PGT, Inc. (NASDAQ:PGTI)
Q2 2010 Earnings Call
August 5, 2010 10:30 am ET
Mick Ferrucci - VP and GC
Rod Hershberger - President and CEO
Jeff Jackson - EVP and CFO
Nishu Sood - Deutsche Bank
Jason Marcus - JPMorgan
Sam Darkatsh - Raymond James
Good day, ladies and gentlemen, and welcome to the PGT, Inc. second quarter 2010 earnings conference call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will be given at that time. (Operator instructions) As a reminder, today's conference call is being recorded.
I would now like to turn the conference over to your host Mr. Mick Ferrucci, Vice President and General Counsel. Please go ahead.
Good morning and thank you for joining us for PGT's second quarter 2010 conference call. I'm Mick Ferrucci, and I am joined today by Rod Hershberger, President and CEO; and Jeff Jackson, Executive Vice President and CFO. Rod and Jeff will represent PGT on this morning's call.
Before we begin, let me remind everyone that today's conference call may contain statements concerning the company's future prospects, business strategies, and industry trends. Such statements are considered to be forward-looking statements under the Private Securities Litigation Reform Act of 1995. These statements are based on our current expectations and are subject to risk and uncertainty.
Actual results may vary materially from those contained in the forward-looking statements. Please refer to the August 4th press release, our most recent Form 10-K, and other documents filed with the SEC. We undertake no obligation to publicly update or revise any forward-looking statements.
A copy of our press release is posted on the Investor Relations section of our corporate website at www.pgtinc.com. Included in the press release, are the unaudited consolidated balance sheets and statements of operations prepared in accordance with GAAP and adjusted information, which was quantitatively reconciled to GAAP. Our company uses non-GAAP measurements as key metrics for evaluating performance internally.
A detailed explanation of these non-GAAP measurements can be found in the press release. These non-GAAP measurements are not intended to replace the presentation of financial results in accordance with GAAP. Rather, we believe these non-GAAP measurements provide additional information for investors to facilitate the comparison of past and present performance.
For today's call, Rod will provide an overview of our performance for the second quarter, then Jeff will discuss our results in more detail. After their prepared remarks, they will take your questions.
With that, let me turn the call over to Rod Hershberger. Rod?
Thanks Mick. Good morning, everyone. I'm pleased to report for the first time since 2006, we reported year-over-year sales growth as sales in the second quarter increased 4.6%, compared to the second quarter of 2009. While we are still experiencing difficult market conditions, we took actions necessary to increase sales in new markets and with new products.
Our growth was driven by our out-of-state sales, up $1.7 million or 28% compared to prior year, and growth in our quarter sales of 3% or $1.1 million. These increases were offset somewhat by decrease in sales into international markets which are down 28% or $700,000 from a year ago. These markets are experiencing similar trends that we saw in the United States over the past couple of years.
With regard to new products, our SpectraGuard lines with sales growing $800,000 leader out-of-state growth. Additionally, two new products had a positive impact on our Florida sales. First, our new PremierVue line of high-end vinyl impact products contributed $1.1 million in additional sales. Second, our new vinyl non-impact replacement product specifically designed for the Florida market contributed $600,000 in additional sales for the quarter. These new product increases were offset somewhat by lower WinGuard sales, which were down in all territories by $1.8 million.
Sales into the R&R market increased 6% over a year ago, while sales into the new construction market were essentially flat. As a percentage of total sales for the second quarter of 2010, R&R sales accounted for 76%, and new construction sales accounted for 24% of sales.
Comparing our second quarter to the prior year second quarter, sales increased $2.1 million or 4.6%, driven by an increase in both our repair and remodeling markets and out-of-state markets. Gross margin increased $600,000 from last year, due mainly to the increase in sales. As a percentage of sales, gross margin was 31.1% versus 31.2%, and was affected by a shift in mix toward non-impact products.
SG&A cost increased $1.4 million, due mainly to an increase of $700,000 in non-cash stock compensation expense and other compensation expense of approximately $400,000.
