U.S. markets open in 2 hours 50 minutes

Edited Transcript of ESI earnings conference call or presentation 7-Nov-19 1:30pm GMT

Q3 2019 Element Solutions Inc Earnings Call

West Palm Beach Nov 12, 2019 (Thomson StreetEvents) -- Edited Transcript of Element Solutions Inc earnings conference call or presentation Thursday, November 7, 2019 at 1:30:00pm GMT

TEXT version of Transcript

================================================================================

Corporate Participants

================================================================================

* Benjamin Gliklich

Element Solutions Inc - CEO & Director

* Carey J. Dorman

Element Solutions Inc - CFO

* Martin Ellis Franklin

Element Solutions Inc - Founder & Executive Chairman

* Scot R. Benson

Element Solutions Inc - President, COO & Director

* Yash Nehete

Element Solutions Inc - Senior Associate of Corporate Development & IR

================================================================================

Conference Call Participants

================================================================================

* Christopher Paul Moore

CJS Securities, Inc. - Senior Research Analyst

* Joshua David Spector

UBS Investment Bank, Research Division - Equity Research Associate - Chemicals

* Michael James Leithead

Barclays Bank PLC, Research Division - Research Analyst

* Neel Kumar

Morgan Stanley, Research Division - Equity Analyst

* Peter Osterland

SunTrust Robinson Humphrey, Inc., Research Division - Associate

* Steve Byrne

BofA Merrill Lynch, Research Division - Director of Equity Research

* Thomas Glinski

Goldman Sachs Group Inc., Research Division - Research Analyst

================================================================================

Presentation

--------------------------------------------------------------------------------

Operator [1]

--------------------------------------------------------------------------------

Good morning, ladies and gentlemen, and welcome to the Element Solutions 2019 Third Quarter Financial Results Conference Call. This call is being recorded. (Operator Instructions) It is now my pleasure to turn the floor over to Yash Nehete, Senior Associate, Corporate Development and Investor Relations. Please go ahead.

--------------------------------------------------------------------------------

Yash Nehete, Element Solutions Inc - Senior Associate of Corporate Development & IR [2]

--------------------------------------------------------------------------------

Good morning, and thank you for participating on our third quarter 2019 earnings call. Joining me this morning are CEO, Ben Gliklich; President and COO, Scot Benson; and CFO, Carey Dorman. Our Executive Chairman, Martin Franklin, will also be on the line for Q&A.

Please note that in accordance with Regulation FD or fair disclosure, we are webcasting this conference call. Any redistribution, retransmission or rebroadcast of this call in any form without the expressed written consent of Element Solutions is strictly prohibited. During today's call, we will make certain forward-looking statements that reflect our current views about the company's future performance and financial results. These statements are based on certain assumptions and expectations of future events that are subject to risks and uncertainties.

Please refer to Item 1A of our most recent Form 10-K for a discussion of the most significant risk factors that could cause actual results to differ from our expectations and predictions. Please note that in the earnings release and supplemental slides issued and posted today, Element Solutions has provided financial information that has not been prepared in accordance with U.S. GAAP. For definitions and reconciliations of these non-GAAP measures to comparable GAAP financial measures, please refer to the release and slides, which can be found on the company's website at www.elementsolutionsinc.com in the Investors section under News and Events.

It is now my pleasure to introduce Ben Gliklich, CEO of Element Solutions.

--------------------------------------------------------------------------------

Benjamin Gliklich, Element Solutions Inc - CEO & Director [3]

--------------------------------------------------------------------------------

Thank you, Yash, and good morning, everyone, and thank you for joining. This was a solid third quarter. We delivered strong operating performance considering the persisting weak macro environment with 9% constant currency adjusted EBITDA growth and demonstrated our hallmark strong free cash flow generation, producing $80 million this quarter alone. The sequential increase in activity, particularly in high-end electronics, which we expected, materialized in the quarter, but the overall macro backdrop both in terms of our end markets and currency remained a headwind. Nonetheless, adjusted EBITDA margin expansion from product mix and cost initiatives drove significant adjusted EBITDA growth despite our organic net sales declining 2%. Adjusted EBITDA margins expanded by 260 basis points year-over-year.

