HNI Corporation. Q4 2007 Earnings Call Transcript

Feb. 6.08 | About: HNI Corporation (HNI)

HNI Corporation. (NYSE:HNI)

Q407 Earnings Call

February 6, 2008 11:00 am ET

Executives

Marshall Bridges - Vice President and Treasurer

Stanley Askren - Chairman, President, and Chief Executive Officer

Jerald K. Dittmer - Vice President and Chief Financial Officer

Analysts

Todd A. Schwartzman - Sidoti & Co.

Chris Thornsberry - Raymond James.

Matthew McCall - BB&T Capital Markets.

Craig Kennison - Robert W Baird.

Operator

Ladies and gentleman thank you for standing by, and welcome to the HNI Corporation Fourth Quarter Year-end Results Conference Call. At this time all participants are in a listen-only mode. Later we will conduct a question-and-answer session; instructions will be given at that time. (Operator instructions). As a reminder, this conference is being recorded.

I would now like to turn the conference over to our host, Mr. Marshall Bridges. Please go ahead.

Marshall Bridges – Vice President and Treasurer

Good morning and thank you for joining us today for the HNI Corporation conference call to discuss fourth quarter and full year 2007 results which we announced earlier today. My name is Marshall Bridges, Treasurer and Vice President for HNI Corporation. If you have not received a copy of the financial news release, please call (563)-272-7927 and we will send it to you. The release is also available at our website, www.hnicorp.com. Joining me on the line today, from HNI Corporation is Jerry Dittmer, Vice President and Chief Financial Officer, and Stan Askren, Chairman, President, and Chief Executive Officer. Stan and Jerry will review the results, and then open the call for questions.

Before we begin, please be advised that statements made by the corporation during this call that are not historical facts are forward-looking statements. These statements may include, but are not limited to, statements of business plans and objectives, capital structure and other financial items. Actual results could differ materially from those projected in any forward-looking statements, and relying on forward-looking statements is subject to risk. Factors that could cause actual results to differ materially from those projected in any forward-looking statements are discussed in the corporation's news release announcing the fourth quarter 2007 results, and its most recent Form 10-K and other periodic filings with Securities and Exchange Commission. Corporation assumes no obligation to update and forward-looking statements made during the call.

And now I have the pleasure of turning the call over to Stan Askren. Stan?

Stanley Askren - Chairman, President, and Chief Executive Officer

Thank you Marshall and good morning everyone. As is our custom, I'll share a brief assessment of the business, and then turn the call back over to Jerry Dittmer, our Vice President and Chief Financial Officer, who will review some of the specific financial details. I'll then come back and share some thoughts on our outlook and then finally, we will open it up for some questions.

Overall, we continued to compete well in our markets. We reported record office furniture sales and profits for the year. Our hearth business generated solid profitability in 2007 despite a dramatic revenue decline driven by an unprecedented contraction in new home construction.

On a consolidated basis, we generated record operating cash flow, and improved gross margin despite the severe conditions faced by our hearth business.

During the fourth quarter, we also achieved record level of EPS and operating cash flow and strong office furniture operating profit. Office furniture market conditions in the fourth quarter remained relatively unchanged from what we saw the previous quarter with continued softness in the supply-driven channel and solid demand in our contract businesses. Even with these conditions we realized a 9.7% operating margin during the quarter, despite the impact of restructuring and transition charges.

Our hearth business faced the same severe economic conditions, challenging all building product companies during the fourth quarter. Our hearth team effectively dealt with these conditions, and probably managed through them, as they have done for the past 18 months.

Despite experiencing a 14% field decline in the quarter, our hearth business improved operating margin to 8.6%, and that includes the impact of additional restructuring actions. We continue to invest during the fourth quarter, and position ourselves for growth. In office furniture, we increased our investment in new products, and selling resources such as advertising, sales people and marketing material. I would say we are very excited about the return of these investments will generate in the future. We also invest in our hearth business by acquiring Harman Stove Company, a leader in the alternative fuel segment in the industry. We believe that housing market will cycle in the midterm and we are looking for additional opportunistic investments. As the industry conditions improve, we are confident our hearth business will return to be in a strong contributor to our profitable growth.

Concurrent with our growth initiatives and the challenging market conditions, we see focused on reducing structural costs and streamlining our businesses consistent with our past practice. We are executing the previously announced plans to realign operations and close our Richmond Virginia office furniture facility. This will provide our customers with a better more cost effective fulfillment process and is expected to save an excess of $10 million annually, watchfully implemented in the second half of this year.