EBITDA was $5.3 million in the second quarter of 2010, which is down $800,000 from prior year. The decrease in EBITDA was driven mainly by the increase in compensation related expense. Net income was $1,000 in the second quarter, compared to a profit of $300,000 in the second quarter of 2009.
Within our core market, housing continues to show year-over-year growth as total starts in our core market were up 41% in the second quarter compared to last year, driven by an increase in single-family starts of 47%. This is the second straight quarter with year-over-year growth. As we mentioned in the first quarter conference call, we believe these starts were inflated somewhat by the tax incentives which expired on April 30th, 2010. This is evidenced by the fact that starts in the month of April were the highest for any month in the quarter.
Other positive lines suggesting the beginning of a recovery included a 25% increase in existing home sales compared to the prior-year quarter in our primary market of Florida and a decrease in inventory levels compared to the prior year in certain primary market cities, including 22% in Miami and 13% in Tampa. However, housing start levels are still much lower than what we would expect in a normal cycle, and many negative conditions remain, such as pending foreclosures, and high unemployment, which is still around 10% nationally and over 11% in Florida. All of these factors contribute to mix sale in the general marketplace or some believe we are in the beginning of a recovery and others feel that we are nearing a double-debt recession. Either way, we will continue to execute our strategic initiatives designed to provide growth in new markets and continue to dominate our core market of Florida.
Finally, I would like to update everyone on our recent energy initiatives. We announced in an April press release that we now have an R-5 impact Window, the first in our industry, further strengthening our leadership position in the impact market and demonstrating our abilities in the energy efficient window arena. R-5 windows have a U-factor of less than 0.22, which satisfy the requirement of the Department of Energy R-5 volume purchase program.
We also just received the US Department of Energy's “Save Energy Now” Award for achieving more than 7.5% total energy savings within our own manufacturing process. We are committed to driving down our energy consumption while helping consumers cut their energy costs. Here at PGT, we have a long history of providing superior customer service and high quality products for over the past 30 years.
However, just like we did with impact products in the mid 1990s, we recognized that it is imperative to be mindful of and prepared for the future which we feel will continue to steer more and more towards structurally found energy efficient product.
With that, I will turn the call over to Jeff who will review the results for the quarter in greater detail.
Thank you, Rod. Let me give you more details on our second quarter results. We reported net sales of $29 million for the second quarter, an increase of 4.6% versus the prior year’s second quarter. This increase was driven by sales into the R&R market of 6%. Our sales into our new construction market were slightly down. Sales in the R&R market which represented 76% of our total sales were driven mainly by our replacement vinyl product, SpectraGuard, which continues to gain market share and is up 66% compared to prior year’s second quarter.
In the new construction market, housing starts were up in Florida at 41% or approximately 3,100 units. With our new construction sales essentially flat, we have not yet realized the benefit of this increase in new housing starts. There are two main regions for this: first, to withstand the severe reduction in new construction starts, a significant number of our dealer switched their emphasis to the R&R market over the past few years. Second, a large number of the increase in housing starts, our homes price in the low end of the market which generally request a lower price window consistent with the order trends we experienced in our first quarter.
Our second quarter sales within our core market Florida were 81% of total sales compared to 82% last year. Our initiatives to grow our out-of-state distribution network in targeted markets outside of Florida continue to move forward. Those areas are heavily nominated by vinyl windows and doors. Also, our core market of Florida is shifting more towards vinyl, especially in the North and Central Counties.
I am pleased to report that we have increased total vinyl sales, an average of 16% sequentially since we launched our SpectraGuard line in the first quarter of 2009. This includes vinyl WinGuard sales who were up 11.5% during the same time period. Vinyl WinGuard benefited from the increase of distribution gain through our SpectraGuard launch. Our WinGuard products continue to lead our sales, representing approximately 62% of sales in the second quarter of 2010, compared to 69% of sales for the same period a year ago.
Breaking down our sales drivers for the second quarter compared to 2009's second quarter, we have WinGuard impact sales $30.5 million versus $32.3 million, down 6%; aluminum non-impact product sales $5.8 million versus $5.9 million, down 2%; architectural system sales were $3.1 million versus $2 million, up 55%. Our new high-end vinyl impact product line PremierVue, sales were $1.1 million and there were no sales in the second quarter of 2009. Vinyl non-impact in other product sales were $8.5 versus $6.7 million, up 0.7%.
