ASV Holdings, Inc. (NASDAQ:ASV) Q4 2018 Results Earnings Conference Call March 14, 2019 4:30 PM ET
Andrew Rooke - Chairman of the Board and CEO
Melissa How - CFO
Conference Call Participants
Chris Howe - Barrington Research
George Melas - MKH Management
Scott Billeadeau - Walrus Partners
Good day, and welcome to the ASV Holdings Inc. Fourth Quarter Preliminary 2018 Financial Results Conference Call. Today's conference is being recorded.
At this time, I would like to turn the conference over to Mr. Andrew Rooke, CEO. Please go ahead, sir.
Thank you, John. Good afternoon, ladies and gentlemen. Thank you for your interest in ASV. Joining me on the call today is Missi How, our Chief Financial Officer. Today's call is supplemented by the press release issued earlier this afternoon, which is available on our website.
Also available on the website and in the release are replay instructions for a recording of the call, which will be available until March 21st. As discussed in our release, we have anticipated providing full and final results on the call and in our filings today. Although we are substantially through the 2018 audit, we are not yet in a position to provide final results for the fourth quarter and full year 2018. We require the completion of our analyses of any potential impairment to the carrying value of our goodwill and intangible assets as of December 31, 2018.
We are updating our analyses as a result of our assessment of conditions that may indicate that we could have an impairment, such as the Company's recent results, share price performance and market capitalization. In the event of any impairment, the Company would be required to record a non-cash impairment charge to the fourth quarter results. Whether an impairment charge will be required and if so, the amount of such charge have not been determined.
We anticipate completing our analysis and having our final statements completed by the end of March and in time to file our Annual Report on Form 10-K. All of the preliminary financial information in the press release and discussed today's preliminary, is subject to completion of the yearend financial reporting processes, reviews and audit.
So, let's start with the update. The fourth quarter of 2018, was a quarter in which much of our good progress was significantly impacted by the industry wide head winds of escalated material costs and component shortages, which in our case was mainly engines. Total revenue grew for the third consecutive quarter to $33.1 million and this was led by our eighth consecutive quarter of year-over-year quarterly machine growth, a 31% year-over-year increase in North America machine sales, and 17.2% overall growth in machine sales to $24.6 million.
Quarterly sales and growth were held back by the shortage of engines that caused us to delay manufacturing and shipping approximately $3 million of in-hand orders, which therefore remained as part of our $30.2 million order backlog at the end of the year. In North America, our largest market and where our goal is to build our brand and presence, our retail dealer, same store sales growth was 24%. This is good evidence that there is a maturing and securing opportunities in that territories where underlying demand in retail activity is strong and that our efforts to work with them without gaining traction.
As our dealer and rental location counts is expanded to 286 at the end of the year, we are increasingly shifting our focus to dealer management and taking steps to facilitate higher rates of sell through from our current dealers who sell ASV products as opposed to the recent dealer appointment objective, which we have focused on in past year since relaunching the brand. I'll return to this later.
Another key point when discussing sales for the quarter is that as we had previously announced, we received our first orders of approximately $0.7 million from a new rental account for us, a larger independent rental company, and they shipped in the quarter. We are hopeful this is the start of a relationship that grows as they order more of our products in both quantity and type.
The principal negative key items from our fourth quarter relate to the industry supply chain and input costs. With elevated levels of market demand, comes some strain on the supply chain particularly for critical components such as engines, and this shortage has a direct impact in the quarter. In addition to the restrictive constraints of having allocations for engines from several manufacturers, engines we had expected to receive in the fourth quarter were delayed by the manufacturers. And as already discussed, this resulted in $3 million of orders not being shipped, no booked revenues.
With the shortages, we determined it was necessary to reduce our manufacturing daily production schedule and to close production for several days in the quarter. This helps to reduce our labor expenses but impacts the absorption of costs and increases the cost of inefficiencies in manufacturing, in turn affecting profitability.
