Superior Group of Companies, Inc. (SGC) Q3 2016 Earnings Report, Transcript and Summary

Good afternoon, everyone. Welcome to the Superior Uniform Group’s 2016 Third Quarter Earnings Conference Call. With us today are Michael Benstock, the Company’s Chief Executive Officer and Andy Demott, its Chief Operating Officer, CFO and Treasurer. After the speakers’ opening remarks, there will be a Q&A session. [Operator Instructions] This call is being recorded and your participation implies that you agree to this. If you don’t, then simply drop off the line. Now, I will turn the call over to Hala Elsherbini, Senior Vice President of Halliburton Investor Relations, who will read the Safe Harbor statement. Please go ahead.

Thank you. This conference call may contain forward-looking statements about Superior Uniform Group’s business opportunities and its anticipated results of operations. Please bear in mind that this information is subject to risks and uncertainties and actual results may differ from what you hear today. Many of these risks and uncertainties are described in Superior Uniform Group’s Annual Report on Form 10-K for fiscal 2015 in this morning’s news release and in the Company’s other filings with the SEC. Forward-looking statements in this conference call are based on our current expectations and beliefs. Management does not undertake any duty to update these statements made during this conference call or elsewhere. Please note that all growth comparisons that management makes today will relate to the corresponding periods in 2015 unless otherwise noted. With that, I will turn the call over to Michael.

