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Edited Transcript of CVCO earnings conference call or presentation 29-Oct-19 5:00pm GMT

Q2 2020 Cavco Industries Inc Earnings Call

Phoenix Nov 2, 2019 (Thomson StreetEvents) -- Edited Transcript of Cavco Industries Inc earnings conference call or presentation Tuesday, October 29, 2019 at 5:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Daniel Loren Urness

Cavco Industries, Inc. - Executive VP, CFO & Treasurer

* Joshua J. Barsetti

Cavco Industries, Inc. - CAO

* Mark Fusler

Cavco Industries, Inc. - Director of Financial Reporting

* William C. Boor

Cavco Industries, Inc. - President, CEO & Director

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Conference Call Participants

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* Daniel Joseph Moore

CJS Securities, Inc. - Director of Research

* Gregory William Palm

Craig-Hallum Capital Group LLC, Research Division - Senior Research Analyst

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Presentation

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Operator [1]

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Ladies and gentlemen, thank you for standing by, and welcome to Cavco Industries Second Quarter Fiscal Year 2020 Earnings Conference Call. (Operator Instructions) Please be advised that today's conference is being recorded. (Operator Instructions)

I would now like to hand the conference over to your speaker today, Mark Fusler, Director of Financial Reporting and Investor Relations. You may begin.

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Mark Fusler, Cavco Industries, Inc. - Director of Financial Reporting [2]

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Good afternoon, and thank you for joining us for Cavco Industries Second Quarter Fiscal Year 2020 Earnings Conference Call. During this call, you'll be hearing from Bill Boor, President and Chief Executive Officer; Dan Urness, Executive Vice President and Chief Financial Officer; and Josh Barsetti, Chief Accounting Officer.

Before we begin, we'd like to remind you that comments made during this conference call by management may contain forward-looking statements under the provisions of the Private Securities Litigation Reform Act of 1995, including statements of expectations or assumptions about Cavco's financial and operational performance, revenues, earnings per share, cash flow or use, cost savings and operational efficiencies. All forward-looking statements involve risks and uncertainties, which could affect Cavco's actual results and could cause its actual results to differ materially from those expressed in any forward-looking statements made by, or on behalf of Cavco. I encourage you to review Cavco's filings with the Securities and Exchange Commission, including, without limitation, the company's most recent Forms 10-K and 10-Q which identifies specific factors that may cause actual results or events to differ materially from those described in the forward-looking statements.

Some factors that may affect the company's results include, but are not limited to, the risk of litigation or regulatory actions arising from the subpoenas we received from the SEC, potential reputational damage that Cavco may suffer as a result of matters under inquiry, adverse industry conditions, our involvement in vertically integrated lines of business, including manufactured housing, consumer finance, commercial finance and insurance, market forces and housing demand fluctuations, our business and operations being concentrated in certain geographic regions, loss of any of our executive officers, federal government shutdowns and extensive regulation affecting manufactured housing.

This conference call also contains time-sensitive information that is only accurate as of the date of this live broadcast, Tuesday, October 29, 2019. Cavco undertakes no obligation to revise or update any forward-looking statements to reflect events or circumstances after the date of this conference call, except as required by law.

Now I'd like to turn the call over to Bill Boor, President and Chief Executive Officer. Bill?

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William C. Boor, Cavco Industries, Inc. - President, CEO & Director [3]

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Thank you, and welcome, everyone.

In the second quarter, we continued to see strong operating results stemming from continuing strong consumer demand. As we've discussed in the past quarters, the fundamental drivers of manufactured housing industry are very encouraging, and that goes for both near-term economic drivers as well as long-term demographics.

For several quarters now, we've been discussing the overbuild of retail inventory that occurred throughout the industry last year. That built up basically, full shipments from factories to retailers that would have occurred this year, forward into calendar 2018, and it's made it difficult over the last few quarters to get a clear picture on underlying home buying demand because factory shipments slowed during the retail inventory correction. So factory orders have not been a good indicator of consumer demand for several quarters. But as expected, during late summer and early fall, the correction has largely worked through the system, what we're now seeing is a more balanced set of shipment data. Our perspective is that homebuyer demand has remained strong throughout this time.

