Good day, ladies and gentlemen, and welcome to the Q1 2019 Brady Corporation Earnings Conference Call. [Operator Instructions] As a reminder, today’s conference is being recorded. I would now like to introduce your host for today's conference, Ms. Ann Thornton, Chief Accounting Officer. Ms. Thornton, you may begin.

Thank you. Good morning and welcome to the Brady Corporation fiscal 2019 first quarter earnings conference call. The slides for this morning's call are located on our website at www.bradycorp.com/investors. We will begin our prepared remarks on Slide 3. Please note that during this call, we may make comments about forward-looking information. Words such as expect, will, may, believe, forecast and anticipate are just a few examples of words identifying a forward-looking statement. It’s important to note that forward -looking information is subject to various risk factors and uncertainties, which could significantly impact expected results. Risk factors were noted in our news release this morning and in Brady’s fiscal 2019 first quarter Form 10-Q, which was filed with the SEC this morning. Also, please note that this teleconference is copyrighted by Brady Corporation and may not be rebroadcast without the consent of Brady. We will be recording this call and broadcasting it on the Internet. As such, your participation in the Q&A session will constitute your consent to being recorded. I'd now like to turn the call over to Brady's President and Chief Executive Officer, Michael Nauman.

Thank you, Ann. Good morning and thank you all for joining us. We released our financial results for the first quarter of fiscal 2019 this morning, and I'm pleased to report our 13th consecutive quarter of improved year-on-year pretax earnings growth with an increase of 14.8% compared to the first quarter of last year. This quarter also marks our 6th consecutive quarter of organic sales growth with a 4.7% increase. Staying focused on our consistent set of priorities and executing with a strong sense of urgency have been the drivers behind our ability to deliver more than three straight years of improved profits. We're developing innovative high-quality products serving our customers extremely well, improving our manufacturing capabilities and identifying efficiencies to our SG&A structure. These priorities have been critical to our success and remain unchanged. Our results also demonstrate that when the entire Brady team is working toward these common goals, we can problem solve for our customers while improving financial results for our shareholders and provide excellent opportunities to our employees. This quarter, we increased our investment in research and development by more than 7%, demonstrate our continued commitment to the creation of innovative new products across our entire portfolio. We launched several new products and we're continuing to build our new product pipeline with innovative ideas that will solve our customers' problems and accelerate organic growth. Our identification solutions business grew organic sales by 5.7%, which saw a growth in all three regions and with all major product lines including modest growth in the health care area. We still have work to do to bring our healthcare product lines back to consistent organic sales growth, which includes adding to our sales force and continuing to build our new product pipeline. I’m confident that we’re taking the right action…

Thank you, Michael. And good morning everyone. The financial review starts on Slide 3. Sales increased 1% to $293.2 million in the first quarter, which consisted of organic sales growth of 4.7%, a decrease of 2% from foreign currency translation and a decrease of 1.7% from the sale of our Runelandhs business in Sweden which was finalized in the fourth quarter of last year. We increased our investment in research and development by another 7.7% as we continue to invest in new products and build a strong pipeline for the future. Our trend of improved profitability continued this quarter as pre-tax earnings increased 14.8%, and net earnings increased 18.6%. This profit improvement was the result of our continued organic sales growth combined with our relentless focus on driving sustainable efficiency gains throughout our factories and our SG&A structure. Our tax rate was 23.2% this quarter, which was down from last year's first quarter tax rate of 25.7%. Our tax rate was lower this quarter as a result of the benefits from the U.S. tax reform that was signed into law last December, and as a result of benefits from equity-based compensation activity in the quarter. Diluted earnings per share were up 18.4% to $0.58 this quarter, compared to diluted EPS of $0.49 in last year's first quarter. Cash generation continues to be a focus area, cash flow from operating activities was $18.8 million this quarter compared to $34.7 million in last year's first quarter. This decrease in cash flow was due to the timing of annual incentive compensation payments, as well as increased working capital as a result of our increased sales in the quarter. We're off to a good start. We're growing sales. We're investing in innovation, and we're executing efficiency gains throughout the company. Yes, we're seeing cost…

