Acme United's (ACU) CEO Walter Johnsen on Q3 2016 Results - Earnings Call Transcript

| About: Acme United (ACU)

Acme United Corporation (NYSEMKT:ACU)

Q3 2016 Earnings Conference Call

October 20, 2016 12:00 AM ET

Executives

Walter Johnsen - Chairman and Chief Executive Officer

Paul Driscoll - Vice President and CFO, Secretary and Treasurer

Analysts

Andrew Burns - DA Davidson

Michael Wasserman - Moors & Cabot

Jeffery Matthews - Ram Partners

Richard Dearnley - Longport Partners

Operator

Good day everyone and welcome to the Acme United Corporation's Third Quarter 2016 Earnings Call. Today's conference is being recorded.

At this time, I would like to turn the conference over to Chairman and Chief Executive Officer, Mr. Walter Johnsen. Please go ahead sir.

Walter Johnsen

Good morning. Welcome to the third quarter 2016 earnings conference call for Acme United Corporation. I’m Walter C. Johnsen, Chairman and CEO. With me is Paul Driscoll, our Chief Financial Officer, who will first read a Safe Harbor statement. Paul?

Paul Driscoll

Forward-looking statements in this conference call, including, without limitation, statements related to the company's plans, strategies, objectives, expectations, intentions and adequacy of resources are made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. Investors are cautioned that such forward-looking statements involve risks and uncertainties, including, without limitation, the following, one, the company's plans, strategies, objectives, expectations and intentions are subject to change at any time at the discretion of the company. Two, the company's plans and results of operation will be affected by the company's ability to manage its growth; and three, other risks and uncertainties indicated from time-to-time in the company's filings with the Securities and Exchange Commission.

Walter Johnsen

Thank you, Paul.

Acme United had a strong third quarter of 2016. Our net sales increased 7% to $31.9 million. We had net income of $1.5 million up 22% over last year. And our earnings per share increased from $0.33 to $0.40, which is a 22% increase. These results were above our previous guidance.

Our Westcott family of cutting and measuring tools continued to perform very well. We gained market share in scissors, pencil sharpeners and had a very successful introduction of ceramic box openers. We had the best back-to-school performance in our history during the second and third quarters. Our new ergonomic kit scissors were well-received and our high performance carbon nitrite titanium office shears exceeded expectations.

The First Aid business grew and continued to gain market share particularly in the industrial and food service segments. We expanded the offering to include new ANSI 2015 kits, began production of larger and more intensive first aid cabinets for heavy industry and expanded our resale product family. Our online presence grew substantially.

The Clauss industrial cutting tools also grew due to new high performance shears, expanded carbon nitrite coatings and general market strength.

Our Camillus hunting knives benefited from new distribution in camping and market share gains and the Cuda fishing family continued to gain new customers and additional product placement.

As you may recall, we acquired DMT in February of this year. Sales of DMT sharpening tools have increased more than we forecast due to successful placement into our global distribution network. And its financial performance has exceeded our expectations.

Our Canadian business for the quarter declined 5% due to continued market weakness, but we benefited from improved profitability. We expect to build up the current base with new business initiatives.

The European business declined 12% in the third quarter due to timing of promotions, but it grew 36% in the second quarter. We expect solid performance for the year. More importantly, we are laying the ground work for continued growth in 2017. The Westcott family has introduced new school, home and office tools among these are glue guns with ceramic non-stick coatings and lightweight designs for the craft, office and shipping workplaces.

We introduced new heavy duty pencil sharpeners with proprietary titanium blade for the school market. And we are expanding the line of ceramic box cutters for heavier duty use.

The First Aid business introduced an app, this week at the National Safety Conference. It permits customers to record first aid supplies when they are consumed by scanning their barcodes and then automatically requisitioning refills. We had a great deal of enthusiasm for the app at the show and look forward to implementing it during 2017 and beyond.

In the Clauss, Cuda, Camillus and DMT product families, we continued to see expanded distribution in the mass market and specialty stores. In 2017, we begin the rollout of new freshwater fishing tools, product line extensions such as carbon fiber gas and nets and new diamond based sharpeners.

We revised our guidance for 2016 after the second quarter. We are now revising guidance again for 2016 based on strong results. The new guidance is a $124 million in revenues and $1.63 earnings per share in 2016.

I will now turn the call to Paul.

