Acme United Corporation (ACU) Q3 2022 Earnings Report, Transcript and Summary

Good day, and welcome to the Acme United Third Quarter Earnings Results Conference Call. All participants will be in a listen-only mode. [Operator Instructions] I would now like to turn the conference over to Mr. Walter Johnsen, Chairman and CEO. Please go ahead, sir.

Good afternoon. I'm Walter C. Johnsen, Chairman and CEO. With me is Paul Driscoll, our Chief Financial Officer, who will first read a Safe Harbor statement. Paul?

Forward-looking statements in this conference call, including, without limitation, statements related to the company's plans, strategies, objectives, expectations, intentions, and adequacy of resources are made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. Investors are cautioned that such forward-looking statements involve risks and uncertainties such as, among others, those arising as a result of the effects of the COVID-19 pandemic, including the ongoing economic downturn, and the other risks and uncertainties described in our periodic filings with the Securities and Exchange Commission and our current earnings release.

Thank you, Paul. Our net sales in the third quarter of 2022 were $49.7 million compared to $47.9 million last year, an increase of 4%. Our net income was $63,000 compared to $2 million and earnings per share were $0.02 compared to $0.50. In the second quarter of 2022, we had revenue growth of 27%, which we believe was due to forward purchasing by our customers to avoid supply chain disruptions. We also had catch-up shipments of $3.5 million to $4 million, which had been delayed by supply chain problems in the first quarter. For the year-to-date, revenues have increased 10% and revenues have been lumpy, but moving forward. We anticipate revenues for 2022 to range from $190 million to $195 million, a slight decline from our earlier guidance of $200 million. The supply chain issues in the first six months of 2022 caused us to incur extraordinary shipping, demurrage, and freight costs. As you may know, the cost to deliver a container from Shanghai to Los Angeles increased rapidly, peaking at approximately $20,000 and more than double the prior year. We paid demurrage fees because the containers stayed at the ports longer than contracted even though this was due to the ports' inability to access them. A shortage of truck drivers to deliver the goods and high fuel costs caused our freight to abnormally increase. In total, we incurred approximately $4.4 million of extra expenses due to this array of problems. Our cost of inbound freight are included in our product costs and we expense them as the inventory is sold. This resulted in $450,000 of extra supply chain costs in the first quarter of 2022, $1.3 million in the second quarter, and $1.3 million in the third quarter. There remains approximately $1.3 million, which we anticipate expensing over the next two quarters. Fortunately, the supply chain issues have substantially improved. The cost to ship a container across the Pacific has fallen to less than $10,000. We are not incurring demurrage fees from the ports and the driver shortage has stabilized. We believe the extra supply chain costs are largely behind us. We've implemented an extensive productivity and cost-saving initiatives, including $600,000 in reduced selling expenses, $2.4 million in product cost savings and $800,000 annually in lower labor costs. We have purchased new equipment to expand production at our Med-Nap facility and to gain new business at Spill Magic. We expect these cost savings and productivity improvements to generate over $5 million in savings and we continue to add more. Some of the savings start in this quarter, but all are anticipated to flow in 2023. Taking a step back, like many other companies, we have had unexpected supply chain issues that came and went. They reduced a total of $4 million in pre-tax earnings. However, we see beyond that. We have an excellent first aid and medical business with strong recurring revenues from resales. We have new placements in the retail and industrial markets for 2023, and a runway for continued growth. We have the largest global market share of scissors and shears, which benefits from the school, office, craft, industrial and home users. We have gained new craft placement in 2023 at major mass market retailers and we continue to gain in e-commerce. The same difficult environment we are in has also opened opportunities. For example, in September, we took over the sales of a small competitor of safety made by purchasing its inventory and intellectual property for $860,000. The annual revenues of this are forecast to be about $1.4 million with about $400,000 of EBITDA. Although small, it represents the kind of opportunistic situations that may arise. In summary, we have in place the growth platform for 2023 and a $5 million cost savings and productivity plan that has been mostly implemented. We are confident that we will move beyond the supply chain issues to a much better year in 2023. I'll now turn the call to Paul.

