American Vanguard's (AVD) CEO Eric Wintemute on Q2 2016 Results - Earnings Call Transcript

| About: American Vanguard (AVD)

American Vanguard Corporation (NYSE:AVD)

Q2 2016 Earnings Conference Call

August 2, 2016 4:30 PM ET

Executives

Tim Donnelly - General Counsel

Eric Wintemute - Chairman and Chief Executive Officer

David Johnson - Chief Financial Officer

Bob Trogele - Chief Operating Officer

Analysts

James Sheehan - SunTrust Robinson Humphrey

Brent Rystrom - Feltl

Jay Harris - Axiom Capital Management

Operator

Greetings and welcome to the American Vanguard Corporation Second Quarter 2016 Earnings Conference Call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded.

It is now my pleasure to introduce your host, Mr. Tim Donnelly. Please go ahead, sir.

Tim Donnelly

Thank you very much. This is Tim Donnelly, General Counsel at American Vanguard and welcome everyone to American Vanguard second quarter and mid-years’ earnings review. Our speakers today will be Eric Wintemute, Chairman and CEO; David Johnson, the company’s Chief Financial Officer, and also during the Q&A session we’ve got our COO, Bob Trogele with us.

Before beginning, let’s take a moment for our usual cautionary reminder. In today’s call, the company may discuss forward-looking information. Such information and statements are based on estimates and assumptions by the company’s management and are subject to various risks and uncertainties that may cause actual results to differ from management’s current expectations.

Such factors can include weather conditions, changes in regulatory policy, competitive pressures and various other risks as detailed in the company’s SEC reports and filings. All forward-looking statements represent the company’s best judgment as of the date of this call and such information will not necessarily be updated by the company.

At this point then, I would like to introduce our first speaker Eric Wintemute. Eric?

Eric Wintemute

Thank you, Tim. Good afternoon and thank you everyone for joining us today. As you have seen from our earnings release, we have posted significantly improved earnings and revenue for both the second quarter and first half of 2016, as compared to the same period in 2015. Today, we have also filed our Form 10-Q so you can see additional details of our quarterly and six months performance.

The company's second quarter sales increased 9% to $73 million with our six-month sales up 7%. For the second quarter, crop segment, our insecticides recorded sales up approximately 12%, mainly driven by our granule soil insecticides, which had benefited from an improving position in channel inventory.

Our herbicide fungicide and fumigants were up 21% in the quarter, driven by strong impact sales and by a threefold increase in International Bromacil, which was acquired in Q2 of 2015. Our other segment, which includes track growth regulators and third-party totaling was down considerably due to timing issues. These sales will be realized predominantly in our current third quarter.

Our non-crop business performed very well driven by increased sales across the portfolio. Over the first half of 2016, we have continued to address our markets in an orderly fashion, maintain brand value, and selling into demand. As a result, the market has reduced channel inventory such that we are now seeing increased demand for our products.

Sales of our corn soil insecticides are up modestly, while sales of our herbicides are up considerably during the reporting period. This is an encouraging trend as we are seeing continued grower support for our products, notwithstanding lower commodity prices. These results underscore the prudence of remaining patients and allowing the markets to normalize over time.

Along with top line improvement, we also achieved greater profitability due in large part to our continued efforts to control spending, manage working capital, and maximize factory utilization. Our gross margins are up to 41% in the first half of 2016, compared to 37% for the same period of 2015.

I’ll leave these subjects for further discussion by David. David? Apologize. While our first of sales were up 7%, the industry leaders are down by an average of 8%. Further, while our quarterly earnings were up considerably, earlier reports show that the industry was down by an average of 14%. This tells us two things. First, conditions in our sector remain challenging. Second, we are navigating effectively through the low point in this cycle.

I believe that our relative success in reporting periods has been the result of making rational business choices, executing on our business plan and respecting market conditions.

With that general business overview, we will turn over to David for operational and financial details.

David Johnson

Thank you, Eric. As Eric has just detailed, the company's sales for the second quarter of 2016 increased by 9% to $73 million, as compared to $67 million last year. Within this number our crop sales were up approximately 1% to $58.3 million, and our non-crop sales were up 65% to $14.4 million.

Year-to-date sales were up 7% to $142 million, as compared to $133 million this time last year. Within that number, our crop sales were up 2%, and our non-crop sales were up 43%. From my perspective, the financial issues of paramount importance to investors remained consistent with the last several quarters. First, we continue to carefully manage factory activity, as we balance recovery of overhead cost with the demand and inventory levels.

