Hillenbrand, Inc. F4Q09 Earnings Call Transcript

| About: Hillenbrand, Inc. (HI)

Hillenbrand, Inc. (NYSE:HI)

F4Q09 Earnings Call

November 24, 2009 8:00 am ET


Mark Lanning – Treasurer, Vice President Investor Relations

Kenneth Camp – President, Chief Executive Officer

Joe Raver – President, Chief Executive Officer Batesville Caskets

Cynthia Lucchese – Chief Financial Officer


Drew for Clinton Fendley – Davenport & Company

Stephen O’Neill – Hilliard Lyons

Jamie Clement – Sidoti & Company


Welcome to Hillenbrand’s earnings call for the fourth quarter of 2009. Today’s conference is being recorded and will be available for replay through midnight Eastern time, Wednesday, December 9, 2009 domestically at 888-203-1112 and internationally at 719-457-0820. For the replay, callers will need to use the confirmation code of 8439251. If you are unable to listen to the live audio webcast it will be archived at www.hillenbrandinc.com through November 24, 2015. If you ask a question today it will be included for any future use of this recording. Also note that any recording transcript or other transmission of the text or audio is not permitted without Hillenbrand’s written consent.

Now at this time it is my pleasure to turn the conference over to Mark Lanning, Treasurer and Vice President of Investor Relations.

Mark Lanning

Good morning everyone. Welcome to our earnings call which will include results from both the fourth quarter and the full 2009 fiscal year. With me today are Hillenbrand’s President and Chief Executive Officer Ken Camp, Batesville Casket President and Chief Operating Officer, Joe Raver and Hillenbrand’s Chief Financial Officer, Cynthia Lucchese.

During the course of today’s conference call and the question and answer session that follows, we may make projections or other forward-looking statements that are subject to the Safe Harbor provisions of the securities laws regarding future events or the financial performance of the company.

We caution you that these statements are only our view of the future and that actual results may differ materially. We also alert you to the risks described in the documents we file with the Securities and Exchange Commission such as our annual and quarterly reports on Forms 10-K and 10-Q. We do not undertake any obligation to update or correct any forward-looking statements.

Now let me provide some information regarding our call. We have scheduled an hour and will start with prepared remarks that should last approximately 30 minutes. We will then move directly to Q&A. If you have follow up questions after the call has ended, please don’t hesitate to call me at 812-934-7256 or email me at mrlanning@hillenbrand.com.

Now it is my pleasure to turn the call over to Ken Camp, Hillenbrand’s President and CEO.

Kenneth Camp

Good morning everyone. We appreciate you joining us during our busy holiday week. During today’s call I’ll start with a brief overview of our performance for the fourth quarter and the fiscal year, both of which ended September 30. Then I’ll turn the call over to Joe Raver to discuss the current state of the funeral services industry and Batesville Casket’s strategic initiatives.

Cynthia Lucchese will then provide details about our quarterly and annual financial results. She’ll also walk you through our fiscal 2010 guidance which was announced in our press release this morning.

After the prepared portion of this call, we will be available to take your questions.

As you can see by our press release this morning, our fourth quarter net revenue declined 3.6% compared with the fourth quarter of 2008. Annually, net revenue declined 4.3% versus last year, and even though we were pleased with our strong recovery from the effects of the economy that we saw in the second quarter we are not satisfied with having a year over year decline in revenue.

Although ours is typically a very stable industry, even funeral service felt some effect of the economy’s lows in 2009. The convergence of a mild flu season, a remarkably unstable and frankly fear inducing recessionary economy, and the resulting spike in cremations which yielded more than 80,000 fewer burials in 2009, made this one of the industry’s most challenging years on record.

Fortunately, we had contingency plans on the shelf which we used to respond quickly and decisively to competitive actions. As a result, we feel that we not only weathered the storm this year, but are well positioned to capitalize on our strengths in the year ahead.