Thank you, Hala, and good afternoon everyone. We are glad that you could join us for our third quarter earnings update. I want to start with key highlights for the latest period and provide commentary on market trends. Andy will follow up by giving you more color on the story behind our numbers and then I'll conclude with an update on our business outlook for the remainder of the year. Of course we will then be happy to take your questions. We reported record sales for the third quarter. This represented our 16th quarter of increasing year-over-year net sales with revenue up 15.2%, BAMKO contributed 11% of this improvement with the rest of the Uniform’s related products segment adding 3.4%. Our most staffing solutions in the office grows added a little less than 1% of the increase. Operationally speaking the third quarter was a period of great progress for us and met our internal targets. I would like to point out that historically our third quarter is one of our highest revenue generating periods, as our customers are generally preparing to higher temporarily labor in preparation for the upcoming holiday season. However, as we continue to diversify and grown to non-uniform areas, we expect that our seasonality trends will be offset and will result in an evening out of our quarterly results overtime. Also as BAMKO sales expand will see less lumpiness in their business which in turn lessons the impact of large orders that may hit one quarter and not repeat the following quarter. We saw this in the first quarter and second quarters with two large orders for BAMKO. One was for back packs for World Youth Day, organized by Pope Francis in Krakow, Poland and another which for Bobble Heads of the mascots for the Summer Olympics in Brazil. We did not have a similar trend in the third quarter. As a result while these orders spikes can occur each year there is no certainty to the timing. Overall we are making solid progress against our long-term growth guidance. Through the first nine months of 2016 we are tracking organically at 5.9% revenue growth in our uniform business and 7% overall. We expect a very solid fourth quarter that will help to make up some of the difference in the current year. Let's now look at our segment performance starting with Uniform's and related products. Net sales grew 15.3%, BAMKO contributed 11.6% of this with the rest coming from further penetration of our markets and increases in employee turnover. Excluding acquisition related expenses BAMCO remain on track to marginally creative to earnings to this year. As we’ve described in past the BAMCO acquisition made us one of the largest promotional products distributors in the U.S. A key point to make about BAMCO is that it offers the infrastructure to support a much larger operation in sales profile. This includes excellent sourcing capabilities, robust Web and IT development, great custom design capabilities, strong project support in China and as we spoken about before, a very cost efficient back office operation in India. We’re working hard with BAMCO and our other divisions to create active cross selling opportunities introductions to customers and prospects on both sides of the business are taking place. This makes sense, because many companies that purchase branded merchandise also require uniforms and the same is true for those purchasing uniforms, who appreciate convenience of ordering promotional products from the same source. Additionally, we are actively engaged and pursuing acquisition targets in the promotional products industry while further developing our target list. The industry experts count more than 22,000 distributors in this industry early on we identified over 400 business that meet most if not all of our initial acquisition criteria. These are companies with $10 million to $25 million in sales, good geographic penetration, a strong customer base or product lines that we have been leverages. We are narrowing our list further as we continue our search for targets there will be the right fit for BAMCO. Our capital structure regularly supports our goal of making one or two bolt-on acquisitions a year in this area as we identify the right opportunities. When it comes to acquisitions for the rest of the Uniform business the market is quite different. There are only a handful of companies that we consider to be good targets. Many of these are family owned, multi-generation operations that compete with us on the non-healthcare employee side of our business. We stay in touch with them on a regular basis and we are posies a step in next year to deal when appropriate. Moving on to another subject our new manufacturing facility in Haiti, our operations there reached breakeven faster than we expected in just nine months. We now have 150 employees and have already started shipping products to our customers. By the end of 2017 we expect to double our staffing to meet future needs. The combination of the current facility, additional staffing and increased efficiencies should allow us to nearly triple our production from current levels. That means this operation has the ability to manufacture about $25 million of our annual product sales which will be roughly 10% of our Uniform segments revenue when it is fully efficient. We are thankful that Hurricane Matthew which we all know about did not cause any significant disruptions to our Haiti operations. The Hurricane hit the south west corner of the country and [indiscernible] facilities located on the northeast side. In addition we have learned from weather catastrophes will add us measures to keep our plant, people and product safe. We do have two long term relationships with contract manufacturers and Port-au-Prince, which was way, way east of the eye of the storm and only indirectly affected by the hurricane. Fortunately these two businesses did not experience any loss and they were back online in under two days as people took some time to tend to be around personal needs. This meant that none of customers experienced any delays. What happened to Haiti, the poorest