Houston Wire & Cable's (HWCC) CEO Jim Pokluda on Q2 2014 Results - Earnings Call Transcript

Aug.10.14 | About: Houston Wire (HWCC)

Houston Wire & Cable Company (NASDAQ:HWCC)

Q2 2014 Results Earnings Conference Call

August 7, 2014, 11:00 AM ET

Executives

Jim Pokluda - President and CEO

Nic Graham - Vice President and CFO

Analysts

David Mandell - William Blair & Company

Sam Darkatsh - Raymond James

David Manthey - Robert W. Baird & Co.

Operator

Ladies and gentlemen, thank you for standing by. Welcome to Houston Wire & Cable Company's Second Quarter 2014 Earnings Conference Call. My name is Krystal and I will be your operator for today. Joining us on the call today are Jim Pokluda, President and Chief Executive Officer, and Nic Graham, Vice President and Chief Financial Officer.

Today's call is being recorded for replay purposes. And all participants are currently in a listen-only mode. At the end of the financial discussion, we will conduct a question-and-answer session and instructions will be given at that time.

Comments during today's call may include forward-looking statements. Any such statements are based on assumptions that the company believes are reasonable, but subject to risk factors that are not summarized in press releases and SEC filings.

Forward-looking statements are not guarantees and actual results could differ materially from what is indicated in such statements. Any forward-looking statements speak only as of the date of this call and the company undertakes no obligation to publicly update such statements.

If you did not receive a copy of the earnings press release that was distributed earlier this morning, a copy can be found under the Investor Relations page of the company's website at www.houwire.com.

At this time, I would like to turn the call over to Jim Pokluda, President and Chief Executive Officer. Please begin when you're ready.

Jim Pokluda

Thank you, Krystal. Good morning, everyone, and thank you for joining us on our call today. I'll begin today's call with an overview of our second quarter 2014 performance, and then I will turn the call over to Nic, who will discuss our financial results in greater detail.

We're very pleased to report another record revenue quarter as sales increased 4.2% over the prior year quarter or approximately 7% when adjusted for deflation in metal and 4% sequentially. We estimate that approximately 65% of our total revenues resulted from maintenance repair and operations activity and approximately 35% from project activity.

Transactional volume, which we measure as total invoice count, and consider a helpful metric for gauging improvement in our market share, increased approximately 5% over Q2 2013's level.

We're especially proud of this accomplishment as it represents both the second quarter record and by a strong margin, a new company record for any single quarter period.

We believe continued success from our multiple business development initiatives; including our distribution platform expansion and contributions from our product line expansions, including aluminum cable and specialty oil and gas cables, were meaningful contributors to these results.

Positive sales growth and momentum trends continued in our core business which services MRO demand -- continued in the second quarter. MRO sales increased approximately 2% over the prior year or approximately 5% on the metal's adjusted basis. This marks the seventh consecutive quarter our MRO revenues beat the prior year's quarter and also represents a new MRO revenue record for any quarterly period.

Improved market conditions in the Midwest and continued end market recovery in the Eastern regions as well as steady demand in oil and gas markets were the primary contributors to these results.

Second quarter sales results in the project area of our business increased 8% versus the prior year period or 11% on the metals' adjusted basis. Industrial and market demand, primarily led by improving Midwestern markets and regions with steady activity upstream in midstream oil and gas transfer storage and infrastructure were the major drivers of our results.

Moving forward into the second half of the year, despite somewhat inconsistent spend trends in certain geographies and industrial end markets, our outlook remains positive. Many macroeconomic indicators point to solid core economic growth for the balance of 2014.

Although we're often frustrated with the slow recovery and inherent inconsistencies associated with large capital projects, our overall internal performance metrics and results are encouraging, and we believe, illustrate our ability to execute in the present environment. Based on the above and our year-to-date results, we continue to expect low single-digit revenue growth and mid to high single-digit earnings growth for the year.

I would like to close my prepared remarks by reinforcing that HWC's customers continue to gain extensive leverage from HWC's value propositions. That the long-term fundamentals of our market are intact and slowly growing and that we believe we're gaining market share.

Our new distribution centers are meeting internal expectations, sales of new products continue to improve, operational performance metrics are outstanding, and customer penetration and satisfaction continues to grow.

I will now turn the call over to Nic Graham, our Vice President and CFO for a detailed analysis of our financial results. Nic?

Nic Graham

Thanks, Jim, and good morning, ladies and gentlemen. Another solid performance where our sales showed healthy increases over the prior year quarter and sequentially.

Transactional activity is also improving and we continue to see slightly more consistent signs that demand has begun to slowly return to more of our underperforming regions. We also experienced steady contributions from several of our business development initiatives.

