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Edited Transcript of HWCC earnings conference call or presentation 9-Aug-18 3:00pm GMT

Q2 2018 Houston Wire & Cable Co Earnings Call

HOUSTON Aug 14, 2018 (Thomson StreetEvents) -- Edited Transcript of Houston Wire & Cable Co earnings conference call or presentation Thursday, August 9, 2018 at 3:00:00pm GMT

TEXT version of Transcript

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Conference Call Participants

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* Jim Pokluda

Houston Wire & Cable Company - President & CEO

* Chris Micklas

Houston Wire & Cable Company - VP & CFO

* David Nierenberg

Nierenberg Investment - Analyst

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Presentation

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Operator [1]

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Ladies and gentlemen, thank you for standing by. Welcome to Houston Wire & Cable Company's second-quarter 2018 earnings conference call. My name is Chris and I will be your operator for today. Joining us on the call today are Jim Pokluda, President and Chief Executive Officer and Chris Micklas, Vice President and Chief Financial Officer. (Operator Instructions).

Comments during today's call may include forward-looking statements. Any such statements are based on assumptions that the Company believes are reasonable, but subject to risk factors that are summarized in press releases and SEC filings. Forward-looking statements are not guarantees and actual results could differ materially from what is indicated in such statements. Any forward-looking statements speak only as of the date of the call and the Company undertakes no obligation to publicly update such statements.

If you did not receive a copy of the earnings press release that was distributed earlier this morning, a copy can be found under the Investor Relations page of the Company's website at www.houwire.com.

At this time, I would now like to turn the call over to Jim Pokluda, President and Chief Executive Officer. Please begin when you are ready.

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Jim Pokluda, Houston Wire & Cable Company - President & CEO [2]

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Thank you, Chris. Good morning, everyone and thank you for joining us on our call today. I will begin with an update of our second-quarter 2018 results; then I will pass the call over to our CFO, Chris Micklas, who will discuss our financial performance in additional detail.

We are very pleased to report quarterly revenue growth of 24.1% and EPS of $0.16. Market trends experienced in the first quarter of 2018 continued to improve in the second quarter and these results mark our fourth consecutive quarter of improved year-over-year financial performance.

Gross margin at 23.8% was also very good and increased 220 basis points from the second quarter of 2017 primarily due to strong pricing discipline and metals inflation. Q2 2018 transactional volume per day, which we measure as invoice count, increased approximately 1.4% versus Q2 2017 and about 7.8% versus Q1 2018. We estimate that sales results in our core business with services, maintenance repair and operations demand increased approximately 23% from the prior-year quarter and represented approximately 80% of our total revenue.

Similar to Q1, the primary drivers of this growth remained increased demand in the industrial and commercial construction markets, metals and minerals and upstream and midstream oil and gas markets. On a sequential basis versus Q1 2018, MRO sales increased 19%.

Strength in oil and gas markets continues to fuel industrial market activity. In Q2 2018, the US land-based rotary rig count increased to 1,098 from 802 in Q2 2017 and the price per barrel of oil increased to approximately $68 from the $50 level in Q2 2017.

Our products are used extensively in applications that support oil and gas exploration, extraction, transportation, storage and production and we are pleased that these markets have continued to perform well.

The offshore rig count at 19 at the end of Q2 was three less than the closing count in Q2 2017. On a sequential basis, however, that count increased 7 versus Q1 2018, which is encouraging because the work-related activities associated with rig reactivation creates demand for our high performance copper wire, steel wire roll and fabricated lifting products.

We estimate that project sales for the second quarter increased approximately 26% from 2017 and represented 20% of our revenue. On a sequential basis versus Q1 2018, project sales decreased 13%.

Our three primary end markets for projects include utility power generation and environmental compliance, industrial and infrastructure. Project sales in the utility power generation and environmental compliance market increased approximately 5% over Q2 2017 primarily due to fossil fuel plant upgrades. Sequentially versus Q1 2018, this market decreased 18%.

Industrial end-market project sales increased approximately 126% year-over-year and 3% sequentially and were led by recovering activity in oil and gas, general manufacturing end markets. Just a quick comment on the super sales growth. We have improved our process for capturing sales data attributable to the small and medium-sized projects that often occur in this industrial space, but in the past some of these projects may have been categorized as MRO sales.

