Griffon Corp

NYSE:GFF

Earnings Call Transcript 2020-Q2

[Operator]

Greetings and welcome to Griffon Corporation’s Second Quarter 2020 Earnings Conference Call. At this time all participants are in a listen-only mode. [Operator Instructions] As a reminder, this conference is being recorded.

It is now pleasure to introduce your host, Mr. Brian Harris, Chief Financial Officer. Please go ahead.

[Brian Harris, Chief Financial Officer]

Thank you. Good afternoon, everyone. With me on the call is Ron Kramer, our Chairman and Chief Executive Officer. Our call is being recorded and will be available for playback, the details of which are in our press release issued earlier today.

As in the past, our comments will include forward-looking statements about the company’s performance based on our views of Griffon’s businesses and the environments in which they operate. Such statements are subject to inherent risks and uncertainties that can change as the world changes. Please see the cautionary statements in today’s press release and in our various Securities and Exchange Commission filings.

Finally, some of today’s remarks will adjust for those items that affect comparability between reporting periods. These items are explained in our non-GAAP reconciliations included in our press release.

Now, I’ll turn the call over to Ron.

[Ron Kramer, Chairman, Chief Executive Officer]

Thanks and good afternoon everyone. Let me start by saying, I hope that all of you and your families are safe and healthy. Griffon entered this unprecedented COVID-19 pandemic from a position of strength on an operational and a competitive basis.

Our positive momentum, along with enhanced liquidity and a strengthened balance sheet, enable us to manage the near-term effects of the current environment, while continuing to make the necessary investments in our business to execute our strategic growth plan and drive long-term shareholder value.

Our top priority has been and will continue to be ensuring the health and safety of our employees and our customers. Since early March, we've been proactively implementing health and safety measures across our global workforce. As local and national authorities have circulated additional guidelines for employee health and safety, we've incorporated those as well.

As almost all of our facilities have been open and remain operational, our additional safety measures include: increasing the cleaning frequency and enhancing the sanitation of all of our facilities, restricting external visitor access to our facilities, adjusting production schedules and hours of operation to promote distancing between employees and the workplace, implementing work from home programs wherever possible, and canceling all air travel and unnecessary work travel. These are samplings of the broad actions we've taken across all of our businesses to protect our workers, while maintaining critical operations.

In mid-March, we also began an appreciation award program to hourly U.S. employees on the front lines working at our manufacturing and distribution sites, as recognition of the difficulties they've been facing. This situation has put a tremendous strain on our entire workforce, but they've done an exceptional job keeping our operations running, while simultaneously keeping everyone safe. We owe them our gratitude, not just for doing an outstanding job, but also for supporting operations that are critical to our country.

Let's go through some of the specific businesses. In Consumer and Professional products and Home and Building products all of our U.S., Canadian and Australian facilities are operational. This includes all AMES, ClosetMaid, Clopay and CornellCookson facilities. Each of these businesses provide critical products supporting national infrastructure.

To the extent practical, we are permitting our employees in these segments to work remotely. As I mentioned before, all of our manufacturing and distribution facilities have implemented strict protocols to ensure employee health and safety while at the workplace.

In the United Kingdom in accordance with UK government directives in late March, our AMES UK facilities, are not operating at this time and employees have been directed to stay home until what we expect to be a re-opening the end of June.

In Mexico, our ClosetMaid manufacturing facility closed earlier in April at the direction of Mexican authorities. This facility supports ClosetMaid sales principally in the U.S. and Canada and is expected to resume operations imminently.

Telephonics, our defense electronics business, continues to operate at all of its sites, as it provides critical manufacturing and services, supporting the U.S. military and its operations are essential for maintaining our national security.

Let me go through an update on the second quarter performance, starting with Consumer and Professional Products. We saw a steady demand through the entire quarter for seasonal lawn and garden products, tools and storage and organizational solutions at major retailers and home centers across North America and in Australia.

The UK was impacted by the March COVID related shutdown. In Home and Building Products strong demand for sectional residential and commercial doors continued through the end of the quarter. We also saw increasing demand for rolling steel products in the quarter.

At Telephonics, the long anticipated Lockheed Martin MH-60R FMS program with India was signed. Telephonics received an initial $5 million booking in March, which is the first part of the $50 million in total bookings expected from this production contract. We expect the balance of this contract to be booked in this fiscal year.