Fortunately, Batesville’s deep competency and continuous improvement and lean business coupled with somewhat favorable rates for the purchase of fuel and some raw materials helped us increased gross profit margin percentages for the quarter by 170 basis points and for the year by a total of 90 basis points.

As a result of these items, and some other favorable factors such as lower spending on separation costs, earnings per share increased 19.4% for the quarter, going from $0.31 to $0.37. For the year, earnings per share increased 11.4% from $1.49 in 2008 to $1.66 in 2009.

Perhaps even more important, we maintained a strong cash flow posting $38.3 million in operating cash flow for the fourth quarter. Year over year we increased cash flow 21% ending at $123.2 million for the year.

We also used a portion of our cash to pay a quarterly dividend of $0.185 per share in September reflecting an annual dividend rate of $0.74 per share.

Now I’ll turn the discussion over to Joe Raver.

Joe Raver

Good morning everyone. I’d like to begin by briefly recapping the past year. We began the year with relative stability and results were in line with our expectations in the first quarter. As we entered the second quarter, the economic crisis was in full swing and consumer confidence was at historic lows.

We believe this caused an industry wide mix down in products and services as consumers looked for more economical alternatives. Consumer’s conservative approach to spending also caused a larger spike in the cremation rate than we’ve seen in recent years.

At the same time, a mild pneumonia and influenza season was decreasing the overall mortality rate. The combination of fewer deaths and increasing cremations resulted in a lower than expected number of North American burials.

As industry players scrambled for volume, competitive pressures mounted, especially at the lower end of the product spectrum. As we mentioned in the second quarter earnings call, we believe we lost some share at that time. However, we responded quickly with programs that helped us regain ground and address changing consumer purchasing patterns in the third and fourth quarters.

Our operations group also continued to find ways to improve our cost structure throughout the year without reducing the level of innovation, quality and service our customers expect.

During the second half of 2009, we began to see a more normal number of deaths. The growth in the cremation rate also began to slow, but it didn’t fully return to previous levels by year end. As a result, North American burials appear to have stabilized at a lower level than we had expected when we started the year.

In a similar vein, the economy has become less volatile but consumer spending patterns remain somewhat depressed. That’s been reflected in the stabilization of our product mix, but at a lower level than before the economic crisis.

So, that brings us to the start of 2010. We’ve begun the year with a strong focus on strategic initiatives that will continue to drive our business objectives, along with an ongoing emphasis on improving cost structure.

In addition, I’d like to share highlights of two key strategic initiatives for this fiscal year. The first is to optimize our core burial business of the long term. That means we’ll continue to develop and launch effective new products that meet consumer needs such as the Life Stories Medallion products that debuted at the National Funeral Directors Association convention last month. We’ll also capitalize on any prudent acquisition and alliance opportunities as they become available.

Two other pieces of this initiative are familiar to you from previous calls. One is our commitment to increasing sales force effectiveness through better call management, customer segmentation and compensation alignment.

We’ll also continue our merchandising efforts to increase average selling price per unit and improve product mix. In 2009, we focused on moving customers up the merchandizing ladder because we know that customers with fully implemented merchandizing systems significantly outperform their non merchandized piers and are more loyal to Batesville Casket Company.

Implementing these systems involves a time commitment by our customers so we were pleased to see the needle begin to move slowly but steadily among independent funeral homes in 2009. We will continue driving improvement in the adoption rate in 2010.

The second major initiative is to grow profitable revenue streams outside our core burial casket business. In 2009 sales for our options cremation business were essentially flat because even though the cremation rate was up, the overall number of deaths was down.

Options also suffered more from the economic downturn than did our burial business. In 2010 we plan to grow options above market rates with new product and service offerings designed to increase the number and quality of products purchased for each cremation.

We will also continue to invest in our North Star product line, providing high quality, private label caskets to distributors.

Another aspect of growing revenue outside of our core is an expansion of our e-business strategy. Batesville interactive introduced the two newest offerings in its connectivity suite at the NFDA convention in October.

