Houston Wire & Cable Co. Q4 2008 Earnings Call Transcript

Mar.16.09 | About: Houston Wire (HWCC)

Houston Wire & Cable Co. (NASDAQ:HWCC)

Q4 2008 Earnings Call

March 16, 2009; 11:00 am ET

Executives

Chuck Sorrentino - President & Chief Executive Officer

Nick Graham - Vice President & Chief Financial Officer

Analysts

Sam Darkatsh - Raymond James

David Manthey - Robert W. Baird

Bill Dezellem - Tieton Capital Management

George Gaspar - Robert W. Baird

Holden Lewis - BB&T

Operator

Ladies and gentlemen, thank you for standing by and welcome to the Houston Wire & Cable Company’s fourth quarter and year end 2008 earnings conference call. My name is Matt and I will be your operator for today. This call is being recorded for replay purposes. (Operator Instructions)

If you did not receive a copy of the earnings press release that was distributed earlier this morning, a copy can be found under the Investor Relations page of the company’s website at www.houwire.com.

Comments during today’s call may include forward-looking statements relating to sales, earnings, financial condition, plans and goals of the company. These statements are not guarantees and actual results could differ materially from what is indicated in such statements.

A complete description of risk factors that may cause actual results to differ materially from statements made during this call can be found under the risk factors and MD&A section of the company’s Annual Report on Form 10-K for the year ended December 31, 2008, filed with the SEC earlier today.

At this time I’d like to turn the call over to Mr. Nick Graham, Vice President and Chief Financial Officer. Mr. Graham, please go ahead sir.

Nick Graham

Thanks Matt and good morning ladies and gentlemen. Thanks to all our investors on the call today for your interest and support as we review the fourth quarter and full year 2008 results. I’m going to focus most of my comments this morning on the financial position of the company.

As you can see from our numbers, our business was impacted as were most companies by the dramatic curtailment in demand from the economic downturn. We saw this demand change occur in the latter part of September 2008 and demand has continued to deteriorate.

Our results were also impacted by the unprecedented fall in the price of copper, a varying component of the wiring cable that we sale. As each time we see in the service business, we hold stock in our distribution centers and the pricing in certain Wire & Cable items has come under pressure compared to current costs.

Despite the demand slowdown in the fourth quarter 2008 we were able to generate record cash flows during the quarter of $12.1 million, surpassing the previous record of $11.7 million attained in the third quarter of 2008. For the year, cash flow from operations was a record $26.4 million, compared to the $20.1 million generated in 2007. Capital expenditures again remained inline with historical trends at only $200,000 in the quarter, for a total of $600,000 for the year.

Purchase of treasury stock totaled $15.5 million during 2008, but no purchases occurred in the fourth quarter. We also returned almost $6 million in funds to investors in the form of dividends during 2008. Progress was also made in reducing our outstanding debt levels. Total debt fell by $10.4 million from $40.2 million at September ‘08 to $29.8 million at December ‘08. Our debt-to-equity ratio at December 2008 stands at 39%, compared to 48% at December 2007.

We remain in full compliance with the covenants of our loan and security agreement, and had average availability of $33.5 million during 2008 and $45.2 million of availability at December ‘08. The average interest rate on our debt at December ‘08 was 2.3% and our interest coverage was in excess of 20 times on a trailing 12 month basis.

We made progress in reducing our working capital investment. Customer receivables have decreased due to the lower sales throughput. While we see sporadic examples of customers slowing their payments, our day sales outstanding remain inline with historical trends as do our receivables aging.

We had a few bad debt losses during the year totaling less than $100,000 and we continue to be vigilant in our efforts to screen new customers for acceptable credit lines, watch for payment trend changes in existing customers and scrutinize project times and additions for unfavorable clauses. Inventories increased by 3% as we geared up for certain major projects. Overall our working capital decreased by $8.9 million or 8% from the third quarter 2008 levels.

As we move into 2009, the economy feels the effects of the met levels of industrial activity; our plans include continued efforts to reduce our working capital investment. The primary opportunity is to reduce inventory levels. We are looking to reduce our operating expenses; we have taken some initial steps towards this goal.

