Oil-Dri Corporation of America (ODC) Q1 2015 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen, and welcome to the Q1 2015 Oil-Dri Corporation of America Earnings Conference Call. My name is Whitley, and I will be your operator for today. At this time, all participants are in listen-only mode. Later, we will conduct a question-and-answer session. [Operator Instructions] As a reminder, this call is being recorded for replay purposes. I'd now like to turn the conference over to your host for today, Mr. Dan Jaffee, President and CEO. Please proceed, sir.

Thank you, Whitley, and welcome everyone to our investor teleconference. Joining me today in Chicago is Doug Graham, our Vice President and General Counsel; Dan Smith, CFO; and Reagan Culbertson, our Investor Relations Manager. And Reagan, if you would cover the Safe Harbor we will be good to go.

Thank you, Dan. Welcome, everyone. On today's call, comments may contain forward-looking statements regarding the company's performance and future periods. Actual results in those periods may materially differ. In our press release and our SEC filings, we highlight a number of important risk factors, trends and uncertainties that may affect our future performance. We ask that you review and consider those factors in evaluating the company's comments and evaluating any investment in Oil-Dri stock. Thank you for joining us.

Thanks, Reagan, and I'd like to turn it over to Dan Smith to review the quarter.

Thanks, Dan. Good morning. Oil-Dri sales for the first quarter of fiscal '15 were up 4% to about 66 million, thanks in large part to the increased sales of private-label cat litter obtained as part of the MFM asset acquisition in November of 2013. However, our sales mix negatively impact earnings in the quarter. Our EPS of $0.30 per diluted share for the quarter was down from $0.41 earned in the first quarter of fiscal '14. Our gross profit percentage for this quarter was approximately 21% versus 26% in fiscal '14. The gross profit decline was driven primarily by product mix sold and increased packaging costs. The cost of natural gas used in our manufacturing facilities decreased about 5%, but this decrease was offset by other manufacturing cost increases. Our retail/wholesale team reported 7% sales growth for the quarter. Private-label cat litter sales increased about 50%. However, the retail/wholesale group reported reduced earnings for the quarter due to the product mix and higher resin cost. B2B sales were down slightly for the quarter. Sales of Fluid Purification products were down, as were co-pack cat litter sales. Increased sales of Ag products partially offset these declines. Reduced sales, higher packaging, freight, and material cost, and increased SG&A, all led to lower income for the first quarter of fiscal '15 compared to the same period in fiscal '14. Much of the SG&A increase was related to our new Amlan Trading subsidiary in China. From a balance sheet perspective, our cash investment balance at the end of the quarter was a little over $10 million, which was down about 22.5 million from the first quarter of fiscal '14. Driving this change was our November 1, 2013 asset acquisition, increased capital expenditures, dividend payments, and our regularly scheduled debt payments. Thanks. I will turn the meeting back over to Dan Jaffee.

Thanks, Dan, and Whitley, we're going to open up the line for Q&A, I just encourage everyone to prioritize your questions, ask your most important question first, and then get back to the end of the queue just so everyone has a chance to ask at least one question. Thank you.

[Operator Instructions] First question comes from the line of Ethan Starr, Private Investor. Please proceed.

Good morning.

Hi, Ethan.

Could you please tell us more about the new and innovative lightweight branded and private-label cat litter products that you launched during the second half of the fiscal year, and also the fact that you're launching a lightweight private-label cat litter product indicate you already have one or more customers for the product?

Okay. Well, good question. Let me just start 50,000 feet, and then I will get as down to ground level as I can; looking at IRI information, it's interesting to see if you look at what the growth of the category has been, so you can see the scoopable sales and then what they've grown, how much of that growth is represented by lightweight, because it's all the lightweight litters other than Fresh & Light are off a base of zero, as you know Tidy Cat lightweight has launched, Fresh Step has launched, we are out there. So 91% of the scoopable growth in the category in dollars has come from lightweight litters. So clearly that's the trend, that's the disruptive innovation that's going on, which is very exciting. As I've said all along as this gets to be a significant portion of the category or certainly category growth, then retailers are going to want to have private-label lightweight litter. As you know, we don't dance till we get in the end zone, and so, until we start shipping any of these customers, we are really not going to talk about any specifics, but suffice it to say historically when it was all heavy and scoopable and what I would call a race to the bottom denominated on a price-per-pound basis, we were at a significant disadvantage, and so our share was less than 2% of the private-label scoop category. We expect our share going forward will be significantly higher than that on the lightweight segment. And then as the lightweight segment continues to grow and gets to be a greater percentage of the overall scoopable segment, our overall share will go up as well. So I'm not sure I'm totally answering your question other than to say we are in the best position to benefit from lightweight private-label, we have the best products. What we are starting to see is some people have made the decision that the way to get lightweight is to put in fillers, very light density fillers, and I call it a filler; to me, anything that doesn't absorb or control odor is a filler because people buy cat litter for the absorbency and then to control odor. So if you are putting something in there that doesn't do that, then, from my vantage point and from any kind of empirical in-home use test or any kind of scientific data standpoint, you are diluting the performance of the product. So you could imagine, you could put cotton balls, you could put all sorts of things in cat litter to make it lightweight. Well, our competitors have decided that they're going to put in fillers, they're going to put in very light density fillers and then trying to surround those fillers with clay in order to control the odors and get absorbency. So our products are the only one with no fillers added. We have all clay blends in our products. And so, historically, with Fresh & Light we had a blend between sodium bentonite, which is very heavy density and calcium bentonite, which is light in density and highly absorbent. And that allowed us to make a claim of up to 25% lighter than …