First we launched Obitlink which through an alliance with legacy.com will enable our customers to have access to the largest obituary network in the nation. Second, we introduced Tributelink which gives families and funeral homes an easy way to create online video memories of their loved ones.

These two new products are an addition to Weblink, an important offering that has made us the world’s largest creator and host of funeral home websites.

In summary, we feel very positive about our prospects as we head into 2010. During the downturn, we continued to invest in innovative new products and services in an effort to make our customers more successful and we expect to continue making investments to further build our already strong brand.

Our sales force is focused on making the most of every sales call and we have the best distribution and service organization in the industry.

While we don’t know what the future will bring in terms of economic business challenges, we are prepared to meet these challenges head on and win in the marketplace.

Now I’d like to turn the discussion over to our CFO, Cynthia Lucchese.

Cynthia Lucchese

I’d like to provide some additional detail and perspective behind our fourth quarter and fiscal year results. Net revenues for the quarter were $153.1 million, a decrease of $5.7 million or 3.6% from the same period in the prior year. For the year, revenues were $649.1 million, a $29 million or 4.3% decrease from fiscal year 2008.

Lower burial volume was the primary reason for the decrease in revenues driven by a lower number of deaths, increased cremation rates and price competition. These factors were offset by an increase in our average selling price which contributed $4.4 million to revenue in the quarter and $24.5 million to revenue for the year.

Our merchandizing initiatives and new product launches helped improve average selling prices and slow the downward trend in product mix, especially in locations that use the Batesville merchandising system.

We also continued to experience unfavorable fluctuations in foreign exchange rates which reduced revenue by $700,000 in the fourth quarter and $7.7 million for the year.

Improvements in our cost structure were evident in our gross margin percentage. At 42% for the quarter it increased 170 basis points over the 40.3% we posted in the fourth quarter of 2008. In addition, we increased our annual gross profit margin percentage by 90 basis points, finishing at 42.3%.

Cost of goods sold decreased by $6 million for the quarter and $22.9 million for the year. Commodity costs, most notably in carbon steel were down for the quarter by $2.4 million but up for the year by $1.2 million.

On the other hand, we benefited from $1.7 million for the quarter and $5.9 million for the year in lower fuel costs in our distribution operations. Lean business practices also contributed to reduced costs and our Manchester and [Pinolla] plants were recently recognized nationally for those efforts by being named Top 20 finalists in Industry Weeks Plant of the Year competition.

The Manchester facility was also named 2009’s Plant of the Year by Assembly Magazine and the Boston Consulting Group.

Operating expenses in the fourth quarter totaled $31.6 million, flat with the prior year. Now if you exclude one time separation costs, operating expenses increased for the quarter by $1.3 million. On an annual basis, operating expenses decreased by $11.5 million, but increased by $4 million when you exclude those separation costs.

Interest expense for the quarter was down by $0.5 million over the prior year and by $100,000 over the course of the full year. Outstanding borrowings on our $400 million revolver were $60 million as of September 30 and the average weighted interest rate was .7% for the quarter and 1.5% for the year.

We also recorded $3.7 million in investment and other income for the quarter, up from $2 million in the fourth quarter of 2008. In total, we had $7.9 million in investment and other income for 2009, up $2 million from the prior year.

These amounts include the full impact of earnings on our option rate securities and notes receivable from forethought, offset by the net loss of limited partnership investments.

Our tax rate for the quarter was 37.4% compared with 42.7% in the prior year. For fiscal year 2009, our tax rate was 36.4%, 2.8% lower than in the previous year due to the non deductible separation costs we incurred in fiscal 2008.

Net income for the quarter was $22.6 million, an increase of 17.7% over the same period in 2008. Earnings per share totaled $0.37 per share, an increase of 19.4% versus Q4, 2008. On an annual basis, net income increased 9.8% to $101.3 million, up from $93.2 million in the prior year. Earnings per share increased 11.4% to $1.66 per share versus $93.2 million or $1.49 per share in the prior year.