In the second quarter, our factory costs are down slightly and at the same time output has improved. During this period, we have seen channel inventories of certain products normalize, allowing us to build some inventory ahead of the start of the 2016, 2017 season, which as Eric mentioned in the press release looks promising.

From an income statement perspective, the improved factory performance means that the factory costs reduced from 6% of sales last year to 4% this year. That 2% reduction or $1.3 million went straight to gross margin. The manufacturing performance for the first six months of 2016 is similar to that outline for the second quarter. Factory under-recovery cost is 5% of sales this year and 7% last year. That $3 million improvement benefited our six-month gross margin.

Second, gross margin for the quarter ended at 43%, as compared to 38% last year. For the six months, we have recorded gross margins of 41%, as compared to 37% last year. As I detailed a moment ago, the change in factory performance accounts to 2% of the improvement in both the three and six-month period. The balance is the result of improved raw material purchase prices and product sales mix.

Third, as I have mentioned in the past, our factory performance is linked very closely to inventory performance. If you look back to this time last year, we had inventories of $165 million. This year we have $14 million lower at $151 million. At this point in the business cycle, we are building inventories in anticipation of the next planting season and expect that by the year end we will achieve our target level of $125 million.

Fourth, during the second quarter of 2016, we have continued to exercise tight control over our operating expenses. Our actual costs increased primarily driven by three factors. First, higher levels of incentive compensation accruals as a result of our financial performance. Second, freight, which reflected higher sales activity, as well as some customer product mix factors.

And third, business development where we're spending at higher levels on our next generation SIMPAS technology. For the first half, we remained very close to the level achieved in 2015 with the small increase driven by incentive compensation accruals and regulatory activities.

Fifth, our effective tax rate has increased to 26%, as compared to a tax benefit last year. Our tax rate is driven by the balance of where we make our profit, specifically the U.S. or foreign, and the level of those profits. Last year, our domestic operations did not generate taxable income. By contrast this year our domestic performance has improved and as a result generated the tax expense.

Looking at the bottom line, for the quarter our net income has improved threefold to end at $3.2 million or $0.11 per share, as compared to $800,000 or $0.03 per share last year. Year-to-date, we have reported earnings per share of $0.21, as compared to $0.03 last year, which is a six-fold increase.

Finally, with regards to balance sheet management and liquidity, we continue to carefully manage cash and working capital. As we work through the 2016 cycle. For the first six months of the year, we have generated $18 million in cash from our operating activities and have in addition reduced working capital by $7 million.

Interest expense is down 23%, compared to last year and we have succeeded in reducing debt from $69 million at the start of this year to $50 million at the end of June. By contrast, a year ago debt was $98 million. This improved overall financial performance, plus our success in achieving a material debt reduction drives increasing liquidity.

A year ago, we had availability to increase borrowings by $27 million. In comparison today, we could increase borrowings by $93 million. In summary, when looking at both the 3 months and 6 months ended June 30, 2016 we see that sales have grown well despite the still challenging overall market.

Further gross margins have increased and factory performance has improved thereby contributing positively to the bottom line growth. In addition, operating expenses are being held relatively stable in total and for the six month period we have reduced when compared to sales. Net income has increased strongly. Debt is down and liquidity has significantly improved.

With that I will hand back to Eric.

Eric Wintemute

Thank you, David. Now, I would like to touch on three additional topics. The prospects for our mosquito control business, international expansion, and the progress on our SIMPAS prescription planting system.

First I’d like to update you on the Zika virus and the potential role of our product by Dibrom. As you may recall, in 2015 we had concluded a three-year study in conjunction with the CDC, the United States Armed Forces, USDA, and Florida and Louisiana mosquito districts to determine if Dibrom could be an effective tool as an aerial adulticide on two important species of mosquitoes, Aedes aegypti and Aedes albopictus.

Both of these varieties are urban breeders and can carry the disease dengue fever and other diseases. Results demonstrated that Dibrom could be a highly effective in a program to control these two mosquitoes. At the same time, Aedes aegypti was identified as the mosquito carrying the Zika virus.

This disease spread rapidly to over 50 countries, including Brazil, which received a significant amount of media attention. News coverage on Zika in Brazil had declined as the southern hemisphere is in winter now, when mosquito pressure is at its lowest. This trend is likely to reverse starting in October. Most recent attention with Dibrom has focused locally on Porto Rico.

The CDC with the support of the EPA worked very hard to convince the Governor of Porto Rico and other officials how critical it was to spray Dibrom to help control the Zika virus outbreak. Unfortunately, their efforts did not meet with success. Experts expect that the current conformed level of 7200 infected people in Porto Rico will increase to 875,000 by the end of the year.

