Intertape Polymer Group Inc

TSX:ITP

Earnings Call Transcript

[Operator]

Ladies and gentlemen, thank you for standing by. Welcome to Intertape Polymer Group's Fourth Quarter and Year-end 2017 Conference Call and Webcast. [Operator Instructions] Your speakers for today are Greg Yull, CEO; and Jeff Crystal, CFO.I would like to caution all participants that in response to your questions and in our prepared remarks today, we will be making forward-looking statements, which reflect management's beliefs and assumptions regarding future events based on information available today. The company undertakes no duty to update this information, including its earnings outlook, even though if situation may change in the future. You are therefore cautioned to not place undue reliance on these forward-looking statements as they are not a guarantee of future performance and are subject to a number of risks and uncertainties that could cause actual results to differ materially from those expected. An extensive list of these risks and uncertainties are identified in the company's annual report on Form 20-F for the year ended December 31, 2016, and subsequent statements and factors contained in the company's filings with the Canadian securities regulators and the U.S. Securities and Exchange Commission.During this call, we may also be referring to certain non-GAAP financial measures as defined under the SEC rules, including adjusted EBITDA, adjusted EBITDA margins, trailing 12-month adjusted EBITDA, leverage ratio and free cash flows. A reconciliation of non-GAAP financial measures to the most directly comparable GAAP measures is available at our website at www.itape.com and are included in its filings, including the MD&A filed today.Please also note that variance, ratio and percentage changes referred to during this call are based on unrounded numbers, and all dollar amounts are in U.S. dollars unless otherwise noted.I would like to remind everyone that this conference is being recorded today, Thursday, March 8, 2018, at 10 a.m. Eastern Time.And I will now turn the call over to Greg Yull. Mr. Yull, please go ahead, sir.

[Gregory A. C. Yull, Chief Executive Officer, President and Non]

Thank you, operator, and good morning, everyone. Welcome to IPG's 2017 Fourth Quarter and Full Year Results Conference Call. Joining me is Jeff Crystal, our CFO. After our comments, Jeff and I will be happy to answer any questions you may have.During the call, we will make reference to our earnings presentation that you can download from the Investor Relations section of our website.Beginning on Page 3 of our presentation. We are very pleased by our results for the fourth quarter and full year. Revenue for the fourth quarter increased 13.1% from the fourth quarter 2016 to $237.4 million, primarily due to additional revenue from the Cantech acquisition; an increase in average selling price, including the impact of product mix; and an increase in sales volume. For the year, revenue increased 11% to $898.1 million, primarily due to the additional revenue from the Cantech and Powerband acquisitions; and an increase in average selling price, including the impact of product mix.Adjusted EBITDA increased slightly to $35.7 million in the fourth quarter, primarily due to the organic growth in gross profit and adjusted EBITDA contributed by Cantech, partially offset by the nonrecurrence of $8.1 million in insurance proceeds related to the South Carolina flood. Excluding the insurance proceeds from last year, adjusted EBITDA for the quarter increased nearly 30%. For the year, adjusted EBITDA reached $129.6 million, which is at the top end of our revised guidance for the year of $126 million to $130 million.On Page 7, our capital expenditures for 2017 reached a record level of $85.3 million. This sizable increase primarily reflects significant opportunities identified to increase manufacturing capacity in certain product categories such as water-activated tapes and stretch films as well as to improve operational and manufacturing efficiencies.Moving to Page 8. In 2017, we completed 3 large capital projects on time and on budget, representing approximately $70 million in total capital invested from project inception to today. As we look forward to 2018, we anticipate that capital expenditures will remain near record levels of $80 million to $90 million. This includes maintenance CapEx that typically run between approximately million $12 million and $15 million annually. We expect that 2018 will be another transition year given more significant projects coming online, but we believe we will also reap strong benefits from investments made in 2017. We expect to complete the Utah shrink film and specialty tape projects and to make significant progress on the Capstone and Powerband greenfield manufacturing facility projects this year.On Page 9, with regards to our Midland facility, so far, we are very pleased with this project, which was completed on time and on budget. Production of water-activated