Spectrum Brands - Earnings Call - Q1 2019

Transcript

Speaker 0

Good morning. My name is Natalia, and I will be your conference operator today. At this time, I would like to welcome everyone to the Spectrum Brands Fiscal twenty nineteen First Quarter Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' prepared remarks, there will be a question and answer period.

As a reminder, ladies and gentlemen, this conference is being recorded today, Thursday, February 7. Thank you. I would now like to introduce Mr. David Pritchard, Vice President of Investor Relations for Spectrum Brands. Mr.

Pritchard, you may begin your conference.

Speaker 1

Thank you, operator, and welcome to Spectrum Brands Holdings fiscal twenty nineteen first quarter earnings conference call and webcast. I'm Dave Pritchard, Vice President of Investor Relations for Spectrum Brands and your moderator for our call today. Now to help you follow our comments, we have placed a slide presentation on the event calendar page in the Investor Relations section of our website at spectrumbrands.com. This document will remain there following our call. So if you start, by turning to slide two of the presentation, you'll see that our call will be led today by David Mora, our Chairman and Chief Executive Officer, and Doug Martin, our Chief Financial Officer.

David and Doug will deliver opening remarks, and then they will conduct the Q and A session. If we turn to Slide three and also Slide four, we want to note that our comments today do include forward looking statements, including our outlook for fiscal twenty nineteen and beyond. These statements are based upon management's current expectations, projections and assumptions and are by nature uncertain. Actual results may differ materially. Now due to that risk, Spectrum Brands encourages you to review the risk factors and cautionary statements outlined in our press release dated 02/07/2019, and our most recent SEC filings and Spectrum Brands Holdings' most recent 10 ks.

We assume no obligation to update any forward looking statement. Also, please note that we will discuss certain non GAAP financial measures in this call. Reconciliations on a GAAP basis for these measures are included in today's press release and eight ks filing, which are both available on our website in the Investor Relations section. With that, I will now turn the call over to our Chairman and CEO, David Mora.

Speaker 2

Hey, thank you, Dave, and thanks everybody for joining us today for this call. Before jumping to our Q1 results, which I guess I need to tell you to turn to Slide six, I want to highlight some of our strategic achievements. We are exiting a period of significant transition and we're now entering a period of stability with meaningful operational opportunities. In January, we made major progress in completing our transformation into a meaningfully less leveraged and much more focused consumer products company with materially increased financial strength and flexibility to drive our long term growth ambitions. We closed on the divestiture of both our global battery and our lighting businesses, and we also sold our global auto care business.

These two asset sales brought us to combined gross cash proceeds of approximately $2,900,000,000 along with 5,300,000.0 shares that Energizer issued to us, making us one of their largest shareholders. We also were able to utilize capital and net operating losses to minimize cash taxes on these transactions. We using the battery and auto care proceeds, we moved quickly in January to repay in full all of our cash flow revolver, which had about a $114,000,000 on it at the time. We prepaid in full all of our US term loans for totaling approximately $1,230,000,000 and we just recently last week redeemed all of our $890,000,000 of our 7.5% notes. These were the former HRG bonds.

These actions reduced our debt by over $2,200,000,000 and represent major progress to achieve our goal to significantly delever and strengthen our balance sheet, materially reduce our cash interest payments for the balance of this year and beyond, and further improve the tenure of our obligations. As the results of these steps early this year, we are on track to achieve our leverage target of approximately 3.5 times at the end of this fiscal year. As we have a delevered balance sheet, we may look to repurchase our shares under the repurchase agreement in the open market or otherwise from time to time. If I could have everyone turn to slide seven. Now turning specifically to the quarter, Q1 is traditionally the smallest quarter of our year and we delivered results that were generally in line with our expectations.

We also continue to expect the 2019 to be larger than the first half for both sales and EBITDA, driven by the seasonality of our Home and Garden and typically the stronger back half we experience in HHI. We're very pleased by the strong start this fiscal year in our Pet Care unit. Although Q1 growth was just 2% organic growth, it was led by a double digit increase in The United States markets. As a turnaround of this business is now underway, we're continuing to focus our efforts to improve the pet performance in Europe, primarily the dog and cat food assets. HHI faced a difficult comp this quarter.

