Brad West – Director of Finance and Corporate Controller
Rod Hershberger – President & CEO
Jeff Jackson – Executive Vice President & CFO
Rob Hansen – Deutsche Bank
Sam Darkatsh – Raymond James
PGT, Inc. (PGTI) Q3 2011 Earnings Conference Call November 3, 2011 10:30 AM ET
Good day, ladies and gentlemen, and welcome to the PGT Incorporated third quarter 2011 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 on how to participate will be given at that time. (Operator instructions) And as a reminder, today’s conference call is being recorded. Now, I’d like to turn the conference over to your host, Director of Finance and Corporate Controller, Mr. Brad West.
Thanks and good morning for joining us for today’s PGT’s third quarter 2011 conference call. I am Brad West and today I am joined by Rod Hershberger, President and CEO; and Jeff Jackson, Executive Vice President and CFO. Rod and Jeff will represent PGT in 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 November 2nd 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 releases are the unaudited consolidated balance sheets and statements of operations prepared in accordance with GAAP and adjusted information, which is 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 our Form 8-K. 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 third quarter, then Jeff will discuss our results in more detail. After their prepared remarks, we will take your questions.
With that, let me turn the call over to Rod Hershberger. Rod?
Thanks Brad. Good morning everyone.
I am pleased to report the consolidation of our operations is complete and our Florida location is now operating at the capacity, both plants for achieving prior to the consolidation. All lines previously in North Carolina are up and running and producing quality products in the short lead times for which PGT is known.
Accordingly, we shipped additional product versus the second quarter of 2011. Sales in the third quarter decreased to 1.4 million or 3% from a year ago. This decrease reflects our decision to reduce our sales and marketing efforts in certain out of state markets. Our sales out-of-state decreased 2.2 million or 33.8%. Our international sales also decreased 300, 000 or 13%. However, our quarter sales increased 1.1 million or 2.9% and represented 86% of our total sales, compared to 81% a year ago.
By product line, our WinGuard sales which were down last quarter because of temporary capacity constraints associated with the consolidation are back on track with the consolidation complete. Sales for WinGuard were up 1.2 million or 4% when compared to the prior year. Additionally, WinGuard sales were up 2.5 million or 8.7% compared to the second quarter of 2011.
We also saw an increase in our PremierVue line which compared to 2010 was up 1.5 million to 2.4 million in sales. Both vinyl WinGuard and PremierVue benefited from 2.2 million in sales from our new vinyl sliding glass door series launched earlier this year. This door won the industry’s Crystal Achievement Award for the most innovative door design, our second Crystal Achievement Award in a row.
Our vinyl non-impact products including SpectraGuard had a 1.8 million decline in sales or 38% compared to the prior year. This decrease reflects our decision to decrease selling and marketing efforts in certain out-of-state markets in connection with the consolidation.
We also experienced the 2.1 million decrease in architectural system sales due to ongoing softness in the commercial market, as well as the reduction in curtain wall sales on which we partnered with a third party as a contract manufacturer and is not part of our refocus goals and strategies as result of a shift in focus towards our core markets.
Our decline in overall sales compared to last year occurred both in new constructions down 3% and in R&R down 2%. As a percentage of total sales for the third quarter of 2011, R&R sales accounted for 76% and new construction sales accounted for 24% of sales.
Comparing our third quarter to the prior year third quarter, our adjusted net income was 982,000 compared to a net loss of 207,000 in 2010. This is the highest net income in any quarter since the second quarter of 2008. Our adjusted gross margin was 30% versus a gross margin of 30.9% in 2010. Adjusted gross margin decreased mainly due to temporary higher than anticipated material usage mainly in our glass operations. We also experienced an increase in the cost of materials including an increase in our average cost of aluminum, which is up 19% over prior year. The cost increases had been offset by a price increase announced in the first quarter of 2011.
