Brady Corporation (NYSE:BRC)
Q1 2017 Earnings Conference Call
November 16, 2016, 10:30 am ET
Ann Thornton - Director, IR
Michael Nauman - President & CEO
Aaron Pearce - CFO
George Staphos - Bank of America Merrill Lynch
Allison Poliniak - Wells Fargo
Charley Brady - SunTrust Robinson Humphrey
Joe Mondillo - Sidoti & Company
Good day, ladies and gentlemen, and welcome to the Quarter One 2017 Brady Corporation 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 will be given at that time. [Operator Instructions]. As a reminder, today's conference is being recorded.
I would now like to turn the call over to Miss Ann Thornton, Director of Investor Relations. Ma'am, you may begin.
Good morning and welcome to the Brady Corporation fiscal 2017 first quarter earnings conference call. The slides for this morning's call are located on our website at www.bradycorp.com.
We will begin our prepared remarks on Slide number 3. Please note that during this call, we may make comments about forward-looking information. Words such as expect, will, may, believe, forecast, and anticipate are just a few examples of words identifying a forward-looking statement. It's important to note that forward-looking information is subject to various risk factors and uncertainties, which could significantly impact expected results. Risk Factors were noted in our news release this morning and in Brady's fiscal 2016 Form 10-K, which was filed with the SEC in September of this year.
Also, please note that this teleconference is copyrighted by Brady Corporation and may not be rebroadcast without the consent of Brady. We will be recording this call and broadcasting it on the Internet. As such, your participation in the Q&A session will constitute your consent to being recorded.
I will now turn the call over to Brady's President and Chief Executive Officer, Michael Nauman.
Thank you, Ann. Good morning and thank you all for joining us. This morning we released our fiscal 2017 first quarter financial results. I'm pleased to report that we continued our streak of improved year-on-year profitability this quarter. This quarter, we increased earnings per share by 18.9% when compared to the first quarter of last year, while our organic sales did decline by 0.2%. However we had another quarter of solid cash generation.
Our consistent focus on the fundamentals of producing high-quality products, providing excellent customer service, developing efficient effective manufacturing processes, and pushing for efficiencies in our G&A structure, are the primary drivers of our improved financial results.
As I've commented on the past, we're driving down two parallel path. The first path focused on driving operational improvements. First, this involves creating the right culture for success. The culture based on local ownership and accountability where the right behaviors are incentivized. We deliver what we promise, and we put the customer at the center of everything we do.
And second, driving efficiencies and simplifying processes in our manufacturing facilities, investing in more efficient, high quality equipment, optimizing our product offering, reducing our centralized G&A structure, and streamlining the processes that contribute to a relatively high SG&A expense. Our drive for operating improvement has clearly had a positive impact on our financial results.
The second path is focused on rebuilding our organic sales engine. In our WPS businesses, we are actively managing the catalog to digital shift. We are creating an industry-leading digital market place with our mobile first mentality and we are sharpening our focus on compliance and customization for Workplace Safety critical industries.
In our IDS business, we are investing in our new product development process at emerging technologies to create smarter products. Our product development process and pipeline are clearly getting better. This quarter, we launched a new full color industrial desktop printer called the BradyJet J5000 which is an inkjet printer that can create total quality color labels for harsh environment and a wide variety of applications and industries. It's easy to use and it features of selection of apps that help our customers to keep their facilities compliant and safe.
I'm excited about this printer as it expands our product offering with the printer that builds a significant gap in the industrial market. Our goal is not only to improve short-term financial results but provide the foundation for a strong future. Each employee is focused on making the right decision today that will ensure our long-term success, whether this is through creating new innovation solution for our customers, taking the additional time and effort to implement a process improvement, or taking those initial steps necessary to provide excellent customer service.
In many instances, these actions don't pay off immediately, but we're tackling these items every day because we know that they'll position Brady for long-term success. In addition to our new focus on innovation and executing the fundamentals of great customer service, we're seizing every profitable sales opportunity. However, we're operating in a challenging industrial economy. Our channel partners are commenting about the tough economic conditions, many other industrials have continued to report reduced revenues and we don't have clear line of sight to a catalyst that will trigger a material improvement in the global economy.
In this environment, focus and consistency are critical in helping our teams to execute every day. As such, our top priorities remain unchanged. We're to serve our customers extremely well, grow our pipeline of innovative new products to deliver longer-term growth opportunities, and deliver operational efficiency throughout our business that would generate results now and be sustainable in the future.
I will now turn the call over to Aaron to discuss our first quarter financial results. I will then be back to provide some specific commentary on our Identification Solutions and Workplace Safety businesses and a few closing comments. Aaron?