In March 2009 we took the difficult road of a head count reduction and have now reduced our personnel count by 12% from closing 2008 levels and we project annualized savings in excess of $1.5 million from this action. We have also targeted several other categories of operating expenses where savings can be obtained, including overtime reduction, temporary labor and distribution center supply costs. In addition, all discretionary expenses have been closely scrutinized.

We see no change in our capital expansion requirements in 2009 from historical trends. Our current debt agreement expires in May 2010 and we have started a process to obtain replacement financing. Our agreement is secured by the assets of the company and we plan on a similar basis for the new agreement; thus we do not expect any problems in replacing this facility.

At this time I’ll turn the commentary over to our President and CEO, Chuck Sorrentino. Chuck.

Chuck Sorrentino

Thank you Nick and good morning everyone. Welcome to our 2008, year end conference call. This morning we changed the batting order and had Nick speak first in order to emphasize comments on the balance sheet and general liquidity within the company.

Sales in the fourth quarter of 2008 declined 15% when compared to the fourth quarter of 2007. There were two primary reasons for this decline, so let me address them individually. First and foremost was a continued soft demand as a result of the deteriorating economic conditions, which was characterized by the number and rate of job losses and indices that characterize general economic activity and credit availability.

Also, I am sure that most of you are aware; there was a dramatic reduction in copper and other commodity prices during the latter part of the year. This decline put pressure on selling prices as we moved higher copper content products out of our inventory. These two head winds, acting in series, drove our fourth quarter sales below the fourth quarter of 2007.

In addition to negatively impacting our sales, copper deflation also impacted our gross margin. We are taking an aggressive posture at rotating out higher copper content products and so we are pleased to achieve gross margins of 21.5% during the fourth quarter of 2008.

While this is down 2.8 points from the same quarter of the prior year, it nevertheless held up well in light of the approximate 58% reduction in the underlying prices of the copper commodity. Further more, as I mentioned earlier, the drop in demand also created a more aggressive pricing environment in the fourth quarter.

Because of all of these moving parts and product demand, pricing and inventory rotation in the quarter, it was difficult to get a true read on the individual revenue components such as our five growth initiatives and respective split with MRO sales during the fourth quarter. However for the year, we estimate that our five growth initiatives will up approximately 10%.

We have seen project cancellations, but less than one would expect in this environment. Project backlog of the large engineering firms appears to be holding as the data that we have seen suggests that the respective backlogs were approximately flat in the fourth quarter, thus remaining at high levels. Our project quoting activity remains strong, and our long term outlook is positive.

The economic environments like the one we’re in, stress test the company’s business model and its ability to execute. Overall I was pleased with the results for 2008 when we considered the environment in which we had to operate. I was very pleased with the increased liquidity in the business, the excellent cash flow and the overall reduction in debt, and our return on equity of 32%; all of which I feel are top tier results.

As we mentioned in the press release, in light of the many uncertainties in the macro economic environment that we’re currently in, we’re not offering guidance in 2009. We do expect the US economy to remain difficult in the first half, and possibly throughout the year. In light of that expectation, I would like to offer you some insight in term of what our focus is for 2009.

(1) Increase liquidity and strengthen the balance sheet through disciplined asset and cash management; (2) be very aggressive in managing expenses and continue to look for the elimination of waste and productivity improvements throughout the company. In concert with those goals, we are targeting a reduction of approximately 3% in our operating expenses in 2009.

(3) Provide high levels of customer service by driving service metrics, plus driving customer retention. In 2008, we achieved 99% plus in order accuracy and on-time shipments; simply outstanding results by our distribution centers. (4) Look for continued opportunities to increase market share using our business model and our five growth initiatives as drivers, in a similar fashion to what we accomplished in 2008 when we added more than 350 new customers.

(5) I think it’s important for all of us to remain positive throughout these difficult times. Our company and our team need positive confident leadership and we will do our utmost to provide this support to our team.

Thank you for your time and now we will do our best to answer any questions you have. Matt would you please start the question queue.

Question and Answer Session

Operator

Absolutely sir. (Operator Instructions) Our first question today will comes from Sam Darkatsh with Raymond James

Sam Darkatsh – Raymond James

Good morning Chuck, good morning Nick. How are you?

Chuck Sorrentino

Good Sam, thank you. Thanks for joining us today.