Thank you, Aaron. Slide 13 summarizes the Identification Solutions first quarter financial results, IDS sales increased by 4% finishing at $218.1 million with organic sales growth of 5.7%. Foreign currency translation decreased IDS sales by 1.7% this quarter, organic sales grew in the mid-single digits in the Americas in Europe and in low-single digits in Asia. Organic sales growth was strongest in our Wire Identification and Product Identification product lines. We’re growing and most end markets and we're especially seeing growth in the industrial sector. Our healthcare identification product line is also starting to show improvements with modest organic growth in the quarter. We still have work ahead of us to rebuild our sales force and to grow our pipeline of new products. I'm confident we're making the right decisions and we're on our way to turning this business around. Our European businesses continue to perform well and posted mid single-digit growth in the quarter. Emerging markets and our businesses based in Western Europe led the region for organic growth in the quarter. We saw low single-digit sales growth in Asia. Outside of China, our businesses tended to grow nicely with strong growth in India and the rest of Southeast Asia. Within China, our business was relatively flat as the general economic growth rate appears to have slowed. Segment profit in the IDS division was $41.6 million in the first quarter which was an increase of 16% compared to the first quarter of last year. As a percentage of sales, segment profit improved to 19.1% this quarter compared to 17.1% last year. Our IDS business continues to lead our improved financial performance. I'm pleased with the team's ability to consistently grow segment profit while making a significant increase in our investment in R&D. We continue to have opportunities to streamline…

[Operator Instructions] Our first question comes from George Staphos with Bank of America.

This is actually John Babcock on the line for George. Just want to ask, with regards to IDS, what drove the margin expansion there during the quarter?

Pardon, I missed the question.

Yes. Hopefully that's clear. Just want to get a sense for what drove the 200 basis point margin expansion in IDS?

Sorry, I actually couldn't hear you. John we're actually looking at a couple of factors. One is clearly mix but more importantly our innovation product line development is working. As we develop more new proprietary products we're seeing some of our differentiated sales growth above GDP in that space along with margin expansion resulting. So it bodes very well for our future.

Okay, that's great. And then the next question, you talked a little bit about this during the call, but just want to get a little bit more detail on the products you are sourcing from China and also generally the impact there that you foresee going forward.

Yes, as we talked about we have a very diversified product offering and geographically we have 70 locations in 33 countries that have an awful lot of autonomy for their product manufacturing. That gives us the ability to really overcome a lot of the obstacles that tariffs are creating for other companies. That said, we do have a couple of product lines in particular that do derive a significant amount of their production out of China. The good news about that is twofold. One, our competitors also derive their manufactured goods from China. And we are positioned in a manner and a method that we can offset the vast majority of any tariffs with price increases. So overall, we believe that yes we are seeing an impact, but we are well able to overcome that impact in our various businesses and continue to deliver solid results.

And then just the last question. I was wondering if you could talk about the M&A landscape currently?

As you know, M&A is an area that we had historically been quite active in. And we made a specific decision when I came on board approximately four plus years ago that we had to reconnect to who we really are and that is an innovation driven manufacturing company that really focuses on providing unique solutions that others won't or can't in niche markets. That said, it doesn't mean that we haven't wanted to acquire. It means we have to have a disconnect from our old philosophy which I would characterize as a acquisition for growth approach to allow us to change over to a technology driven approach. In other words, we want to make sure that we have all the technologies we need to excel in our markets and in adjacent markets. We first look at our internal resources to determine whether we can provide that technology in a cost effective and timely manner. If that is not possible then we look to the outside world to see what companies have that technology what the fit would be. We first and foremost want to make sure it's a solid fit that both organizations win for the long-term. We're a 100 plus year old company and the companies we want to marry up with we want to make sure culturally fit with us and their employees would win, their organization will win and we would win. In addition to that, we've got to make sure that it's either a complete tuck in or is of significant size that they have a strong management team available after the acquisition has been completed. And then we take a look at what are the key synergies and available opportunities and price points of those acquisitions. And so, I would say right now to specifically answer your question we are actively looking at key opportunities. Often these are private companies that require a longer time span to actually actuate on. But also we're making sure that price points make sense given expectations of a premium over market and market timing at the moment. So, we don't allow our cash to burn a hole in our pocket as we've said extensively. But we do have the powder to properly execute a significant acquisition as they become available.