country in our hemisphere is devastating. We of course have organized some aid to assist, but we believe the best remedy is to create jobs for the Haitian people. We are obviously committed to doing this for the long term and we invite other company to consider the opportunities to engage in the area as well. Speaking of potential disruptions, it’s worth noting that the bankruptcy of Hanjin Shipping one of the world's largest shipping companies caused only a few minor delays for us, that's because as you heard before we've done the manufacturing, logistics relationship allowed us to quickly redirect and fulfill orders to our customers. The important story in the quarter for Fashion Seal Healthcare is that we well along at this point in the process of consolidating and streaming lining sales and marketing operations of the indirect and direct divisions. As we discussed in our last quarterly call we made significant investments in our direct channel efforts over the last several years. Going forward we believe this integration should improve sales opportunities in streamline expenses. This should also make our efforts here more competitive. We now have the benefit of nearly 4 years of experience in selling into the direct channels and we've realized that not all parts of that channel are good fit of our future efforts. We have identified those we believe will offer the best opportunities for us, and we’ll continue to aggressively pursue those channels. We have also learned where we can get the most bank full of buck from a marketing and sales strategy standpoint and have redirected our efforts accordingly. We are confident that the updates to our Fashion Seal Healthcare strategies were timely and appropriately executed. The outlook for the healthcare market is strong in the forcible future. We have always been competitive in our core business and have taken our fair share of this market and now we are working on developing additional strategies to accelerate this growth. For the non-healthcare employee [indiscernible] part of the uniform business which we serve through Superior I.D. and HPI direct we continue to see consistent momentum in deal flow and in cultivating relationships for potential larger opportunities. Overall we are confident we will meet our targets for the year, as we have a number of roll outs expected to be shift during Q4. The office grew as our remote staffing solutions and BPO operations continues to perform well. Net sales to outside customers grew 13.9% these increases continue to validate our business model, that there is an under serve market of companies that need fewer than 25 agents who can handle a number of front and back office support tasks and of key importance the offices is very synergistic to our own business growth and enables us to grow both organically and the acquisitions in a very cost efficient manner. For example acquisitions from any of our divisions can tap our Office Gurus staffing in El Salvador and believes to support their back office needs. Now that we’ve completely we moved into the new El Salvador facility, our focus is on filling it up with top grade talent that can accelerate the growth of our business. The former building is up for sale whether real estate market where we were located is good and we have seen some initial interest, we can afford to wait for the right buyer and price. We've been able to grow the Office Gurus at a good rate over the years with the very limited and internal sales structure. Now we are in a position to start accelerating those growth targets as we have created substantial capacity with our new buildings in El Salvador. To achieve this objective we began a process of building an appropriate sales team for this division. During the quarter we created an executive level sales position which was filled by an experience sales management executive at our Florida headquarters. We look forward to reporting even better sales growth in the segment as he builds out his team in the coming years. Let’s talk a bit about market trends. We continue to see our markets improved despite a slight distraction from this year's presidential election. Andy won't let me say anything more about the elections, so I'll go on from there. Uncertainty associated with elections can result in customers delaying decisions and on branding initiatives or other expansion investments and potentially delaying's some purchasing decisions. However at this point, we cannot identify any direct notable impact of the election on our business. Impart that’s because the overall job market remains strong this year. As we discussed our customers are seeing an increase in a point turn over. We believe this will continue to raise in the near term for two reasons, first it will be driven by changes in overtime regulations within the Fair Labor Standards Act which goes into effect on December 1st. Overtime updates will extend protection of 4.2 million workers around the country and in response, companies have a few choices, one of these will include, hiring part time worker to fill in on a short work days for the full time employees were affected. We think that people may also watch, what their employers decide to and then look around to see company is offering approach they like better. Second depending upon the results of the to the election, we could see an increase in a minimum wage which likely will increase turnover. Average monthly job creation is reported was much more stable in the past quarter at a healthy average of 191,000 which is comparable to last year’s third quarter. Higher turnover helps our business in two ways, one when employees leave, companies have to order Uniforms for the new hires, two employers use uniform program more and more as a low cost investment for increasing employee satisfaction. For instance they give employee several uniform, so people don’t have to watch and wear the same one every day or two. Now I'll turn the call over to Andy who will give you more information on our results for the third quarter and year-to-date.