Industry factory shipment data is supporting this view. Adjusted for seasonality, the last 2 months showed a shipping pace that's actually above last year's total shipments. Two data points really are not a trend, but the point I'm trying to make is that as the dust is clearing on the inventory dynamic, we're seeing indications of continued strong demand.

At Cavco, we've had another quarter of stable backlogs and we ended the quarter at $137 million, which is up slightly on a sequential basis. This is a healthy backlog of about 7 weeks on average, and that allows us to effectively plan production, while still getting the customer's home to them in a reasonable time frame.

We've now had 3 months since the Destiny acquisition closed, and everything is going very well there. This addition strengthens our product position in the Southeast. And the people at Destiny who plan are very positive and energetic, and it's just been great to have them as part of Cavco.

Turning to financial services. The operations continue to contribute strong results. During this quarter, we have not experienced any major weather events and insurance. And as a result, claims have been lower year-over-year. We continue to diversify geographic exposure and steadily grow policies.

On the lending side, we remain positive about the GSE efforts to increase liquidity for manufactured housing lending, although tangible progress has been limited. This is to be expected since programs such as MH Advantage and Choice Home will take time to gain momentum and the Home Only pilot programs may be getting slowed by broader GSE reform discussions. Still, none of those comments are intended to be pessimistic, and we remain encouraged by the directional support our industry is receiving in Washington and increasingly at the state and local level.

With that, I'll turn it over to Dan to review the financial results.

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Daniel Loren Urness, Cavco Industries, Inc. - Executive VP, CFO & Treasurer [4]

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Thanks, Bill. Net revenue for the second fiscal quarter of fiscal year 2020 was $268.7 million, up 11.3% compared to $241.5 million during the same -- or during last year's second fiscal quarter. The quarterly results include $6.4 million of revenue for 2 months of operations at Destiny Homes, which occurred -- that transaction occurred at the beginning of August. Excluding revenue contributed from the acquisition, organic growth was approximately 9% this quarter.

Within the factory-built housing segment, net revenue increased approximately 11% to $253 million from $227 million in the prior year quarter. The improvement is from a 7% increase in units sold and a 4% increase in average home sales prices.

Financial Services segment net revenue increased 11% or $1.5 million from higher home sales volume, more insurance policies in force compared to the prior year and increased interest income on commercial loans outstanding. These increases were partially offset by declines in interest income from securitized loan portfolios that continue to amortize.

Consolidated gross profit as a percentage of net revenue was 21.8%, up from 20.5% in the same period last year. The percentage increase mainly resulted from overall home price product stability in the marketplace, combined with generally low raw material input costs.

The gross margin gains this quarter were partially offset by purchase accounting adjustments, primarily related to Destiny's finished goods home inventory acquired.

Financial Services gross product -- for gross profit also improved as a percentage of net revenue. While weather events did occur this quarter in Texas and Arizona, there was no large-scale insurance claim activity. The prior year period included a significant windstorm event in Arizona, exhausting reinsurance retention thresholds and also incurring our reinsurance premium buyback.

Selling, general and administrative expenses in the fiscal 2020 second quarter as a percentage of net revenue was 13.4% compared to 12.4% during the same quarter last year. The increase was primarily from $2.1 million in amortization of insurance premiums related to the additional D&O insurance purchased several quarters ago, and approximately $800,000 of expenses related to the SEC inquiry.

Other income net grew to $5.2 million compared to $1.1 million in last year's second quarter. The company realized a $3.4 million gain from selling a parcel of idle land this quarter. In addition, the company realized greater interest income from increased cash and commercial loan balances versus the prior year quarter.

The effective income tax rate was 23.4% for the second fiscal quarter compared to 20.2% in the same period last year. The effective tax rate was higher, mainly from less benefit for stock option exercises.

Net income was $20.9 million compared to net income of $15.6 million in the same quarter of the prior year. Net income per diluted share this quarter was $2.25 versus $1.67 in last year's second quarter.

