American Vanguard Corporation (AVD) Q3 2016 Earnings Report, Transcript and Summary

Greetings and welcome to the American Vanguard Corporation Third Quarter 2016 Earnings Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Bill Kuser, Director of Investor Relations with American Vanguard Corporation. Thank you, you may begin.

Thank you, Bob and welcome everyone to American Vanguard’s third quarter and nine month year-to-date earnings review. Our speakers today will be Mr. Eric Wintemute, the Chairman and CEO of American Vanguard; Mr. David Johnson, the company’s Chief Financial Officer, also Mr. Bob Trogele, American Vanguard’s Chief Operating Officer is available to assist in answering any questions that you may have at the end of our prepared remarks. Before beginning, let’s take a moment for our usual cautionary reminder. In today’s call, the company may discuss forward-looking information. Such information and statements are based on estimates and assumptions by the company’s management and are subject to various risks and uncertainties that may cause actual results to differ from management’s current expectations. Such factors can include weather conditions, changes in regulatory policy, competitive pressures, and various other risks as detailed in the company’s SEC reports and filings. All forward-looking statements represent the company’s best judgment as of the date of this call and such information will not necessarily be updated by the company. With that said, I will turn the call over to Eric.

Thank you, Bill. Good afternoon and thank you all for joining us today. We certainly appreciate your interest in American Vanguard. As you have seen from our earnings release we have posted your-over-your revenue growth in virtually all of our reporting categories for both the third quarter and first nine months of 2016. Also, earlier today, we filed our form 10-Q, so you can immediately see additional details of our quarterly and year-to-date performance. The company's third quarter sales increased 14% to $82.5 million from $72.5 million, as compared to 2015. This is a time of the year when sales of our corn products are typically light. Our quarterly sales gains were driven by some of our key products in other categories. Compared to the prior year third quarter, we saw significant increases in our cotton defoliant Folex. This was due in-part to an increase in planted cotton acres of 17% on average and as high as 50% in the mid-South region, which is a key market for this excellent harvest aid. Further, sales of our soil fumigants Metam were also up as growers prepare the field prior to the onset of colder weather, primarily in potatoes and high-value fruits and vegetables. In addition, we enjoyed strong sales of our insecticides Mocap and Nemacur that are sold primarily into the international markets. Finally, our toll manufacturing business was up during the third quarter. During 2015, we have conducted this campaign in the second quarter. While tolling is a low margin business, it does serve to absorb factory overhead cost. Our year-to-date revenues were up 9% to $225 million from $206 million during the comparable period last year. This $19 million overall year-over-year revenue gain was led by the following product lines. Sales of our corn herbicide impact and our console and corn soil insecticides increased 18% over the comparable period. As I will discuss later, channel inventories are down and we are experiencing more stable demand for these products in the Midwest market. In addition, our recently acquired Bromacil and Scepter herbicides performed well year-to-date, as have a number of our non-crop products. While our quarterly and year-to-date sales were up 14% and 9%, respectively Ag industry leaders are reporting quarterly and year-to-date sales on average down 3% and 9%, respectively. David will elaborate on our profitability in the third quarter and nine-month period, as well as on other financial and operational metrics of interest to our shareholders. After his comments I will return with the report on Zika and our mosquito control business, and update on SIMPAS, and outlook into the 2017 planting season, and some closing thoughts on our international initiatives. I will now turn the call over to David.