Across all of our segments, our suppliers have largely been able to support us and we've not experienced any meaningful supply chain issues to date. Currently, we have sufficient components and material on hand to sustain our operations without major interruptions.

Let's talk about our balance sheet. While the COVID-19 pandemic clearly has eclipsed our typical business update, I want to call out attention to some of the recent developments.

In January 2020 we expanded the capacity and extended the term of our revolving credit facility to 2025. We increased the revolver by $50 million to $400 million and have an additional $100 million of availability through its accordion feature.

On our last call on January 30th, we discussed our intent to refinance the portion of our 2022 bonds. Shortly thereafter, on February 4th, we completed a private placement refinancing $850 million of our $1 billion of 5.25% bonds due in 2022 with 5.75% notes due in 2028. Substantially all of these bonds were exchanged for registered bonds on April 22nd.

We're pleased by the success and the timing of a bond offering and revolver expansion, and with how these actions position us for the future. These transactions enhance our liquidity and extend our maturities, reinforcing our balance sheet to weather the unpredictable conditions we're operating in today.

Lastly, we expect to continue our dividend program. We understand how important our dividend is to shareholders and it reflects the resilience of our business even in difficult times.

To that end, earlier today our Board authorized a $0.075 per share dividend payable on June 18th 2020 to shareholders of record on May 21st 2020. This marks the 35th consecutive quarterly dividend to shareholders, which has grown at an annualized compound rate of 17% since we initiated it in 2012.

Let me turn it over to Brian for a closer look at the results. Brian?

[Brian Harris, Chief Financial Officer]

Thank you, Ron. I'll start by highlighting our second quarter consolidated performance compared to our prior quarter results. Revenue increased 3% to $566 million and adjusted EBITDA increased 13% to $48 million.

Gross profit for the quarter was $152 million, which includes $1.4 million of charges related to the AMES strategic initiative. Excluding this charge, gross profit was $153 million, increasing 12% with gross margin increasing 210 basis points.

Second quarter selling, general and administrative expenses of $126 million, including $4.7 million of charges related to the AMES strategic initiative and acquisition costs related to Apta and M&A activity postponed at the end of Q2.

Excluding these charges, SG&A expenses were $122 million, increasing 9%. As a percentage of sales, SG&A adjusting for the charges increased 120 basis points to 21.5% due to consulting, and COVID related expenses and compensation.

Second quarter GAAP 2020 net income was $900,000 or $0.02 per share compared to the prior year period of $6.5 million or $0.15 per share. Excluding items that affect comparability from both periods, current quarter adjusted net income was $10 million or $0.23 per share compared to the prior year of $6.4 million or $0.15 per share, an increase of 53% on a per share basis.

Our effective tax rate, excluding items that affect comparability for the quarter, was 35.9% and for the year to date period it was 34.4%. Capital spending was $9 million in the second quarter, in line with prior year. Depreciation and amortization for the quarter was $16 million.

Regarding our segments, Consumer and Professional Products second quarter revenue decreased 4% to $275 million, driven by decreased volume due to prior year new product load-ins and the current quarter impact of COVID-19 on the UK, as well as an unfavorable foreign exchange impact of 1%.

This is partially offset by favorable mix and pricing and the incremental contribution from the Apta acquisition of 2%. Adjusted EBITDA was $25 million, decreasing 13% due to reduce sales and tariffs, partially offset by contribution from Apta.

The quarter EBITDA also had a 1% unfavorable foreign exchange impact. Adjusted EBITDA margin was 9.1% compared to 9.9% in the prior year quarter.

The AMES strategic initiative continues on plan and we expect to exit the Belle Vernon, PA and Falls City, Nebraska, facilities by the end of fiscal year.

Home and Building Products second quarter revenue increased 12% to $210 million, driven by increased volume and favorable mix and pricing. Adjusted EBITDA increased 52% to $31 million, driven by increased revenue and improved operational efficiencies. Adjusted EBITDA margin was 14.6% in the current quarter compared to 10.8% in the prior year quarter.

Defense Electronics first quarter revenue was $82 million compared to the prior period of $75 million, primarily due to increased volumes. Adjusted EBITDA during the period is $4.2 million compared to the prior quarter of $4.9 million, impacted by mix and timing of bid and proposal costs. Backlog at March 31, 2020 was $332 million.

