Q1 2024 Quanex Building Products Corp Earnings Call
Participants
Scott Zuehlke; Chief Financial Officer, Senior Vice President, Treasurer; Quanex Building Products Corp
George Wilson; President, CEO & Director; Quanex Building Products Corp
Julio Romero; Analyst; Sidoti & Company, LLC
Reuben Garner; Analyst; The Benchmark Company, LLC
Presentation
Operator
Good day, and thank you for standing by, and welcome to the First Quarter 2024 Quanex Building Products Corporation earnings conference call. (Operator Instructions) Please be advised today's conference is being recorded. I will now turn the conference over to your first speaker today, Scott Zuehlke, Senior Vice President, CFO and Treasurer. Please go ahead.
Scott Zuehlke
Thanks for joining the call this morning. On the call with me today is George Wilson, our Chairman, President and CEO.
This conference call will contain forward-looking statements and some discussion of our non-GAAP measures forward looking statements and guidance discussed on this call and in our earnings release are based on current expectations. Actual results or events may differ materially from such statements and guidance and Quanex undertakes no obligation to update or revise any forward-looking statements to reflect new information or events.
For a more detailed description of our forward-looking statement disclaimer and a reconciliation of non-GAAP measures to the most directly comparable GAAP measures, please see our earnings release issued yesterday and posted to our website.
I'll now turn the call over to George for his prepared remarks.
George Wilson
Thanks, Scott, and good morning to everyone joining the call. Before I start my discussion on the quarter. I'd like to take a moment to publicly thank Bill Griffiths for his many years of dedicated service to Quanex. Bill began his career with Quanex as an independent director in 29 when the Quantic CEO. resigned in 2013.
Bill was asked by the Board to take over as Chairman and CEO, and he held that role for more than six years. He retired as CEO in January of 2020 and then served as Chairman for the next four years. He was instrumental in transitioning Quanex from a largely commoditized metals company into a true building products. Manufacturing Company has focused on developing a culture of safety, continuous improvement and profitable growth positions us well for the success we are realizing today. Thank you again, Bill for your commitment, dedication and service to Quanex and its employees, customers and shareholders. We wish you and Iris all the best in retirement.
I'll now move on to my prepared remarks about our first quarter performance and our current outlook. Overall, the quarter played out as expected, revenues were down year over year as markets reverted to a more normal seasonal pattern and customer inventory levels declined as lead times and supply chains have improved. In addition, automatic index pricing mechanisms had a negative impact on revenue versus the prior year as raw material costs have declined, even with lower demand levels, we were able to realize margin expansion on a consolidated basis, mainly due to solid operational performance, holding discretionary pricing, lower stock-based comp expense and lower interest expense. We were very pleased with our operating cash flow generation, which enabled us to continue to pay down debt in the quarter where we are typically where we typically draw on our revolver.
With respect to the overall macro economic environment, we continue to believe we will see an uptick in demand in the second half of the year. And in North America, new housing starts, data has shown improvement and optimism is building around the prospect of lower interest rates later this year. If and when the Fed does take action to lower interest rates, we believe demand for our products will improve as customers gain confidence and choose to spend more money on housing in Europe.
We believe market improvements will occur at some point, but will lag North America due to the ongoing wars in Ukraine and Gaza and continued pressure on energy costs in these regions. But regardless of the demand equation we have shown over the past two years that the Quanex operating model is able to react quickly to produce favorable results. In addition, the long-term underlying fundamentals for residential housing continue to be very positive globally. Inflationary pressures have been mixed. Starting with labor costs.
We have seen a slowdown in the rate of wage inflation as hiring in most markets has slowed for the sourced materials that are most impactful to Quanex. We are seeing a stabilization in pricing and supply for aluminum, steel and resins we are still seeing input cost pricing pressures for films and engineered adhesives and some of the chemical feedstocks for our cabinet component products. We are now starting to see upward pricing movements for some of the hardwood species we purchase as lumber mills have reduced capacity in the market.
Finally, from a logistics perspective, we have seen an increase in international shipping costs due to the disrupted shipping lanes in the Middle East. As we look forward to the rest of this year and into next year, I'm still confident that we are well positioned to meet expectations and continue our track record of positive performance.