Next, Josh will discuss the balance sheet. Josh?

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Joshua J. Barsetti, Cavco Industries, Inc. - CAO [5]

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Thanks, Dan. Comparing the September 28, 2019 balance sheet to March 30, 2019, the cash balance was nearly $190.5 million, up from $187.4 million 6 months earlier. The increase is from net income and changes in working capital, offset by further utilization of the company's cash during the quarter.

The company paid cash of $15.9 million in connection with the acquisition of Destiny Homes and $17.5 million to pay off securitized bonds. Prepaid and other current assets increased from higher prepaid income taxes, timing from asset exchange transactions related to the land sale previously mentioned and the addition of fair market value-based assets acquired in the acquisition of Destiny Homes.

Property, plant and equipment, goodwill and other intangibles and accounts payable and accrued liabilities balances also increased, mainly from the Destiny Homes' purchase. Additionally, as discussed last quarter, several balance sheet line items were affected by the new lease accounting standard, which was implemented at the beginning of this year.

The current portion of securitized financings and other declined from the bond repurchase previously discussed. We have now completed the repurchases related to the securitized bonds on our balance sheet.

Lastly, stockholders' equity grew to approximately $573 million as of September 28, 2019, up approximately $43 million from the March 30, 2019, balance. Bill, that completes the financial report.

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William C. Boor, Cavco Industries, Inc. - President, CEO & Director [6]

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Thank you, Josh. While we tend to focus on industry-level trends and economic drivers in these calls, we're always conscious that this is a local business in the end. Our company results are the product of a lot of focused effort at the factory, retail and financial services operations, where people are doing a really good job of managing their margins, and making sure our products evolve and stay competitive. And all that's clearly critical to our sustained success.

So with that, [Wanda], I think it's time to turn it over for questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from the line of Daniel Moore with CJS Securities.

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Daniel Joseph Moore, CJS Securities, Inc. - Director of Research [2]

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I'll start with price, revenue up 11%, of that about 4% is benefit or growth from price. How much of that was mix of product? And how much was it pass-through of prior raw material price-related increases?

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Daniel Loren Urness, Cavco Industries, Inc. - Executive VP, CFO & Treasurer [3]

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Probably, half and half, Dan. We've certainly seen a mix in product shift towards a more multi-section homes, more amenitized homes, just larger homes in general, so I think that's part of it, as much as just general price increases are the answer as well.

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Daniel Joseph Moore, CJS Securities, Inc. - Director of Research [4]

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That's helpful. And factory-built segment operating margins down slightly year-over-year. What was the impact of, I guess, one, the prior accounting change? Remind me the timing of pass-through revenue, was there more or less pass-through revenue this year versus last? And second, if you could quantify the impact of the step-up of the inventory from Destiny Homes?

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Daniel Loren Urness, Cavco Industries, Inc. - Executive VP, CFO & Treasurer [5]

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I'll take the last part of that question and then maybe we can come back to the first part, just with that historic change we had on revenue recognition through, I think, 606, it was. But with respect to the destiny homes, we purchased them with finished goods inventory in place. And when we do that, purchase accounting requirements have us mark up those homes that are ready to be sold up to fair value in essence. So when we sell them, there's no margin. And there was a meaningful piece since we only purchased them 2 months -- with 2 months of activity into the quarter. There was not enough time really to get enough of those out to make it insignificant. In fact, it was pretty meaningful to the destiny of stand-alone results. So that's the biggest piece.

There were other purchase accounting adjustments. Homes that we've built and completed and sold after the acquisition had normal margins on them, but a good number of the homes sold that didn't have any margin as a result of the purchase accounting.

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Daniel Joseph Moore, CJS Securities, Inc. - Director of Research [6]

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And is that -- can you quantify that? Or we can follow-up off-line?

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Daniel Loren Urness, Cavco Industries, Inc. - Executive VP, CFO & Treasurer [7]

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We can't quantify it. We don't plan to quantify it. I just -- I should say, other than there'll be some of that that will trickle into the next quarter, but we think most of it is behind us.