Sam Darkatsh – Raymond James

Well, no worries. I’ll ask two questions now and then I’ll get back in the queue. First off, as it relates to copper, what was the specific copper impact on sales and gross margin in Q4 and when you say it will take several months to self correct, is that several months from year-end or several months from now?

Chuck Sorrentino

Well, the several months implies that it would be, actually from the start of the rotation which would have been some time in probably mid November, okay, so it will go into the first part of this year, that’s for sure. In terms of the specific amount of copper, it’s difficult to get a read on that Sam. Let me explain what happened and then you could appreciate the difficulty in getting clarity there.

Number one, we did rotate our high priced copper items at a loss in some cases; certainly at a discounted price, at loss in some cases. It’s difficult to get a read on what exactly those prices were and then what they would have been, so it’s hard to get an accurate read on the effect of it.

The fact of the matter is that I think that gross margins held up quite well in the quarter in light of what we did do, in light of the demand drop. We’re off 2.8 points, but that was on a 50% to 60% drop in copper, so in my opinion they held up quite well in that environment.

Operator

Next we will hear from David Manthey with Robert W. Baird

David Manthey - Robert W. Baird

Hi, good morning guys. You mentioned that you anticipate making cuts; I think that was the wording in the press release, does it imply that those cuts haven’t happened yet or haven’t fully happened yet? Then second, given your current lien operations, what areas are you focused on to reduce costs?

Chuck Sorrentino

Well cuts have happened, are happening, have happened. We started the process back in the fourth quarter and we continued on into the first quarter, so they have and continue to happen. The bulk of them have occurred.

Most of the cuts were in areas that were soft. Around the sales side, from where the cuts came, from the geographic areas that were soft and/or specific end markets that were soft and we didn’t see a near-term recovery. We also made some reductions in the distribution centers as a result of the lower activity and also in the home office in some of the areas, where we actually were able to get productivity gains also. So, in general that’s where they came from.

Operator

And next we will hear from Bill Dezellem with Tieton Capital Management

Bill Dezellem – Tieton Capital Management

Thank you. Two questions; first of all, I would like to start with the sales force. Are you still trying to expand the sales force, and if so, what’s the strategy in light of what you just said there, and how many individuals did you have in terms of a net increase in 2008?

Nick Graham

We are currently planning not to expand the sales force until such time as we see some indication of positive recovery in the economy. So, essentially we’re at a flat level right now. At year end, the sales force was slightly higher than the prior year. I don’t remember exactly, but it was probably in the range of 5%.

Operator

Our next question will come from George Gaspar with Robert W. Baird

George Gaspar - Robert W. Baird

Yes, can you give us a little color on the backlog outline and current revenue trends in terms of area of business, relative to six months and a year ago? What areas are stronger? What areas are weakening? Is there anything emerging that you are experiencing some new opportunity that you haven’t experienced before?

Chuck Sorrentino

Well there’s always new opportunity in nearly any environment. Some of it comes from customers that may have been participating in some formal fashion of inventory in our products themselves and they’ve cut their inventories back, so that would precipitate maybe more activity to us, eliminating their inventories.

I have to say in general, most of the end markets that we participate in and have participated in, particularly on the industrial side are softer in this environment than they were to your point a year ago and I think most of the industries that we look at would support that argument also.

The number of job losses, I think are a pretty good indication of the softer environment and I think a lot of those job losses for 2008 occurred in the latter part of the year, the bulk of them did in the latter part of the year. So, the industrial side of our business is soft and softer than prior year.

The utility business still looks reasonably good. The environmental side of that business still looks good, our quoting activity remains good. We don’t publish our backlog numbers, but as we look at the primary drivers for the large project business, which are the engineering and construction companies; if you look at the published data for their backlog through 2008, the end of the year, you’ll see that at least in our opinion, it looked to us like it was flat and flat means that it remains fairly high because it’s been at very high levels now for a few years.

Operator

(Operator Instructions) We’ll now take a follow-up from Sam Darkatsh with Raymond James.

Sam Darkatsh - Raymond James

Chuck or Nick, what are you pegging for a goal and I can appreciate not giving guidance in this type of environment; any kind of guidance would be looked upon with a jaundiced eye anyway. What are you pegging for debt pay down throughout the course of the year, assuming of course that all free cash flow would be used to pay down debt because of your number one goal of liquidity?

