AMCOL International Management Discusses Q3 2013 Results - Earnings Call Transcript

Oct.25.13 | About: AMCOL International (ACO)

AMCOL International (NYSE:ACO)

Q3 2013 Earnings Call

October 25, 2013 11:00 am ET

Executives

Ryan F. McKendrick - Chief Executive Officer, President, Director and Member of Executive Committee

Donald W. Pearson - Chief Financial Officer, Chief Accounting Officer, Senior Vice President and Treasurer

Analysts

Albert Leo Kaschalk - Wedbush Securities Inc., Research Division

L. Todd Vencil - Sterne Agee & Leach Inc., Research Division

Operator

Good morning, ladies and gentlemen. Welcome to the AMCOL International Third Quarter Results Conference Call.

At this time, I would like to turn the call over to Ryan McKendrick, President and CEO. Please go ahead, sir.

Ryan F. McKendrick

Thank you, Melanie, and good morning, and welcome to AMCOL International's Third Quarter 2013 Earnings Conference Call.

We're going to start the call today with Don Pearson, Senior VP and CFO of AMCOL, who will provide an overview of the financials and some discussion of the impairment charges taken during the quarter. So Don, if you'd like to start.

Donald W. Pearson

Thank you, Ryan, and good morning, everybody. For the quarter, AMCOL had a loss of $0.61. That included 2 impairment charges. First charge is $52.3 million or $1.08 per share that related to the writeoff of the majority of our long lived assets in South Africa. Second charge was $4.2 million, which is an impairment charge to our health and beauty business, that was $0.13.

As noted in the press release, we've planned to divest that business, and we've accounted for that business, and this charge in discontinued operations.

I'll call your attention to a supplementary schedule we put in the press release, which shows a reconciliation and a pro forma of both AMCOL and Performance Materials, with and without the impairment charges.

Sales were up 5.7% in the quarter. All major segments were up, led by Performance Materials of 8%, and Construction Technologies and Energy Services had mid single-digit growth.

Gross margin, however, declined 120 basis points. Performance Materials had stable margins, and Construction Technologies improved as a result of the restructuring initiatives and improvements in new products. However, Energy Services was down 640 basis points due to issues in Malaysia and pricing in our land-based -- U.S. land-based service that Ryan will get into more detail on.

Our effective tax rate was benefited in the quarter by about 500 basis points for some onetime items, true-up of tax return to provision and essentially projected lower income. And the result of the squeezing this into the quarter, still looking at about 27% to 28% effective tax rate for the full year.

On the cash flow on the balance sheet, just a couple of key points. Operating cash flow is down from last year about $16 million, $10 million of which is operating profit and the remainder is a combination of working capital and some other items. Free cash flow is down $28 million, the result of the lower operating cash flow, higher cap expenditures by about $12 million. And accordingly, debt increased to $22 million.

That's the end of my comments. I'll turn it back to you, Ryan.

Ryan F. McKendrick

Okay. Thanks, Don. So from an operational perspective, our Performance Materials and our Construction Technologies segments both performed pretty well during the quarter. Energy Services did not meet expectations for the quarter.

So we'll start out with Performance Materials. For the segment as a whole, we saw an 8% -- 8.1% increase in sales and a 9.8% increase in operating profit for the quarter. Expectation for 2014, as we move forward, is for low single-digit growth, with gross margin maintaining in its current range. Biggest part of the Performance Materials area is metalcasting. In that area, sales for our foundry products for the quarter, excluding chromite, were steady in the U.S., and we delivered 19% growth in Asia, with improving gross margin in both areas.

The auto industry, which is the primary end use for castings manufacture with our materials, appears to have a steady demand outlook. The good performance by our bentonite-based foundry products was offset by chromite, where sales revenue for chromite foundry sand declined globally versus Q3 last year. Chromite sand for use in foundries accounted for about 8.5% of metalcasting sales in the quarter. Gross margin for chromite declined from the low-20s to the low-teens as a result of continuing pricing pressure associated with oversupply and softness in steel casting market. The outlook for pricing does not appear to be improving, and as a result, as Don just described, we've taken an impairment charge on that business.