10 days ago, the Health Secretary resigned in frustration and left the island. Domestically, cases of Zika in the United States continue to increase. As you may have heard, as of yesterday, Florida has 14 new cases of Zika virus that were transmitted from local mosquitoes. While Porto Rico has currently chosen not to utilize Dibrom as an effective tool to help with their epidemic, we expect mosquito control experts in the United States who will not hesitate to use Dibrom as needed, as they currently are averaging 16 million acres per year of treatment.

On the subject of international expansion, as we announced today, AMVAC has entered into a joint venture with Huifeng Agrochemical, one of China's most successful crop protection companies. Huifeng focuses on the development, manufacture, and distribution of multiple ag chem products. Through the JV each partner will gain enhanced market access AMVAC into China, the third largest global ag chem market, and Huifeng into North America, the world's second-largest ag chem. market.

For AMVAC, the venture represents an efficient and low-risk approach to introduce our products and equipment systems into the Chinese market and more generally into other Asian markets. In addition, the venture will give both companies access to technology, including third-party innovation and proprietary chemistries. By leveraging the technology development and registration capabilities of both companies, the JV should be able to accelerate the commercialization of new products and precision application technology into growing markets.

In addition, this collaboration presents the potential for making jointly funded acquisitions. This venture follows in the footsteps of our recent investment in Biba. Through which we will gain access to biological products and access to new markets. Finally, in addition to obtaining technology through alliances, we continue to develop our own technology. As you know, we are among the leaders in close delivery systems in this industry.

We have focused our development efforts towards SIMPAS, which we believe will place us at the leading edge of precision agriculture. For your interest you can view a short video about SIMPAS. Just go to our website at www.amvac-chemical.com and click on SIMPAS video presentation. On the subject of current development efforts, we have gained Apple’s approval for our SIMPAS app.

We will be beta testing our new proprietary meters and software application this fall and expect to be conducting field trials of SIMPAS system by next spring. In the meantime, we are working to secure the appropriate insecticide, fungicide, nematicide, nutrient, and biological components needed to provide a yield enhancing as planned application prescription.

With that I would leave you with a few closing thoughts. We’re growing sales, improving profitability, controlling costs and managing working capital successfully. We are also seeing some improvement in domestic market trends. On top of that, we are progressing with new alliances and international technology development.

On balance then, I would say that we are considerably stronger now that we were at this time last year, despite being in a sector that is struggling a bit. Going forward, we will continue to manage the business rationally, taking what the market gives us, expanding our access into new markets, and exercising financial discipline.

We have shown the ability to prosper through adversity and are keen to build upon the progress that we have made thus far in 2016.

And now we will happy to respond to any questions that you have. Operator. Stacey?

Question-and-Answer Session

Operator

Thank you. [Operator Instructions] Our first question comes from James Sheehan with SunTrust Robinson Humphrey. Please proceed.

James Sheehan

Good afternoon and thanks for taking my question.

Eric Wintemute

Sure.

James Sheehan

Can you comment on your sales of Dibrom year-to-date and what your expectations are for the second half?

Eric Wintemute

So we're basically, I think flat year-over-year and we have planned shipments for this year that I think cover us, may be similar to last year. We have reserves of probably another 60% that we will have depending on pressures from tropical storm or other diseases such as West Nile and the potential for Zika.

James Sheehan

Do you expect that the CDC’s recommendation will lead to more sales in the second half in Porto Rico or is that off the table for the rest of the year?

Eric Wintemute

My best guess right now is, politically that they will not spray in Porto Rico this year. In Porto Rico seeing that they have maybe downsize some, the potential of this disease. The numbers that I have mentioned 7,200 going to 875,000 are pretty alarming and I don't know whether that will change the pressure that’s currently they are on. But we are, I think we are certainly ready if they do make that and are hopeful that they do make that decision.

James Sheehan

Great. And on the JV, I think agrochemical do you see any opportunities for production in the U.S. of some of their chemistries and vice versa they are producing in China, any opportunities for a total producing or anything like that?

Eric Wintemute

Certainly, it could. We may be focused a little more on formulation then AI synthesis, we haven't listed that as a primary reason for the joint venture.

James Sheehan

Thank you.

Operator

Thank you. Our next question comes from Brent Rystrom with Feltl. Please proceed.

Brent Rystrom

Good afternoon.

Eric Wintemute

Hi, Brent.

Brent Rystrom

How are you?

Eric Wintemute

Good.