Thank you and good morning everyone. I will start the financial review on Slide number 3. This quarter revenues were down 1% to $280.2 million when compared to the first quarter of last year. This decrease consists of an organic sales decline of 0.2% and a decrease of 0.8% due to foreign currency translation.
Our diluted EPS grew by 18.9% finishing at $0.44 this quarter compared to $0.37 in last year's first quarter. Our focus on cash flow was also evident in our financial results as cash flow from operating activities increased 11.9% this quarter. And although our cash flow was positively impacted by the timing of certain payments, we were certainly pleased with our cash generation which continues to trend in the right direction.
Turning to Slide number 4, you'll find a summary of our quarterly sales trends. By division, organic sales increased 0.7% in the ID Solutions segment and decreased 2.5% in the Workplace Safety segment. Looking at our organic sales geographically we saw decreases in sales in the U.S. and Australia where we continue to experience reduced demand. These declines were partially offset by continued organic sales growth in our Workplace Safety business in Western Europe, where our teams have continued to perform nicely despite a lack of significant economic growth.
Foreign currency translation continue to be a headwind as well this quarter reducing sales by 0.8%.
Slide number 5 provides an overview of our gross profit margin trending. We finished our first quarter with a gross profit margin of 50.1%. This is a 90 basis point improvement over the 49.2% gross profit margin realized in the first quarter of last year. This year-over-year improvement was a direct result of our ongoing efforts to drive efficiencies and focus on providing the best possible customer experience across the entire company.
Slide number 6 illustrates the trending of SG&A expense. SG&A expense was $98.0 million this quarter compared to $100.7 million in the first quarter of last year. This trend of decreasing SG&A is an indicator that our efforts to identify efficiencies and savings throughout SG&A are paying off. We've been aggressively moving ownership for the majority of our administrative costs deeper into the organization in an effort to drive increased ownership and accountability for all costs.
During the quarter, we recast our segment financial results to reflect this increased accountability. However this change didn't impact our record SG&A expenses for the total company. This change only impacted how we manage and report our segment results.
Turning to Slide number 7, our diluted earnings per share grew 18.9% finishing at $0.44 this quarter. We were able to realize this improvement in EPS even though revenues were down by a total of 1% and we increased our R&D spend. These profitability improvements were driven by a combination of operational efficiencies and a lower tax rate. Overall the team executed well in the cost side while not sacrificing our longer-term as we continue to invest in growth initiatives and the driving of innovation especially in the area of R&D.
Slide number 8 summarizes our cash generation. This quarter, we finished with $34 million of cash flow from operating activities compared to $30.4 million in last year's first quarter. Looking at free cash flow, we generated $30 million this quarter compared to $28 million in last year's first quarter. The chart in the upper left-hand corner of this slide provides more detail on cash generation. The bars represent cash flow from operating activities and illustrate the general trend of improved cash generation over the last two years or so.
This quarter, we returned $10.4 million to our shareholders in the form of dividends and we increased our cash balance by $25.1 million. Our strong first quarter cash generation was aided by the timing of certain employee related payments specifically annual bonuses which were paid in the first quarter of last year and will be paid in the second quarter of this year. As a result of the timing of these payments, we expect that our cash generation in the second quarter will be down compared to last year, but timing items such as this certainly doesn't change our general trend of improving cash generation.
Moving along, Slide number 9, illustrates our net debt and our net debt-to-EBITDA trending. Our net debt-to-EBITDA was approximately 0.3 to 1 at the end of the quarter. Our total net debt position benefited from a strong cash generation and continues to trend downwards. At October 31, 2016, net debt was $49.7 million compared to $75.7 million at the beginning of the quarter and $140 million just one year ago at October 31, 2015.
As we look at deploying our cash, our capital allocation approach is disciplined and patient. First, we use our cash to fund organic growth opportunities which includes funding investments in new product developments, digital enhancements, sales generating personnel, and capability enhancing capital expenditures.
Second, we focus on returning cash to our shareholders in the form of dividends.
Third, we use our cash to improve shareholder returns through opportunistic share repurchases. We currently have 2 million shares authorized for repurchase.
Fourth and finally, we use our cash for acquisitions. Acquisitions are not expected to be a significant use of cash in the near-term however. Our strong balance sheet gives us the flexibility to fund future growth opportunities and return funds to our shareholders.
Slide number 10 summarizes our guidance for the full year ending July 31, 2017. Our full year earnings per diluted Class A Non-voting Common share guidance remains unchanged at a range of $1.55 to $1.70. Included in our guidance are expectations for organic sales ranging from a low-single-digit decline to slightly positive growth for the full year ending July 31, 2017.
