H.B. Fuller's CEO Discusses Q4 2013 Results - Earnings Call Transcript

| About: H.B. Fuller (FUL)

H.B. Fuller Company (NYSE:FUL)

Q4 2013 Earnings Call

January 16, 2014, 10:30 AM ET

Executives

Maximillian Marcy - Senior Manager, Treasury and Investor Relations

Jim Owens - President and Chief Executive Officer

Jim Giertz - Executive Vice President and Chief Financial Officer

Analysts

Mike Sison – KeyBanc

Mike Harrison - First Analysis

Christopher Butler - Sidoti & Company

David Begleiter - Deutsche Bank

Dmitry Silversteyn - Longbow Research

Jeff Zekauskas - J.P. Morgan

Operator

Good morning and welcome to the H.B. Fuller Fourth Quarter 2013 Investor Conference Call. This event has been scheduled for one hour. (Operator Instructions) Management in attendance on today's call includes Mr. Jim Owens, President and Chief Executive Officer; Mr. Jim Giertz, Executive Vice President and Chief Financial Officer; and Mr. Maximillian Marcy, Senior Manager, Treasury and Investor Relations.

At this time, I would like to turn the meeting over to Mr. Maximillian Marcy. Sir, you may begin.

Maximillian Marcy

Thank you, Lisa, and welcome, everyone. Today's conference call is being webcast live and will also be archived on our website for future listening. Before beginning, I would like to inform everyone that certain matters discussed during this call will include forward-looking statements, as that term is defined under the Private Securities Litigation Reform Act of 1995. Since such statements reflect our current expectations, actual results may differ.

In addition, during today's conference call, we will be discussing certain non-GAAP financial measures specifically: adjusted earnings per diluted share; segment operating income; and earnings before interest expense, taxes, depreciation expense and amortization expense or EBITDA. Adjusted diluted earnings per share are defined in the quarter reported, typically excluding the impact of special charges related to ongoing business integration project. Segment operating income is defined as gross profit less SG&A expense. And EBITDA is defined as gross profit less SG&A expense plus depreciation and amortization expense.

All of the non-GAAP measures discussed today should not be construed as an alternative to reported results determined in accordance with GAAP. We believe that the discussion of these measures is useful to investors, because it assists in understanding our operating performance and our operating segments, as well as the comparability of results. All of the non-GAAP information discussed today may not be consistent with methodologies used by other companies. All non-GAAP information is reconciled with reported GAAP results on the last pages of our presentation.

For more information, please refer to our recent press release, quarterly report from Form 10-Q dated September 27, June 28 and March 29, 2013, and annual report for the year ended December 1, 2012, on Form 10-K, filed with the Securities and Exchange Commission. All of these documents are available on our website at www.hbfuller.com in the Investor Relations section.

Now, I will turn the call over to our President and CEO, Jim Owens.

Jim Owens

Thanks, Max, and thank you, everyone, for joining us today. In 2013, we delivered on our profit commitments and positioned ourselves for further success in 2014 and 2015. 2014 will represent the fourth year of our current transformational five-year plan. We’ve made great progress over the first three years of the plan and we expect to take further significant steps toward our 2015 goal in 2014.

Our key long-term financial objectives remain unchanged, namely achieve organic revenue growth of between 5% and 8% per year, increase our EBITDA margins to 15% by 2015, grow EPS by 15% per annum, and increase return on invested capital to 15% by 2015. 2014, we expect revenue growth at the low end of our long-term growth targets of 5% to 8%.

Our Constructions Products segment posted solid volume growth in 2013, and this is expected to continue into 2014. Our Asia Pacific region picked up the growth pace throughout the last year, especially in China, and this momentum will carry forward into 2014 as well. We anticipate more modest revenue increases in the Americas and the EIMEA operating segments. For the EIMEA, the revenue performance is expected to improve in the second-half of 2014 following the completion of the business integration project at the end of the second quarter.

Our gross profit margin is expected to increase in 2014, primarily driven by the cost benefits that will be realized upon the completion of the business integration project in Europe. And once again, our SG&A expenses should increase at a rate below the increase in net revenue. Overall, we expect our EBITDA margin to be about 14% for the full year, about 150 basis points higher than the level achieved in the fiscal 2013 year.

Our core tax rate should remain steady at about 30%, excluding the impact of discrete items. And all of this will come together to generate adjusted diluted earnings per share over the year within a range of $3 and $3.15 per diluted share. This represents an increase of between 16% and 22% over 2013. Clearly, achieving this financial plan for 2014 will put us in a strong position to hit the 2015 goals that we set for ourselves back in 2011.