Additionally, our margins benefited from lower spending in overhead categories as a result of the consolidation. SG&A cost adjusted for the 2011 consolidation charges decreased 2 million. Adjusted EBITDA was 5.9 million in the third quarter of 2011, which is up from EBITDA of 4.7 million from prior year. The increase in adjusted EBITDA, in spite of lower sales volume, was driven by the savings generated from consolidation. Within our core market, total housing starts were up 27%, multi-family starts were up 52% and single family starts increased 21% compared to a year ago. Although, starts have increased, they remain below 10,000 for the quarter. Market conditions remain difficult and demand in the fourth quarter typically softens in the repair and re-modeling market.
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 a more detail regarding the third quarter. We reported net sales of 45.8 million, a decrease of 3% from prior years’ third quarter. Sales in the R&R market which represented 76% of our total sales were down 2%. However, R&R WinGuard sales increased 5%. In total, our WinGuard products both Aluminum and Vinyl continue to lead our sales, representing approximately 68% of sales in the third quarter of 2011 compared to 63% of sales in the third quarter of 2010.
Total impact product sales, which include WinGuard, PremierVue and Architectural Systems’ product lines represented 76% of our sales in the third quarter of 2011, as compared to 72% in the prior year. Florida sales represented 86% of total sales for the third quarter compared to 81% of sales in the third quarter of 2010. Florida sales increased 1 million in the quarter, driven by a 1.4 million increase in WinGuard sales, a 1.3 million increase in PremierVue sales, offset by decrease in architectural system sales of 1.3 million. The increase in Vinyl WinGuard and PremierVue were spearheaded by our sales of our Crystal Achievement Award winning door line that was introduced earlier this year.
Breaking down our sales drivers for the third quarter compared to 2010 third quarter, we have WinGuard sales at 31.2 million versus 30 million, up 4%. PremierVue sales were 2.4 million versus 684,000. Vinyl non-impact and other product sales were 6.1 million versus 7.1 million, down 21.8%. Aluminum non-impact sales at 5 million versus 5.3 million, down 5.7%. Architectural System sales were 1.1 million versus 3.2 million, down 65.6%.
Our adjusted gross margin for the third quarter was 30% versus 30.9% in the prior year. Our decrease in gross margin percentage of 90 basis points was driven by higher than expected material usage mainly in our in our glass operations which reduced margins by 230 basis points, an increase in the cost of materials included aluminum which reduced margins by 180 basis points. Last absorption consistent with lower sales and mix which reduced margins by 70 basis points. This was somewhat offset by the impact of our price increase announced in the first quarter which increased margins by 180 basis points and a reduction in overhead spending due to consolidation efforts which increased margins by 200 basis points.
Regarding our glass usage, we typically experienced our high scrap levels during the hot months of summer. This past third quarter was unusually high due mainly to the large increase in energy efficient glass options now demanded in our Florida market, including low-E and insulated glass units. Our glass team is working hard to reduce the scrap rate on such units and I am pleased to report that we have seen a reduction in glass scrap already beginning in our fourth quarter.
Our average cost of aluminum was approximately $2,440 per metric ton during the third quarter, comprised of spot purchases averaging $2,482 per metric ton for approximately 62% of our needs and hedge purchases averaging $2,371 per metric ton for 38% of our needs. This compares to the third quarter of 2010’s average cost of $2,058 per metric ton. As of today we are hedged at approximately 30% of our estimated needs through 2012 at an average of $2,217 per metric ton.
Our selling, general and administrative expenses were 11.6 million, down 1.9 million compared to the third quarter of 2010. Driving this decrease was lower labor and benefit expense of 600,000, lower bonus related accruals of 1.1 million, and a $300,000 decrease in non-cash stock compensation expense. Adjusted for consolidation charges and non-cash stock compensation expense, SG&A as percent of sales decreased to 25.4% versus 27.4% of sales in 2010. Interest expense was 1.1 million compared to 1.2 million in the third quarter of 2010. Interest expense was lower by $100,000 due mainly to lower debt levels outstanding during the quarter and the effect of the lower interest rate.
