Superior Group of Companies, Inc. (SGC) Q1 2017 Earnings Report, Transcript and Summary

Good afternoon, everyone. Welcome to Superior Uniform Group's 2017 First Quarter Earnings Conference Call. With us today are Michael Benstock, the Company's Chief Executive Officer and Andy Demott, Chief Operating Officer, CFO and Treasurer. [Operator Instructions] 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 forward-looking 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 2016, in this morning's News Release and 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 the forward-looking statements made during this conference call or otherwise. Please note that all growth comparisons that management makes today will relate to the corresponding period in 2016 unless otherwise noted. With that, I will turn the call over to Michael.

Thank you, Hala, and good afternoon everyone. Welcome to our first quarter 2017 earnings call. I'll review highlights of our Q1 results and provide thoughts on the market and macroeconomic trends underlying our operating environment. Andy will then provide more detail on our financial performance. Then I will wrap up with some closing remarks and we’ll be happy to take your questions. Our first quarter results saw slightly short of our expectations. Consolidated net sales grew 5.2%. This growth came on top of the tough comparison to last year's exceptionally strong first quarter specifically in our uniform related products segment, which contributed 15% organic sales growth in the first quarter of 2016. As you may recall, what is accelerated into the first quarter from Q2 2016? I will provide additional segment highlights in a moment, but I wanted to note that last year's efforts to realign our healthcare go-to-market strategy, the strength of our sourcing group, prudent expense management, strategic planning and greater efficiencies put in place, ultimately enabled us to deliver solidly profitable results which Andy will detail further in his remarks. Segment performance was mixed, so let's take a look at some of this dynamics that took place. Sales declined by 4.6% in our uniform segment. Some of this we believe is due to the political uncertainties that are weighing on our customers long-term planning and resulting in a wait-and-see approach. We've seen deferrals in all markets and slower the usual decision-making by our customers, as well as postponing new business. The largest impact though came from the loss of one of our large legacy employee ID customers. As we discussed on prior calls, we are fortunate that most instances we have been on the right side of acquisitions involving our customers but unfortunately that was not the case this time. The account is transitioning to the acquiring company's uniform provider. The revenue loss did impact us to a lesser degree during the last half of 2016 but had a more pronounced effect in the first quarter of 2017. We will continue to service the customer reduced levels through the first half of 2017. We have been and are still working diligently to pursue opportunities with this customer from various angles in an effort to retain some of the business. We have replaced a portion of the loss business with new customers. However this was a setback for us. Overall, we endeavor to provide our customers with the best possible customer experience and while they may leave at times due to pricing or competitor acquisitions, our reputation for high quality products and customer service often draws them back. So we're always prepared and standing at the front of the line if and when they're let down by a competitor. On the healthcare side under the strength of our Fashion Seal Healthcare brand, our integrated strategy is more streamlined with the flatter organization that has created efficiencies and intense accountability across the business. We have a solid pipeline and strong lead generation in all of our market channels. Our solid history servicing laundries and distributors continues to serve us well. We're also focused on the most accretive opportunities in the areas of home healthcare, outpatient services long-term care chains, integrated delivery networks and medical colleges. A quick update on our Haiti facility, besides scrub apparel, we started producing other healthcare products to optimize our competitive position on these larger opportunities. Operations are going well and we continue to see quality and production targets. We will evaluate opportunities for potential expansion of Haiti as the year progresses. Moving on to our promotional products segment, this segment contributed 8.9% of our sales increase in the current quarter and BAMKO results are included for the full quarter in 2017 as compared to only one month in 2016. The BAMKO team is now dropping all new promotional product opportunities, which is now a key component of all of our divisions promotional offerings to our customers. Last year we outlined our strategic rationale to partner with a company of BAMKO's market recognition and expertise in the very fragmented branded merchandise market. We're fortunate to join forces with their dynamic and progressive team supported by exceptional sourcing in China and award-winning design capabilities to lead our promotional product strategy. Their ability to support most of their back-office functions from China and India offices is very scalable. More importantly, we are confident in their ability to grow this business for us both organically and through acquisitive activities. We're working through our very targeted pool of acquisition candidates and spending considerable time on a number of attractive prospects as we work diligently to close one or two acquisitions per year to grow our promotional products business. We're also maintaining regular dialogue with uniform-oriented opportunities; however, as we've said in the past, many are multigenerational family-owned businesses that may have a longer-term exit strategy. With respect to the office gurus, our multi staffing segment, sales increased at a moderate pace of 6.8% compared to its historical double-digit growth. While we experienced a slower uptick in growth during the first quarter, we expect to return consistent strong double-digit growth going forward. As you recall, our niches serving the targeted but broad customer base that typically addresses customers who required to start fewer than 25 seats to fulfill multiple back and front office support functions. We look forward to further penetrate in this very underserved market. We also did want to point out that we sold our previous location in El Salvador, which Andy will discuss further in his remarks. Now let's take a closer look at the market trends and the business environment in general. First quarter job creation data and employee turnover stats continued at positive rates and while our customers remain optimistic for the long-term, increasing political and economic uncertainty on issues of healthcare reform, border adjustment taxes, corporate tax rates, minimum wages, immigration policies and trade agreements, is causing many companies to slow down their branding initiatives and purchasing decisions. Just as our customers are weighing the impact of various scenarios from the political polarization in Washington, we are also evaluating realigning our strategies to be as prepared as possible to capitalize on positive or disruptive changes. Now I'll turn the call over to Andy to give you more detail on our first quarter financial performance.