Thank you, Eric. Good afternoon everybody. Earlier today, we filed our Form 10-Q for the three and nine month periods ending September 30, 2016. Everything I’m going to cover here in brief is included in more detail in that document. Furthermore, you will notice that we have added a table to our earnings release, so that you have the key sales numbers immediately at hand. With regard to the financial results as Eric just detailed, the company's sales for the third quarter 2016 increased by 14% to $82 million, as compared to $72 million last year. Within this number, our crop sales were up approximately 15% to $73 million and our non-crop sales were up 6% to $9.4 million. Year-to-date sales were up 9% to $225 million, as compared to $206 million this time last year. Within that number, our crop sales were up 7% and our non-crop sales were up 30%. From my perspective, the financial issues of paramount importance to investors remain consistent with the last several quarters. First, we continue to carefully manage our factory activity, as we balance recovery of overhead cost with demand and inventory levels. In the third quarter, our factory costs were up primarily because we expanded production at one side, which has been on a periodic maintenance shutdown this time last year. Notwithstanding the year-over-year increase in the current quarter, compared to this time last year, in both quarters the factories performed at or slightly better than our targets of 3% of sales. On a year-to-date basis, factory costs are down 1.5% and at the same time output has increased. This has resulted in an overall improvement in the recovery of factory costs. Consequently, those costs have decreased to 4% of sales in the first nine months of 2016, as compared to 5% last year. Our target is to get this metric to 3% of sales on a full-year basis. The year-over-year improvement has resulted in an additional $1.7 million, going directly to our pre-tax operating income. Second gross margin for the quarter ended at 40%, as compared to 43% last year. This change was driven by a number of factors. First, each year we conduct a toll manufacturing campaign for an international product, which while having a comparatively low margin serves to cover factory costs. In 2015, revenue from that campaign was recorded in Q2, during which time it caused the download pressure on our overall gross margin. While in 2016, that revenue moved to Q3. Secondly, we have an international product for which one key raw material is currently on short supply and consequently the purchase price of the raw material has increased. The volume of sales of the affected product is material enough that the cost increase impacted our overall gross margin. This is a temporary issue that should be resolved by the early part of the second quarter of 2017. Furthermore, as mentioned a moment ago, our factory costs increased compared to the prior year. Partly offsetting these factors, we have enjoyed reductions on a number of key raw material costs that benefited gross margin in the quarter. For the nine months, we have recorded gross margin of 41%, as compared to 40% last year. As I detailed a moment ago, the change in factory performance, primarily accounts for the 1% improvement in the nine-month period. Third, as I have mentioned in the past, our factory performance is linked very closely to inventory levels. If you look back to this time last year, we had inventories of $161 million. This year we are $19 million lower at $142 million. At this point in the business cycle, we are preparing to supply initial product in readiness for the 2016, 2017 planting season, which for us will begin during Q4. As usual, during the final quarter, we will slow down factory output as we drive towards our year-end inventory goal of $125 million. Fourth, during the third quarter of 2016, we continue to exercise tight control over our operating expenses. While our sales increased by 14% over the same quarter of last year, our operating expenses increased by 8%. The increase in cost is mainly driven by our continued investment in two key business drivers of future growth; the development of our international footprint, and our patented delivery systems, including our new SIMPAS systems. Because sales have increased at a greater rate than operating expenses when expressed as a percentage of sales these costs have improved from 36% of sales last year or 34.3% this year. For the nine month period, we have a similar story to tell. Sales have increased by 9%, while operating expenses increased by 4%. This increase is driven by spending on SIMPAS developments, additional amortization on product lines acquired in mid-2015, and incentive compensation related to financial performance. As with the quarter performance, because sales are growing more than twice as fast as operating expenses, we are reporting a year-over-year improvement in the operating expense to sales ratio from 36.2% last year to 34.5% this year. Fifth, our effective tax rate has increased to 28%, as compared to 19% last year. Our tax rate is driven by the balance of where we make our profits, specifically U.S. or foreign and the level of those profits. For 2016, our domestic financial performance has improved, as compared to the prior year, and as a result generated additional tax expenses. Looking at the bottom line, for the quarter, our net income has improved by 3.8% to $2.9 million or $0.10 per share, as compared to $2.8 million or $0.09 per share last year. The quarter performance in comparison to the prior year included sales up $10 million, gross margin that was down compared to 2015 for the activity and mix related reasons discussed, and operating expenses that have improved compared to sales, but are nevertheless increasing in order to invest in activities that will drive the business in the future. Year-to-date we have reported earnings per share of $0.30, as compared to $0.12 last year, which is an improvement of 147%. Finally, with regard to balance sheet management and liquidity, we continue to carefully manage cash and working capital as we work through the 2016 cycle. For the first nine months of the year, we have generated $36 million from our operating activities. Further, we continue to carefully manage capital spending and have a target to spend at the same level as or less than annual depreciation. Year-to-date our capital spending continues to attract below depreciation on fixed assets, which means for the first nine-months we are on target. Interest expense is down 33% as compared to last year, and we have succeeded in reducing debt from $68 million at the start of the year to $44 million at the end of September. By contrast a year ago debt was at $93 million. This overall financial performance, plus success in achieving a year-over-year debt reduction of $49 million drives increase liquidity. A year ago, we had availability to increase borrowings by $40 million. In comparison today, we could increase borrowings by $96 million. In summary, when looking at both the three and nine-month ended September 30, 2016 we see that sales have grown well despite the still challenging overall market. Further, though gross margins have declined in Q3 as a result of specific short-term mix and activities issues, our performance has increased for the nine-month period. Factory performance continues to show steady improvement towards the target of 3% sales and during the nine-month period has contributed positively to the bottom line growth. Operating expenses are being tightly controlled, but are increasing or be it at a slower rate as sales increased. And for both the third quarter and year-to-date have reduced when compared to sales. Finally, year-to-date net income has increased strongly, debt is down, and liquidity continues to improve. With that, I will hand back to Eric.