Moving on to basic minerals. The product line generated 7.5% or $1.1 million in revenue growth. Bentonite sold for iron ore pelletizing and certain non-foundry grades of chromite are included in this product line, and sales for these products increased in comparison to last year. The increases with those products were partially offset by a decline in sales of drilling fluid additives where we continue to trail last year's pace. Demand continues to be impacted partly by lower-based -- lower land-based drilling activity and by some increased competition as well.

Moving on to Specialty Materials. That product, we saw a 12.2% or a $2.6 million increase in sales for Q3, with fabric care sales being the primary driver for the increase. In our call last quarter, we mentioned the outlook for fabric care products was improving due to increasing demand in our established product lines, as well as introduction of some new products.

In the third quarter, the management team there delivered a 26% sales increase in fabric care products with improving margins, and our products continued to gain acceptance with major customers.

Specialty Materials also includes our bio-ag products, where we're continuing to build a strong technical team and developing data from multiple crop validation studies being conducted around the world by a number of universities and government agricultural agencies. This continues to be an important growth opportunity for AMCOL.

And then finally, within the segment, our pet products area. As mentioned on the last call, we expected improving performance from our pet products group from new customers for fully-packaged products, as well as from increased volume from existing customers. We delivered a 32% increase in sales for the quarter versus prior-year, and gross margin also improved. So all in all, a pretty good performance from our Performance Materials area.

Moving on to Construction Technologies. For the quarter, the segment delivered almost 10% growth, excluding the contracting area, which we are winding down. The increased sales, gross margin improvement, along with SG&A reductions, generated a 33% increase in operating profit.

As we enter 2014, we're expecting growth in the mid to high single-digit range for the segment of gross profit margin remaining above the 30% mark. The restructuring initiative that we initiated in early 2013 throughout the segment is having the expected positive impact on the business.

One of the objectives for the segment was to streamline operations and the administrative structure to create average gross margin above 30% while reducing SG&A by approximately $1 million a quarter. Those goals have been achieved, and we've now positioned the business more competitively.

In 2012, our average SG&A spend for the segment was $13.2 million for the quarter. In Q3 2013 expenditures were $12.2 million.

There are 3 main product lines in this segment: building materials, lining technologies and drilling. In the building materials product line, global sales were actually down about 5%. We had nice growth in the U.S. and in Asia, but that was offset by sales declines in Europe, where recession continues to impact building activity. But we are seeing signs of some rebound in activity there. Several large infrastructure-related projects currently are getting underway here in the U.S. And we're positioned pretty well for the balance of the year and into 2014, as our project pipeline looks pretty promising.

In the lining technologies area, as we mentioned on the call last quarter, we are seeing an increase in opportunities for the second half of the year. The management team there delivered a 16% increase in sales for the product line versus the prior-year Q3 and a 21% increase, sequentially. Standard end-use applications in the landfill market remain slow, but we're seeing large mining and industrial projects currently underway, contributing to the growth. And sales of new products also contributed to the results.

Third area within the segment is drilling products. In this area, we had nice sales growth, both in Europe and Asia, with sales relatively flat in the U.S. market. The end use for our products includes horizontal drilling for placement of utilities and pipelines, which is becoming more active. And we also have large tunneling projects getting underway, which support promising outlook for this product line.

Moving on last to the third and major segment, which is Energy Services. Segment sales for the quarter were up 5.4%, but operating profit declined significantly, primarily as a result of a couple of problem areas.

First of all, oversupply of service capacity in North America continues to put pressure on pricing for land-based services; and then secondly, the impact of operations from Malaysia. And in Malaysia, overruns on estimated costs for fabrication of capital equipment contracted for sale to customers, resulted in losses for the quarter in Malaysia. Management is aggressively addressing the past capital equipment sales fabrication cost estimation issues, and we're expecting better performance in Malaysia in Q4.

The sales increase that we delivered in Q3 within the segment was related primarily to stronger filtration business, offshore in the Gulf of Mexico, where our primary service offering is related to produce water, well completions, workovers and well stimulation flowbacks. Land-based services, including coil tubing, well testing, generated higher revenue in the quarter, but margins were impacted by lower pricing, resulting from regional oversupply of service capacity.