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Daniel Joseph Moore, CJS Securities, Inc. - Director of Research [8]

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Got it. That's helpful. Go ahead. I'm sorry.

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Joshua J. Barsetti, Cavco Industries, Inc. - CAO [9]

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Dan, just to answer the other part of your question, in terms of the pass-through revenue that we had talked about all last year, that actually started at the beginning of last fiscal year. So apples-to-apples, we're on par with last year from a pass-through standpoint.

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Daniel Joseph Moore, CJS Securities, Inc. - Director of Research [10]

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Got it. That's helpful. And then on financial services, obviously, really a very strong quarter there. Any unusual items or benefits or simply a function of more activity, more interest and fewer claims?

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Daniel Loren Urness, Cavco Industries, Inc. - Executive VP, CFO & Treasurer [11]

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I think, that's it. Yes. I mean, it's a good business there, both continue to grow. So we certainly watch concentrations. We're watching that growth, making sure it's responsibly managed. The teams out there do a fantastic job.

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Operator [12]

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Our next question comes from the line of Greg Palm with Craig-Hallum Capital.

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Gregory William Palm, Craig-Hallum Capital Group LLC, Research Division - Senior Research Analyst [13]

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So I wanted to start with a little bit more color on the demand environment. Maybe you can talk through whether anything jumped out in terms of the cadence of orders and activity in the quarter? And then any geographies that I think are outperforming? Maybe where backlogs are a little bit stretched relative to some other areas?

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William C. Boor, Cavco Industries, Inc. - President, CEO & Director [14]

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Yes. It's been pretty positive. I mean, we look at a few things that I can kind of touch on. One indicator for us, although it's kind of geographically concentrated is our Palm Harbor villages, our retail operation. And I can just generally tell you that traffic and conversions and then traffic and deposits are really very strong there. And honestly, they have been throughout, which is why we have pretty good confidence that what we are experiencing in last few quarters was driven by that inventory buildup I talked about.

Regionally, I think, the news is pretty positive as well. We looked at the changes in our backlogs by region, and there's really not a region that we have any concern about backlogs kind of getting out of the line, dropping more than in other areas. So we've seen kind of consistent, solid demand across the board for the most part. And we've talked in the past, I believe, that the Southwest has very high backlogs, driven probably by the community business, it's so strong there. That came down slightly, but their backlog is so high. I think it's probably healthy that it came down slightly, in other regions kind of increased slightly during the quarter, which is a real positive sign. So we're not particularly worried about any region at this point from that perspective.

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Gregory William Palm, Craig-Hallum Capital Group LLC, Research Division - Senior Research Analyst [15]

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Yes. That's good color. In terms of the various segments. And I guess, let's just combined company-owned and independent one. So looking at retail versus the community side of the business, any meaningful changes in the sort of the demand dynamics there?

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William C. Boor, Cavco Industries, Inc. - President, CEO & Director [16]

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Looking around the room, I think, we're all kind of shaking our head, no. Nothing is really noteworthy. It was kind of a very consistent quarter from that perspective.

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Gregory William Palm, Craig-Hallum Capital Group LLC, Research Division - Senior Research Analyst [17]

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Got it. Okay. All right. And then, Dan -- this one's is probably for Dan, following up on the previous question. Digging into the margins just a little bit more. If we were to, let's say, exclude the purchase accounting impact that you talked about. I mean, is it fair to say that the factory-built gross margins in the September quarter would have been similar, below or above what we saw in June? Can you just sort of give us a little ballpark?

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Daniel Loren Urness, Cavco Industries, Inc. - Executive VP, CFO & Treasurer [18]

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Sure. Yes, you bet. Well, I mean, overall, we think our margins are good. And we want to call out that obvious piece, which was the purchase accounting component. But overall, we feel pretty good about our margins, and we continue to work to grow them, obviously, and product mix and other things have impacts quarter-to-quarter. So -- we look at it long term. These quarterly numbers were also, I think, impacted by some of the tariff activity that has kicked in, so that did have an impact. And we also have seen other increases in some material costs, aside from the core commodities, just our interior panels. For instance, we have doors, roofing, flooring, those types of things have seen increases that have somewhat offset, some of the lumber and lumber related product lows that we've seen as far as pricing goes. So there's some of that going on. So we're watching it pretty closely.