Thank you, David. Now I would want to touch on four additional topics. The development of Zika and our mosquito control business, progress on our SIMPAS descriptive planting system, a preview of the 2017 Midwest planting season, and comments on our international initiative. Like many of you, we have been following the Zika story closely for the past several months. This subject has attracted a great deal of media attention and as has the use of our mosquito adulticide Naled, which we market under the name brand name Dibrom. As we have noted on many prior occasion, Naled has been used for mosquito control domestically for over 50 years. In that time, it has proven to be the most effective aerially applied mosquito adulticide on the market. It is not lad to resistance among any species of mosquitoes, including Aedes Aegypti, which carries the Zika virus. This is because the Naled breaks down so rapidly within 24 hours that the mosquito, which has a seven-day lifespan does not need to mutate in order to survive. During our last call, we reported that Porto Rico had rejected CDC’s strong recommendation to spray Naled for Zika control. And that this rejection would likely have adverse consequences. We also reported that domestic customers would likely show strong support for our product in-light of this viral epidemic. Since that time, the number of reported cases of Zika virus in Porto Rico has increased from 7,200 to 32,000 and is estimated that only about one-fifth of the actual cases get reported. Further, some public health agencies estimate that number of cases in Porto Rico could reach 300,000 by year-end. With the spread of Zika in Porto Rico mosquito control districts in the United States took note and in many areas began spraying in earnest. With those initiatives we have seen noteworthy success. For example, in the Miami district of Wynwood, which had been the subject of CDC's first U.S. travel advisory in their 70 year history, the application of Naled aerially and a larger side at ground level were so effective in eradicating the Aedes Aegypti population that the CDC lifted the travel advisory and subsequently cited Naled as a key reason for this excellent result. Credit is due to both CDC for recommending aerial and ground treatment and leadership in Florida led by Governor Scott for taking immediate action to protect their citizens. We encourage you to visit CDCs website for a comprehensive discussion of the Zika virus and the important role that Naled is playing in controlling this disease, which can lead to Guillain–Barre syndrome, microcephaly, and other birth defects. To get to the site just enter cdc.gov/zika/aerial application into your search engine. A few final points on Naled and mosquito control. During the third quarter, our customers have been drawing down on their inventory to make applications. At this stage, channel inventory is quite low. Thus if warm weather and insect breeding conditions continue, we may have an upside in Naled sales during this fourth quarter. In fact, at present we are seeing steady use of Naled domestically in the mid and South Atlantic regions. Hurricane Matthew has created ideal breeding conditions, so it is imperative to target adult mosquito populations before they lay eggs that would hatch next season. Also as other countries battle this epidemic, we are hopeful that they will take note of the success that Naled has had in the United States. Finally, we continue to improve our arsenal of mosquito control products and expect to announce shortly a research collaboration agreement with the leading academic institution around this novel technology in this area. On the subject of SIMPAS, our precision agriculture equipment system, starting on September 30, we began field testing a prototype that is equipped with 216 low rate meters dispensing inputs at variable rates and speeds. While our industry standard SmartBox can dispense granular material within plus or minus 5% accuracy, we have designed the new SIMPAS meters to achieve plus or minus 1% accuracy. The sophistication and flexibility of this system should serve to meet the rapidly increasing demands of precision agriculture and prescriptive planting well onto the future. We will continue our testing over multiple field and weather conditions with the goal of offering fully functional systems early in the commercialization process. Further, we will be conducting farm field trials at time of planting ion Spring of 2017 and additional media events at tradeshows during the following summer. If any of our listeners are interested in attending, please let us know and we’ll provide you with details as they become available and make arrangements to include you in these demonstrations. In addition to testing and development, we are regularly meeting with customers, peers, and equipment and technology companies to help bring this technology to the field. Our customers are enthusiastic at the prospect of having their Agronomist prescriptions translated into field application. Our peers are similarly excited about gaining market access through the use of this technology. And equipment and technology companies are intent on ensuring this system will be compatible with their standard equipment both now and in the future. Finally, as we mentioned during the last shareholders meeting, we had been working with agribusiness consulting context on shaping a business plan for addressing U.S. markets in six crops; corn, soybeans, cotton, sugarbeans, potatoes, and peanuts. They delivered their plan to us just last week and the numbers are very exciting. Turning to the mid-west 2017 market outlook, we report the following. As shown by our nine-month sales performance, our corn products continue to experience increased demand. Market conditions are somewhat mixed, but we are nevertheless encouraged. On the one hand, farm economies have degraded and it is expected that the input use may be down 3% to 4% this season. On the other hand, our channel inventories have been drawn down considerably over the past two years. Thus customers have a greater incentive to replenish their stocks. In addition, we are seeing an improvement in corn prices over the past few weeks. Finally, in light of input cost and consumer preferences, for example GMO label requirements in numerous states there has been a shift away from GMO and towards non-GMO seeds by some growers. Increased use of conventional seed, should build demand for our products. On balance then, we expect a good season in 2017 within the corn though. Finally, a quick note on our international initiatives. As you may recall, during our last call, we reported on our formation of a Hong Kong joint venture with Chinese Ag Chem manufacturer Huifeng, since then I’ve had the privilege of presenting to ICAMA, which is Chinese equivalent of the EPA, during which I outlined our precision agriculture roadmap, including SmartBox and SIMPAS. ICAMA was very receptive to this type of technology. By sowing the seeds of precision Ag with China, we will ensure our chances to gain market access into the third largest Ag market in the world. Further, Huifeng who hosted the ICAMA visit continues to work with us to bring their patented products from east to west over the next 3 years to 5 years. Now, we would be happy to respond to any questions you may have. Bob?

