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Griffon (NYSE:GFF)

Q4 2013 Earnings Call

November 13, 2013 4:30 pm ET

Executives

Douglas J. Wetmore - Chief Financial Officer and Executive Vice President

Ronald J. Kramer - Vice Chairman, Chief Executive Officer and Chairman of Finance Committee

Analysts

Robert Labick - CJS Securities, Inc.

Philip Volpicelli - Deutsche Bank AG, Research Division

Operator

Good day, everyone, and welcome to the Griffon Corporation Fourth Quarter 2013 Earnings Conference Call. Today's conference is being recorded. At this time, I would like to turn the conference over to Mr. Doug Wetmore, Chief Financial Officer. Please go ahead.

Douglas J. Wetmore

Thank you, operator, and good afternoon, everybody. With me on the call is Ron Kramer, our Chief Executive Officer. Before we get into the call details, there are certain matters I want to bring to your attention. First, our call is being recorded and will be available for playback, the details of which are in our press release issued today, and they're also available on our website.

Second, during our call, we may make certain forward-looking statements about the company's performance. And such statements are subject to inherent risks and uncertainties that could cause actual results to differ materially from those expressed. For additional information concerning factors that could cause actual results to differ from those discussed in our forward-looking statements, you should refer to the cautionary statements contained in today's press release, as well as the risk factors that we discuss in our various filings with the SEC.

Finally, some of today's prepared remarks will adjust for those items that affect comparability between reporting periods. These items are laid out in our non-GAAP reconciliations, which are also included in our press release. And now, I'll turn the call over to Ron.

Ronald J. Kramer

Good afternoon. We had a very good year. Consolidated revenue was $1.9 billion, 1% increase over the prior year. Segment adjusted EBITDA was $181 million, increasing 6% over the prior year. Our results reflect steady improvement within each of our segments. Our businesses are well positioned for continued long-term growth. I'll comment on each of the operating segments, and then Doug will go through the financial results in a bit more detail. And then we'll open it up for questions at the end.

Let's start with Telephonics. We had a record year in spite of all the challenges from an uncertain budget and Washington fiscal problems, Telephonics has delivered exceptional results. For the full year, Telephonics revenues increased 3% compared to the prior year with core revenue, which excludes sales associated with electronic warfare programs where Telephonics acts as a contract manufacturer, increasing 1%. Telephonics had record EBITDA of $63.2 million and margin of 13.9% compared to $60.6 million and a margin of 13.7% last year.

Joe Battaglia and his team have done an excellent job managing their business in an unprecedented challenging business environment. With all the uncertainties regarding the federal budget, it remains unclear as to what ultimately happens to defense spending in the next few years. While not immune from the impact of defense department budgetary constraints, our core programs remain well positioned in an uncertain environment. Moreover, Telephonics has been anticipating and planning for the impact of sequestration since the summer of 2011. Telephonics has become more efficient and will continue to do so to adapt its business to changing market conditions.

Our funded backlog remains strong, ending the year at $444 million compared to $451 million last year. With this funded backlog, we have good visibility for the upcoming year. Telephonics celebrated its 80th birthday this year, and we look forward to many more decades of success.

Turning to Plastics. For the full year, revenue totaled $563 million, which is in line with the prior year. EBITDA totaled $48 million, increasing 20% from the prior year despite $7 million unfavorable impact of higher resin cost, which has not yet been reflected in increased selling prices. This improvement was driven by favorable product mix, continued efficiency improvements and the positive impact of restructuring initiatives undertaken during the year. We've made continuous improvements and customer demand remained solid. Our expanded capacity has made us a stronger, global competitor, and is enabling us to service and sustain our industry leadership position. I'm very pleased by the performance of Alan Koblin and his team over the last 2 years and expect continued improvement in 2014 and beyond.

Home and Building Products. For the full year, our revenues totaled $855 million, in line with the prior year. The Doors revenue increased 3% from the prior year, primarily due to somewhat higher volume and favorable mix. Ames True Temper revenue decreased 3% compared to prior year, primarily due to unfavorable winter weather affecting snow tool sales and unfavorable spring planting season weather impacting sales of lawn and garden tools.