Our gross margin for the second quarter was 31.1% versus 31.2% in the second quarter of 2009. Our decrease in gross margin percentage of 10 basis points was driven by a change in mix towards non-impact products which reduced our margin 230 basis points, offset somewhat by an increase in volume, which improved margins by 30 basis points and savings generated from cost reduction initiatives taken in the back half of 2009, which improved margins by approximately 180 basis points. With respect to mix, our vinyl non-impact products carry a contribution margin of approximately 21%.
While incremental vinyl sales are good for our top line and cash flow, and help achieve part of our overall strategy to grow in selected markets outside of Florida, they do carry a lower contribution margin compared to our impact products, whose contribution margins range from 45% to 60%. This negative gross margin mix will continue to impact us until we see our core market, Florida, start to grow and a more stringent enforcement of codes outside the state of Florida.
Our average cost of aluminum was approximately $2,036 per metric ton during the second quarter, comprised of spot purchases averaging $2,083 per metric ton for approximately 45% of our needs and hedged purchases averaging $1,998 per metric ton for 55% of our needs. This compares to second quarter of 2009’s average price for aluminum of $2,074 per metric ton. We are currently hedged at approximately 60% of our estimated needs for the remainder of 2010 at an average cost of $2,100 per metric ton.
During June, we also began to price coverage for 2011. We are currently hedged approximately 25% of our estimated needs for the first half of 2011 at an average price of $2,012 per metric ton.
Our selling, general and administrative expenses were $13.9 million, up $1.4 million compared to the prior year's second quarter. Driving this increase was non-cash stock compensation expense of $700,000, $400,000 related to a partial return of salary reduction, each salary employee took beginning in the second quarter of 2009; $200,000 in increased fuel cost and overall higher spending in various other categories of approximately $100,000.
SG&A as a percent of sales was 28.4% in the second quarter of 2010, compared to 26.8% in prior year's second quarter. Excluding non-cash stock compensation expense, SG&A as a percent of sales was 26.6% and 26.3% respectively. Going forward, we anticipate non-cash stock compensation expense to be $1.3 million for the remainder of 2010 and $1.7 million in 2011.
Interest expense was $1.3 million compared to $1.7 million in the second quarter of 2009. The decrease primarily relates to lower debt compared to prior year, as we made $29 million in prepayments in the last 12 months, as well as the lower interest rates. At the end of the Q2, the interest rate on our bank debt was 6.75% based on our credit agreement and its tiered interest rate structure.
During the second quarter, we recorded tax expense of $77,000 related to a true-up for our actual tax refund of $3.7 million was seen during the quarter and our estimate we booked in 2009. As for the true-up, we have an effective tax rate of zero percent due to the full valuation allowance that we applied to our deferred tax assets, which was also consistent with the second quarter of 2009.
Going forward, we anticipate our tax rate to be in the range of 38% to 39%, absent any further adjustments to the valuation allowance. As we become more profitable, we will be in a good position to realize our deferred tax assets by offsetting future income. We had a net income in the second quarter of $1,000 or zero cents per diluted share versus net income of $342,000 or $0.01 per diluted share in the second quarter of the prior year. As a result of the rights offering completed near the end of the first quarter, weighted average outstanding diluted shares increased to $54.3 million in the second quarter versus the prior year's weighted average outstanding diluted shares of $36.6 million.
EBITDA for the quarter was $5.3 million or 10.7% of sales versus EBITDA of $6 million or 12.8% of sales for the second quarter of 2009, a decrease of $752,000, due mainly to the previously mentioned $700,000 increase in non-cash stock compensation expense and other compensation adjustments of approximately $400,000.
As additional information, our second quarter depreciation and amortization totaled $3.9 million, a reconciliation of the net income in EBITDA is included in our earnings release for your reference.