Thank you. [Operator Instructions] Our first question comes from the line of James Sheehan with SunTrust Robinson Humphrey. Please proceed with your question.

Thanks. Could you give us some more color on your channel inventory situation and do you see that playing out in the fourth quarter?

Yes. I think we are comfortable with where the channel inventory is. Not just in corn, we’ve done this across all of our products, I mentioned the Dibrom as well, so not just crop, but it is an initiative that we’ve equipped to try to take the burden of caring our inventory to us, while we are managing down our own inventory, so that we are delivering more at time of need. So I guess with that we do expect good sales in fourth quarter and first quarter, let’s say for the corn products if that was kind of what you were leading towards.

Great. And in terms of the operating cost and where they stand as a percent of sales do you expect that to decline in the fourth quarter relative to the third quarter?

David?

Not materially. I think it'll be about at the level of the third quarter rate.

Okay.

We haven't thought any sharp forecast for that period yet.

Okay. And could you discuss your sales of Dibrom year-to-date, and I understand that there might be some upside in the fourth quarter, but in terms of any order patterns you are seeing today that’s not materialized yet, is that correct?

Well let say yes. So you're saying any upside have not materialized through the three quarters, is what you're saying?

Well in terms of what orders that you have seen for October, November, any, what you have seen so far? You’re not anticipating any jump in sales for the fourth quarter, is that right?

I think, we may see an increase quarter-over-quarter from fourth quarter last year to fourth quarter this year.

Okay. And what were your sales of Dibrom year-to-date?

So far this year, we are just about 10.5, which is about where we were last year through the three, but the difference is that our primary distributor has drawn their inventory down by maybe 20,000 gallons from where it was this time last year.

Great, thank you very much.

Thank you. Our next question comes from the line of Tyler Etten with Piper Jaffray. Please proceed with your question.