But we are striving to do more than just hit our financial metrics or organic growth and margin expansion. As we deliver our financial targets, we’re also building a new infrastructure that will sustain our growth and our profitability in the future. We’re investing in emerging markets. We’re vitalizing our technology pipeline and strengthening our organization. We have significant projects underway to provide a stronger platform for sustained success. Our business integration project in Europe, which is nearing completion, and a new initiative that we refer to as Project ONE, which will create a steady information technology platform.

We are also investing in growth market segments such as electronic and adhesives and in geographic expansion in Latin America and China. Our goal is to transform our company, both in terms of the financial results and in the operational infrastructure that will sustain our success. We are making good progress on both fronts. We expect another strong year in 2014. And our track record of meeting commitments gives us confidence that the 2014 plan will be achieved as well.

At the beginning of 2013, we set out a pretty aggressive game plan for the year. That plan consisted of solid organic growth, further EBITDA margin expansion to 12.5%, another year of strong double-digit EPS growth and completion of the heaviest portion of our multi-year business integration project.

As the year played out, the revenue growth goals we set became unattainable due to generally softened market conditions, especially in Europe, and some negative impact from the business integration project. However, we reacted quickly during the year to refocus our commercial teams and to prioritize our discretionary spending. This business agility enabled us to deliver solid growth again this year and deliver on our key commitments.

Let’s take a step back and review our 2013 performance against the initial guidance we set for ourselves at the beginning of the year. We grew organically about 2% versus our initial plan of 3% to 5% growth. This marks the fourth year in a row that we posted solid organic growth. For the first three years of our five-year plan, we have grown organic revenue at an average annual rate of nearly 6%. Despite lower than expected revenue in the year, we generated an adjusted EBITDA margin of 12.5%, exactly in line with our guidance.

The margin expansion in our EIMEA segment is a critical component of our five-year plan and a key indicator of progress in our business integration project. But we put a stake in the ground at the beginning of the year, targeting a 12% exit rate for our EBITDA margin in Europe. Our actual result in the EIMEA in the fourth quarter was 11.5%, just slightly below the 12% we targeted. And the lower margin was primarily the result of some non-recurring manufacturing costs associated with the ongoing business integration project, not a reflection of the ongoing earning potential of our revitalized business in Europe.

All of our actions in the Europe produced adjusted diluted earnings per share of $2.58, well within the original segue of guidance range. As is true every year, we did not get to the end result exactly as we planned when the year began, but we got there nonetheless and hit our marks along the way.

I’ll give you a high-level view of our plans for 2014 and a quick review of our success in 2013. For the remainder of the call, I’d like to review the status of two important projects underway within the company, our ongoing business integration project and the new information technology project we call Project ONE. Then I’ll turn the call over to Jim Giertz for more discussion of our fourth quarter performance and to add some more details of our 2014 guidance. Finally, we’ll be happy to take your questions.

Let’s start with a quick status report on our business integration project. Starting with North America, we completed the bulk of the integration project on time and on budget and are capturing the expected synergies, as evidenced by the strong margin performance in the Americas segment. The closure of one facility has been postponed relative to the original plan, as we experienced some delays in commissioning new production assets at the receiving facility. This last facility will be closed in the first quarter of 2014 and the integration in North America will be fully completed.

Moving on to China, we are in full swing with our integration plans. As you recall, we are consolidating from four plants to two in China, closing two outdated plants and putting capital into the newer facilities to ensure that they are world-class and meet our growing demand in the region. We anticipate the capital projects to be done in the summer and all products transitioned and facilities closed by the end of the year. The benefits of this integration should be fully evident in our fourth quarter results.

Last and certainly not least is our European transformation plan. We have been working tirelessly over the past two years to completely rebuild our business in the region and we’re nearing the finish line. Our two highlights from this year are the closure of two facilities. Our SKU reduction project reduced 35% of the pre-integration SKU count. We transferred nearly 60% of our products to the new state-of-the-art facilities. We reduced the number of packaging foremen by 65%. And we deployed automation in our production sites to allow better throughput using more bulk handling, technology specialization and higher productivity.

The impact this year is evident in our results, as EBITDA margin in the EIMEA segment increased nearly 200 basis points versus last year. The last significant cash remaining of the European integration are the completion of new manufacturing investments primarily in Germany and then the closure of the three large manufacturing sites, one each in Austria, Italy and Germany. The final production runs in these facilities will occur by the summer of 2014.

But the project has not been clear of distraction of minor delays, but we are building something for the future that will pay dividends for decades to come. We’re committed to doing it right and protecting our position with customers so we can sustain the benefits we achieve.

To summarize, the business integration is on track to realize and retain the synergy benefits that we committed to at the time of the Forbo acquisition. We have experienced some minor timing delays, but the final completion of this complex project is now in our sight.

