Multi-Color's (LABL) Management on Q1 2017 Results - Earnings Call Transcript

| About: Multi-Color Corporation (LABL)

Multi-Color Corporation (NASDAQ:LABL)

Q1 2017 Results Earnings Conference Call

August 9, 2016, 10 AM ET

Executives

Nigel Vinecombe - Executive Chairman

Sharon Birkett - Vice president and Chief Financial Officer

Analysts

Adam Josephson - KeyBanc Capital Markets

Matt Krueger - Robert W. Baird & Co.

Greg Eisen - Singular Research

Operator

Good day, ladies and gentlemen, and welcome to the First Quarter 2017 Multi-Color Corp. Earnings Conference Call. My name is Whitley and I will be your operator for today. [Operator Instructions] As a reminder, this conference is being recorded for replay purposes.

I will now turn it over to your host for today Ms. Sharon Birkett, Vice President and Chief Financial Officer. Please proceed.

Sharon Birkett

Thank you, Whitley. Welcome to Multi-Color Corporation's fiscal 2017 first quarter conference call and webcast for the period ending June 30, 2016. We are also broadcasting live over the Internet accessible through the Multi-Color website at www.mcclabel.com on our investor relations page.

I am Sharon Birkett, Vice President and CFO of Multi-Color. I will be leading today's call and I am joined by Nigel Vinecombe, our Executive Chairman.

I will begin with an overview of how our company performed this period and provide a detailed analysis of our financial results. Nigel will conclude with final comments and then we will take your questions.

Before we discuss our results, I want to call your attention to the Safe Harbor statement that was displayed on the registration page you viewed right after you logged on to the webcast and remind you that in accordance with the Private Securities Litigation Act of 1995, this presentation may contain some forward-looking statements that involve both known and unknown risks that may affect the outcome of our results. This Safe Harbor statement is also included in our earnings release and our filings with the SEC.

For those of you who are listening and viewing our webcast via the Internet, please take a look at slide number 2, net revenues. In the first quarter of fiscal 2017, net revenues increased 9% to $236.5 million from $217.9 million in the prior-year quarter. Acquisitions occurring after the beginning of fiscal 2016 accounted for a 9% increase in revenue and organic revenues increased 2%. Foreign exchange rates, primarily driven by depreciation of the Mexican peso and the British pound, led to a 2% decrease in revenues quarter over quarter.

Please turn to slide 3, gross profit and margin. Gross profit increased $5.3 million or 11% compared to the prior year quarter. Acquisitions occurring after the beginning of fiscal 2016 contributed $4.5 million to gross profit, partially offset by the effect of unfavorable foreign exchange rates of $0.6 million.

Organic gross margin increased $1.4 million or 3% compared to the prior year quarter. Core gross profit, excluding the impact of inventory purchase accounting charges, increased 11% or $5.2 million. Core gross margins were 22% of sales for the current quarter compared to 21.5% in the prior year quarter.

Please turn to slide 4, operating income and margins. Operating income increased $3.2 million or 12% compared to the prior year quarter. Excluding the impact of non-core items in the quarter, operating income increased $1.2 million or 4% to $29.6 million compared to $28.4 million in the prior year quarter.

The increase in operating income is primarily due to acquisitions, partially offset by increased compliance and compensation costs. Acquisitions occurring after the beginning of fiscal 2016 contributed $2.6 million to operating income. Non-core items related to acquisition and integration expenses, facility closure expenses and inventory purchase accounting.

Core SG&A increased $3.9 million or 21% compared to the prior year quarter, including $1.9 million in relation to acquisitions occurring after the beginning of fiscal 2016, partially offset by a decrease of $0.3 million due to the favorable impact of foreign exchange rates. The remaining increase primarily relates to compensation expenses, including building internal compliance resources, and professional fees year over year.

Professional fees include an incremental $0.9 million for audit and external compliance costs primarily related to fiscal 2016 year-end activities. Core SG&A increased as a percentage of sales to 9.5% from 8.5% in the prior year quarter. We anticipate core SG&A for fiscal 2017 to be in the 9% of revenues range.

Please turn to slide 5, net income. In the first quarter of fiscal 2017, core net income increased 4% to $16.1 million from $15.4 million in the prior year quarter boosted by a strong contribution from acquisitions occurring after the beginning of fiscal 2016. The effective tax rate on core net income was 31% in the current year quarter compared to 30% in the prior year quarter primarily due to the mix of income. The projected core effective tax rate for fiscal 2017 is 32%.