Our gross margin was up 10 basis points sequentially at 21.7%, but down 20 basis points from last year. The comparative nature of the marketplace that we have mentioned for several quarters is still the norm in many of our regions.

Operating expenses, while flat for the prior year quarter as a percent of sales at 15%, increased $0.7 million or 4.7%. This is primarily due to the investment in the Odessa, Anchorage, and Minneapolis distribution centers and higher operations compensation expenses. These additional expenses were partially offset by the savings generated from our expense reduction initiative which commenced earlier this year.

Operating income as a percent of sales increased sequentially to 6.7% from 6.3%, but fell short of the comparable year quarter's to 6.9%.

Our interest rates remain relatively low, but as expected in accordance with the terms of our loan agreement, the effective rate increased from Q1 2014's 1.9% to 2.1% in Q2. Interest expense was higher than the prior year period as average debt increased.

As a full rate taxpayer, our tax rate of 38.4% was consistent with the recent trend, but down slightly from the prior year quarter due to slightly lower state tax rates in 2014. Net income at $4 million was 0.5% lower than Q2 2013, but up 7.6% sequentially.

Turning to the balance sheet, our working capital investment decreased 4.1% or $5.5 million from Q1 2014's level. This was primarily due to accounts receivable which decreased $3.1 million despite the increase in sales as cash collections were better than expected. A $4.6 million decrease in inventory offset by a $2.1 million lower tax liability as taxes were paid.

Our receivable metrics including aging and days sales outstanding remained within recent historical levels. The net income generated and the reduction in our working capital investment combined to produce record second quarter cash from operations of $10.6 million.

Capital expenditures for the quarter were $0.3 million lower than expected as the refurbishment work at the new facility for Southwest Wire Rope in Houston into which we will consolidate four existing Houston locations, did not progress as planned. We now expect the work to be completed and the projected move in during the fourth quarter.

We were able to reduce our debt level which fell $5 million during the quarter. Our debt-to-equity ratio now stands at 47.9% and including the bank overdraft at 50.1%. These are both very manageable levels and remain within recent norms. Availability under our $100 million credit facility was $46.8 million, more than adequate to fund our expected needs.

We remain in full compliance with the covenants of our loan and security agreement, which expires in September 2016. Purchases under the previously announced $25 million stock buyback program which commenced in the latter part of March 2014 were 243,000 shares at a cost of $3 million.

Interest coverage and our debt on a trailing 12-month basis excluding the Q3 2013 impairment charge was approximately 23 times. We were also very pleased that the Board continued the recent $0.12 per share dividend payable to shareholders on August 29, 2014.

That concludes the prepared remarks. At this time I'll turn the call back over to the operator. Krystal?

Question-and-Answer Session

Operator

(Operator Instructions)

And our first question comes from David Mandell from William Blair. Your line is open.

David Mandell - William Blair & Company

Good morning guys.

Jim Pokluda

Good morning.

Nic Graham

Good morning.

David Mandell - William Blair & Company

Regarding the copper pricing, where is your current inventory versus the current market copper prices?

Jim Pokluda

Our inventory due to our average cost accounting treatment does lag broad market moves. We note that copper in the first six months of this year is down not quite 8%, 7.7%, and it was down about 4.5% -- little bit over 4.5% quarter-over-quarter.

As I said ours lag that. We do not quantify that. It's an internally calculated metric that we have used for years, same process year after year. But I will tell you that as in prior conversations, this is just the nature of the beast.

When copper moves up, we slowly average our cost of goods up. And when copper comes down, we slowly move it down. We generally lag broad market moves by one to two quarters.

David Mandell - William Blair & Company

All right. And then, on the project side of the business, in the first quarter, you had really strong sales number. I think it was helped by projects that had previously been delayed being released, slightly slower growth, but still pretty solid in the second quarter.

Do you think that that number is still being aided by projects that were previously delayed, but being released or are we now more at a steady state number that can continue going forward?

Jim Pokluda

Great question, Dave. The first quarter did benefit more from our project backlog than the second quarter. There's always some sort of trailing effect, but that's just the nature of the beast.

However, in Q1, we did primarily in the Midwest and power generation benefit from work booked several quarters prior. We did have some tailings in Q2, not nearly the rate. The primary drivers of our project success in Q2 were a function of increased general construction -- excuse me, increased industrial activity in Midwestern markets.

Some of which were oil and gas, but not all. And then just a continuance of steady-state ongoing small to midsize projects in other oil and gas rich territories, Texas, Louisiana, Gulf Coast, primarily, some in the Ohio, Pennsylvania region.

David Mandell - William Blair & Company

All right. Thanks for taking my questions.