Looking at our cost structure, we expect to see our investments in R&D continue to grow in fiscal 2017 and we also expect that our tax rate will land in our historical range of 27% to 29% this fiscal year. Offsetting this challenging revenue environment and the increased R&D expenses that I just mentioned, are ongoing efficiency gains in our manufacturing facilities and in our SG&A expenses.
Other key operating assumptions in our guidance are unchanged as well with depreciation and amortization of approximately $30 million and capital expenditures of approximately $25 million.
Lastly, before handing the call over to Michael, let's turn to Slide number 11. Slide number 11 articulates the quarterly results of our recasts segments for each of the quarters in fiscal 2016 and the first quarter of 2017. We've effectively made two changes to how we measure and report our financial results. First, we've realigned certain businesses between our WPS and IDS segments as we realigned reporting relationships to better match our strategies. This change resulted in a relatively small decrease in our Workplace Safety revenues and an equal increase in our ID Solutions revenues.
Second, we changed our internal measure of profitability by pushing responsibility for certain general and administrative expenses into the segments as part of our drive for local ownership and local accountability. As such, you can see here and in more detail in our press release this morning that we've decreased the amount of unallocated administrative expenses and increased the expenses that are included in arriving at the profit measure for each of the two segments.
Pushing accountability for administrative expenses deeper into the organization does not immediately result in efficiency gains, but it helps bolster our cultural shift of increasing local ownership, empowerment, and accountability for all costs and we expect this change to help us achieve our SG&A improvement goals in our operating plans. We also believe that this change in the measurement of segment profit helps reflect the true profitability of our WPS and Identification Solutions businesses.
I'll now turn the call back over to Michael. Michael?
Thank you, Aaron. Slide 12 summarizes the Identification Solutions first quarter financial results. Organic sales increased by 0.7% and foreign currency translation decreased sales by 0.6%. In total, IDS sales were basically flat with a 0.1% increase finishing at $201.3 million this quarter.
Organic sales were driven by our healthcare and Asian IDS businesses this quarter and were partially offset by slight declines in Americas and European regions. I'm encouraged by the improvement in organic sales growth in Asia as we struggle with declines over the last several quarters and we're now seeing a positive momentum and a nice pipeline of future sales opportunities.
Organic sales were weakest in Americas region. We realized slight organic sales growth in Canada and Brazil for the first time in several quarters, while the U.S. continue to be impacted by reduced demand. We aren't seeing a clear path to sales growth in the near-term in the U.S. and we expect to continue to be challenged by these weak economic conditions.
Our R&D spend falls primarily within the Identification Solutions segment and as you see, R&D expense was up 6.7% this quarter, when compared to the first quarter of last year. We've been very clear that our investments in R&D are not simply about how much we spend. Our investments in R&D must be on the right products that our customers need and want. Our investments must be focused on a new product pipeline that is properly balanced between necessary product refreshes and new to market products and technologies. The processes for bringing high quality products to market in a timely and cost-effective manner must be robust.
We're starting to see some of the benefits of this new renewed focus on product innovation which has given us confidence that if we increase our R&D spend in the right areas, it will produce results. For instance, the first color printer that I mentioned in my opening comments went from the idea stage to launch stage in less than nine months. In the past this product would have taken at least twice this amount of time to get launched. We are pleased with what is happening in an R&D group and we expect R&D spend to continue to increase modestly on a year-over-year basis for the remainder of this fiscal year.
IDS finished with $33.1 million in segment profit in the quarter which is an increase of 30% over the first quarter of last year. This is a direct result of the focus on efficiency and operational excellence that we've been working so diligently to improve upon.
As a percentage of sales, segment profit improved to 16.4% this quarter compared to 12.7% last year. I'm pleased with the increasing segment profit margin in the IDS business it's a testament to the focused efforts of this entire group.
Looking forward to the rest of the fiscal year, we expect to see modest improvements in segment profit as a percentage of sales when compared to our recast fiscal 2016 financials. Specifically, we expect IDS segment profit to be in the mid-teens as a percentage of sales in FY 2017. We're investing in R&D and commercial resources and we expect to incur additional expenses in these areas and incentive compensation in fiscal 2017. At the same time, we expect to see our ongoing efficiency activities offset these cost increases.
Let's move now to Slide 13 for Workplace Safety review. Organic sales decreased 2.5% in WPS this quarter. Our European business continues to perform well though with organic sales increases in the mid-single-digits. This is a continuation of the trends we saw throughout fiscal 2016. European digital sales increased by more than 25% compared to the first quarter last year and were the driver of organic growth in the quarter. Increasing organic sales in relatively challenging economic conditions was a direct result of our European leadership team's ability to drive results and execute their strategy, which involves serving our customer how they want to be served be it online or through more traditional channels such as catalogs.