tape in this facility started in the third quarter as expected. During the fourth quarter, the facility was operating near full capacity, and its performance exceeded our expectations. Over the next couple of quarters, we expect to continue to improve operations and achieve higher operating efficiencies. In 2017, we spent $5.4 million on the second phase of this project to double capacity in the facility by adding another production win, which we expect to be completed in early 2019. The total project size for the second phase is expected to be between $14 million to $16 million.The Capstone greenfield facility construction in Karoli, India, as you can see on Page 10, is underway. As indicated before, the primary objective for us is to have a globally competitive supply of certain woven products in order to better service and grow this business. The total project is currently expected to require an investment of between $28 million and $32 million, with commercial operations expected to start in the first half of 2019. As of December 31, 2017, we had invested $8.4 million in this project. In 2018, we expect to spend between $20 million and $24 million, representing the largest portion of our CapEx guidance for the year.Before moving on, I'll give you a brief update on our South Carolina facility. We have made significant progress as it relates to our masking tape products. One product has been commercialized, and we are in late production trials on the last masking tape product. We are seeing performance levels on both products that are encouraging. On the stencil side, we commercialized our last product in February this year. We will now focus on initiatives to improve the efficiencies of these production processes. While this progress is very positive, we still have to recapture lost sales and expect to see incremental improvement as it relates to sales as we move through 2018 and into 2019.Turning to Page 11. We are very pleased with the final results achieved in the integration of TaraTape, including the closure of the Fairless Hills, Pennsylvania location. In the fourth quarter of 2017, we achieved run rate annual synergies of approximately $4 million, which was in line with our previous guidance of $4 million to $6 million. As a reminder, we paid $11 million for this business in 2015 and since then, we've grown adjusted EBITDA attributable to this business from approximately $1.6 million to an annual run rate of approximately $5.6 million.As indicated last quarter, integration efforts are still underway and progressing well for the Cantech acquisition. We are very pleased with synergies realized to date and have so far increased our initial estimate of annual savings of between $2 million to $3 million by the end of 2019 to between $2 million to $4 million by the end of 2019.We continue our discussions regarding the exit of our minority shareholders of Powerband. Our exit process, as originally stipulated in our shareholders agreement, has taken longer to work through than expected, but we have made significant progress and remain hopeful that we can conclude it over the next coming months. In the meantime, we are very happy with our new management team at Powerband, which now includes a new Managing Director. This team has been transitioning day-to-day responsibilities from our partners, and we expect that they will be fully independent in the very near future. Unfortunately, the performance of this -- of the Powerband business have not improved as we had expected in our discussion last quarter. The business continues to face macro-related challenges, including raw material prices, which have been more stable recently than in the first half of 2017 but continues to rise with minimal relief to pass on these increases. Despite these challenges, the business has remained cash flow positive, and we've seen our competitive position in North American tape market improve nicely as a result of the additional revenue opportunities created by the Powerband acquisition so far.Lastly, on Powerband, we continue to proceed with the construction of the greenfield facility in Dahej, India. As planned, this facility is expected to provide us with the ability to leverage the low cost of raw materials, labor and overheads in India for other carton sealing tape product lines as well as future expansion of the current product lines. However, due to the ongoing delay in the exit of our partners and the necessary transition to our new management team, we decided to push the project completion date from the first half of 2018 to the first half of 2019.On another note, in 2017, the company repurchased close to 0.5 million shares for a total cash consideration of $7.5 million under our normal course issuer bid. On March 30, 2018, we will pay a quarterly dividend of USD 0.14 per common share payable to shareholders of record as of March 20, 2018.At this point, I'll turn the call over to Jeff, who will provide you with additional insight into the financials. Jeff?