Yes. Okay, I know all this.

Oh, yes, but I'm going to answer your question, if you want me to …

Okay, please do.

Okay. So you asked what are the new products coming out; well, so the new products coming out for Oil-Dri would be utilizing 100% of our clay in the product, and obviously it's got to perform, but now you are going to have up to 50% lighter product, because you are taking the sodium bentonite completely out of the formulation. So that's what we are excited about. That will be coming out on the second half of the year. I don't have any sales estimates for you. All I can tell you it's the trade, as well as they received us on 25% lighter is equal to or more excited about this 50% entry. And one thing I have encouraged you guys to do is go out there and look at reviews that are out there on the various lightweight products, and you can see the consumer still love clay. It has been the cat litter of choice since Ed Lowe first sold the bag of clay in 1947 or whenever he did. And so, our no-fillers-added is going to be our position.

So this 50% lightweight litter -- it sounds the same as your former 14 pound scoop jug that was equivalent to 20 pounds?

It's not actually, because unfortunately their product had two inherent disadvantages; very dusty, and didn't clump very well. And so, we could never sell it at a competitive price point with other scoopable litters. So if look at how that competed historically, and how does compete, it's what's called OPP, Opening Price Point. It's a popular priced item, it does very well, it's a highly ranked item, but it sells on price. And so, those consumers who want scoopable, but are willing to sacrifice a little bit of performance and a little bit of dust control, but want a nice price, they go after Cat's Pride Scoopable, and they do get a nice lightweight product. This product is totally different. This product is formulated for virtually no dust, or 99% dust-free. And we will clump as well or better than sodium bentonite. So does that help?

Yes, it's totally calcium bentonite?

Yes. It's totally higher [ph] raw material. That is correct, I mean …

Okay. Is it flushable, then?

No, it will not be flushable.

Okay. So did you have any customers for this new private-label product?

I'm not answering those questions right now, and you've gotten a bunch, so you wouldn't mind …

Sure. Okay, yes, I'll get back in the queue. Thanks.

[Operator Instructions] Our next question is from the line of Ethan Starr, Private Investor.

Oh, Ethan, you get to go again.

Yes, I guess [indiscernible] off. Could you please add more color to the statement that Calibrin products are gaining momentum in China and other foreign markets?

Yes. There are some issues, I'm going to probably embellish a little bit on your question just because there are some issues I'd like to cover, because we talked about what the overall size of the market is on mycotoxin binding, and we're obviously excited about China because we've got a wholly-owned entity there with feet on the street. So I prepared for this in advance to unveil a little bit more of the detail surrounding it. So we estimate the size of the mycotoxin control market in Asia to be about $200 million at the end-user level, maybe a $100 million at the distribution level. And while we are not currently at a run rate that would exceed 10 million in sales, which if you obviously 10 million in sales through direct distribution and divide it by the 100 million of distribution, you could say it's a 10 share, so we are not a current run rate of 10 share. It's certainly our hope and expectation that within 24 months we will be able to achieve that run rate. So that gives you an idea for the magnitude of the opportunity, and we've always said these are higher than average margin products for us. And so, with those sales will come GP, so -- and I did digress, I'm not sure I answered your question; what was your question?

Could you please add more color to the statement that the Calibrin products are gaining momentum in China and other foreign markets?

Well, we are continuing to make sales goals, make demonstrations, participate in shows and starting to put on incrementally new customers, some of which won't ship until the second half of our fiscal year, but we are gaining momentum. We are continuing to be excited about the opportunity in China and Asia.