Thank you, Michael, and good afternoon, everyone. We filed our Form 10-Q for the first quarter ended March 31, 2017 this morning. So I'll limit my review to key income statement highlights. As Michael noted, first quarter 2017 net sales increased 5.2% to nearly $61 million representing our 18th consecutive quarter of year-over-year sales growth. Our acquisition of BAMKO effective March 1, 2016, contributed 8.9% to the increase as 2017 results included two additional months of sales in this quarter compared to last year. Remote staffing solutions contributed 0.4% with overall gains partially offset by a decline in uniforms and related products contributing a decrease of 4.1%. On a year-over-year basis, net sales declined 4.6% in uniforms and related products. This decrease is due to a number of factors. First, as Michael mentioned, the 2016 first quarter was an exceptionally strong quarter with net sales up 15.8% over the Q1 2015, as we saw orders shipped forward into the first quarter of 2016 as evidenced by much lower growth in Q2 2016. Second, as Michael also mentioned the loss of one of our large customers accounted for approximately $1.7 million of the decrease in net sales. Rest assured that our team is making good progress in securing new customers and replacing sales in this account. In remote staffing solutions quarterly sales to outside customers grew 6.8% from a year ago. Despite lingering political uncertainty, we continue to further penetrate existing customers while adding new ones. Gross margins increased to 36.4% compared to 34.5% in the year ago period. As you know our gross margin can fluctuate based upon customer mix so we believe looking at operating margins offers a better measure of our overall profitability. SG&A expenses increased 7.2% in the latest quarter to $71.6 million. As a percentage of net sales, SG&A was relatively flat at 28.9% compared to 28.4% in the 2016 quarter. At the segment level, SG&A in our uniform segment increased as a percentage of net sales primarily driven by lower net sales. SG&A as a percentage of sales for BAMKO was 31.4% compared with 52% in the year ago quarter. And note, first quarter 2016 SG&A included the BAMKO acquisition related expenses of $0.9 million. And in our remote staffing segment, higher facilities cost and depreciation from an capacity expansion in El Salvador resulted in an increase in SG&A as a percentage of sales in the remote staffing segment. We also completed the sale of our previous call center location in San Salvador later in the first quarter. This sale generated net proceeds of approximately $2.8 million and resulted in a pre-tax gain of approximately $1 million. Income from operations increased to $4.6 million which led to an operating margin of 7.5% versus 6.1% for last year's three months. Excluding acquisition related expenses, operating margin would have been 7.7% in the first quarter of 2016. BAMKO generated operating income of $0.5 million or 5.6% of sales in quarter one 2017 versus $0.2 million and 4.3% of sales in 2016 excluding the acquisition related expenses that I mentioned earlier. As we discussed in prior calls, BAMKO's infrastructure is built to be a much larger organization and a sales levels increase over the next three to five years, operating margins should increase to rate similar of our uniform segment. Our effective tax rate for the quarter was 29% versus 28.4% last year. The difference came from a reduction in the excess benefit related to share-based compensation, a decrease in the tax benefit on income from foreign operations partially offset by an increase in the benefit related to federal tax credits. While they were varying degrees of performance within our segment operations during the first quarter, we delivered solid bottom line results with net income up 57% to $3.8 million or $0.26 per diluted share compared to net income of $2.4 million or $0.17 per diluted share. As a reminder excluding acquisition related expenses, earnings per share would have been $0.21 in the first quarter of 2016. We also paid our regular quarterly dividend of $8.75 per share. During the quarter we replaced our existing bank and refinanced our previous credit agreement increasing our revolving line of credit to $35 million up from the previous line of $20 million. This also resulted in changing our term loan from a seven-year amortization with a balloon payment at the end of year five to a straight seven-year amortization. For the extended terms adding more like a revolving credit agreement we are well fortified to service growth and acquisition opportunities in the future. We've also built a very solid cash position of $9.4 million which further enhances our capital structure and positions us well to execute our growth strategy. Our capital expenditures for the quarter of 930,000 related to more normalized levels of capital expenditures and as we mentioned on prior calls, our CapEx investment increase every four to five years for larger projects such as our new call center building in El Salvador last year. I'll now turn the call back to Michael for his closing remarks and a general outlook for the year.