Thank you Michael, and good afternoon everyone. I’ll begin with the important highlights from our quarterly income statement for three month period ended September 30, 2016. Net sales increased 15.2% to nearly $65.3 million. All areas of our business contributed to this. The BAMKO acquisition accounted for 11% of the gain. Our uniforms and related products segment including BAMKO contributed 3.4% and remote staffing solution added almost 1%. For uniforms and related products, sales rose 15.3% above last year third quarter. Then BAMKO contributed 11.6% of the increase, the rest came from organic growth as we successfully increased our penetration as a market and from generally higher, volunteer employee turnover. In our most staffing solutions sales outside customer grew 13.9% for the three months this continued to reflect our ability to increase business for the existing customer while attracting news ones is well. Cost of goods sold expanded 12.6% to 42.1% however the percentage of sales decreased to 64.6% from 66.1% for last year’s third quarter. For Uniforms cost to goods sold is percentage of net sales worth 65.5%, a reduction from last year of 67.1%. The primary reason for this was the direct product costs were down as a percentage of net sale as a result of previous investments that we made to improve our product quality [ph]. For remote staffing cost of good sale as a present of net sales was 46.7%, just slightly above the 46.1% from last year. Gross margin was 35.4% versus 33.9% a year ago. This fluctuates based on the level of service requirements along with changes in our customer mix to I would believe in most a consistent measure of our overall profitability is reflect in our operating margins. SG&A expenses grew 25.5% in the third quarter to nearly $17 million. As the percentage of net sale the SG&A was 26% compared with 23.8% at this time last year. Here is what happened, in Uniforms SG&A is a percentage sale with 26% for the quarter. If you stripped out the BAMKO operation this would have been 24.6% versus 23.9% for the year ago quarter. The difference came from a number of places including higher cost for sub-insured medical clients and pension retirement plan expenses, which were partially offset by the increased sales volume to cover our fixed cost. SG&A for BAMCO in this period was 38.4% of its net sales. This percentage is higher than normal due to the lower sales by BAMCO in the current quarter as Michael mentioned earlier, and remote staffing SG&A as a percentage of sales was 33.5% from the quarter versus 32.1% a year ago. This reflected higher salaries, wages and benefits to support the growth we’re seeing in this business and well as an increase in facility cost and depreciation our expanded facility in El Salvador. Interest expense rose 32.3% from this time last year to $0.2 million. This was primarily related to higher average borrowing associated with the BAMKO acquisition. Income from operations increased 8.2% to $6.2 million, this gave us an operating margin of 9.5% versus 10.1% for last year's three months. As we mentioned before we expect BAMCO to be slightly accretive after elimination of acquisition expense in 2016. The division is currently built to serve a much larger volume business than they’re currently handling. As a result they will weigh on our overall operating margin percentage as they grow into this structure during the next several years. However we expect that overtime they will be able to generate operating margin comparable with the rest of our business. Our operating margin excluding BAMCO in the current quarter was 10.7%. Our effective tax rate decreased 27% from 27.8% last year. The major reason for this reduction was an increase in benefit we received for several tax credits. As a result of these items our net income for the third quarter increased 8.8% to $4.4 million. On a diluted per share basis earnings for $0.29 compared with $0.28 a year ago. We also paid an increased quarterly dividend of $0.0875 per share. Now for a quick nine months result recap. As you can see from our year-to-date income statement we remain on target with our expectations for 2016. Net sales expanded 19.6% to $187.9 million with all parts of our business seeing solid gains. Sales to uniforms related products grew 19.3% for the nine months, about 13.4% increase from BAMCO to this acquisition on March 1. Remote staffing solutions revenue to outside customers showed a 24.4% growth. Cost of goods sold increased 18.7% almost $123 million. This represented 65.4% of sales compared with 65.9% for last year's nine months. SG&A expenses rose 29.3% to nearly $50.4 million. As a percentage of sale the SG&A was 26.8% compared with 24.8% at this last year. SG&A included $1.1 million in expenses associated with acquisition of BAMCO. Excluding BAMCOs operations SG&A as percentage sales would have been 25.5%, again higher medical claims contributed 0.4% of this increase with the balance coming from startup cost associated with the new factory in Haiti and other investments in our growth. Interest expense was up 29.6% to $0.5 million, largely due to the debt we took off on BAMCO acquisition. Operating income was relatively flat at $14.5 million, that put the operating margin for the nine months at 7.7% compared with 9.3% a year ago. For the nine months period it should be acquisition related expenses our operating margin would have been 8.3%. Our effective tax rate declined to 30.7% from 31.7% due to the Federal Tax credit benefits I mentioned earlier. Net income for the year-to-date was flat between the two years at about $9.7 million. Diluted earnings per share was $0.65 versus $0.67 a year ago and 2% higher shares outstanding. Exclusive of acquisition expenses diluted earnings per share would have been $0.70 for the current nine months period. We continue to return value to our shareholders in the form of a quarterly dividend. For the last nine months we paid cash dividends of $3.5 million representing an increase of 11.5% from 2015. Additionally, we bought 20,000 shares under the company's stock repurchase program. Now I’ll share some highlights from our balance sheet. Cash and cash equivalents increased 2.7 times since the start of the year to $2.8 million. Cash flows from operations reached $6.2 million a 10% improvement. We invested $15.2 million to acquire BAMKO and $6.6 million in capital expenditures which focused on building our Haiti facility and the new facility and a new to expand our capacity in the El Salvador call center. In addition financing activities contributed $17.3 million. Accounts receivable rose 38.2% to $41.3 million, this reflected higher sales in the third quarter of 2016 in comparison with the fourth quarter of 2015 and the BAMKO acquisition. Inventories grew just 3.4% to $65.7 million despite a 19.6% increase in sales for the first nine months of 2016. As a reminder BAMKO doesn’t carry a significant amount of inventory because most of its business is making ship [ph]. The overall increases in inventory and inventory is the combination of two factors. First, we have been working to reduce levels of overall inventory. Second, this was more than offset by the buildup of inventories in anticipation of several larger programs that will begin shipping in the fourth quarter of this year. Prepaid expenses and other current assets expanded by 71.4% to $10.6 million primarily because of the BAMKO acquisition. While BAMKO doesn’t carry much inventory it has significant funds tied up in vendor deposits. Accounts payable rose by 24.5% to $14.7 million, this was largely due to the timing of inventory purchases and $1.3 million in payables we took on as part of the BAMKO acquisition. Other current liabilities grew 18.1% to $9.8 million. This reflected the current liabilities we assumed when acquiring BAMKO plus higher accrued self-insured medical cost. As you can see the investments we’ve made in our growth in this and prior years and the focus on improving the efficiency in our current and acquired operations contributed to another strong quarter of performance. With that I'll turn the call back to Michael for his closing remarks and general perspective on the remainder of the year.

