Art's-Way Manufacturing Co., Inc. (ARTW) Q1 2017 Earnings Report, Transcript and Summary

Good morning, ladies and gentlemen. Today is Friday, March 31st and welcome to the Art’s Way Manufacturing Quarterly Investor Call. At this time, all participants are in a listen-only mode. [Operator Instructions] Your call leaders for today’s call are Marc McConnell, Chairman of the Board of Directors of Art’s Way Manufacturing; Carrie Gunnerson, CEO and President of Art’s Way Manufacturing. I’ll now turn the call over to Ms. Gunnerson. You may begin.

Good morning. I’m going to start just by reading our forward-looking statement disclosure. You should note that some of the statements made during this call may be considered forward-looking statements. Forward-looking statements include, but are not limited to, statements related to our market position, strategies for growth and future results of operation. Forward-looking statements are inherently subject to risks and uncertainties such as competitive factors, difficulties and delays in development, manufacturing, marketing and sales of Art’s Way products, general economic conditions, and other risk factors and uncertainties described in Art’s Way’s periodic reports on file with the Securities and Exchange Commission. Actual results may differ materially from anticipated results and Art’s Way does not undertake to update its forward-looking statements. Marc, with that I’ll turn the call over to you.

Okay, thank you all for calling in for your interest in the company. I presume at this time that you’ve all seen our -- the announcement that we’ve made about our quarter results and as I’ve said in my comment there we’ve had a period of struggle as the whole industry has for some period of time and we certainly felt that in the first quarter and on the flip side we are quite encouraged that developments have happened since with an uptick in business and we’re building towards some return to higher level of activity in all of our business units and all of that is very good. So, we’ll be touching on based on that in a lot more detail and Carrie has a presentation to tell you about the quarter. Carrie?

