Exco Technologies Limited (OTCQX:EXCOF) Q2 2020 Earnings Conference Call April 30, 2020 10:00 AM ET
Darren Kirk - President and Chief Executive Officer
Matthew Posno - Chief Financial Officer
Conference Call Participants
David Ocampo - Cormark Securities Inc.
Michael Doumet - Scotiabank Global Banking and Markets
Chang Ding - BMO Capital Markets
Ladies and gentlemen, thank you for standing by, and welcome to the Exco Technologies Limited Second Quarter Results 2020 Conference Call. At this time, all participant lines are in a listen-only mode. After the speakers’ presentation, there will be a question-and-answer session. [Operator Instructions]
I would now like to hand the conference over to your speaker today, Darren Kirk. Thank you. Please go ahead, sir.
Thank you, Justin. Good morning, ladies and gentlemen. Welcome to Exco Technologies Limited's fiscal 2020 second quarter conference call. I am Darren Kirk, Chief Executive Officer of Exco. I will lead off with an operations overview. Matthew Posno, our CFO, will then review the financial results. Brian Robbins is also on the call and will join us for the Q&A session.
There are a number of participants, including analysts and shareholders on the line with us today. In addition, call in details have been widely disseminated to the public through the news release process. This call is being simultaneously webcast at our website, where we have also posted a short presentation that we will loosely reference. We welcome all participants this morning.
The format of this conference call will be the same as in the past. After the presentation, we will take questions. The call will end no later than 10:40, and I ask any caller limit themselves to two questions. When you speak, please identify yourself.
Before we begin, I would like to make some comments about forward-looking information. In yesterday's news release and on Page 2 of the presentation, you'll find cautionary notes in that regard. While I won't repeat the content of the cautionary notes, we do claim their protection for any forward-looking information that we might disclose on the conference call today.
First, I'd like to address the formidable challenges that we are all facing with respect to COVID-19. I want to assure you, Exco is taking the necessary actions to protect the health and safety of our employees, meet the essential needs of our customers and minimize the adverse impact on our finances. Of course, we are also continuing with the necessary investments to both solidify and enhance our competitive positioning for the immediate and longer term.
Second, I would like to point out that our results this quarter clearly demonstrate the benefits of our diverse operations, the strength of our leading positions in niche market segments and the essential nature of our tooling products, which feed into many critical industries beyond just the automotive sector.
The COVID pandemic hit just as we were reaping the benefits from our various operational enhancements we've been implementing over the past many quarters. Nonetheless, despite difficult conditions, we managed to largely maintain our topline, grow our EPS and generate solid free cash flow.
Our third quarter will no doubt prove to be more challenging. But we remain confident that we will emerge from this crisis in a position of strength with the ability to capitalize on a number of opportunities that will inevitably ensue.
And last but certainly not least, I would like to thank our employees who have adapted admirably to the significant changes thrust upon our business practices in a very short order. I couldn't be more proud of how our employees have handled these challenges while getting the job done and above all, staying safe.
Digging into the quarter, I'll start with our Automotive Solutions segment on Slide 4. Overall, industry light vehicle production in North America was lower by about 10% while production in Europe was down by about twice that amount. Trends obviously progressed downward throughout the quarter, which ended with automotive production at a virtual standstill. Nonetheless, segment sales were essentially flat compared to the prior year, which continued our track record of outperforming industry vehicle production levels.
Sales in the quarter were supported by a number of program launches, particularly at Polydesign and AFX, both of which recorded higher revenues. Sales were somewhat softer at Polytech and Neocon. However, both these entities outperformed the broader market on the strength of their product portfolios and aided by accessory sales, which do not always move in sync with vehicle production volumes.
Looking at business conditions on Slide 5 and 6, automotive production in both North America and Europe remained largely idle as I speak. Several OEMs are currently planning to restart production at their facilities in Europe and North America by mid-May. However, there remains considerable uncertainty around the exact timing and how fast these facilities will ramp up.
We remain focused on ensuring we are able to meet demand once production recommences. We have taken several actions on this front, including refining employee safety measures building finished good inventory levels where we can and strengthening the robustness of supply chains across our businesses.
I would point out that even through the widespread shelter in place orders in April, U.S. vehicle sales are estimated to be at about 40% of pre-COVID levels. This activity has provided a base for ongoing accessory sales and will help curtail the downdraft to our results until vehicle production levels ramp back up.
Looking at quoting activity, it has certainly slowed in the last few months across the group. Nonetheless, we are still very much active in this regard and continue to win more than our share of programs. This will further strengthen our position when the recovery takes hold.
Moving on to the Casting and Extrusion segment on Slide 7. Sales were modestly lower than the prior year quarter, but our sales held up better than general economic conditions would otherwise suggest. This solid performance mostly reflects the long cycle and/or critical nature of our tooling products. Many of our extrusion tools, for example, feed into essential industries, including medical equipment, food and beverage packaging and building materials for emergency facilities, just to name a few.