Chuck Sorrentino

Well Sam, I don’t know that we can give you a precise number, because there’s a lot of variables and working capital reductions and things of that nature, but I will say this, that we are going to be very aggressive towards the debt reduction throughout the year, absent any change in the change in the economic environment.

At the end of the year we had a relatively low level of debt. The only reason we had any debt at all for the last couple of years is because we chose to buyback stock for the first nine months of last year, absent that we wouldn’t have had any debt. So, we’re going to be paying down debt aggressively and actively with not only what we made in terms of net income, but also with working capital reductions and constrained CapEx spending, and anywhere else that we can find from our cash available.

Sam Darkatsh - Raymond James

Would you anticipate free cash flow to exceed that of 2008 in this type of an environment since you are de-capitalizing the balance sheet?

Chuck Sorrentino

I don’t know Sam. I would be hesitant to project that. What you’re saying make sense, but I would be hesitant to project that.

Operator

We’ll now your question from Holden Lewis with BB&T.

Holden Lewis - BB&T

Thank you. Good morning.

Chuck Sorrentino

Good morning, Holden.

Holden Lewis - BB&T

The revenue level in Q4 was, let’s call it $50 million or $20 million less than what you saw in any quarter in the balance of the year and then when we look at SG&A, really it’s kind of at the same level despite the drop-off in revenue. Can you talk to us just about, what kind of sort of natural hedge in the SG&A line might exist as revenues come off or can we assume that the level of SG&A is largely fixed and largely independent of revenues, and therefore the only real cost cuts we’re going to get are the $1.5 million from personnel cuts?

Chuck Sorrentino

Are you speaking specifically about the fourth quarter?

Holden Lewis - BB&T

I’m basically saying that in the fourth quarter, SG&A really didn’t fall at all despite a big drop in revenues and I’m sort of curious that, as we go into 2009, when we are going to continue to see that big drop in revenues, is there any reason why we would think that the SG&A should drop just naturally from a drop in revenues or is the SG&A largely fixed regardless of the revenue level in your model?

Chuck Sorrentino

Holden, you’re going to get some savings from the throughput. Some of the variable costs on the operating side will go down. Again, it’s a little difficult to peg exactly how that’s going to come out, but we’re going to get some savings there and we are looking at every avenue to try and make sure that we’re getting the best value for money on supply contracts and that type of area spend. Some of those as you said, those cuts that we’ve made, will be a big impetus toward us getting a reduction in the total SG&A expense.

Nicol Graham

Holden, also the fourth quarter was a little bit high because of some additional costs we had not planned on, and also some other miscellaneous expenses that cropped up. The debt reserve, we increased that. So, there’s a couple of things that have had some noise in the fourth quarter results, absent something significant we would not carry over.

Operator

We’ll take a follow-up question now from Bill Dezellem - Tieton Capital Management

Bill Dezellem - Tieton Capital Management

Thank you. A couple of more; first of all, relative to LifeGuard, are you finding in the current economic environment less interest or more interests or unchanged and I guess I started with less interest, because I was wondering if customers are potentially trying to keep their costs down in the recession and therefore would have less interest in LifeGuard.

Secondarily, hurricane; have you seen any positive follow-on impact from the hurricanes; either in the fourth quarter or since we’re a long way through the first quarter, anything here in 2009; and then if you’ll actually allow me to pull in a third question, your high inventories you said were a function of the projects that you have come in and I’m hoping that you would expand upon those comments please.

Chuck Sorrentino

Let me answer the hurricane question first if I may. To-date, we’ve not seen any significant benefit from the hurricanes and I’d have to say that as it stands right now, and probably going forward, it’s going to turn out to be a net loss for us, with some order of magnitude.

LifeGuard results during the year, last year and in the fourth quarter were very good. We are continuing to take share as a result of LifeGuard as a leading item. Yes, it is a premium priced product, you’re right, but when it goes against other premium priced products, it can be very competitive.

In addition to that, it’s a very competitive offering, because of its features, functions and benefits that conventional products don’t have, such as more durability, the low smoke, zero halogen characteristics; it’s great for environmental applications. It’s also broadening out in term of access to other markets. So, we have not seen a measurable slow down in LifeGuard, it continues to do very well.

