Q2 2024 Unifi Inc Earnings Call

Participants

Al Carey; Chairman of the Board; Unifi Inc

Edmund Ingle; Chief Executive Officer, Director; Unifi Inc

AJ Eaker; CFO & EVP; Unifi Inc

Anthony Lebiedzinski; Analyst; Sidoti & Company, LLC

Presentation

Operator

Good morning, and thank you for attending Unifi's Second Quarter Fiscal 2024 earnings conference call. Today's conference is being recorded and all lines have been placed on mute to prevent any background noise. (Operator Instructions)
Speakers for today's call include Al Carey, Executive Chairman; Eddie Ingle, Chief Executive Officer; AJ Eaker, Chief Financial Officer. During this call, management will be referencing a webcast presentation that can be found in the Investor Relations section of unifi.com. Please familiarize yourself with page 2 of that slide deck for cautionary statements and non-GAAP measures. I will now turn the call over to Al Carey. Al?

Al Carey

Thank you. Good morning, everyone, and thanks for joining our call this morning. I'd like to begin this call by telling you a little bit about some actions that we're taking to improve the long-term long-term performance of the Company and allow us to reach the potential that we believe that we've got.
I'm not going to speak about the Q2 results as Eddie and AJ are going to take you through those in just a few minutes the only thing I'd say about this quarter, too, is that it's right about what we told you where we told you it would be during our last earnings call, we continued to experience the softness in the apparel category and the high inventory levels in that supply chain. However, there are signs of a gradual pickup in our sales, and that should continue as we go through the balance of fiscal 2024. So for the next six months, the industry has had a solid end of the year. Apparel sales inventories appear to be pretty much back to pre-COVID levels.
Now for the last 12 to 18 months, it's been a very difficult period. We've looked at we've had to deal with the macro issues that are affecting the apparel category in our volumes. But as you have heard before, don't waste a crisis and we're not going to come. We found some weaknesses in our business as we've gone through the last 12 months. And we think that we can turn those into opportunities for growth if we take the right actions. And that's exactly what we've done and it's actually already underway. We did a deep dive with our organizational structure and the processes and the costs that are associated with those. And we are taking out significant costs and improving our operational efficiencies in North America. Now our intention is to take a large portion of those savings from this profitability improvement plan and reallocate some of those to improve the profitability of our North American operations to invest in product innovation for reprieve and to become less dependent on the apparel category by further penetrating other end use markets. Some more to come on those priorities in both Eddie's and Ajay's comments, but we've made good progress on this so far. We began the effort in Q2, probably around November December. We've taken substantial actions already on the headcount front. And most of these actions that were taken in this profit and this productivity and profitability improvement plan should be completed by the end of Q3, a few actions trickling into Q4. Most likely we expect that the results will be reflected mostly in the new fiscal year coming, but even a little bit into Q4, perhaps And one other thing I'd like to add, we've had several young leaders in our organization that will be elevated to key roles in the company as a result of these changes they were responsible along with Eddie for developing these plans. And now they will be responsible for the execution of those plans, which gives us all a lot of confidence in what we're going after. So let me turn it over to Eddie Ingle right now, our CEO, who will take you through details on all of this.