The improvement in organic sales in our European-based business was offset by high-single-digit declines in our North American and Australian businesses. Much like our IDS business, we experienced sluggish demand in the U.S. as we appear to lack a strong stimulus to kick start organic sales growth. We continue to adjust our cost structure in both the U.S. and Australia to mitigate the impact on profit as much as possible.
Foreign currency headwinds continued into Q1 of this year reducing our WPS sales by 1.3% this quarter primarily due to the impact of the British Pound depreciating against the U.S. dollar. We will focus on growing this business and improve profitability.
Each and every member of the WPS team has been driving three primary goals. First, we're managing the catalog digital channelship to efficient and effective catalog prospecting. Specifically, we're moving to a digitally produced catalog process.
Second, our sites are being created using a responsive design. We believe that having a continually improving mobile presence is necessary in order to be an industry leader in this area and this is definitely what we're working towards. Although mobile sales are still a relatively small part of our business, sales generated at our mobile devices are increasing every month as a result of the improved capabilities of these new sites.
Third, we are regaining product leadership in the Safety Identification product category through a focus on unique and customized offerings and taking advantage of our team's deep knowledge and expertise in this area. Our focus and investments in these areas are creating long-term value that improve customer experience in our digital and mobile capabilities and a strong innovative product line in every key category.
Segment profit in Workplace Safety platform was $6.5 million this quarter compared to $9.4 million in last year's first quarter. As a percentage of sales, segment profit was 8.2% this quarter compared to 11.4% in last year's first quarter. This reduction in segment profit is a direct result of the reduced revenues and a reduction in gross profit margin which was partially caused by business mix.
Looking forward, we anticipate organic sales to range from a low-single-digit decline to slightly positive growth. Given what we know today, we expect segment profit to be in the upper-single-digits to approaching 10% of sales for this full fiscal year.
Before turning the call over to Q&A, I'd like to provide a few concluding comments. Over the past two years, I visited quite a number of our sites around the globe in fact effectively I have visited all of them at this point. I've met with many of our employees and I know that we have a strong, talented, and dedicated team made up of both experienced dedicated Brady employees and energetic new talent.
Recently I've seen a shift within the company through -- I've seen a shift through increased ownership and accountability, thinking differently about performance, always delivering what we promise and always expecting to win. Brady has always been a great and highly innovative company and now with this increased level of local ownership and accountability, clear expectation, and a shift in attitude, I believe, we have a winning culture and the winning team that will enable us to be successful for years to come.
We've made significant progress in improving our operational issues and as a result we've delivered five consecutive quarters of year-over-year profit improvement. However, even with our improving profit results we must focus on delivering organic sales growth in fiscal 2017 despite the challenging economic conditions. These top-line challenges make our ability to control costs and drive further operational improvements that much more essential in hitting our long-term plan.
I'm pleased with our progress but I know that we have the ability to achieve more as an organization. I would now like to start the Q&A. Operator, would you please provide instructions to our listeners.
Certainly. [Operator Instructions].
And our first question comes from the line of George Staphos with Bank of America Merrill Lynch. Your line is now open.
Hi, everyone. Good morning. Thanks for the details, as always. A couple questions to start and then I'll pass it over. I guess the first question I had, can you give a little bit more color in terms of Workplace Safety and what was a fairly negative decremental margin in the quarter when we look at the revenue decline relative to the EBIT decline? And then, if you could, Michael, I've seen other companies do what you're doing, which is to push some of the unallocated, I mean that's my phrasing, not yours, but push the unallocated to the segment, and it typically is quite effective, because if you have ownership for cost, then you determine whether you actually need it or not. Do you have any guidance perhaps in terms of what savings you might be able to gain from this, from what you've heard already from your business units? Thank you and I'll turn it over.
Thanks, George. Appreciate the question. We'll start with WPS. Obviously the critical challenge on this business is revenue related particularly in North America and Australia. We are very pleased with our European results and are working hard to emulate that model in the other regions. It is certainly taking a significant amount of time to turn that business around but given where we're at and where we're going, we're confident we're moving in the right direction and we're seeing all the indications that in particular our North American business will be improving. That said, obviously as I said the biggest issue was sales volume and then online pricing also had an impact, both were offset by SG&A cost savings.