Brent Rystrom

Just a couple of quick thoughts, can you give us any sense in what your field sales crews are telling you about what, we're hearing your impact has been a little bit heavier this year with the later rain and the hotter weather, I am just curious if you are sales force is telling you that they are seeing [indiscernible], as a bigger issue this year compared to the last couple of years?

Eric Wintemute

I know, I did ask that question recently when I was back there and I did you hear that in Minnesota they've got a number of fields that are down and from room pressure, I just kind of told people to make sure they search and find and document where and when that occurs. So, I don't have a clear picture at this point Bob, I don't know whether you've picked up anything more.

Bob Trogele

No, I would just maybe switch the conversations saying you saw that the President just signed the non-GMO labeling legislation in. We're going to try and figure out what the impact for that is with corn growing going forward.

Eric Wintemute

Non-GMO?

Bob Trogele

Yes, non-GMO labeling. All right, so that trend may increase pressure as farmers switch it out from GMO corn.

Eric Wintemute

And I did hear from one of our key retailers that their sales of corn rootworm trades are down 50% this year as growers are switching away from the corn rootworm trades due to cost constraints. So - go ahead.

Brent Rystrom

In both cases just to clarify, basically non-GMO labeling would help you because it would go back to traditional methods of trading corn rootworm and then this retailer you were seeing, his sales of GMO traded seeds are down 50%.

Eric Wintemute

Of corn rootworm, I mean still GMO trades are in, but just the corn rootworm is slightly outside.

Brent Rystrom

Yes, good point. From timing for the forward season, thinking on cons on insecticides are we thinking that we will see some sales in the third quarter, will it be really more of a fourth quarter or will it be the first half 2017 before we see the sales ramp from the next season?

Eric Wintemute

I think what we are planning on is some in fourth quarter and a good portion of balance in the first quarter, but this year we did have sales in second quarter as well and so that probably will continue.

Brent Rystrom

All right and then my final question is kind of a broad one, but I’m wondering if you could give us a sense of how to think about modeling SIMPAS, I’m assuming you will have sales with the system itself, I’m assuming you will have sales of your products, as far as your technical products, and then I’m wondering will you be selling other people's products or will you arrange for people to buy other peoples products to using your SIMPAS system?

Eric Wintemute

Very good question. So, I think initially it is likely that it will be the sales of the system certainly. The products that go through initially, probably will be packaged under our label, but we are certainly open to others selling the products. I think we would prefer if they were selling under their own brand and own name that we did the packaging or we make sure that the packaging is done according to our specifications.

And under that sort of model there will be more kind of a royalty type basis, but we have as you know with SmartBox and we sell everything through there and we have essentially licenses for the products. We are using the same brands that the label holder has, we are just selling on [indiscernible].

Brent Rystrom

Is there a way to kind of say that the SIMPAS system itself will be ex-dollars or a range of dollars and that you expect some other correlation as far as the chemical sales into that?

Eric Wintemute

Well I think we believe as far as, not just sales, but as far as the lion’s share of the margin, it is going to come from the products themselves. So, we have not made the SmartBox system itself highly profitable and I think more important to us on the system, SIMPAS system would be to make it as compatible as we can with existing equipments, planters so that they could be as an option to their current planting.

We will certainly still have available the af market, or after market and continue with that as well. When we get into the product side as far as modeling, we are, as I mentioned we will look at the products that we have available for 2017, and I think as we go through we can kind of talk about what we are going to have available for 2017, which will largely be our existing products. 2018 will probably have more expansion, but that’s the year that we will look to do more commercial as opposed to 2017 where we’re just going to field testing what we’ve got.

Brent Rystrom

Final question here, do you know off hand when you think about a particular crop, do you think of corn or you think of bean looking at insecticides, looking at crop protection, as far as herbicide or whatever, do you have kind of a target say that $50 you spent on corn per acre, do you have an amount that you expect per acre to flow that you might try to cash, or how are you tying the reading, what do you hope to do with it, as far as what you hope to capture as well in there?

Eric Wintemute

So at our shareholder meeting, if you looked at the slides that we had posted then we kind of with context to kind of it helped us shape and understand what the opportunities were, it was a kind of dive down on a per crop basis of the first six crops that we looked at. And with that we said okay, is there, you know what’s currently being spent on insecticides and what would be spent on let’s say nematicides if you could do a prescriptive type application and so we quantified that and with that slide that we did, I think we laid out the amount of market, what we didn’t tell you in there, much we do have, but we are not discussing this point is, what percent of that market that we believe we will be able to capture.

