Lawson Products' (LAWS) CEO Mike DeCata on Q2 2014 Results - Earnings Call Transcript

Jul.26.14 | About: Lawson Products, (LAWS)

Lawson Products, Inc. (NASDAQ:LAWS)

Q2 2014 Earnings Conference Call

July 24, 2014 09:00 AM ET

Executives

Mike DeCata - President and CEO

Ron Knutson - EVP and CFO

Analysts

Jack O'Brien - CJS Securities

Operator

Good morning, ladies and gentlemen, and welcome to the Lawson Products Second Quarter 2014 Earnings Call. This call will be hosted by Michael DeCata, Lawson Products' Chief Executive Officer; and Ron Knutson, Lawson Products' Chief Financial Officer. They will open the call with an overview of the second quarter results. There will then be time for questions-and-answers.

This call is being audio simulcast on the Internet via the Lawson Products Investor Relations page on the Company's Web site, lawsonproducts.com. A replay of the webcast will be available on the Web site through September 2, 2014. During this call, the company will be providing an update on the business, as well as covering relevant financial and operational information.

I would like to point out that statements on this call and in the press release contain forward-looking statements concerning goals, beliefs, expectations, strategies, plans, future operating results and underlying assumptions, are subject to risks and uncertainties that could cause actual results to differ materially from those described.

In addition, statements made during this call are based on the Company's views as of today. The Company anticipates that future developments may cause those views to change. Please consider the information presented in that light. The Company may at some point elect to update the forward-looking statements made today, but specifically disclaims any obligation to do so.

I will now turn the call over to Lawson Products' CEO, Mike DeCata.

Mike DeCata

Good morning and thank you for joining our call. We appreciate your interest in Lawson Products, and we're excited to share the progress we've made with you today. As we've done in previous calls, I'll first comment on three main areas, growing top line sales, continued operational improvements and the drive toward improved profitability. Ron will provide a financial update, and then we'll take questions after that.

Our focus on top line sales; first, let me say we're very pleased with the progress we've made this quarter. Sales for the quarter at $72.1 million were 5.5% up over a year ago. ADS was 5.5% versus a year ago and 2.6% improvement over the previous quarter, over the first quarter. Our sales team continues to drive results.

We added 42 sales reps during the second quarter. This is on top of the 30 sales reps we added in the first quarter. The new sales reps are spread throughout North America. For example, we added 15 sales reps in California, we added nine sales reps in Texas, seven sales reps in Louisiana, and 20 sales reps in Canada. We ended the second quarter with 878 direct sales reps. We're also pleased with the caliber of candidates we're seeing for these positions.

The hiring and on-boarding pilot that we conducted last year enables us to improve and enhance the processes associated with hiring these new sales reps. For example, we've expanded our training program to include specific product demos, as well as lead development skills. With the 72 additions year-to-date, we're on track to achieve the 15% to 20% net new sales reps in 2014.

We're also pleased to see improving productivity from our existing base of over 800 sales reps. Excluding reps that joined us in the last 15 months, sales reps – sales of existing reps were up approximately 4%. We anticipate that we will continue to aggressively add sales reps in 2015.

Next, let me turn to continued operational improvements. We continue to see improvements in many of our daily metrics, back-orders, line service levels and order completeness. These have a positive impact on outbound freight cost, customer satisfaction, distribution center productivity, and sales rep productivity.

We continue to refine our operating and inventory processes with a focus on productivity and removing non-value-added activities. For example, we recently implemented an economic order quantity process which is helping us drive up customer order completeness rates as well as DC labor productivity and with a minimal impact on inventory investment.

The Lean Six Sigma methodology, which we've begun developing since mid-2013, is also paying dividends. During this quarter, 31 employees, including four field sales employees, earned Green Belt or Black Belt certifications. This will begin to transform our culture and will reinforce our focus on customer service and operational excellence. For example, by using this methodology, one of our sales teams -- sales districts took their DSO greater than 60 days from $16,000 to $3,200.

In terms of other process improvements, our talent acquisition team has used the Lean Six Sigma methodology to shorten the hiring process. We anticipate that we will continue with a set of Wave 2 projects in the second half of this year. McCook is operating more efficiently, now that we're a year into it, with less overtime, reduced cycle times and improved throughput.

We continue to drive improved profitability. We're very pleased with our financial results this quarter. During the second quarter, our operating income was $1.2 million, compared to an operating loss of $1.8 million before the Reno impairment in the first quarter. Gross margins have stabilized despite increasing success with strategic accounts. This is positive reinforcement that our customers value the products and services that we provide.

Expenses also continue to be managed tightly. We're continuing to make smart investments in our business and allocating the capital to achieve future growth. Additionally, we closed on the sale and partial-leaseback of our Reno facility in the second quarter. Since the sale of Rutland Tools, we've only used approximately 50% of that facility. Net proceeds were used to pay down our credit facility.