Turning to our balance sheet. During the quarter, our net working capital excluding cash decreased by $2.7 million compared to end of our first quarter. This decrease in net working capital was primarily the result of a tax refund received of $3.7 million, offset partially by our increase of $1.4 million in accounts receivable consistent with this sequential quarter sales increase.
DSOs decreased to 40 days during the quarter which is our lowest level since 2008 as our credit team continues to do an outstanding job in the tough environment. In the reviewing free cash flow for the second quarter, we had an EBITDA adjusted for non-cash stock compensation of $6.1 million; capital additions of $760,000; cash paid for interest of $1 million; income tax refund of $3.7 million; we used $1 million for non-cash related working capital, mainly accounts receivable. Additionally, we used $200,000 cash for other items including aluminum contract settlements giving us free cash flow for the quarter of $6.8 million, and a cash on hand of $22 million in the second quarter.
Our net debt in corresponding leverage ratio in the second quarter of 2010 was approximately $31 million and 2.2 times. This compares to a net debt of $38 million at the end of the first quarter.
We enjoyed increased building activity during our second quarter and have a solid quarter in terms of operating performance. However, uncertainty in the housing market with the oversupply of housing and the flood of foreclosure, as well as access to credit markets remain an issue for our industry.
Our core market Florida and its economy in housing industry will recover as we have begun to see signs of stabilization. The recession’s impact on the state economy was more severe than the rest of the nation, and accordingly we are anticipating the Florida recovery will take longer. We feel the changes put in place over the past two extremely difficult years and a continue dedication of our PGT team to service our customers, will lead our company forward. We plan to continue introducing new products in order to meet, anticipate changes in demand, as well as increase our distribution networks in new markets.
With that, let me turn the call back over to Rod.
Thanks Jeff. Our purposes remain the same over 30 years of operations and that is to provide piece of mind for innovative solutions that protect families and property. Over the more recent past since 2007, we have gained experienced with new customer and new markets and a new construction application, such as curtain-wall and high-rise condo buildings. We are committed to both the out-of-state growth initiatives and the continued dominance of our core Florida market where the growth in Vinyl has started to blur the once discernable line between aluminum and vinyl products within this state.
We will continue to focus on enhancing our customers experience with our quality products and service in both our core market and in our new distribution channels. I think all our employees and customers who are continuing to believe in us, committing to our strategy and outperforming our expectations.
With that, I will conclude and Jeff and I will be happy to answer you questions. Ally, if you could set it up for the question please.
(Operators Instructions) Our first question comes from Nishu Sood of Deutsche Bank. Please go ahead.
I just wanted to ask about you guys have done a good job with your new product launches, so I wanted to get a little more color on that R-5 line and then, the new product launches have done a nice job increasing sales. Is this something that’s going to continue to add momentum in the future in terms of further launches?
Jumping on the R-5 line a little bit, does that match the need or the requirements of the Department of Energy as for their volume purchase program. So even though we had the first R-5 impact window out there, we are still going through the registration process with the Department of Energy and there is (inaudible) times that you have to apply for that, and it was then actually listed on their website and I think it will take us another probably four to six months, I think is the next opening to be listed in that.
We are not quite sure what that’s going to mean for us sales wise. I think what it means for us internally is our ability to lead the impact market and not only lead the impact market, to lead the impact market with the most energy efficient product out there, and it kind of makes the statement for us. The second part of the question while we are talking about new product introductions, we’ve been pretty aggressive over the last two or three years with new product introductions, with our SpectraGuard line, our new construction vinyl window, our (inaudible) replacement window, a complete new line of multi-panel, high-end, high performance sliding doors and you can expect to see us continue to be fairly aggressive in new product launches that serve the not only the impact needs, but the energy needs of the market that we serve.
And what was the WinGuard gross margin? I don’t think I got that.
WinGuard gross margin was 41%, and then all other was 15%
Our next question comes from Michael Rehaut of JPMorgan. Please go ahead.
Jason Marcus - JPMorgan
The first question is, I just wanted to hear your (inaudible) giving your high-end products do you think that that’s going to impede your ability to generate the way you used to, just given the current economy?