Paul Driscoll

Acme's net sales for the third quarter were $31.9 million compared to $29.9 million in 2015, an increase of 7%. Sales for the nine months ended September 30 were $98.2 million compared to $86.7 million in the same period in 2015, an increase of 13%. Net sales in the U.S. segment increased 9% in the quarter and 15% for the nine months ended September 30.

The growth in the quarter came from Westcott's school and office products, first aid kits and DMT sharpening tools.

Net sales in local currency for Canada decreased 4% in the quarter, but increased 3% year-to-date. Net sales for Europe decreased 12% in quarter and local currency but increased 4% for the nine months ended September 30. Sales in the second quarter 2016 grew 34% due to a large promotional sale, which in 2015 took place in the third quarter.

Gross margins were 37.2% in the third quarter of 2016 versus 34.5% in the third quarter of 2015. The third quarter of 2015 gross margin was negatively impacted by $150,000 of one-time moving and severance costs associated with the move of first aid production in Vancouver Washington. The third quarter of 2016 margins were helped by a better product mix and lower costs.

SG&A expenses for the third quarter of 2016 were $9.7 million or 30% of sales, compared with $8.3 million or 28% of sales for the same period of 2015. SG&A expenses for the first nine months of 2016 were $28 million or 28.5% of sales compared with $24.6 million or 28.4% of sales in 2015.The SG&A increase for the three and nine months was mostly due to high variable selling costs as a result of higher sales in the added DMT business.

Operating profit in the third quarter increased from $2 million last year to $2.1 million this year, an 8% increase. Operating profit for the nine months increased 16%. Net income for the third quarter of 2016 was $1.5 million or $0.40 per diluted share compared to net income of $1.2 million or $0.33 per diluted share for the same period of 2015. Net income for the first nine months ended September 30, 2016 was $5.3 million or $1.39 per diluted share compared to $4.4 million or $1.18 per diluted share in the comparable period last year.

The company's bank debt less cash on September 30, 2016 was $33.4 million compared to $23.9 million on September 30, 2015. During the 12-month period Acme United purchased DMT for $7 million and paid $1.3 million in dividends and $1.4 million in stock repurchases. We expect net debt to decline to approximately $20 million by year-end. We also expect to generate approximately $4 million in free cash flow for the 12-months ending December 31, 2016.

Walter Johnsen

Thank you, Paul.

I will now open the call to questions.

Question-and-Answer Session

Operator

[Operator Instructions] And we will take our first question from Andrew Burns with DA Davidson. Your line is open. Andrew Burns, your line is open. Please check the mute function on your phone.

Andrew Burns

Sorry about that. Good morning and congrats on year-to-date performance. Walter could you spend some time on Amazon and the performance you are seeing there and as you look forward, is it just continued growth as Amazon continues to build its business or other any sort of internal drivers to further boost growth with that important account. Thanks.

Walter Johnsen

Well, Amazon is an increasingly important account across all of our product families. Westcott, Camillus, Clauss, DMT. Europe is becoming top 10 accounts which is basically out of much smaller base the year ago. In the U.S., it's particularly showing strength in the first aid area, although it's across the board. And I'm happy to say that they are now also using our first aid kits internally within Amazon.

We are working on a number of projects with them to expand our distribution particularly in the refill area as well as in the smart compliance kits. But, they are not the only growth driver in our first aid area; it's really across the board in many, many of our accounts.

Andrew Burns

And as you think about growing the first aid business where are you from a capacity standpoint, if you look into 2017, is there any capacity constraints as you ramp production in Vancouver and Rocky Mountain.

Walter Johnsen

Well, it certainly was. That's a very good question. A year ago when we closed Pac-Kit and as Paul mentioned we had $150,000 of moving expenses in the third quarter and there was additional moving expenses in the fourth quarter. So, we moved all that to Vancouver, the goal was to increase the utilization of the plant. And increase our operating margins there.

What happened was, the business grew at the same time faster than we projected and we then, didn't have anymore Pack-Kit site, so we scaled up in Rocky Mountain, where we have substantial capacity. There is about $100,000 square feet in Rocky Mountain that is available for growth. And so, we recruited a team of people through June, July and August -- May actually we started production in Rocky Mountain. And they are now taking on that growth.

And the good news with that is that we have plenty of capacity. They are less efficient than Rocky Mountain -- than Vancouver right now, but that's just an experience curve. So, as we grow going forward, we are looking forward to putting more of that base in North Carolina.