Thanks Andy. Overall our teams executed well during the first quarter in spite of all the noise and political distractions. While there is still much uncertainty and Congress maintain certain issues, we believe we have plan to propel and are prepared to thrive and succeed in any environment. Our pipeline is strong and our outlook remains very positive. We expect to be very much in line with our long-term guidance. In the next three to five years our long-term guidance reflects sales from our uniform business to organically increase annually at an average of at least 6% per year. Remote staffing solutions should add $3 million to $3.5 million per year and our promotional products segment should generate annual growth of more than 15% based on its current operations. That will give us company-wide average organic sales growth of more than 8% per year. We also intend to supplement this growth with additional acquisitions. Through our lean and aggressive posture, we continue to demonstrate our financial strength and our market differentiated customer service and that we are not afraid to execute change and take appropriate risks to deliver shareholder value for the long-term. Superior profitable growth strategy is always anchored by our team's continual drive to enhance our customer experience, our operational excellence, our products and our competitive position. We want to thank them for their dedication and continued hard work. With that, we would like to turn the call over to you for your questions.

[Operator Instructions] Our first question comes from Kevin Steinke of Barrington Research. Please go ahead.

Good afternoon, everyone. So I wanted to start off just by talking a little bit more about the lost customer that was obviously out of your control, but you talked about $1.7 million revenue headwind from that situation in the first quarter and you expect to continue working with them through the first half. But should we expect that revenue impact to remain similar in the second quarter and maybe increase in the second half of the year or what's the right way to think about that?

Yes. Good afternoon, Kevin. Looking at that customer in 2016, they did a little over $10 million with us and through the first quarter, they were down about $1.7 million and when you look at the second half of the year or the remainder the year, there is about $7 million of sales last year in those quarters. We expect from wrapping up the relationship that there is at least $3 million of sales in that for the balance of the year with the expectation that most of that would happen before the end of the second quarter. So your impact in the second quarter should not be that severe at all and then the balance of it will factor into the last part of that year.

Okay. That's helpful. You also mentioned ways that you're looking to continue to work with that customer. Could you just maybe elaborate on that, if you're having any progress or success on that front?

Got it. Yes Kevin, we've had meetings with the customer, we've had meetings even with their current supplier and their new supplier I should say or being incumbent or however you want to look at it and we believe there's plenty of opportunities for us to supply both of those, both the customer on items that the supplier can't supply and items that we might be able to supply the current supplier themselves. So there's opportunities there. There is no guarantee of business but we believe there is enough opportunity there and then we have a long history with this particular customer that they would like to continue doing business with us on some level, but certainly not the level they were before.

Okay. And so I know you reiterated those long-term three to five year growth target which is encouraging just wondering if in the short-term specifically 2017 if that that target is a little bit more challenging just in light of this customer dislocation and also some of the slower decision-making related to political uncertainty that you're seeing?