It is important to note that our distribution network is capable of significant growth without any additional brick-and-mortar investments. Now that we've divested the non-core operations, we're able to focus on our core MRO business. Lastly, we're confident that our value proposition remains strong. We're seeing broad-based growth from large and small customers.

The fundamentals of our business are strong, allowing us to make investments to grow the Company. Looking forward, we have hard work ahead of us. The second half of the year has two fewer selling days than the first half. However, there's an enthusiasm in the company that we haven't seen in a while.

Now, let me turn it over to Ron for a more detailed financial review.

Ron Knutson

Thank you, Mike, and good morning, everyone. As Mike indicated, we are very pleased with our operating and financial performance in the second quarter. We are clearly realizing the benefits of our previous investments and have established a platform for growth of the Company. In 2014, we are focused on growing revenues by expanding our sales team and by investing in the productivity of our existing sales reps, and at the same time, we are managing our costs closely.

I will now share some of the highlights for the quarter. First, our operating income was $1.2 million for the quarter. This compares to an operating loss of $201,000 from a year ago and a loss of $4.7 million in the first quarter of 2014. Second, sales finished at $72.1 million for the quarter, during which there were 64 selling days. This represents an increase of 5.5% over the year-ago quarter and an increase of 2.6% over the first quarter.

Third, we added a net 42 direct sales representatives, from 836 at the end of the first quarter, ending the second quarter with 878 direct sales reps. This is on top of the net 30 sales reps we added in the first quarter and puts us on target to meet our 15% to 20% rep growth, as previously communicated.

And finally, we completed our previously announced sale and partial-leaseback of our Reno, Nevada Distribution Center for $8.6 million. As you recall, since we sold our Rutland Tools subsidiary, we've only been utilizing less than one-half of the facility. These proceeds, along with managing our working capital, allowed us to end the quarter with $2.4 million of outstanding debt under our credit facility, a decrease of $9.2 million from the first quarter.

Let me now share some of the details. We finished the quarter with $72.1 million in MRO sales compared to $68.3 million a year ago and $69.2 million from the first quarter. The second quarters of both 2014 and 2013 included 64 selling days, while the first quarter of 2014 only had 63 selling days. For the second quarter, average daily sales increased 5.5% over a year ago and were up 2.6% sequentially over the first quarter.

This is on top of the 1.9% Q1 over Q4 of 2013 increase. This also represents the fourth consecutive quarter that our sales increased versus a year ago. Both the increase over a year ago and over the first quarter were primarily driven by additional productivity from existing sales reps and a higher average rep count. Our rep count is now increased for five consecutive quarters.

New reps will have a positive impact on our average daily sales in 2014 and future years, as they build out their respective books of business. However, as you might expect, adding new sales reps will temporarily bring down our sales per rep per day productivity measurement, as the newly hired sales reps are in the early stages of building up customer relationships in their territories.

We felt this impact in the first two quarters of 2014 with our aggregate sales per rep per day decreasing 1.6% in the second quarter from the first quarter. Excluding those reps that joined us since the beginning of the prior year quarter, sales per rep per day increased nearly 4% versus a year ago and were also positive over the first quarter. Over a longer term period, we fully expect that adding sales reps will drive top line sales.

We have rebuilt our hiring and on-boarding process, which has allowed us to attract qualified sales reps with previous selling experience and many with in-depth product knowledge. We are making early investments in this team to ensure that they can ramp up quickly. As we move throughout 2014, we plan to aggressively add sales reps in under-served territories.

From a segment standpoint, strategic accounts now represent approximately 14% of our total volume and increased nearly 10% over the prior year quarter. This increase was driven by a combination of signing new accounts and the expansion of existing relationships. Our Kent Automotive business was also up approximately 20% as compared to the year-ago quarter, primarily driven by new business and now approximates 17% of our business.

These increases were partially offset by a decline in our government segment, as government spending continues to contract. From a sequential average daily sales basis, April sales finished at $1.116 million, May finished at $1.136 million, and June finished at $1.127 million. Average daily sales have been trending up over the last three quarters.

For the quarter, gross margin was 60.8%, which is slightly ahead of our expectations. This is up over a year-ago margin of 59.5%, primarily due to improved freight operations and distribution center efficiencies. We continue to take advantage of margin opportunities wherever possible. Increasing strategic customer relationships will continue to put some downward pressure on our gross margins. However, we expect this to be partially offset by other procurement opportunities and operating efficiencies.

Selling, general and administrative expenses decreased as a percent of sales from 59.8% a year ago to 58.9% and were $42.4 million for the second quarter compared to $40.8 million a year ago and $43.1 million in the first quarter. The increase over a year ago was primarily driven by higher recruiting, on-boarding and salary costs of new sales reps and severance expense, partially offset by lower compensation and McCook efficiencies. We continue to tightly manage our ongoing operating costs.