This was the third consecutive quarter of year-over-year and sequential margin expansion, which exemplifies the resilience of our operating model in difficult market environments and our team's ability to manage through them. From a capital allocation perspective, it was also a productive quarter. As part of our authorized $750 million share repurchase program, we repurchased about 5.6 million shares, representing 2% of shares outstanding for $51 million or an average price of $9.06, about $254 million remains on the currently approved program.

Turning to Page 3. You can see that today, we reported net sales of $465 million for the quarter and adjusted EBITDA of $115 million. Net sales declined 2% on an organic basis year-over-year as they were impacted by weak global industrial activity, including automotive markets as well as persisting softness in underlying demand in the broader electronics market. We saw the benefit of a strong seasonal pickup in our Electronics business associated with new platform launches by global mobile phone OEMs, but this did not fully offset the generally weak environment. Our expectation for the fourth quarter is for activity to return closer to the levels we saw in the first half of 2019. This would imply a slowdown in our core smartphone markets from Q3 and the automotive market to continue to soften sequentially. We'll discuss fourth quarter expectations towards the end of the call.

In Electronics, organic net sales for the quarter declined 1% year-over-year as the seasonal uptick in high-end mobile phones and circuitry was offset by general market softness in assembly and semiconductor. Growth in circuitry was weighted to higher-margin smartphone markets and drove solid profit margin improvement. In fact, overall, our mix improved across each of these businesses. Content per unit continues to grow with increasing technology requirements in new devices. For example, specific technology solutions needed for multicamera applications and 3D camera designs have been a tailwind for us in high-end markets. With global mobile phone shipments down meaningfully this year, we believe our results suggest that we have continued to outperform our end markets.

In Industrial & Specialty, modest year-over-year growth in Graphics and Energy in Q3 was offset by lower demand in Industrial, particularly in Europe and Asia. This was largely due to the slowdown in global automotive markets but impacted also by the generally slower industrial economy. Participants in our industrial supply chain remain cautious regarding production activity for the remainder of the year. Adjusted EBITDA in the third quarter grew 6% year-over-year on a reported basis and 9% on a constant currency basis. Our 260 basis points of margin expansion in the quarter was driven half by gross profit improvement as a result of product mix and half by reduced operating expenses. Our savings related to operating expenses continued to grow as a result of effective cost containment in our businesses and our corporate restructuring, while maintaining our best-in-class, high-touch customer service.

Year-to-date, SG&A is down approximately $30 million year-over-year, of which we would classify about half as cost savings with the balance as cost avoidance. We reported adjusted EPS of $0.26 this quarter, and we used the $80 million of free cash flow generated this quarter for our share repurchases and to settle some of the remaining post-closing tax obligations associated with the sale of Arysta. We remain on track to generate approximately $200 million of free cash flow on an adjusted basis for the full year 2019.

Importantly, despite our successful cost containment this year, we continue to invest for long-term growth. While our total OpEx spend is down approximately 10% year-to-date, our R&D spend remains in line with historical levels on an absolute dollar basis and, therefore, increases as a percentage of net sales. Additionally, we continue to expand our markets, win new geographies and demonstrate our differentiated capabilities. We believe we are well positioned to disproportionately benefit from the future recovery of the industrial economy. With that, I'll turn it over to Scot Benson, our President and COO, who will now provide more color around market trends for both of our segments. Scot?

--------------------------------------------------------------------------------

Scot R. Benson, Element Solutions Inc - President, COO & Director [4]

--------------------------------------------------------------------------------

Thanks, Ben, and good morning, everyone. As you can see on Slide 4, both our overall Electronics segment and Industrial business, specifically were impacted by weak automotive markets in all regions. The softness was especially evident in Europe and China. Assembly, which sells into the broadest electronics markets, was impacted by general market softness. Assembly benefited from strong seasonal growth in high-end mobile phones, but less so than Circuitry, given their relative exposures. Printed circuit board production volumes, especially for flex and HDI boards declined in the mid- to high-single digits in the first half of this year alone. However, rigid flex circuits continue to gain momentum as electronic wearables gain traction with consumers and camera modules in new phones become increasingly complex.

We have good exposure to these growth trends but they are a smaller portion of our overall market today. In general, we remain cautious going into the fourth quarter for Electronics, as we believe mobile phone supply chains did indeed pull forward some Q4 demand into Q3. Advanced assembly product growth in semiconductor was offset by weakness in some of our advanced packaging products and lower prices of the precious metals sold into those products.