Segment adjusted EBITDA for 2013 was $70.1 million, essentially flat from 2012. Recent data continues to support. We're in the early stages of a multi-year housing recovery, with new residential construction levels and repair and remodel activity in the United States steadily improving. This bodes well for future demand for both our Doors and Tools businesses. As housing recovers, any incremental revenue will improve overall profitability for the segment. Gene Colleran and Steve Lunch have built a strong base for the future of growth for Ames and Clopay.

Turning for corporate. Overall, we're executing on our strategy of steady improvement in the operations of each of our segments. Our businesses are poised for further growth and profitability. We continue to have excellent liquidity. We remain committed to driving value for our shareholders through a full range of opportunities. We're confident that we can make investments for organic growth, pursue additional acquisitions and return value to our shareholders via share repurchases and quarterly dividends.

During 2013, the company purchased 2.4 million shares of its common stock under an authorized stock repurchase plan for $26.3 million. At September 30, 2013, there was $12 million remaining under our $50 million buyback authorization. In addition, today, we announced the repurchase of 4.44 million shares of our common stock at $11.25 per share for $50 million from Goldman Sachs. This transaction is exclusive of Griffon's existing authorized share repurchase program which remains in effect. After closing the transaction, Goldman will continue to hold about 5.56 million shares of our stock, approximately 10%. This transaction is immediately accretive to our earnings per share, and is value-enhancing to our shareholders. We'll fund the purchase with cash on hand and expect the transaction to be completed in early December.

Additionally, our board declared a regular quarterly cash dividend of $0.03 per share, payable on December 24, 2013, to shareholders of record on December 5. This represents a 20% increase in our quarterly dividend. The buyback and increased dividend reflects our strong belief in the prospects for our company.

Doug will now take you through the quarter in a bit more detail, and then I'll make some closing remarks. And then again, we'll open it up for your questions. Doug?

Douglas J. Wetmore

Thanks, Ron. For the quarter, consolidated revenue totaled $449 million, essentially in line with the prior year quarter. And segment adjusted EBITDA was $46 million, increasing 24% compared to the prior year quarter.

Starting with Telephonics, revenue decreased 13% compared to the prior year quarter. Comparison with the prior year was made difficult by the 2012 quarter benefiting from an accelerated delivery schedule for light airborne multi-purpose systems Multi Mode Radar. The prior year's quarter revenue also included $2 million related to the electronic warfare programs where we serve as a contract manufacturer, and there were no such revenue in the current quarter. The overall impact on that was not material to the reported results. Core revenue decreased 12% from the prior year quarter.

Telephonics segment adjusted EBITDA increased 33% to $18.2 million from the year-ago quarter. EBITDA margin was 17.2% compared to 11.2% in the prior year quarter with favorable product mix, combined with the benefit of lower R&D and bid and proposal expenditures being the key drivers to the profitability improvement.

Plastics revenue totaled $145 million in the quarter, increasing 3% compared to the prior year quarter. The Plastics increase reflected 4% favorable product mix, partially offset by the impact of 1% lower volume, a portion of which was attributable to Plastics exiting certain low-margin products, as we announced earlier this year. The revenue impacts from currency and resin were not significant in the quarter.

Fourth quarter Plastics EBITDA was $14.3 million, increasing 14% from the prior year quarter, driven by the favorable product mix and continued efficiency improvements. These benefits were partially offset by the impact of the modest volume decline, I mentioned, in an unfavorable resin effect of $2.7 million. Remember, Plastics adjust customer selling prices based on underlying resin costs on a delayed basis.

Our focus on driving profitable business, coupled with the ongoing initiatives to improve operating efficiency, resulted in Plastics EBITDA margin of 9.8% in the current quarter compared to 8.9% in the prior year quarter.

Home and Building Products revenue was $198 million, increasing 8% compared to the prior year quarter. Ames' revenue increased 9% to $78 million, mainly due to improved snow tool sales load in for the coming winter, lawn and garden and wheel barrow sales. Door revenue increased because of improved volume and favorable mix, and that improvement was split basically 50-50 between volume and mix.

Fourth quarter EBITDA for the segment was $13.8 million, increasing 25% compared to the prior year quarter. And Home and Building Products margin was 7% of sales compared to 6% in the prior year quarter.

