Ascent Industries Co. (ACNT) Q2 2018 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen, and welcome to Synalloy Second Quarter Earnings Conference Call. At this time, all participants are in a listen-only mode. Later we will conduct a question-and-answer session and instructions will follow at the time. [Operator Instructions] I would now like to turn the conference over to Craig Bram, President and CEO. Sir, you may begin.

Good morning, everyone. Welcome to Synalloy Corporation's second quarter 2018 conference call. With me today is Dennis Loughran, our CFO. Denis will provide a review of the Q2 financials, and then I'll provide some comments on our business segments and the positive trends that we are seeing for the balance of 2018. We will then open the call to questions. Dennis?

Hello everyone. As usual, the financial results will be presented using three different methods; first, GAAP-based EPS; second, adjusted net income, a non-GAAP measure as defined in the earnings release; and third, adjusted EBITDA, a non-GAAP measure also defined in the earnings release. Second quarter GAAP-based income was net profit of $3.7 million, or $0.41 per share, as compared with net income of $0.8 million or $0.10 per share in the second quarter of 2017. The second quarter 2018 results were negatively impacted by pre-tax $2.3 million charge to increase the company's earn-out liability related to 2017 acquisition of the Bristol Metals Munhall stainless steel business compared to only 3,000 adjustments in 2Q of last year. As described in the other items section of the earnings release, we have expanded our product manufacturing and sales to include ornamental pipe and anticipate significant new sales. The US GAAP rules governing acquisition accounting require a present value booking of the anticipated payments that will be made through the life of the earn-out agreement, which in this case is through February of 2021. Q2 of this year included $721,000 of acquisition related expenses compared to $555,000 such expenses last year. We expect such cost to continue into the third quarter of 2018 as various professional services and other costs are incurred to complete required acquisition accounting and startup activities. We expect the full total for 2018 expenditures related to the recent Munhall galvanized acquisition to reach a total comparable to last year's total of $1.2 million related to the Munhall stainless acquisition. The change in the effective tax rate to 21% from last year's second quarter rate of 28.1% yield an approximately $330,000 in incremental net income. Second quarter non-GAAP adjusted net income was $6.2 million or $0.77 per share as compared with adjusted net income of $1.3 million or $0.15 per share in the second quarter of 2017. Second quarter non-GAAP adjusted EBITDA totaled $10.3 million, or 14.4% of sales compared to the prior year second quarter total of $4.4 million, or 8.5% of sales. As pointed out in the earnings release, inventory price change gained impacting results totaled on a pre-tax basis $1.1 million in the second quarter of 2018 compared to a $0.2 million loss in last year second quarter, for a total favorable swing of $1.3 million between the two quarters. While that explains some of the year-over-year improvement, the remaining $4.6 million of adjusted EBITDA increase excluding that impact just mentioned, represents a doubling of last year second quarter total. As Craig will describe in more detail, the improvements are broad-based across the portfolio, and will continue to improve as the benefits of our newest acquisition and product line expansions take hold. The combined adjusted EBITDA as a percent of sales for the operating businesses in the second quarter was 17.1%. The substantial improvement over prior year's quarter of 11.1%. At the end of the second quarter, our outstanding borrowings against our ABL facility total $53.9 million, up $28 million from the December 31, 2017 total. The increase is primarily related to funds used for the July 1 galvanized acquisition, increased working capital due to substantially increased activity and increase replacement cost, increases in steel based components of our inventory. The calculated ABL facility remaining availability as of June 30, 2018 was approximately $24.7 million. I will now turn the call back over to Craig.