Now I want to switch gears and discuss another very significant project that we have undertaken that we refer to as Project ONE. Following the acquisition of the Forbo business, we formed a team to evaluate our existing information technology platforms, which are highly fragmented and aging. As a result, the team recommended and our Board of Directors has approved a multi-year project to replace and enhance our existing core information technology platforms with SAP application software. The scope for this project is quite broad and includes most of the basic transaction processing for the company, including customer orders, procurement, manufacturing and financial reporting.

Within this initiative Project ONE, because we are moving to one harmonized business process for all of our operating segments, supported with one standard software configuration. Some of the key metrics and milestones for the project include, the project will be completed by the end of fiscal year 2016. Total capital expenditures over the life of the project are estimated at $60 million, of which $22 million has been spent to date. More out of the new platform will be accomplished in four waves generally aligned to geographic regions. The first go-live will be in the USA and Canada geography of our Americas Adhesive operating segment before the end of June 2014.

As I mentioned earlier, we are determined to make the smart investments necessary to build infrastructure to sustain and support growth and profitability of this company for many years to come. This project, together with our business integration project and our ongoing investments in new business development and emerging markets, are evidence of our commitment to achieve our objectives the right way, achieving our financial goals in the short term, while at the same time building a strong platform for the future. We’ll keep you posted on our progress as we implement each of these important projects.

With that, I’ll turn the call over to Jim Giertz to provide more information about our fourth quarter and our 2014 guidance.

Jim Giertz

Okay. Thanks, Jim. I’ll start by providing a bit more color on the fourth quarter results. Starting at the top, organic revenue increased by 3.6%. Volume growth was over 4%. And the pricing was slightly negative, reflecting the ongoing trend of gradually falling raw material costs.

The general weakness in our volume delivery in the EIMEA region reflects several significant factors that we have been dealing with for the past several quarters. I think everyone recognizes that economic conditions in the broader European region remained stagnant and many indicators show end-market conditions flat to down in many countries. And as we have mentioned in previous conference calls, we have several specific factors that are hindering our growth as we execute our business integration project in the region. Some of the volume decline is planned attrition that supports our strategic goal of reducing complexity in our business.

Some of the volume weakness is due to the distraction within our commercial teams as we manage product substitutions and product transfers. Although volume was down versus the prior year, the trend has improved in both of the last two quarters.

In Americas Adhesives, we delivered volume growth of nearly 6%, which was a solid improvement from the prior two quarters. The volume improvement was the result of incremental improvements in both North America and Latin America. Market conditions did not materially improve in the region, but the results we delivered reflect improved focus on closing new business and regaining some business lost during the business integration activities.

Our Construction Products business delivered over 12% volume growth in the fourth quarter. The growth in this segment was supported by generally more favorable end-market conditions and market share gains. We gained new business with a large customer in the fourth quarter that will drive further significant volume gains in 2014.

In Asia, we delivered nearly 17% volume growth this quarter. The recent trends remained intact. Our Australian and Southeast Asia business are fairly flat. And our China business showed very strong organic growth, creating strong momentum as we enter 2014.

Now turning to the results of the company overall, our gross profit margin was down approximately 100 basis points from adjusted results in the prior quarter. This sequential drop in gross profit margin was the primary reason our operating earnings and EPS fell short of the guidance we provided at the end of the third quarter. We had some non-recurring manufacturing costs in the quarter in both the Americas and the EIMEA, primarily in facilities still involved in the business integration.

But importantly, our contribution margin in the quarter was essentially flat relative to our full year average and in line with our own internal expectations. We expect some of these additional manufacturing costs to persist in the first quarter, as we work through the next wave of product transfers in Europe.

Selling, general and administrative expense declined 3% in the fourth quarter or 120 basis points as a percentage of net revenue versus the prior year. As promised, we continued to proactively manage our discretionary activity in the resulting cost as part of our focus second half game plan. For the full year, SG&A was up by only 6%, but down 50 basis points as a percentage of net revenue.

To sum it up, in the fourth quarter, we got our revenue line moving in the right direction. We managed our margins and we controlled our costs. We delivered year-over-year improvement in EBITDA margin and diluted EPS. Our integration project experienced some minor delays and caused some unexpected costs, which tampered our financial results. Overall, we finished strong with good momentum for the new year.

And now, I’ll turn to our guidance for 2014. Jim Owens provided the summary of our plans earlier, and I will now just fill in some of the details. We have an aggressive plan for 2014, another solid step toward our 2015 goals. This year, we expect our financial performance to improve as the fiscal year progresses. Revenue growth should trend higher over the four quarters of the year, as the distraction from the business integration project is reduced and major phases of the project are completed. Our margins will improve in the second half of the year, as more of the benefits of the business integration are realized.