So for your second question, fundamentally we agree, and that's why we're doing it, when you push down costs into the organization, so that people can be accountable to them, they end up using those resources much more wisely and they reposition resources very effectively. We've already been seeing this over the last two years but we're working very hard to continue this process as we get deeper into the organization and push accountability deeper into the organization and we fundamentally do believe it's going to pay off. We haven't given specific guidance as to the impact but you certainly know that our target of $2 EPS remains in place and this is the significant part of that effort.
Okay. Mike, if I could ask a follow-on related to what you just said. So is it possible to parse the impact from volume relative to pricing for WPS? If it's not, we understand, but figure we would try nonetheless. And could you remind us what in particular about the European model is working that you think can replicate in the U.S.? Thank you. And Australia. Thank you.
Absolutely first of all, we don't parse that and I certainly understand the desire but it's not a piece of information that we parse out.
Secondly though fundamentally the challenges in Australia in particular do evolve significantly around that economy as you are well aware, they have a large segment of their economy that is based on the mining industries and agriculture, in particular, the mining industry continues to suffer dramatically there and we are directly impacted by that. But also we've been working hard to really help with some of our catalog prospecting and our digital models from our European presence in Australia and we've had some very specific efforts to transfer that knowledge base in an effective manner there that does take time though and the impact takes time. But we're confident that that investment that we've been making is paying off for us in the future.
In regards to North America, obviously oil and gas remains a fundamentally challenging area that we have had a reasonable amount of exposure to. So there are basically some market related challenges that continue. That said we believe that the strengthening of our leadership in that area has been fundamentally positive for us and that we are making specific focus changes that Europe was ahead of the curve on, it's how we position our products, and in fact introducing new innovative products that we know will be paying off in the future as well. So I hope that helps to explain.
Thank you. And our next question comes from the line of Allison Poliniak with Wells Fargo. Your line is now open.
How are you, Michael? On Identification Solutions, obviously positive commentary on Asia. Could you maybe talk to what you think is driving that? Is it something you're doing? Is it a specific economy or product that's helping there?
It is actually the work we're putting into leadership team, there. We've made some significant changes. We're very pleased with the total leadership focus in that area. In particular, as you know, China has been a drag on our results and there are economic headwinds in China that remain and we don't see those changing but we've been able to drive a more effective approach to sales development there and particularly profitable product development that has been helping us. And therefore, we do think we continue as we noted in the commentary overcoming some of those headwinds. We certainly as in all of our locations would be thrilled if we got some help with the global economy but as I said, we're not expecting it in China or globally.
Great. Thank you. And then just turning to Workplace Safety, I understand it's an evolving business model to-date. But with this resegmentation, can you give us an idea of what prior peak margins were? And obviously, with this increased pricing transparency, as we look forward, I mean, I guess what gives you comfort that you can sort of get these back may be even to the low-double-digit kind of margins going forward?
Well, as far as the transfer of the business that was purely related to technology, we had a business that we felt was an orphan, in the WPS space that had a fundamental technological connection with IDS. And as a result we feel very excited by connecting that business division with the business subset; it'll help energize product development and a focus on an area that we already are very dedicated to. But I'll transfer to Aaron for specifics on the --
On the prior peak margin.
Yes, so as you can see Allison, we only restated 2016 however we certainly went back and looked at all prior periods for both WPS and IDS and tried to get as close as we could with respect to the amount of G&A that's specifically related to those segments. Obviously looking at it with a very much apples-to-apples comparison and what we found was that as you go back into 2015, 2014, 2013, 2012, where you start to get back into our peak margin area, the amount of G&A expense for Workplace Safety was frankly in the same range that it is today so call it 7.8% to 8%.
So to get a good history, I would just take that 7.8% to 8% and subtract it from the peak margins in WPS and by the way IDS is pretty similar as well from a G&A percentage, so somewhere in that upper 7% range.
Okay. That's helpful. And may I guess longer term, just coming off of Grainger's Analyst Meeting last week and obviously some structural challenges going on with them, as well, in terms of evolving the business model. I mean are those the same issues in terms of pricing transparency and ongoing investment that could hinder you guys, or I guess your customer would be different and driving better for you in terms of margins?
I think two factors; one pricing transparency clearly is becoming a stronger and stronger issue within the marketplace. However the fact that often with that pricing transparency comes a more opaque model as to supplier. We believe fundamentally benefits us because in the areas of Safety and Identification, reputation, reliability, are critical elements. We have relatively low ASP points and as a result people want to be assured that the products they're buying are absolutely what they need to solve their problem and the cost point for them isn't typically such that they're really been driven to do huge amount of research to guaranteeing qualified more opaque sources of supply.