It had a 13% net sales growth in the period last year and that was driven largely by hurricane related hurricane recovery revenue in retail. It was also driven by two significant non repeating promotional load ins last year to significant customers, and quite frankly the impacts this year from a softer US housing market and we began to see the effects of that late this November. We've now must work closely with our retail customers to drive this business forward despite the recent headwinds in the new housing markets, which again we began to see in November. We still expect a strong performance from HHI this year, driven by strong innovation such as the recent unveiling of a new line of WiFi enabled Halo Smart Locks at the Consumer Electronics Show just this past January. As expected, our home appliance and personal care business started slowly.

We're reintegrating this business and we stood the business back up this quarter. We're focused on improving the business fundamentals and we're lapping difficult first half comps. Additionally, we're increasing materially increasing investment spend to drive innovation throughout the year and into 2020. We are stabilizing home and personal care, and we are expecting improved performance as we move through the year. As a terrific example of the new thinking about the business, this morning, we're excited to announce a major new global five year partnership between our Remington Personal Care brands and Manchester and the Manchester United football team.

This is an alliance that we believe will showcase the depth and the strength of our Remington line worldwide and begin the process of further strengthening the amazing brand equity inherent to this business unit. Home and Garden had slightly lower sales and that was due to the absence of a strong prior year revenue from the aftermath of Hurricane Maria that we had in Puerto Rico. Q1 is Home and Garden's seasonally smallest quarter, representing only about 10% of its full year sales. We expect sales and EBITDA growth for Home and Garden this year, driven by new distribution wins and improved product mix. Now if we look at the full year fiscal twenty nineteen outlook and you can turn to Slide eight for that, we are today reiterating our fiscal twenty nineteen adjusted EBITDA guidance of $560,000,000 to $580,000,000 versus the 2018 pro form a adjusted EBITDA of $581,000,000 for the same four continuing businesses.

This guidance includes the impact of a significant increase in targeted and impactful investments in advertising, material new product development initiatives and marketing to improve both the vitality and the strength of our product offering to put Spectrum Brands back on a meaningful growth trajectory beginning in 2020. 2019 is a year of focus for Spectrum Brands. It's a year where we will materially step up investment spending behind our major brands and the continued alignment of our organizational structure and operating processes to streamline our activities and reduce waste. We are establishing clear lines of accountability, and this is providing for quicker decision making behind a much stronger balance sheet with ample liquidity. In closing, our team is singularly focused on creating shareholder value by strengthening and innovating behind our strong portfolio of leading consumer brands, delivering operational excellence in our manufacturing facilities and supply chain, and providing all of this with exceptional customer service.

In short, we are becoming the faster, smarter, stronger Spectrum Brands of the future, and we're being driven now by vision, clarity and focus. With that, I will turn it over to Doug.

Speaker 3

Thanks, David, and good morning, everyone. Turning to Slide 10 and a review of Q1 results from continuing operations, and we'll begin with net sales. First quarter reported net sales of $874,600,000 decreased 4.9% versus last year. Excluding unfavorable foreign currency of $13,600,000, organic net sales fell 3.4%. Higher pet sales were more than offset by lower home and personal care and hardware and home improvement revenues.

Reported gross margin of 34.9% increased 30 basis points from 34.6% last year, primarily due to product mix. Reported SG and A expense of $259,600,000 or 29.7% of sales compared to 233,500,000.0 or 25.4% of sales last year, primarily due to the onetime recapture of $29,000,000 of noncash depreciation and amortization charges that were not recorded last year due due to home and personal care continue discontinued operation status as well as lower acquisition and integration and restructuring and related costs this year. I'm gonna just take a minute and talk about this depreciation and amortization adjustment this year because it not only affects this quarter, but also the the remaining quarters in the year. This adjustment is a catch up adjust a noncash catch up adjustment required as we put the HPC business back into continuing operations for depreciation and amortization that would have been recorded in q two, three, and April 2018. All of that catch up was recorded in 2019.

So going forward, it'll also impact our year over year comparisons for 02/1934 because last year, we'll have zero depreciation and amortization. This year we'll have roughly $10,000,000 in each quarter. Moving on then to reported operating margin also impacted by this depreciation and amortization adjustment. We've we've had 2.8% margin in the in the quarter versus 5.6% in the prior year. On a reported basis, Q1 diluted loss per share from continuing operations of $0.56 decreased compared to diluted income per share of $1.24 last year, primarily due to the recapture of $29,000,000 of noncash depreciation and amortization, lower interest expense, a tax benefit last year attributable to U.