Please turn to slide 6, diluted earnings per share. Excluding the impact of the non-core items, core EPS increased 4% to $0.95 in the quarter from $0.91 in the prior year quarter.

Please turn to slide 7, free cash flow. Free cash flow for the first quarter of fiscal 2017, consisting of cash provided by operating activities less capital expenditures, was $8.3 million compared to $11.9 million in the prior-year quarter, primarily due to the timing of working capital requirements.

Please turn to slide 8, core EBITDA. This slide shows core EBITDA for the quarter. Core EBITDA is defined as core operating income plus depreciation and amortization. Core EBITDA for the first quarter of fiscal 2017 was $41.5 million compared to $38.7 million in the prior-year quarter.

Please advance to slide 9, capital expenditures. Our first quarter capital expenditures were $10 million compared to $11.3 million in the prior year quarter. The projected amount of capital expenditures for fiscal 2017 is $49 million.

Please advance to slide 10, depreciation and amortization. Our total depreciation and amortization was $11.9 million for the first quarter of fiscal 2017 compared to $10.3 million in the prior year quarter.

Please turn to slide 11, debt. The company had $502.9 million of debt as at June 30, 2016 compared to $497.9 million at June 30, 2015. During the last four quarters, the company paid down $74.7 million in debt and borrowed including acquired debt $79.7 million in relation to acquisitions. During the last four quarters, Multi-Color had made acquisitions in Australia, Southeast Asia, Ireland and the United Kingdom.

Now I'd like to turn the presentation over to Nigel.

Nigel Vinecombe

Thank you, Sharon, and good morning all. Thanks for joining us. I guess from our point of view, Q1 has been a mixed quarter, some positive signs notably on the organic growth and gross margins front, but also some disappointments for us.

So firstly, in terms of organic growth at 4%, excluding the exited beer label business, we feel it’s a reasonable result and within our 3% to 5% expected range, excluding the beer and we still continue to put money into CapEx to support further growth that Sharon just mentioned, $49 million or so for this fiscal year.

Secondly on the gross margin front, good to see gross margins tick up to 22% for the quarter, but should have been better. We do feel as if we've wasted $0.10 a quarter in each of the last three quarters slip through our fingers through internal inefficiencies. Whilst that’s improving, we still see a lot of upside for us as we go forward.

Thirdly, SG&A high, but as expected, and certainly we expect that to moderate back down to about 9% for the full year as noted in the release. So overall, I think a bit of a disappointing result for us. We would have loved to have seen and expected to have seeing us crack over a dollar core EPS for the quarter. It wasn’t to be, but there's still certainly plenty of opportunities for improvement on the one hand and certainly opportunities for us on the acquisition front, particularly as we get into the second half of this fiscal year.

And as I mentioned earlier, if we look at chasing our normal $0.40 for the year, we still feel as if we're on track for that and as mentioned earlier we still believe that it's going to be weighted to the second half of the year given a pretty weak second half last year, we expect to still pick up in the order of $0.30 in the second half of the year and $0.10 in the first half of the year and obviously only $0.04 in the first quarter.

So with that, I'll open it up for questions.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from the line of Adam Josephson with KeyBanc Capital Markets.

Adam Josephson

Just a couple. Just one on sales, can you just discuss the sales trends you experienced as the quarter progressed and by region and by business? Were there any notable surprises to you?

Sharon Birkett

Not really. I mean I guess the only surprise we had a very soft April and then May and June we had some strong recovery to get the overall results. So we're pleased to see May and June be a lot better than the start for the quarter. I think in terms of by region and by geography, if we exclude the beer, we have the 4% in North America that also related to 4% for our main home and personal care segment and 4% as well for our wine and spirit segment.

So fairly broadly based for us in terms of market segments and as we put in the release in terms of geography, we felt comfortable with [indiscernible] North America, a couple of percent for Europe is not where we'd like it to be, but it is Europe.

And thirdly, we're pleased to see that we are getting traction in developing markets, especially considering that we invested a fair amount of CapEx last fiscal year in developing markets as we previously stated and acquisition footprint expansion in developing markets and we're pleased that CapEx is starting to get traction and that the acquisitions last year outperforming as expected.

Adam Josephson

One on your EPS guidance, I think you mentioned you still think you can be up $0.40. I think you also mentioned you're hoping to be up around $0.10 in the first quarter compared to the actual up $0.04. So just in light of that disappointment in your words, can you just talk about why you're comfortable holding to the previous expectation of up $0.40 or so?