Excluding $2.2 million in legal costs and $86,000 in separation costs for the year, net income declined $4.5 million or 4.2% from fiscal 2008 through fiscal 2009. Adjusted annual earnings per share were $1.68 for 2009 compared with $1.73 in 2008, a decrease of 2.9%.

Cash flow from operations remained strong in the quarter at $38.3 million and for the year at $123.2 million, up from $11 million and $101.8 million respectively over the prior year. The lack of significant separation costs and reduced cash payments for income taxes during the year contributed to this increase which is partially offset by an increase in cash contributed to our defined benefit plans in 2009.

Finally, I’d like to give a little color around the guidance announcement in our press release this morning. Guidance for fiscal year 2010 reflects a broader range than we’ve historically given investors mostly because a number of uncertainties in the coming year make it more difficult to predict results.

We’ve identified three major uncertainties. The first is the economy which could improve dramatically or get worse, impacting our average selling price. Second, the cremation rate spiked in 2009, and although we’ve done a significant amount of analysis we don’t yet know whether this trend will continue, stabilize or moderate back to historical rates of increase.

The third major uncertainty is the number of deaths in North America. There are conflicting reports about the potential severity of this pneumonia and influenza season, especially with H1N1 as another variable in the mix.

Because of these multiple variables, we are forecasting revenue to be in a range from $630 million which is 3% below 2009 to $670 million which would be approximately 3% above. The range for earnings per share in $1.40 to $1.67 with net income projected to be between $86 million and $103 million.

Excluding approximately $3 million to $5 million in estimate legal costs related to ongoing NI Trust litigation, we expect 2010 earnings per share to range from $1.45 to $1.70.

Several factors are expected to have an impact on operating expenses in 2010. Increased spending included investments in strategic initiatives aimed at growing revenue and increasing shareholder value.

First, we plan to invest approximately $5 million in new growth initiatives. We view these costs as an important investment in the future growth of Hillenbrand. We’ll also see an increase in expenses in two key areas.

First, defined benefit expenses will increase approximately $4 million due to the effects of lower discount rates. Second, we anticipate additional variable compensation expense in 2010 of approximately $8 million.

Virtually all of our associates are eligible for some form of performance based variable compensation. These bonuses which are only earned when performance objectives are achieved can represent a significant portion of an employee’s total annual comps.

The environmental challenges we faced in 2009 resulted in our associates receiving lower bonuses than in 2008. However, for 2010 we anticipate achieving our objectives and paying at our target level.

Please remember that our guidance does not include gains or losses on our limited partnership investments. In 2009 we realized a net loss of $5.4 million on these investments, bringing their carrying value to approximately $14 million.

Because these investments, by their nature of volatility and difficult to predict, net income could be positively or negatively impacted by gains and losses during the course of the year.

Finally, our guidance does not include the financial effect of any acquisitions we may make in 2010. Now, I’ll turn the call back to Ken for his concluding remarks.

Kenneth Camp

Before I wrap up I’d like to give everyone just a brief comment on our acquisition efforts. Our strategy continues on course as we previously and publicly outlined, and because of the way a public company must handle acquisitions, I can’t talk about anything specific today.

However, I can tell you that we have two key areas where we’re focusing our efforts. First, we continue to search for opportunities in death care. As the industry leader in burial caskets, the likelihood of receiving regulatory approval for a significant acquisition in this area is questionable in the current environment.

We are however, continuing to look very closely at other potential growth opportunities across the array of funeral service products. Outside death care we continue to evaluate other opportunities that will increase shareholder value and help us reduce our total reliance on funeral service.

The broad challenge right now for both acquisitive companies and acquisition targets is to be able to look through the trough of the current economic climate to determine what future profitability levels might be.

One key point I’d like to reaffirm is that our standards remain high and we’ll continue to be patient as we search for the right company to add to the Hillenbrand portfolio.