Adjusted operating income, taking into account stock-based compensation, severance and the impairment of Reno, was $2.1 million for the quarter versus $54,000 for the first quarter of 2014 and a loss of $123,000 from the year-ago quarter. This improvement was primarily driven by improved sales, enhancing our margins and controlling our operating costs. Net income for the quarter was $798,000 or $0.09 per diluted share, compared to a net income of $397,000 or $0.05 per diluted share a year ago, which also included a positive tax benefit.

From a balance sheet perspective, we ended the quarter with $2.4 million of outstanding debt under our credit facility. The $9.2 million decrease from the end of the first quarter was primarily driven by the net $8.3 million proceeds received on the sale of Reno and close management of our working capital. Year-to-date CapEx was $917,000. We expect our CapEx for the full-year of 2014 to be in the range of $3 million to $4 million, primarily in maintenance capital for our distribution network and planned re-profiling of the space being leased in Reno.

In closing, we are very pleased with our financial progress over the past few quarters. We continue to strengthen the operating fundamentals of the business. We're excited about the business and the progress that we've made and our ability to improve the operations of the business and execute on the initiatives that are driving the Company forward. As we look into the second half of the year, we feel confident that our initiatives will continue to grow our business.

I'll now turn it over to the operator for questions.

Question-And-Answer Session

Operator

We will now begin the question-and-answer session. (Operator Instructions) Our first question comes from Jack O'Brien from CJS Securities. Please go ahead.

Jack O'Brien - CJS Securities

You guys have been talking about the success you've had with existing sales reps. I was hoping you could give us some color on what the driving factors behind this productivity has been.

Mike DeCata

Yes. Jack, this is Mike DeCata. Thank you for that question. There are a number of factors. First, as we've taken away any of the, let me call it, friction, the inefficiencies around order fill rate, back-orders, it's important when a sales rep makes a promise to the customer that the promise can be delivered seamlessly and flawlessly. When there's anything that doesn't work, that takes time for the sales rep to attend to fixing it.

So, operational excellence is a big part of driving sales rep productivity, as well market segmentation and putting tools in the hands of sales reps and training in the hands of sales rep. All of that drives productivity of the sales reps. And just sort of better align -- better training and operational excellence, all have that impact on driving sales rep productivity and our actions we're taking in the future to continue to drive more sales rep productivity.

Jack O'Brien - CJS Securities

Okay. And then while you guys are adding new reps, it sounds as if you're hiring pretty high quality people. And with that in mind, I was wondering if you could give us any insight on how the new rep sales are measuring up against your initial expectations for them.

Ron Knutson

Sure, Jack. This is Ron Knutson. So, as you know, we've been hiring -- sales reps actually have grown on a net basis for quite a few quarters. And I would say that there's a wide variation between the reps. Some of them are hitting grand slams and others are continuing to build out their market. So, right now, we feel comfortable with the trend rate that we're on as a whole with the new reps that we're hiring on a quarterly basis. As we look forward, I know – I've made this comment in the past, there is a ramp up period. I think that's certainly our expectation and its just reality. In effect, the reps that we're hiring in 2014, really the benefit of those reps from a sales perspective to the Company will really come probably more so in 2015 and 2016 and future years. So, there certainly is an investment in the first year, and we're looking for more growth in year-two and year-three as they build out their book of business.

Mike DeCata

And let me add. As we've gone through this process, now that we're back on to the trend of hiring sales reps, the pilot that we conducted in 2013 around the on-boarding, the training, even the selection process, the interview process, all of that now -- we're through this Lean Six Sigma process -- we're looking at the time it takes to fill the rep job both from a replacement rep where there is an existing book of business as well the greenfield rep. But all of this -- sort of this systemic approach to bringing reps on, we believe will have the impact of compressing that period until they become more profitable. So, if we can compress a month or two out of it, they become profitable that much quicker.

Jack O'Brien - CJS Securities

All right, great. And then last quick question; you guys addressed us a little bit in your prepared remarks, but looking at sales rep hiring for next year, can we expect it to be on kind of the same track that we're on right now or any color you can give?

Mike DeCata

Yes. We're in the beginning stages of thinking through the on-boarding process. Certainly there is vacant territory out there in every market, with such a large available market to us. So we are clearly on a path to add more reps. The absolute number will depend on the ability to bring them on, district sales managers' ability to train them and on-board them, so all of those are considerations. We don't have a really good sense, but it will be a material number again next year. I'm not sure if it will be as large as this year or not.

Operator

(Operator Instructions) This concludes our question-and-answer session. I would like to turn the conference back over to Mike DeCata for any closing remarks.

Mike DeCata

Thank you, Kate. Appreciate that. Thanks again for your interest in the Company. We're pleased with the second quarter results. Clearly, the Company has turned the corner, and it's enabled us to focus on three primary areas, which will continue to be our focus in the future; first, top line growth; second, operational excellence; third, improving earnings.

We're making progress on all of these areas by improving customer service and also by investing in our teammates. Lastly, I would like to take this opportunity to thank the hardworking and dedicated people at Lawson Products. Their dedication, professionalism has enabled us to grow and improve the service we provide our customers. Thanks again and have a great day.

Operator

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.

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