Jim Pokluda

You're welcome.

Operator

Thank you. Our next question comes from Sam Darkatsh from Raymond James. Your line is open.

Sam Darkatsh - Raymond James

Good morning Jim, Nic. How are you?

Jim Pokluda

Good morning Sam. Fine. Thank you

Nic Graham

Good morning.

Sam Darkatsh - Raymond James

Couple questions. Nic, what was the -- on the share repurchase what was the average cost of the shares that you bought back in the quarter?

Nic Graham

Sam, we've been buying most days pretty much at the average daily rate. So, I think that rate is probably somewhere in the $12 to $12.25 range.

Sam Darkatsh - Raymond James

Okay. And then first -- my first couple of questions are more housekeeping related. Jim, you mentioned professional fees as being a first half negative variance year-on-year. What sort of professional fees might this equate to and why would there be professional fees this year and not last year?

Nic Graham

Hey, Sam, this is Nic. Professional fees, some additional legal expenses and some audit fees, (Starbucks) [ph] related, but that's the primary drivers of additional professional fees.

Sam Darkatsh - Raymond James

Got you. And then, Jim, can you put some color as to what you've seen here in the first five weeks or so of Q3, trend line versus what you saw in Q2?

Jim Pokluda

Sure. Bookings so far have been quite good actually. Consistent with what we have experienced in the past for this year. Geographies that, as I mentioned formally that were somewhat disappointing, Eastern Seaboard and certainly Midwestern markets are slowly getting better.

In prior calls I haven't really discussed Midwestern markets, but Midwestern markets in Q2 did begin to improve. If you look at our book-to-bill ratio and including that metric billing -- bookings for July the book-to-bill ratio was positive, which we also find encouraging.

And if you think sort of in a more broad context and you look at the majority of the macroeconomic indicators, the decided majority -- the super majority of those are positive.

Durable goods, non-durable goods, employment is going down, non-farm payrolls was encouraging, fifth month in a row with job additions over 200,000. We haven't seen that since the late 90s. There's a lot of good things happening in our broad market. We tend to lag the broad market, but going forward from here, we -- our bias is certainly towards optimism.

And again, as we have also discussed, I really look forward to additional out years as licensing and improved approval of the large crackers and cokers and fractionators and NGL plants down here on the Gulf Coast mature and begin to break ground. We had just really started that now.

Certainly, we've been the beneficiary from the upstream and midstream activity, downstream is still coming. And I see that as an accelerant over the long-term for our project business.

Sam Darkatsh - Raymond James

Last question before I defer to others. Can you give us a state of the union of what you're seeing in LifeGuard growth rates versus overall company average, traction that you're seeing at the end markets, if you could, Jim?

Jim Pokluda

Sure. There's no question that LifeGuard has matured. However, it remains a meaningful component of our overall revenues. LifeGuard sales this year are actually up over prior year. They are up more substantially than our overall growth rate for the company. So, we are happy about that.

Margins are still good. Margins are still better than our average gross margin. We have, however, driven the awareness of this value proposition to other suppliers in the space. So, it's more -- due to the fact that it is more mature, it has become more competitive and the growth rate has slowed. I would say last year was an acceptable year for LifeGuard. We're finding more success for the product this year and it's an important part of our product mix.

Sam Darkatsh - Raymond James

Are you able to -- do you forecast maintaining margins in LifeGuard going forward or is there a little bit of a bleed? I'm trying to get a sense of if it's going to continue to grow faster than company averages, is it still going to be a favorable benefit to gross margins going forward?

Jim Pokluda

Yes, I would anticipate holding margin from here forward. We had the decided first mover advantage in 2004, 2005. We carved out a number of very substantive spec positions in the marketplace, well over 300, which have held their head.

But rightfully so, as you've surmised and as I have said, margins are down, but I think we found a strong level of support where they are now and really don't see a lot of erosion from here.

Sam Darkatsh - Raymond James

So, the primary driver of the gross margin as slippage is more the pricing environment as opposed to something structural or mix inherent within your business?

Jim Pokluda

That’s correct.

Sam Darkatsh - Raymond James

Okay. Thank you very much.

Jim Pokluda

You're welcome.

Operator

Thank you. Our next question comes from David Manthey from Robert W. Baird. Your line is open.

David Manthey - Robert W. Baird & Co.

Hi, guys. Good morning.

Jim Pokluda

Good morning.

Nic Graham

Good morning.

David Manthey - Robert W. Baird & Co.

First off, could you talk about how your markets are growing relative to your growth? Do you see yourself gaining share, losing share? And I am speaking broadly in terms of the customers that are using -- use the wire and cable as opposed to going direct to manufacturer in terms of lead-times and that sort of thing. Could you talk about anything relative to the market share loss, share gain?