Inventory; some of the inventory increase at the year end was a result of buildup for upcoming projects, some of it was also a result of the lower sales that we expected, and some of it was a result of some early buying at the end of the year that we took advantage of some competitive pricing on. So, those are the three reasons for the inventory build.

Operator

We’ll now take a follow-up from George Gasper with Robert W. Baird.

George Gaspar - Robert W. Baird

Yes, an additional question on product area development and opportunities in the market. How do you see the stimulus bill impacting? What are your customers saying? Is there a possibility of a pick up here relative to for example, some indication that the late real market is going to pick up and some aspects of power generation area?

Chuck Sorrentino

There’s two principle areas that we would look towards some help from the stimulus bill. Number one would be in infrastructure and there is a variety of different applications; one of which you mentioned was transit.

In addition to that is water; typically waste water treatment facilities and upgrade for municipalities. Most of the waste water treatment facilities, particularly on the higher populated areas, are antiquated somewhat and certainly could be upgraded. So, those are two principal areas.

LifeGuard continues to be an opportunity, again environmental opportunity minimally if nothing else and there’s a lot of environmental discussion with respect to stimulus packages. I mentioned the transit; again, a very good application for a lot of our products, particularly in LifeGuard.

So yes, the answer to your question is yes, we would. When does that occur, I don’t know. I know we’ve heard the phrase shovel-ready. I don’t know how many of those projects are shovel ready to be honest with you, but I think that certainly anything that adds more business or more to infrastructure, power generation, transit, water facilities, anything like that, bodes well for our business.

George Gaspar - Robert W. Baird

Okay and then one question on refinancing that you referred to earlier. When you’re going into refinance and of course you’ve got a year out on this a little bit, will you be looking to be in the same range on total refinancing or you’re going to be looking at a larger package, which is out on that?

Nick Graham

It won’t be a smaller package and it could very well be a larger package. A lot of it depends on what the cost is number one. Secondly, what we feel we actually need because, when you have an unused line of credit, you pay for that unused line of credit and it’s fairly expensive. So, we’ll be looking at a number of different factors here, but I don’t think it will be anything less than what we currently have, in spite of the fact that we expect our debt to be down.

Operator

(Operator Instructions) We’ll now take a follow-up question from Holden Lewis from BB&T.

Holden Lewis - BB&T

Thank you. I guess a couple of things on the revenue line. First, just sort of judging by your full year, sort of five initiative growth of 10%, would that suggest that in the fourth quarter that those would be down 10% to 15% given sort of the suggested over the prior three quarters of the growth there; if you can just sort of talk to that. Then since we are so late into the quarter, can you give some sense of sort of the rate of revenue decline that you’re seeing so far in January, February?

Chuck Sorrentino

Well, the growth initiatives, the 10% that we estimated in the period out for the year, the fourth quarter was off. Again, keep in mind that the deflation, copper deflation is also going to impact that, in terms of revenue dollars that was off in concert with the other products. I can’t give you a hard read. Trying to look at the fourth quarter with all the moving parts, it was very difficult to come up with anything that we felt good or I should say credible in terms of estimates and therefore we sell them.

In terms of the activity this year, we mentioned that we expect it to be a difficult year and we expect it to be a difficult first half, particularly. I think we probably can’t go any further than that at this time.

Holden Lewis - BB&T

Okay, then one last thing; margins, gross margins kind of slid towards that 21.5 level in Q4. Can you give a sense, with all of the moving pieces, does that look at this point kind of like the level or given what’s going on in copper, given what’s going on with rebates, given what you’re seeing with maybe pricing getting worse still, does that 21.5 look like it’s an optimistic number for ‘09 or going forward or does that kind of look like it’s a level you could stabilize at?

Chuck Sorrentino

Well, I would say that it’s probably a little bit high and that we could expect some more deterioration. A couple of reasons; number one is that, we really started seeing the rotation of higher copper products sometime in November, so probably about mid quarter. Secondly, there has been a lower demand I think across most industries and I think most people are reporting this from November and December, so those two things. I would expect gross margins to come down more some more.

Holden Lewis - BB&T

Okay great. Thank you.

Operator

Gentlemen, there appear to be no further questions at this time.

Chuck Sorrentino

All right. Well, thanks everyone for joining us today. Have a good day.

Operator

Ladies and gentlemen that does conclude today’s teleconference. We would like to thank everyone for their participation and wish everyone a great day.

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