Okay, thanks Marc. I’m going to start today talking about the -- 2017 corporate initiative that we kind of unveiled on our last conference call. Our first initiative for 2017 is the successful launch of the new products for our Ag product line. We had a large show in Louisville, Kentucky around February 15 and at that show we introduced six new products and our goals now going forward is to really move these products from sales to production and turning them into revenues, really starting in the second and third quarters of the year. Our backlog on the Ag side is up 26% and a 100% of that increase can be attributed to these new products that we have unveiled. Our next initiative is reduction in growth inventories, and right now year-to-date our growth inventories are down about 2% to $340,000. The bulk of that decrease is coming from the Ag factor. We are running programs with additional discounts and additional commissions for our slower moving inventory and we are starting to see that program have some results. We are further pleased by the reduction in inventory as we are going into this period of building new products cause typically as we built up these new products, we build some inventory, so really the reduction in inventory is a little greater than it sounds because we are building that new inventory at the same time. The next initiative is reduction of bank debt and we do continue to bring down our bank debt. This is being driven primarily through the reduction of inventory. Our total bank borrowings are down approximately $465,000 since year-end or about 7%. We have just completed our third loan amendment. This – the amendments have been necessary due to the difficulties in us meeting our loan covenants due to lack of income. Though we have just completed the third amendment and our next renewal will happen in September of 2017. Also just wanted to update you that we did reduce our asking price on the building that is up for sale and to you – where we exited the Art’s Way Vessels business. Though should we be able to sell that building that would be a significant reduction in our bank borrowing our bank requirements. Our next initiative is growth of revenue at Art Way Scientific and Ohio Metals. We have been investing in both of these businesses in order to grow these businesses; primarily this does come from adding indirect staff. At Scientific, we had already added a drafter and we are now in the process of adding an additional sales position and a general manager. We feel that this will allow our President Dan Palmer to aggressively focus on sales efforts. At Ohio Metals we had added a Director of sales in late 2016 and we have now added a number of independent sales reps and we have been training them over the last several months. At Ohio Metals, we have seen an increase in revenues of $93,000 compared to the first quarter of 2016, up about 16% improvement. That pick up in revenue is really due primarily to the pickup in oil and gas industries. The downturn in oil and gas has put a lot of pressure on us to reduce customer cost and increase our efficiencies. And everybody in our industry is also been dealing with those same pressures. So competition has been really really strong for those large customers dealing with the oil and gas industries and we’ve been able to provide the benefits to our customers to bring that cost down and improve their efficiencies. So we’ve been able to maintain some of those key customers in a period where competition has been really really aggressive. Where we would really like to seek growth at Ohio Metals is in our precision departments. At this point we have not seen the growth that we would like to see there, but we feel that the growth in that department is key because it’s moving towards more modernized industries and it will take us kind of out of the deep peaks and valleys of the oil and gas industries. But it is taking us some time. We do have increased productivity and we are doing a lot of test tools to the customers for the precision side. Our next corporate initiative is customer experience in quality initiatives. This really became a key focus for us in 2016 and we made a lot of changes and a lot of improvements during 2016 and we are going to continue to make those key areas for us as we move forward in 2017 as well. The last corporate initiative is profitability improvements, as revenues increase we anticipate profitability improvements, in terms of both gross margin and net income as well. Now I’m going to move on to our agricultural products division. Income and orders in the fourth were slow in the fourth quarter and continued to be slow as we entered the first quarter. Revenues were off 19.8% or $830,000. The largest declines were in sales to our OEM customers for OEM holders, manure spreader, plows and grinder mixers. Right now our backlogs are up 26% for Ag and again 100% of that increase can be tied to our new products that we just recently introduced to the market which really validates the efforts and the expenses that we have incurred over the last several months of bringing these products through R&D. Customer service initiative and quality continue to be a key focus for us and we are starting to see the benefits and the strengthening of both relationships with our dealers and the end users. Just a reminder about the new products that we did bring to market, we have a commercial forage box that significantly increases the capacity over the standard forage box that we had previously been offering and this is one of the products where you have really seen a large increase in our backlogs. The next product is a hammer blower, then we also introduced the beet dump cart, a new smart little model of our beet harvester the 692z. We also introduced a bale spreader and a 24-foot pull type spreader which again is more along the lines of the large commercial grade manure spreader. And the last product that we introduced and that just was introduced in mid-February is a new model of our grinder the 7165. So we are very pleased that our backlogs and our sales are responding to these new product offerings. I would like to point out that we have seen our engineering expenses go up to 36% when you compared first quarter of this year versus first quarter of last year obviously with all of those new products being introduced we have significant engineering expenses to facilitate that process. AGCO, which was another one of the companies that people compare Art Way against in the Ag factor although they are much larger; they are projecting no growth for their businesses in 2017. We do believe that we are going to see some growth in our revenues this year and that’s due primarily to the investment in our new products. Next, I’d like to move to Art’s Way Scientific. Art Way Scientific saw sales for the quarter and year-to-date were down significantly compared to last year. Our sales were $388,000 compared to $943,000 a 59% decrease. Much of that revenue numbers from last year were due to a Ag production building with a lot of them going into the dairy industry for cast [ph] for that’s been tough for us with the dairy industry being down so significantly this year. We do still have new products that we are marketing and focussing on for Art Way Scientific food safety would be one of the more significant products. We have been to a couple of food safety shows last year and we would plan on being at those again this year. That does definitely seem to be some movement in our meetings with the customers and the food safety industry are definitely picking up. In the first quarter we also did some strategic planning efforts with the management of Art Way Scientific and our board of directors targeting a plan for 2017 to improve the market visibility, the accountability and ultimately the sales at Art Way Scientific. We are adding to the staff there to support Dan Palmer’s efforts. We are also partnering with market drivers to on the Ag production side to try to increase that business and the visibility that that business has. Next, I’ll be moving onto Ohio Metals. Sales increased 16% at Ohio Metals from $572,000 to $665,000 for the quarter and year-to-date. As we had mentioned before in late 2016 we hired a new director of sales. He was very well known in the industry and was really able to hit the ground running. So he’s really done a nice job of reinvigorating our sales network and adding distributors and reps and their reps that are more focussed to the type of work that we are doing instead of these large kind of big box reps that represent everything from [Indiscernible] to nuts to bolts to our cuttings also really trying to get more of a focus into that industry. Again, the precision tools is our area of focus that it does take time to go into these factories and work with them and really determine the types of tools that they need and how we can partner with them to reduce their cost and improve their efficiencies. But we are starting to see some of those relationships develop and we are starting to see orders drop in now and in small measures, quantities as they improve us out even further. Again, the oil and gas industry has seen an improvement and that’s where our revenues have improved as well. I do just want to talk a little bit about our backlogs today and go over those. Art’s Way Scientific current backlog is at $1,390,000 compared to $1,465,000 a year ago that’s about a 5% decrease. At Ohio Metals, our backlog is $127,000 compared to $118,000, that’s an increase of nearly 8%. Art’s Way International in Canada have a current backlog of $107,000 compared to $60,000 last year up 7% to 8% increase and however it’s pretty low dollar values at manufacturing. . Our current backlog is at $4,91,000 compared to $2,866,000 in the prior year, that’s a change of $1,225,000 or approximately 43%. So our total backlog is up 26% with the bulk of that increase coming from the Ag production side at Art’s Way Manufacturing. So in conclusion, while we continue to operate in difficult economic times in the Ag industry, we continue to be proactive whether it’s reducing cost or developing new equipment to introduce to the market. We are currently working to deliver these new products to the market and delivering high quality products, there is always a learning curve as we move from R&D into production and that does infact impact our efficiency rates and we expect to see that impact our manufacturing sector in the second and third quarters. So I would anticipate that our growth margin may decrease a little bit while our revenues go up barely significantly. With increased backlog numbers and our desire to increase sales at Art’s Way Scientific we are hiring across all segments of our operations at Scientific, at Ohio and at Manufacturing adding to the sales reps, the dealers, the distributors and incurring additional expenses as we do this and as we train these new team members. We do believe that both oil and gas have seem to hit bottom and we have been in uptick in orders pushing our consolidated backlog levels up by 26% compared to last year at this time. We continue to strengthen our balance sheet over last year by decreasing our inventories in our bank borrowings and improving the overall health of our business. Our executive management team remains in place despite this prolonged downturn and we are successfully implementing our key strategic to change this. We are seeing results of these initiatives in our day-to-day operation, although it's hard to see those results yet in the numbers. We still have a lot of execution to do in terms of getting these products out the door and increasing our sales levels, but we are seeing the improvements kind of on the strategic level. And then I would just like to invite all of you to attend our Annual Shareholders Meeting which will be held at Armstrong Iowa on April 27th at 10 A.M. With that, Marc, I’ll turn it back over to you.