From our discussions with the manufacturers and the visibility of our allocations and delivery schedules, we expect the engine availability to be largely resolved in the second quarter of 2019. Also in the quarter, we anticipate reporting an adjustment of approximately $0.7 million to resist the slow moving inventory, mainly aftermarket parts, for which we're better able to assess usage and rights of sale following the move of the distribution center earlier in the year.
Input costs and in particular the price of U.S. sourced steel and imported components rose sharply during the year. And despite some price increases and cost reduction activities, the expected net cost to us after pricing recovery is $0.5 million in the quarter. As I discussed earlier, in line with our key competitors, we have increased prices from the start of the year to reflect the higher cost of materials.
In addition, our targeted activities are aggressively seeking to reduce our material costs through product design optimization, selectively insourcing fabrication manufacture, and resourcing to lower cost suppliers, from which we expect approximately $2 million in margin recovery in 2019.
However, the items above contributed to what we expect to be a GAAP loss for the quarter as we announced in the press release. For the full year, the turns I just discussed for the quarter, a similarly total machine growth of 13%, North American machine sales growth of 26%, and retail dealer same store sales growth of 16%, all very positive trends.
Our total revenue comparison to 2017 was impacted by a couple of factors. Firstly, our machine sales to Australia were down $4.1 million year-over-year. The results of initial stocking orders to a new dealer in 2017 that did not repeat in 2018, combined with some softness in the second-half of the year in the Australian economy.
Secondly, our revenues from OEM undercarriages and parts were down $4.3 million as the OEM customer ordered fewer units in the year. We've previously discussed that we have seen the undercarriage revenue steadily decline in recent years and expect this to continue. Supplying parts for undercarriages in the field however is business that we expect to maintain for many years to come as the machines tend to have a serviceable life upwards of 10 to 15 years.
With regard to the market conditions for our products, the key indicators for our compact track loaders such as housing starts, general construction and the rental channel were largely favorable for 2018, with housing starts at 3.6%; construction spending, up 1.6%; and the equipment rental market, up 7.6%. Towards the end of the year, the housing market reflected some uncertainty and adverse impacts from adverse weather and interest rate increases.
Australia, a large market for us, had GDP growth of 2.3% year-over-year, much of which however was in the first-half of the year. The first quarter of the year was traditionally a slower seasonal period, and this year weather conditions across much of North America have been challenging. Discussions with dealer have indicated a slow start, but with plenty of activity in preparation for the 2019 season to start. The Equipment rental market is forecasting 5% growth for the year.
I'd now like to make some comments regarding our strategic initiatives. Our dealer sell through rate improved throughout the year. Moving into 2019, our focus remains on marketing and building brand awareness. We engaged professional advisors in 2018, to help develop our marketing strategy in the specific activities we are implementing. Comprehensive pricing and support programs, new material and tools for our sales and the dealers, including the new website launched in January this year, are the first phase implemented in the back-half of 2018, and we're seeing improved interest and lead generation from this work.
In North America, we added a net 64 new dealers in 2018, that's dealer locations. And at the end of the year, our dealer and rental locations stood at 286. We expect to continue to grow the network, particularly in key markets where we are still under represented in 2019. We know the quantity, that's the number of dealers, is part of the growth strategy; but quality, which is dealer performance, is also critical, and that's making sure we choose our regional dealers wisely.
Our team's efforts to increase sell through made considerable progress in 2018, as we saw a near doubling of dealer locations, achieving the targeted rate of sales turn. We had approximately 25% of the target rate, and expect this to grow again in 2019. So, quantity and quality of the network is going in the right direction. During the quarter, we received industry recognition for the RT-25 and RT-40 machines we launched in the year.
The RT-25, the World's Most Compact Track Loader, solidifies our position in the small capacity segments; targeting rental, landscaping, and snow removal markets, for example. And additionally provides a compelling alternative to the large market that stand behind or walk-on machines.