Our operations and supply chain teams are focused on servicing our customers and performing at a high level and are doing a fantastic job of generating operating cash flow from a growth and strategy execution point of view, our balance sheet is strong and ready to support growth projects as they arise. We continue to identify areas of opportunities to execute on our profitable growth plan, both organically and inorganically. Despite some short-term macro challenges and the uncertainty caused in an election year, we are in track to achieve all of our objectives.
I will now turn the call over to Scott, who will discuss our financial results in more detail.
Scott Zuehlke
Thanks, George. On a consolidated basis, we reported net sales of $239.2 million during the first quarter of 2024, which represents a decrease of 8.7% compared to $261.9 million during the first quarter of 2023. The decrease was mostly attributable to softer market demand and lower pricing in North America, mostly in our Cabinet Components segment as pricing held up in our fenestration sites, net income increased to $6.2 million, or $0.19 per diluted share for the three months ended January 31, 2024, compared to $1.9 million or $0.06 per diluted share for the three months ended January 31, 2023.
After adjusting for one-time items, net income decreased slightly to $5.8 million or $0.18 per diluted share for the quarter compared to $6.1 million or again, $0.18 per diluted share for the same period of last year. On an adjusted basis, EBITDA for the quarter decreased to $19.3 million compared to $20.5 million during the same period of last year. However, we were able to realize margin expansion of approximately 30 basis points on a consolidated basis. The increase in reported earnings for the three months ended January 31, 2024 was largely due to a decline in raw material costs, a decrease in stock-based compensation expense and lower interest expense.
Now for results by operating segment, we generated net sales of $148 million in our North American Fenestration segment for the first quarter of 2024, a decline of 3.3% compared to $153 million in the first quarter of 2023, driven by a decrease in volumes due to softer market demand. We estimate. The volumes in this segment declined by about 3% year over year, with pricing holding up relatively well. Adjusted EBITDA decreased slightly to $13.7 million in this segment compared to $15 million for the same period of 2023. Our Quanex custom mixing business, formerly LMI, continues to perform well. We're looking for ways to expand this business, both organically and otherwise.
Our European Fenestration segment generated revenue of $49.4 million in the first quarter, which represents a decrease of about 10% compared to $55 million in the first quarter of 2023. We estimate that volumes declined by approximately 12% year over year in this segment with pricing up approximately 1% and positive foreign exchange translation impact of about 2%.
Adjusted EBITDA increased and came in at $10 million for the quarter compared to $9.7 million in the first quarter of 2023. Pricing held up nicely during the quarter, and we continue to perform well from an operational standpoint, which led to adjusted EBITDA margin expansion of 250 basis points year over year. Normalized buying from our European spacer customers supported results as the inventory rebalancing projects that impacted the business last year are no longer present continued improvements in operational metrics, combined with sourcing initiatives and pricing carryover all contributed to realizing margin expansion.
In this segment, we generated net sales of $43.1 million in our North American Cabinet Components segment during the quarter, which was 21.1% lower than prior year. This decrease was driven by lower volumes and lower index pricing for hardwoods. We estimate the volumes declined by about 12% in this segment year over year with the remainder of the revenue decline versus Q1 of 2023 due to a decrease in price largely related to index pricing tied to the decline in hardwood costs. Adjusted EBITDA was negative for the quarter in this segment compared to $1.7 million in the first quarter of 2023. Positive operational execution is currently being masked by low volume, but we're hopeful for a rebound in this segment once consumer confidence is restored and the R&R market picks up.
Moving on to cash flow and the balance sheet. Cash provided by operating activities was $3.9 million for the first quarter of 2024, which represents an increase of 22.9% compared to $3.1 million for the first quarter of 2023. However, our free cash flow decreased for the quarter due to higher CapEx spend compared to the first quarter of last year.
Our balance sheet continues to be strong. Our liquidity keeps improving and our leverage ratio of net debt to last 12 months. Adjusted EBITDA was unchanged versus last quarter at 0.1 times as of January 31st, 2024. Excluding real estate leases that are considered financed leases under US GAAP, we are net debt free.
As George mentioned, we were able to prepay $5 million of debt during Q1, which isn't normal since we are typically a net borrower during our first fiscal quarter due to the seasonality of our business, we will remain focused on generating cash and paying down what little debt we have outstanding on our revolver. We will also maintain our focus on growing the company through organic, inorganic and innovative growth opportunities as they arise, while continuing to preserve our healthy balance sheet as always, the goal is to create shareholder value.