Our next question comes from Allison Poliniak with Wells Fargo.

So going back to IDS, really nice incremental margins. And you did talk, rightfully so, of investing more in that business now. With that, how should we think about the impact to [indiscernible] incrementals going forward for this year with that increased investment?

Well, we believe that the increased investment is going to allow us to do several things. One, we're investing in new products and that is going to help us grow. Now the growth from our new products isn't instantaneous. But as we've been building over the last couple of years I think you've seen that our growth has expanded above GDP in that market segment and that is primarily because of our new differentiated products. We expect that to continue to occur. But as I said, the pay-off of this year's investment on growth usually happens in the future years. But we are also investing at the same time in technology, as we look at our automation and our new manufacturing capabilities without defining the segments we've literally invested in some production capabilities more money in the last two years than we have in the last 20 years combined and we are continuing to move forward in that. So I would say, you're going to see efficiencies from this and longer term you're going to see even better growth from our new products. However that isn't to say you aren't going to see growth from new products this year, you will, but that's based on products that we have been launching.

And then on the WPS margin, you noted a couple different buckets that were driving that down. Can you help us quantify that a little bit? Which one I guess was more impactful? Was it FX? Was it investment? Was it the divestiture?

Allison I can answer that question. When you look at the WPS margin it was down, you know it was down. It was down a bit. Basically there were three main drivers. Number one would be the geographic mix which is absolutely real. Our European business is definitely our most profitable business in workplace safety. They've been doing a really nice job but with the euro declining a bit versus the prior year there they felt an impact because they do source some products directly from the U.S. which creates a bit of margin compression for that business. In addition to that we had the Runelandhs business. This business did have above WPS segment profit margins and that business had last year call it about $2 million of EBITDA. You saw the impact on the first quarter being a little bit over 6% of workplace safety sales, so that was a pretty meaningful impact. But I would say the biggest of the three actually is the Americas business that business did decline a bit on the top line and it also declined on the bottom line. So, if I would order the three, it would be the Americas followed by Runelandhs and then followed by FX. But they all definitely had an impact.

And then just last on - obviously, in the Americas in general to WPS has been challenged in an arguably fairly solid volume environment. I guess what is from your perspective do you need to do in that business? It seems like we have been working on it for a while and we are still showing some declines there?

You are correct, Allison. If you look at our numbers in the third quarter we actually were starting to grow that business again, without getting into too many details, we had an issue with some of our platforms in the digital performance space that we are working with our supplier to resolve. But they did have a significant impact that we believe and are confident we'll be able to address and will bring us back into a growth mode. But you did see us physically start to come out and because of some technology issues we have had some difficulties that we're overcoming with our core supplier in that area.

Our next question comes from Charlie Brady with SunTrust Robinson Humphrey.

I just want to go back to on the margins for really I guess both segments. And particularly on IDS, your comment that productivity often more than offset the increase in R&D that you are putting through this year, which I guess was up 7%. Can you get a little more granular on that? I mean, as we - I assume that implies you are expecting year-over-year margins to be up. But can you try and framework as we go through this year, is it really tied to seasonality? Does the R&D spend have any - is it a steady ramp on the impact on margins? And I guess my second question on WPS is if you are having that supplier issue, what impact has that had on the margin of the segment?

Let’s start with IDS Charlie as you said, we do expect to be growing our investment in R&D throughout the year. That said, you'll probably be seeing a little larger uptick in the next quarter as compared to the entire year. So you might see a little slightly higher increase in that in the next quarter. But overall if you look at the year expect that growth to be at 7% and we do anticipate that does have a longer term positive outcome as we said though our other initiatives, our other efforts will overcome that. That cost structure. If we didn't look at WPS you're exactly right. There is margin pressure as a result of that situation.