In Industrial & Specialty, the global slowdown in the automotive supply chain was the primary driver for lower year-over-year organic net sales in the quarter. Declining automotive production in Europe, China and the U.S. was a theme throughout the quarter.

Our other Industrial markets were also impacted by reduced demand, all driven by lower global growth. Modest growth in Graphics in Q3 was supported by year-over-year gains in flexible packaging as well as increased screen product sales. Though we grew this quarter, delayed marketing campaigns by certain CPGs remain a headwind for the full year outlook. We are somewhat optimistic that the proposed changes to the nutritional label requirements issued by the federal government will help drive volumes into 2020.

In Energy, higher net sales in Europe and Asia related to fill and drilling activity partially offset lower drilling activity in North America and the ongoing impact of the loss of a certain business related to a specific customer from the first quarter. Year-over-year, offshore investment in 2019 is expected to be lower compared to 2018 levels. For the balance of the year, cost containment and margin expansion initiatives and longer-term growth projects remain our priority despite significant declines in our key end markets. We continue to outpace underlying markets and believe we are capturing market share in long-term, high-growth markets.

With that, I will turn it over to Carey to discuss cash flow and our balance sheet. Carey?

--------------------------------------------------------------------------------

Carey J. Dorman, Element Solutions Inc - CFO [5]

--------------------------------------------------------------------------------

Thanks, Scot, and good morning, everyone. On Page 5, we provide an update on cash flow and our balance sheet for the third quarter of 2019. Year-to-date, we've generated approximately $166 million of free cash flow on an adjusted basis from continuing operations. This assumes the Arysta transaction had closed and our new capital structure had been in place as of January 1 of the year. We remain on track to generate over $200 million of free cash flow this year on that same basis. We have also reduced our cash interest and cash taxes guidance from the beginning of the year. Our cash interest outlook is now $75 million or $5 million lower than our previous outlook, as we were able to successfully repatriate cash from overseas and paid down our revolver completely early in the third quarter.

Cash taxes are now expected to be in the range of $80 million due to lower earnings growth and other optimization activities. Our net CapEx outlook remains unchanged at $30 million. Although we are currently tracking better than that run rate.

Our working capital investment through the third quarter is lower compared to the same period last year, roughly in line with lower year-over-year net sales trends. Looking to the fourth quarter, we expect to release working capital, consistent with historical seasonal patterns. On a full year 2019 basis, we expect only a modest use of working capital, in line with our initial guidance for the year. Net debt at the end of the third quarter was largely unchanged versus the prior quarter, and our net debt-to-adjusted EBITDA ratio gained approximately 3.3x on a trailing 12-month basis.

As Ben mentioned, we used the majority of our free cash flow this quarter to repurchase approximately 5.6 million shares. Without this, our net debt-to-adjusted EBITDA ratio would have declined to 3.1x this quarter. Year-to-date, we have repurchased approximately 44 million shares or more than 15% of our common shares that were outstanding at the beginning of the year. As anticipated, we also used approximately $20 million of cash to favor certain pre-closing Arysta income taxes. This outflow does not show up in continuing operations, but doesn't, of course, impact our cash balance. We expect an additional net cash outflow of $25 million related to Arysta income taxes, with the majority of that expected to be paid during 2020. With respect to free cash flow generation, we anticipate another quarter of strong free cash flow in Q4, but lighter than Q3, given our semiannual bond payment and lower expected sequential earnings.

With that, I will turn it over to Ben to provide an update on our 2019 financial guidance and closing remarks. Ben?

--------------------------------------------------------------------------------

Benjamin Gliklich, Element Solutions Inc - CEO & Director [6]

--------------------------------------------------------------------------------

Thanks, Carey. On Slide 6, we outline our fourth quarter expectations and full year 2019 guidance. The fourth quarter market outlook is softer than Q3 in our key markets. Printed circuit board and semiconductor production as well as demand for our Industrial & Specialty products are largely predicated on consumer electronics and industrial production, which continue to show signs of weakness.