The first 2 months of the quarter were significantly below targeted performance. But as we implemented cost-reduction initiatives that we talked about in the last call, increased sales focus with targeted customers, our profitability improved significantly in September. All domestic service lines were profitable in September, in line with our expectations, and international locations, with the exception of Malaysia, also performed well. The outlook for land-based oilfield services remains challenging in North America, as this oversupply of service capacity continues. But we believe the cost-reduction initiatives to align our infrastructure and service capabilities with the market opportunity and our focus on key customers will continue to improve results for the segment.

Our expectation, as we enter 2014, is for sales growth in the mid to high single-digit range, with gross margin in the mid-20s for the Energy Services segment.

So that concludes my opening remarks. We'd now like to open the call to questions.

Question-and-Answer Session

Operator

[Operator Instructions] The first question is from Al Kaschalk of Wedbush Securities.

Albert Leo Kaschalk - Wedbush Securities Inc., Research Division

Just to continue on with the last comments, Ryan, on the Energy Services side. The business, historically, right, has been really led by, I think, the filtration side, where you have a proprietary technology. The other areas seem to be more generic and commodity-like. And I'm just wondering, is the intent here to mix the services -- can you mix the services to convince the key customers to keep this business at the return levels that it should be? Or are you going to continue to be succumbed to pricing pressure that -- now we have gross margins in the mid-20s, when I think several years ago, it clearly was up in the low- to mid-30s. So maybe just from a portfolio standpoint, I understand what you're saying in terms of where you're heading, but have you thought about where we're at to see if this business makes sense to be in the AMCOL portfolio of businesses?

Ryan F. McKendrick

Yes. I think, I mean, first of all, it does make sense for it to be in the AMCOL portfolio of businesses. And the real focus in terms of where we're investing and where we're putting our emphasis on growth, again, is in the areas where we have a technology edge. One great example of that, Al, is in the coil tubing service area, which I know you like to characterize as kind of a 'me, too' service area. But one good example, I think, is in coil tubing. For instance, we just completed the acquisition of a patented technology used in conjunction with coil tubing to completely clean flow lines or pipelines to the full internal diameter of the pipe. So this sort of thing expands available customer base for our coil tubing services with a differentiated technology. And just to give you an example, in the second month after acquiring the technology, total invoicing for this new service amounted to over $900,000, which is greater than 10% of the monthly billing for coil tubing services in a month. So this is consistent with our strategy of providing services that can be differentiated based upon technology and value. I think -- the overall outlook, okay, for this business we expect recovery in margin, to about the 25%, 26% range, starting in Q4. As I explained in the opening remarks, the first 2 months of the quarter were very challenging. But as we implemented the cost-reduction initiatives that we talked about in the last call, and increased the sales focus with targeted customers, as well as weathering some of the contract timing issues in Brazil and cost overruns in Malaysia, profitability improved. So our expectation is for a rebound in gross margin to the mid-20s range starting in Q4, with upper single-digit top line growth in 2014. I think the ability for us to get back to a 30% sort of a gross margin range is really going to be very difficult, especially as we continue to have the kind of pricing pressure that we're seeing in these land-based services.

Albert Leo Kaschalk - Wedbush Securities Inc., Research Division

You had mentioned, I believe, CapEx spending incremental from maybe historical trends or what you initially started the year with in this business. Could you maybe refresh me and others what that CapEx was spent on? And was it related to this acquisition?

Donald W. Pearson

Al, it's Don. The acquisition itself is relatively small. It was less than $2 million. So most of the -- a lot of the capital this year was going into international operations for the most part, as well as some land-based activities here in the U.S. But we do see the spending there probably starting -- we probably hit a peak, and we're going to pull back, at least as a percentage of sales in that group.

Albert Leo Kaschalk - Wedbush Securities Inc., Research Division

My next question, then I'll hop back in queue, I mean, obviously, it's a little slap on your wrist. Maybe more, depending on how you view it on the chromite side. But if I understood the release and your commentary, you substantially wrote off this business and really don't have much in a way now to show for it, but you're not exiting the business. So is this release, now, today, is this something where you think is going to be the holding pattern? You're not going to be spend any more capital on it. What's sort of the outlook here near term for the this business or at least the strategic plan?