Nigel Vinecombe

The $0.10 was in relation to the first half of the year, so Q1 and Q2 combined, and then $0.30 in the second half of the year. So $0.04 out of $0.10 in the first half is more or less on track to where we thought we would be, but if we really hit our straps in terms of our internal performance, we could have done a lot better than the $0.04. We could have done north of $1 in the quarter. I mean, it was great to see gross margins get to 22% and it's never easy to improve operational performance and the teams have done well in that regard, but we know that we've left a lot of money on the pipe.

It could have been 23% for the quarter if we’d hit our straps. And the disappointment to our own internal expectations in terms of – to external expectations, I think were more or less on track. $0.04 out of $0.10 for the first half of the year and expecting, still expecting $0.30 in the second half of the year to get $0.40 for the full year is still in line with what we said externally, just internally we are disappointed that we didn't get where we thought we could be.

Adam Josephson

Just one on your organic EBIT, it was down in the quarter, it was down last year. At what point do you – presumably your answer will be the second half, but can you just talk about why your organic EBIT has been down in recent quarters and why you're confident in expecting that to turn around at some point soon presuming you are?

Sharon Birkett

Just to clarify, particularly in this quarter, the organic EBIT is down because of the high compliance cost and that’s also the trend over the last several quarters. So I think it was a good turning point that we've had positive organic gross margin improvement this quarter which we didn't have in the previous two quarters, but the compliance cost, if you like, really do relate to the whole group, I mean obviously [across this company] and that’s part of the cost of doing business.

But it's not really, if you like, per se related to specifically, obviously our legacy businesses, but we don't allocate anything to those acquisitions. So just to clarify that large SG&A bump this quarter really came down the organic EBIT for Q1 of fiscal 2017.

Nigel Vinecombe

And we feel as if the picks through this nightmare in terms of the compliance costs were over the worst, I mean it’s never going to be where we ideally like it to be, but it will moderate we believe back to that 9% type of run rate by the end of the year. So that will get slightly easier for us on a go forward basis compared to Q1. And in terms of operationally, yes, we’ve made some improvements. It’s nice to see gross margins back up around 22%, but we know there’s still lot of opportunity internally for improvement.

Certainly, we don’t expect a perfect world and have everything go extremely well all at the same time, but we do believe that there are some really poor performers internally that we can continue to improve at a decent rate so that by the time we get into the second half of the year not only do we have a weak comp, but we’re starting to really hit our straps more in terms of some of those underperforming businesses doing a lot, lot better.

Adam Josephson

Just one on organic sales, your organic sales growth has moved around quite a bit in recent years. It was slightly up in fiscal 2014, it was up 4% in 2015, it was only up 1% last year. Can you just talk about why you think there has been as much volatility in your organic sales growth as there has been, particularly given the seemingly stable nature of your end markets? And also Nigel, you talked about the normalized 3% to 5% even though you’ve averaged well south of that over the past three years, what gives you confidence that you can get back there overtime?

Nigel Vinecombe

I think for the last six years, it's been 3% to 4% growth. We’ve had two years of 1% growth. The 1% growth last year was materially affected by that the Miller beer business. It would have been 3% in the absence of the beer business. So I think if you take the beer out, which was a conscious decision to exit, what was for us low margin business because we're not really set up ideally for that type of work, we have been reasonably consistent at 3% organic growth.

If you take the beer, it’s only one year that we’ve missed that type of 3%, 4% growth rate. So I don’t think it's been that volatile, but there has been some volatility there. I think that in terms of going forward, a 3% to 5% range, we've always felt as if we're a GDP plus business, we should be able to grow with GDP customer volume growth, and plus take a little bit of market share.

And if you look at the markets that we're in today, still over half of our business is North American based. If you say that’s a 2% GDP market, Europe's pretty low, 0% or 1% GDP growth, and developing markets is where the growth is at. We still have a relatively small developing market footprint. In Q1 only 15% of our styles were outside of North America and Europe and that's where the double digit growth is and we have 9% growth in those markets in the quarter and we're continuing to invest to support strong growth there.

So I think that on a go backwards basis, it hasn’t been that volatile. We have been in that 3% range, 3%, 4% range consistently, or bar one year excluding the beer and on a go forward basis we should be, I would maintain that, 3% to 5% range and give the upper end of that a nudge as we get to invest more in developing markets where we're under-represented still today.