Acme's net sales for the third quarter were $49.6 million compared to $47.9 million in 2021, an increase of 4%. Sales for the nine months ended September 30, 2022 were $149.7 million compared to $136.3 million in the same period in 2021, an increase of 10%. Net sales in the US segment increased in the third quarter, sales in the second quarter of 2022 were impacted by certain customers making large purchases in anticipation of supply chain delays. Sales increased 12% for the nine months ended September 30, mainly due to market share gains and first aided medical products and higher sales of Westcott products. Net sales for Europe increased 13% in local currency, for the quarter and 9% for the nine months ended September 30. The sales increase for both periods was mainly due to new customers in the office channel. Net sales in local currency for Canada increased 3% in the quarter and 5% for the year-to-date. Sales of first aid products grew mainly in the online business. Gross margin was 32% in the third quarter of 2022 compared to 35.5% in 2021. The year-to-date gross margin was 33%, compared to 35.8% in 2021. The decline in both periods was primarily due to higher ocean freight and related transportation costs for imported goods. Also, contributing to the decline were weaker currencies in Europe and Canada, where we purchase most of our inventory in US dollars. SG&A expenses for the third quarter of 2022 were $15 million or 30% of sales compared with $40 million or 29% of sales for the same period of 2021. SG&A expenses for the first nine months of 2022 were $43 million or 29% of sales, compared with $39 million or 29% of sales in 2021. Included in other expense of $210,000 in the third quarter of 2022 was a foreign exchange loss of $170,000, related to revaluing US dollar payables in our European business, due to an 8% depreciation in the euro in the quarter. Interest expense for the third quarter of 2022 was $720,000, compared to $230,000 and in the third quarter of 2021. Interest expense for the nine months ended September 30 was $1.4 million, compared to $670,000 for the same period of 2021. The increase for both periods was due to higher debt and higher interest rates. Our overall average interest rate for the nine months in 2022 was 3.2%, compared to 2% for the nine months in 2021. The overall average interest rate for the three months ended September 30, 2022, was 4.2%, compared to 2% for the same period in 2021. Net income for the third quarter of 2022 was $64,000 or $0.02 per diluted share, compared to net income of $2 million or $0.50 per diluted share for the same period of 2021. Net income for the nine months ended September 30 was $3.6 million or $0.96 per diluted share. Excluding the impact of the PPP loan forgiveness of $3.5 million, net income was $7.8 million or $1.97 per diluted share in the nine months ended September 30, 2021. The three and nine months results were impacted by the exceptional supply chain costs and higher interest expense. The company's debt less cash on September 30, 2022 was $64 million compared to $38 million on September 30, 2021. During the 12-month period, we paid $11 million for the Safety Made acquisition, spent $1.8 million in dividends and repurchased $1.5 million of common stock. During that period, inventory increased approximately $17 million, primarily due to anticipated growth in the business, higher cost and purchasing additional safety stock to offset the impact of potential supply chain disruptions related to COVID-19. We expect inventory to decline by approximately $2 million by year-end.

Thank you, Paul. I will now open the call to questions.

Thank you. We will now begin the question-and-answer session. [Operator Instructions] And our first question will come from Chris Sakai with Singular Research. Please go ahead.

Yes, hi. I'm in for Jim Marrone. Just had a question regarding your reduction in SG&A, how is this going to affect headcount next quarter and in the year?

Well, we've trimmed our headcount in SG&A, and that was done in the – around the middle of September. And so while there's still severance payments, that's done. And going forward, we generate savings.

Okay. Thanks for that. And I noticed, there's a lot of currency exchange rate fluctuations. Does Acme United have any exchange rate hedges for their international sales?

We will sometimes lock-in for large customer orders forward contract against that purchase order. But in this case, the kinds of declines that happened in the euro were beyond anything we would have normally hedged for. Of course, this relates to the substantial increases in US rates and frankly, the war in Ukraine, both of which were really not hedgeable.

Okay. Thanks for that. And finally, for the increase in inventory, what -- how much of this -- is there any worry about inventory obsolescence, or can you provide any color there?

Sure. Most of our inventory are items that don't change too much from year-to-year. Our school products are very, very consistent. Our office products are -- in the first aid area, there's some products that have expiration dates, but we tend to keep those carefully managed. So there's not an excess of inventory there. In general, it's not like electronics or semiconductors, where or clothing where it's a fashion item. These are proprietary, but they're pretty much stable items without rapid changes in designs. And we're quite comfortable with the inventory that we have.

Okay. Thanks, Walter.

Thank you, Chris.

[Operator Instructions] Our next question will come from Richard Dearnley with Longport Partners. Please go ahead.

Good morning. Good afternoon.

Good afternoon, Dick.

I had a guess, what if -- your inventories are up 36%. What proportion of that is price? And what's units?

So Dick, it's approximately evenly split between what we would increase for growth, the cost and the safety stock that we put in place for potential supply chain disruptions.

No. So it would be about even between the three?

Correct.

And the EEC was only down 3% in dollars with the -- it would seem like they're in a recession and who knows what, not to mention turmoil in Great Britain is -- what are you expecting out of them or...

Well, our European business is facing some softness in sales. They are having a lot of inflation and that's in part due to oil and gas. In part, it's the weakness of their currency. So they've got price increases that are -- that they're passing through with our products that are high. And it's very uncomfortable because the people there are under extreme pressure. It's not an easy environment in Europe. We've seen that lease sales in the last quarter were slightly up. So it hasn't fallen off a cliff, but it's been a very tough environment in Europe.