As referenced in the earnings release, based on conversations with our customers' recent demand trends in the latest macro data, we're now comfortable providing official guidance for fiscal 2024, which is as follows net sales of approximately $1.1 billion, adjusted EBITDA of $145 million to $150 million, depreciation and amortization of approximately $44 million to $46 million, SG&A of $128 million to $130 million. Interest expense of $3.5 million to $4 million, a tax rate of 20% and CapEx of $40 million to $45 million. In addition, our guidance for free cash flow is $85 million to $90 million for fiscal 2024.
From a cadence perspective, for the second quarter of this year versus the second quarter of last year, we expect revenue to be flat to down 2% on a consolidated basis by segment for the second quarter of this year compared to the second quarter of last year, we expect revenue to be up 2% to 4% in our North American Fenestration segment, down 2% to 4% in our European Fenestration segment and down 11% to 13% in our North American Cabinet Components segment. On a consolidated basis, adjusted EBITDA margin is expected to be down 100 basis points to 150 basis points in the second quarter of 2024 again compared to the second quarter of last year.
Operator, we are now ready to take questions.
Question and Answer Session
Operator
(Operator Instructions) Julio Romero, Sidoti.
Julio Romero
Hey, good morning, guys.
George Wilson
Good morning.
Julio Romero
Could you speak to.
Hey, good morning. Could you speak to what you're hearing from the OEM customers in regards to repair and remodel trends? And just talk about what you're hearing as to what can maybe improve demand in the second half of your fiscal year?
George Wilson
Yeah, the International Home Builder Show was last week and we spent a lot of time talking to many of the of our different customers and others throughout the segment. And I think the sentiment right now is that the back half of the year, we'll see a pickup on we've already seen new construction data start to show some improvement on. But, you know, everyone is convinced that the R&R demand it is there is pent-up and that with any movement in interest rates on the downward side, which everyone believes will happen at some point in the back half of the year that you'll see both new construction and R&R see an uptick. R&r will probably lag a little bit on to the new construction data, but everyone was extremely optimistic on what they see at the end of this year and going into next year.
Julio Romero
Got it. That's very helpful there. And then maybe can you speak to the guidance and what's embedded for the full year across the segments from a margin perspective? And how do you see kind of that trajectory playing out for the full year across the three segments?
Scott Zuehlke
I mean, we've mentioned a couple of times now that on a consolidated basis, margins will be pressured a little bit year over year 2024 versus 2023. But as a cadence through the year, we expect margins to improve as the year progresses, which is typical seasonality in our business volume leverage, operating leverage improves throughout the year and we expect the same this year depending on the quarter. I mean we gave some cadence for for 2Q will do the same for 3Q and 4Q as the year progresses. But as you're modeling, you can expect margin improvement throughout the year.
Julio Romero
Okay.
Really helpful.
There and then, Scott, the revenue guidance you gave for the North American Fenestration segment of up 2% to 4% year over year in the second quarter is a pretty nice step up sequentially from from Q1. Can you maybe just talk about what's embedded there from a price volume perspective?
Scott Zuehlke
Yeah.
I mean that again, typical seasonality, we start seeing a pickup towards the second part of the second quarter on price volume, I mean that volume is improving. That's most of it. We've been able to hold onto price for the most part we do expect expect some pricing pressure in the Finnish operation segments, both here and in Europe. However, volumes should start to improve, which will obviously help revenue and margin.
Julio Romero
Okay, great. I'll pass it on and circle back with any follow-ups.
Thank you.
Operator
(Operator Instructions) Reuben Garner, Benchmark.
Reuben Garner
Thank you. Good morning, everybody, and congrats to Bill on your retirement as you enjoy it. And George, congrats on your your move as well.
So I guess to start, it looks like a continuation of a trend that we've seen in the last several quarters is what's kind of implied in your guidance where we'll see continued gross margin expansion despite some volume headwinds and that looks like some pricing headwinds as well. But we're deleveraging on the SG&A. Why am I thinking about that the right way in one and two, is that is that largely driven by kind of the mix shift that you're seeing where cabinets is a lower gross margin business and underperforming at the moment? Are you still price cost positive? Just kind of walk me through how you get to that assumption.
George Wilson
So I'll give some general guidance there, Ruben. And first of all, thanks for your kind words for both Bill and I am you know, as we progress through the year, the improvement in margin is very tied to the uptick in volume. As you know, on some of our processes are continuing continuous type of extrusion process. So volume does play a big, big role in the gross margins of our business. I think we'll continue to see that and feel very comfortable. I think we're confident that we'll start to see some improvement in the volumes as well.