You know what, we don’t think so. What we’ve seen, you have heard us talk a lot of times about product mix and product mix changes, but we don’t necessarily view that as a really bad thing, obviously we’d like to be selling more impact product, but the geographic areas we are selling the product into are areas that we believe will require impact product or higher end product. It’s just not a matter really good enforcement right now, the existing code is actually in place. So, it’s not necessarily that it’s a more expensive product. It’s a product that’s designed to meet the needs of geographic areas that we are serving and it’s our part of our job to make sure that the enforcement and that’s something we’ve always done as a company the education and enforcement of code in making sure that we are teaching people what's needed for those areas are continuing to do that. It definitely is a tougher economy right now to get that message across where goal number one is let’s build a few more houses or let’s remodel a few more house then goal number two is let’s make sure they are putting the right product in there and being inspected correctly. But we think we are still on track for that very well.
And I think it’s also important to have products within our portfolio to touch different points in the market. As we had mentioned the contribution margin on the non-impact vinyl, it’s relatively low 20% that’s a lower price product compared to our impact stuff. So PremierVue obviously is going to be more geared towards a higher premium on that window because of what it offers. I mean we’ve already got $1.1 million in sales in the quarter and it’s just now really starting to get into our distribution network. And our other new product the door is fighting last door, it was well received. We had almost $4.5 million of sales from our door in the quarter. We are actually achieving success with higher price products in a tougher market, once the market does turn around we expect a whole lot more success, but we are happy.
We realize we are not the only person serving the high-end market but we are one of very few. So, the competition for the needed product is not quite as great as you know lining up 10 people and saying who gives me the best price.
Jason Marcus - JPMorgan
I guess leaving from that, can you talk a little bit about the competitive environment?
Yeah, probably not as many changes in the competitive environment in this last quarter or even this half of the year that we have seen in previous years. The economy I don’t know that we want to sit here and say it’s stabilized because we don’t know that for sure. What we are seeing from a sales perspective is a little more positive signs out there. It’s not dropping any more. So I think there are some competitors that are [cheatering] a little bit, but we saw one or two people either go out of smaller competitors go out of business. We’ve seen some people show up their financial situation, you know come out of bankruptcy and operating. We are seeing pretty competitive bid activities, I wouldn’t say more competitive than what we have seen in the past. The commercial side of the business is tough, it’s seeing a little bit more of the residential side, saw a couple of years ago, so we are seeing some of the backlogs and commercial bidding activity. Actually the bidding activity is starting to pick up a little bit but commercial activity is at a pretty low point right now. So, that’s kind of a 30,000 foot view of what we are seeing out there.
(Operators Instructions) Our next question comes from Sam Darkatsh of Raymond James. Please go ahead.
Sam Darkatsh - Raymond James
A couple of questions. I am not sure if this will able to quantified or not, but Rod, is there any way to actually gauge or ascertaining the favorable impact of the home owner tax credit and maybe the energy efficiency credits that the consumers have on near term or go-forward results?
That’s a really tough thing for us to gauge, Sam. In the market that we primarily serve and we are still about 80% in Florida, if you start doing and I’ll not get too tactical on you. But if you do a lot of the calculations, particularly like in the Tampa area, the added cost to a product to achieve the 30-30 30 u-value, 30 solar heat gain proficient adds more cost to the window than you would receive in the tax credit and the ongoing savings in your energy. Our market is not driven so much by u-values, it’s driven more by solar heat gains. So meeting the criteria that you need which we can do doesn’t save you quite as much money as you would think.
Out-of-state or northern market, it definitely has an advantage, just a little bit tougher for us to really quantify that, because that’s a small portion of the market for us. We are seeing some huge growth and we are attributing some of that growth to really two things, one of them is the 30-30 tax credit which one who is me and the other is the geographic areas where we are recognized as the impact expert and we are selling product in there, although that product. So, I don’t know that it makes a huge difference in our core market. We are anxious looking at what Home Star is going to do. There is a little bit more criteria around Home Star and meeting energy star, which we believe actually saves people more energy in Florida than the 30-30 tax credit may, and it also depending on how those windows are installed and who is certified to do it may offer you some larger tax rebate. I think it’s sitting in the center right now.