Edmund Ingle

Thanks, Al, and good morning, everyone. Because I mentioned I'm going to talk about the second quarter fiscal results, which were in line with our expectations, but were negatively impacted by the ongoing inventory destocking challenges that we continue to see in the apparel industry and its supply chains. However, we remain optimistic that we will begin to see demand normalization in calendar year 2024.
As I mentioned we are continuing to take proactive actions to control costs and improve efficiency of our operations in order to strengthen the Company's position and improve results. Initial impact of these actions are beginning to show in the underlying performance of the business as we delivered meaningful improvement in gross profit performance in the second quarter.
If you turn to slide 3 for an overview of the period, we recorded $136.9 million. Net sales during the second quarter were essentially flat compared to $136.2 million in the second quarter of fiscal 2023. Higher sales volumes were largely offset by lower average prices due primarily to lower raw material costs. Our underlying performance has stabilized as the global apparel inventory destocking should be nearing its end, allowing us to make more strategic decisions in how we position the business for optimal performance while at the same time maintaining the ability to meet the needs of our customers.
In the Americas segment, we saw modest improvements in volume. Though sales levels remain below. Our historical averages can be mainly attributed to continued weakness in apparel demand in the Americas. We expect to continue to take share in calendar 2024 and benefit from the exits of one of our primary competitors in the region that we've mentioned in prior calls.
In Brazil, we continue to see improved performance, though our strong sales volumes and increased gross profit were partially offset by the continued unfavorable pricing dynamics from competitive imports in Asia. While we continue to face challenges with the apparel demand, our results were positively impacted by a rich and diverse sales mix from two operations. We continue to evaluate our expense structure and have been proactive in identifying opportunities to generate efficiencies and improve performance across the business. We spent the last year taking proactive strategic actions aimed at reducing ongoing costs and optimizing operation operations to enhance profitability in recognition of the current environment. We further bolstered those initiatives to the new profitability improvement plan we announced last night. This plan is expected to provide over $20 million in cumulative profitability benefit moving forward, which will put us in a stronger position to leverage the anticipated recovery in apparel demand in calendar 2020 for the first part of this plan, focused on realigning our resources, reducing our headcounts and resetting costs primarily in the US. This has allowed us to significantly lower our variable operating expense across both production and administrative functions. These actions will be completed in this quarter ending March 2024. And as a result, we anticipate a reduction in expenses by approximately $2.5 million per quarter on a run rate basis beginning in fiscal 2025. While the execution of this plan came with very difficult decisions. We are confident that these changes will lead to a substantial improvement in profitability and operating profile of the business going forward, we believe unifies a robust foundation for future growth and innovation. And the second part of our plan is aimed at expanding our gross margins through the transformation of our sales process. And the approach we've taken includes streamlining processes enhancing inventory, mine management and realigning resources to boost efficiencies.
Once completed, we expect to see a $6 million annual improvement in our gross profits, which will phase in throughout the rest of the calendar year.
We plan to strategically invest these cost savings, as Alan mentioned, and increased profits into the areas of our business. That promise additional revenue and margin enhancing opportunities. This reinvestment will not just bolster our traditional apparel market penetration, but will also enable us to explore and capitalize on new market segments.
Innovation remains at the core of our strategy and leveraging our innovation capabilities in new markets is essential to unlocking our growth potential. We will continue to allocate resources and make investments to develop new and innovative products that expand our brands in new categories, particularly in the areas of our established reprise platform as well as our emerging beyond apparel initiatives, both of which we believe have significant growth opportunities in tandem with our operating realignment, we have made a number of strategic appointments across our leadership team to drive further growth and focus and innovation at Unify. And I'm very proud to make these announcements as leadership development has been a priority for our team and the promotion of these leaders onto our executive team is well-deserved. So these series of important decisions to streamline operations and realigned leadership team to maximize our growth and profitability profile going forward, we are fortunate to have A.J.'s financial expertise and sophisticated accounting and business acumen. He brings a robust knowledge of our operational and financial processes and has been a critical driver of our strategy over the last few years. These skill sets, coupled with his abilities as a leader of our finance team separated him throughout the search process as clearly the best candidates.
Next, Meredith Boyd has appointed been appointed Executive Vice President and Chief Product Officer. Meredith has joined, unifying 27 has held progressively senior roles throughout our organization, including our manufacturing operations from sales and business development, where she had direct customer and industry interactions and in product development where she was integral to our innovation initiatives for the last three years, Meredith and Meredith has served as our Senior Vice President of Sustainability, technology and innovation for contributions and that capacity has been pit of a pivotal to our international growth and the expansion brand of the reprieve brand and value added product technologies. We will leverage Meredith proven success and international impact by having her lead all innovation, plant, technology, marketing and business development. We expect this organizational change to be critical to promote our global growth initiatives. Brian Moore will take on the role of Executive Vice President and President of Manufacturing, Inc. Brian started his career at Unifi back in 1993 and moved to Asia for UniFi in the early two thousands for about 15 years. Brian gained additional experience in the private equity world returning to UniFi at the beginning of 2020. Most recently, he has served as the Senior Vice President of Direct Sales and Operations. Brian has extensive experience and successful leadership and sales and operations are invaluable to our Americas footprint. Greg Sigman, our General Counsel and Corporate Secretary has also been promoted to Executive Vice President and will continue to consume more and strategic leadership responsibilities, including the management of our Government Affairs and Sustainability functions. This refreshed leadership team is central to our growth strategy and each has exemplified a commitment to innovation and market leadership over their 10 years with the Company.
On behalf of the Board, I'd like to congratulate each leader.
Turning to Slide 4 to discuss reprieve in marketing. During the second quarter, reprise represented 33% of sales, marking a sequential quarter and year over year increase as a percentage of net sales, sales of reprieve have been adversely affected by the current economic challenges in China and a general downturn in apparel production. We expect a rebound in reprise sales. Once China sees improvement in economic conditions and apparel demand, we remain fully confident in the demand for sustainable fibers and Reprise brand's position as a leader in the industry on the marketing front, our focus remains on elevating our flagship brand. Reprieve were thrilled to announce that this week reprieve I once again have our present presence at the WM. Phoenix Open the brand teamed up with WM and Peter Millar to convert water bottles like those collected last year's events into a special edition PDM on our 2020 for WM Phoenix Open apparel collection that will debut at the upcoming events, and we are honored to be part of such an exciting collaboration at a nationally covered event.
I will now pass the call over to AJ to discuss the financial results.