Corporate and unallocated expenses, excluding depreciation were $11.9 million in the second quarter.

Regarding our balance sheet and liquidity, as of March 31, 2020 we had $69 million in cash and total debt outstanding of $1.23 billion, resulting in a net debt position of $1.16 billion and a net debt to EBITDA leverage of 5.1 times as defined in our debt covenants.

Further, we expect benefits from the CARES Act and other legislations to provide $10 million plus cash inflow to fiscal 2020 and $5 plus million to fiscal ‘21.

We have ample liquidity to manage through the COVID-19 pandemic. As previously mentioned, we refinanced our 850 of $1 billion 5.25% bonds through ‘22. The maturity of the new bonds is 2028, with a coupon of 5.75%, adding approximately $2.5 million of interest expense for this fiscal year.

Also during the quarter Griffon extended its revolving credit facility to 2025 and increased the maximum borrowing amount by $50 million to $400 million, with $195 million available at March 31st 2020. In addition, the facility has a $100 million accordion feature. Also note that as Griffon entered the month of April, its seasonal cash generation period started which typically continues through the end of fiscal year.

Griffon's first six months of the year were strong with our trailing 12-month adjusted EBITDA before unallocated expenses up $17 million to $263 million, as compared to fiscal 2019 of $246 million.

Regarding Q3, we expect the vast majority of our facilities to remain operational, as our production and distribution is considered essential. We have ample liquidity and anticipate strong free cash flow in the second half of the fiscal year. This, along with the extended maturities of our debt, all serves to support our business, as we navigate through near-term challenges.

Notwithstanding, there are several factors that are evolving and are unpredictable at this time. These factors include depth and duration of global COVID-19 related business interruptions, its ultimate impact on economic conditions and the cost associated with enhanced safety, modified production measures and appreciation awards.

We normally give guidance once a year and do not update that guidance during the year, but these are not normal times. The uncertainty resulting from COVID-19 makes it extremely difficult to provide guidance and as a result, we have decided to suspend our 2020 guidance.

As you can see from our results, we are making good progress on achieving our guidance of at least $250 million of adjusted EBITDA before unallocated expenses, and we're indeed ahead of that plan. Our long-term deleveraging strategy and goal of 3.5 times net debt to EBITDA remains unchanged.

Let me give you some commentary regarding what we have observed across our businesses over the last six weeks. Beginning with CPP. We continue to see steady demand in North America and Australian markets. However, AMES UK currently does not expect to resume operations until July.

In Home and Building Products, Clopay residential sectional doors have seen volume declines of approximately 15% to 20% during the month of April, but commercial door volumes are steady. We have not seen and are not expecting a material impact on Defense Electronics revenue through Q3.

Now, I’ll turn the call back over to Ron.

[Ron Kramer, Chairman, Chief Executive Officer]

Thanks, Brian. We had a solid second quarter and our year-to-date performance was well ahead of last year. While we adjust to the current circumstances, our long-term strategy remains intact and we have the conviction to follow through on the key elements of our long-term strategic growth plans.

Our capital investments will continue for our original guidance to $60 million. Recall that roughly half of our capital expenditures are related to maintenance operations, with the other half promoting our growth and competitiveness. We will continue to make all of these investments, including our AMES strategic initiative.

As I mentioned earlier, we will continue our dividend program. And while we have $58 million remaining under our Board approved share buyback program, we currently do not intend to repurchase shares.

Second half of our fiscal year generate significant free cash flow due to the seasonality of our businesses. We'll continue to focus on deleveraging our balance sheet and reaching our goal with 3.5 times net debt to EBITDA on the next few years.

Our workforce has shown an exceptional dedication throughout this crisis. We all appreciate the importance of their work, supporting the critical infrastructure of our global home markets. We’ll continue to be proactive. We're taking measures to maintain their health and safety, as we work our way through this pandemic, I'd just like to say that our management team is up to this challenge, we’ll persevere through it and I'm confident that we will build to a bigger and better tomorrow.

Operator, let's take whatever questions.

[Operator]

Thank you. We'll now be conducting a question-and-answer session. [Operator Instructions] Your first question is from Bob Labick of CJS Securities. Please go ahead.

