P. H. Glatfelter's CEO Discusses Q3 2013 Results - Earnings Call Transcript

Oct.29.13 | About: Glatfelter (GLT)

P. H. Glatfelter Company (NYSE:GLT)

Q3 2013 Earnings Conference Call

October 29, 2013 11:00 ET

Executives

John Jacunski - Chief Financial Officer

Dante Parrini - Chairman and Chief Executive Officer

Analysts

James Armstrong - Vertical Research Partners

Steve Chercover - D. A. Davidson

Mark Wilde - Deutsche Bank

Eric Miller - Advisory Research

Operator

Good morning. My name is Amy and I will be your conference operator today. At this time, I would like to welcome everyone to the Glatfelter’s Third Quarter Earnings Call. All lines have been placed on mute until the conference – I am sorry all lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. (Operator Instructions) Thank you.

And Mr. Jacunski, you may begin your conference.

John Jacunski - Chief Financial Officer

Thank you, Amy. Good morning and welcome to Glatfelter’s 2013 third quarter earnings conference call. I am John Jacunski. I am the company’s CFO. Before we begin our presentation, I have a few standard reminders. During our call this morning, we will use the term adjusted earnings as well as other non-GAAP financial measures. A reconciliation of these financial measures to our GAAP based results is included in today’s earnings release and in the investor slides. We will also make forward-looking statements today that are subject to risks and uncertainties.

Our 2012 Form 10-K filed with the SEC and today’s release, both of which are available on our website, disclose factors that could cause our actual results to differ materially from these forward-looking statements. These forward-looking statements speak only as of today and we undertake no obligation to update them. And finally, we have made available a slide presentation to accompany our comments on this morning’s call. You many access the slides on our website or through this morning’s webcast provider.

I will now turn the call over to Dante Parrini, Glatfelter’s Chairman and Chief Executive Officer.

Dante Parrini - Chairman and Chief Executive Officer

Thank you, John. Good morning and thank you for joining us today to discuss our third quarter earnings report issued earlier today. As you see on Slide 3, we continued to generate healthy growth in our fiber-based engineered materials business during the quarter with consolidated revenue advancing 11% on a constant currency basis to $457 million, a quarterly record. This growth driven by our key product lines including single serve coffee, non-woven wall covering and feminine hygiene along with a favorable tax rate drove a 25% increase in adjusted earnings per share compared to the year ago quarter. We achieved this improvement despite difficult market conditions in specialty papers and the impact of two fires in our Advanced Airlaid Materials business, which I will speak to in greater detail later in today’s call.

Our Composite Fibers business delivered a record quarter with $161 million in revenue and 84% increase in operating profit. This was driven by the Dresden acquisition together with a 17% improvement in operating profit from the legacy business. During the quarter, Dresden successfully completed an investment that provides a 10% increase in capacity to serve the attractive global non-woven wall covering market and we’ve nearly completed the ramp up of the inclined wire capacity expansion in Gernsbach that was installed in the second quarter. With this additional capacity we are better positioned to serve the growing single serve coffee, tea and technical specialty markets.

Our Advanced Airlaid Materials business also had strong revenue growth with shipments increasing 9% and revenue up 11% on a constant currency basis. However, these increases were more than offset by the $1.7 million impact of two fires resulting in operating profit declining by 14%. When adjusting to exclude the impact of these incidences, operating profit increased 23%.

Our Specialty Papers business continued to experience difficult market conditions during the quarter leading to a 16% decline in operating profit due to the lower pricing environment, although, I am pleased to say that we see the trajectory for this business improving. And during the quarter we also continued to generate healthy free cash flow totaling $28 million.

I’ll now turn it over to John for a more in depth review of our third quarter results and then I’ll offer some additional perspectives on the business. John?

John Jacunski - Chief Financial Officer

Thanks, Dante. For the third quarter, we reported adjusted earnings of $24.4 million or $0.55 per share, an increase of 25% after adjusting to exclude a $0.22 benefit from the release of tax reserves established for the alternative fuel mixture credits due to the lapse of the statue of limitations as shown in this morning’s release. These results compare to adjusted earnings of $19.4 million or $0.44 per share in the third quarter of last year.