You've likely heard me discuss this on prior calls, that being small projects possibly showing up in the O part of MRO sales, which is operations. With our improved process, however, although not entirely comparable, we are now better able to report these sales as smaller projects, which to some extent have contributed to the results I'm discussing now.

Sales in the infrastructure end market decreased approximately 13% year-over-year primarily due to decreases in projects for public works and public facilities projects offset by increases in demand from commercial and transportation end markets.

Our Q2 book-to-bill ratio was strong at 103.6 and the positive trends experienced in the second quarter continued into Q3. Gross margin and pricing power is holding steady and most economic data is positive and revenue is up nicely. Given the above, combined with our robust operating plan, our present outlook for 2018 remains positive.

Finally, I'd like to close my prepared remarks by commenting on our recent announcement that Bob Reymond has joined our Board of Directors. This is great news for our Company as Bob is an accomplished engineering and construction industry leader and I believe his extensive expertise in oil and gas and power generation capital projects will serve the interest of our Company well.

I will now turn the call over to Chris for a detailed analysis of our financial results.

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Chris Micklas, Houston Wire & Cable Company - VP & CFO [3]

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Thanks, Jim and good morning. In the second quarter of 2018, HWC earned $0.16 per share, up from breakeven in the same period of 2017 and $0.04 per share better than the first quarter of this year. This is the fourth quarter in a row of improved operational performance and we believe this performance trend is indicative of overall increases in industrial demand, improved economic conditions, as well as our Company's ability to execute initiatives from our growth plan.

Sales are $93.9 million, up 24.1% from the second quarter of 2017 and benefited from the increases in industrial activity, commodity prices and favorable product mix. Gross margin is 23.8% of sales, which is an improvement of 220 basis points over the same period last year. The year-over-year gross profit increase increased $6 million or 36.9% and improved 9.1% sequentially.

Operating expenses are $18 million, which is up 9% from the second quarter of 2017. This increase is a result of the improved sales volume in gross margins, which drove increases in variable operating and selling expenses. The operating profit pull-through for the quarter as defined as change in EBIT divided by the change in gross margin was 75.5% and demonstrates very good expense control and leverage.

Overall, operating expenses as a percent of sales are 19.1%, which is an improvement of 270 basis points from the second quarter of 2017, an improvement of 120 basis points from the first quarter of 2018.

Operating income is $4.4 million or 4.7% of sales. This improved materially from the operating loss of $162,000 in the second quarter of 2017. These operating results are the strongest since the first quarter of 2015.

Interest expense increased by $129,000 from the first quarter as the average interest rate increased 40 basis points from 3.3%. As a result, pretax income is $3.6 million, which is $4.3 million better than the pretax loss in the second quarter of 2017 and 37.8% above the first quarter of this year.

Our effective tax rate at 28% was favorably impacted by the 2017 Tax Act. HWC historically has been a full rate taxpayer and we estimate based on present information, the change in the federal rate translates to an ongoing effective tax rate in the range of 26% to 28%. While there are still aspects of the 2017 Tax Act that have not yet been quantified, based on our current understanding, we do not believe these changes will have a material impact.

Now turning attention to the balance sheet, cash flow and liquidity items. During the second quarter, we generated from operations $400,000 of cash and our debt ended the quarter at $80.1 million, which is flat with the previous quarter. An additional data point, which may change by the end of the quarter, is that, at the end of July, our debt is down $3.3 million to $76.8 million. At the end of the second quarter, our working capital was $131.5 million, up $3 million from the first quarter of 2018.

The largest elements of the working capital changes are an increase in accounts receivable of $8.1 million, which is consistent with the sales growth as our days sales outstanding remained flat at 53 days. A decrease to below year-end 2017 levels of $5.6 million in inventory and all other account activity was normal and had minimal impact.

Cash paid for capital expenditures during the quarter was $289,000 and is $741,000 year-to-date. We anticipate that the total 2018 spend of approximately $2 million, which is in line with the 2017 spend.

We remain in compliance with our covenants of our $100 million asset-based credit facility. At the end of the quarter, we had $20 million in available capacity, which is adequate to fund ongoing operations.