Good afternoon guys. And I'm sure I speak for all of us, because I thank you for filing the 10-Q early. I guess one thing that’s on the mind of a lot of people right now is the consolidation in the industry, is there any potential businesses that look compelling at this time or have you been approached for any divestitures out of maybe deals going on right now?

So, the answer to both those questions is yes. But as far as discussion on specifics, we are not at liberty to discuss that at this point.

Okay. I guess - fair enough. I guess building half of that if there is some sort of your capital allocation priority switch, have you guys been on a great job at drawing down debt, would that be put on hold in order to absorb some sort of divestiture in one of these deals.

That’s on strategy, I mean we buy stuff, we work hard to drive down the debt, and then we buy something again. That’s part of our strategy. So, yes.

I guess, would you change the strategy right now of drawing it downward, would you need to raise more debt?

No, I mean we have no problem in increasing debt for the right acquisitions or investments. So, we review - the opportunity is they come across us, but I mean it’s nice to drive ourselves to zero debt, but on the other hand we’re in the business to grow. So, we have no problem in increasing. I mean, our leverage is so small now, I think our debt to equity ratio is like 0.15 and we know of companies that are in that six to seven times debt-to-equity, I’m not comfortable with that, but certainly a is few times debt-to-equity would put us in the 500 million to 600 million range.

Got it. Yes that was what I was looking for. And then just maybe one more from me. Dividends is back, any thoughts on what do you, I guess you guys have thoughts around it and is this something that you guys are comfortable keeping for a while? Thanks.

Yes, I mean dividends have been a long history with the company. We felt with Fort Worth Basin in 2014, into 2015 that we needed to make sure that we were not restricted in any way of meeting the objectives. We worked hard on getting the balance sheet and I think we look at the future and see the bright upside. So, we could look forward to continue to pay dividends and increasing those as we improve our performance.

All right, thanks guys.

Thank you. [Operator Instructions] Our next question comes from the line of Jay Harris with Axiom Capital. Please proceed with your questions.

I've got several questions. First for David, our revenues were $82 million in the September quarter and our receivables are over 90, what causes that?

Well we have longer than 90 day terms on some products, some part of our business.

Could you provide a little more detail on that?

Well our international debts range up to 150, 160 days. So it’s a balance of the exact point in the quarter when the sales occur and the mix of international business and domestic. Majority of our domestic businesses is on relatively short terms. We do have a couple with slightly longer deals.

I mean the Metam, which is going strong, you know definitely it’s a little bit longer, right. And then we have much in the way of corn soil so we are a little bit and those tend to go terms to June.

I don't know, I haven't got the September Q from last year in front of me, but I think that debts where, the AR was to similar sort of level.

All right. Eric you guys have done a very commendable job in growing revenues in 2017, I mean 2016, 2015 was a second year in a row when farm income dropped, this year again farm income will be below where it was last year, could you just go over in a little more detail where you think you will have product lines that will show revenue growth in 2017 and those which may not?

I think the cotton business is looking good. So, I think we’re, I mean we did have a - we’re having a very good Folex season and in fact we are still selling as they are still defoliating, but the Dibrom certainly could have upside, I think we talked about, I mean largely because we’ve driven inventories down to really low levels and channel. We think even if there are as we always see whether related or otherwise down demand, we still should be strong going forward in 2017 because of the fact that, I mean in corn for instance, I think corn inventories drove down $11.5 million out of channel at our level this last year. So that’s a little bit of buffer going into the 2017 season. But again, we’ve tried to take that approach obviously if there was pain in 2014 and 2015 to do this, you know even 2016 we continue to manage that down, but we feel it’s the best to zero odd inventories and build from there. And of course, we've got initiatives that are pushing for increased market share across all of our portfolio products.

Did I hear you correct that, I know you - there was a downstream inventory reduction this year in Dibrom, are you saying the same thing occurred in corn, as well as cotton defoliants?

That’s correct.

Okay. And so that provides a buffer for any change in crop acreage for next year?

That’s correct.

Okay, thank you.

Thank you. [Operator Instructions] There are no further questions at this time. I’d like to turn the call back to Eric Wintemute with closing comments.

Okay, well thank you all for joining us today and thank you for the questions. We look forward to reporting our progress as we move along and we will talk with you soon. Thank you very much.

This concludes today’s teleconference. You may disconnect your lines at this time. Thank you for your participation.