Slide 4 shows a bridge of adjusted earnings per share from the third quarter of last year to this year. The decline in operating income from Specialty Papers primarily due to the lower pricing environment reduced earnings per share by $0.06. Improved earnings from Composite Fibers added $0.15 per share, which includes the Dresden acquisition for a full quarter. Net of interest costs, the Dresden acquisition was $0.10 accretive to earnings during the third quarter. Advanced Airlaid Materials results reduced earnings per share by $0.01 in comparison reflecting the impact of the fires. And the tax rate on adjusted earnings in the third quarter was 16% compared to 25% a year ago which improved the adjusted earnings per share by $0.06. The lower tax rate this quarter was due to the release of reserves due to the expiration of statutes of limitation on audit period, changes in valuation allowances and the reduction of a statuary tax rate in a foreign jurisdiction.

Slide 5 provides a summary of Specialty Papers results during the quarter. Net sales decreased 3% or $6.9 million due to pricing weakness and slightly lower shipping volumes together with mix changes. Of those shipments of (indiscernible) products were 2% higher in the comparison. This was offset by declines in all other categories. Engineered products shipments were down 5% compared to the same quarter a year ago. However on a sequential quarter basis shipping volumes increased 6%. Shipments of carbonless products also declined 5% slightly better than the overall market decline and non carbonless forms and envelopes products reached down 1%.

Overall average selling prices were up $3.6 million this quarter compared to last years third quarter driven by book, envelop and forms offset somewhat by higher prices for engineering products. With recent capacity closure announcements of Glatfelter along with others in the industry amounted a price increase of $60 per ton on a broad range of products including book, envelop, non carbonless forms, (indiscernible) engineered products effective at the end of October, while we expect the price increase to be successful. As it is typical we expect it to be phased in with the limited impact in Q4 and a more pronounced impact through the first quarter of 2014. From an operating perspective, specialty papers made progress during the quarter after a difficult second quarter. We expect to see continued improvements in our operating performance in the fourth quarter.

Slide 6 summarizes a record quarter for composite fibers. Revenue increased 46% during the quarter to $161.5 million reflecting the Dresden acquisition and organic growth of 6% on a constant currency basis. Excluding the Dresden acquisition shipping volumes were down slightly. However the mix improved. Food and beverage shipments increased 9% led by single served coffee shipments that increased 49% and shipments of technical specialties also increased to 9%. Composite laminate shipments were down 22% reflecting the impact of machine upgrades to expand our implant order capacity. And metalized product shipments were down 7% reflecting weakness in this market segment. Operating profit for the business increased to $8.6 million or 84% compared to the year ago quarter, and operating margins expanded by 240 basis points. The Dresden operation performed very well during the quarter, contributing $6.8 million to operating income.

You may recall last quarter we indicated we would be completing the annual maintenance outage at the Dresden facility during the quarter. During this outage which negatively impacted third quarter results by $2.2 million we completed the capital investment that has increased capacity by approximately 10% that provides the ability to grow with the market that we estimate is growing approximately 10% per year. Excluding the Dresden acquisition, operating income improved $1.8 million or 17%, driven by a stronger mix, lower depreciation and favorable exchange rates.

With respect to the Gernsbach machine upgrade completed during the second quarter, we continued to ramp up our production rates in the qualification of products with customers during the quarter. We will complete the final fine tuning of the machine during the fourth quarter, but we do not expect any significant cost impact from this. The upgrade has gone very well and provides us with additional capacity we need to continue meeting the growing market demand for tea, coffee, and technical specialties products.

Advanced Airlaid Materials results are summarized on Slide 7. This business had a strong quarter from a revenue perspective as it continued to rollout its next generation of products for the hygiene markets. Net sales on a constant currency basis were up 11% to $69.5 million and shipping volume increased 9%. The increased volume generated $1.5 million improvement to operating profit during the quarter. Slightly lower selling prices and slightly higher input cost negatively impacted results for the quarter by $700,000. This business was also negatively impacted by fires at each of its facilities during the quarter.