We expect automotive production to be lower year-over-year in the fourth quarter and are planning for a moderation in demand for mobile phone supply chains after the Q3 launches. With this current visibility into the coming quarter, we are revising our organic net sales expectations to a decline of approximately 4% for the full year. As of the third quarter, the year-to-date impact from currency to adjusted EBITDA was approximately $15 million, and we expect an additional headwind of $5 million to adjusted EBITDA in the fourth quarter of 2019 based on September 30 FX rates. Despite lower sales, we're holding our constant currency adjusted EBITDA guidance at 2% to 5% growth. And we're increasing our adjusted EPS guidance to a range of $0.84 to $0.87 per share, given our share repurchase activity and balance sheet management.

Finally, before opening the call for questions, I will, as usual, turn to Slide 7 to revisit our priorities for 2019. The launch of Element Solutions, Inc. has been successful. We've established a strong performance-based, people-centric and customer-focused identity and culture with our key internal and external stakeholders. Balancing margin protection and investment for long-term growth, we've demonstrated the resiliency of our business model, delivering on our commitments in a challenging macro backdrop. This quarter once again showcased our business' ability to generate strong free cash flow, which is the cornerstone of this company in both good markets and more difficult ones.

Finally, our capital allocation year-to-date has been in line with our long-term objective of compounding intrinsic value for our shareholders. We will continue to demonstrate opportunistic capital deployment going forward, with an appetite for modest bolt-on acquisitions that fit within our criteria: Businesses aligned with our end markets, adding attractive capabilities and technology. Businesses that are better as a part of our portfolio than outside of it and available at reasonable valuations. These will be weighed against and certainly will not preclude returning capital to shareholders efficiently, which we will continue to do. With that, operator, please open the line for questions.

================================================================================

Questions and Answers

--------------------------------------------------------------------------------

Operator [1]

--------------------------------------------------------------------------------

(Operator Instructions) Our first question today is coming from Steve Byrne with Bank of America.

--------------------------------------------------------------------------------

Steve Byrne, BofA Merrill Lynch, Research Division - Director of Equity Research [2]

--------------------------------------------------------------------------------

Just wanted to drill in a little bit on the Electronics EBITDA margin sequentially move from the low 20s into well into the mid-20s. Is that is that a reflection of just a mix shift over to more Circuitry? But would welcome your comments on the sustainability of that and where you think it should normalize post recovery in that -- in those end markets.

--------------------------------------------------------------------------------

Benjamin Gliklich, Element Solutions Inc - CEO & Director [3]

--------------------------------------------------------------------------------

Sure, Steve. Thanks for the question. This is Ben speaking. So this is a mix story. As we said going into the quarter, we expected a pickup in high-end mobile devices in the back half of the year, and we saw that for sure in Q3. This is the Circuitry business growing nicely sequentially in that high-end market. And so the mix was helpful in driving that margin. This isn't a permanent margin increase, I wouldn't suggest, but this is getting closer to a normal level, given what we saw in that end market in the quarter. Scot, anything you'd add around the margin improvement?

--------------------------------------------------------------------------------

Scot R. Benson, Element Solutions Inc - President, COO & Director [4]

--------------------------------------------------------------------------------

No. I think you pointed out the key points, Ben. It's -- we're returning more to a more normal type mix. Some -- we did have some benefit, of course, some seasonal new product launches that helped that, plus some cost control. So overall, just a really good story in that business.

--------------------------------------------------------------------------------

Steve Byrne, BofA Merrill Lynch, Research Division - Director of Equity Research [5]

--------------------------------------------------------------------------------

I also wanted to ask you about your auto business, specifically in the surface treatments and plating. How much of this business is metallic surfaces like corrosion prevention and so forth that has potential mix decline in auto end markets as opposed to more on plastic parts that could increasingly expand as the mix moves more towards EVs?

--------------------------------------------------------------------------------

Benjamin Gliklich, Element Solutions Inc - CEO & Director [6]

--------------------------------------------------------------------------------

Yes. It's a good question, Steve. So about half of our Industrial business or in our Industrial vertical within the Industrial & Specialty segment is automotive facing. And we also have some automotive content in the Electronics business, and within that Industrial facing -- within that automotive facing piece of the business, there's a reasonable split between platings on plastic and decorative finishes and corrosion resistance. And so as we're seeing this year, with automotive units on the decline, that's impacting not just the Industrial side of the business, also the Electronic side of the business. What we think could go away as you move away from combustion engines would certainly be replaced. And probably, we grow in terms of overall content per vehicle from what we have in the electronics side all across both the internal bits of the car and also the engines. Scot, anything you'd add?

