normal in our new fiscal year starting in July. So, the agility of that team and their ability to capture both margin and volume growth has been something that they've been prepared for. They've been working on for quite some time, and the time is right for them to take action and to come to the front and really make a big dent in our EBITDA way beyond what we had thought. So bottom line is we expect to continue to keep our market share and be able to maintain that position. Thank you.

[Marco Rodriguez:]

Understood. And then on REPREVE, obviously, you've been getting some very nice momentum there, a lot of excellent marketing and co-branding with your customers. Just kind of wondering, when you look at your approach to this market and the co-marketing you have with your brands, if you could maybe share anything you might have learned over the past 12 months that maybe are sort of changing or helping drive additional marketing efforts with your brands. And then if you can, over the next 12 months, maybe sort of paint the picture as far as what sort of, I guess, for lack of a better word, end market applications you kind of see as biggest drivers for the growth of REPREVE.

[Eddie Ingle:]

Thank you. Yes, what we've learned, I guess, is life goes on even during the pandemic. And we were able to continue to build these relationships with companies like WM and Disney, for example, which we talked in the last call. We do know that we were unable to put a lot of our marketing efforts physically out there. We have the mobile -- REPREVE mobile tour that goes -- traditionally gone from place to place physically to celebrate REPREVE and a sustainable story of our brands that we service. So that was sort of off the roads. This year coming up, we will be doing a lot more physical events and -- but at the same time, the social media platforms that are out there, we see them as being very, very useful to the cause. And as Al had mentioned, the driver of sustainability is occurring from these younger generation. And the younger generation is very social media-savvy, and we will be utilizing those platforms a lot more in the coming 12 months. And the question around where do we see the growth; we do see growth in automotive. We do see growth in apparel, of course, but also in home. This is an area that we've begun to focus on more closely. And myself did made a presentation to the furniture market, global furniture market here in High Point and was very well received, and we've had a lot of traction from that. The supply chain takes a while to transition over to sustainable products, but definitely in home furnishings, we'll see nice momentum in the coming 12 months along with automotive.

[Marco Rodriguez:]

Understood. Thank you very much, Eddie. I appreciate it.

[Operator:]

Your next question comes from the line of Gus Richard with Northland.

[Gus Richard:]

Yes, thanks for taking my question. Just on the supply side on REPREVE, these relatively low recycle rates for PET plastic. And I'm just wondering in your supply chain in that product, do you have constraints if demand continues to grow at a rapid pace? What do you need to do to make sure you can fulfill the demand?

[Eddie Ingle:]

Thanks for that question, Gus. Of course, we sell REPREVE globally. In the U.S., they are certainly lower than desired recycling rates. I think the latest estimate is 28% to 29% of bottles get recycled. Of course, in Asia, in China predominantly where we have a lot of our business. They're up into the 85%, 90% recycling rates due to the informal collection systems that are in place and the value relative to some of this working income. I think on the U.S. side, we are a little bit concerned. But again, we are -- we have a brand that grants a lot of power. And so companies like Waste Management, if bottles do get tight, they'd prefer to sell the bottle to a company like Unifi and REPREVE that can bring those bottles back into meaningful end uses. So, I do think the U.S. will grow the collection rates as the demand for recycled bottles grows. It's a very market-driven environment, so we do expect the very poor recycling rates of 28% to grow in the coming years. And the fact that it is so low here in the U.S., we see it as an opportunity. So if it wasn't 90%, there'd probably be more concerns.

[Gus Richard:]

Got it. And internally, do you need to add manufacturing capacity to handle that product or just any other CapEx requirements for it?

[Eddie Ingle:]

Right now, we don't. We are going to expand our CapEx spend, obviously, in the coming years. And some of that will be based on the circular economy, Textile Takeback, fabric to fabric markets. But from a REPREVE course, REPREVE res, we do not need to expand right now our assets for that to meet that supply.

[Gus Richard:]

Got it. Thank you so much.

[Eddie Ingle:]

Thank you, Gus.

[Gus Richard:]

Thank you.

[Operator:]

We have no further questions. I will now turn the call back to management for closing remarks.

[A.J. Eaker:]

Thanks, everyone for participating today. Our next earnings release for the fourth fiscal quarter ending June 27 is tentatively scheduled for Wednesday, August four after the close of the market, with a conference call to follow the next morning, Thursday, August 5, at 8

[Operator:]

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