We consolidated several hearth service and distribution location to reduce ongoing operating cost in our hearth business, while still maintaining our high level of abnormal service in those markets. I will provide more comment and the outlook, but now I will turn the call over to Jerry Dittmer to review some of the specific numbers for the fourth quarter and the full year 2007. Jerry.

Jerald K. Dittmer - Vice President and Chief Financial Officer

Thank you, Stan. For the fourth quarter 2007, consolidated net sales decreased 2% to $669 million, acquisitions added $15 million or 2.2 percentage point. Organic sales growth was down due to the continuing decline in the hearth business, as well as a small decline in the overall office furniture segment.

Gross margins were 36.4% compared to 33.4% in the prior quarter. The improvement in gross margins is due to strong cost control, lower material cost, and better price realization, offset partially by lower volume. SG&A as a percentage of sales is 28.4% compared to 25.9% in the prior quarter due to cost associated with new acquisitions, increased restructuring cost, as well as transition cost related to plant consolidation, increased cost related to brand building, new product and growth initiative, and higher incentive based compensation.

Fourth quarter 2007 included $4.9 million of restructuring cost compared to $900,000 in fourth quarter 2006. In fourth quarter 2007, these included $1.1 million of cost in connection with a shutdown of office furniture facility, $2.7 million of impairment charges related to portions of the office furniture services business, and $1.1 million of cost associated with a consolidation of hearth service and distribution location. The annualized tax rates was reviewed during the fourth quarter compared to earlier in the year, primarily due to a reduction in state taxes and increase in foreign excludable income.

Net income was favorably impacted $0.4 per share as a result of our share repurchase program. During the year, we repurchased 3.6 million shares at a cost of $147.7 million. There is approximately 192 million remained under the current authorization. For the full year 2007, consolidated net sales decreased 4.1% to $2.6 billion, acquisitions accounted for approximately $46 million or 1.7 percentage point.

Income from continuing operations was $119.9 million. Net income per diluted share from continuing operation for the full year was $2.55. Cash flow from operation achieved a record level and increased to $291 million from $160 million in the prior year, driven by improvements in working capital. For other aspects of financial comments, now I will turn the call back over to Stan.

Stanley Askren - Chairman, President, and Chief Executive Officer

Thank you, Jerry. As we look forward market conditions in our office furniture business have softened a bit and the macro economic indicators point to continued slowing in the near term, consistent with an overall slowing in the economy

For the first quarter, we expect office furniture market conditions to remain similar to recent quarters, continued in the supply driven channel, and solid, but slightly lower demand in our contract businesses

During these challenging conditions, we will increase our investment for growth and position for the future; we enhance our selling resources and launch a record number of new products in our office furniture businesses. We are investing in an initiative such as improved web-based selling capabilities, and sharpen selling, merchandizing, and fulfillment processes in our retail channels. We're investing for the economic upturn. Conditions in the hearth industry continued to be significantly challenged by the general housing market. As we've said many times, the timing of any housing market recovery remains uncertain; however, we do believe our hearth business will return to be a substantial contributor to HNI's proper growth. Accordingly, we will manage that business with an eye on our mid-term housing market recovery.

Overall, we'll work to offset market softness and increase the investment by eliminating waste, attacking structural costs and streamlining our businesses consistent with our longstanding past practice. These efforts include leveraging our manufacturing operations, transportation logistics, strategic sourcing and shared services initiative. Despite the difficult near term conditions in both of our industries, we may remain optimistic about the future. We're making transformational investments and removing structural costs to position for long-term success in both of our industries.

As we look forward to the mid-term, we expect an increase of pre-tax return on invested capital by 8 to 10 percentage points over the next 3 years, despite modest expectations for the U.S. economy and housing market. We'll do this by growing operating profit dollars by an average of 8 to 10% per year and enhancing our capital efficiency. This expectation does not depend on our hearth business returning to its historical profit levels. Our returns in profit growth will be even greater once new home construction returns to more normalized levels. We're managing our near term challenges while positioned for these future returns.

I've provided the financial outlook for the first quarter and full year 2008. Jerry?