S. Tax reform and higher shares outstanding this year as a result of the HRG merger. Spectrum only adjusted diluted loss per share from continuing operations of 20¢ decreased versus adjusted diluted EPS of 68¢ last year, primarily due to the Home and Personal Care depreciation and amortization adjustment, which contributed about 41¢ to the decline as lower as well as lower volume and income tax benefit in last year's first quarter due to US tax reform. Turning to slide 11. Reported interest expense from continuing operations in the first quarter of $57,000,000 decreased $18,400,000 from $75,400,000 last year due to the pay down of HRG related debt.

Spectrum only cash interest payments of $56,000,000 were a million and a half dollars lower than last year driven by the timing of payments on our cash flow revolver. Spectrum only cash taxes of $10,000,000 were flat compared to last year. And in addition, we incurred about $12,000,000 of taxes for activities related to our battery business carve out. Spectrum only depreciation, amortization and share based compensation from continuing operations of $72,000,000 increased from $43,000,000 last year, primarily due to the recapture of depreciation and amortization for home and personal care as a result of their continuing operations classification in q one of this year. Spectrum cash payments for acquisition and integration and restructuring and related charges for the 2019, including including discontinued operations, were 6.1 and $9,900,000 respectively versus 5,300,000.0 and $24,800,000 respectively last year.

The reduced costs were driven by the absence of last year's operating inefficiencies in our HHI Kansas DC facility, acquisition cash costs last year related to our battery and appliance divestiture processes and HRG merger costs. And now on to our business units from continuing operations beginning with Slide 12 in Hardware and Home Improvement. HHI reported Q1 net sales of $305,100,000 decreased 6.4%, driven predominantly by the absence of strong prior year U. S. Hurricane revenues in the retail channel across residential security, plumbing, and builders' hardware, two significant nonrepeating promotional load ins from customer wins last year in residential security, and re recent market housing market softness.

Excluding unfavorable FX of $1,600,000 organic net sales fell 5.9%. Reported adjusted EBITDA of $55,600,000 fell 7.3% with a reported margin decrease of 20 basis points due to lower volumes and unfavorable operating expense leverage. New product introductions continued at a steady pace in Q1, reflecting HHI's strong vitality rate, and we still expect HHI to have a solid performance this year. Now to Home and Personal Care, which is Slide 13. HPC reported Q1 net sales of $317,200,000 fell 7.3%, while organic revenues of $327,400,000 decreased 4.3% excluding unfavorable FX of $10,200,000 For Personal Care, strong growth in Latin America was more than offset by decreases in The US, primarily from the impact of prior year losses, retailer distribution adjustments in mass and drug, ecommerce softness, and in Europe, primarily due to Brexit related soft consumer demand in The UK.

For small appliances, growth in Latin America, Canada, and Asia Pacific was more than offset by lower U. S. Results primarily from e commerce and in Europe also driven by Brexit related soft consumer demand in The UK. HPC reported adjusted EBITDA of $35,000,000 fell 16.1 with a 120 basis point reported margin decrease. The lower EBITDA was due to reduced volumes and unfavorable product mix.

Home and Personal Care expects an improved second half with new product introductions in The US and Europe and expanding distribution. As David mentioned, Remington today also announced a five year partnership with Manchester United that will provide significant brand exposure and give the and given the club's worldwide reach and following will be terrific for our brand. This is a good example of the step up in bet of investment we're making step up in spending we're planning across the company this year and into the future. Moving to Global Pet, which is slide 14. Q1 reported net sales of $204,700,000 grew 1.1%, primarily due to double digit increase in U.

S. Companion animal revenues, predominantly dog and cat chews and treats, partially offset by lower U. S. Aquatic and European companion animal sales. Excluding unfavorable FX of $1,800,000 organic sales increased a solid 2%.

Reported adjusted EBITDA fell 14.7% to $29,000,000 with a two sixty basis point margin decline to 14.2% driven by unfavorable product mix and higher distribution costs. In fiscal twenty nineteen, Pet expects solid performance in its largest region, The U. S, as it continues turnaround work to improve profitability of its European operations, primarily the branded dog and cat food business. Turning to Home and Garden, which is Slide 15. Home and Garden Q1 reported net sales of $47,600,000 decreased 3.4% as a result of the absence of strong prior year household control and repellent revenues in Puerto Rico in the aftermath of Hurricane Maria.