Thanks Andy. Before I close and then will take some question, I'd like to comment on the announcement earlier this month that Superior was included in fortune magazine's top 100 fastest growing companies for 2016. We came in at an impressive number 24. The list ranks public companies based on revenue on earnings per share growth rates, as well as total return for the three years ended on June 30, 2016. We are honored to be included in such a prestigious listing of successful companies and feel it is further validation of how we successfully executed our strategic plan. The focus on the growth of the extended Superior can be tracked back to effectively executing on the strong organic growth strategy augmented by a disciplined acquisition focus that was put in place in 2013. We’re now looking ahead to the next three to five years in developing a blue print for success based on the same approach that made the last one so effected. Being conservative in our assumption and aggressive in our execution. We expect to finish the year to with the solid fourth quarter and that our results will be inclined with our long term guidance as you might call, that includes companywide average organic sales to grow for more than 8% per year, before equaling the result for BAMKO. Sale increases in our uniform business should average in excess of 6% per year, and we believe BAMKO can generate annual organic growth to more the 15% based on its current operations. Any acquisitions we make will take us above and beyond this. We also plan to see to $2.5 million to $3 million of yearly sales increases for the Office Gurus. With that as background now Andy and I will be happy to take your questions.

We will now begin the question-and-answer session [Operator Instructions]. Our first question comes from Kevin Steinke of Barrington Research. Please go ahead.

I wanted to start off by asking about, you referenced that you has number of uniform program rollout schedule for the fourth quarter. I’m wondering if you could comment on yield of mix of the customer mix of those rollouts, are those all new customers or are those may be some existing customers rollouts, may be uniform refresh or something like that as well?

Kevin thanks for the question. It’s really a combination. There is new customer rollout in that, but there is a refresh as well and then just a rollout to stores that have been recently acquired by one of our customers. So it’s a whole combination between HPI Direct and Superior I.D. of just some fortuitous timing, coming at the end of the year. I always prefer those things happening in the middle of year, you get it behind and then you get clear sailing the rest of the year, but these are coming right at the tail end of this year.

Okay well that’s good to hear and obviously you talked about a solid expected fourth quarter, obviously helped by those rollouts, but I was also wondering. If you have any visibility into how the BAMKO might perform in the fourth quarter?

We believe there is also going to be solid as well.

Okay yes, so suppose we should expect -- kind of a -- somewhat of a sequential increase from the 6.2 million you did in the third quarter?

You could make your assumptions Kevin, that’s not totally outlandish.

Okay, fair enough. So I know you are causing us to not focus too much on gross margin because it can fluctuate based on just the mix of contracts. Although you also did call out the benefit from you product sourcing efforts so I thought the gross margin was particularly strong so I guess the first question is did that benefit at all from contract mix in the quarter and then how sustainable are those benefits from product sourcing that you realized in the quarter.

I would say this particular quarter there was no real change in the mix and that improvement truly was tied to improvement and sourcing that we have done, the mix was comparably year-over-year. We have made some very good progress in that area in finding some new sources to fill in some areas. And at this point -- and obviously we can't go out two quarters in future as to what the markets going to do, but we feel like those are sustainable at this point.

And there is probably still some room there.

Okay that’s good to hear. And then I guess on the SG&A expenses they were flat sequentially about $16.9 million, but you also talked about streamlining the expense base of all bit the healthcare sale effort as well as I think you referenced last quarter some cost reductions actions that you were looking to take. So I was just wondering how we should think about G&A expense levels going forward, they could come down a little bit from that 69 level or just how you are thinking about it over the next few quarters perhaps?

Most of the streamlining things that we talked about last quarter really went into place probably the very tail end of this quarter, so that really didn’t have a major impact on SG&A for the third quarter. I think if you looked at it on a company wide basis along with some other things that are going on and we would probably pulled out in excess of a million dollars of cost on an annualized basis. And from there it will vary based on what happens with our new business.

And then again going back to healthcare. So you talked about how you spend some time figuring out which channels in healthcare are the best fit for you. So just wondering after that analysis where you are ending up in terms of what piece of the market that you really want to focus on going forward?