Thank you, Dennis. The second quarter saw an acceleration of the momentum that began in the first three months of the year. With improving performance from every business unit, the company produced another quarter of record revenue and earnings. Backlogs and product mix in the metal segment, as well as new products coming online in the chemical segment will continue the positive momentum into the second half of 2018. We also completed the acquisition of the galvanized tube operation from Marcegaglia at the end of June. This business coupled with our entry into the ornamental pipe and tube market should generate $20 million of incremental revenue in the second half of this year. With the increased business activity, we are raising our forecast for 2018. We now expect revenue for the year to total $285 million and adjusted EBITDA to total $37 million. With the excellent financial performance to date and the visibility into the second half of the year, the Board of Directors has decided to announce an annual dividend of $0.25 per share to be paid in December. This is up from last year's dividend of $0.13 per share. The Metal segment performed exceptionally well in the second quarter. We saw an uptick in special alloys sales and our stainless steel pipe and tube business. At Bristol, special alloys sales in the second quarter represented 6.5% of the pounds shipped up from 3.4% in the first quarter of this year. Munhall also shipped a very large nickel tubing order in the second quarter. The backlog at Bristol currently has special alloys accounting for almost 12% of the pounds in the order book. As you know, these products enjoy higher prices and conversion margins than the commodity alloys. As these products are typically ordered for new infrastructure projects, we are encouraged to see the improved level of activity. In July, we booked a $3 million order for a new mining project. And just last week we booked a $2.5 million order for expansion of a plastics facility. Looking at the seamless carbon pipe and tube operation that we acquired at the end of 2014, that business is having an outstanding year. Sales have been robust particularly in the heavy industrial markets with sales to the energy sector showing improvement as well. Our tank storage product line in the Permian Basin now has its highest backlog since we acquired the business in 2012. Product mix is trending to larger tanks with higher selling prices. This area of West Texas is working to increase emission limits to allow suppliers to better support the level of drilling activity. Should this come to pass, we could increase the production of both steel and fiberglass tanks going forward. Before turning to the chemical segment, I want to address a question that has come up numerous times in the past several months not only in our business, but across the manufacturing sector. And that is what has been the impact of steel tariffs? In recent Barron's issue, they looked at Q2 earnings reports from multiple manufacturing companies, and not unexpectedly the responses were vary. However, in the majority of cases the impact of tariffs was viewed as negligible. Tariffs represented less than 15% of the COGS inflation expected in 2018, with many believing these costs could easily be passed on to the customer. For our metal segment, we have seen raw material cost increase for each of our product lines. In the stainless steel pipe and tube business much of the increase has come from rising surcharges due to increases in the price of nickel, chrome and moly. We believe that our input material cost have risen due to steel tariffs by as much as 8% in 2018. Of course, these surcharge and tariffs related input cost increases are then passed on to the buyers of our products as price increases. Our average selling prices also reflect product mix change including both the alloys and various sizes. The large nickel tubing order shipped in Q2 of this year had a favorable impact on our average selling prices. Interestingly, Q2 pricing for 304 and 316 alloys still trailed the 2014 levels by 3% and 6% respectively. Looking at the impact of tariffs on volume in the pipe and tube market, the picture has actually been negative for the domestic manufacturers, at least for the first five months of this year in which the import data is available. With front-running of the tariffs many countries increase their exports to the US before the tariffs were announced. While Bristol metals share the market among domestic manufacturers held steady at about 36%, its percentage of total consumption in North America including imports actually slipped from 21.8% last year to 19.8% during the first five months of this year. Imports have captured more market share by volume this year through the first five months. On an annualized run rate exports from Korea were up 36% from the prior year; China was up 38%; Italy was up 96% and India was a 114%. While we expect exports to US to decline over the balance of the year, I did want to point out that the impact of the domestic manufacturers volume through the first five months of this year has been negative. On the Chemicals front, we've been successful in bringing on new business this year, particularly at CRI Tolling. When we acquired the assets of this business back in 2013, annual revenue was less than $5.5 million. In the second quarter alone CRI generated revenue of $4.7 million. Tolling business is all about bringing on net new business as you will always have some degree of attrition whether due to direct competition, customers bringing products back in-house or the customers loss of the end product sales. We expect our operating margins to continue to improve in the second half as we add volume in both facilities. The integration of the galvanized business at Munhall has gone smoothly. With that transaction completed, we're in the early stages of evaluating several possible acquisitions. The balance sheet remains strong with net debt at the end of June totaling $53 million. Absent any acquisitions and including the announced dividend, we expect net debt at year-end to total $49 million. Of this amount, approximately $30 million is tied to working capital to support the increased activity in our business. We believe this portion of the debt will flex down should a decline in business occur. Dennis and I will be in Chicago at the end of this month for the Three Parts Advisors Midwest IDEAS Conference. We typically pick up several new institutional investors after participating in these investor conferences. Our presentation materials will be available in a Synalloy website around the time of the meeting. We will now open up the call to questions.