As a reminder, Home and Garden's first quarter is is its season smallest quarter, typically comprising about 10% of full year revenue. Reported adjusted EBITDA of $3,100,000 decreased 42.6% and reported margin of 6.5% fell four fifty basis points. The decline was the result of the timing of seasonal production, unfavorable product mix and higher input costs. Home and Garden continues to expect sales and EBITDA growth in fiscal twenty nineteen driven by new distribution wins, improved mix and strong continuous improvement savings. Moving to the balance sheet and Slide 16.

We ended the 2019 in a solid liquidity position, including $664,000,000 available on our $800,000,000 cash flow revolver and a cash balance of two fifty two million dollars with debt outstanding of $4,800,000,000 Then our liquidity and capital structure position experienced a step change improvement in January as the company prepaid in full all of its U. Term loans totaling $1230000000.00.114000000 dollars on its cash flow revolver and redeemed all $890,000,000 of our 7.5% bonds using proceeds from our battery and auto care divestitures. As a result of this debt reduction of more than $2,200,000,000 pro form a as of 12/30/2018 and using trailing fourth quarter EBITDA from continuing operations, our gross and net leverage were approximately four point six and three point one times, respectively, down from five point eight and five point two times at the end of fiscal two thousand eighteen. This reflects a 46% reduction in debt from our fiscal year end. Q1 capital expenditures from continuing operations were $13,500,000 in the quarter versus $20,300,000 last year.

Now turning to Slide 17 and our 2019 guidance. We expect reported net sales growth from continuing operation in 2019 driven by innovation, increased marketing investments, pricing actions, which include tariff related increases now expected to go into effect on March 1 and market share gains. We now expect FX to have a negative impact on sales of approximately 150 basis points based on current rates. We reaffirm our guidance for adjusted EBITDA from continuing operations to be between $560,000,000 and $580,000,000 as we stabilize operations and increase revenue generating investments in an inflationary environment, including the anticipated impact of tariffs and input cost increases, partially offset by pricing actions. We have $1,300,000,000 of usable federal NOLs remaining post the asset sales and have used all of our capital losses.

For adjusted earnings, we now use a tax rate of 25%, which includes state taxes. Thank you. And now back to Dave for questions.

Speaker 1

Thanks, David and Doug. Operator, with that, you may now begin the Q and A session, please.

Speaker 0

And your first question comes from the line of Olivia Tong.

Speaker 4

Good morning. I wanted to start with free cash flow and your full year expectations there because your cadence has always been for a back end loaded year given the cadence of the season and the seasonality in your businesses. But this year's Q1 loss is significantly larger than years past. So can you talk through a couple of puts and takes there? Are there any exogenous events?

Obviously, the loss from disc ops is a big chunk of that. So how much of q one in your view is tied to businesses that are now no longer part of your portfolio versus those that are in your go forward businesses? Thanks.

Speaker 2

Yeah. Hey, Olivia. Good morning. Hope you're well.

Speaker 4

Good morning.

Speaker 2

Look. I think, you know, this year, we've got a lot of a lot of moving pieces, but I think we're really starting to settle things down. You know, clearly, just paid off $2,200,000,000 of debt, a little bit more than that. And, I mean, you can do the math on that on a on a rolling twelve month basis. That frees up about a $1,299,000,000 dollars of cash interest.

So obviously, that's increasing the free cash flow going forward by a material amount. We've kinda stayed away from from giving free cash this year because we've got so many moving parts and we're still not done with all of our capital allocation decision making, which will affect that. But why don't I why don't I let Doug take the nitty gritty of it and and see if that that helps you with the questions some more.

Speaker 3

Yeah. You're you're absolutely right, Olivia. There were a lot of pieces in the first quarter that are noncash related. So the the additional write down of the GAC business to to reflect the net proceeds we receive on that is a big one. The doubling up of the depreciation and amortization or the catch up of the depreciation and amortization relating to the home and personal care reclassification is in there.