It would sure seem that way. The cost decrease estimated for 2023, the $5 million, is that independent of the $4 million of supply chain costs? I mean I would...

The answer to that is yes. They're both -- they're additive. The one, the $4.4 million were just expenses that we ran through and were done with. The cost savings are an additional $5 million.

Right. And it would seem like of 4.4 of the supply chain, you'd get back -- as things normalize, assuming demand doesn't fall off a cliff, you'd get back a reasonable percentage of that on the other side, if you will, wherever that is.

Well, that's accurate, but in the overall environment, there's a lot of inflation. So we're not counting on that in our numbers, although it's true that the cost of some containers that we've got now are well under $10,000. Some of them are as low as $4, 000. So you would pick up some savings there, but there's still inflation throughout Asia, Europe and the US. So it's really a combination of a lot of cost pressures. But in this case, the freight will be working in our favor, we hope.

Right. And then on your Slide 8, the -- I was intrigued by the bullet point about product cost decreases opening up new business opportunities in medical and defense. Is that solely because of your -- you got -- the unit costs went down or -- what are you trying to say there and...

Well, Dick, I don't know exactly what slide you're looking at because we don't have any slides in this presentation. But in general, the -- what I think we're referring to is in the Med-Nap business, where we're making alcohol wipes and alcohol prep-pads. We are driving the cost down to be absolutely competitive and compelling in the world market. So that when we get military or medical business, it's not just because we're US made, but because we're the lowest cost producer. And some of the equipment that we're putting in there does a lot of automation, which helps to drive those costs down.

Great. Okay. Thank you.

Thank you.

The next question will come from Peter Sidoti with Sidoti & Company. Please go ahead.

Good afternoon gentlemen.

Hello Peter.

Just a quick question about cash flow from operations. It looks like you've been using cash this year for the first nine months, but I would assume that you start turning cash flow positive this year and into next year. Can you give me a handle on just what you expect to spend in capital spending and what your working capital would be next year needs?

Yeah. Paul, why don't you handle that one?

Well, most of the cash flow from operations has been going towards inventory. And we're expecting to not grow inventory, in fact, to reduce inventory. So we're going to generate cash flow from reducing inventory. Capital expenditure, which has been averaging around $5 million a year, that will probably continue at a similar pace. But the big change going forward is going to be -- is inventory, whereas, it's been a negative drain, it will be hopefully somewhat positive going forward.

And as you generate that cash, how will you put it to use?

Well, I can tell you that the first thing is paying down debt.

Yeah, we'll pay down debt.

Yes, and then getting positioned for the next acquisition.

Okay. Thank you very much.

Thanks Peter.

[Operator Instructions] Our next question will come from Jeffrey Matthews with Ram Partners. Please go ahead.

Hi, Walter.

Hi, Jeff.

You were one of the first CEOs to highlight the disruption in the US supply chain, well, the global supply chain, really, and that was several calls ago. Where do you see things now in general versus the worst of it and versus where you'd like it to be?

Well, the wildcard, of course, for people -- for companies that import from China, in particular, is that the vast majority of the population has not been vaccinated with Western vaccines. So it's -- the fear is that it could possibly spread again as the weather gets cold in a serious way. Right now, China is still continuing to be cautious and it's still pretty difficult to come into China for normal businessmen. So the Chinese are very cautious about that and rightly so, because of the exposure that the population has. If they get seriously sick from COVID, well, then all the inventory that we have right now will come in very handy. I'm not anticipating that. I think the availability of Western vaccines, while maybe not being used right now, would certainly be available for China to vaccinators' population. That's the biggest risk I see in supply chain right now. If they stay healthy, the factories produce. As far as the shipping, there's now an overcapacity of containerships. They've been building for the last two years, and there's, more of those containers themselves or there's many more of them. Many are still in the wrong places. But the price to move them across the ocean has dropped substantially. And in the West Coast ports, the ports like LA and Long Beach, are pretty much back to normal. East Coast still has some congestion but vastly different than six months from now -- six months ago.

All right. Great. Thanks and good luck.

Thank you.

This concludes our question-and-answer session. I would like to turn the conference back over to Mr. Walter Johnsen for any closing remarks. Please go ahead, sir.

I'd like to thank you for joining the call today. Just as an aside, the previous and former conference coordinator, the organization that we have used for a number of years, did not have a schedule and so we've fired them. And I'm very happy that we've now got a competent conference coordinator, and we look forward to speaking to you again at the end of the fourth quarter. And I also look forward to seeing some seeing some of you at the LD Micro conference next week. Thank you for joining us, and goodbye. End of Q&A:

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.

Bye-bye.