As Rod did mention, the consolidation project is complete and we’re now experiencing its benefits. In the fourth quarter of 2010, we announced the consolidation of all our operations into Florida. The major portions of the North Carolina operations were moved in the second quarter. During the third quarter, we recorded 634,000 related to excess labor hours. This amount compares to 1.8 million recorded in the second quarter of 2011. We also had $100,000 in consolidation charges related to moves in the quarter. These charges were incurred mainly in July with none in September. In total, including charges from the fourth quarter of 2010, we have recorded 10.1 million in consolidation and excess integration charges versus our original estimate of 7 million in total cash consolidation charges.
Our estimated savings from the consolidation is still expected to range from 6 to 7 million annually and we have already seen 1.5 million of savings in the third quarter and we believe we can realize more as our operations come more efficient. During the third quarter of 2011, we did not record any tax expense or benefit. We have an effective tax rate of zero due to the full valuation allowance that we have applied to our deferred tax assets.
We had net income in the third quarter of 241,000 versus net loss of 207,000 in the third quarter of our prior year. Our net income in the third quarter of 2011 includes 741,000 in consolidation and excess integration charges. Adjusting for these charges, our net income was 982,000 in the third quarter of 2011, or $0.02 per diluted share.
Adjusted EBIDTA was 5.9 million for the third quarter versus an EBIDTA of 4.7 million for the third quarter of 2010. This increase in EBIDTA of 1.2 million is due mainly to the impact of the consolidation in savings and spending categories previously mentioned above, somewhat offset by a decrease in sales volume.
As additional information, our third quarter depreciation and amortization totaled 3.8 million. A reconciliation of the net income and EBIDTA is included in our earnings release for your reference.
Turning to our balance sheet. At quarter end, DSO’s decreased to 40.6 days during the quarter. In reviewing free cash flow for the third quarter, we had an adjusted EBIDTA of 6.2 million, excluding our non-cash stock compensation expense. Capital additions of 1 million, cash paid for consolidation expenses and excess integration costs associated with the consolidation of 741,000, cash paid for debt fees related to refinancing of 658,000, and we used approximately 1.6 million in working capital. These items along with the 2.5 million principal debt prepayment resulted in cash on hand of approximately 7.9 million at the end of the third quarter.
Our net debt and corresponding leverage ratio at the end of the third quarter was approximately 37.6 million and 2.5 times. The housing industry continues to suffer from the negative economic factors. Both new construction and the remodeling activity remained weak and we believe will do so through the first half of 2012.
While we have seen stats suggesting the industry is ready for stating improvement, our continued sluggish economy and high unemployment consistently remind us of the timetable for true sustainable growth remained at best uncertain. However, we have many opportunities still available for us, such as seeking additional market share in our southern Florida markets where we have successfully launched, led the shift towards energy mining products and invested in advertising to promote our brands, continued post consolidation improvements in our transportation area as well as our improvements in our glass material usage and lastly to continue to deliver quality products on-time and complete.
With that, let me turn the call back over to Rod. Rod>
Thanks, Jeff. With all the fiscal uncertainty and concerned with housing, both new starts and in the R&R market, our industry is currently limited by outside factors in many respects. However, that which we can’t control, we control well. Now that our consolidation is complete, we benefited from our shift in focus to our core market areas innovated with our second straight Crystal Achievement Award winning sliding glass door and we’re leading the charge of vinyl into the Florida market including the south east.
We will continue to be the dominant player and are prepared for PGT to execute at the highest levels for which it is known in the industry. We thank our employees for their tremendous effort in putting this consolidation behind them and for delivering on the value proposition that our customers have come to expect. With that, I will conclude and Jeff and I will be happy to answer your questions. Matthew, if you could take the first question, please.
(Operator Instruction) Our first question comes from Rob Hansen of Deutsche Bank. Your line is open.
Rob Hansen – Deutsche Bank
Hi guys. I just wanted to ask about the price increases a while back. How much were they on average and generally how have customers responded?
Average price increase is 3% and you know, I think we got initially some push back, not as much we actually thought we would. The market in general we had other competitors come out with price increases especially in the vinyl window area and so the prices have stuck and we’re getting the sales associated with it.