So I think we do have an advantage in that space but fundamentally being able to really use our brands and the reality of the strength and reliability of our products to an advantage that some other channels don't have. That said, I do repeat there is no question that overall in the marketplace transparent pricing is creating some squeeze particularly to the distribution portion of the model.
Thank you. And our next question comes from the line of Charley Brady with SunTrust Robinson Humphrey. Your line is now open.
Hey, thanks. Just back on the commentary about the peak margins and kind of backing out the delta between where the restated, recasted numbers are and where they were prior to recasting on peak, that would imply somewhere in a 15% EBIT margin for Workplace Safety. I mean -- is it -- do you really think it gets back that high? Because it sounds to me, I think structurally that business and the market that that business goes to has structurally changed vis-à-vis the Internet and other things going on. So I'm just wondering is that realistic expectation that it gets back to that high a peak level, even with all the structural changes, cost take-outs you've done?
Well, I can answer that and we've commented on this in the past as well and that is we don't believe that we will get back to the peak margins that we've had in the past. And when you look at our -- the longer range plan that we have out there, we absolutely are not anticipating Workplace Safety getting back to those same levels -- those same levels. And frankly if you go way back in history, I think we probably were actually under investing in the business as well back in those peak years particularly in the digital area as well.
No, fair point.
You're right; we don't intend to get back to that peak level.
Okay. And then just a commentary on M&A not playing a big role. I mean I understand that given what you guys are doing restructuring internally, but you're getting balance sheet down and the net cash positions, or net debt positions, shrunk pretty substantially. What is the capital deployment strategy if M&A is not going to be a meaningful piece of that?
We haven't changed our capital deployment strategy at all. We've been pretty specific on that. We first and foremost are investing in our businesses that's an very, very important area of focus and we're making sure that we are not in any way shape or form starving the businesses of the capital that they need to succeed. So that is always and will always be our first use of cash.
Our second use of cash, as you know, has been and we are proud of our continuing dividend model that we continue and did continue this year, our streak of improving our dividend, for us that is a fundamental focus of a way to bring cash back to our shareholders in a meaningful manner that they appreciate.
Our third message is in share buybacks and as you know, we don't believe in program buybacks but we look judiciously at our price position and we remain very patient. As you can tell, we had been willing to go into the market and buy significant amounts of stock but we will make sure that it is not a programmed approach but a more timed and consistent approach.
And then really the last area is in acquisitions but I want to be clear about that, we absolutely moved away from all acquisitions when I first got here entirely to reposition the mentality of the organization because I fundamentally believe that market share acquisitions are rarely effective. And I feel like we had positioned ourselves to be going after a large number of small and market share-based acquisitions. We have said though at the same time that we will look strategically at acquisitions, if those acquisitions add technology to Brady that we don't believe we can develop in a timely and cost-effective manner. If those acquisitions are going to be positive for the employee base that we're acquiring and positive for Brady in combination in effective manner, that is more significant than just additive.
And then the other two key factors are we need to make sure that the price points of those acquisitions are reasonable. I think you know having watched us for a long time that we have had some write-offs prior to my arrival that were significant and we just don't want to repeat that pattern. We think that fundamentally careful studying of price points is critical to success. Although quite frankly it limits your acquisitions more than we typically have in the past.
And then the final area is we want to make sure as we bring those businesses into Brady that we have the resources and the capabilities to truly integrate them within the Brady structure to make sure that they benefit from being part of the organization, and that is always a challenge to companies but one that we take very, very seriously.
So I want to be quite clear, we are not opposed to properly articulated and executed acquisitions but they will be focused around creating absolute value through technologies and capabilities that we don't have today and we will once again be measured and disciplined and careful in our approach and timing.
Thanks. That's really good color. I appreciate that and just one more from me and I will hop off. On Workplace Safety again on the EBIT margins as you look to fiscal 2017, I think in your prepared remarks you said your guidance implies getting approaching a 10% EBIT margin for that business number one, I want to make sure I heard you correctly on that. And if so that really kind of implies a pretty strong uptick in the back half of the year particularly Q4 on a year-over-year basis improved margin improvement basis. So I'm just trying to understand the mechanics of is there something that's on the come that hasn't happened yet or cost take out that is going to really hit harder in the latter part of the year to get you approaching that 10% number that you'd outlined?
Yes, so I can comment. So first of all yes you did hear that correctly that that's exactly what we are articulated. Clearly we're shy of that in the first quarter. If you look at where we finished -- if you look at where we finished last year on the restated basis we finished at I believe 9.5%. So we were approaching -- we are approaching 10% last year.