Jerald K. Dittmer - Vice President and Chief Financial Officer

Thank you, Stan. The current economic uncertainty makes it difficult to project in the short-term. With that said, for the first quarter 2008, we anticipate overall sales for the first quarter to be flat to down 5%. Office furniture is anticipated to be approximately flat for the quarter. Hearth is anticipated to be down approximately 20% including the impact of acquisitions, which brings their profitability to about a break-even level for the quarter.

Gross profit margins for the first quarter is expected to be comparable to 50 basis points higher than first quarter 2007. SG&A, excluding the restructuring and transition charges as a percent of sales for the first quarter is expected to increase 1% each point compared to the prior year first quarter.

Additional investments related to the implementation of our brand building, new product, and growth initiative will drive this increase. We anticipate restructuring and related transition costs to be approximately $4 to $5 million in the first quarter.

I'll now turn to our full year outlook, which is even more difficult to project due to the economic uncertainty.

Office furniture sales for the year are anticipated to be flat to up slightly with operating profits flat for the prior year as we invest for the future economic upturn in brand building, new product, and growth initiatives.

Our first segment will continue to be challenged throughout the year. We expect sales in the new construction channel to be down approximately 20% and the organic remodel retrofit sale approximately flat. When including acquisitions of $30 to $35 million, total revenue will be down approximately 5% for the year in this segment with operating profit 40% to 50% below 2007 level, primarily due to the volume de-leverage in the new construction channel, increased marketing efforts, and a change in product mix.

Unallocated corporate cost which includes interest expense is anticipated to be $55 to $60 million for the full year 2008. Capital expenditures are anticipated to be $70 to $75 million for the full year, with key investments during the year in new product development and related tooling and other operational efficiencies.

Depreciation and amortization expense is anticipated to be comparable to the prior year at approximately $70 million. We anticipate the annualized effective tax rate for 2008 will be 35.5% which is higher until we know if the research tax credit will be renewed in 2008. Stan?

Stanley Askren - Chairman, President, and Chief Executive Officer

Alright. Thank you, Jerry. So, I'll summarize and conclude here. We will continue to manage through these changing market conditions and challenges. We will also continue to invest in growth and improve the strategic positions of our businesses. 2008 looks to be a challenging year where one will -- we can strategically invest, take advantage of market opportunities and position this company really well over the mid or long term. Our members of businesses executed well during 2007, and I believe together we will deliver strong results in the future. With those comments complete, I will now open it up to questions.

Question-and-Answer Session

Operator

(Operator Instruction). And our first question comes from the line of Todd A. Schwartzman with Sidoti & Co. Please go ahead.

Todd Schwartzman

Hi, good morning. Couple of things, the tax rates for the fourth quarter as adjusted seem to be around 25%. Expectations for the full year you just mentioned, that was 35.5%, any of the factors in Q4 ‘07 the lower state tax or the increase in foreign excludable income, is any of that going to recur into Q1 or has it?

Jerald Dittmer

The foreign excludable is a onetime thing, and the state tax as we have adjusted those and included those in the 35.5% rate that we gave you for 2008.

Todd Schwartzman

So that 35.5% should be from where you sit now relatively smooth throughout the year?

Jerald Dittmer

Well, yes, it will be.

Todd Schwartzman

Okay. With respect to the hearth business and the employee count there, are you know where you want to be when the housing conditions improve?

Stanley Askren

Well, as housing conditions improve, we will certainly add staff back to handle that additional volume. So we’ve corrected the headcount to bring it in line with the current market realities. If that changes, we will add back.

Todd Schwartzman

Do you foresee returning to or approximating 2006- 2007 total head count?

Stanley Askren

Well, my hope Todd is someday as the business comes back, yeah, the headcount will return to those levels. Do I think we are in a more effective composition at that return? The answer is, yes.

Todd Schwartzman

And what metrics should we be looking at, what factors would you, what events would you want to see before resuming hiring?

Stanley Askren

Orders increase.

Todd Schwartzman

Lastly, any plans now to either build or acquire I mean, office furniture present in Europe?

Stanley Askren

Well, we are not in a position to comment on it, obviously, we are always looking at international market that where we think we can enter, create value and grow, and so, everything is always under consideration.

Todd Schwartzman

Terrific, thanks.

Stanley Askren

Thanks, Todd.

Operator

And our next question comes from the line of Mr. Budd Bugatch Raymond James. Please go ahead.