I want to be clear that our focus is still on the entire direct channel, we haven’t looked at any particular piece and said that’s business we want to do. There are certain conditions under which we want to do it, when dealing with a particular integrated delivery network requires so high level of services and we can't get the price that we need to get in order to give that services, then we are going to back off those opportunities. But there are still planning at integrated delivery network, some that we’re doing business with right and very happy to be doing business with. And others that are in our pipeline that we will do business with our approach from the sales standpoint for the first couple of years was somewhat redundant, but purposeful in that we had a bottom up approach into the hospitals and we had a top down approach going after the administration of at the IBM from the top down and from each individual hospital department of the group of hospital that might be part of the IBM from the bottom up. And we streamlined that, we found where the sweet spot is, we found were -- how we can get into most of those institutions without having to have a redundant strategy and we backed up the redundancy. And we believe that ultimately that will produce as good a results as we before have before, at a much lower cost in addition. We realize what marketing techniques work and what don’t at this point, we have fourth years a date in that to study. When we started we had nothing. Only what we had been able to put together from the Ernst & Young study. Most of those assumptions were pretty bang on, but obviously some needed to be tested. We’re still going at to medical colleges, we’re still have to go on after home help in long term care and we will be successful in those channels as well.

Alright that’s helpful, so you talked about the acquisition pipeline on the promotional products side and the list of candidates you identified. Is it so the plan to start being more aggressive on the acquisition front and promote products in 2017?

I laughed [ph] because in different conference call’s we’ve used different terminology. So when we said we’re actively perusing, people say they’re active, does that mean you’re aggressive, well it means we’re as active as we can be. And one year -- one quarter we came out and said we’re aggressively and everybody got excites. Now you’re aggressive. We’re being quite aggressive on the acquisition front, on the promo product side. We’re being as aggressive as we can on the uniform side. As aggressive as those who ultimately want to purchase allow us to be, without being obnoxious because we know who they are and they know who we are. There is a lot of companies to bet out on the promo side and we have become that process of talking to the principals of those businesses. At the very least even if there is no interest in selling we’re learning a lot more about the companies that are that size and what might be a better fit for us along the way during the -- probably a deeper analysis in our own business as we did with Superior years ago, to see where do we make money, what’s the best fit for us of companies that we could possibly buy. So we’re actively engage in that. The folks of BAMKO are very capable of really leading that effort, with Andy and I supporting it as well as other members of our organization, but we’re very exciting about where that will lead us for next year. And I can’t say when next year that will happen. I wish I had that kind of crystal ball, but it will happen.

Okay fair enough. I was just coming at the question more from the stand point of it, you’ve talked about letting BAMKO settle in for about a year and then looking to do acquisitions in 2017. So that makes a lot of sense. Okay I guess I’ll just throw one last one in there in terms of the Haiti manufacturing facility and how that’s ramping up, if it’s ramping kind of in line with your expectations. I think you’ve talked about break even by the end of 2016 I believe?

We mentioned that, we already break even, we’re low --.

Okay missed it sorry, got it.

We're ahead of schedule, the factory is doing great the people we have working for us at all levels from sewing machines operator, to cutter, to manager are about as motivated as any group I’ve ever seen. To succeed a job in Haiti is something that's very important to these people and they take it very seriously and so far we've done great, well-engineered factory, nice clean great environment for these people to really be a lift to their life as they continue to work for us.

Okay, well thanks for all the insight and thanks for taking my questions.

[Operator Instructions] Our next question comes from Ralph Marash of First Manhattan Co. Please go ahead.

Just one quick question. One of the major airlines recently announced they were changing their forum, and I was wondering if you guys were involved in bidding on that at all.

Yes, we were.

Okay.

And there is a very small piece of that we’ve not inked an agreement yet, but we hope to that in the near future. But as I said it's a very small piece of it.

Was that just the first certain type of workers and special uniform.

Yes, certain class of employees. Yes.

Okay, thanks a lot.

[Operator Instructions] I'm showing that we have no further questions at this time. This concludes our question-and-answer session. I would like to turn the conference back over to Mr. Michael Benstock for any closing remarks.

I want to thank everybody for joining us and I appreciate the time you spent with us, your interest in your our company. Of course we are looking forward to speaking with you again in February, when we will report on the advances we’ve made in the fourth quarter and recap the year. Till them wish you an enjoyable holiday season.

The conference is now concluded. Thank you for attending today’s presentation. You may now disconnect.