Lee Jagoda

Hi. It’s actually Lee Jagoda for Bob. Good afternoon, Ron.

Ron Kramer

Good afternoon. How are you doing?

Lee Jagoda

Just starting with the AMES business. As you look into April, are you seeing anything that - I mean, dare I even say it could be a benefit relating to stay at home and people gardening and what are you seeing at retail there in terms of sell-through?

Ron Kramer

We clearly are seeing as people who are at home and as the economy goes through this adjustment to this an incredible set of circumstances, the people that are home are spending money in and around their house. We are a beneficiary of that. We expect that to manifest itself in our ability to support our retail partners and their e-commerce business.

The megatrends of home investment, and while it's obviously terribly unfortunate, the level of unemployment that's waving through, there's still a tremendous number of homeowners and there's still a tremendous amount of liquidity that's provided, that people that are home, that are not going to restaurants, that are not going out to shop at retail and are adjusting their patterns. We believe that trend is clearly within the range of products and the brands that we represent within AMES, and is going to be in a sweet spot of what is going to be the new normal of how people spend money in the US.

And the one other point that that I'll make is the impact of both monetary and fiscal policy, the $7 trillion that's going to get pumped into our system is one of the things that gives us some significant hope that the recovery and particularly the 26 million people that have become unemployed are going to get back into the workforce.

The trends around urbanization are likely to result with more single home ownership, and broadly speaking what this means for AMES is an underlying positive.

Lee Jagoda

And going forward, increased investment in the home, can you give us a sense for what has typically happened on the residential garage door side in periods of economic slowdowns?

And then just as a follow up to that, are the commodity prices you're seeing related to steel in particular, giving you any tailwinds to offset some of the potential volume headwinds?

Ron Kramer

Yes, there's a couple of questions in there. But let me let me start by saying that, in the last housing crisis, the homeownership was a cause of the financial calamity. In this case, the home is a victim of it. And the distinction is that whatever economic decline we're currently going through is a result of a natural disaster. And so trying to compare this to any prior cycle is informational only.

We're too early in this to know with any certainty what the ultimate impact is going to be. But certainly through the end of March we were seeing good volume, way ahead of last year in the residential side of the business.

Remember, the biggest part of our business is repair and remodel. New home construction, which there's a clear supply demand imbalance that we believe this is only going to accelerate when we ultimately get into the recovery phase. So it's way too early to talk about what the impact is.

The repair and remodel cycle continues. Residential sectional door business, is down and I think Brian used the number of 15%, 20% in the month of April. From where we're sitting, we see that that means 80% to 85% of expected orders are still coming in.

So there is very much a heartbeat of an economy that's still going, in spite of the lock downs and all the necessary safety precautions that states have put in place with shelter in place. So how that's going to ultimately go the other way, as we start to open up again this week and then prospectively into May and June remains to be seen.

We believe we have the leading brand. We had the best dealer network. We're sold through the best retailers in the garage door business and we bought the best commercial door business in CornellCookson, we had seen no drop off in volumes on the commercial side of our business.

So we remain relatively positive about the trends as we're sitting here in April, but the impact of what this is going to, how long this is going to last isn't about economic forecasting or views about politics, it's about science and ultimately testing and vaccination will lead to how much people re-engage and how quickly the economy recovers.

The one thing that we're certain of is that our broader strategy of products that are in and around the house, garden to garage is where the functioning part of the U.S. economy is likely to continue and not just function but to benefit from the trends that are going on.

Lee Jagoda

And then in the commodity side Brian?

Brian Harris

Yes, sure. So to address your commodity question. We saw some changes in commodities over the last 60 days or so. However, we also have increased costs related to COVID itself with the testing of the facilities and the cleaning, not to mention the appreciation awards. So overall our cost structure is up, not down.

Lee Jagoda

Helpful. Thank you.

[Operator]

The next question is from Julio Romero of Sidoti & Company. Please go ahead.

Julio Romero

Hey. Good afternoon and hope you all are doing well.

Ron Kramer

You too, Julio.

Julio Romero

I wanted to start on CPP. You had mentioned all your facilities minus the UK and Mexico are operational. Can you discuss the utilization rates? Are you having reduced hours, reduced shifts. Any color there would help.

Brian Harris

Sure. So the facilities are operating, they are fulfilling and see normal orders. We do have some shifts in the way we operate the facilities to enhance social distancing. But the facilities are really fully operational.