Housing and construction activity while moderating towards the end of the year still showed growth over 2017, and our expectations are for continued growth in 2019. Our $30.2 million backlog as of the year end, also afford us some visibility for the first-half of 2019. The industry wide engine and component shortages that impacted 2018, delivery times, seemed likely to remain a challenge to the first quarter of 2019.
However, our pricing actions and cost reductions to offset material costs, continued success increasing the dealer counts, and dealers sell through and the easing of bottlenecks in the supply chain should all result in positive benefits.
So, not withstanding completing the audit and filing of the 10-K and our complete financial statements, our strategy remains intact, our value proposition remains strong and our long-term financial objectives are unchanged.
We expect to conduct another shareholder approval as soon as we have filed the 10-K so that our investors have the opportunity to ask questions regarding the quarterly and year-end financial statements and our progress.
And now I would like to open the call up for questions recognizing that our comments will have to be limited to the areas that we can address right now. So John open up for questions please.
[Operator Instructions] We will now take our first question from Matt Koranda of ROTH Capital Partners. Please go ahead sir. Your line is open.
This is Mike on for Matt, thanks for taking my questions. And apologies if I missed this, but are you able to provide any more detail on what's driving the potential impairment to goodwill and intangible assets?
Well the process is you may well be aware is that we conduct an annual impairment test. We did that in October and concluded that everything was fine. The rules the accounting rules require you to sort of be aware of any triggers that may give you an insight that there may be and impairment and one of those for example is the stock price performance. As we now our share price has been not as strong since the IPO for example.
And so those potential triggers that are there, we consider that it was prudent to do another analysis to complete it roll it forward and that's what we are in the process of. And it takes a little bit of time to do that, but as we said in the release that we expect to get that done and complete it to get our filings done on time before the end of the month.
And then it seems like a positive quarter for machine sales. Can you give a little more information and how the season is trending so far in January and February sort of what order growth is like our dealer stocking up to the levels you anticipated and how you anticipate this to progress for the rest of the quarter?
Well I can't really make any comments about the first quarter I am afraid. I did say in the release that some and in my prepared remarks that the prospects as far as the information that we see are still very positive for 2019. Rental growth, construction growth is anticipated to be strong. Housing I think picked up a little bit actually in January although it languished a little bit in November and December.
So underlying market still seeing little strength there for some growth in 2019, they have as you probably very well aware anybody who has been traveling around knows that the weather conditions have been very severe in many parts of the U.S. and Canada which certainly has seen an impact we think.
Our feedback that we’re getting is that there's lots of activity taking place, people are getting ready. The season is as you probably aware sort of really starts towards the back end of March and then into that second quarter. So the little bit that we have of those activity out there and people are looking forward to getting their projects going.
And then on the pricing side, can you quantify the price increase that was implemented at the start of this year?
Yes, so, we got an increases somewhere between 3% to 3.5% in the first quarter.
And then last one from me just sort of regarding working capital, do you have any visibility into that or levers you can point to 2019. And maybe if you can talk a little bit about where you intend to deploy free cash flow?
Yes, so I can’t speak specifically obviously about where we are at the end of the year, because we haven't sort of discussed that. But I think what we have indicated and if you went back to September numbers for example. We have discussed that during the year we made some selected and strategic investments in inventory in particular largely driven by the need to get some longer lead time items because of the supply chain disruption into our facility and we also took the decision to carry some modest increases in finished goods inventory as well to be able to support orders that came in on the fly that maybe we weren’t expecting.
And the other area where we might - again relatively small but at some investment was in aftermarket parts where once we took the parts distribution back to under our control and back in our facility. And we’re able to see and far closer and far quicker detail the sales rate, the time maybe that we needing to get part into support aftermarket demand we put a selected increase in there as well.
My assessment is that we have largely completed that during 2018 those selected investments. And so I think there is an opportunity, certainly as the supply chain improves going through 2019 that we should be able to take some working capital out. Now it's something that we did very successfully in 2017, and I feel that that's something that we should be able achieve in 2019.