The fire in Gatineau resulted in 12 days of downtime on one of its machines, while the fire at Falkenhagen resulted in downtime of six days on our machine. We were able to use capacity available at our Falkenhagen facility to minimize the impact to customers. Overall, lost shipments during the quarter due to the fire, was approximately 400 metric tons. These incidents are covered by insurance, so the impact to the quarter was $1.7 million including deductible totaling $1.5 million plus the impact of the lost shipments. Both facilities recovered well from the fires and are producing at expected levels. As a result of the fires operating profit for the quarter declined 14% to $3.9 million. Excluding the impact of the fires, operating profit increased 23% continuing this businesses improvement trend.

Slide 8 shows corporate costs and other financial items for the quarter. During the quarter, we incurred minor integration costs related to the Dresden acquisition and we don’t expect any significant cost going forward. We also completed the international legal entity restructuring during the quarter at a cost of $2.1 million, but these costs were offset by a $2 million benefit including the income tax Slide. You can also see in the slide that our corporate cost remained in line with the year ago quarter.

The status of our pension plan is shown on Slide 9. Pension expenses increased $700,000 in the third quarter of this year compared to the same quarter of last year and we expect the full year expense to be up $2.7 million largely due to the impact of lower discount rates. However our plan remains over funded. We have not had to make cash contributions to our qualified plan for quite sometime and we do not expect to make contributions for the foreseeable future.

Slide 10, shows our free cash flow. During the third quarter, we generated cash flow from operations of $48 million and $96 million on a year-to-date basis both of which are dramatically higher than the year ago periods. This was driven primarily by lower cash tax payments and improved working capital utilization. Capital expenditures for the quarter and year-to-date increase compared to last year primarily due to the Composite Fibers capacity expansion project and CapEx that carried over from 2012. Free cash flow adjusted to exclude the impact of the Composite Fibers capacity expansion and the alternative fuel and cellulosic biofuel credits was strong in the quarter at $28 million compared with $26 million in the third quarter of 2012. The fourth quarter is typically the strong quarter for free cash flow generation and we expect this to be the case this year as well.

Finally, Slide 11 shows some balance sheet and liquidity metrics. Our balance sheet remains in good shape with leverage on a net debt basis was 2.3 times at September 30 and pro forma to include a full year of Dresden, our leverage was 1.9 times. We finished the quarter with $64 million of cash and $214 million available under our revolving credit facility, so we have ample liquidity to continue execute our growth strategy.

This concludes my comments. I’ll turn the call back to Dante.

Dante Parrini - Chairman and Chief Executive Officer

Thanks, John. Before opening the call for your questions, I want to address the fires we have experienced in the Airlaid business and provide a few comments on our outlook. As mentioned earlier during the call we experienced fires at both Airlaid facilities during the quarter. Most importantly we were relieved that no one was injured in either of the incidences. Glatfelter people and emergency responders performed very well in extinguishing the fires, protecting our employees, minimizing damage, and caring for our customers. Safety is a key area focus for Glatfelter.

We have made significant progress improving our safety performance over the last several years and our commitment is unwavering. We’re undertaking a thorough examination of the root cause of these fires as well as our operating procedures. We’ve already taken steps to expand and improve maintenance and operating procedures and we’ve identified a number of additional opportunities to mitigate the risks inherent in our operations. While no one can provide absolute assurance of further incidences will not happen, we believe we are taking the appropriate steps to substantially reduce the risk.

Now turning to our Q4 outlook, I will refer you to Slide 12. For our expectations we’re anticipating a normal seasonal slowdown as we approach year end and relatively stable pricing and input cost compared to the third quarter. As I look beyond the fourth quarter I see ongoing opportunities for our business resulting from a number of actions taken over the last year. Clearly the Dresden acquisition is providing access to the high growth non-woven wall covering market and we head into 2014 with additional capacity to bolster our leading position in this segment. Capacity expansions in our Composite Fiber business will enable us to more fully serve other growth markets of single serve coffee, tea and technical specialties.

In addition to the rollout of next generation products for the feminine hygiene market, targeted investments in our Airlaid will generate incremental capacity to serve the growing personal care and home care markets. And our ongoing focus on continuous improvement is driving efficiency gains, reducing waste, and lowering costs. In addition, we expect the recent announcements of uncoated free sheet industry capacity closures will improve the market environment for Specialty Papers providing opportunities for improved pricing and a more favorable mix. And lastly, we continue to have the balance sheet capacity to fund growth initiatives and return value to shareholders. For all these reasons I am quite optimistic about 2014 for Glatfelter. I believe we are very well positioned to continue to drive earnings growth and healthy free cash flows yet again.