Julio Romero

Okay, that's helpful. And on Home and Building Products, just thinking about the sales process there with installers going into the home I would believe, that would -- that lend itself to elevated risk there and what do margins look like in Home and Building Products assuming that that volume decline, you may be seeing there?

Brian Harris

So for selling residential garage doors actually, you don't need much interaction at all. They don't go inside your house.

Ron Kramer

Yes. That's outside the house.

Brian Harris

Right. And also particularly through our dealers they have software that's called MyDoor that they can deal with customers at a distance online or through the online portal to design the door, showing a picture of the house, showing what the door will look like.

Nobody needs to interact with anybody directly. They can give their credit cards and then we show up at the house and install it. We don't get anywhere near them. So that whole process is fully operational.

Julio Romero

Okay. And Ron, did I hear you say in your prepared remarks that half of your CapEx is maintenance. I guess, would that be about $30 million or so?

Ron Kramer

You did…

Brian Harris

Yes, so and I'll take that one. Generally our CapEx runs about 50-50 in terms of maintenance versus investment for business expansion. So this year we have CapEx out there of $60 million in guidance. $15 million of that is related to the AMES initiative. I would say the balance there and after that is roughly 50-50. If that's helpful.

Julio Romero

Got it. Okay, understood. Yes. Thanks for taking the questions and stay healthy.

Brian Harris

Thank you.

Ron Kramer

You too.

[Operator]

The next question is from Justin Bergner of G Research. Please go ahead.

Justin Bergner

Good afternoon, Ron. Good afternoon, Brian.

Brian Harris

Hi, Justin.

Ron Kramer

Hi, Justin.

Justin Bergner

Just had two clarification questions to start to make sure I heard your comments correctly. Could you repeat what the revolver availability or I guess unused portion of the revolver was at March 31?

Brian Harris

Sure. So at March 31, we had $195 million available under the revolver. And in addition to that we do have a $100 million accordion feature in our credit facility. And I'd also like to add, right now, at the end of March we are at our peak working capital point of the year. And as April comes our cash generation cycle begins and goes right through the end of our fiscal year and we expect strong free cash flow through the end of the year, which will reduce the revolver balance.

Justin Bergner

Understood. And what is the leverage ratio covenant that you need to be mindful of for that revolver?

Brian Harris

Currently, we're at 6.25 times for the covenant and our actual is 5.1, which is at our peak.

Ron Kramer

And I'll remind you, there is another $100 million of our revolver of accordion.

Justin Bergner

Okay. The second, just comment I wanted to clarify. The down 15% to 20% in April, that was specific to residential garage doors.

Brian Harris

Correct. So we were seeing in the residential side of the Clopay business, 15% to 20% decline of orders in the month of April. Generally that was coming out of the retail sector. So as you could imagine, people are not going into a home center standing in an aisle for very long to order a garage door. But we see our dealer network being pretty strong and not much degradation there at all.

Justin Bergner

Okay. That makes sense. Any comment on how Consumer and Professional Products trend in April?

Brian Harris

Sure. We actually saw in the U.S. or North America, I should say and Australia, steady normal volume, good volumes throughout that period. Of course, UK is not operating right now. So that's the only exception in that business. But we expect UK to be operational in early July.

Justin Bergner

Okay. But that - you're talking about demand there, not just production?

Brian Harris

I'm talking about demand and what I just said, our production is normal as well.

Justin Bergner

Okay, great. That's good. And then what - sorry.

Brian Harris

No, go ahead.

Justin Bergner

I guess my last question was, in terms of the CARES Act benefits. Could you just -- the $10 million in this fiscal year and the $5 million next fiscal year, could you maybe just give us a little clarity as to where those benefits come through?

Brian Harris

Sure. So there are many benefits related in the CARES Act, I don't want to go through all the potentials. But right now, what we see is the benefit from deferring the employer portion of social security, and the rule works where you could defer those payments through the end of the calendar year.

So for us, it will be Q3 and Q4 this year and Q1 fiscal '21 and that's $10 million in fiscal 2020 and $5 million in fiscal '21 that we expect - benefit that we expect to see. That is repayable by December - 50% in the next two years in December of each of those years. So, doing the math that is $7.5 million in December of '21 and $7.5 in December '22.