We absolutely do think we have the ability to improve from where we're at today. There's a lot of activity going on in our Workplace Safety business Michael touched on much of it already and we do expect that that will have some improvement in the back half of this year. So clearly it's a business that we're working on and should improve.
Thank you. And our next question comes from the line of Joe Mondillo with Sidoti & Company. Your line is now open.
Just to touch on sort of that last question as well as to add to it, I'm just wondering if you could provide us a sense of sort of the seasonality within the business in terms of more specifically the segment margins now that you resetted those was were the last year on segment quarterly margin that we saw a progress throughout the year is that sort of a general way of looking at the general peace seasonality or is there anything that changes this year relative to last?
I can comment on that. So if you look at our segment profit margins and our focus on WPS for a moment, clearly our second quarter is our lowest quarter of the year both from a absolute dollar perspective as well as a segment profit as a percent of sales perspective. Now when you fast forward to the restated segments I'll say, it is a very, very slight bigger impact in our second quarter because of the chunk of that G&A cost is fixed but it's very slight. So if you would follow the general trend that we've seen over the last couple of years, the restated segment should pretty close to follow that.
So more specifically at IDS, you saw big tick up of the operating margin in the back half of the year is a general seasonality that we're going to see this year?
Yes, I guess I don't want to get into that to that level of detail. Some of it frankly is a direct result of operational improvements that the team has been putting in place and driving last year. Yes, I guess I'd go back and look at the history over the last several years, as you pull together.
Okay. In terms of their cost-cutting or I guess also the moving administrative cost is down to the sort of business units just wondering have you changed compensation in addition to that or was the compensation structure already sort of in place that can sort of handle that and still at the same time reduce the cost that you're hoping?
So let's start with the statement about cost-cutting. I want to be clear; we are not cost-cutting. We are actually changing our processes. I'm a firm believer. But if you go in and quote, cost cut, you end up organizations end up seeing those cost come back and often come back plus. So the real reason we're pushing the cost down in the organization is so they can be responsible for the processes and they can help drive changes in the processes and that's what we've been doing and that's a very important distinction for me.
In addition as far as compensation yes, we have aligned our compensation systems much more to a pay-for-performance model and it is significantly different than it had been but it is positively energizing and driving results. We want people who contribute in an outsized manner to our results to be rewarded in an outsized manner. And we want to make sure that there is always a direct connection between if the company wins, the employees that are making a difference win and if they win, the company wins and so we have changed our approach and models and I fundamentally I'm very pleased with the connections that our employee base is making to that.
And just to clarify was that change made, within the last three to six months because I know you did take some at least upper level executive compensation changes when you came in Michael so is that was that more of a broad change to compensation to try to --?
All the way to the organization in the last three to six months, you're correct.
Okay. And then just lastly just wondering, if you could comment on inventory and working capital you've done a good job with inventories or anything I would imagine with these productivity improvements and change of processes that you probably would still have more room to go but just wondering if you could talk about cash flow in inventories?
Well I'll start with the fundamental philosophy and then Aaron can give some specifics to that. As far as our philosophy, one of our real issues is we want to make sure that we are always delivering our product when our customers wanting particularly since we have a value-added distribution division as part of our model, that is critical to our success and we're going to make sure that we always have the components and the finished goods in our system to be able to first and foremost achieve that.
But you're correct, we've been working hard to make sure that that balance of acceptable cash flow and inventory model is there and also that our inventories as a result are always fresh and strong. Specifically the numbers, Aaron?
Sure. So if you go back in history and look at our inventory in particular, as you know we increased our inventories going into our facility consolidation process and then in the back half of fiscal 2015, we saw some really nice reductions in inventories and then those reductions continued all throughout last year. I want to say we generated $5 million of cash from inventories last year. We generated another $1.2 million yes $1.2 million in the first quarter of this year. So the teams clearly are focused on driving inventory levels down, managing inventory wherever we can. I will say this I would think that the inventory improvement will start to slowdown because much of the low hanging fruit is now behind us and now it's coming down to the improvements that were the small improvements we're seeing in every single plant by every single person. So I don't expect that this level of improvement will continue. So don't plan on $1.2 million every single quarter going forward. And eventually, eventually it will start to turn.
Thank you. And we have a follow-up question from the line of George Staphos with Bank of America Merrill Lynch. Your line is now open.