The fact that the two businesses that we sold in January were in our our cash results for the first three or four months depending upon the business. And as you know, we use cash this part of the year across all of our businesses as we're investing in inventory for for our seasons. So there there are a lot of moving pieces that will make this year's cash flow numbers really not representative of the continuing operations of the business. And so some of the cash that we see received in proceeds, would have ordinarily flowed through free cash flow this year, but they become working capital adjustments or working capital targets in those sales. So it's just a confusing story.

And as David mentioned, you know, when we make the the capital structure choices and when the interest payments on our existing debt would have been paid also impact free cash flow for the year. So the short answer is we're not gonna update guidance on free cash flow this year, but we'll we'll give you as many pieces as we can. We we still have significant NOLs. We still expect to be a relatively modest taxpayer cash taxpayer going forward. We expect to invest in CapEx at about the 2% rate across the business going forward.

We expect significant improvement in in restructuring and a and I expenses this year. And then, you know, you again, David gave you the kind of the parameters to do the math on what we've decided so far on the capital structure. I know it's a long story, but that's also the reason we're not giving specific guidance.

Speaker 4

Got it. Maybe if I could turn just to sales, the sort of soft guy down from meaningful growth to just growth. I guess if you could break that down, is that simply a reflection of the lower Q1 base? Or did you also ratchet down your expectations for the remainder of the year? And can you talk about sort of, on part and parcel with that, the order of magnitude of some of the investments that you said you're planning to make around advertising and R and D and the like?

Speaker 2

Yeah, look, I think the quarter actually came in, as I said in the opening remarks, largely in line with what we planned. To be very blunt, the only thing we saw in the quarter was a little bit of weakness in HHI, so we expected a little bit more sales there. Look, think when we spoke to you last time, we had anticipated pricing a bunch of tariffs at the end of the calendar year that obviously got postponed and so that was in the revenue guidance there. Organically, I expect a very good year out of particularly pet and home and garden and we still think we have a pretty solid year in HHI. Obviously, it's gonna take us a couple quarters to get appliances stood back up and reinvest and get that healthy, but we as we go out to retailers and we're talking to them about the new investments we're making both on innovation and also consumer insights and actually communicating the message.

We've just been very weak there, particularly in The US on the marketing side. As we rebuild that, we're capturing a lot of new orders. In fact, I think even the last call, talked about some of the new wins we're getting. But if I get a new win today, a new listing today, I don't ship it for six months in that business. So that's really where we see kind of the June and September quarter being much stronger in that particular unit.

Look, I would say if there's anything that changed from the last time we spoke till now, it's that yeah, we have a weaker housing market and we need to be on guard there, need to have contingency planning, we've got to work much more closely with our retailers to make sure we bring that year in as we originally planned because we definitely feel the effects of the Fed interest rate hikes and we definitely see the effects particularly in new home sales that have declined as a result of that. Does that help you?

Speaker 4

Yeah. I mean, I guess, know, could you talk about the benefit?

Speaker 2

I don't want you to think, yeah, I don't want you to think that there's any less confidence in in the full year guide other than, you know, there's a delay on price on the pricing for tariffs, and we see some softness in housing. Yes.

Speaker 3

The only additional thing on a reported basis, Olivia, is that we've moved FX guidance from a modest impact to 150 bps based on the first quarter and where rates are today.

Speaker 2

I missed that. Thank you, Doug.

Speaker 4

Yeah. I guess just following up on the housing and the impact on HHI, I mean, kind of benefit do you think you guys had in the past because of the favorable housing market that now you expect to unwind?

Speaker 2

Yeah. Look, I think in general, we enjoy a dominant position what I call kind of replacement cycle model. So we have the largest installed base in The United States with our QuickSet product and we've got SmartKey technology which is a material advantage versus our competition. We're seeing real increase in the adoption of mechanical locks and real excitement around some of our new Bluetooth and WiFi locks. So I think we'll continue to have gains on the innovation side and we hope to continue to drive that business.

I would say that, but we're not immune, So 75% of that business, call it, is replacement cycle business. It holds up well, but the you know, we are you know, the other piece of that is new home sales. And so, know, our our kind of view and of the reports we study and and metrics we look at, we figure that, you know, every 25 beeps that the Fed has raised rates, it's kind of destroying or making unaffordable, guess would be the better way to phrase it, probably 10 to 15% of buyers. And so we actually agree with the recent stance of the Fed to pause because housing is such

Speaker 0

a