Perhaps, so in the immediate future but it’s a pretty long-term view of our business the more these decisions weight the more pent up demand they will be. And so we don’t take opportunities and so they’re going to be lost along the way and one these customer that we are talking about in terms of they are putting off decisions but are still doing business with us. They are buying but they are just not rebranding so you are not given the big rollout the way but you’ll get it later these decisions will be made and Washington will sort itself out one is this or maybe it will take a little longer than any of us hope but we believe there is only so long that a lot of these customers can wait. And we sorry to see even in the media that we look at the trained media people taking those steps that perhaps they weren’t taking before that they were holding off on branding initiatives and particular with uniforms and sourcing media seems to be talking a lot about it right now as well. So they can’t put decision in definitely so it could affect us a little bit this year as we make those decisions obviously there is a timeframe from the moment they make the decision even after they decided what they want with all the design work and everything. And so we’re actually able to deliver that program and you know that’s often times five to six months later because of where these products are sold. So most of that wouldn’t really impact this year very much at this point like we still are holding we working a lot harder and I think a lot smarter to make sure that we’re working on the things that are most accretive for us long-term. I still believe strongly in the 6% or greater in our uniform segment, short-term that's going to be a little harder to achieve but as I said we’re in this for the long-term so we feel good about it.

Okay, that's helpful. And you mentioned also just a couple of accounts pushed programs to the second quarter it was that just kind of a timing issue or was this related to the slower decision-making you're seeing or this is kind of one-off items?

No, I have seen it in each market – in each market segment even whether it’s food service or the retail business hospitality, in healthcare we’re seeing people just not know what to do right now under the circumstances of legislation or perhaps affecting their business. So in some cases it’s positively probably we know they may go bigger with a lower corporate tax rate, they will have more money to spend but they are waiting to see what this really produces for them. I have read reports from different analysts about companies speaking about the healthcare about industry and the network of hospitals and decision is being put off until they finally know how they’re going to be reimbursed with healthcare. So it’s a little bit everything we’re seeing and some that’s being delayed months and some that’s being you know we don't know when they’re going to make the decision but in the meantime just look at it kind of holistically and last year first quarter we had a tremendous first quarter. We're trying to explain to everybody how that was unusual having or greater than 15% growth in our uniform business and in second quarter it came around but we understood because second quarter was obviously a much flatter quarter and two quarters together still were greater than our guidance. And our long-term guidance and throughout the year things went along and at the end of the year we end up pretty much where we expected and where we had budgeted I can’t say this year is going to be any different than that. Yes, we're starting off with a bang in the first quarter. First quarter is not usually our best quarter anyway and last year it was quite unusual. So we're going up against last year's numbers if you pull the extra growth call, we had in last year first quarter out, really wasn’t a terrible quarter from a sales standpoint. We're quite happy that under the circumstances of where there is one particular customer and what's going on out in the marketplace, that we wing up where we did and we feel confident that we certainly took care of our cost structure as evidence by our operating profit to put us off what was going to be a smaller quarter for ourselves.

All right. And then one of the things you mentioned that contributed positively in the first quarter was your healthcare sales effort, it sounds like you feel good about how that's going. So if you just elaborate on what you're seeing in that market now that you've made these tweaks here sales effort and how the outlook looks there?

Let me be clear. I don't believe that all of our sales efforts have resulted yet in actually not that we're seeing a business that we will see in the future. Our sales efforts it's a momentum, it's definitely picking up. We have more opportunities in our pipeline in every single channel that we're attacking than we've had in a long time. And these aren’t -- we're betting our opportunity very carefully to make sure they're real and I am very excited, our salesforces is doing a good job of uncovering opportunities, our marketing department doing a great job of lead generation and helping our sales force get to the right people and I see as that continues to grow that automatically will translate into more business. We're seeing some of that already in new customers by the momentum we're not quite where we expect to be, but we're going to get there. There's no doubt in my mind.

All right. That's helpful and then just wanted to ask about the gross margin and I know you always talk about focusing on the operating margin because Mexican impact the gross margin from one quarter to next, but that gross margins seem particularly strong and you also talked about how your sourcing efforts are helping you. So don't know if you could delve a little bit more into the gross margin, if that was just a mix issue or a mix benefit or if you're actually seeing some benefits from your sourcing efforts flow through to the gross margin level?