Our first quarter results, measured in terms of adjusted EPS, will be the lowest quarter of the year, in line with normal seasonal patterns and impacted somewhat by some residual non-recurring manufacturing costs around our integration project. All factors considered, our best estimate for adjusted EPS in the first quarter is $0.50 per share.

Our total capital expenditures will remain at a relatively high level in 2014. Our core capital expenditures to fund ongoing operations will be about $45 million, representing about 2% of net revenue, which is exactly in line with our long-term strategic cash generation model. We expect capital expenditures for Project ONE to be about $20 million in 2014 and the completion of the business integration project to add $40 million to our capital expenditure plan, bringing the total 2014 capital plan to $105 million. For 2015, our capital expenditures should move back toward more normal levels or about 2% of net revenue, plus any residual capital requirements for Project ONE.

And with that, I will turn the call back to Jim Owens to wrap this up.

Jim Owens

Thanks, Jim. It was another great year for our company. We delivered record levels of revenue, operating income and adjusted earnings per share. We produced organic growth for the fourth year in a row and again improved EBITDA margins towards our 2015 goal of 15%, and we’re on track to deliver our 2015 commitments.

We are quick to react when conditions, both internal and external, change. We have proved this by delivering full year EPS in line with our initial guidance, even while revenue was softer than we anticipated and transform delays nearly to be managed. The performance we delivered in the second half of the year helped us to gain momentum in organic growth across the world as we deal with slower growth in Europe. We did all this while executing important investments for our future.

Capital investments in Europe driving our profitability improvements; investments in electronics, Asia and Latin America, which will drive our sales growth; and investments in our core operating systems, which will drive our overall productivity. 2013 was a remarkable year and it is a springboard into 2014.

We’ve laid out another aggressive plan for 2014 and we’re confident that we will deliver. This plan represents a further significant step towards our long-term goals. We have demonstrated over the last few years that this management at H. B. Fuller sets aggressive targets and delivers the results and are able to do it under varying external conditions, while tackling numerous challenges.

Thank you for your interest in H. B. Fuller and for joining us on the call today. And I’d like to open the call up for your questions.

Question-and-Answer Session

Operator

We will go first to Mike Sison of KeyBanc.

Mike Sison - KeyBanc

In terms of these manufacturing costs that came up in the fourth quarter, is that going to be about a similar size in the first quarter?

Jim Giertz

No, Mike. We don’t expect that those costs are all going to continue into the first quarter. There’s a variety of different things. We can talk about more if anyone is interested. But not all of those costs are going to continue into Q1. So we try to say that some of those residual costs will remain in Q1. That’s why we’re being a little bit cautious about our Q1 performance. But clearly, there was some of the costs in Q4 that we know that we’ve clamped off and shouldn’t recur in Q1.

That being said, I mean obviously there is a lot of activity going on. So being precise about forecasting right now is a little bit difficult for us.

Jim Owens

We’ll continue, Mike. I think the main point is as we saw these delays, we really took all our efforts to protect our customers and we’re doing what it takes to make certain we provide good service to customers during the transformation.

Mike Sison - KeyBanc

Right. And then is Project ONE impacting the first half more pointedly than the second half? Can you maybe help us on the costs there?

Jim Owens

Yeah. Mike, I don’t think there is a big difference between the expenses that are going to hit the P&L. I don’t think there will be a big difference in their phasing across the year. I think we called out that the direct project expenses are estimated about $4 million for 2014, which are about similar to what we had in 2013. This should be pretty evenly spread. If I had to guess, it’d be a little front-loaded into the first half of the year.

Mike Sison - KeyBanc

Okay. And then real quickly on the organic sales growth outlook, you sort of noted to be at the lower end of your goals of 5% to 8%. You’re sort of in that range for the first quarter. Is that why the first quarter has been a bit weak? Is it maybe trending a little bit less? I was hoping it would improve as the year unfolds.

Jim Owens

Yeah. I’d say, Mike, we certainly see progress throughout the year. And we have good momentum on organic growth exiting the year and we see it strengthening throughout the year. So net again, out in that 5% range. So we do see momentum. Especially in Europe, in the second half of the year, the ability to grow will significantly change once we hit mid-year. So I hope that gives you a sense.

Mike Sison - KeyBanc

And [ph] Flexit model is included in that organic sales outlook for ‘14?

Jim Owens

Yes. Well, for the first half of the year, as you know, [ph] Flexit came on board about mid-year this year.

Operator

We’ll go next to Steve Schwartz from First Analysis.

Mike Harrison - First Analysis

It’s actually Mike Harrison sitting in for Steve. I was wondering if maybe we could just dig in a little bit more on the non-recurring manufacturing costs. First of all, you mentioned that those were partially in Europe, partially in North America. Was it roughly 50-50 or a little bit more one than the other?