AJ Eaker

Thank you, Eddie.Before I discuss the financial results, I'd like to recognize the promotions and achievements of Brian Greg and Meredith I look forward to working closely with these team leaders and our entire global team as we chart a path for a more profitable and successful Unify.
The results this quarter were better than our Q1, despite including the usual scheduled seasonal shutdowns. And we continue to operate in a weak demand environment.
In addition to the operating results that we'll cover on the next several slides, we recorded the following unfavorable impacts of $1.3 million of bad debt provision to recognize financial difficulties for a customer in our US market, $5.1 million in restructuring costs, which includes $2.7 million related to the dissolution of an unprofitable joint venture and $2.4 million of severance costs.
Beginning with slide 5, we have provided the year-over-year comparison on net sales and gross profit for each second quarter. Consolidated net sales were flat as the decline in pricing, which has started to stabilize in the current fiscal year was primarily impacted by lower raw material costs year over year. Volume remains seasonally strong for the Brazil segment. Although Chinese imports continue to pressure selling prices, the Asia segment continues to maintain a strong pricing and margin profile from growth in the REPRISE brand and several key customer programs, which is helping to offset the impact on net sales from the volume weakness.
From a gross profit perspective on slide 6, the lower raw material costs and variable cost management efforts provided for overall improved profitability. However, the seasonally lower volume and weak apparel demand environment in the Americas, combined with the selling price pressures in Brazil continued to unfavorably impact gross profit.
Turning to Slide 7. For a sequential sales comparison, we achieved a similar volume level compared to the first quarter. Despite the impact of domestic holidays, sales volume and dollars were generally flat, although seasonally impacted by the normal holiday period for the Americas and Brazil.
Slide 8 displays an increase in gross profit on a sequential quarter basis as variable cost management benefited the Americas and Brazil segment. I'll now make a few comments on our balance sheet and liquidity position from slide 9 before passing the call back to Eddie for his closing commentary.
During the quarter, we continued to focus on working capital management and cost controls. As you've heard from Eddy earlier, net debt increased by $6.8 million from the previous quarter and $2.8 million from the prior year end, primarily due to the working capital needs of the business and the continued weak demand environment.
Our CapEx spend of $3 million in the second quarter mirrored the outflows in the first quarter as we await anticipated recovery in apparel industry demand before those levels are lifted, you were you will recall that we began an 18-month pause on our texturing machinery purchases beginning in March 2023 and in December 2023, we extended this pause for an additional 12 months. We continue to remain confident that our business is well positioned for realizing profitable growth opportunities when the apparel industry and its supply chains normalize, especially with the recent actual actions outlined by out and Eddie earlier.
I will now pass the call back to Eddie to take us through the last slides of the presentation and make some final comments.