--------------------------------------------------------------------------------

Scot R. Benson, Element Solutions Inc - President, COO & Director [7]

--------------------------------------------------------------------------------

No, Ben. I think that's right.

--------------------------------------------------------------------------------

Operator [8]

--------------------------------------------------------------------------------

The next question comes from Josh Spector with UBS.

--------------------------------------------------------------------------------

Joshua David Spector, UBS Investment Bank, Research Division - Equity Research Associate - Chemicals [9]

--------------------------------------------------------------------------------

Just a question on your guide for EBITDA for 2019. So you left the range unchanged. I'd be curious kind of where we stand right now in the quarter. What are the factors that drive you to the bottom versus the high end? Is it more costs on your end? Or is it more demand?

--------------------------------------------------------------------------------

Benjamin Gliklich, Element Solutions Inc - CEO & Director [10]

--------------------------------------------------------------------------------

Yes, it's a good question, Josh. Thanks for that. This is more of a demand. The variability in our guidance range is more driven by demand than cost. We've done a lot to optimize our cost footprint. And with 2 months left in the year, there's not a lot more we can do that will come through on the bottom line just given timing. We made comments on our call or in our prepared remarks about seeing the fourth quarter return more towards the first half levels of activity. And that's what we expect. Really, it'll be a December story and how much activity slows down as we get towards the year-end, that will determine where we come out in the guidance range.

--------------------------------------------------------------------------------

Joshua David Spector, UBS Investment Bank, Research Division - Equity Research Associate - Chemicals [11]

--------------------------------------------------------------------------------

That's helpful. And just -- I mean in a hypothetical scenario, kind of looking at 2020, if I said organic growth was flat, given the amount of cost savings that you guys have done this year, permanent and temporary, do you think -- can EBITDA grow in that scenario? What are the kind of positive and negative offsets?

--------------------------------------------------------------------------------

Benjamin Gliklich, Element Solutions Inc - CEO & Director [12]

--------------------------------------------------------------------------------

Yes. Look, it's in -- as dynamic of a market backdrop as we're participating in, it's really early to be talking about 2020. There are certain tailwinds we see from an organic perspective, like 5G, and then there are certain headwinds like FX and should markets return to growth, more normalized OpEx, we do expect to continue to outperform our markets on the back of the technology we have been building in our pipeline. And we've talked about innovation and what we've been doing over the past several years, and that'll come through at our differentiated technical sales and service capabilities. So we expect to continue to outperform our markets on the top line and believe that, that will translate into better -- even better EBITDA growth. We should have some margin growth should there be flattish sales, to get specifically to your question.

--------------------------------------------------------------------------------

Joshua David Spector, UBS Investment Bank, Research Division - Equity Research Associate - Chemicals [13]

--------------------------------------------------------------------------------

Yes. I guess maybe just a quick follow-up with that is just from what you see from a pipeline standpoint, is there a mix benefit? So absent top line growth being stronger, is there a mix piece that's worth considering?

--------------------------------------------------------------------------------

Benjamin Gliklich, Element Solutions Inc - CEO & Director [14]

--------------------------------------------------------------------------------

Yes. As we've said before, our margins are better in higher-end end markets and newer technologies. So 5G, for instance, will have a better margin profile than some of the business that might go away if we're in a flat market, but 5G is picking up. So yes, I would expect that.

--------------------------------------------------------------------------------

Operator [15]

--------------------------------------------------------------------------------

The next question comes from Bob Koort with Goldman Sachs.

--------------------------------------------------------------------------------

Thomas Glinski, Goldman Sachs Group Inc., Research Division - Research Analyst [16]

--------------------------------------------------------------------------------

This is Tom Glinski on for Bob. So just a quick question, in the second quarter presentation you called out inventory levels in the semi supply chain. Could you just give some color on if those have normalized? And maybe time line, if they haven't?

--------------------------------------------------------------------------------

Benjamin Gliklich, Element Solutions Inc - CEO & Director [17]

--------------------------------------------------------------------------------

Sure. Happy to answer that question. For starters, semi is a relatively small part of our business. And so I wouldn't overestimate the magnitude of semiconductor inventories on our overall performance. In our business, in the third quarter, we did see some restocking of semiconductor -- of our semiconductor products in the supply chains. And so we do think we're towards a more normal level for our specific products, but I wouldn't extrapolate that about the -- towards the broader industry.