So how long do you think it may be -- I know you really can't answer this definitively, but before the China subsidiary actually breaks even or turns a small profit?

I'll defer to Dan.

I'm thinking fiscal '16 probably.

Fiscal '16.

Okay, that's helpful now. I mean just it's hard to tell with three different foreign subsidiaries now, which one is driving the loss, I guess. What can you tell us about the new products R&D is working on?

Well, as you know, it's not good for anybody, if I tip our hand too early. I'm surprised to say we are continuing to invest heavily in R&D. New product development has been a big part of our past. I was looking at the sales trend of Fresh & Light. If you look at what we've done, we've launched this item in 2011. So we only sold $759,000 of it at wholesale Fresh & Light for Oil-Dri. The next year we sold 12 million. The next year, 19 million, and this past year that's been 731, we sold $25 million of Fresh & Light. This is a product that didn't exist and that all came out of research and development. So that's 10% of the company now on a new product that didn't exist and really what is disruptive and that it's now allowing us to make sales goals and the private-label lightweight side, on a basis where we are actually -- have the best products and the best cost of good because we can use all of our raw materials from Taft, California, all the way to Ochlocknee, Georgia on that initiative. So I would say for a company of our size, our research and development effort is absolutely critical to our near-term and long-term success. If we were selling floor absorbent and unscented coarse cat litter today, you wouldn't be investing in Oil-Dri and I wouldn't have a job. So we're going to keep plowing it in, we're going to keep finding exciting new applications but I'm really not going to talk too much about it until we actually, like I said, we're in the end zone.

Okay. So this -- that 12 million, 19 million, 25 million, that's wholesale dollars, correct?

Correct.

Okay. That's impressive. And I guess most of the cannibalization of that is there was the regular Cat's Pride Scoop?

Well, you say that and we anticipated that when we launched it, in this one I don't have the wholesale numbers in front of me. So I'm going to switch matrix just to give you a relative indication. So I've the IRI data in front of me, 52-week data ending November 9. Okay?

Okay.

And Cat's Pride Scoopable, we did 22.8 million at retail now, but it was up 6% from the prior year. So, you're not, you're seeing additive, that's what I'm saying, they really go after two different consumers. Cat's Pride Scoopable was always sold on price and fit for us, put a lot of trade-offs. Fresh & Light competes right at the highest level, higher price point and it goes after the consumer that says I'm willing to pay more but I want performers.

Okay. So impressive on the Cat's Pride Scoop. It's good in a way both still work, but clearly something has been, some sales -- or just the coarse litter has been declining for a long time?

Coarse litter has been -- we're actually seeing the lightweight launch is actually sped that up a little bit for the 52 weeks coarse grind category was down 6% in dollars and it's down 7% in the 12 week. So it's declining at 6%-6.5% and this comes after 20 years of decline. So it's continuing to be a smaller piece of a category. So what I'm looking at shows retail sales of about 1.7 billion and coarse grind is only 260 million of that.

Wow. I have more question, I'll go back the queue, though.

Step back in the queue, but you're probably going to pop back up.

Okay.

Your next question comes from the line of Rebecca Simmons with DRZ, Inc. Please proceed.

Hi, Rebecca.

Hi. Thanks for taking my question. Could you give a little bit more color on the input cost side? I know you called out a couple of things on the press release, are you seeing any release or any area outside of maybe natural gas that you're expecting to be moving lower?

Natural Gas is certainly you identified that debt and also flows into petroleum, does into resin, so Dan --

Worst, we saw resin spike up for our certainly in our first quarter and play out through our second quarter. We have commodity based contracts. If the resin price continues to decline like we've been seeing in the marketplace recently, we will see a decline in our fiscal third quarter. So that certainly is we're hopeful that the resin price continues to decline from its highs and it saw some highs in September.

Okay. And any pressure that you're seeing from the retailers on the cost side or I know you talked about in the past different slotting fees, anything going on there?

Pretty much the same; I mean we have slotting in our plan for the launch of the new items that we're talking about, the 50% lighter Fresh & Light product line. But it's all high payback stuff and so nothing much different than the past.

Okay. Thanks a million.

Thank you.

Your next question comes from the line of Ethan Starr. Please proceed.

Yes. By directing promotional dollars for lightweight cat litters away from mass media and toward targeted trade and consumer promotion, I assume that shift that will shift advertising cost away from SG&A and instead will be cut and forth reduction in sales?

That's correct, Ethan.

Okay.

It goes up to trade spending which is reduction in sales.

Yes. Okay, good. As fewer and fewer cat owners use coarse litter; for how much longer will your major co-packaging agreement would be significant for Oil-Dri?