Hi guys. I just want to come back to the capital allocation question and what's embedded in guidance, I'm pretty sure I know the answer but just wanted to affirm, so in your guidance for the year from an earnings per share standpoint, do you have anything assumed for buyback in that figure and if not could you tell us how you're allocating capital relative to what's in the guidance figures and then the other related question again beauty is the eye of the beholder but one could make an argument that you're under leveraged, which obviously is it's a high-class problem but isn't necessarily ideal. So how do you contend with that issue, if in fact you don't have sufficient further capital investment required for your growth initiatives and/or for M&A opportunities and I guess may be the last thing can you remind us this level of capital spending, do you think you can maintain it at this level given all of the growth imperatives that you have? Thank you.
Okay. So let's start with the guidance. We do not have buyback in the guidance but you obviously are aware that we have 2 million shares that are available to us, the buyback. The reason for that is we don't do program, they're timed buybacks and we do them judiciously.
I think the next question is actually very similar, we do have a judicious and careful approach to capital use and we believe that although our balance sheet looks very strong right now, we think that at your point is a rich man's problem, the economy goes through cycles and upturns and downturns, we are positioning ourselves to always be prepared for those and to be able to move strongly forward even when others are retreating because of fundamental premise of mine is that the companies who succeed the best long-term in best throughout the downturns and come out much stronger at the other end of the downturn.
So we certainly understand that at times as a result that that approach can be more conservative at the top side but at the bottom sides, we think that our investor community will see how judicious that really was and is and particularly as we come out of downturn, I think you're going to see a larger growth pattern specifically as a result of that approach.
Okay, Michael I appreciate the color and the answer is pretty much what I had expected. So, thank you for that. I guess the related question perhaps then on the outlook is what you're saying in industrial in North America recognizing a lot of is driven by one or two specific sectors are going through a downturn, is it reflective of past cycle tops and that's another reason why you're reminding us on the capital allocation strategy and the need to keep the leverage very tightly managed or really we shouldn't draw any conclusions from that and kind of the related question -- to the related question is with the change in the administration and what's been frankly a lot of discussion around fiscal stimulus, do you think any of that at all might then translate back to you in a more positive way over the next couple of years. Thank you guys and good luck in the quarter.
Thank you very much. Answering the questions first, I don't think I'd draw any conclusions from that. Over my career the things that I have learned is nothing is new but at the same time everything has a different look as you go in and out. So fundamentally I will say that, when everybody -- anybody mentions we're in a new or totally different paradigm, I can guarantee you that that's not necessarily true, it just has a different local impact. So we are prepared for the shifts as a combo, we are not asking you to draw any conclusions from our short-term positions at all; it's about a long-term focused approach.
As far as the elections, I do believe it's fundamentally too early to draw conclusions as to the industrial dynamics in a particular impacted significantly by the industrial marketplace but we are hopeful that the economy will change, because if it does change, we're going to eliminate the headwinds we have today but we are as I said in initial commentary not projecting changes at the time. We don't see any changes this fiscal year that will lead us to conclude we can expect upwardly generated sales as a result of the economy.
Thank you. And we have a follow-up question from the line of Charley Brady with SunTrust Robinson Humphrey. Your line is now open.
Hey, thanks. Just back to the commentary on the seasonality with the recasting I just want to make sure, I heard correctly, you're talking -- I think you said we're talking about in respect to Workplace Safety that Q2 would be your seasonally lowest quarter which is true for the company as a whole but I'm not sure that's what we've seen historically from Workplace Safety. So maybe I heard that incorrectly, I misunderstood you but can you clarify that?
Yes. If you look way back in history I think our second quarter is typically the lowest last year, see last year and perhaps even the year before. Q3 was also relatively low and part of that information from a profitability perspective was driven by the amount of catalogs that we drop. And then you saw a really nice improvement in the fourth quarter that has been like particularly if you look at last year that was the trend. So relatively weak in Q2, relatively weak in Q3 and then a really nice bounce back in the fourth quarter.
Okay. So I think that's what I'm trying to really drive to Q2 and Q3, the seasonality as far as low point of the year hasn't flipped significantly between what it was for the past two years or has it?
No, it has not and if I gave you that impression, I apologize that wasn't my intention, seasonality basically remains the same.
Thank you. And I'm showing no further questions at this time. I would now like to turn the call back to Miss Ann Thornton for any closing remarks.
We thank you for your participation today. As a reminder, the audio and slides from this morning's call are also available on our website at www.bradycorp.com. The replay of this conference call will be available over the phone beginning at 12:30 Central Time today, November 16. The phone number to access the call is 1 (855) 859-2056. International callers can dial (404) 537-3406 and the passcode is 2951602. As always, if you have questions, please contact us. Thank you and have a nice day. Operator, could you please disconnect the call.
Certainly, ladies and gentlemen, thank you for participating in today's conference. This does conclude the program, and you may all disconnect. Everyone, have a great day.
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