Justin Bergner

Okay, thanks. I'll hop back in the queue.

[Operator]

[Operator Instructions] The next question is from Tim Wojs of Baird. Please go ahead.

Tim Wojs

Hey, everybody. Good afternoon. Hope you guys are safe.

Ron Kramer

You too. How are you doing Tim?

Tim Wojs

Good. Thank you. I guess just a couple of follow up questions for me. How would you think - relative to normal, how would you think about working capital in the back half of the year relative to production if you do see volume weakness kind of persist through the summer and into the back half of the year. I guess how would you manage that relative to normal or maybe relative to a down cycle?

Brian Harris

Sure. So, we have adjusted already some of our shifts, particularly in the residential door facility to accommodate the fact that we have less volume. We'll continue to watch our working capital, we'll continue to watch our collections, and we will adjust our business accordingly based on demand that we see in the fall - in the coming months.

Tim Wojs

Okay. So would you normally - would it be fair that you would normally release working capital from inventory if there is - in this lower demand environment?

Brian Harris

Yes, correct.

Tim Wojs

Okay. And then...

Brian Harris

We will naturally see working capital decrease in the second half of our year per our normal cycle. In addition, if sales decrease, we'll see additional working capital generally come out of the balance sheet - come down in the balance sheet.

Tim Wojs

Okay. That makes sense. And then in the U.S. businesses, price mix was still relatively solid in the second quarter. I guess a more uncertain consumer, how would you think about that over the next few quarters. Have you seen any changes in mix through any of the various US businesses thus far in April?

Brian Harris

Sure. So it's actually a little difficult to project what that would be. I can give you some anecdotal items. So in our garage door business, generally, we see better mix out of our dealers than we do out of the retail channel. And on the AMES side, I don't anticipate any change in mix, that I could foresee anyway.

Tim Wojs

Okay. And then last one just, in the residential garage door business, how much would you estimate it's break fix versus some sort of discretionary replacement?

Brian Harris

It's very difficult to estimate exactly. What we do see generally is the business is by far repair - more repair and remodel than it is new construction. So generally, that will be resistant to downturn as people have a regular cycle of replacing doors.

Tim Wojs

Okay. Okay. Sounds good. Thanks for the time. Good luck on the back half of the year guys.

Ron Kramer

Thanks.

Brian Harris

Thank you.

[Operator]

Next is a follow-up question from Justin Bergner of G Research. Please go ahead.

Justin Bergner

Thank you again. Two follow-ups here. I guess you mentioned in the press release defense proposal costs. Are those going to continue for a while? Any sort of - I guess clarification on the magnitude of those costs and what their associated with?

Brian Harris

Sure. So they are exactly as they are named: bid and proposal costs. We have seen very good activity and we have a lot of opportunities in front of us that we are bidding on. We don't expect the cost to really be outside necessarily for the second half of the year as a lot of that work has already occurred. But we will continue to go after the business that's before us, and we do have a very strong pipeline.

Justin Bergner

Okay, that's helpful. Those costs that weren't related to the Lockheed Martin India contract? Those were different opportunities, you were going to enter?

Brian Harris

Different - generally different opportunities. Correct.

Justin Bergner

Okay. And then the second question on defense was a little bit more big picture. Obviously the company operates at high leverage for the most part has during its lifetime. I mean, if the recession gets difficult, would the company consider different strategic options for the defense business. And how does the political uncertainty potentially alter how you think about the long-term place for defense in the portfolio?

Ron Kramer

We've owned Telephonics for a very long time. We are very comfortable with its strategic plan. We see near-term growth in its backlog. It is a core asset and we are very excited about what we see going on for its future.

Justin Bergner

Okay, great. Thank you for the follow-up.

[Operator]

This concludes the question-and-answer session. I would like to turn the floor back over to Ron Kramer, Chief Executive Officer for closing comments.

[Ron Kramer, Chairman, Chief Executive Officer]

Well, we've been able to make it through these incredibly turbulent times. We believe we continue to be well positioned. I'm very confident and optimistic about what's going on within the company and very excited about our future. To everybody on the call I hope you're all safe, healthy, and we look forward to speaking to you again after the end of this quarter. Thank you and goodbye.

[Operator]

This concludes today’s teleconference. You may disconnect your lines at this time. Thank you for your participation.