--------------------------------------------------------------------------------

Thomas Glinski, Goldman Sachs Group Inc., Research Division - Research Analyst [18]

--------------------------------------------------------------------------------

Great. And then on capital allocation, obviously you allocated a bit more to buybacks this quarter. Could you just maybe bucket your priorities going into 2020?

--------------------------------------------------------------------------------

Benjamin Gliklich, Element Solutions Inc - CEO & Director [19]

--------------------------------------------------------------------------------

So I think the place to start on capital allocation is that we're going to be opportunistic. And this is a business that generates excess cash flow over and above what it requires from an organic perspective. And so we're going to be flexible. This year, it's been buybacks because we've got opportunities to buy in shares at what we thought were dislocated values. But that doesn't mean that, that will be the case on a go-forward basis. We made some comments about having an appetite for modest bolt-on acquisitions that fit within our criteria, talking about small businesses that are aligned with what we do today that are better as a part of our portfolio than outside of it and available at attractive valuations. So that's certainly something we're going to look at. If value opportunities persist, we'll continue to buy in our shares and remain flexible. Martin, is there anything that you would -- you'd add?

--------------------------------------------------------------------------------

Martin Ellis Franklin, Element Solutions Inc - Founder & Executive Chairman [20]

--------------------------------------------------------------------------------

Yes. I mean I would also say that we're mindful of the fact that we're going to continue to reduce our leverage ratio. I think as pointed out, if we hadn't bought back the shares we bought back already, we'd be about 3.1x as opposed to 3.3. But the truth is we've generated a lot of free cash flow. And while valuations are dislocated, and we think -- still think our equity is below, if you like, fair value, we're going to look opportunely at our shares. There are things out there that are interesting to buy and we are very disciplined about that given the opportunity set on our own equity. And obviously, our philosophy though is over time, we're going to be reviewing returning capital to shareholders. And as you know, dividends have been on the table. That's something else that we've -- we're considering and we'll make those decisions probably for next year.

--------------------------------------------------------------------------------

Operator [21]

--------------------------------------------------------------------------------

The next question comes from Mike Leithead with Barclays.

--------------------------------------------------------------------------------

Michael James Leithead, Barclays Bank PLC, Research Division - Research Analyst [22]

--------------------------------------------------------------------------------

For next year, I appreciate macro visibility is still pretty low for 2020. But when you think about what's within the company's control, can you maybe just talk through 2 or 3 things that should help you guys grow EPS next year? Whether it's further cost reduction or buybacks? And similarly on the cash flow side, what should improve next year versus this year?

--------------------------------------------------------------------------------

Benjamin Gliklich, Element Solutions Inc - CEO & Director [23]

--------------------------------------------------------------------------------

Sure. So as we've talked about, these businesses generate a lot of cash, and we will allocate that cash to compounding earnings per share, be it through the form of buybacks, debt reduction and so forth. So we've got balance sheet management opportunities. This is barring -- this is assuming a flat, organic environment. Additionally, as we talked about, there should be some mix benefit. We have proven an ability to drive margin. We've taken quite a bit of cost out. We have some more mix opportunities as we look towards next year from technology and our product pipeline. So I do see an opportunity to drive EPS well above top line or EBITDA growth for a long time, not just into next year. Carey, is there anything you want to talk about from a cash flow growth perspective?

--------------------------------------------------------------------------------

Carey J. Dorman, Element Solutions Inc - CFO [24]

--------------------------------------------------------------------------------

Yes. Look, I think on a flat growth environment, it's -- or if that's what we're assuming, there aren't a ton of levers incremental. But certainly, we're looking at things on the cash tax optimization side, which continues to be a focus, and we're continuing to make progress. We've actually had some good progress already this year. Working capital remains to be an area that we are focused on. I think even sequentially, we showed a good improvement there, and that's something that we've continued to get our arms around. So I think there's some marginal opportunities there. But I would expect largely the levers to be unchanged.

--------------------------------------------------------------------------------

Benjamin Gliklich, Element Solutions Inc - CEO & Director [25]

--------------------------------------------------------------------------------

Yes. Capital allocation is the key driver of compounding EPS.