Ryan F. McKendrick

Well, our plan is to continue the process of building market share by selling foundry grade chromite as a reliable source backed by strong technical support. That's not changing. We believe our plant is the only chromite processing plant in the world capable of producing a high percentage of its output in the form of this foundry grade materials, which is the highest grade of chromite being produced. Typical processes that our competitors will have are designed to produce a large percentage of lower revenue products, such as metallurgical grade chromite or chemical grade chromite, and -- while they can only produce a low percentage of foundry grade, adding to the oversupply situation for the metallurgical grade chromite, which is really the big problem in the market at this point. Especially when demand in pricing for lower value products is depressed. We believe that we will be better positioned than our competitors to benefit from recovery in the market. So we're staying the course with it.

Albert Leo Kaschalk - Wedbush Securities Inc., Research Division

But the run in the charge in the quarter -- I mean, I appreciate that the charge in the quarter that you took, from my perspective, anyway, seems a bit quick, meaning sudden. Despite, obviously maybe some end markets you were seeing in earlier this year. Is that a fair assessment or...

Ryan F. McKendrick

There have been some fairly dramatic changes that have occurred in the market. And it is quick, Al. But, these changes have occurred very quickly. And I can give you some more insight into what those changes are. But it -- really, the thing that drove this decision is basically a combination of lower demand for steel castings, but more importantly, an oversupply situation for chromite. The oversupply situation was caused by a strong shift in utilization of certain lower grades of metallurgical quality chromite or for ferrochrome production, which has displaced, to some extent, the use of the higher-grade chromites that we and several large competitors are mining. The source of this lower-grade chromite is primarily from platinum tailings, which is a very low-cost material relative to newly-mined chromite ore. And that shift in utilization has been enabled by some basic changes in smelting technology that allow ferrochrome smelters to use this low-grade, less expensive ore. So the result is an oversupply of the higher-grade ore that is suited for the foundry sand market where we compete. And that's not going to change. We've seen average pricing for chromite foundry sand drop by about 13% or about $60 per ton over the past 6 to 8 months. That's a pretty dramatic and quick shift in the overall structure of the market. That oversupply situation was further compounded by a summer shutdown of a significant part of South Africa's smelting capacity due to electrical power restrictions. But during the shutdown, the chromite miners continued to mine the high-quality chrome ore and sell it, without doing any foundry grade extraction. And the sales were largely to Chinese buyers. So as a result, we have an exaggerated oversupply situation for high-quality chromite ore that is the source of material going to the foundry that we're competing with. So the long-term demand situation may eventually correct itself, as some of these chrome miners, selling only the metallurgical grades, are likely to reduce capacity by taking supply out of the market. But obviously, there's a great deal of uncertainty as to when that's going to occur. So that was a long-winded answer, but there's a lot going on, and it's happened very quickly.

Operator

[Operator Instructions] And the following question is from Todd Vencil of Sterne Agee.

L. Todd Vencil - Sterne Agee & Leach Inc., Research Division

So Ryan, let's talk -- let me just get some background on health and beauty. And obviously, you've sort of talked about taking a look at this business. Can you -- just so we can adjust our thinking a little bit, can you strip out what the top line and the profit impact was for that business over the last year or so?

Donald W. Pearson

Yes. Todd, it's Don. It's not going to be terribly material. The sales were below -- somewhere between $15 million and $20 million. And for the most part, last several years, has been kind of breakeven operating profit. I think this year can see is a discontinued operations, so I think it was taken out $0.01. So this year might have been slightly profitable. Maybe $0.5 million, will be.

L. Todd Vencil - Sterne Agee & Leach Inc., Research Division

Got it. And on the Energy, you mentioned that -- so I just want to make sure I'm clear, you're looking for that rebound in the Energy margins, you said beginning in Q4. Does that mean we're going to be back at that sort of mid-20s level? Or is that going to be moving toward it?

Ryan F. McKendrick

We were already there in September, and we expect to be there in Q4 for the full quarter.