[Operator Instructions] And our first question comes from the line of Michael Hughes with SGF Capital. Your line is now open.

Good morning, Craig and Dennis. I wanted to start on the chemicals business, very strong sequential growth from a revenue perspective. Is that a level of revenue is sustainable into the back half? And then you have some comments about the full-year operating margins which would imply that that business is going to operate maybe 12% -13% in the back half, is that correct?

That's right. We like the product mix that the chemical group has in the pipeline and we continue to believe that the volume is going to increase in the second half. And obviously that results in favorable overhead absorption and a lot of that business is going into the CRI facility, which has a fair amount of excess capacity. And of course any time you bring volume into a situation like that you get a bigger bang for the buck on the operating income and EBITDA side.

Okay, good. And then thanks for the information on the tariffs. I'm just curious I think some of the larger steel player such as South Korea which is under a quota system kind of hit that quota June late June. Do you have any color on that?

Yes. Mike, we've heard the same thing that basically ignored -- excuse me, South Korea is tapped out on their quota. So they will not be able to ship any new product into the US for the balance of the year. As far as some of the other countries go, we're taking a taking a hard look at India again simply because you may recall that we were successful with dumping charges against India about a year and a half ago. And the companies over in India got hit with duties anywhere from 7% up to triple digits. And then of course they've been hit with a 25% tariff on top of that. And we're still starting to see some evidence that dumping even with those duties and tariffs on them that they're still dumping product into the US below cost, and certainly below what they're selling it in their home countries. So we may be taking another look at India to see what's going on there, but as far as Bristol metals results go, we have not enjoyed any kind of major benefit from the tariffs and the first half of this year. But we would expect to see improved volume in the second half simply with Korea being having used up their quota at this point.

Do you have a rough ballpark estimate of what percentage of imports are from South Korea?

I do not have that piece of information in my fingertips, Mike. But if you give me a shout after the call later today, I'll pull that up and pass it on.

Okay. Is it fair to say they're one of the larger exporters to the US?

Yes. Volume wise they are number two to Taiwan.

Okay and then just on the pricing commentary for Bristol, it sounds like it was better in the second quarter versus the first quarter. And you do have a book of backlog there so kind of the price increases you put in place in the second quarter, we would not have seen a benefit necessarily in the revenue line in the second quarter right. It would start to flow through in the back half just because that lag, because you have to honor the backlog at the lower pricing is that right?

That's right.

Okay and then can you just talk about the conversion margins on the specialty alloy business? How much higher they are?

Yes. Really depends on the type of special alloy that you're selling, but on a commodity alloy product you might be talking about a conversion margin of, it could be $0.95 a pound up to a $1.15 a pound, and with special alloys again depending on the alloy you could be talking about $3 a pound.

Okay, so it's significantly higher. All right. And then maybe if you could just talk a little bit more about the acquisition. I think it was announced in late May and I believe it's closed at this point. Just your history with that business and in the end markets and the potential to grow that business beyond its current level.

Sure. So the galvanize business that we acquired sells into several end markets. One is the IBC market, which are intermediate bulk containers. These are the totes that are chemical business uses all the time, and they have a galvanized steel skeleton around them to protect them. So we're making the tubes that go into the machines that make those totes. So we have a couple of large IBC customers. We also sell product into the garage-door market for the framing for garage doors. We're also selling galvanized product into road construction. And there are some multiple applications galvanized in the road construction business. The IBC guys would prefer to buy all of their product domestically. Right now they do bring some imports in, but we've had some very productive conversations with our two large IBC customers, and ideally they would like to see us increase the tonnage that we're providing them by about 45% a year over and above what we're doing now. So we like the potential of that market. We've been operating it for the Italians for over a year so we know the personnel. We know the processes and several of these members of the Bristol metal sales team have sold the galvanized product in a prior history And they've also sold the ornamental stainless tube as well. So we're very comfortable with the business both from a production standpoint, end market sales standpoint. So it's definitely one of our organic growth initiatives that we're going to be focused on in the coming months.

Okay in order to increase that business you mentioned the potential to increase the pipe by 45%. How much CapEx would be required?

Not as much as you would think. We've actually approved a couple of recent CapEx's and I won't get into the details of what's involved, but there's some tooling and there's some exit system work that gets done. And on the galvanized side, it's less than $400,000 of CapEx. And on the ornamental tubing side, it's probably a $0.25 million of tooling that we'll put in place that handles the different shapes. So it's a fairly negligible amount of CapEx to support that kind of growth.