In summary, we faced some of the industry’s difficult challenges in 2009. While revenues didn’t progress at the rate we hoped, we responded effectively to changing market conditions. We maintained our strong cash flow and we continued to provide our customers with the innovation, quality and service they expect from Hillenbrand and Batesville Casket.

This relative stability helps us look ahead to fiscal 2010 with some optimism. We’re not sure how long an economic recovery might take, but we feel confident that our company has the scope, scale and talent to continue to deliver high levels of shareholder value.

We appreciate you joining us on the call today, and now Joe, Cindy, Mark and I will be glad to take questions.

Question-and-Answer Session


(Operator Instructions) Your first question comes from Drew for Clinton Fendley – Davenport & Company.

Drew for Clinton Fendley – Davenport & Company

My first question is with regards to the $5 million in growth initiatives included in guidance. I wonder if you could elaborate a little bit more on the specifics for those investments.

Cynthia Lucchese

A couple of things there, the vast majority of those are in our Batesville Casket business. Joe talked about those earlier. That would be our e-business initiative, new product initiative, etc. And then there’s a smaller amount within that that relates to our acquisition readiness strategy.

Drew for Clinton Fendley – Davenport & Company

Looking at operating expenses year over year for the quarter, if we back out the separation costs, what causes the increase there and what were the moving parts in that number for the fourth quarter?

Cynthia Lucchese

In the fourth quarter we were up a little over $1 million, $1.7 million. There’s several pieces there but nothing that’s significant.

Drew for Clinton Fendley – Davenport & Company

Could you provide the revenue impact from volume and mix shift during the quarter?

Cynthia Lucchese

You want the quarter and the year or just the quarter?

Drew for Clinton Fendley – Davenport & Company

Just the quarter would be fine.

Cynthia Lucchese

For the quarter volume was a negative $9.4 million and weight was $8.2 million favorable, and then our mix was negative $3.8 million.


Your next question comes from Stephen O’Neill – Hilliard Lyons.

Stephen O’Neill – Hilliard Lyons

I wonder if you could give me the D&A and CapEx for the fourth quarter.

Cynthia Lucchese

The depreciation and CapEx. If you have another question ask it and we’ll look that up for you. We don’t have that here Steve.

Stephen O’Neill – Hilliard Lyons

I was going to press you a little bit on the operating expenses because they were up something like 17%. I know they generally go up sequentially, but they were up 17% from the third quarter which is a little larger than last year and as you pointed out, the spending was above last years level even though revenue was down, and I just wondered if I could drill into that a little bit further.

Cynthia Lucchese

In general in a large part we were up. It really wasn’t a huge amount as I said. It was about $1.7 million in Q4. The largest piece of that was incentive costs. The way that works as you look quarter by quarter how we are performing vis a vis our planned targets and so that can move around a bit. That was really the biggest piece. There wasn’t anything else that’s significant in terms of quarter versus quarter.


Your next question comes from Jamie Clement – Sidoti & Company

Jamie Clement – Sidoti & Company

Do you have an approximate CapEx range target for 2010? I’m not sure I caught that in the prepared remarks.

Cynthia Lucchese

It would be roughly in the $15 million to $20 million range.

Jamie Clement – Sidoti & Company

So that’s sort of your typically annual number.

Cynthia Lucchese

That is. That is an ongoing amount that we typically spend.

Jamie Clement – Sidoti & Company

In terms of the macro economic and consumer picture and that sort of thing in your industry, are there any trends that you have seen develop in the last three months? I know that it’s not the seasonally strongest period of time, but do you have any thoughts on the last couple of months specifically?

Kenneth Camp

This has been a period where our typical algorithms to predict what is taking place in the marketplace have been less reliable. One of the big factors I think we’ve mentioned on previous calls in 2009, especially in the second quarter which was a real, kind of rocked our industry. Certainly still a lot less than most other industries, but to us it was a big effect, was an apparent change in the rate at which consumers selected cremation for their family decisions.