Jim Giertz

Yeah, this is Jim G. And I don’t want to get too specific about it, but it was primarily in Europe was where we had our challenges and to a lesser extent in North America.

Mike Harrison - First Analysis

All right. And just help me understand why that didn’t meet the threshold to be a special item, even though you’re kind of calling it out as being non-recurring in nature.

Jim Giertz

Yeah, so, well, we have a line item on our P&L that we’ve had since the business integration began which we call special charges net. And we have a very specific set of guidelines and parameters that we use to determine whether any cost that we have our expense would fit into that definition. And so these costs didn’t fit into that definition. In terms of adjusting things out of our earnings, I guess we’d probably take a more conservative view to this and not the others. But we disclosed them to you. We decided not to adjust them out of our earnings. I think maybe we could have, but we didn’t. But we disclosed them to you as non-recurring, because we don’t think they really are relevant to the kind of ongoing earning power of the businesses, but they were temporary and unusual in nature.

Jim Owens

So let me give you a sense of what we’re talking about here, Mike, in terms of costs. So as things got delayed, we had to implement contracts (inaudible) to make some products for us. We had to produce some products that at sites that we hadn’t originally planned. In Europe, we are making products at Finland and shipping it into Mainland Europe, so things in the U.K. shipping into Mainland Europe. We’re making products on the assets that we hadn’t originally planned. And our philosophy here was make certain that we did the things to support our customers.

So when this delay went in place, if there was extra freight charges, if we had to locate a product in Finland and ship it into Europe or run it on a less efficient asset. In some cases, we substituted a higher cost product in for a customer, but it was all centered around making certain that we did a good job of supporting our customers. So I hope that gives you a color on the type of costs we’re talking about here.

Mike Harrison - First Analysis

No, that’s very helpful.

Jim Giertz

Mike, this is Jim G. Not to go beyond answering more or your question that you asked. But now based on Jim’s explanation of what these costs are, they don’t really qualify as special charges for us, because they relate to making products and selling products to customers today. Okay? So they’re just extra costs that we incurred to make the products and sell products today. Those don’t classify as special charges for us. The special charges only relate to costs that are directly around the execution of the project. Okay?

Jim Owens

But I think your point is right. That probably could have been a case made to call them now. We decided not to.

Mike Harrison - First Analysis

I understand now why you treated them that way. So maybe just one more on Project ONE. You mentioned the capital budget is $60 million. You mentioned it’s expected to return well over internal hurdle rates. So once that kind of hits stride, I’m sure you’re not going to see a full savings rate in 2016. But is the annual savings rate something in the $12 million to $18 million range or it going to be something north of that?

Jim Owens

Yeah. I think you’re right. We won’t see these benefits until ‘16 and ‘17 as we finish up the project. And what we’ve decided Mike is to be clear that it’s going to hit our current hurdle rate. As we get later into the year and we start laying out our new five-year plan, we’ll be more precise and specific about what we see as the returns. But they’re sizeable returns and it is a good financial investment.

Mike Harrison - First Analysis

Maybe just a housekeeping question for Jim G. Any guidance on interest expense and D&A and any other non-operating expense for next year?

Jim Giertz

Sure. So depreciation will increase next year. Our current forecast is $43 million. I can just give you the precise estimate that we have. It’s $43 million of depreciation, which is up somewhat from last year. Amortization is $23 million, which is what it was last year. The total is $66 million. But that’s what’s in our current internal plan. Interest expense, I can give you that number as well. Our internal forecast is $20.5 million of interest expense in 2014.

Operator

We’ll go next to Christopher Butler of Sidoti & Company.

Christopher Butler - Sidoti & Company

Continuing on Project ONE, you had mentioned that there was about $4 million of expenses this year from that. Could you just kind of break that out by quarter, so that we have a sense of where there were some extra costs?

Jim Giertz

So the question was Project ONE cost in 2013? Yes, oh, boy, that’s a tough one. I don’t know it precisely. They were heavy in the first quarter. I’m just going to not answer the question, because I don’t know the answer, Chris.

Jim Owens

I would have said, Chris, the spread-out of quarters, two, three and four, we didn’t have them in Q1, and they’re relatively even I think in the quarter. But it’s a relatively small number.

Christopher Butler - Sidoti & Company

Just wanted to be sure they weren’t bunched somewhere.

Jim Owens

No, they weren’t bunched in the fourth quarter. They were spread out over the last three quarters of the year.

Christopher Butler - Sidoti & Company

And if we’re looking at the decline in prices that we’ve seen in most of your regions, you had mentioned raw materials. Is that exclusively? What’s occurring there?