At this point, I will open the call for questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of James Armstrong with Vertical Research Partners.

James Armstrong - Vertical Research Partners

Good morning.

John Jacunski

Good morning.

Dante Parrini

Good morning, James.

James Armstrong - Vertical Research Partners

Just a few questions, first on the single serve coffee market, could you give us an update on that and if you’re seeing any impact from private label on that market. Do you think its generating additional demand and if so, could you – can you put some color around it?

Dante Parrini

Sure. This is Dante. We’re very pleased with the overall development in growth of single served coffee and the market position that Glatfelter enjoys as a leading supplier to the producers in this particular category. As we stated in our prepared remarks, we had substantial year-over-year growth in coffee. And so we think the category is a very healthy one. And that the interest that the category has attracted by other participants has not had a negative impact on Glatfelter’s business.

James Armstrong - Vertical Research Partners

Okay. That helps. And then switching gears, will there be any carry over impact of the fires into the fourth quarter. You had just lost sales, inventory adjustments, anything like that?

Dante Parrini

Yes, James. No we don’t expect any significant impact from the (indiscernible) fires in Q4. The machines are operating at our expected levels and it was contained to Q3, so we expect no impact of any significance in Q4.

James Armstrong - Vertical Research Partners

Okay. And then lastly the tax rate, the adjusted tax rate has been jumping around a little. Could you give us a little bit of guidance on what to expect in Q4 as well as what you think you adjusted tax rate will be as we look out in 2014-2015?

Dante Parrini

Sure. I think that the tax rates jumping around as a function of a few things. As I mentioned in my remarks, part of that had to do with a change in our tax rate in the UK that created a tax benefit for us that we recorded during the quarter. We also had the expiration or the lapse of the statute of limitations on audits periods during the quarter and so any reserves we had established for uncertain tax positions was released. And I hope you can appreciate that it’s difficult to provide guidance on those types of items from a quarter-to quarter basis, because we really just don’t know whether audits will be launched. We certainly can’t predict how tax rates are going to change. So the guidance we typically provide is we expect a normalized rate of about 30% as we go forward, but of course if we have similar situations where the audit periods lapse and we have reserves then we would release those and that would lower our effective tax rate during the quarter. But I think for our planning purpose I would guide you to 30%.

James Armstrong - Vertical Research Partners

Perfect. Thank you very much.

Dante Parrini

Sure.

Operator

Your next question comes from the line of Steve Chercover with D. A. Davidson.

Steve Chercover - D. A. Davidson

Good morning, everyone.

Dante Parrini

Good morning, Steve.

Steve Chercover - D. A. Davidson

Not to be antagonistic given the explanations you ’have told us about the fires, but in addition to the two you had at Airlaid. Last year you had one in Composite Fibers. So I am just wondering if there’s I think that’s inherently I guess flammable, or is the nature of the process or is it something that can be addressed through housekeeping and safety initiatives?

Dante Parrini

Hi Steve it’s Dante Parrini. And I know your question is antagonistic. I think it’s a natural question to ask given the series of events that transpired over the last couple of months. Of course the paper and fiber-based engineered materials manufacturing process has inherent risk, because we are dealing with variety of cellulose fibers and synthetic fibers as well as other chemical inflammable materials. As you might expect we have standard operating procedures that take into consideration these types of risks and we are very serious about them. I think it’s important to step back and ask yourself that question and I want to share with you some of the steps that we’ve already taken.

I am very comfortable with the competence of our operating teams, our engineering teams, our safety teams and our continuous improvement professionals. At the same time after experiencing a couple of fires like we have in close proximity to one another, I think it’s logical to take a step back and make sure that we haven’t missed anything or things haven’t changed. So we did bring out some outside experts to view our operating procedures and provide input on steps that we may want to consider to reduce risk as a byproduct of our own internal investigation and active listening to subject matter experts. We have in fact and have some of the operating and preventing maintenance procedures. We have heightened awareness of fire risk with our operating teams and we are analyzing additional steps that may be taken to address both fire prevention and extinguishment. So we are applying lessons learned and reflecting and asking if anything has materially changed about our process.