The good news is while the coarse cat litter is declining, and Fresh Step is showing their big percentage of that category, so they're going to decline too. It's still an important item for us and important item for them. I mean, I would probably -- I'm putting words in their mouth. I've never heard them say this, but when I got my MBA, you had the cash cow. I'm assuming this is the cash cow. They don't put a lot of advertising; I haven't seen a Fresh Step coarse cat litter commercial in bright 10, 15 years. So my guess is it's generating a lot of cash for them. They are going to ride this out and they'll probably be one of the last ones on the shelf, because they do have a loyal customer base. But you're right, I mean, you do the math, and five 10 years out, it's going to be a much smaller item.

Okay. I think in some ways that, I mean, it's I hate -- much I hate to lose sales. It's a good thing to be less reliant in something that's 20 years, 10 or 15 years ago was very much more important to the company.

You're absolutely right. And just again, example, because why we need to keep diversifying and investing in new products in our technology, because otherwise if we just rode out the old horses, that would it may look good for a quarter or two, but it's not going to look good over the long.

Sure. Just out of sheer curiosity, I was just thinking this is kind of a ridiculous question, but why do you still own land in Oregon, so many years that you closed the plant there?

I'm going to build a house there someday and then, no I don't -- you know we close the plant there, I don't know, I just not high in our priority list to get out of that piece of land, but that's what it is, it's a …

Yes. No, I know that. It's just -- okay, just curious. It's like the -- you're still in the -- in report it's owning well like 40,000 small amount of tons. So, okay, well, you know, something for a better quarter, this is not bad though, and I look forward to future better quarters.

Yes. I'm with you and all the thing I liked about this quarter was that in the fourth quarter of fiscal '14, we only made $0.07 of share and while we made the last this year than we did a year ago, we delivered $0.30 of share. So I think we've all recognized that that was good relative to the most recent quarter. It was not good relative to last year but as you know we're going to have another top comparison in the second quarter, but third and fourth quarters we're going to have good comparisons of last year. It's all relative. The good news is we're still very enthusiastic about our animal health business, and then the lightweight tsunami as we call it, is hitting and it did not help this quarter in the sense of our branded sales, but as you guys know, I really think it's going to be on the private-label side, where we're going to have the best products at the best prices and the least competition. So, you know, that's sort of good. The branded sides are always going to be a tough fight.

One last question, actually, is MSM now totally integrated?

Yes, we would say it is.

Okay. And I assume it's already accretive, I assume?

Yes.

Good, okay. Thanks, so much, that's all my questions.

Okay, thanks. Whitley, any more questions?

Yes, sir. You have a question from the line of Jim Schwartz with Harvey Partners. Please proceed.

Hey, Dan, how are you?

Good, Jim, how are you doing?

Pretty well, thanks. Just a quick question, just on the -- you guys have had some public filings on your patents around lightweight and just me -- start with the potential in terms of royalty opportunities and yes this lightweight category where you are kind of spearheading this move which is becoming bigger and bigger.

Doug, I'm happy to jump in, but I don't know if you want to feel this one.

Just very quickly, I mean we have had intellectual property in the litter space for some time, our patents staid back from some innovations that we've had 15 years ago. And as well we have filed some recent patents and both blends as well as some of our combing agents.

Yes. And then the good news is, you know, when we started this lightweight revolution, we anticipated this was going to be a game changing disruptive technology, and we, as the innovators and inventors of it, we wanted to benefit from it. So, we filed patents around it and anticipated not only what we would do but what anybody could do if they were trying to take advantage of this revolution. And so, we got patents out there, the patent of it's finally opened it. So we at least know they're going to start reviewing it, haven't been issued. But if the patents get issued, that's, we're going to have some interesting conversations because we started this, we invented it and we deserve to benefit from it. We have some existing IP that we also believe some or all of our competitors are using and we're in preliminary discussions around that. So this target sort of caution me, IP monetization as the long-term game with a lot of expense upfront and then maybe way down the road a payday. So, it's a tough fight. So, what you really want to do from my understanding and I'm happy to have any of our investors who have experience in this, reach out to me and help me. But what I'm learning in this whole thing is you really want to align yourselves with at legal team that believes this strongly as you do in your landscape, your intellectual property landscape. Meaning, they're going to put money on the table too. And all I can tell you is we're in discussions, where we got plenty of interest and we'll if it gets material in terms of the negative on the short side, you'll hear about that. And then we'll obviously talk about the why we're doing it, where the pot of gold could possibly be.