Okay. Thanks Carrie. Well, as Carrie has talked about in some detail, there is a lot of good news happening. We’re really are seeing an uptick throughout our business and our problems has kind of shifted from the struggle of not having enough business at front of us as we experience for a couple years with severe downturn in AG especially. You know, our problems have switch to how we overcome the challenges of launching new products and doing so with the quality that we expect and to do so efficiently and profitably, and really trying to build up staff after having really cut back fairly severely throughout the company. Though we shifted gears and we – obviously that’s a very good thing, but it's a new set of challenges it's in its own right, and we're prepared for it. We feel we have the right management team in place. We’ve got the strongest group that we've ever had and they are the right people to carry this forward in this new set of challenges. And I would say that, I think we could take some credit in that, our uptick in business is mostly attributable I think to the actions that we've taken that while they haven't boosted our P&L here in the short term as evidence by the first quarter, really should have good long-term impact for us. I think the more that we can be known for developing high-quality products that the market sees value in and that we support the products well after the sale and we treat our customers well and in all those types of things I think that leads to long-term sustained growth of business in profitability and building up the brand and its throughout the business not just an AG but also in the other sectors. So, we have made, I would say material progress on those fronts. And those are things that are going to carry us forward for years to come. So, we continue to battle through the circumstances and acknowledge that what we are seeing is Carrie said maybe some improvement in the industry we think we passed bottom in AG, it still a tough picture for the industry overall and I think it will be a while for recovery really happens. And so, we just have to take the actions necessary to give ourselves better results in the market and I think that we’re doing this, so, a lot of progress on that front. And with that, I'll be glad to take questions.

[Operator Instructions]. Our first question comes from Sam Rebotsky. Please state your question.

Yes. Good morning, Marc and Carrie. Carrie, this is what you really did a dynamic review of your operation and it appears based on your backlog you’ve done some significant improvements. What percentage of capacity were you operating in the first quarter?

That definitely depends on what segment we’re talking about and whether we’re talking about machine capacity or employee capacity. We definitely have a lot of machine capacity available, so as we pickup we would have the higher additional direct staff, but we would not have to purchase any equipment to increase the capacity in a lot of our areas. Ohio Metals is definitely underutilized at this point. Art's Way Scientific is tremendously underutilized and even here at Art's Way Manufacturing, we’re working some over time and we are hiring new staff to increase that capacity, but in terms of machine and equipment capacity we expect that available.

Okay. Now generally with this backlog, $4 million plus, how much – is that get booked in the current year? Is this a 12-month backlog? And we expect in the current quarter to sort of how much could we improve sales? Do we expect to – again, can we do $6 million in the next quarter. What can we do based on this backlog?

Well, $6 million in the next quarter for just the AG sector would be aggressive. I don't think we’re going to see that. I can tell you that, all of that backlog will move out in the first by November 30th which is our year-end. And the bulk of that will move out in the second and third quarters. The second and third quarters are always our strongest quarters of the year and things definitely fall off in our fourth quarter and then pretty slow in the first quarter. So, I would anticipate that the bulk of that backlog will really move out in the second and third quarters.

As far as breakeven, is there a dollar amount that we need to breakeven on a quarter-to-quarter basis?

Of course, there’s a dollar number there. If we can get manufacturing moving and having the sales there, because they are so much larger than the other entities that’s really where we need to focus and that's where we’re going to see the most improvement. Now Art's Way Scientific has had some very slow quarters that had impacted a little bit more because the losses they’ve incurred is more than breakeven on slightly first than breakeven they’ve been rather significant. But we need to be probably at $1.7 to $2 million range to be making money on the consolidated basis. I guess that would be on a monthly.