Is there a timeline as to when you expect that supplier - is there a timeline when you expect the supply issue to be resolved?

We believe that we should be able to be out of this. Certainly, prior to the end of this quarter that we're in.

So, then as we go into the second fiscal quarter, that margin pressure should be gone?

The quarter that we're in now and not the quarter that we're reporting on.

Sorry, as we get into 3Q, I guess, 3Q and 4Q.

Right. Yes, 3Q not 2Q, but by 3Q the margin pressure should be gone, yes, orderly, rapidly diminishing. It's not an instantaneous switch as you know.

Yes. And I guess just longer term, where do you see IDS margins get back into low to mid 20%s? I mean, I know it's a little bit far-looking, but you are obviously putting more new proprietary products out there, which presumably get better margins. From a long-term basis, can you give us some sense as to where you see margins getting to in IDS over, say - assuming we don't have a downtick in the economy - three-year period or so?

Well Charlie, as you know we don't forecast those numbers and we don't look you know publicly at it that way. What you can expect though is just to continue to drive new innovative products that investment in R&D is real and is starting to really pay off as you see and the newer and fresher and more proprietary are product lines the more defensible positions that we have in those spaces. The other thing that we're doing that I am quite pleased with is that we've really moved and are pushing much harder to a value added approach in our pricing and in our system deployment. We are challenging our product managers and our sales teams to sell in a manner that really rewards our customers and ourselves from the value to them and to us and that should be a positive as well.

Just one more. Can you tell us digital sales as a percent of WPS sales in the quarter?

Well, we don't disclose that exact number. The last time we've disclosed it it's been in 20% range.

And you can assume. That is consistent.

Our next question comes from Joe Mondillo with Sidoti & Co.

Just wanted to understand how much to the bottom line currency affected things. And is there any specific currency that may affect things differently other than translation? Or is it mostly just translation going forward?

Well don't breakout the impact down all the way to the bottom line. Currency did impact our top line 2%. As you know and a big chunk of that flew through down to the bottom line as an example almost half of our reduction in SG&A expense this quarter was the summation of foreign currency and the Runelandhs business. So it clearly impacts the other lines in the P&L. So you get 2% strictly from the translation, but there is also other impacts of foreign currency because although most of what we sell, we purchase or manufacture within that region or that country, thus, mitigating impacts on our margins. We do still ship a fair amount out of the U.S. So a strengthening U.S. dollar does compress some of our margins particularly in Europe and to your question on other currencies that we are more, I’ll say susceptible to declines in, if you will. The biggest currency for us would be the euro for sure. So as the euro declines that's clearly not a good thing for Brady from a big picture standpoint.

And in terms of the Australian dollar, there is nothing outside of maybe mostly translation towards that?

No. In the case of the Australian dollar, we absolutely have some transaction issues as well. So compressed margins because not everything that we sell is in Australia, of course is manufactured in Australia, some is USD denominated. So there definitely is an impact there as well. But, the biggest impact that we have to the organization is definitely the euro.

And then also the SG&A decline that you saw in the quarter. I was wondering if you could just break out that 6% decline between FX, the Runelandhs business, and then organic declines?

Yes, well I guess the way to think about it would be about half of that decline was the summation of Runelandhs and foreign currency and the reason that we called those two out combined is simply because both of them were bit out of our control, of course. So think about it that way half of that SG&A decline were those two items, the remaining half was primarily efficiency gains throughout the organizations. And then we did also have a small item related to the valuation of our deferred compensation assets, which was a positive to SG&A. So if you look at half of the impact Runelandhs and FX the other half was mostly efficiency gains but there was also a little benefit from deferred compensation.

And then last question from me. So last time we spoke was - it was pretty much halfway through the quarter. And so IDS revenue seemed to be a lot better than at least I anticipated and I guess you guys, too, since you increased the guidance there. Just wondering - you mentioned several different pieces of business that are doing well. Healthcare may be a surprise. But could you just talk about sort of what you saw in the last six weeks of the quarter that really drove the performance that you saw in the quarter? And maybe anything else that is built into your guidance going forward?