We had also in consistent with the overall marketplace, company-owned stores that reduced inventory levels and didn't have as high a margins on that reduction as they would in the normal course. So there's some impact there. None of these are large, but just to be responsive to your question, their factors, and there are things that we continue to work through. But overall, Greg, we feel pretty good about our gross margins and where they're going and where they're at currently.

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Gregory William Palm, Craig-Hallum Capital Group LLC, Research Division - Senior Research Analyst [19]

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So it sounds like some kind of puts and takes with a lot of variables. But overall pricing environment and overall margin environment is still pretty healthy. Is that the right way to think about it?

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Daniel Loren Urness, Cavco Industries, Inc. - Executive VP, CFO & Treasurer [20]

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It is. We believe it is, yes. And we'll watch all those things closely.

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William C. Boor, Cavco Industries, Inc. - President, CEO & Director [21]

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You look at it year-over-year, we're at pretty healthy levels. And -- yes, I'd agree with your statement that we haven't been seeing price pressure to any great degree. So just kind of puts and takes, like you said.

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Gregory William Palm, Craig-Hallum Capital Group LLC, Research Division - Senior Research Analyst [22]

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Yes, sounds good. Okay. Just one on Destiny. Thanks for some of the details there. I mean, what's -- curious kind of what your appetite is for additional acquisitions at this point? And do you feel like there is an environment out there where there's more sellers than buyers? Or what's your sense?

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William C. Boor, Cavco Industries, Inc. - President, CEO & Director [23]

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I don't know if I'd say more sellers than buyers. I mean, first, we're always interested, and we always are kind of keeping our eye on opportunities there. So it's an activity that kind of under the surface is constantly going on, and we'd love to continue buying.

I don't know that I sense real trend toward more buyers and sellers or sellers and buyers right now. We're down to low 30s as far as number of companies in the industry, and people kind of get ready to sell their 1 and 2 plant operations when they personally get ready to sell them is kind of my perspective on it. Dan, would you add anything to add?

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Daniel Loren Urness, Cavco Industries, Inc. - Executive VP, CFO & Treasurer [24]

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Yes. No, I mean, I think it's a good environment in the marketplace in general, and those companies that are out there are all great companies. The survivors, if you will, through the downturn that we experienced years ago. And continue to be good operations and where we find a good fit in a lot of different ways, we will act accordingly, and we hope to be able to continue, but we're not going to chase anything. We're not going to grow for just growth's sake. We're not just looking to expand the top line. We want to bring on entities that are good fits for us, that contribute in multiple ways, and we can help make their business better as well. So those are the good fits that we look for.

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Gregory William Palm, Craig-Hallum Capital Group LLC, Research Division - Senior Research Analyst [25]

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Got it. Okay. Last one for me, I found it interesting that a few of the public site builders are now starting to talk about off-site construction quite a bit more than they probably would have a few years ago. So curious what you make of that, whether you see yourself as a potential partner, JV or if it's sort of too early to tell what they're exactly planning on doing?

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William C. Boor, Cavco Industries, Inc. - President, CEO & Director [26]

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I think everyone's kind of trying to figure it out. I mean, it's a topic, I'm personally very interested in the whole affordability, multiple affordable housing situation and particularly the closer in and urban aspect of it, really is going to require some level of innovation. And I just don't see a world where, down the road, we don't have a significantly increased component of manufactured work in closer in urban settings. So the site builders are trying to hit a price point. They don't seem to be able to hit with their traditional techniques. And the question is really what kind of hybrid are we going to end up with? Is it going to be an innovation of a completely factory-built house? Or is it going to be just somewhere in between? And I think we're going to see all of that. We're trying to keep our ear to the ground on it. I'd say we -- nothing to kind of spurring the entry, but we're talking to folks trying to figure out, just like a lot of other people are. And I think we need to. I think it's going to be the direction of really a whole new market for manufactured housing, not just incremental growth. So -- yes, we're staying tuned to it. And I think we're going to see all kinds of things happen with really, I think it's going to be location dependent. Some situations are going to call for 100% manufactured product that probably doesn't look like what we typically make. And other situations are going to call for factory-built components coming to someone that's doing a good bit of the work on site. So it's really an interesting development. They're looking at it from their perspective, largely is land developers, and we certainly want to participate.