Chris Thornsberry

Good morning, this is Chris Thornsberry on behalf of Budd. Just another followup from Todd’s question on the tax rate, gentleman, what was that benefit of the foreign income in the quarter that brought the tax rate down? Could you …

Stanley Askren

We liquidated the hearth portion of our Canadian Subsidiary, and that created foreign excludable income that benefited our tax rate and also gave us the benefit of being able to use the manual that we are expiring in 2007.

Chris Thornsberry

Could you quantify that amount, what the benefit was?

Stanley Askren

It was about five point of it.

Chris Thornsberry

Five point of the decrease, okay.

Stanley Askren

Correct.

Chris Thornsberry

And you talked about what you have been seeing in the transactional business versus the contract business now and also in the first quarter. Does that same outlook carry through for the rest of the year or not? And when do you potentially see kind of a turnaround in that supply channel that you have talked about?

Jerald Dittmer

I think it does carry through the rest of the year based on what we know today, and it increase obviously anybody’s guess on when the economy starts to get some rooting. That transactional side, that supply driven is we think influenced significantly kind of by the overall credit crunch, home equity effect, if you kind of take a look at retailers et cetera, there is similar sort of category of economic factors, and so, we are hopeful that the stimulus that you are seeing, congress work, the Fed movement and all that, things are going to move positively the later part of 2008, but I don't think we are ready to forecast that.

Chris Thornsberry

Okay. Also with respect to restructuring you talked about Jerry, the first quarter anticipation of 4 to 5 million. Is that mostly in the office furniture segments?

Jerald Dittmer

Yes, it is.

Chris Thornsberry

Okay and I think when you talked about the Richmond plant, when you are going to be moving out of that. I think around 15 to 17 million over the next couple of years and it seems that you have gotten a pretty good amount of that already, so has that accelerated according to what your initial plans were and could we then see the savings of that a little earlier than expected?

Jerald Dittmer

No we're pretty well on schedule yet, and for the year we are looking at additional 9, 11 million, we have taken the other portion of that in 2007, but we're pretty much on track right now.

Chris Thornsberry

Okay and just my final question, I'll let others ask is, in terms of the acquisition environment what you are seeing now versus what you saw the end of the last year in terms of changes, availability, and how would you like to finance that, is that strictly through cash flow or you also looking to do some debt?

Jerald Dittmer

I will talk about the deal environment certainly I would not say there is any big change in sort of opportunities. The credit crunch and those sort of things have kind of changed the whole private equity, sort of perspective on potential deals and so, that has changed a bit, how we finance that, kind of depends on the size and sort of what are the uses we have for cash and what we think the debt market looks like.

Chris Thornsberry

Okay. Thank you very much.

Operator

And our next question comes from the line of Matt McCall with BB&T Capital Markets. Please go ahead.

Matthew McCall

Thank you, ma’am. Good Morning every body.

Jerald Dittmer

Good Morning Matt.

Matthew McCall

More comments, I guess, or another question about the other guidance, office furniture flat to up slightly. Obviously the market is quite concerned about the environment, may be talk about the -- what gives you comfort in flat up slightly, obviously it sound like there is still bifurcation in the two sides of your business, but is there a pretty healthy pipeline out there? What does that pipeline look like six months, nine months, 12 months out?

Jerald Dittmer

The pipeline does continue to look relatively healthy. When you start saying six, nine, and 12 months that's a long way off in this sort of economy and really be making any sort of forecast based on that. The contract business continued to perform well and we have not seen a significant drop-off, but I would tell you in this sort of climate we anticipate that there will be some slowing just as corporations, (inaudible) became a bit more conservative until the economy kind of sort itself out. The supply driven business continues on at it basically the same sort of rate basis we've seen in recent quarters, and so, we don't see any real big stimulus to move it either way, probably have a tinge of bit more caution just due to the overall change in the economy.

Matthew McCall

I guess, I understand about the lack of visibility as we move further out, and you kind of answered the question what's the change been in the rate of orders even in the health of that pipeline, but as we look at, it sounds like you are expecting kind of front-end loaded year, if you are expecting some kind of decline or is that decline or pressure that you are expecting more an '09 phenomenon?

Jerald Dittmer

I am not sure, I understand Matt how your conclusion are. I guess, we go back to sort of our guidances. We see a little bit of softening, but we're not forecasting a big dip later on in the year. We think as I said earlier, responding to another question that we are hopeful that financial stimulus kind of pull us out of this thing, but we don't see any significant stimulus that's going to throw a big wet blanket on it, likewise, we don't see any significant stimulus that's going to make it accelerate and so, we are providing kind of a similar perspective on sort of the order outlook with just a tinge of little bit of more caution based on what we see going on with the overall economy.