Okay and then one more question unless someone else jump in here. Just on Palmer tank. I know you had called out -- the push out last quarter the $1.3 million hit this quarter. There's been a lot of talk of just issues with take away capacity in the Permian, but that business seems to be performing well just from a backlog perspective and presumably margin perspectives, is that right?

That's right. Mike, we've seen -- as I'm sure you had. There's been a couple of announcements recently I think EOG and Noble Energy both made announcements that they were shifting some of their drilling activity from the Permian to other basins until some of that takeaway capacity increased to the point where they could realize the same selling prices out of the Permian that they were potentially getting out of some of the other basins. But there's been so much activity out there that as I said in previous calls, absent some changes in the emissions which apparently are pretty far along, we really don't have the ability to produce any more than we currently are. So even if there's a little shifting of drilling activity outside of the Permian, we've got plenty in the backlog to handle that and frankly we see that as a short - short-lived thing. Once the takeaway capacity gets -- it gets increased the drilling activity in that Basin will continue because it's a low cost area in the world.

Okay. So just kind of thinking high level about the back half. The chemicals business if it could continue to do $15 million a quarter and the operating margins step up by 500 to 600 basis points, that's another $750,000 a quarter, the acquisition, I think you said that EBITDA related to that is basically 1.25 a quarter in very rough terms. I think that's EBITDA right?

Right. At full, Mike, that's full run rate, we will be ramping up to that level through the six months of the acquisition. So we're going to have less than $2 million of EBITDA in the ramp-up period.

Okay and then the pricing that'll start to flow through a little bit more in the back half. And then at least South Korea it sounds like you'll be faced with a little less competition there and probably pick up some volume and then you've got the specialty starting to flow through there. You're set up pretty well for a good back half right?

We feel very optimistic about it right now.

And your next question comes from the line of Charles Gold with BB&T. Your line is now open.

Hey, Craig. Congratulations to you and Dennis. That's the most important thing I had to say. I've lost my train of thought over the last half hour with one question after another here, but you're forecasting $155 million in the second half, $310 million run rate specialty alloy, a larger percentage of the mix, and a much higher margin on chemical. So it's safe to say we're looking for higher net margins on the revenue in the second half than the first half?

That's right.

You didn't -- haven't mentioned the specialty pipe division. I mean what's going on there and I guess you've given us all the color we need on the Permian. So that was my other question.

Yes. We mentioned it in the -- we believe Charles referred to the seamless part in tube business. They are doing tremendously well. We bought that company back in the November of 2014. They were part of Ferguson loosely. We paid roughly $28 million for the business and we made some good money in the first six months that we owned it. Then an oil and gas picture change, we saw the business out of their Houston facility slow off, down a little bit, but even during that time they were making margins that were comparable to what we realized in our other businesses. But in the last year, they've been performing at a level that is actually the highest revenue and highest margins that they've enjoyed really in their history. So this year they should finish with EBITDA margins in 25% range. So we -- on that $28 million investment, we're going to get a sizable return on that simply in 2018. So we're really very impressed with how that business is performing not only in the slack years, but when things pick up and the demand has been strong from the industrial sector. That business is really doing well. We're continuing to feed it from an inventory standpoint. That the biggest thing with that business is you want to make sure you've got appropriate levels of inventory, and as you guys know that business is designed to have inventory that only turns maybe once a year. And the reason why is we are the primary supplier to other distribution houses who typically won't only carry product that turns fix and six times a year. So that allows us to fill a very important niche for those distributors, and we've got at any point in time $20 million plus of inventory probably $16 million on the ground and $10 million on order. And so it's a very strong contributor to the metal segment right now. Charles.

Thank you. I am not showing any further questions at this time. I would now like to turn the call back over to Craig Bram for any closing remarks.

As always we thank our employees and our shareholders and our customers for their support. It's always better to have these calls when we've got favorable news. And so we've been excited about the progress so far this year. And very optimistic about what we see for the balance of 2018. So thank you very much.

Ladies and gentlemen, thank you for participating in today's conference. This does conclude today's program. And you may all disconnect. Everyone have a wonderful day.