Our results, however, also speak to the strong market positions of our various businesses. Contributions from the significant investments we have made in recent quarters and the benefits of our scale and multi-plant footprint. These advantages are unmatched by any of our competitors across the segment, and I assure you, they are struggling to keep up.
Within the segment, sales were relatively stable in the large mold group as work continues under our existing programs despite the vehicle production stoppage at virtually all OEMs. Quoting activity and new program awards continued at a high level during the quarter, and we see ample opportunity for further wins in the quarters ahead.
Also within the segment, sales were lower at the Extrusion and Castool groups due to lower steel prices and generally weak market conditions through the quarter. Nonetheless, we believe we gained share, helped by our competitive advantages I just mentioned. But also as a result of Castool's robust portfolio of industry-leading products and sales efforts, together with solid execution in the Extrusion group.
Beyond the sales, we continue to make the necessary investments in our people, equipment and infrastructure to further strengthen our competitive position. We are proceeding cautiously, but continuing with our prior investment plans, including new machinery in the Large Mould group, the expansion of Castool's new facility in Morocco and ongoing upgrades and enhancement of equipment across the segment's operations in general.
I will now pass the discussion over to Matthew to discuss the financial highlights of the quarter. Matthew?
Thank you, Darren. Good morning, ladies and gentlemen. My comments will cover Slides 10 to 15 of the presentation. Consolidated sales for the second quarter were $120.2 million compared to $123.5 million in the same quarter last year, a decrease of $3.3 million or 3%. Casting and Extrusion revenue declined by $3.4 million, and the Automotive business was essentially flat. Foreign exchange rate fluctuations contributed $2.5 million to sales during the quarter.
Consolidated net income for the second quarter was $9.5 million, and earnings per share was $0.24 compared to $8.6 million or $0.21 per share for the same quarter last year, an increase in net income of 11%. Excluding a net expense of $300,000 in the prior year quarter related to the deconsolidation of ALC, adjusted net income was higher by 7%. The consolidated effective income tax rate for the quarter was 22% compared to 23% the prior year period.
Turning to Automotive Solutions segment on Slide 13, sales in Q2 were consistent with last year at $73.4 million. Excluding foreign exchange rate movement, segment revenues were down $1.5 million or 2% during the quarter. Segment sales were supported by a number of program launches for both new and existing products, particularly at Polydesign and AFX. The segment's reported pretax profit of $9.4 million in the second quarter was an increase of $300,000 or 3% over the same quarter last year.
For the quarter, segment profitability was enhanced by improved overhead absorption at Polydesign and AFX, reduced bonus payments to production workers in Mexico as well as greater operating efficiencies and favorable foreign exchange rate movements across the segment in general.
Turning to Slide 14. The Casting and Extrusion segment reported sales of $46.8 million for the second quarter, a decrease of $3.4 million or 7% from the same period last year. The Casting and Extrusion segment reported $4.5 million of pretax profit in the same quarter, a decrease of $100,000 or 2% from the same quarter last year.
Profitability reduction occurred within the Extrusion group for the quarter due to adverse overhead absorption given the decline in extrusion die volumes. Separately, profitability at the Large Mould group was higher during the quarter as progress with various efficiency initiatives continue to move ahead. Castool's profitability was up during the quarter despite the sales decline due to reduction in steel prices and favorable foreign exchange rate movements.
Cash flow from operating activities in the second quarter was $18.6 million compared to $14.8 million in the comparative quarter and $28.3 million year-to-date compared to $19.7 million. Increased net income, higher non-cash expenses as well as improvements in non-cash working capital are contributing factors for the increase in cash flow from operating activities.
The company generated free cash flow of $12.5 million in the quarter after $5.9 million capital expenditures and repurchase of 439,000 shares for $3.3 million on the normal course issuer bid up to March 13. Since that date, no purchases have been made on the normal course issuer bid.
As indicated on Slide 15, Exco's balance sheet and liquidity remain very strong. Exco's net cash position totaled $11.9 million as of March 31. Principal sources of liquidity include generated free cash flow, $35.7 million of balance sheet cash and $27 million of unused availability under its $50 million committed credit facility, which was renewed during the quarter, which matures now in February 2023.
The company has stress tested its financial liquidity position and expects to remain free cash flow positive during the second half of fiscal 2020 while remaining in compliance with its financial covenants. As a result, the company will continue to make its dividend payments a priority.
That concludes my comments. We can now transition to the Q&A portion of the call. Justin?
Thank you, sir. [Operator Instructions] And our first question comes from David Ocampo from Cormack Securities. Your line is now open.
Good morning, guys.
Good morning, David.
My first question is on Automotive Solutions. Kind of when we think about kind of the revenue trends that we're seeing today, I'm just trying to get a sense on how much of the cost of that business is fixed versus variable? I know margins turned negative in 2008 and 2009. I'm just trying to get a sense of that is something that we can expect yet in next quarter.