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Operator [27]

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We have a follow-up question from Daniel Moore.

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Daniel Joseph Moore, CJS Securities, Inc. - Director of Research [28]

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Just in terms of backlogs, as we flash forward, Bill, the -- do you expect to stay around these levels? Or it's more likely to see the modest decline as we kind of work into the seasonally softer period of the year?

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William C. Boor, Cavco Industries, Inc. - President, CEO & Director [29]

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Seasonality is something we've been talking about here, trying to get a feel for that. I mean, we're -- the industry just feels very balanced right now. And that usually doesn't last forever. It's just one way or the other. But as we're seeing right now in order rates and backlogs, we think it's obviously different by region, right? Your northern areas are going to be more heavily impacted by the winter season. But with the strong backlogs and order rates we're seeing, we might see a pretty muted effect overall seasonally this year, and that's kind of our feeling at the moment. But like you, we're going to see how it unfolds.

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Daniel Joseph Moore, CJS Securities, Inc. - Director of Research [30]

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That's helpful. And then just remind us when D&O insurance expense amortization winds down? And any commentary as to how much longer you'd expect to incur legal expenses?

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Joshua J. Barsetti, Cavco Industries, Inc. - CAO [31]

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Sure. So on the D&O question, I believe, it's a Q2 of next year, the end of Q2 is when that will expire.

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William C. Boor, Cavco Industries, Inc. - President, CEO & Director [32]

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We've got 4 more, yes?

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Joshua J. Barsetti, Cavco Industries, Inc. - CAO [33]

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Yes, 4 more quarters of it. And then we're still cooperating with the SEC and working through that whole process. So don't really have a gauge on how long that will continue, but we'll continue to report it as it comes up.

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William C. Boor, Cavco Industries, Inc. - President, CEO & Director [34]

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It's very difficult for us to speculate on the legal expense side because the SEC is driving the process at this point. And if they -- if there's activity, we're going to be involved with them. And if it slows down for a period, the costs will drop accordingly. So -- and we're kind of riding it based on how they want to proceed.

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Daniel Joseph Moore, CJS Securities, Inc. - Director of Research [35]

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Understood. And lastly for me. I think the first securitization of a mainly Chattel-backed MH loans occurred over the last week or 2. What do you make of that, Bill? And do you expect others to follow? And how significant do you see that as maybe a first step?

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William C. Boor, Cavco Industries, Inc. - President, CEO & Director [36]

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Generally, I'd say it's hard to feel anything but positive about the fact that the word securitization is out there with Chattel lending, but people do need to look at it. And those loans are highly seasoned, I guess. I agree with ages that those loans were from a completely different time. So the real breakthrough will be when we get securitization on more recent lending and start to develop as an industry, the data around that. So we're positive about it, but we don't see that as kind of the securitization we'll all point back to as the time that the market opened up again. We do continue to -- through countryplace, we do continue to have a lot of discussions with just buyers and also people that are talking about aggregating in order to do securitizations. And we just began -- we're as anxious as anyone. We can't really call when we think it will really open up. But the motion and the energy is headed in the right direction, I guess, the best I can tell you, Dan.

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Operator [37]

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I'm not showing any further questions. I would now like to turn the call over to Bill Boor, President and Chief Executive Officer, for closing remarks.

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William C. Boor, Cavco Industries, Inc. - President, CEO & Director [38]

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I don't think I really have anything else. So I appreciate everyone's interest and time today to be on the call, and we look forward to continuing the discussion. Thank you very much.

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Operator [39]

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Ladies and gentlemen, this concludes today's conference. Thank you for participating. You may now disconnect. Everyone, have a wonderful day.