Edmund Ingle

Thank you, A.J. I'd like to turn your attention to Slide 10, before turning the call over to our Q&A session.
Despite the ongoing challenges in the apparel industry, we have taken and will continue to take the necessary strategic actions to adapt to the current environment and also position UniFi for long-term success. Our focus remains steadfast on driving efficiency, enhancing profitability and seizing the growth opportunities on the horizon, particularly in our innovation, innovative reprise and beyond apparel initiatives, we believe we are positioned to expand our global market share, and this has already taken place in the Americas, and we expect to gain a meaningful volume in capture a significant portion of this opportunity as we move through the first half of calendar 2024, strategic alignment of our resources and new appointments to the leadership team combined with the anticipated recovery in the power industry on the horizon would put us in a position of strength and growth going forward as we continue to implement cost-saving measures and invest in areas with high growth potential, we are confident in our ability to deliver value to our stakeholders.
Now turning to the last slide 11, our forecast for the third quarter of fiscal 2024 is as follows. Net sales between $149 million and $154 million dollars, adjusted EBITDA between minus $2 million and $1 million, capital expenditures between $4 million and $5 million, and the effective tax rate is expected to demonstrate continued volatility.
As we look ahead, we remain cautiously optimistic that our markets are positioned to rebound in calendar 2024, and we expect to deliver quarterly revenue and earnings improvement on a sequential basis. We are very confident in our position as a partner of choice to brands and customers across the globe. And we believe we have the right short and long-term strategy to drive value for our stakeholders, but that we will now open the line for questions. Thank you.

Question and Answer Session

Operator

(Operator Instructions) Anthony Lebiedzinski, Sidoti.

Anthony Lebiedzinski

Good morning, and thank you for taking the questions. So first, congratulations to AIG and others on their well-deserved promotions. So I guess your first question is just wanted to get a better understanding of the volume and pricing dynamics. I know you guys talked about the lower material costs impacting that, but maybe if you could just be a little bit more specific as to what happened in the second quarter, kind of what's embedded in your third quarter guidance from a volume and pricing perspective? And how should we think about these two issues are on a longer-term basis.

Edmund Ingle

I'll take that, Anthony. thanks for the call, and thanks for joining us today. And you have to to was obviously impacted by this seasonality of the Christmas holiday in both the Americas and in Brazil. And we I'm pleased to say in Brazil, we are we are seeing very strong volumes, but the pricing, as we mentioned on the call, is significantly impacted by the the Chinese environments as they seek to find opportunities and sell textured polyester outside of China. We're not expecting to see pricing improve significantly in Q3 in Brazil, but we do expect it to improve somewhat and the volumes will continue to get stronger as we move through the quarter and get away from any seasonal impacts in Asia. As we moved through the quarter, we did see an improvement in our mix, which really improved the average price in that in that region. And the volumes are coming back slowly, as we mentioned on the call, and it's driven primarily by the some of the brands really getting to the end of this destocking process which we're very excited about in the U.S., we have a dynamic pricing structure, and we've been and reacting to that to the needs of the customers as the raw materials have come down. And I am very excited about what will happen in Q3 because all of the inventories of that competitor that went out should be have been eliminated by the end of Q2 and our volumes should improve, pricing will still be under pressure and raw materials have been stable. So our margins, as we move through the quarter are expected to and certainly improved slightly, but more importantly, our volume is going to improve as we move through the quarter.

Anthony Lebiedzinski

Thank you for the thank you for those details, Eddie. So on. So I guess as far as your your announcement about that, your cost improvement plan. So I know you guys have talked about moving beyond apparel for a while so that as you look to invest and margin accretive growth opportunities. I guess maybe maybe what's new here in this plan that you that wasn't in the prior plan as far as moving beyond apparel, maybe maybe you could talk about maybe some low hanging fruit opportunities and which your vertical markets you think will take longer to penetrate.

Edmund Ingle

We have been talking about beyond apparel and even go back to our Investor Day two years ago. What I am, I can say we are not at liberty to disclose exactly the details, but we are very much focused on two segments here in the US, the automotive segment and the home, particularly in mattress. And we are seeing in opportunities there that we expect to grow in the coming quarters. Part of the changes that we made in the leadership was to create an organization that was very focused on innovation and growth in these beyond apparel areas. And as these new leaders get seven in the road, you're going to be hearing more about the results of that. But certainly the innovation, coupled with reprieve in these new markets are going to be the targets and are the targets. And the challenge we have is getting our costs right, which we have done now and getting taking those additional dollars and funding these these growth opportunities. So the view of the organizational changes along with additional monies available for these growth opportunities are going to be the fuel for these initiatives.