On the on the cabinet side of our business, we're starting to see a little bit of that. And again, as consumer confidence grows, and that's an area that tends to be focused on kitchen and bath remodels on. So we're pretty confident in the ability of all of our segments to grow to grow in terms of margin, the one that will be most pressured in Europe, and that's because of the continued softness in that market as well as some pricing pressure that they continue to face.
Reuben Garner
And I guess on that note, George, the cabinet side, I guess the optimistic outlook that you can see that business turnaround, the life of this for the fenestration business are definitely outperformed over the last year or so. What do you think is driving that? Is it simply was there pull-forward demand from COVID for cabinets and not necessarily in Windows or something else?
Dan, what do you think that the cabinet space is underperforming fenestration?
George Wilson
You know, I do think that there was some of the COVID pull forward. Obviously, I think a lot of people focused on some remodeling in their house when when you're constrained to being indoors or at least the work from home. I think we did see a lot of that. I think that that type of product tends to be a little more discretionary on the art side versus the fenestration, if you're at a point where you have to replace a window or a door and you're effectively going to do it, it's not as much as a discretionary spend to some extent it is, but not as much as the cabinet. So I think you're right, there was a pull-forward effect and there is some some differences in terms of the demand fenestration versus cabinets in that regard.
Reuben Garner
And can you point to I know you guys track the industry data pretty closely.
Like have you been outperforming in fenestration because of some of your internal initiatives and maybe there's less of that in cabinets to be able to kind of outperform the underlying market at this point.
George Wilson
As you know, in our mind, I think we worked hard to get some share on, I think, performance during the COVID period, having having used sourcing and having a supply chain. That's what I would say they've been very structured to protect our customers from shortages and outages of health of the duplicity of processes across multiple facilities continues to help on. So I think we've been able to take advantage of that aspect. Overall, though, as you know, we may be a little ahead of some of the peer groups, but generally in line.
Reuben Garner
Okay, great. Good luck, guys. I'll pass it on there, things.
George Wilson
Thank you.
Operator
(Operator Instructions) Steven Ramsey, Thompson Research Group.
Hi, this is Katherine Thompson calling in for Steven today. And Bill, not a lot of management play for many years and best of luck in your next chapter.
And following up just on a few questions today. Just within the US, all the components grew at separate US administration. Could you discuss why US, non penetration sales continued to show solid growth and the drivers there and overall contribution to your guide.
George Wilson
So the markets that are non fenestration on one of the larger ones we participate in the fencing market. And we also sell products into the solar market, which has had some pretty good demand and tends to be a little bit better on the profitability curve.
And then in addition, our QCM, the acquisition of LMI has been, you know, extremely helpful and a great addition to our group. And that continues to be a focus on many industries outside of fenestration. It's a it's a very diverse set of markets it serves and then they performed very strong within our first quarter. So and as you know, part of our strategy has been to both bolster and build out our fenestration product portfolio as well as expand and grow into adjacent markets. And I think what you're starting to see is and the realization of that strategy, and we will continue to build on those on a go forward basis.
Thanks. And then a follow-up on an earlier conversation. Just on residential R&R activity. Could you clarify what parts of or at least talk to the parts of the business, our total exposure that is to existing home sales versus new.
Scott Zuehlke
So on a consolidated basis were 65%, 70% weighted to R&R from our European Fenestration segment. And our North American Cabinet Components segment is definitely more weighted than that in total.
Okay, perfect. And then final question in the North American segment put toward a 9.3% EBITDA margin, so down 30 basis points year over year and off from kind of like mid 10s results in the prior three quarters. Do you have and you talked about early, but just kind of against that backdrop, do you expect any issues similar to the US prior like you did in the previous year over the next quarters and getting back more specifically to that low to mid teen range. Thank you.
Scott Zuehlke
And that have a lot to do with the seasonality of our business. And the low watermark is typically first quarter with a decent jump in each definitely in 2Q over 1Q and 3Q over 2Q, 4Q is typically could be better could be in line with 3Q just depending on weather and whether or not we hit winter earlier than expected, but yet we expect margins to improve sequentially.