Jim Pokluda

Sure, Dave. Lot of questions there. I will do my best to remember and address all of them. But please, of course correct me if I don’t. There is absolutely positively no question in mind that we are gaining share. A very relevant, very salient marker of that is our invoice count. We're delighted to have posted the results that we did in the second quarter.

We are very happy to have a record second quarter revenue number. Our master marketing plans, account penetration plans across strategic national accounts are working. Our relationship with buying groups that we've discussed before, and particularly the AD, our relationship has been very positive experience for us.

If you think about end markets, which was another one of your questions, our strongest end market year-over-year from a percentage growth perspective was upstream, midstream oil and gas. It’s a very substantial market.

If you look at the publicly available data from very reputable sources, you will see figures in the range of 60 billion to 80 billion estimated spend on an annual basis for the next several years, oil transportation, storage and infrastructure, quite large. The largest of which tends to be the gathering stations.

There is a point at which pipelines and extraction product coverage, particulates are separated, water separated, is compressed; it's metered its pumped. That’s the largest area of our growth over the past two quarters.

Downstream continues to be important to us. It will grow over time. It's more choppy because it's more projected related and in the future will be mega project related. So that’s a little bit more choppy. We've had some success in mining and minerals. We've had success in food and beverage, and even fossil fuel has also improved on a quarter-over-quarter basis.

David Manthey - Robert W. Baird & Co.

Okay, great, Jim. Could you talk about your top five or 10 customers and not to name them or anything, but could you just talk generally? Are you seeing disproportionate growth from those customers or greater than corporate average growth from those customers? Or are you seeing more of the growth being driven by addition of new customers or smaller customers coming up the curve?

Jim Pokluda

We don’t -- it's not our intent to dilute our average resources with too many activities. But we are certainly focused on handful that are very important to us and national accounts are definitely one of those. So I will try and dissect your question and answer it as efficiently as I can.

Were possible, we look at the publicly available data for our topic accounts. And to the best of our ability extract from those filings organic growth rates, currency adjusted growth rates, copper adjusted growth rates, and industrial segment activity. And it's our view that we are growing at a rate beyond this.

We believe we are doing that because of a laser focused plan to penetrate these accounts with something of value. What we often talk about is investing in the channel. We invest in business development opportunities, data mining opportunities for our customers and execute a pull through strategy.

We introduced new products and services. Products line include the aluminum, items we discussed especially oil and gas, cables and light manufacturing work cell that we setup in Chicago about a year and half ago. We've hired sales engineered type resources on the outside to better tell our story.

So, we've done, I think, a lot of smart things that we exercise with rigor and diligence to make sure that we are -- where the action is and we're following the money and opportunistic markets and continue to add products to our portfolio that will support our electrical distribution customers.

David Manthey - Robert W. Baird & Co.

Okay, that's helpful. And to wrap up, you touched on it relative to Sam's question on gross margin and mix and so forth, but can you talk just broadly about your outlook for gross margin? And outside of changes in copper prices, where do you think you can take GP over the near term?

Jim Pokluda

There was a time when watching copper was like watching paint dry and we all know that’s changed. We had a fairly nice run were copper was in the mid-320s and today its back down to 316, 317. We don’t try and outsmart ourselves with copper. We don’t hedge. We at times lock in a price for large project, but that’s done for with a lot of foresight and strategic intent.

So we don’t manage our business around any forecast of copper. It's -- our business is to make sure to absolutely, positively sure that we have the right inventory for our customers in order to service their demand. So, I hope that addresses your comments on copper.

With respect to the gross margin of the business, I do believe that as the market continues to improve that we will be able to improve our gross margins. We are very focused on gross margin, we are very focused on strategies to improve gross margin and I'm optimistic that we will be able to improve gross margins over time as long as the market cooperates.

And then finally, in the mechanical wire rope end of our business, those tend to be higher margin SKUs and certainly the work that’s fabricated, which essentially manufacturing, is a higher margin area for us as well, and we've allocated a lot of time and resources to improving our margin there.

David Manthey - Robert W. Baird & Co.

All right. Thanks, Jim

Jim Pokluda

You’re welcome.

Operator

Thank you. (Operator Instructions) And I'm showing no further questions. At this time, I'd like to turn the call back over to Jim Pokluda for any closing remarks.

Jim Pokluda

Thank you, Krystal. And thanks again to our valued team members for the continued hard work and dedication to the company. Our shareholders we thank you as well. We appreciate you joining us on the call today and look forward to success in the periods ahead.

Good day everyone.

Operator

Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program and you may all disconnect. Everyone have a great day.

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