--------------------------------------------------------------------------------

Carey J. Dorman, Element Solutions Inc - CFO [26]

--------------------------------------------------------------------------------

Absolutely.

--------------------------------------------------------------------------------

Michael James Leithead, Barclays Bank PLC, Research Division - Research Analyst [27]

--------------------------------------------------------------------------------

Got it. That's helpful. And then Ben, I think back to your Investor Day in May, you laid out a number of megatrends that should benefit ESI. And you talked about them a little bit today, whether it's 5G or increased automotive electronic contenting. So I guess as you're seeing general market demand weaken through this year, curious if you've seen an acceleration or deceleration of these efforts by the customers. And what I mean by that is, I assume these long-term trends aren't going away at all. But just curious as demand remains cyclically low, if the pace of adoption by your customer changes at all?

--------------------------------------------------------------------------------

Benjamin Gliklich, Element Solutions Inc - CEO & Director [28]

--------------------------------------------------------------------------------

Yes, not at all, not at all. So these megatrends are here to stay. We're seeing increasing activity in EV from automotive OEMs in Tier 1s. Obviously, 5G ramp continues to persist, and we're seeing nice growth and some interesting projects on that front already and going into next year. So certainly not, these megatrends are going to be real drivers, and they are not cyclical in nature. Scot, is there anything you'd add specifically around some of this activity we've had aligned with the megatrends we've talked about?

--------------------------------------------------------------------------------

Scot R. Benson, Element Solutions Inc - President, COO & Director [29]

--------------------------------------------------------------------------------

Yes. I think the only thing I would highlight, Ben, you touched on it, was the growth in EV. We have some very unique capabilities and new technology around EV. And although electric vehicles are a very small portion today of the overall automotive market, the growth rate is really high, and we're very well positioned for that. So I think we're in really good shape to take advantage of some of those trends.

--------------------------------------------------------------------------------

Benjamin Gliklich, Element Solutions Inc - CEO & Director [30]

--------------------------------------------------------------------------------

Yes. For as small of a percentage of the overall auto market at EV is the amount of activity and attention that's paid to it by these OEMs is enormously disproportionate. And we're right alongside them, helping solve some of the questions that they face and the issues that they face as they grow in that market.

--------------------------------------------------------------------------------

Operator [31]

--------------------------------------------------------------------------------

Next question comes from Neel Kumar with Morgan Stanley.

--------------------------------------------------------------------------------

Neel Kumar, Morgan Stanley, Research Division - Equity Analyst [32]

--------------------------------------------------------------------------------

Can you just give us a sense of how much the new customer product launches in electronics benefited organic growth for the quarter? And do you see any remaining benefit from this in the fourth quarter as we expect Electronics organic growth to be closer to the mid-single-digit declines we saw in the first half of the year?

--------------------------------------------------------------------------------

Benjamin Gliklich, Element Solutions Inc - CEO & Director [33]

--------------------------------------------------------------------------------

Sure, Neel. So the sequential growth we saw in Electronics, predominantly in Circuitry, was really driven by new platform launches, right? So the new phones that you saw from some of the large electronics or smartphone OEMs is what drove that top line growth. And so you can see that right from the face of the numbers. As we were thinking about the second half on our Q2 call -- or communicated in the second half, we talked about Q3 and Q4 being about even given what we've seen in past quarters -- or in past years. This year, we think there was some pull forward from Q4 into Q3 that drove some of that sequential pickup, and that's why we say Q4 is going to look a little bit more like the first half than like Q3. So I wouldn't extrapolate the Q3 performance into Q4, given the rate of acceleration that we saw in Q3. It will taper off.

--------------------------------------------------------------------------------

Neel Kumar, Morgan Stanley, Research Division - Equity Analyst [34]

--------------------------------------------------------------------------------

I see. That's helpful color. And then in energy, organic growth came in flat despite the impact of the customer loss. Can you just talk about some of the new wins that's allowed you to largely offset that?

--------------------------------------------------------------------------------

Benjamin Gliklich, Element Solutions Inc - CEO & Director [35]

--------------------------------------------------------------------------------

Yes. So the energy business is a lumpy business in that we have what is effectively like a subscription fluid-producing wells. And then when new wells go online, or there's a pickup in drilling activity, we have quite a bit of a onetime sale. And so it can have some lumps and we saw some of those in Q3. Again, I wouldn't extrapolate that into a new baseline. It's just several large orders in the quarter.