As segment margin, as it was in the last quarter, was affected by Ames' manufacturing inefficiencies, being incurred in connection with our plant consolidation initiative. And those inefficiencies are expected to continue, to some degree, until this consolidation initiative is complete at the end of calendar 2014. We continue to expect annual cash savings exceeding $10 million, based on current operating levels, on completion of the Ames consolidation initiative.

Our consolidated gross profit in the fourth quarter was $106 million, a margin of 23.6% compared to 21.8% in the prior year quarter. Consolidated selling, general and administrative expenses were $86 million in the quarter, and approximately 19% as a percent of sales, and it's generally in line with last year's quarter.

Fourth quarter income from continuing operations totaled $3.4 million or $0.06 per share, in line with the prior year levels. Having said that, the current quarter results included restructuring costs of $1.2 million and $800,000 after-tax or $0.01 per share, as well as discrete tax expenses net of $1.5 million or $0.03 per share. Comparing that to the prior year quarter, which included restructuring and acquisition costs of $3.2 million, $2.1 million net of tax or $0.04 per share and discrete tax benefits of $3.5 million or $0.06 per share. So, excluding all those items from both periods, current quarter's adjusted income from continuing operations was $5.7 million, or $0.10 per share, compared to $2 million, or $0.04 per share, in the prior year quarter.

As I mentioned before, the reconciliation of GAAP results and earnings per share to the adjusted results is included in our press release.

Also, I have to mention, the current quarter included a $3 million net of tax loss from operations of discontinued businesses, compared to zero in the prior year period. You recall, we discontinued certain operations in 2008. In 2013, we recorded a pre-tax charge of $4.7 million related to those discontinued operations, related to increased casualty insurance and environmental reserves. The charge related to the ongoing and potential future homeowner association claims related to the installation services business, where the claims experienced has been greater than anticipated when those reserves were initially established at the time of discontinuance in 2008. We also adjusted environmental reserves relating to changes in the status of and approach to clean up requirements for certain businesses that were discontinued several years ago.

The effective tax rate for continuing operations for the current and prior year were 52.6% and 22.5%, respectively. And rates in both 2013 and 2012 included discrete benefits of $300,000 and $5.1 million, respectively, primarily resulting from the release of previously established reserves for uncertain tax positions on conclusion of tax audits, as well as benefits arising from various tax planning initiatives and on the filing of tax returns.

Excluding discrete items, effective tax rates for the current and prior year were 54.9% and 45.8%, respectively. Again, rates in both years reflect the impact of permanent differences that are not deductible in determining taxable income, mainly limited deductibility of certain restricted stock, as well as tax reserves, and the impact of changes in earnings mix between domestic and non-domestic operations. And all of those are material relative to the level of Griffon's pre-tax result. Having discussed rates for 2013 and 2012, I expect that we'll begin to see a decline in our effective rate in 2014, as the impact of the permanent differences I just mentioned diminish. And I currently expect the rate, excluding any discrete period items that may arise, to be in the range of 42% to 44%.

Geographic earnings mix can significantly influence our consolidated effective rate, and the rate may also vary significantly because of any potential legislative actions that may be undertaken with respect to the U.S. corporate tax rate. So we'll continue to update our effective rate as the coming year unfolds.

Capital spending in the current quarter was $18 million, and for the year, we spent about $63 million net compared to $69 million in the prior year period. We expect capital spending of about $70 million in fiscal 2014. And this expectation contemplates the capital to be incurred in connection with the Ames plant consolidation initiative, I talked about a moment ago.

Depreciation this past year was about $63 million, and amortization was $8 million. In 2014, we expect depreciation to be about $64 million, and amortization should be pretty much the same as 2013.

At September 30, 2013, we had $178 million in cash and total debt outstanding net of discount of $689 million, resulting in a net debt position of $511 million. We have no borrowings outstanding under our credit facility. There are approximately $25 million of standby letters of credit outstanding that account for the utilized portion of this facility.

With respect to guidance for fiscal 2014, we expect consolidated revenue to be between $1.9 billion and $2 billion, and each of our segments is expected to grow in the low-single digits. In providing this guidance, we are mindful of a couple of risks that may affect those results and which bear repeating.