Jim Owens

Well, pricing was actually up in Europe, and that’s part of our transformation project of repositioning. In Asia and in the Americas, it was definitely about raw materials, concessions related to that, our contractual commitments. In the Construction Products business, there were some of that. This year was a high-volume level. So some of our customers were able to reach volume thresholds that gave a higher level of rebates than we’ve had in past year. So that came through in some of those numbers, but mostly raw materials, Chris.

Christopher Butler - Sidoti & Company

And just looking at that on the European side, you had mentioned that you had been raising prices as you fully bring Forbo into the fold. With 3% volume loss over 2013, how much of that do you think was the business that just kind of went away because you were raising prices and it was a little bit lower margin that you were interested in?

Jim Owens

Yeah. Obviously, I wouldn’t directly point it at the price increase itself, but I would point it towards the transformation. So we had a lot of moving parts. Very small SKUs had to be eliminated. We had to change and reposition customers as we consolidated products. We had to move some customers to different channels. And also, we had to reposition pricing. So I wouldn’t say it was about pricing. I think we’re very careful in being fair about our pricing and making certain that we weren’t losing business related to that.

But the combination of all of those things together definitely had an impact in our results in 2013, most of which we anticipated. Some of it was, especially early in the year, was a little more than we anticipated.

Christopher Butler - Sidoti & Company

And why wouldn’t we get to a point where we start to lap some of that, or was that a continual effort through the year, so it’s still going to be ongoing?

Jim Owens

It was a continual effort throughout the year. I think as I said, it’s just being able to be in the aggressive offence Q3 this year. I think we’ve got a lot of work here to do to make certain we finish that. But as we said, big chunks of the transformation, the SKU reduction, the product container elimination, big chunks of that work happened this year and won’t continuing, but we still have the distraction factor. So look for mid-year for this to start seeing the trends to change.

Operator

We’ll go next to David Begleiter of Deutsche Bank.

David Begleiter - Deutsche Bank

Jim and Jim, how should we think about working capital in 2014? Is there going to be a use of cash again in 2014?

Jim Giertz

It’s Jim G. I think that our basic working capital structure is not going to change in 2014. So it will be a working capital use to the extent that we grow our business. One of the things that’s showing up in our working capital numbers right now is that there are a lot of capital expenditures going on. And so for example, you see our payables went up this quarter. That really is not so much a reflection of a change in the core operations of our business, but it’s a temporary phenomenon related to the acquisition of our capital and the payment for capital. But if you’re just asking about our core operations, our net working capital ratios would remain similar in ‘14 as they were ‘13. And I think they’ll only change fundamentally once we have SAP up and running and start taking advantage of some of the opportunities that we have to improve our inventory management there.

David Begleiter - Deutsche Bank

Understood. And just on business integration, Jim, what’s the delta from a savings impact in ‘14 versus ‘13?

Jim Giertz

From the business integration project itself? That’s another one I can’t answer. That’s a probably good question, but I don’t know that number.

Jim Owens

But I think it nets out in this EBITDA improvement. A big chunk of that is related to the business integration. So particularly on the gross margin improvement that we expect to see in 2014.

David Begleiter - Deutsche Bank

Right. And just lastly, looking at the Americas Adhesives volume growth, 5.7%, were their market share gains embedded in that number?

Jim Owens

Yeah, I would say we had some nice wins. The team did some good work. Particularly, our hygiene team and our global assembly teams had good solid progress that we expect to see momentum going forward. And I know you recall this, David. Middle of the year, we hit a soft patch on organic growth, and we’ve reallocated a lot of our effort toward: A, managing discretionary spending; but also, getting the sales pipeline moving in. We call that Project Win, dedicated a different level of resource and focus on key wins. And that was a successful project and it really helped us kick start some of the organic growth. Everywhere outside of Europe, we’re still managing the distraction. And so definitely some wins in the quarter.

Operator

We’ll go next to Dmitry Silversteyn of Longbow Research.

Dmitry Silversteyn - Longbow Research

Just have a couple of questions, if you would. First of all, just to get this out of the way, on the G&A guidance, the depreciation increase year-over-year to $43 million, is that going to be mainly in EIMEA and Construction segments, or is it going to be equally split between the companies and sort of what’s driving that since you’re closing plants at least in Europe and China? Sort of what’s driving the higher depreciation year-over-year?

Jim Owens

Yeah, Dmitry, it’s commissioning and putting into use the capital that we’re employing in Europe is the primary driver of that. Plus, we will begin the depreciation of our Project ONE investment as well.

Dmitry Silversteyn - Longbow Research

Got it.

Jim Owens

I think those are the two bigger drivers.

Dmitry Silversteyn - Longbow Research

Okay. So that’s going to offset. So the expensing of new capital basically is going to offset the savings that you’ve gotten from plant closures, so you’re going to get them net up in Europe and then Project ONE will be more or less U.S.-centric at least in 2014 in terms of depreciation?