Andrew Burns

Great. Thanks. And then, just one last one, as you look into 2017, can you give us any high-level thoughts in terms of just from a modeling perspective, it sound likes there is plenty of product initiatives and distribution opportunities. We are just -- just hoping you could -- you can have a sort of frame up from a growth or profitability standpoint some of the key drivers we should be thinking about?

Walter Johnsen

Well, first, our internal growth this year probably -- you can model it, but I think it's probably 7% to 8% maybe a little bit more. So if you would take that off of $124 million, that give you some broad number of top-line assuming, we continued that kind of growth. But, the first aid business with a new app and new cabinets and new refills and the growth we had there. Our expectation would be that -- that would be continuing. The glue gun business will be a multi-million dollar launch we hope for next year.

The Camillus business should be growing in part because, we are getting more distribution. And the Cuda fishing tools for freshwater are going into major changes from January. So, there is growth there.

In the scissor area, there continues to be demand for opening boxes and we are estimating that to be somewhere in the 3% to 4% range in units a year. But more importantly they are buying heavier duty cutting tools because boxes are different than paper. And so they are higher margin, non-stick items or titanium items.

We are also trying to gain some business at some of the superstores and the frontal shops in our area and it's good to add paper trimmers. So while, I don't have it all nailed at this point. But, if you will look at the organic growth we've had this year, it's probably a good place to start.

And then, of course, with DMT performing and with new products being developed and introduced as we speak. We are expecting to increase that business. Of course, there is always the opportunity for another tuck-in acquisition and we are beginning to actively look in that area as well.

Andrew Burns

Great. Thanks for the color and good luck.

Walter Johnsen

Thanks.

Operator

Thank you. We will go next to Michael Wasserman with Moors & Cabot. Your line is open.

Michael Wasserman

Hi, Walter.

Walter Johnsen

Hi, Mike.

Michael Wasserman

Hi. Other than changes perhaps in general economic conditions, what do you see as the most significant challenges the company faces in the next couple of years?

Walter Johnsen

Well, one area that we are addressing is, I want to make sure that we are absolutely and think technically with the things we are doing with Amazon. And that will be a -- I believe this year Amazon might be our fourth largest customer. It could move up to our second largest or third largest next year. And so, getting the warehouse to be able to handle some of the smaller orders very efficiently, more pit lines. We are doing some work there right now.

On the IT side, we have strengthened that in the past quarter with somebody who took the head of IT at $250 million company that go to a $1.5 billion and that was recently sold. And he has had a lot of experience working on acquisitions and bringing in various operating systems and then converting them over.

I think that is an important aspect, but maybe gets overlooked. But, if you look at trees, they stop growing at a certain point because nutrients can't get to the leaves. And I want to make sure we have got a vascular system that's quite powerful.

One of the areas that's increasingly important is the North Carolina facility because as we grow we've got a place to put things and now we are scaling up production in Rocky Mountain. I want top-shelf leadership throughout the organization there and so we are going to be building in more mid-level supervisors and probably some more technical staff to deal with IT requirements with Amazon. And maybe those aren't the things that you normally think about.

But, in the past year, we've had new locations, in Hong Kong, in Guangzhou, China, we've added more space in Fairfield, Connecticut. We outgrew the space in Vancouver, Washington. So those logistics are very important and the execution of that is critical for us to deliver the operating leverage that we hope we can do.

Michael Wasserman

Okay. Any other challenges that come to mind?

Walter Johnsen

Well, when you had people, you got to train them, but we are doing that as well. You've got the macro things, you just never know about. But, the plan that I see for next year is one of execution with growth. And I can see that very clearly in my mind.

Michael Wasserman

Okay. Thank you. Keep up the good work.

Walter Johnsen

Very much, Mike.

Operator

Thank you. We will take our next question from Jeffery Matthews with Ram Partners. Your line is open.

Jeffery Matthews

Hi, Walter. How are you?

Walter Johnsen

Good. Thanks.

Jeffery Matthews

Just a clarification, what was the net debt number Paul said at year-end, I thought I heard him say $20 million, but that can't be right?

Walter Johnsen

That's all right. He said $29 million.

Jeffery Matthews

$29 million, okay. And then, he said free cash flow of $4 million, is that correct?

Paul Driscoll

Yes.

Jeffery Matthews

Which is down from last quarter, you said $4.5 million to $5 million, I think, what is the big delta there?