As in the past, Ames business is the most subject to the vagaries of seasonal weather, which can dramatically impact point-of-sale at many of our customers, directly impacting our revenue. We continue to expect a gradual recovery in Housing, including repair and renovation of existing housing stock, which will benefit our Home and Building Products segment. Disruption in this recovery would impact both Doors and Ames operating results.

While Telephonics backlog is solid, we're mindful of the risks that Department of Defense budgetary constraints pose for us, including the impact of sequestration.

And finally, Plastics guidance is susceptible to variation due to a combination of resin pricing and foreign currency fluctuations. We're also mindful that more than half of our Plastics business is in Europe and Brazil, where macroeconomic conditions remain somewhat uncertain.

Based on the revenue expectations outlined above, we expect our segment adjustment EBITDA to approximate $190 million in 2014, representing a 5% increase over what we achieved in 2013. Corporate and unallocated expenses are expected to be in the range of $31 million to $32 million. And remember, corporate for us includes all equity compensation for the company, which will be between $12 million and $13 million in fiscal 2014. With that, I'll turn the call back over to Ron.

Ronald J. Kramer

Thanks, Doug. Our results reflect our disciplined focus on operating improvement initiatives in each of our businesses. Our company is well positioned for enhanced profitability as the global economy continues to recover. We continue our work to drive incremental shareholder value through organic growth, strategic acquisitions, share repurchases and dividends. We believe that over the long run, our businesses have room to grow and improve profitability. We have ample resources to invest in these businesses, to support their growth, and are optimistic about their prospects. We're pleased with our performance this year. And as we look out over the next few years, we believe that we can grow revenue, expand our EBITDA margins and significantly increase our earnings per share. With that, operator, we'll open it up for questions.

Question-and-Answer Session

Operator

[Operator Instructions] And your first question will come from Bob Labick with CJS Securities.

Robert Labick - CJS Securities, Inc.

I wanted to start with Films, getting very close to that 10% goal. Can you just talk about the steps you have -- what you've taken, we kind of know, but review those and what you have to do on a go forward basis to get to 10% and plus in 2014 or beyond?

Ronald J. Kramer

Well, look, I think it's a number of initiatives that have been ongoing over the last 2 years in terms of improving efficiency in Brazil and in Germany and continuing to meet demand in North America. We've become a better manufacturer. We are always going to have resin impact. And as you know, that has been a headwind in this year, where we've absorbed $7 million plus in this year alone. And there is a pass-through, but the business has become more efficient. The customer relations remain quite strong. We think we're being positioned competitively to take market share, and we're going to continue to run the business. I've said it previously that our management has done an outstanding job. Alan Koblin came into the company almost 2 years ago. We've added new management, we've had an increased focus on our innovation and technology. So the business is quite well positioned. And in terms of margin, we'll -- our goal has been to get to 10% or better. We're clearly working towards that. This is an excellent quarter, and we believe it's part of an excellent outlook for the business going forward.

Robert Labick - CJS Securities, Inc.

Okay, great that's helpful. And then, more specifically, one of your competitors recently announced some lost business in North America from a major personal care customer. It seems like that customer is shaking up some of its suppliers. I know it's a sensitive topic, so I don't know how much you can comment, but I guess, a, did you lose business, win business, not impacted or are there any other comments you can make in that regard?

Ronald J. Kramer

We have increased market share and have won business.

Robert Labick - CJS Securities, Inc.

Okay, great. And then in Europe, obviously there's been a lot of moving on there too. You've exited some lower profit business, Kimberly-Clark has exited that. What's the market looking like there? What's the outlook for the next couple of years?

Ronald J. Kramer

I would say that we're cautiously optimistic that Europe has turned the corner from where it was 3 years ago. It is a marked improvement from where it was 2 years ago. It's -- w were staring down an abyss. It's steady improvement, and we think that some of the competitive factors has swung our way where we are positioned for further gains in both product and profitability.

Robert Labick - CJS Securities, Inc.

Terrific. Moving on to the HBP. Can you comment a little bit about the customer inventory levels. I know in the past there's been such crazy weather that it's impacted various quarters along the way. So are we at a more normalized level now that we should see solid sell-through to be more normal, or where do we stand there?