Matthew McCall

Okay, that’s good. And then, in the guidance you mentioned numerous cost saving initiatives and a focus on reducing cost, may be in referral looking back at that list what assumptions are you baking into that margin guidance or the profitability outlook for '08, you mentioned lot of things like shared services and -- I don't have in front of me, but what kind of assumption are you making on changes that you are going to have to make to meet those margin goals?

Jerald Dittmer

Well it's kind of a continuation of what we are doing now. So we pull, we have always said, we pull these multiple levers here. So we're always thinking about structural cost, where is the waste? What are the big structural things that, we’ve talked to you about logistics outsourcing in the past. We’ve talked to you about plant consolidations in the past. We've talked to you about this Richmond, Virginia consolidation, by the way we are expanding also in Cedartown, Georgia.

So its not just sort of cost reduce our way out. And I should share with you also that where we really do well is the day in, day out, grind it out, take the waste out, take the excess costs out sort of thing. And so, we guess a lot of just continuing on with what we've done over the years. I think likewise we are talking a lot about not just cost reducing our way out of this. And we are on our toes here in the market and saying this is a great time for us to be investing in the front-end of the business, in product launches and in selling models and helping our distribution channels do a better job, and so, including in the hard business. And so what you see in that the gross margin is sort of a pretty broad calculation of all those things kind of coming together.

Matthew McCall

Okay. Now, I guess, we saw the strength of the gross margin in Q4 and just wanted to understand what was assumed next year? Thank you all very much.

Jerald Dittmer

Alright, Matt. Thanks.

Stanley Askren

Thanks Matt

Operator

Thank you and your next question comes from the line of Craig Kennison with Robert W Baird. Please go ahead.

Craig Kennison

Good morning guys.

Jerald Dittmer

Hey Craig.

Stanley Askren

Hey Craig.

Craig Kennison

Congratulations on really executing on the cost side in a difficult environment and I also want to thank you for the color in your guidance; just a followup on a few questions that were asked earlier. It seems to me that a fundamental core competency for HNI is really the rapid continuous improvement and getting at structural costs and your ability to source effectively from other countries. Has the board given any thought at all to, looking at that as a core competency and saying, look, we’re right now we're in hearth, we’re in furniture, but there are other inefficient manufacturing processes where our core competency may play or are you still happy really in these two vertical markets and just would like to look for opportunities there? Thanks

Jerald Dittmer

It’s a great question Craig. Certainly, we have a great board that thinks a lot about these things long-term. And so, certainly that's a dialogue or discussion that has transpired, as you might imagine. And I don't, there's no conclusions, firm conclusions on that. I think clearly what we see right now is we need to maintain our focus on office furniture and hearth, but that's an ongoing dialogue and one that will continue on into the future I think, and – but I'll reiterate the focus right now is office furniture and hearth.

Craig Kennison

And then if you don't mind, just, my phone was breaking up when you talked about your ROIC guidance. What's your goal with respect to return on an invested capital?

Stanley Askren

The ROIC guidance, Craig, was that it would be 8 to 10 percentage points over the next 3 years. And then, we also have current operating profit dollars by an average of 8% to 10% over the next several years per year average.

Craig Kennison

And, where do you calculate your return-on-investment capital at today, just, so I have a rough approximation?

Stanley Askren

I think what it is for the end of this year is 24.9, just like what it was for our 2007.

Craig Kennison

Okay. Thanks guys.

Stanley Askren

Thank you, Craig.

Jerald Dittmer

Thanks Craig.

Operator

And, our next question. I don't believe we have any more questions in queue. Please continue.

Stanley Askren

Alright. Well. We want to thank everybody for your interest in HNI and joining our call and we look forward to talking with you in the future. Have a good day.

Operator

Ladies and gentlemen, this conference will be made available for replay after 1 p.m. Central Time today until February 13th at midnight. You may access the AT&T executive playback service at any time by dialing 1-800-475-6701 and entering the access code 905966. International participants may dial 1-320-365-3844. Again, those numbers are 1-800-475-6701 and International parties may dial 181-320-365-3844. Access code 905966. That does conclude our conference for today. Thank you for your participation and for using AT&T Executive Teleconference Service. You may now disconnect.

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