Typically cremation has gone up about 110 to 120 basis points a year for a great many years, and it’s been highly, highly predictable. It shot up pretty significantly and as we look toward the third and fourth quarters, we’re finding mixed signals in the public companies in our data sources.

Where typically the signals on what cremation rates are is around a very tight vein, and we’re now seeing spreads from some sizeable sources as low as a 50 basis point change and as high as a 210 basis point change.

So what that’s done is it induces a chunk of uncertainty in the way we plan the business, hence the wider spread on guidance. As a rule of thumb, I’d mention to you that a 100 basis point change in cremation rates is about $10 million in revenue, roughly.

Jamie Clement – Sidoti & Company

And a little bit more on that, I don’t know if we can sort of separate the cremation choice out of things, but have you noticed in share any differences you may have noticed among your customer base between the customers that are more on board with all that your merchandizing systems have to offer versus some that aren’t quite there yet? Any trends on that front?

Kenneth Camp

We’ve noticed a significant change. I think Joe can probably explain that more effectively.

Joe Raver

During the second quarter we were in the process of running the promotions and spending some sales force time doing that, but in the third and fourth quarters we certainly got back on track with spending a lot of time talking about merchandizing.

We continue to see the number of customers who are adopting merchandizing programs increase and trying to get them to higher and higher levels. From a basic casket perspective, we performed much better with those customers than we do with non merchandize customers in two ways.

One is we sell more and better products to those customers and they in turn sell better products to their families. And the second part of it, they tend to remain more loyal to Batesville because we have a much more intimate business relationship with those customers and they tend to be our most loyal customers.

Cynthia Lucchese

I just wanted to get back to the earlier question around depreciation and amortization for the quarter. It was $4.8 million. For the year it’s $18.6 million. And CapEx was $2.9 million for the quarter and $10 million for the year.


Your next question comes from Stephen O’Neill – Hilliard Lyons.

Stephen O’Neill – Hilliard Lyons

Were there any developments in litigation during the quarter?

Kenneth Camp

Nothing notable. This FCA lawsuit is kind of like a tar baby. You keep trying to shake it and it keeps sticking to your hand and the plaintiff’s attorney’s, and this is a plaintiff driven case, especially tenacious.

We have been informed by them that they may take one or more of the individual cases to trial, and this is appears to be, because this would not be a class action. It ‘pretty much seems to be wrapped up.

It appears to us, and this is some level of speculation, is that their purpose is to see if they can win a small case which would have damages that would be in the grand scheme of things very, very tiny. But they might use that as a wedge to try to get a judge to award them money for all the legal expenses they spent in the original trial or a chunk of that.

But other than that, we wait for the day when this is done and we will sure tell you.

Stephen O’Neill – Hilliard Lyons

I have to ask about selling caskets through Wal Mart.

Kenneth Camp

Someone is, and it’s not us. The heart of this anti-trust case was that we refused to sell other than through our more than 100 year old channel. We fought back for all the right reasons. There’s a simple reasons.

We believe and still believe that most people do not want to go to multiple sources or go online and wait four or five or six days to get a casket when a death occurs. We believe that was reinforced by the fact that Costco’s success over five years appears to have been minimal.

Now I’ll say on the other side, Wal Mart has a powerful franchise in America and it remains to be seen what happens there. So we are not taking it lightly. We’re watching it very, very closely and in fact seeing what their service levels are and performance is and how consumers respond.

It appears based on their statements that this is a beta test. They described it as beta, and it’s online only that they have indicated to the best of our knowledge that they are not and perhaps do not intend to put them in their stores.


There are no further questions at this time. I would like to turn the conference back over to Mr. Lanning for any additional or closing remarks.

Mark Lanning

We appreciate everyone joining us for the call this morning, and if you have further questions, please don’t hesitate to call us, and we look forward to meeting many of you over the next few months, and hope everyone has a very happy and healthy and safe travels for the Thanksgiving holiday. Thank you very much.

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