Our performance and results in the first half of 2018 have been encouraging. Moving further into the second half of the year, top priorities remain driving profitable growth and executing disciplined expense management, plus to continue multiple projects involving streamlining order fulfillment, efficiency maximization and improvement in the utilization of working capital.

We are pleased with the progress we have made to date and look forward to reporting additional success in the third quarter. This concludes the prepared remarks and at this time, I will turn the call back over to the operator.

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Questions and Answers

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Operator [1]

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(Operator Instructions). David Nierenberg, Nierenberg Investments.

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David Nierenberg, Nierenberg Investment - Analyst [2]

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Hey team, congratulations on another sparkling quarter. Great job. I wanted to get an update from you please on how Vertex is performing for you?

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Jim Pokluda, Houston Wire & Cable Company - President & CEO [3]

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Sure. Vertex performance has continued to recover with the general market economy. So we are happy with that. We've done a lot of really good things since acquiring the Company, worked hard on inventory profiling, product category investment, sales talent training, supply chain, supplier relationships, etc. Really rolled our sleeves up and got to work.

As I have said, we've always -- we knew that we had a good company, a company with solid bones and infrastructure and we've been giving it a lot of attention and they've responded. I think that the morale is good. People are excited to be part of our team and the markets have helped, so we are pleased. I am pleased with what's happening, but that doesn't mean that I'm satisfied or the management at Vertex is satisfied. There is a lot more to go. This is a really big end market, total available end market depending on how you look at it, $2 billion plus easy, $2.6 billion if you round up. So a lot of opportunity and I remain very bullish, David, on its outlook.

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David Nierenberg, Nierenberg Investment - Analyst [4]

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Great. In the same vein, it was encouraging to hear about the sequential growth in the offshore rig count. I wonder if you could amplify a bit on the impact that that is having on that part of your business. At the same time, we have been reading a lot about how the combination of higher commodity prices and lower exploration and production costs offshore are leading some people to claim that production costs now may be approaching production costs in the Permian, which should be positive for this part of your business.

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Jim Pokluda, Houston Wire & Cable Company - President & CEO [5]

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Certainly. At first glance, when you look at the count on a year-over-year basis, the emotion would be kind of flat, like gee whiz nothing is happening. We are exactly where we were last year. But in my view, that's not the case at all. The count in Q1 was definitely not anything to be excited about, but as you've commented and we commented in our prepared remarks, it has risen nicely in Q2 and that has bode well for our products that are fabricated for offshore use.

It takes a lot of investment to get these rigs up and running again, not only the rig itself, but also the vessels that service the rigs. So we have seen some benefit there and it's been a long time coming. I'm as pleased with the performance in offshore markets today as I have been in several years.

Now your comment about what's happening long term is a really -- that's a really, really big subject and there are, as you know, decidedly different points of view here. I will tackle it at a high level. The fracking renaissance has brought tremendous opportunity, abundant opportunity that people could have never contemplated 15 or 20 years ago.

So what has that done? It's really impacted the conventional non-OPEC drilling activity. If you look at the high macros, investments in conventional oil recovery, non-OPEC 5 to 10 years ago, it's like $1 trillion. In the past five years, it's been half of that, $500 billion. Why? Because people are focused on the ease of extraction and cost in the hydrocarbon resources in the frac plays.

There is a lot of data out there that says this supply stack is abundant, but will eventually begin to dwindle. Then what do we do? Meanwhile, worldwide consumption of oil continues to grow. That's something to think about. That's a subject that appears to be largely overlooked in the industry.

Half the investment today in conventional oil or gas recovery that we had years ago because it's been replaced by fracking. Now is fracking going to go away? Well, I certainly don't think so, but to somewhat abandon or forget about conventional resources comes with risk. And recently, the past couple of months, there has been a fair amount of buzz about that.

One field in particular, I mean I was astounded by this, the Johan Castberg field off the coast of Norway in the Arctic Ocean. Because of improved technologies, use of existing infrastructure, cost-cutting initiatives, they are able to extract oil as a profitable investment as low as $35. That is outstanding. I mean you can get oil out profitably in the Permian for $20 and on the periphery of the Bakken for $20, but a lot of that oil is only profitable at $40, $50 and above.

So the notion that conventional drilling is dead, we will never see it again, it's not going to be profitable, I don't know. That's a little bit -- that's kind of a long argument to swallow. There will be a lot more that comes out on this and it's very interesting to think about, but as I look at the long term and the macros around the long term, all of that will benefit our Company.