Paul Driscoll

The biggest delta is, CapEx spending especially in our DMT facility.

Walter Johnsen

So, Jeff, we are putting a $0.5 million into DMT to expand its capability. And that's in particularly a big injection molding machine with robotic arms. But, with that thing in, doubling the capacity that is a very well for the next year and year after.

Jeffery Matthews

Sure. And then, they are still a bit, so, is the remainder would be inventory or receivables or all the above?

Paul Driscoll

Jeff a lot of factors go into estimating free cash flow and I think the difference at this point is pretty small.

Jeffery Matthews

Okay. Can I ask it in another way, which is -- is there anything in your receivable, the inventory came out at the end of this quarter that did wildly different than what you might have expected at this time of the year?

Walter Johnsen

No.

Jeffery Matthews

Okay. I'm just curious, how did you get that Amazon corporate business with first aid, like how did you actually do it?

Walter Johnsen

We have a team of people that do corporate selling of first aid. And they were very, very experienced sales people. They would be the equivalent of a computer sales guy back in the days when you would be at Sun Micro Systems selling servers. So, very sophisticated guys. And they are the group that calls on, for example, United Airlines, McDonald's or Wells Fargo and they called on Amazon. Now Amazon happened, they are also using our products. I mean selling our products and having to present with some knowledge base. But, basically, through the corporate call.

Jeffery Matthews

Okay. So, on Mike's question about what challenges you see ahead on. I'm just kind of curious, was there anything in the quarter or year-to-date that was disappointing to you in terms of any product lines or accounts and it didn't work out?

Walter Johnsen

Well, it's minor, but Jeff Burns from DA Davidson covers us and he had a top-line growth of I think $30.2 million, we came in at $20.9 million. And there was $300,000 or $400,000 that was going to ship at month end and the Chinese had national day and they didn't do it. So that rolled into the fourth quarter, wasn't a big disappointment. But, I wanted top-line as well.

But, on a more serious note, we are getting very, very reception from our product -- new product introductions and we are happy with them. They have a little bit more inventory in first day than we expected because some of its sitting in Vancouver and we want to ship it across country. And then, storage that we are storing in there and eventually going to be consumed but that's -- those are little tactical things.

Jeffery Matthews

Okay. And then on the [box Cuda] [ph], is that because -- is that people buying them to open up boxes from Amazon at the house which we do?

Walter Johnsen

Yes. So, this was very interesting to me. OPI magazine which is the office -- used to be the office product international, the U.K. based magazine that goes throughout the world. They had something on opening boxes for online deliveries. And prominently placed across half of the page was one of our ceramic box openers, which surprised me. I know we sell them in Europe, but, I guess even OPI is using them. I was pleased with that.

Jeffery Matthews

Okay. And then…

Walter Johnsen

As we role into next year, there will be more of these that are slightly heavier duty for use in places like the safety -- purchased by the safety manager at Wal-Mart or Kroger's. people that are using our first aid and safety items right now for the health of their employees. Here it's the same buyer for something that's looks like a very much more safe box opener. So, these are being targeted to those accounts.

Jeffery Matthews

Got it. Okay. And then, kind of a bit of after-walk question, but the ScottMiracle-Gro has become something of a marijuana play because they are selling fertilizers and stuff, Miracle-Gro did that grew. Is there anything in the cutting side that you find that all of a sudden, they are being sold in places where you didn't expect? But, they certainly make a difference down the road or not?

Walter Johnsen

We will do a couple of hundred thousand dollars this year probably to marijuana distributors. They love the non-stick herb scissors that we have. Marijuana is sticky. So they love them. But, I don't see that as a big growth factor. It's just -- they pay by credit card.

Jeffery Matthews

Thanks a lot. I appreciate it.

Walter Johnsen

Okay.

Operator

[Operator Instructions] We will go next to Richard Dearnley with Longport Partners. Your line is open.

Richard Dearnley

Good morning. To pick-up on Jeff's question, how did you win the food service first aid placements that you spoke about? Was that also through the sales team or did come through Granger, someone like that?

Walter Johnsen

I can't get too specific about customers. We have announced and think people know most of the -- it's about 8000 McDonald's that are out customers. There is an example. And that one came when we bought First-Aid only two years ago -- two and a half years ago. We built off that experience and so you can imagine at a corporate level our guys going from one to the next. When we won all of the first aid business with Wal-Mart in the spring, every store, warehouse, office, truck America and all the retails for that. and that was again, corporate sales.