Anthony Lebiedzinski

That sounds good. Okay. And then. So as far as the cost reset and headcount reductions, was that mostly in the corporate office or more in the in your facilities or was it kind of across the board are just more targeted cuts.

AJ Eaker

Anthony, it's A.J. Thanks for the comments earlier on the question. So the fee reductions that we took in terms of the cost reset are very central to the U.S. We certainly have some of those impacts to corporate duties, corporate office as well as some of our manufacturing facilities. And the vast majority of those relate to salaried.

Anthony Lebiedzinski

Understood. Okay. Thank you, A.J.
Okay. And then just switching gears on so looking at Asia. So obviously that is a high reprieve market. It's the market we have the most the reprieve or penetration. A lot has been talked about China as far as the post-COVID recovery being slower and a lot of people would have expected. Just wanted Wondering if you guys could comment on China. What are you seeing there so far? What's your expectation here going forward?

Edmund Ingle

As you said in several calls before, Anthony and new discussions with you, we we see Asia as a for us for our business as a feeder to Western Europe and to the U.S. brands. So the challenge we've had with the Asia environment is that it has cause in Chinese market to trying to find other markets for the textured polyester, which is impacted, particularly from our Brazil operation. But as these brands have and retailers have reached there there normal inventory levels. We are beginning to see the business come back and that is sort of somewhat separate from the difficult environment. Economic environment is that's still occurring in China. Now as China's economic economy recovers and the their capacity utilization increases, they will very quickly as they normally have done modify their pricing methodology and that should improve what happens in Brazil, and it also should improve some of the business that we have in China for China. So we're still a wait and see for China. I mean a lot of people looking at it. But we are hearing as you are things that the Chinese government are doing to trying to kickstart the economy there. And that should benefit us somewhat also as well as the destocking that has been more or less finalized now in the industry.

Anthony Lebiedzinski

Got you. Okay. And it sounds like you guys are seeing, I guess, some green shoots in terms of inventory restocking or not? Yes. I mean, obviously, we've been in this prolonged period of destocking. So are you seeing actually signs of actual restocking or are we are we there yet or just or hope to be there in the next quarter?

Edmund Ingle

We are seeing signs. But I would tell you that the weather is because of the the interest rates or because the brands retailers are trying to be a little different. There is a lot more smaller, smaller orders, more frequent orders than we would normally see in the past. And so I think there's a cautiousness in the brands and retailers not to get back to having excess inventory. That is changing how they sell. But I would tell you over the last several months, we have seen some business in Asia, particularly and improve and as they move through the quarter. So we don't think the Chinese Lunar New Year is happening in February, but we do expect to continue to see that growth as we move into the March and the phone, the rest of our our fiscal year. So it's like we said in the call, we're cautiously optimistic about the brands, retailers getting back to normal, but I think they are still a little cautious about what inventory they have and how they respond to the consumer demands. But we're going to be ready and we are ready to react and whatever way they do, whether they're going to spike it or just be very cautious. We'll be ready for the growth that we're seeing.

Anthony Lebiedzinski

Sounds good. Okay. And just a quick follow up on that. So as you're seeing these smaller, more frequent orders I guess how are you dealing with pricing for those orders? Yes, I was just making sure that you guys get the the margin that you guys deserve to get.

Edmund Ingle

As part of this and sales transformation, and we are continuing to match our pricing to the value we're giving sorry, we are changing our approach as a market is change in their demand because in the past, people would want to have more stable pricing for longer programs since that's not the case we are reacting and our pricing is much more targeted based on the value that we're bringing to that product. And as we move through the next two quarters, we're going to see the benefit of that from a profitability point of view and a margin perspective. (multilple speakers)

Al Carey

Just I'll throw on one more comment in this efficiency move would have taken out close to 20% of the mark of the line items. And most of those are line items that were very low volume, low runtimes, low margins. And that effectively gets us apart a positive margin mix that's contributing there, too. So some of these items that have been around forever, you know, and then finally, Ajay and his team when after.

Anthony Lebiedzinski

Well, thank you for that additional detail. And thanks very much and best of luck going forward. Thank you.

Operator

Ladies and gentlemen, as we have no further questions at this time, we will conclude today's conference call. We thank you for participating, and you may now disconnect.