--------------------------------------------------------------------------------

Operator [36]

--------------------------------------------------------------------------------

Next question comes from Jim Sheehan with SunTrust.

--------------------------------------------------------------------------------

Peter Osterland, SunTrust Robinson Humphrey, Inc., Research Division - Associate [37]

--------------------------------------------------------------------------------

This is Pete Osterland on for Jim. What was the margin impact of your cost reductions this quarter by segment? Was it about 50-50? Or were they weighted towards 1 segment or the other?

--------------------------------------------------------------------------------

Benjamin Gliklich, Element Solutions Inc - CEO & Director [38]

--------------------------------------------------------------------------------

Yes. So the overall cost reductions are about in line with the EBITDA contribution, right? So I'd say about 2/3 Electronics, 1/3 Industrial & Specialty. That's how we allocate it because a lot of this cost, remember, is coming from our corporate cost action, which is an allocated charge.

--------------------------------------------------------------------------------

Peter Osterland, SunTrust Robinson Humphrey, Inc., Research Division - Associate [39]

--------------------------------------------------------------------------------

Okay. And with about half of the SG&A expenses -- reductions, you called out about half of that being cost avoidance. What kind of growth environment would you need to see for these expenses to come back in their entirety? And is that dependent on any end market in particular?

--------------------------------------------------------------------------------

Benjamin Gliklich, Element Solutions Inc - CEO & Director [40]

--------------------------------------------------------------------------------

I would say, we talk about the overall industrial economy. Obviously, we have more exposure to electronics and auto. But just a growth environment where our top line can support that spend, right? We talk about our business model being one with flexible costs and we invest for long-term growth through all cycles, but there is certain discretionary spend that we can taper when the market doesn't allow for it, and that's what we've done this year. We need to have a top line that can support incremental expense before that incremental expense comes back. I wouldn't put a percentage growth on that or anything like that, but it's the sort of thing where we understand what levers we can pull in bad times, and we understand what we can do to make sure that we're getting that disproportionate amount of the recovery in good times.

--------------------------------------------------------------------------------

Operator [41]

--------------------------------------------------------------------------------

The next question comes from Jon Tanwanteng with CJS.

--------------------------------------------------------------------------------

Christopher Paul Moore, CJS Securities, Inc. - Senior Research Analyst [42]

--------------------------------------------------------------------------------

It's actually Chris Moore for Jon. Yes, I just wanted to follow-up on something from your prepared remarks, you talked about being extremely well positioned to disproportionately benefit from the recovery in the Industrial market. I know you touched on EV a little bit, but maybe can you provide a little bit more specific detail there in terms of kind of that positioning?

--------------------------------------------------------------------------------

Benjamin Gliklich, Element Solutions Inc - CEO & Director [43]

--------------------------------------------------------------------------------

Yes. Look, we're a market leader in the markets in which we participate. We are continually innovating and on the bleeding edge of innovation to enable our customer's solutions. So when things pick up, we expect to be an active participant in the recovery and to be growing market share to see the benefit of the market share we've retained and grown in this downturn, when things pick up. We look at certain markets like the Asian automotive market, where we've been growing market share for many, many consecutive quarters since our -- since the combination of Alent and MacDermid. When that market comes back, the market share we've been gaining and retaining will, as we talk about, disproportionately benefit us. And so those are the types of things that we're referring to when we say that we want to be -- we'll get more than our proportionate share of business when things get better.

--------------------------------------------------------------------------------

Operator [44]

--------------------------------------------------------------------------------

This does conclude our question-and-answer session. I would now like to turn the floor back over to Benjamin Gliklich for any additional remarks.

--------------------------------------------------------------------------------

Benjamin Gliklich, Element Solutions Inc - CEO & Director [45]

--------------------------------------------------------------------------------

Thanks very much, operator, and thanks to all for joining the call and for your questions. We look forward to seeing you in the coming weeks and months, and again when we report results for the full year in 2020. Thank you.

--------------------------------------------------------------------------------

Operator [46]

--------------------------------------------------------------------------------

This does conclude today's program. Thank you for your participation. You may disconnect at any time, and have a wonderful day.