We will now take our next question from Chris Howe of Barrington Research. Please go ahead. Your line is open.
As far as it seems that excluding 348 basis points if the challenges were not to have been in the quarter that gross margins would have been back in that double digit range. As we look at some of the longer term targets that you shared before by 2022 of 18% to 19% gross margins given the near-term headwinds although they will alleviate later this year, are we still on track as those long-term goals come more into focus?
Yes, we certainly believe that we can talk about a couple of specifics one is obviously the price increase that we put through. And again probably very aware that pretty much are all of our principal competitors implemented and talked about price increases in 2019 as well from the start of the year. So our actions along with the rest of the competition should put us in a position where they are offset is achieved against the material cost increases.
So that’s step one, the other point that we should talk about is in my remarks I was discussing the cost reduction activities that we got in place and again those are things that we’ve talked about through 2018 but as we go into 2019 we have very strong clear visibility of projects that will generate we believe 2 million in margin improvement in 2019, and that's on a phased-in basis. The actual total benefit of those on a on a full-year basis is more like 3 million.
And those are activities that we’re doing. I called out sort of three areas really one was product design optimization and that's really where we take a design that we already got in place and look at how we can not only improve the product performance quality capability but also take cost out of it as well. And we have a number of projects that are in process, a number going into production this month for example so that's one area.
Then we have another set of activities which is doing some selected in-sourcing of fabrication manufacture. And as we've discussed before our model as a manufacturer has been more outsourcing than in-sourcing and that largely will stay the same, but so we're talking on the margin of how much we bring in, but there are some very positive benefits that we can obtain and some strategic benefit as well. We think there's some parts out that we currently have manufactured outside that we want to bring inside to maintain our IP, intellectual property capability, for example.
So we brought some selective insourcing going on. And then thirdly, some resourcing. So there are opportunities where by just working with a broader base of suppliers but we can obtain same or better quality componentry at lower cost. All of those activities are underway. They are the detailed, there are specific projects attached to them. We monitor them and track them and we'll be providing that tracking and information as we go through the year measuring against this $2 million that we've said that we expect to occur in 2019.
And I have a few more questions. You had highlighted the success that you're seeing in inventory hitting the desire turns, doubling of locations, hitting the desired turn rate. As we move throughout 2019, how would you assess this moving forward, increasing the number of dealers turning at the desired rate when you compare the existing dealer network versus new potential locations in these higher density markets?
So, make sure I understand the question, I think that our goal is to essentially have all of our dealer locations hitting at the target rate. I think at the end of the day, we would have what would probably be a normal distribution, a 80/20 rule or whatever. The things that we are doing is in a couple of areas. Firstly, we are working to provide tools, support, brand awareness, drive leads to the dealer network so that they can be more successful at selling product. And that certainly helps them with regard to selling more product and achieving the turns that we're looking for.
The other piece is, as we select and identify new dealers to come onboard, we do that wisely, we do it on a planned and structured basis. But we do know that there are markets where we are underrepresented today, larger markets where we are underrepresented and where we feel we need to put some representation of our products.
By the fact that those markets are by definition some of the larger markets, one would hope that and expect that as we have representation there, the opportunity is therefore greater and therefore if we just choose and get our dealers, the good dealers, the right dealers, the one that understand us, understand our product and the market, then we can more rapidly have dealers on dealer locations that are achieving the turn rates that we're hoping to achieve.
That would lead me to my next question. In these more dense markets such as, for example, Texas, can you provide some color as to the advantages/disadvantages and/or challenges in finding the representation in these markets? Is it time to market, is it – or we just need a strategy to continue to evolve, can you add some color there?
There are a number of factors. Time is certainly one of them. People who are dealers today have their own business, which they've invested in, which they want to be successful and they're spending their time trying to do that. What we hope to do is to be able to capture some of that time and convince them that taking on board the ASV product will help them be more successful in doing that. But it's a process and we have to be respectful of their time. But work as hard and as fast as we can to get a meeting of the minds that they want to take the product and we want to give them the territory in which to sell it. So, that's certainly one aspect of the activity.