Douglas J. Wetmore

Bob, most immediate is probably the snow tool business. And I think for that, as we mentioned on our second quarter call, our thought was that the major customers had eaten through a substantial portion of the inventory that I'd say lingered because of the weak snow season in 2012, 2013. So that bodes well for us from a stocking perspective. As I said in my comments, the fourth quarter did have a benefit of some stronger snow tool sales and that's really load in. But we'll only be able to tell once February and March comes by what the winter really proved to be, and whether that leads to restocking. So it's kind of wait and see. I think the other areas -- we never have gained that much insight into the complete view of the customers' inventory levels, but I think some of those that have been focusing on reducing their inventory levels have done a substantial portion of that, and we should see more normalized or stabilized reorder patterns moving forward.

Robert Labick - CJS Securities, Inc.

Okay, great. Jumping over to the Telephonics. It almost seems like a broken record in a good way, margins, again, well above long-term averages. I wonder if you could talk a little bit, expand a little bit on the drivers there, and where do you see those settling out over the next few years?

Douglas J. Wetmore

If you could tell us what the Defense budget is going to be for 2014 and 2015, it would be easier to answer the question. We clearly positioned this company several years ago, seeing that there was going to be budgetary pressure and that we needed to be ahead of the curve and not reacting to what's now obvious that there's budgetary pressure. So sequestration is a terrible idea. We're hopeful that our government comes to a better answer. But we have to prepare the business, and have prepared the business, to operate under those types of draconian budgetary cuts. Telephonics is extraordinarily focused on its core business of intelligent, surveillance, reconnaissance products, radar-based systems. It is a leader from a technology standpoint. It's a battle-ready, proven, and most importantly, it has its relationship with its key customers intact. And the business, as I said, we've owned it for 80 years, we'd like it to be here for the next 80 years. It's an extraordinarily well-run company and whatever the budgetary environment that we have to operate it in, we're going to try to make it as efficient as possible. The result of that is has been increasing margins over a period of years. And over the last several years, we've grown single-digit top line, and our EBITDA is expanded substantially. We're going to continue to try to build backlogs. Some of our best products are still ahead of us. Fire Scout, in particular, is still a funded go project that we don't see coming into our stream. We ended this year with backlog nearly where we ended last year, so we've got clear visibility for 2014. We think this business is going to continue to perform as well as it can in the budgetary constraints that it's operating in.

Operator

[Operator Instructions] We'll go next to Philip Volpicelli with Deutsche Bank.

Philip Volpicelli - Deutsche Bank AG, Research Division

My questions with regard to the capital structure. Pro forma, the Goldman Sachs buyback about $128 million of cash and your bonds become callable in April of 2014. Can you talk a little bit about how you see the cap structure developing? Are there any acquisitions out there that you're considering? And what your thoughts are with regard to those items?

Ronald J. Kramer

Sure. Let me answer it, that we clearly believe we have the liquidity to both buy back stock and continue to grow the company. Tuck-in acquisitions are things that are immediately actionable for us, things that we are looking at. The ability for us to come back to the capital markets is an important consideration for us and how we've managed the capital structure. We've been buying back stock in the company, as advertised since 2011. This was a unique opportunity for us to buy back in one bite a substantial amount of stock. And at the same time, maintain our fiscal discipline in terms of leverage ratios and our commitments to both our bank and bondholders.

Philip Volpicelli - Deutsche Bank AG, Research Division

Okay. And does it make sense to have any kind of prepayable debt in the press structure? Are you controlling having the bonds that just have the call dates?

Ronald J. Kramer

Clearly, we have the bonds. We redid our bank facility earlier this year. And we'll always look at opportunistic ways to enhance our liquidity based on acquisitions and based on other opportunities. But we're very comfortable with our leverage ratio, improving operating performance and free cash flow generation, as we look at both into 2014 and beyond.

Operator

[Operator Instructions] And with no further questions, I'll turn the call back to Ron Kramer for any additional or closing remarks.

Ronald J. Kramer

Thank you very much. It's been an excellent year and we look forward to reporting increased performance in the year to come.

Operator

Ladies and gentlemen, that will conclude today's conference. Thank you again for your participation. You may now disconnect.

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