Sam Darkatsh - Raymond James
Second question, there are some moving parts with the stock compensation and the changes in other employee compensation. SG&A leverage going forward Jeff, I wish we look at variable versus fixed in the Opex line?
In terms of as a percent of sales start there, I comfortable with what we’ve presented here, it’s 26.6%. I don’t think it’s getting the much better leverage in that on a go-forward basis. I mean we are just going have to get some more volume. We’ve taken a lot out of SG&A. We can take more out but that will mean volume is falling off. So, we don’t plan on that obviously we are currently comfortable with our cost structure based of the volume we are seeing. So, in terms of your modeling, 26.5% or so is probably a good benchmark for that, in the variable component of SG&A it’s mainly centered around distribution and obviously sales commission. Commission would come down according to volume, distribution would at a certain degree but there is a fixed component of that as well, and then of course all the over heads administrative top overheads, but again we don’t look to cut there based off our current volume trends we see. We think we are in good enough shape to maintain it and grow from here.
Sam Darkatsh - Raymond James
To what? 50%-60% fixed you think or how do we look at that?
Closer to 80% fixed.
Sam Darkatsh - Raymond James
Of the overall Opex?
Sam Darkatsh - Raymond James
And then, did I hear you right that the non-cash stock compensation will continue or was that one-time item in the quarter?
No, it will continue. The one-time item I called out was just the incremental increase, that $700,000 was how much more it was in this quarter versus last year’s second quarter. So, for the entire year for 2010, the total stock comp expense I’ve got it estimated at $2.3 million and that’s the combination of some, this past quarter we repriced some of our options. We basically cancelled old options and issued new. Even when you do that you still have the expense of the old you’ve got to take care of, this and accounting being on, say guidance if you will, we don’t necessarily agree with that, but you still have that old expense, even though those options are not around, so the magnitude of the expense is probably heightened. So, for 2010 it’s going to be at $2.3 million, but if you looked quarter-over-quarter, it’s up $700,000 versus last year.
Sam Darkatsh - Raymond James
And was there a stock comp expense in Q1 or was that into the next year, here in Q2?
No, it’s a little over $200,000 in Q1, but we did the repricing in Q2.
Sam Darkatsh - Raymond James
Got you. And then the last question I have, normally Q3 is little softer than Q2 from the seasonal aspect. Do you anticipate that typical seasonality to hold or would things slow, or accelerate a little bit from normal seasonality.
That Sam is a good question. As we look through the quarter, months-to-month, April, May, June, sales were relatively flat. It wasn’t like it was a spike within the quarter. If you looked at April, our average April weekly sales was $3.8 million, our average May sales was $3.8 million, June dropped a little not much $3.7 million. So the quarter itself was fairly flat on weekly basis. As we entered July, no change, I think we are at roughly $3.6 million and for July maybe approaching $3.7 million. So, with that said we have historically dropped off or tapered off in the third quarter versus our second quarter. If the market for some reason steeped, the economy starts turning more robust than what was out there, that trend could change. I don’t anticipate it changing. Now to be honest with you, we have given all the certainly that is still out there. So, I do expect our third quarter to be less than our second in terms of sales.
Yes Sam, I mean you can almost just watch when the school starts around the country, and it’s anywhere from a week or two from now until early September. So, people just aren’t interested in having the house worked on during that time period, they are getting their kids back to school and we understand that. So, we see a little bit of drop off then, and then sometimes you see a little bit of spike after that, but it makes it a little bit slower.
The only thing that can change that would be hurricane. You know, a hurricane definitely impact some, maybe called a blip or a delay and then (inaudible) depending on how damaging it was. That’s the probably only thing I would add.
And I’m showing no further question at this time. I would like to turn the call back over Jeffery P. Jackson.
Thanks operator. Thank you for joining us today. We look forward to speaking with you again next quarter. If you have any question please call me, and have a great day. Thanks.
Ladies and gentlemen, that does conclude today’s conference. You may all disconnect and have a wonderful day.
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