I think within the Airlaid business there is a higher level of risk simply because there is an absence of water in terms of sheet formation. You’ve got materials and air and heat and in this regard we’re giving even greater care to this part of Glatfelter especially since it’s been newest part of the company.

Steve Chercover - D. A. Davidson

Yes, I appreciate your elaborating on that Dante. And then one for John, with respect to interest expense I guess I had modeled it being higher after the Dresden acquisition. So I was just wondering was there anything that kept the rate low in the third quarter or is this a good run rate to you as going forward?

Dante Parrini

No. It’s a good run rate to use. Our borrowing rate on our revolving credit facility is about 2% and you may recall that we put a term loan in place in the second quarter and that’s a fixed rate 10-year term loan at 2.05%. So the incremental interest rate on the acquisition. Remember we also you used fair bit of cash for the acquisition that we have in the balance sheet. So their pertinent current run rate is an appropriate way.

Steve Chercover - D. A. Davidson

It sounds great. Okay. That’s very good rates evidently. On Specialty Paper in the second quarter you had a $4 million productivity hit. Did you recover that in the quarter that just ended?

Dante Parrini

We recovered some of that. If we look year-over-year we were about flat from an operating perspective and then compared to Q2 we had -- typically you will have some maintenance expenses in Q3 we had this year that if you just add back our annual outages in Q2 you wouldn’t capture. So we have made some progress, but we did have some additional operating issues early last quarter. I would say the second half of the quarter was much better and we’re seeing good operating performance here in October. So we definitely believe we are making progress and expect to see the benefit of that going forward.

Steve Chercover - D. A. Davidson

Great and final question, I will turn it over. It doesn’t look like you’ve been active in repo market for sometimes. So I was just wondering is that, the near term focuses been on both the integration and I guess debt repayment from resin?

Dante Parrini

That’s right.

Steve Chercover - D. A. Davidson

Great, very good, I appreciate your time.

Operator

Your next question comes from the line of Mark Wilde with Deutsche Bank.

Mark Wilde - Deutsche Bank

Good morning Dante. Good morning John.

Dante Parrini

Good morning, Mark.

John Jacunski

Good morning, Mark.

Mark Wilde - Deutsche Bank

First question John or Dante, is there anyway that you can help us think about sort of a year-to-year impact from kind of both Dresden including the base low plus the improvements you’ve made there as well as the Gernsbach rebuild?

John Jacunski

Sure. I think you know from the Dresden acquisition perspective, we had $6.8 million of operating profit generated during the quarter. We had disclosed that the annual outage was about $2.2 million impact, so there would be $9 million. We expanded the capacity by 10%, so we didn’t get to where we would expect that we can have some earnings improvement in that business. You know in Q4, we would expect obviously not having the downtime that we had in Q3, so that served to improve. And so from an earnings accretion perspective we said during the quarter that we had $0.10 of earnings accretion. The downtime is about $0.03, so that’s get you to about a $0.13 run-rate excluding that downtime which is well within the range, actually above the range of what we estimated as the impact from that acquisition. We’ve adjusted guidance last quarter to $0.45 to $0.50 on a annualized basis, so that business is running quite well. And the increase capacity should allow us to continue to grow the operating profits of the business.

Mark Wilde - Deutsche Bank

Okay. Go ahead John.

John Jacunski

So on the Gernsbach capacity expansion, we continued to make progress with ramping up the machine to the expected levels of productivity. We still have a little bit of ways to go. As we said we will do some fine tuning in Q4. From a cost perspective, moving from a flat wire to a inclined wire is a negative from a cost structure perspective. The inclined wire technology is a higher cost technology and you can see that in the waterfall chart we provided for composite fibers, but again this technology is targeted at the higher margin products that we make as we mentioned single served coffee, tea, and the composite laminates. So we would expect as we move forward that we will continue to enhance our mix and see the profitability that we would expect from that. Our guidance on that project has been that we would expect a 15% to 20% after-tax return from that investment within three years. And of course we will push to realize that benefit as quick as we can, but that’s the guidance we’ve provided.

Mark Wilde - Deutsche Bank

Okay, alright. The next question I had is if we would look at both air-laid and composite fibers, those look like increasingly globally oriented businesses and kind of your thoughts on Glatfelter potentially expanding geographically in either of those markets?