So, we got a very, very good team and it's different than most of our competitors who make these calls on the local level, on the branch level. We offer substantial savings to the safety managers through our smart compliance where refills are about 30% less than what they might get through a van-based delivery.

Richard Dearnley

Great. And is the -- the first aid production at -- in North Carolina fully up and running or is it chasing in or where is that?

Walter Johnsen

Well, it's running. We need to put some more equipment in there so that it's got the same quality equipment at our Vancouver, Washington plant has. But, it's running and what we did is, we took the old equipment that was a packet and moved it down there. We thought for reserve capacity, it turns out it's not reserve, we are in production. And eventually during this year, its' volumes probably will be about equal to Vancouver, Washington, if we can head our growth.

Richard Dearnley

Paul on SG&A, the third quarter of 2015 SG&A was abnormally low as a percentage of sales and so this quarter is kind of back to normal or at the high-end of normal.

Walter Johnsen

Let me explain that Rich. Last year, we didn't hit the numbers we wanted to hit and delivery to shareholders. So, we reversed every bonus within the company, paid none. And this year, we are exceeding our numbers and we are accumulating bonus through our people.

Richard Dearnley

Does that account for most -- you called out sales comp increased sales that would seem to account for really a small percentage of the $1.4 million of increased SG&A, where that comp or bonus comp would seem to account for a lot of it?

Walter Johnsen

Yeah, so, well, of course, we've got bigger facilities all over the place..

Paul Driscoll

But the $1.4 million includes adding the DMT business, so if you look at it purely on a dollar amount that's $0.5 million and if you look on a percentage, it doesn't really have the same impact, but Walter answered the question why the percentage to sales was down -- was u 2%.

Richard Dearnley

And will there be bonuses -- further bonuses accrued for fourth quarter?

Walter Johnsen

Sure. They have got gold's, one that they can deliver them.

Richard Dearnley

Right. Got you. Okay. Thank you.

Operator

[Operator Instructions] And we have a follow-up question from Richard Dearnley with Longport Partners. Your line is open.

Richard Dearnley

What product lines have been disappointing so far in 2016?

Walter Johnsen

We had a pretty good year.

Richard Dearnley

Okay.

Walter Johnsen

I can't think of one. I'm sure there is something that we've discontinued. Sure, the ScottMiracle-Gro business, we dropped that and we reverted to our original brand Clauss for our garden tools. And we executed that in June and we are shifting over customers now. We hope that Scott's branding would build that category to $20 million and $30 million in the big players at Lowe's and Home Depot and that didn't occur. It's a very competitive business and we weren't able to crack that.

So, that was a disappointment but it wouldn't show in the numbers because we didn't have expectation of that it's going to grow this year.

Richard Dearnley

I see. Okay. Thank you.

Walter Johnsen

Welcome.

Operator

Actually, we do have another question from Jeffery Matthews from Ram Partners. Your line is open.

Jeffery Matthews

Hi, Walter. Just on your debt and whether the -- I know you keyed off the LIBOR, given where we are in interest rate cycle and given where -- I don't know -- who knows where things to go. But, is there any reason to change to lock-in and to go into some kind of fixed rate over the long-term. Are you just happy where you are and you got the flexibility you need and you are not even thinking about that?

Walter Johnsen

I'm thinking about it. And we've had some banks in to look at it. But, right now, we've got floating rate debt LIBOR plus 2%, so we are borrowing at 2.5 percentages. LIBOR goes up 2 points, we are still have 4.5 and lot of the fixed rate loans are sitting at around that level and it's just -- every time we have looked at this, it's turned out that staying with the fixed rate, I mean the floating debt was the right decision. Yes, I can tell you that banks would try to hassle since of the -- some hedges. Five years ago, four years ago, three, two, I mean it's like money, it's a profit center for them. So, we haven't but we would have to go quite a bit to be -- very expensive for us.

Jeffery Matthews

Okay. Thanks very much.

Operator

I'm showing we have no further questions at this time. I would like to turn the call back to our presenters for any closing remarks today.

Walter Johnsen

I would like to thank you for joining us today. And supporting us as we continue to grow the company and now we will conclude the call. Thank you very much. Bye-bye.

Operator

This does conclude today's program. Thank you for your participation. You may disconnect at any time.

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