Rob Hansen – Deutsche Bank
Okay. And then on your aluminum hedging, I think you’ve got about 30% hedge for 2012. Will you be ratcheting up any of the aluminum hedging going forward, or how is this going to play out especially with aluminum prices being a little bit higher on a year- over-year basis?
Yes. Right now, actually aluminum prices have dropped off a little bit. So, a bunch of our hedging activity has taken place pretty recently here, because for most of the year, we’re seeing aluminum prices around the $2,400 mark and now they are running in that $2,100, maybe a little over $2,100. If you look forward they jump up a little bit, you always seem to pay a little bit more for that forward buy. So, typically this time of the year and I realize over the last three years you really can’t use the word typically a whole lot in the industry., but typically, if you look at 25 years worth of history, aluminum prices tend to come down a little bit about this time of the year and we’d like to cover for next year. So, we’re watching that pretty closely with some good to cancels out there, some aggressive pricing.
Yes. We always keep a certain percentage of good to cancels in terms of our usage out there in that $2,000 to $2,100 range. Right now, like Rod said, I think the price of aluminum as of yesterday was around $2,105 a metric ton. So, we do have good GTCs out there, they can trigger, you know just like the stock market, the metals market dips overnight at times. So, we have triggered a couple of GTCs and got some nice coverage at fairly decent prices, like I said, the average is about $2,217 for next year which is below this year’s cost. So, right away we are going to do better at least for 30% of our needs, but we like to cover up to 70%, so we will be, I definitely feel comfortable in saying we will be laying on some more coverage, but we do want it at obviously good prices.
Rob Hansen – Deutsche Bank
Okay and now that you have your manufacturing facilities realigned, you are kind of operating here around the breakeven level. Now, what is your longer-term outlook for margins and ultimately profitability and what is your need to get there? Obviously, a volume increase, but what you look at as more of a normalized level?
In terms of margins, that 30% just in margin. We do still have some as I had mentioned in my prepared remarks some opportunity within operations especially within our glass plant. That is a very profitable venture for us in terms of versus buying it from the outside. I can tell you just within the quarter alone, I think if we had run like I know we are capable of running, we could have shaved about a 1 million, 1.1 million off of our cost and brought that to the bottom line. So that would enhance margins by 250 to 300 basis points alone. So, I do know there are some improvements still to come operationally and we got a team including myself and the gentlemen in this room that are driving it and I feel confident that we are going to get there and get there this year. So much now, we will be dependant on sales. We have taken cost out of our business. In fact 6 reductions in force. We have consolidated the plant and we are really watching our overhead expense and the next $10 million to $20 million in sales should be extremely profitable for us as long as we manage it right.
So, sales would be the biggest driver of that margin. Although, I don’t want to mislead that, we do have some more improvements that we are going to bring to the table internally.
Rob Hansen – Deutsche Bank
Alright, thank you guys.
Thank you. Our next question comes from Sam Darkatsh from Raymond James. Your line is open.
Sam Darkatsh – Raymond James
Good morning Rod, Jeff, and Brad. How are you?
Good. Great. How are you doing?
Sam Darkatsh – Raymond James
I am fine, thank you. Rod, you mentioned that utilization rates returning to prior levels. What is your utilization rate in the plant and how do you define that with respect to shifts at present?
Yes, I think we’ve always kind of struggled when we tried to give you a really good utilization number. We measure more in efficiency numbers and we look at our material usage, which Jeff has addressed a number of times already, but we also look at our labor efficiencies and that is really how we measure ourselves. It is a little harder to put that utilization rate in place just to give you a little background.
We pay our employees based on what they know and how well trained they are and so we move them around the plant a lot and that means that if you look at a product line that typically would, a 100 units would be fully utilized, but we can plug in additional employees and we can probably run it up to 150 or even 200 by moving the employees around.
So, it is a lot dependent on the orders coming in. All that said, there is a lot of flexibility in the plant and we are I would say less than 60% utilized right now. We’ve got a full third shift that we could add on in the main manufacturing plant, probably a little higher percentage in our glass plant producing glass, but we’ve got the capability of buying a lot of that product outside also, particularly the easy stuff. So, we’ve got the ability to grow our product lines up substantially over the next few years.