Jim Owens

Obviously I don’t know how the depreciation is going to get allocated out by the segments. I’m not quite sure I know that right now. Well, we’ve had some depreciation already from Project ONE, but more of the depreciation will start in the second quarter of this year.

Dmitry Silversteyn - Longbow Research

In terms of (inaudible) contribution to revenue, I think it was 1% of the divisional revenue in the third quarter. Is that the similar level in the fourth quarter that we need to deck out before looking at organic growth?

Jim Owens

Yeah, 1%.

Dmitry Silversteyn - Longbow Research

Okay. So that takes care of that. The strong growth in construction that you’ve seen, you talked about some business wins in general and then specific large business won in the fourth quarter. If you had to sort of look at the market growth versus your broader share gains versus this one customer win, how would you sort of apportion the very strong topline you saw in the fourth quarter? I think you said that the large customer win was in the fourth quarter. Should we see that momentum carry into 2014?

Jim Owens

Yeah. So the large customer win that we talked about, Dmitry, actually didn’t show up in the fourth quarter results. It one that we’ll start hitting in 2014. So these results actually, without that, and it was part of the discussion about why we’re optimistic about that. And other wins are happening in the company that are driving organic growth. So yeah, we had a good quarter. The Construction Products business had a good year. And it’s tough for me to parse out what part of that is market and what part of that is wins. Now if you look back over the last couple of years, our team has outperformed the market throughout the downturn. If you look at our CP business versus what’s happened in the market, and that’s because that team focuses on driving innovative projects and then getting on the front-end of the channels that are winning. So those are the two things we’re doing.

Now if I were to try and pick a number, I’d say it’s 50-50. Maybe it’s a little different than that. But there is definitely a good positive environment in that market and the team is definitely doing a nice job winning in the market. And as I said, this big win we got is going to help accelerate that in 2014. And we’re pretty excited about the growth we’re going to see in CP next year.

Dmitry Silversteyn - Longbow Research

Excellent. On the pricing environment as you sort of look forward to 2014, it was not a significant contributor one way or the other to 2013 results. Do you see that changing in 2014 at all in terms of either being a slightly positive contributor or do you think if raw material prices continue to come down that you’re going to have to pass that through? Conversely, is the competitive environment such that if raw materials start to accelerate and there’re several companies that have been reporting earnings recently that they talk about their possibility, particularly in Europe, would you be able to pass through pricing at sort of the same pace you did in the past?

Jim Owens

In terms of what we see, we see another benign year in terms of pricing, which I think allows us to focus on doing our business, of growing the business. If anything, we see late in the year some uptick, but that would probably only happen if the economy got strong or stayed strong throughout the year. So we see a relatively benign, maybe a little bit of slight decline throughout the year. But if things did pick up, we’ve built a machine that understands how to manage the complexities of our product line, raw material substitutions in pricing. And we’re very confident that process and system we set up. So we’d be able to react very quickly, Dmitry, if something happened that was a shock to the system. But at this point, we’re not expecting that, but we’re prepared to do that if those go up.

Dmitry Silversteyn - Longbow Research

Very good. And then final question on corporate costs. I know you guys don’t break them out as many companies as a separate line item. So it’s part of your divisional result. But if you look at sort of 2014 deltas versus 2013, can you talk us through sort of what the impact would be, if anything, from pension funding obligations or reversals, any other items that could of size in corporate costs one way or the other American or anything else that sort of comes to mind when you look at that deltas in corporate expenses.

Jim Giertz

Dmitry, Jim G. Yeah, I can give you some broad answers to those questions. We will be seeing some benefit from our pension expense. Actually we have pension income. It’s actually an income item for us, I think, net. And it will be favorable in 2014 versus 2013 by single-digit millions of dollars. I can’t think of anything else that really would be material. We had no particular pension funding records. From a cash flow perspective, that won’t be an issue in 2014. I can’t think off the top of my head of anything else of a particular note that’s changing our cost structure and kind of corporate areas that you’re referring to.

Operator

(Operator Instructions) We’ll go next to Jeff Zekauskas from J.P. Morgan.

Jeff Zekauskas - J.P. Morgan

Even if you strip out the $4 million in cost of goods sold from manufacturing and efficiencies, your cost of goods sold was up 4%. Why is it up so much in a easing raw material environment?

Jim Giertz

Okay, Jeff, this is Jim G. Can we just talk about gross margin percentage?

Jeff Zekauskas - J.P. Morgan

What I was interested in why your cost of goods sold went up. In that, if you do it on a gross margin percentage basis, I guess you’re roughly flat year-over-year or maybe flat-to-up notwithstanding the sales growth?