Well, any percentage on the billion dollars plus category goes the long way when you only have 7 million shares?

Right, no. There's real value there and we are really agitated, none of our competitors were doing this until we educated the category and invented this. So, they were all doing the opposite, they were all densifying, putting dolomite, limestone, whatever they could do to get the lowest price per Pound. So, we really started this whole thing.

I mean, how discriminating is the consumer with lightweight, when you read reviews and Tidy Cat that it's too late, that attracts like crazy but marketing is marketing. I guess you'll fool someone until you don't, but the fact that you guys are pure and the others have fillers, how long does it take for the marketing to kind of balance itself in terms of quality?

I would say that the -- they're validating, the competitors are validating the power of the concept, because they're able to take a product that really performs worse than their historic products, who're going to buy our products, that you just take Tidy Cat lightweight, and compare it to Tidy Cat regular, Tidy Cat regular is a better cat litter by far in any metrics. And so they're taking a worse product at a higher price and they're selling it. So, it shows you the power of the light concept and it also shows you the power of their marketing muscle. So, as I'm looking at the landscape, and I don't become divulging any grand strategies, if you said what's the easier strategy. Going after Nestle, Clorox and Arm & Hammer and taking branded share away from them, okay, that's one choice and we're doing it. We were growing, I mean, we're growing our share but it's has not been astronomical, but it's gotten the balls moving or going after private-label lightweight, where those three guys really don't do what they might do it for one or a count here or there on a strategic basis, but it's not their premise. That Nestle would not say we're a private-label company, Clorox would not say and Arm & Hammer would not say it. And we have the raw material, so we from coast-to-coast, so we have the best cost of goods and whereas cost of goods most important, on the branded side or on the private-label side. I will tell you it's on the private-label side. You've got to be cost competitive. Your pencil has to be sharp. You got to get the retailer enough room where they can make a good healthy margin and yet still show price operation against the brand. That's the only way they sell private-label. People aren't going in buying whatever retailer you want to think of. Their private-label if it's selling at a higher price point than the brands, people will just buy the brand. So, what you want to get is what's called national brand equivalent at a good price separation called 15%. I will tell you that we have had multiple retail partners come to our research lab with the mindset we need national brand equivalent. So we want Tidy Cat lightweight, we want that as a private-label. And when they get done with our dog in pony show and see what an inferior product is, and what a superior product clay is, they've all said the same thing, we would not put our name on that other product, we want you to do it and we want your clay base solution because we believe performance is why consumers buy cat litter and then lightweight is an added benefit, you can't sacrifice performance just to achieve lightweight. So I think we are going to show more traction and more benefit on the private-label side, which is a big segment. It's 20% of the dollars of the category, it's a big opportunity.

With zero share currently?

Having almost zero share and no margin. I mean any time we get anything, it's very competitive. We are on a place per pound basis, and it's very hard to make any margin.

Got you.

I expect our private-label business will grow. I expect it will be healthy. It will allow us to invest in the growth that and keep supporting it. And yet still be a cost-efficient solution for the retailer because, the historic private-label competitors -- we may get a regional one here or there, but there is no national one that can cover a national account and a cost competitive advantage to us. We will have a real competitive advantage, because we have mines in Taft, California, in Mississippi, both Blue Mountain and Ripley and then in Ochlocknee, Georgia. And so, that's hell of a moat. That's a hell of a barrier to entry.

Yes. That's terrific. First time in a while that looking forward commentary, you talked about the challenges that you faced, I know the glass is always half empty to you, and I appreciate that, but some of the challenges that you faced during the last half of fiscal '14 moderated, which -- it's vaguely positive commentary which was nice to see.

And I would just say the glass is always 2% empty for me.

Okay.

And I want that 2%.

Okay.

I mean I get it; we are doing very well, we are not half empty. We are a little bit empty, and we are going to do everything we can to fill that glass.

Yes. Well, we appreciate it, and look forward to better things ahead.

Good. Thank you.

Thanks, Dan.

Well, thank you. And I think, Whitley, we will close the Q&A lines. We hit our time limit. I'll tell you thank you for your interest. The questions are right on target where we see the strategy of the company. Doug's pointing something -- Oh, yes, we got our annual meeting of shareholders tomorrow at 9:30 at the Standard Club in Chicago. If you are in town, or hopefully you have already RSVPed. I will tell you fortunately we have enough votes in place, so you will not see a shake up at the board level or at the senior management level. Fortunately or un, depending on your perspective of the whole thing, but my mom and dad's ballot did come in, and they have voted for us once again. So that was good. Thank you guys and we will talk to you in a quarter.