One of the challenges that we have, of course, is that we are a short line manufacturer. So, we have the single product, it's a track loader or skid steer product, but we don't have a broad range of products as well. And so there are some dealers who maybe we would like but they don't have the capacity in terms of - they don't want to bring another product brand online. So it's a displacement discussion that takes a little bit of time.
So, there are a number of those type of factors. I mean, we have been successful certainly adding the dealers that we've added in 2018. We did a number of things to increase our opportunity and hit rate, if you like, have been able to secure the good, higher quality dealers that we're seeking.
We made a very good presence at the AED, Association of Equipment Distributors, earlier on in the year, where you are meeting and engaging with prequalified, these are big dealers or bigger dealers who add a function looking for new opportunities. And so there's some prequalification rather than in one sense just throwing a dart at a map, not but that's what we do, but that could be a description.
So, those are type of things that we're trying to do to work it through. And I think we've had some good success in 2018. Our brand awareness, as that becomes much stronger then not only are we pushing but we'll start to get more of a pro as well, and we've seen some of that happen, again, more recently as people are reaching out to us to be dealers as opposed to us reaching out to them to be dealers.
And the 286 retail and rental locations, were there any locations that were approved from the portfolio?
Yes, that is a net number. I believe it's probably in the low 11, 12, 13 or so locations that we print - Missi, is that about right?
Yes, I think it might have even been a little less than that, but that's fair. It wasn't more than 10, 11.
We will now take our next question from George Melas of MKH Management. Please go ahead, your line is open.
Trying to understand the gross margin a little bit better. The gross margin came in at 8.6%, and you see that it was adversely impacted by two major factors, and one was 300 basis points and the other one 200 basis points. Can you help us understand - I think the 200 basis point is pretty easy to understand, it's basically a reserve for - it basically seems to be a noncash charge. The 340 basis points, can you help us understand that a little bit? Because you had put some price increases I believe mid-year, you had some pretty good orders at your dealership - when dealers came to your location. And it seems like those orders at that time were at slightly higher incorporated the price increase. So can you help us understand the 340 bips?
Yes, I think the short answer to the question is the level of input prices, steel and tariff related items was stronger in the fourth quarter than it had been in the third quarter, in the second quarter, George. That would be the first point. But the tariff recovery or the steel surcharge recovery that we had in place, remained for machines that we shipped in the quarter. But there was certainly a stronger level of material costs hitting us in that fourth quarter.
I’ll point out to the one other item as well on the impact of - on the gross profit percentage, which was we talked about the delay of manufacturing and chipping some orders because we hadn't got engine supplied that was just under a point as well so it’s about 0.9 that hit the gross profit.
And what that caused was two things one we didn't manufacture and we didn't - we weren’t able to ship and fulfill those orders they are still in the backlog at the end of the year which is fine. But we did have to take our manufacturing levels down and took some down days as well which obviously is a disruptive on absorption and also just efficiencies and things like that that you get when you start to sort of take those things down from where you plan to be. So those would be a couple of other factors on the gross profit.
So just one thing, the 340 basis point impact did that include the 90 basis point from - the billing orders and the disruption to the…
No, it doesn't, that is just input costs net of price increases.
And just try to get the numbers right 340 basis points on $33.1 million that amounts to $1.1 million is that right?
Yes, well the calculation you got to net out the pricing from the sales as well because your sales revenue includes your recovery. So there's an adjustment on the sales line as well, but yes it works out to 3.4%.
But does that mean that without those - without the impact of the net impact of high cost offset by pricing your gross profit have been 1.1 million higher. I'm just trying to understand if I got the very basic?
Yes, no it would have been 0.5 I think we said yes 0.5 million.