Okay. And then just one final question. And we were also at the builder show best attendance. I think in history, a lot of M&A chatter and the most that I've heard in many years what do you what are the types of opportunities that you see from an M&A standpoint for Quanex? And are how are you balancing that versus repurchasing your own shares?
George Wilson
So I think right now, the way I would answer that, I think growth is a major focus for us on a go-forward basis. So I think both organic and inorganic expansion of existing product lines and growth into new businesses through acquisition is absolutely a priority, and we've spent resources and time pursuing both sides of that.
You know, I agree with you. I think we have seen more activity in M&A opportunities start to arise. I think the answer that I will give today is that we continue to remain very focused on the opportunities that we look at, we'll continue to check the boxes of either building out our existing markets with products and part of that adds to the portfolio or expand into new things and those opportunities have also got to improve the margin profile of the business.
So we're focused on on revenue growth through adding a products in existing or new markets that improve the profitability profile of Quanex, and we will stay true to that mantra. And we have a solid business plan with or without M&A. And so we will be very diligent on what we do on a go-forward basis.
Scott Zuehlke
And with everything that think our stock repurchases, I mean, we have a healthy conversation with our Board every quarter. It seems on capital allocation priorities the stock repurchase authorization we have in place. I think we have about $68 million left on that authorization. It's opportunistic. Clearly, our stock has performed pretty well versus our peers. So as we balance that with wanting to profitably grow this company, I think you can tell where the priorities lie.
Okay, great. And best of luck.
Scott Zuehlke
Thanks.
Operator
(Operator Instructions) Kevin Jamie, Thompson Davis.
Good morning, George and Scott. Kevin for Adam, maybe if we could talk a little bit about the pricing pressure that you guys noted on. Was it in line with what you saw in Q4? And do you think that it probably gets better or worse on a calendar year. It goes on.
George Wilson
And so I think the tenor of those conversations are very, very similar to what we saw at the back end of Q4 and obviously, the pressure is still there. I think we're starting to see signs of raw materials flattening out or in some cases may be starting to tick back up again on.
So I think all of the discussions will probably continue to be robust. I think the data behind it will give a continued ammunition to say in all the markets are what they are right now, and we're actually seeing signs of that on the pricing needs civil. So I think for a couple of quarters, we'll continue to have a many discussions as it relates to the pricing levels that have happened over the last few years.
Appreciate that. And then maybe we could talk about ARM. It looks like your sales were probably in line and margins were above on the margin strength that you guys saw. Any NOI Q1 surprised you at all?
George Wilson
No, I don't think so. I think it's been exactly what we would have anticipated in our growth and margin. To some extent in only there's a little mix issue. There's obviously operational performance and I'm extremely proud of our operational and our supply chain teams of really being ahead of the curve.
And so I don't think it's anything that we didn't anticipate
And maybe we could talk about and a little. You've talked about it a couple of times, but maybe in general, what's driving the overall margin outperformance with them?
The decline in sales?
George Wilson
So, you know, it's a combination of a couple of things. I think our price has been able to hold hold hold steady. I think our supply chains again, are doing a very good job of leveraging their buy across divisions, finding ways to continue to reengineer products and to enhance the margin of our products as well as in other to that, a little bit of a mix, a mix issue in the quarter to home.
We obviously no different than any other company with a broad set of portfolio will go up and down on the markets, I would say the other thing that adds to the profitability piece here is and we mentioned in my in my comments at the beginning, I think we've established pretty well over the last couple of years that our cost model flexes really quick and up or down.
And we've done a very good job of staying ahead of demand when it goes up and being able to take out costs faster than many when volume goes down. And I think the flexibility of that cost model is in play here, and that's what you're seeing.
We'd like to hit definitely showing up.
And then maybe one final one just on on. This is more modeling, but on a penetration, SG&A was a little bit higher. Was there any one-time items in that.
Maybe that just so.
Scott Zuehlke
I mean, net-net come into the top of my head. I'll look into it more and take it offline.
Perfect.
Sounds good. Appreciate the time guys.
Scott Zuehlke
Thanks.
George Wilson
Thank you.
Operator
Thank you. I'm not showing any further questions in the queue. I would now like to turn the call back over to George Wilson for any closing remarks.
George Wilson
Thanks, for joining today, and we really appreciate your time, and we look forward to providing an update on our next earnings call in May. Thank you.
Operator
Thank you for participating in today's conference. This does conclude the program. You may now disconnect, and everyone have a great day.