Adam Josephson

And just one last one for Sharon on cash flow, are you still thinking around $60 million this year and do you expect that – do you consider that a roughly normalized number?

Sharon Birkett

Yes.

Operator

Your next question comes from the line of Ghansham Panjabi with Robert W. Baird.

Matt Krueger

This is actually Matt Krueger sitting in for Ghansham. So apart from the SG&A guidance that you guys have already provided, what are your margin targets for the remainder of the year? And how do you expect margins to progress during the remaining three quarters?

Nigel Vinecombe

From a gross margin point of view, we still expect the year to come in pretty much in line with the first quarter at 22%. There's upside opportunity for us; that's within our control to do better than that. But given the current situation, we'd expect to come in around about that rate and then we've already stated the SG&A at 9%.

Matt Krueger

And then can you provide some examples of the internal inefficiencies during the first fiscal quarter? And then do you expect to remedy these heading into 2Q or is that more of a back half of the year issue?

Nigel Vinecombe

I think we called out some of the businesses in the past, a couple of quarters and we called out $5 million of operational inefficiencies in Q3 and Q4 combined. So it's still some of that, but that's moderating and there's one or two other businesses that have slipped. Nothing to do with integration of acquisitions, just performance slips. And I don't really want to name and shame those on the phone, but internally we're very focused on those things. So good upside to come.

Matt Krueger

And then one last question for me, what are you hearing from your customer base in terms of forward demand trends, inventory levels, promotional activity, trends like that for the remainder of the fiscal year?

Nigel Vinecombe

I think that's nothing unusual. I think that we see that normal type of environment. We do see to some extent perhaps a little bit of more interest in more bling as it were in terms of people having more value and so we are entertaining some CapEx right now for next fiscal year centered around customer interest in having more value add to their labels and more shelf appeal. So nothing unusually different, probably a slight positive in terms of that increased level of interest in more value added labels.

Operator

[Operator Instructions] Our next question comes from the line of Greg Eisen with Singular Research.

Greg Eisen

Could you talk about – your gross margin at 22% is at the top of the range you've identified previously and that's about your expectations for this year. But can you kind of talk around what factors are going to need to improve to move this range? What would be the next stair-step point? Can we think about 23% to 24% as being a long-range target that is achievable if these factors could fall into place?

Nigel Vinecombe

It really depends on mix. Certainly, we'd like to see north of 22%. It's a possibility as we get beyond this fiscal year and it depends where we acquire. If we acquire more in the food and beverage space, probably not; if we acquire more in the health care space, probably there's some upside there. So I think at this stage, we feel better about continuing to state 22% as a good run rate. We do feel as if internally there's the opportunity for us to get better run for this money post this fiscal year because bear in mind Q3 with a lower sales quarter tends to drag the average down again. So we still got the December quarter to come.

Greg Eisen

Speaking of which, can you talk about the acquisition environment right now and maybe your expectations for the rest of this year?

Nigel Vinecombe

It remains healthy. As we stated in the past, we'd like to try and cobble together $100 million of revenues of smaller deals. We feel reasonably confident in about half of that at the moment for fiscal 2017 and the pipeline remains healthy in terms of trying to get the other half of that to close by the end of the fiscal year or April 1 next year. So whilst we won't get all of those revenues in the year on an annualized basis, we're on track to have a good crack at that $100 million this fiscal year.

Greg Eisen

And talking about – it seems to me we're in, at least on the earnings front, at least within, if you look at S&P 500 stocks, almost an earnings recession for quite a number of quarters now. It kind of brings to mind the question, are you seeing any change in pricing pressure? I'm sure customers always push on pricing, that's the nature of the business. But are you seeing anything new? And what should we have as expectations for what could take place this year, next year and so forth?

Nigel Vinecombe

We don't see anything new in terms of pricing pressures. They still exist. And we still work through contracts on a regular basis. But overall, we had 4% growth in the quarter. We had 4% volume growth in the quarter. So we don't see any strong pricing variations at the moment for fiscal 2017.

Operator

There are no further questions in queue. I'll now turn the conference over to Nigel Vinecombe, Executive Chairman. Please proceed.

Nigel Vinecombe

Well, thanks again for your interest this morning. We certainly feel as if there's still plenty of opportunities for us both in terms of improvements of our existing business and acquisitions for the remainder of fiscal 2017 and we will stay focused on both of these areas. And we look forward to talking to you again next quarter. Thank you.

Operator

Ladies and gentlemen, that concludes today's conference. Thank you for your participation. You may now disconnect. Have a great day.

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