And what we've done George going forward is as we talked a few moments ago is we put - further price increase through as all of our competitors have done from the start of the year. That plus the cost reductions are targeted to more than eliminate that 340 basis points of course.
Quick question on the dealer count I think you had a deceleration throughout the year but a 286 shows a nice pickup in sort of net new dealers. Was there a particular reason for that, was there may be a rental change that came in?
Yes, so and sort of going back to the conversation we had with Chris a minute ago it's a bit lumpy when we can add people et cetera. In the fourth quarter, we certainly added I think it was 14 locations from the new rental account that we signed - which obviously we’re very excited about with our goal to penetrate the rental market. This is a major player that getting on for - up to 100 locations just a bit less, but a very good number of locations.
There is an opportunity for us to expand into as we go forward, but certainly those were part of the total location count that we talked about there.
And then maybe one final question, on Australia any expectations of flatness or rebound in 2019?
I think at the moment we probably think its flat year-over-year that would probably be in part our estimate. I think that economy has slowed just a little bit, but there still plenty of activity we’re still number three, I would say in the market there with a very healthy market share. And one of the things that we’re hoping for not only in Australia but also in our U.S. and Canadian markets is a boost from the new machines that we’re putting out the 25, the 40, the 65.
There's a lot of excitement about those and not the least in Australia as well. And one of the things that we are seeing with them just to sort complete that is we are starting to see them move to some of the higher capacity units which is encouraging. They have tended to be more in the mainstream volume and capacity units. So we’re starting to see some progress with the bigger units there as well. So notwithstanding those things to answer your question again probably flat year-over-year is where we see it.
And then one quick final question just on free cash flow, just expectation of cash flow in 2019 it seems like - with the price increase and some of the cost reduction well you can pick up some gross margin improvement and maybe as you suggested earlier maybe some pickup in working capital do you expect a fairly healthy I’m not sure exactly…?
Yes I think those things are right George.
I think those things are right there as we talked about the selected investment that we done and largely completed an inventory and working capital. So I think that's there. Our CapEx maybe a little bit higher this coming year. We'll probably finish the year 2018 of roundabout 1 million I assume something like that. We may pick that up by making 400, 500 or something, but that would be it from the cash flow perspective.
We will now take our next question from Scott Billeadeau of Walrus Partners. Please go ahead. Your line is open.
Most of my questions and most your commentary kind of answered most of my, I just had one quick one and I am not sure if you can give me some clarity. Just back on the intangible just for me maybe you can just give me a little history, where did most of the intangibles and the goodwill come from in the first place. I know there is acquisition way back when or was it as a part of the call. The spin out and that's essentially where that was created?
That is correct, so back in the end of 2014, December 2014 when the ASV business was spun out of Terex into the joint venture a process takes place to assign it’s basically purchase accounting and at that point you assign values to all of the assets and liabilities including intangibles and goodwill. And our intangibles, and Missi 28 million or so is that rights of intangibles.
That’s in the ballpark yes.
Yes, those comprise things like brand name, customer relationships some of the patents that we have and things like that. And then in addition to that we got 30 million of goodwill on the balance sheet as well.
I figured it was related to that. That seems like things are if only you could get engines?
Yes, well that has been exceedingly frustrating and we’re not alone I know but we’re just concerned about us just to be honest. But we do see lights at the end of the tunnel and that end of the tunnel is a lot closer now. As I indicated we thought we would have some challenges through Q1, but we see visibility and improvements as we exit Q1 most definitely.
[Operator Instructions] It appears there are no further questions. I would like to turn the conference back to Mr. Rooke for any additional or closing remarks.
Thank you very much John. Thank you all for your interest in ASV and the questions today. We are going to be working very diligently to ensure that we complete the final items of the audit and get our filings and 10-K posted in all due course and all full financial statements of course as well. So thank you again and we look forward to updating you after we got our filings completed. Thank you. Bye, bye.
Ladies and gentlemen this concludes today's conference call. Thank you for your participation. You may now disconnect.