So, if you kind of look at those slides I think that can kind of give you some idea as we start shaping and then what we have done is, we have taken our team along with context and sat down over a couple of days and did a deep dive on all the potential products. What would be the best products, the best molecules for each of those opportunities in each of the crops? And kind of came up with our wish list, and that’s what we are working on today is getting these products in the right formulations, on the right label so that we can - those outages will move forward. With that we are doing this segment initially just looking at U.S., but obviously once we get that underplayed and we will start looking at other markets outside in places like China and Brazil.

Brent Rystrom

Thank you.

Operator

[Operator Instructions] Our next question comes from Jay Harris with Axiom Capital Management. Please proceed.

Jay Harris

Eric, very good quarter.

Eric Wintemute

Thank you Jay

Jay Harris

I wonder if we can get off to talk a little about this joint venture that was announced this morning and when do you think first revenues are likely to be realized?

David Johnson

Today, this joint venture gives us a market access model for China, which is the third biggest market globally growing at about 5% per annum. Highly competitive, but to go through the regulatory process today in China is 24 months to 36 months you have to do quite a logical efficacy trials. We are in the process already of having the first meeting next week to discuss projects with our portfolio. And of course there is the ability to bring our application systems into China, as China is dramatically changing as far as the needs for having less environmental impact for solutions going underground.

That’s a great opportunity, our partners sees that. Vice versa we have the opportunity to take our partner's proprietary technology, which we are not ready to announce yet and build that into our product portfolio for the North American market. And again that’s, I think a regulatory process is not as tedious because some of that is material, which I think we can register relatively fast, but usually the EPA takes another 24 months, 36 months.

Most of that will be going into premixes and they do have patterns in place. So, we are excited about that. Further as Eric mentioned, they are a financially strong partner. So, I have re-looked at acquisitions that fit into specific markets in their backyard or in our backyard we can partner on those and generate more cash to acquire some of the assets, which we hope are coming up for divestitures through some of these mergers. So, hope that answers your question Jay.

Eric Wintemute

Jay on the short-term, I don't know that we will have anything in this year. But we will have a couple of projects that could be in play next year and then we will just kind of keep building on from there. So, I will say this is the company and primary owner and founder we spent some time with our last year. I think we have similar ideas and thoughts on how we want to progress in the marketplace and I'm really pleased to have Mr. Zhong in this joint venture with us. So, they are moving very rapidly up the, I think when we first met them they were ninth in China, now they are sixth and they are growing with a fastest pace of any of the players at this point. So, good find for us.

Jay Harris

Would it be reasonable to assume that your first acquisitions in the joint venture would occur in 2017?

Eric Wintemute

Yes that’s probably more realistic, I would think.

Jay Harris

Thanks very much.

Operator

We have a follow-up question from James Sheehan with SunTrust Robinson Humphrey. Please proceed.

James Sheehan

Thanks. Do you stack expect your margins in crop to expand in the second half or stay the same?

Eric Wintemute

David?

David Johnson

Half of the margin is to do with factory performance. We expect the factory performance to be a little weaker in the second half than in the first half, but overall not too much movement. And then we do have a different mix of business in the second half of the year than the first half. So, there is some product mix as you say. And then they typically were historical performance in the second quarter as a good guide, relative to the first quarter, first half sorry.

Eric Wintemute

Yes. So typically we are a little stronger in the second half, but we are pleased with the progress we’ve made so far and the trend that we certainly are focused on continuing.

James Sheehan

And in non-crop same question, where do you expect margins to go?

David Johnson

We would expect them to be slightly lower in the second half.

James Sheehan

What’s driving that?

David Johnson

Just to make the business between the various different parts of non-crop business.

James Sheehan

Okay. And on your SG&A cost, how do you expect them to compare to the first and second quarter, do you expect them to be moving a little higher in the second half?

David Johnson

They usually do, I mean we are going to be working very hard to try and curtail any increases, but we do tend to see slightly higher freight costs in the second half because of the type of products we sell in Q3 and Q4, and we do expect to see some product development trials come to a conclusion towards the end of the year. So, it tends to keep it up just a little bit, but we are going to be working pretty hard to keep those in control.

James Sheehan

Great and how were Impact sales during the quarter?

Eric Wintemute

Yes, they were up nicely for us. Let me see what we have, 30% plus.

James Sheehan

Great, thank you very much.

Operator

[Operator Instructions] Gentlemen, there are no further questions at this time. I would like to turn the floor back over to Eric Wintemute for closing comments.

Eric Wintemute

Thank you, Stacy. Again appreciate all of you taking the time to listen to our conference. Good questions as always. We're pleased to have these reports and trend as we would like to continue over the next several quarters, and again if you get a chance pull up the SIMPAS video and take a look. Right with that, thank you and have a good evening.

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