L. Todd Vencil - Sterne Agee & Leach Inc., Research Division

Got it. Got it. And then digging a little bit on Construction Technologies. On the drilling products business, I mean, that's been a nice step-up there over the last 2 quarters really in the top line on that business. What's -- how did that happen to be -- happen to occur, I guess, so sharply and -- or was it, in fact, that sharpers or something that's masking that or just makes it look that way?

Ryan F. McKendrick

The thing that, I think, is driving that, Todd, is that we've gotten a lot more active in some of these international markets. The business, historically, has been really pretty focused in the U.S., and about 2 years ago, we've expanded the manager responsibility for the team here in the U.S. to go global. And as a result, we're seeing broadening of product lines, a broadening of the customer base in terms of the type of projects we're going after. So we're seeing a lot of pipeline-related work in Eastern Europe right now for Energy-related pipelines, drilling, using our fluids, some big tunneling projects. There's a big highway tunneling project going out in Seattle right now that's using a large quantity of material. And the same sort of things in Asia, a lot of Energy-related pipeline work and utility work there associated with building. So it's -- I think, primarily -- the growth of it, primarily, is taking the same model we have here in U.S. expanding it globally.

L. Todd Vencil - Sterne Agee & Leach Inc., Research Division

Got it. That's really helpful. That Seattle project, is that the large tunnel project that you mentioned your prepared remarks?

Ryan F. McKendrick

We have several big tunnel projects going in the U.S. A couple in New York City, and there's one in Seattle at this point, which is a highway project. But forget what I mentioned in my prepared remarks.

L. Todd Vencil - Sterne Agee & Leach Inc., Research Division

That's fine. That's helpful. I'll check that out. You talked about -- you also called out horizontal drilling, which is, I think, you said it's on -- it's ticking up. I mean, is that an international phenomenon as well? Or is there some sort of absolute demand pickup for that going on in the U.S. that you're seeing?

Ryan F. McKendrick

So we're talking in this case about non-oil and gas-related horizontal drilling? And that is picking up here in the U.S., as well.

L. Todd Vencil - Sterne Agee & Leach Inc., Research Division

Is that -- is this like utility and water, power, cable-type drilling?

Ryan F. McKendrick

Utility, infrastructure, water, that sort of thing.

L. Todd Vencil - Sterne Agee & Leach Inc., Research Division

What kind of a magnitude of a pickup have you seen in that part of the business?

Ryan F. McKendrick

On a regionalized basis, about 10%.

L. Todd Vencil - Sterne Agee & Leach Inc., Research Division

Interesting. So if I'm thinking about that drilling products business, I mean, we've sort of been $9 million, $10 million, $12 million in the last 3 quarters. Is that kind of a good quarterly level to think about? Or is it going to keep growing?

Ryan F. McKendrick

I think our estimates for 2014 are for growth in the high single-digit sort of a range, globally.

L. Todd Vencil - Sterne Agee & Leach Inc., Research Division

Got it. Okay. And then just got one last question, I guess. Going back to your comment about the fact that you talked 1 year-or-so ago about cutting the SG&A in that business, and that you've been able to do it, and it was $12.2 million in the third quarter. Is that kind of a good run rate level to think about SG&A in Construction Technologies?

Ryan F. McKendrick

Yes, I think, we'll obviously have some increases associated with normal salary increases as we go forward. But that should be close to the normal run rate.

L. Todd Vencil - Sterne Agee & Leach Inc., Research Division

Okay. So something like not necessarily growing with sales, but rather growing with inflation or something like that?

Ryan F. McKendrick

Correct.

Operator

There are no further questions registered at this time. I'd like to turn the meeting back to Mr. McKendrick.

Ryan F. McKendrick

Okay. Thank you, Melanie, and thank you, everyone, for joining us on the call today. And we look forward to speaking with you again next quarter. Thanks.

Operator

Thank you. The conference has now ended. Please disconnect your lines at this time. Thank you for your participation.

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Amcol (ACO): Q3 EPS of $0.60 beats by $0.04. Revenue of $263.5M (+5.7% Y/Y) misses by $0.62M. (PR)