Yes, I will just add a little bit to that, Sam. Our first shift pretty much runs a straight 40 during the week with overtime if needed. We do have a second shift for certain product lines, our PremierVue product line has a second shift as well as the Vinyl WinGuard and non-impact has a skeleton crew on second shift non-impact Vinyl. So, we do have plenty of flexibility on both sides of equation in terms of aluminum and vinyl. Like Rod said, we could add one fully staffed at second shift and then thirdly what we do is fully staff the third shift which at one point we had –
You recall we had about 300 million coming out of this plant in 2006 over 300 million. So, we have got plenty of capacity at 60s probably between 50% and 60% right now and we are going to do some staff over the glass side of the business that should help technology wise and should have that capacity over there, because we are probably a little higher there might be closer to 60, below 60s to mid 60s in capacity there. There is so much technology driven now that we are going to make some improvement. So, we are ready when it does turn. We’ve got plenty of capacity.
Yes, the other thing that we do and you see it in our sales, you see certain product lines that drop off a little bit, not quite as much demand for aluminum, non-impact aluminum and with now focusing out of state quite as much the ability to kind of adjust our lines. We laugh sometimes that we fasten our equipment down with weighing that, so that we could move things around really easy, but the PremierVue line which is going pretty fast will do some new line layout on that product line. So even though we are working two shifts right now, we will be able to expand that product line and add a lot of capacity into that, spread out some of the products that are being made there. So, quite a bit of capacity left here.
Sam Darkatsh – Raymond James
Let me ask a question in another way to, Rod. If you are looking at a flattish to moderate growth over the next few years or so, how many years you think you can get away with spending $4 million or $5 million on CapEx?
I think a couple of years.
Yes, we can do a couple of years. I think the reason I hesitated for a minute from a production point of view, we can get away with it for quite a few years as far as putting that amount on CapEx. If sales stay that low and we’re looking at the cost side of the business, there may be some opportunity to spend a little bit of CapEx to drive some costs out of that side of the business. From an efficient point of view, mainly from a computer, ability to download to all of our equipment instead of just part of our equipment, some of those types of things. So, I hesitate, we can definitely stay at the 4 million mark, we may choose to spend a little more than that to drive some more costs out.
Sam Darkatsh – Raymond James
And last question, what is the amount of the tax shield at this point, Jeff?
It was – Brad, you know that number?
I don’t think –
I don’t have it here in front of me, Sam. We can get that back to you.
Sam Darkatsh – Raymond James
Okay. Thanks much. I appreciate. Actually, if I can just sneak one more question, I am sorry. You addressed pricing earlier, although it looks like pricing still coming in underneath where your inflation is, do you think the industry can support a second price increase at this point, or you are just going to run productivity and try and capture the lost margin that way?
I think the industry would struggle right now to handle another price increase, although one of the things that we see is people go out of business and they go out of business because generally you can kind of look at who is going to go next or who is struggling the most based on what their selling product for. So, I think everyone has cut their margins to the slimmest amount that they can and I think everyone is looking at it from a standpoint of anything we can do to kind of jumpstart this building industry or the re-modeling industry without doing any gauging. So, I think it would be difficult at this time unless there is a change in either economic conditions or a significant change in raw material costs where you literally have to go out there and raise prices.
Yes. I think, Sam, I agree with that. From a general 30% blanket price increase, top of a move is not going to be doable in the foreseeable future here. What we have done even this quarter is targeted certain areas where, based of volume or based of promotions or a number of factors we use, we have targeted certain areas and taken price increases in those areas even in this quarter. So, we are selectively taken price increase based of area and/or product offer.
Thank you much for the complete answers. Thanks a lot.
Thank you. And I would like to turn the call back to Jeff for any closing remarks.
Thank you for joining in us today and we will look forward to speaking to you again next quarter. If you have any further questions, please give me a call and have a good day. Thank you.
Ladies and gentlemen, thank you for joining today’s conference. This does conclude the program and you may now disconnect.