Obviously we are projecting anything other than what we publicly projected at the last call. So, we didn't change our external or communications in any way during the quarter. But the other half of that is there was an improved growth mode particularly in October. And we saw an expansion of that at the end of October. So you are correct that even internally we weren't seeing any changes to our model in the first half of the quarter. In the last third of the quarter we definitely did see an improved step up in growth.

And could you just expand sort of where you saw most of the strength?

It was pretty broad based. I will tell you across the regions, across the product lines and we actually saw an acceleration in the last two weeks of the last month.

And then just to follow-up on that sort of question, the healthcare business. Could you just provide a little more color in terms of sort of your thoughts for the rest of the year? It seemed like on the last call, you weren't expecting much improvement throughout this year. Most of the recovery or improvement should be sort of driven by fiscal 2020. Just given sort of the initiatives that you are putting in place, it will take some time to see that improvement. Is the growth that you saw in the quarter, maybe it was modest, but is that sustainable? Or could you just provide sort of your updated thoughts there?

Well as I recall, I believe Joe that I called out that we would expect to see some improvement starting in the second half of the fiscal year and you are correct. We did not call out our forecast of improvement in growth in the first half of the fiscal year. So I would reiterate we expect to see more improvement in the second half of the fiscal year. We are pleased with the leadership team's ability to drive our initiatives at a faster pace than we had anticipated. That said as you come out of these situations you can't guarantee the timing of everything. Overall though putting our key price management teams in a proper position our sales teams in the in the right areas and with the right people it has helped us move forward more rapidly than we’d initially anticipated.

And our final question comes from Keith Housum with Northcoast Research.

This is Brendan on for Keith. So I just want to ask you for some more color on the WPS business. I know you talked about it some, but with - obviously industrial production is pretty strong, but the outlook is choppy just with tariffs. I was wondering if you've heard, just what you have heard on the demand side from customers. I guess just what are they saying? Is there any kind of slack just because of that? And if there is any light at the end of the tunnel for that business?

Well, as you know, in Europe and Australia that business is actually quite strong. And so I wouldn't characterize the business globally as being weak. We definitely are seeing a very good expansion. Interesting enough though if you take a look at Australia as an example, historically, they'd been very, very strong in the mining segment and we aren’t seeing an improvement of that segment yet. So their growth is coming from their ability to penetrate the overall Australian economy. And in Europe, we've actually seen consistent GDP-plus growth for a number of quarters and that we really place on our team's ability to properly place unique products and solve problems with our customer sets there. So you're left in with North America and as we've said we've had some disconnects historically that have been significantly more difficult to overcome than they were to create in the first place. So the positive news is, we're not a seeing any slowdown in the key geographies that we’re addressing. However, be clear we don’t have a long pipeline, we’re not a company that has a six-month backlog. We're an instant reactor to the economy. So I just want to be clear about that to you.

Yes, great. I appreciate. Yes, I should clarify. I definitely was referring to North America. Obviously, the other geographies are really strong, but I appreciate the color. Thank you.

Ladies and gentlemen, thank you for participating in today's question-and-answer session. I would now like to turn the call back over to Mr. Michael Nauman for any closing remarks.

Thank you. I'd like to leave you with a few concluding comments this morning. We're off to a good start in fiscal 2019. We delivered organic sales growth of 4.7%, and pre-tax earnings growth of 14.8% which is our 13th consecutive quarter of pre-tax earnings improvement all while increasing our investment in R&D to drive new product development and future organic sales growth. We're increasing capital expenditures to drive automation and manufacturing efficiencies, and we continue to identify opportunities to improve our SG&A structure. I believe we're making the right moves in our underperforming businesses as we're seeing improvement in our healthcare business, and our workplace safety business has now shown organic sales growth for the past three quarters. Our first quarter was strong but we can do better and we're pushing ourselves to deliver more as an organization to our customers, to our employees and to our shareholders for years to come. As always, if you have questions please contact us. Thank you all for participating today and have a great day. Operator, please disconnect the call.

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