Yes Kevin, I think we were definitely seeing some benefit clearly from the sourcing efforts that we've done and that has resulted in bringing some of our direct cost down. However, I think a lot of it is tied to mix of customers. You saw that our SG&A in the uniform side went up a bit. That's to help cover this -- this gross margin is intended to help cover that. You also had a full quarter of BAMKO in there which had a very strong gross profit for this quarter and that we mentioned in the past, their growth profit being deal oriented is going to bounce around a bit. They were at 37% growth, that bought the overall growth of about three tenths of a point. So those factors together really kind of worked in use to bring it up. We feel very good about where we are at from a sourcing and gross margin perspective.

Okay. That's helpful and then that segue to my next question, in terms of BAMKO, so it looks like they had a pretty strong quarter. So when the revenue is stronger than we see gross margins go up, is that the way to think about it or were there any particularly large orders that helped them this quarter?

I don't believe -- the nature of their business is such that they're going to get pops and if there weren’t any and there was not a preparation for the Olympics or big items like that. It was more normalized business that was in there and really it depends on the deal as far as what the gross margin is going to be. And again they're looking at it and trying to determine everything they have put into a deal they’re going some deals that are very simple that are going to be at a lower gross margin others are going to be high and it’s a going to work together. I think at the end of the day you look at their operating margin it was up taken out the acquisition expenses their operating margin was up 1.3 points which is part of that was from the gross margin, part of it was just from getting to the right level of sales and having full quarter. Of course last year we’re going up against one individual month than versus a full quarter.

Right, okay. And in terms of BAMKO’s SG&A expenses how variable are those based on the revenue that they generate in a quarter or how much leverage can they get from their SG&A I mean how much more do they need to invest SG&A just trying to get a sense to how that might trend and how much leverage they can get?

Yes, I think there's not a lot of investment in SG&A for additional sales at this stage I mean they've got the sales force, they got the back office operation in India and China that are both very scalable we can handle much more volume than they are handling. But at the uniform side their SG&A is a lot – a larger portion of it is fixed though as when you see the big bumps in sales you're going to see that percentage come down at a better rate.

All right maybe one or two more here so you talked about how your working with starting to meet with and working that acquisition pipeline and the promotional products business I’m just wondering when you're going out and meeting with candidates how really receptive they are to being approached on the potential combination I mean is it typical for them to get these pitches or is it kind of a new concept just trying to get a sense as to how quickly that can move and how quickly the overall industry is consolidating?

It’s not a great barrier to entry for most folks getting into this business so I don't know that it’s consolidating all that fast it’s the barrier to entry really comes about when you have, they keep abilities that we have with the ability to customize product, the ability to scale our business at such a level because of what we're doing in India and China. It’s an interesting question because often times we meet people who have had other people approach them I believe part of the key to our success going forward will be the ability for our PIMCO executive leadership to get in front of people and because they’re very charismatic group of people with a great story to tell they can tell it even better than I can and it will come yeah there is some people that we approach we typically don’t approach people who actually looking to sell their business we don't want to get into an auction situation and start bidding up to the highest bidder and wind up with competing against five other people to buy a business or we might know as much about that business when we buy it as we do. We would much prefer to find little nuggets of success here and there and that are the right bid for BAMKO and right culture and that are scalable as well and that can use all that BAMKO has to offer and perhaps can offer BAMKO as we spoken about some things that BAMKO is not great at and still there are some product categories that you’re not strong in and they’re some geographies that they’re not strong in. So there is still plenty for BAMKO to get better it as well and the thing we’re not going to do is find the wrong acquisitions along the way for the sake of doing acquisitions. We’ve stated that we will do one or two acquisitions a year we are working really hard to make that happen and we still believe that we can do that, but we won't do them for the sake of doing them we will do them because they are the right and their businesses that can help us get to what we’re looking to achieve.

Okay. That's very helpful commentary. Appreciate you taking all the questions.

Okay. Anybody else?

[Operator Instructions] There appear to be no further questions at this time. I would like to turn the call back over to Mr. Michael Benstock for any closing remarks.

Thank you, Andrea. Andy and I appreciate your time today and we look forward to updating you on our progress for the second quarter in July. Have a great summer.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect your lines.