Okay. Now the Scientific, there’s been a lack of money from universities and in various other institutions even though we have a lot of bids out on projects. Do we still have a lot of bids? And do we see any way of these institutions getting some money? Or what sort thoughts as far as Scientific in the industry, some money becoming available?

Well, in the food safety area that would not be government money. That would be money from corporations. So we definitely feel that that's an area where our sales efforts could push sales a little bit more than the universities that have to go through either endowments or grant processes. But having said that our university activity does seem to have picked up over the last six months, but I would say the projects that we’re looking at for those universities are on a smaller scale, it is not necessarily the $4 million or $9 million, but they’re on the smaller scale.

Okay. Look, Carrie, you and your team seem to be tackling the problems, reducing costs and hopefully you can get some additional business to sort of create the profitability for its way going forward. Good luck to you and Marc and the team everybody.

Thank you, Sam.

Our next question comes from Jeff [Indiscernible]. Please state your question.

Hi. Thank you. Hi, Marc, hi Carrie.

Hello.

I just have a couple of quick questions. The backlog that’s driven by the six products, is there any one of those new six products that’s driving a disproportionate amount of the backlog?

Well, I could take that. The sugar beet equipment and the new commercial forage box would be the biggest drivers of that.

Okay. And how are the margins on these new products compared to existing portfolio?

Well, our existing portfolio has been dominated at least in terms of activity by grinder mixer which has least competition and the highest margin. And so really it's hard for anything to compete with that per se. But we have come out with the new grinder mixer replacement for another, so that should of course remain quite good. The other items are good gross margin but difficult to compete with the grinder. So, on a consolidated basis overall I would expect it to likely be similar, not higher, unless we’re able to over time remove cost from the product, but we generally don't expect a major shift in gross margin based on the introduction of these new items. Except for in the short term when something is new and you’re building it for the first time that tends not to be as efficient, but that can eat up some efficiencies say in the first year of having some of these products being produced.

Okay. And do you anticipate any SKU rationalization for substantial cannibalization with some of these new products?

I would say not really. The commercial forage box does not affect the existing forage box business because it's a whole different size range really. There might been one size overlap, but we didn't already have much activity in that one size.

But these are more incremental?

Yes. That would be new business.

Okay, very good.

The new model grinder mixer, yes that replaces the model, the bale processor is all new product, the small beet harvester is all new business. The beet high dump is new business. So yes, there's not – I just want to see the full list, but no, cannibalization is not real concern here.

Excellent. In terms of the food safety targets, I think you have said, you guys want to show last year. Are there other shows that we can go to, or what is that market look like? What’s the size of the market opportunity in food safety?

Well, that’s a good question. There are two main shows and we are participated with large displays which actually building last year. And those are the two that we see its being really important for us to be involved in and we remain and tending to be involved in those shows. So they are probably maybe are some other that are regional, but to really see the people we’re trying to see that the two national, well actually I think one is an international show. Those are the ones we need to be at and there are not been others that we felt like we really had to be at. As far as the size of the market, it’s a little hard to say because the modular concept is a bit new to the food safety market and that was part of why we like food safety, because everyone wasn't there already, but – so to quantify the market for modular buildings in that area is difficult. But we think that the concept works well there and that there is quite a lot of opportunity with food companies that we can get buy-in on the concept that really it's a pretty significant I think from a broad customer base and we are seeing progress there. We do have some food safety business in our backlog.

Okay. Carrie, I think earlier you said that some of this slower moving inventory has been discounted and has seen commission rates go up to – try to move it. What percentage would you say of the inventory fall into to that “slower moving lines”?

It would be minor.

Minor. Okay. And last one here. I believe that year-end call we were looking at a target of $2 million of debt reduction for 2017. Is that still in line with thinking?

I’d say. Yes. Just in principal payments there’s a lot debt paydown during the year. But with our efforts with inventory and with what we would hope would be positive EBITDA during the full year, we would expect quite a paydown and also vessel building is not been on the market for very long, but when that sell that will be a significant hit to our borrowing, and we’ll be able to eliminate a lot of our debt service right then. And hopefully that will happen during this year and we’re certainly trying to make that happen in just adjusted the price – asking price on to aid that effort.

Okay. Thank you very much, Marc. Thanks Carrie.

Thank you.

[Operator Instructions]. At this time, we have no further questions.

Okay. Well, thank you all for calling in and for your interest in the company. We obviously are battling through difficult period in our industry, but I feel like we're poised to outperform and certainly expect improvement as we get further in the year. Profitability will continue to be difficult as I said with the efficiency challenges with the new product, but there are a lot of good signs and we’re very positive about that. So we’ll continue working on our key initiatives to help us for the long-term and hope that we’ll have the short-term benefit during the year. So, look forward to talking to you next quarter. Thank you.

This concludes today’s conference call. Thank you for attending.