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David Nierenberg, Nierenberg Investment - Analyst [6]

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Well, we fully agree with that assessment and it seems that it may be possible that the benefits of using increased proppant in the Permian are dwindling relative to the great productivity benefits of the previous three or four years while those who are offshore have been making the same kind of productivity developments that onshore was making earlier. So it's nice to see this business coming back for you.

Let me just ask one final question and then I will get out of the queue. It's gratifying to hear that at least in the month of July you were able to begin to apply free cash flow to reduce your borrowing line in a rising interest rate environment. Having said that, I have to acknowledge that the extraordinary politically-driven volatility in the market price of copper probably does create occasional opportunities for you to buy inventory that you want at surprisingly advantageous prices.

So could you and Chris please share with us the approach that you take to taking advantage of the lower price of copper at the same time managing your borrowing availability?

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Jim Pokluda, Houston Wire & Cable Company - President & CEO [7]

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Yes, certainly. I will talk on the copper subject and then I will flip it over to Chris who can talk a little bit about debt and cash flow and those sort of things.

Yes, on the one hand, I'm not too happy with copper carrying around a 2.7x handle versus the 3.20 it had not too long ago. But keep in mind, we are an average cost accounting treatment company, so whether copper goes up a lot or goes down a lot, and there are puts and takes there and good things and bad things in both those scenarios, it takes a while for those market moves to find their way into our inventory value.

Nonetheless, when copper drops, products are less expensive. But to directly answer your question, we really don't try and time our purchases based on copper. That's a death trap in my experience. So we just don't do it.

What we do do is something I have chatted with our audience about in the past is, at the end of the quarter and at the end of the year as suppliers are trying to get to their numbers, they get a lot more aggressive and I've talked about taking that bait on occasion and it usually happens in Q4. So in those types of events, we will focus more attention on taking care of -- taking advantage of really good deals, but in the present market, as much as I'd like to tell you that we are trying to time something, I just think that that is a pretty risky bet.

My objective is to buy, and I know you are not suggesting this, but our objective is to buy based on our market outlook, demand outlook and what is necessary to service our distributor customers. Chris?

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David Nierenberg, Nierenberg Investment - Analyst [8]

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That's a great answer.

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Jim Pokluda, Houston Wire & Cable Company - President & CEO [9]

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Okay, super.

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Chris Micklas, Houston Wire & Cable Company - VP & CFO [10]

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And yes, I was just going to say, based on my experience, trying to time the market is difficult and the other piece to it is it raises your cost to operate because you wind up having to pull in or push out and it confuses operations. So the better way to approach this problem or situation with copper going down or opportunities is to flow your inventory more efficiently and therefore you take advantage of operational efficiencies at the same time you don't stress your balance sheet with quick changes up or down. So Jim and I are in total agreement on how to handle the movements in commodity prices.

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David Nierenberg, Nierenberg Investment - Analyst [11]

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That sounds great. Again, I will end where I began, another great quarter. We have talked about how recovery of the economy, recovery of commodities and the necessity for many reasons of infrastructure investment would create an opportunity over time for this Company to get their quarterly revenues back above $100 million and over time drive earnings per share back above $1, which is where you guys were in the several years in the last upcycle and your recent performance makes me feel that I'm not smoking something that, knock wood, you keep executing, the economy remains good, you are going to get there. So thanks a lot.

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Jim Pokluda, Houston Wire & Cable Company - President & CEO [12]

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You are welcome, David. Laser-focused, heads down, working hard. Now you were kind enough to say that you would jump out of the queue. You may be the queue, so if you have anything else, I may hear from you in a second; otherwise, we will just open it up to any other questions.

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Operator [13]

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And I am not showing any further questions at this time. I would now like to turn the call back to Jim Pokluda for any further remarks.

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Jim Pokluda, Houston Wire & Cable Company - President & CEO [14]

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Thank you, Chris. Thanks to all our team members for their continued hard work and dedication to the Company. To our shareholders, we appreciate you joining us on the call today and look forward to success in the period ahead. Good day, everyone.

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Operator [15]

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Ladies and gentlemen, thank you for participating in today's conference. This does conclude today's program. You may all disconnect and everyone have a great day.