Dante Parrini

Sure. I think this is a question that we’ve addressed from time-to-time. And my answer isn’t going to change materially from how I’ve addressed it in the past. Globalization is a key driver of our strategy and you are correct in assessing that the nature of composite fibers and the advanced air-laid materials the business is serving key multinational customers and our products that have global growth characteristics. And we’re very pleased that we have a leading share positions in May of those segments. So we want to continue to assert ourselves as market leaders and convey to the customers out there that we serve and can potentially serve that Glatfelter is poised to continue to support their ongoing growth and globalization. So to the extent that we see opportunities that meet our financial and strategic hurdles then we would assess those very rigorously and we wouldn’t be shy to act upon them. But I have nothing specific to speak about in terms of what may or may not happen over the coming months or quarters.

Mark Wilde - Deutsche Bank

Well, Dante just on that comment, I mean both of these product areas are pretty high value added relative to kind of just weight or size or whatever, particularly I guess Composite Fibers. So you know can you just help us in both of those businesses kind of think about what the advantage would be of may be having more regional production?

Dante Parrini

Yes. So I think the investment thesis would be pretty obvious to most where if you can source raw materials, produce products closer to where the customers is buying it and using it for their own production process that would be advantageous. You are correct in saying higher value goods especially low basis weight goods travel easier and the logistics cost as a percent of the total acquisition cost and the material changes when you are dealing with high value low basis weight goods. By way of example you know our tea bag paper materials we already shipped those to a 100 countries around the world and they are being produced in Germany, France and UK. So it is possible to serve all regions of the world. However, as market evolve and as demand for products in certain regions continues to grow and establish scale then I think the economics of looking at bringing capacity closer to serving these emerging developing markets evolves and could become more interesting for the company.

Mark Wilde - Deutsche Bank

Okay, alright. And just last question, any update on just prospective land sales?

Dante Parrini

No, Mark. I mean, the market haven’t changed significantly. We did a very small land sale in the third quarter of a few 100 acres. But you know the markets where we have property in Delaware and in Northern Virginia are still very soft. We’ve had some sales in the past, 12 months to 18 months in Pennsylvania so there is some interest there, but, the markets are generally slow.

Mark Wilde - Deutsche Bank

Okay, fair. That’s helpful John. Good luck in the fourth quarter.

John Jacunski

Thanks, thank you.

Operator

(Operator Instructions) Your next question comes from the line of Eric Miller with Advisory Research.

Eric Miller - Advisory Research

Yes, good morning guys.

Dante Parrini

Good morning.

Eric Miller - Advisory Research

I have got a question. Earlier in the year you guys put out an announcement, talked about a joint venture, or venture with company called Dreamweave, Dreamweaver to develop the lithium ion battery separators. I am just curious. I up here in Milwaukee and Johnson Controls have been over the news quite a bit lately about a new battery coming out. Is there any update you can tell us on that project?

Dante Parrini

You are correct that we did issue a press release describing the nature of relationship we have with Dreamweaver which is a technology startup. It’s focused on battery separators for the lithium ion batteries as a category. And within our Composite Fibers business we already produced some electrical papers that are used for lead acid battery such as the pasting papers for the cells and papers that can go into capacitor and super capacitor. So it’s an area where we already have some subject matter expertise and some channel relationships. We see as a mega trend that demand for these types of batteries and energy storage and conveyance mechanisms will continue to grow and we’re investing some of our research and development time in dollars into better under standing how the markets are going to unfold and where opportunities for our types of technology may develop. And if we see technologies out there that we think would complement our manufacturing process season or know how or we might be able to help accelerate the commercialization of these new technologies then we will take the necessary steps to make progress in that regard. So it’s an area of focus for us. It’s developmental and I have nothing else to add at this time.

Eric Miller - Advisory Research

Okay. Thank you.

Operator

At this time there are no further questions. I would like to turn the call back over to Mr. Parrini for the closing remarks.

Dante Parrini - Chairman and Chief Executive Officer

Okay. Thank you, Amy. Again, thanks to everyone for joining us today. And we look forward to speaking with you again next quarter. Have a good day.

Operator

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

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Glatfelter Co (GLT): Q3 EPS of $0.55 misses by $0.03. Revenue of $457.84M (+12.9% Y/Y) beats by $0.25M. (PR)