Sure. I guess, to the extent that labor is in place in Mexico, those facilities at Polytech and AFX are not operating currently pursuant to the government's shelter in place. And Mexico has, at this point, not considered auto to be an essential industry. So we are paying the labor in Mexico. And that is kind of the bulk. I mean there's other fixed cost items, but the labors continues to be paid through this period.
With respect to Morocco, similar situation, although there are government subsidies in place that significantly reduce the labor costs that we have there. And with respect to Neocon, those operations have continued, as we mentioned, they have a high degree of accessory sales and there's still demand for their products. Neocon is using work share-type arrangements to reduce the labor costs. But I think given – it's difficult for me to give you an exact figure, David, but that's some color around what's going on with the labor component of the cost.
No, that's great. And kind of on the same theme here, on margins while we're talking about it, Casting and Extrusion, I think this is the second quarter of kind of sequential improvement, and that's a welcoming change from the declines over the last few years. How much of that is related to the fuel and the steel surcharge? And how much of it is that from the margin improvement that you're seeing in your Large Mould division?
I can't give you an exact magnitude, but certainly, both contributed. Across the Casting and Extrusion segment, our operations today are entirely different than they were five years ago. As I mentioned in the preamble, we've kind of started to really hit our stride across that segment in the Large Mould group, in particular, before the COVID measures took hold.
And we are now much more efficient across the board from Large Mould through Castool and Extrusion. So I would expect that we're going to obviously go through the third quarter here, which is going to be quite challenging. But a lot of this margin improvement that you're seeing will stick when we come out the other side, and we'll continue to improve upon it.
Great. That’s my two.
Thank you. And our next question comes from Michael Doumet from Scotiabank. Your line is now open.
Hey. Good morning, guys.
Good morning, Michael.
Hey. So I wanted to just maybe go back to the first question. Any way you can break out, for the Automotive Solution, the labor versus the material cost in that segment, just generally rough figures?
I don't have those numbers in front of me, I guess, we can think about it for subsequent calls, but I don't have those figures at my fingertips.
Okay. And maybe just going back to the outperformance on the sales side for Automotive Solutions. Just thinking about how much you attribute that to product launches in some of your businesses there? And how much do you attribute to the sales accessory products being more closely aligned to SARs versus production? I'm just trying to think about, as we go through the downturn and through the recovery, how to think about the numbers and the organic growth versus SAR in production?
Well, it's hard through kind of these extreme events that are taking place right now, although I will say that in normal times, we tend to have sales, excluding FX, that are about 5 to 10 percentage points higher than vehicle production volumes. And so that's kind of where we expect to be when we get through this crisis. But for the next quarter or so, it's difficult to give you guidance.
Okay. If I could just sneak in one more question. You guys have maintained a very conservative balance sheet, presumably that's better positioned you versus your peers in this downturn. I mean do you look out and look for opportunities at this point to deploy capital when you get better visibility on the recovery?
Well, we think there's going to be – after a shakeout like this, inevitably, there's lots of opportunities that will present themselves whether it's through the supply chain to take some opportunistic M&A there or even in the broader competitive side. And so at this point, at all points, we do see our financial position as being of strength. We stopped off the share repurchases in part because we want to preserve that strength to take advantage of any opportunities that we see. And I don't have anything specific in mind to share at this point. But rest assured, we're looking and we're going to take advantage of them when we can.
Okay. Well, thanks for the answers guys. Good luck and be safe.
Thank you, Mike.
[Operator Instructions] Our next question comes from Peter Sklar from BMO Capital Markets. Your line is now open.
Hi. Thanks. This is Chang filling in for Peter. Our first question is that if you guys could give us an update on the outlook of the recovery in the non-residential construction market, how long will that take? Kind of what activities are you seeing, et cetera?
I think it's very difficult for me to give you guidance on that, Chang, although I do appreciate the question. There's just so much uncertainty out there that any guidance I'd give you would be no better than anything else that you may come up with. So I think I'll pass on that one.
Okay. Thanks. I see that you guys mentioned that you do have some inventory buildup at Polytech and AFX in Mexico, in the event that Mexico were to be delayed if you – or Canada or U.S. were to restart production earlier. Like how much inventory are we talking about here? And kind of do you expect Mexico to be restarting in line with U.S. and Canada?
So we did take advantage, I guess, of slower conditions in March. And with my prior comment that we continue to pay for labor in Mexico, we had the labor focus on building inventory levels. And we do have a few weeks of cushion at both Polytech and AFX. Having said that, it is our expectation that Mexico, while nothing formal has been said to date, there's indications that Mexico is willing and going to come online at the same time as production within North America. So that's our expectation, but we do have a few weeks of inventory as a buffer.
Okay. Thank you.
Thank you. And I'm showing no further questions. I would now like to turn the call back to management for further remarks.
Okay. Thanks, Justin. I appreciate everyone's time on the call today. Obviously, some difficult times, but again, we feel that we're very well positioned to get through these challenges and to come out stronger on the other side. So we look forward to speaking with you all at our next quarterly conference call, and stay safe, everyone. Thank you.
Thank you. Ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may now disconnect.