Jim Giertz

Yeah. So I think that was pretty much what the plan was for the year. I think our gross margin, when you adjust out these unusual expenses in fourth quarter, would have come in closer to 28%, which has been pretty much what our gross margin percentages have been through the entire year. And I think that was pretty much in line with our plan. We never really anticipated a lot of gross margin improvement until 2014 when the business integration is complete.

Jeff Zekauskas - J.P. Morgan

Maybe put another way, your sequential sales went up $18 million and your gross margin adjusted for the costs went down 30 basis points. So why did that happen?

Jim Giertz

I can’t give you a specific answer to that, Jeff. I mean I can’t do that online right now. I don’t know the answer to the question.

Jim Owens

You expected because there’s more volume in the fourth quarter than the third quarter, there were some margin improvement, is that what you’re saying? Is it a sequential question or a year-over-year question?

Jeff Zekauskas - J.P. Morgan

You can do it either way. All I’m remarking on is that the gross profit margin sequentially declined a little bit, even though your sales went up $15 million if you adjust for the extra manufacturing costs. And so I was wondering why that was the case? You could do it year-over-year in terms of why did cost of goods sold go up 4% ex-manufacturing costs?

Jim Giertz

Well, Jeff, I am obviously working on from a different paradigm than you are, but I’m not able to answer the question very articulately. So I apologize for that. But I can come back from the other side and just tell you, if you’re asking is there any fundamental change like a contribution margin sequentially or year-over-year, no. In our manufacturing cost structure, year-over-year or sequentially, no. So any variance that you’re referring to would be just, I guess, normal swings and variations between quarters is what I would say.

Jim Owens

Let me just try and rephrase the question here, Jeff. What you’re saying if you strip out the $4 million in costs, we would have moved from 28.3% gross margin to 28.1% or 28.0%? Is that what you’re saying?

Jeff Zekauskas - J.P. Morgan

So why wouldn’t the incremental margins be higher? Why wouldn’t your gross margin be higher?

Jim Giertz

I would just classify that as normal fluctuations from quarter-to-quarter. I just don’t think there’s any real significant explanation to it.

Jim Owens

Yeah, and our fixed costs are spread over the volume over the year. So when we have a higher-volume quarter, it’s different than a lower-volume quarter. And if you look back at our history, you’ll see that as well. There’s no big jump. Even though our Q3 is lower than Q4, there’s not a big jump in the gross margin from Q3 to Q4, Jeff. So I would say 28.3% to 28.0% or 28.1% would be pretty normal and just normal variation.

Jeff Zekauskas - J.P. Morgan

Okay. How many employees work at your company now?

Jim Owens

The number is just under 3,700.

Jeff Zekauskas - J.P. Morgan

Is your expectation for 2014 that average price mix falls in the United States and Asia and rises in Europe? Is that your general operating plan for next year?

Jim Giertz

The average price, I would say, if anything, slightly, but relatively benign in all three of those areas. And I think directionally, I would agree with your view. So slightly down in Americas, slightly down in Asia, slightly up in Europe.

Jeff Zekauskas - J.P. Morgan

Okay. And then lastly, can you characterize your sort of the raw material experience that you had this year? What happened by quarter and what’s your outlook for next year?

Jim Owens

Yeah. So I would say that for us, Jeff, there is a combination of two things happening here. We’re generating savings relative to the integration, plus there’s some market dynamics that are happening. So there’s a mix of those two things in here. But if I look at the overall fundamental market, it was across our raw materials, flat to slightly down throughout the year. And I would expect that to continue for the first quarter or two. But for the most part, so what I use is flat throughout that period. And in terms of next year, I think the general view is later in the year is when we would expect to see any uptick.

Jeff Zekauskas - J.P. Morgan

Okay. Do you expect EIMEA volumes to grow in the first half of ‘14?

Jim Owens

Yeah, I don’t think we’ve given specific numbers on that.

Jeff Zekauskas - J.P. Morgan

Just roughly, up or down?

Jim Owens

Yeah, I would say roughly, we expect to move from negative to positive throughout the year in EIMEA and see very strong rates, Asia Construction Products and then solid rates in the Americas.

Jeff Zekauskas - J.P. Morgan

Okay, great. Thank you for your patience.

Jim Owens

No, thanks for your questions, Jeff, and your time.

Operator

(Operator Instructions) Actually we just had a question in the queue. We’ll go next to Richard O'Reilly of Revere and Associates. We have no further questions in queue.

Jim Owens

Okay, thank you, operator. And thanks, everyone, for your time on the call and for your support of our company and your support of our strategy.

Operator

Thank you, ladies and gentlemen. This does conclude today’s H. B. Fuller fourth quarter 2013 investor conference call. You may now disconnect.

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