[Jeffrey Crystal, Chief Financial Officer]

Thank you, Greg. I would like to refer you to Page 12 of the presentation where we present an analysis of our revenue for the fourth quarter of 2017.Fourth quarter revenue increased by 13.1% to $237.4 million from $209.9 million a year ago. The $27.5 million increase was primarily due to the following factors: first, additional revenue of $15 million primarily from the Cantech acquisition; second, an increase in average selling price, including the impact of product mix in the tape, woven and film product categories, which had a favorable impact of approximately $9.3 million; and finally, an increase in sales volume of approximately $4.8 million mainly from certain tape products.On Page 13, gross profit totaled $54 million for the fourth quarter, a slight increase from $53.7 million a year ago. This variance was primarily due to the favorable impact of the company's manufacturing cost reduction programs, a favorable product mix variance and additional gross profit from the acquisitions, partially offset by the nonrecurrence of insurance proceeds recorded last year.Gross margin decreased to 22.8% from 25.6% last year, primarily due to the nonrecurrence of insurance proceeds. Gross margin in the fourth quarter of 2016 would have been 21.7%, excluding the impact of those insurance proceeds.SG&A totaled $34.1 million for the quarter, an $8.6 million or 33.4% increase from $25.6 million a year ago. The increase was primarily due to an increase in share-based compensation of $4.7 million, driven primarily by an increase in the fair value of cash-settled awards; additional SG&A from the Cantech acquisition; and a $1.6 million increase in M&A costs. The increase in the fair value of share-based awards is due to the increase of the company's share price in the fourth quarter as compared to the end of the third quarter.Adjusted EBITDA increased slightly to $35.7 million in the fourth quarter from $35.6 million last year. This variation was primarily due to organic growth in gross profit and adjusted EBITDA contributed by Cantech, partially offset by the nonrecurrence of $8.1 million in insurance proceeds.On December 22, 2017, the Tax Cuts and Jobs Act was enacted into law in the U.S. The Act significantly changes previously existing U.S. tax laws and improves numerous provisions that have had an immediate effect on our business and will affect certain aspects of our business going forward. These changes include but are not limited to: a reduction in statutory corporate tax rate from 35% to 21%; an enhancement and extension through 2026 of bonus depreciation; limitations and eliminations of certain deductions; a onetime transition tax on deemed repatriation of deferred foreign income; and new tax regimes impacting how foreign-derived earnings and cross-border intercompany transactions may be subject to U.S. tax. The company recognized a net tax benefit of approximately $9.6 million in the fourth quarter 2017, primarily due to the remeasurement of the U.S. net deferred tax liability using the lower U.S. corporate tax rate provided under this legislation.As you will note on Page 21, cash flow from operating activities in the fourth quarter decreased by $5.7 million to $59.3 million from $65 million last year, primarily due to a decrease in operating profit and less of a decrease in inventories, resulting mainly from an increase in raw material costs in the fourth quarter 2017 compared to the fourth quarter of 2016. These changes were partially offset by a greater decrease in trade receivables and a greater increase in accounts payable and accrued liabilities, both due to the timing of cash collections and payments. For the same period, free cash flow decreased by $5.5 million to $45.3 million for these same reasons.As of December 31, 2017, the company had cash and loan availability under the revolving credit facility of $186.6 million compared to $158.2 million a year ago. Net debt increased over $100 million to $270.4 million as of December 31, 2017, as compared to December 31, 2016, mostly as a result of an overall increase in debt outstanding to support the company's CapEx and M&A investments.We ended the fourth quarter with a leverage ratio of 2.1 compared to 1.3 last year. Days sales outstanding increased to 41 in the fourth quarter of 2017 from 39 in the fourth quarter of 2016. Trade receivables increased $16.5 million to $106.6 million as of December 31, 2017, from $90.1 million as of December 31, 2016, primarily due to an increase in the amount and timing of revenue invoice later in the fourth quarter of 2017 as compared to later in the fourth quarter of 2016, including the impact of the Cantech acquisition.Days inventory increased to 65 in the fourth quarter of 2017 from 63 in the fourth quarter of 2016. Inventories increased $24.8 million to $128.2 million as of December 31, 2017, from $103.5 million as of December 31, 2016, primarily due to additional inventory resulting from the Cantech acquisition and an increase in raw material costs.Greg will now provide the company's outlook. Greg?

[Gregory A. C. Yull, Chief Executive Officer, President and Non]

Thanks, Jeff. Before I speak about the outlook, last quarter, we discussed the impact of the major storms that hit the Southern United States and how they disrupted the supply chain of some key raw materials and caused sharp increases in prices. As we indicated at that time, to offset the rising input costs, we, as most of our competitors, announced price increases to customers. We continue to face volatility in the pricing of key raw materials, but going forward, we remain confident in our ability to pass on price increases to our customers in the majority of cases as we have done in recent years.Moving on to the outlook for the fiscal year and first quarter of 2018 on Page 23. Excluding the potential impact of acquisitions and significant changes in selling prices as a result of raw material price fluctuations, we currently anticipate revenue growth for 2018 to be similar to that of 2017. This anticipated higher growth rate includes the effect of the full year of the Cantech operations as well as organic revenue growth derived from the CapEx investments completed in 2017. As such, we currently expect revenue for the first quarter of 2018 to be greater than that of the first quarter of 2017.Adjusted EBITDA for 2018 is expected to be between $135 million and $145 million. Taking into account the typical effects of seasonality, adjusted EBITDA is expected to be proportionately higher in the second, third and fourth quarters relative to the first quarter. Excluding the benefit of insurance proceeds recognized in the first quarter of 2017, adjusted EBITDA is expected to be greater in the first quarter of 2018. Mainly as a result of the tax savings expected to be realized from the new U.S. tax changes, the company currently expects an 18% to 23% effective tax rate in 2018, with cash taxes being less than 1/3 of the income tax expense.In conclusion, we remain very active on the acquisition front. Although we are facing some headwinds in terms of recent market valuation levels, we still feel that we can get good deals completed in the future but expect that they could cost somewhat more than we have been experiencing in recent years. We continue to work hard on achieving significant synergies from our recent completed acquisitions, including Cantech, and we expect to deliver solid organic growth for the fiscal year as deriving from the significant investments we are making in our operations. We believe these investments should reinforce our competitive position and continue to increase shareholder value for the years to come.This completes my presentation. At this point, Jeff and I are open to answer any of your questions. Operator?

[Operator]

[Operator Instructions] Your first question comes from Damir Gunja from TD Securities.

[Damir Gunja, Director]

Just wondering if you can elaborate a little bit on the guidance range and some of the factors that could take you to the lower or the higher end of that range.

[Jeffrey Crystal, Chief Financial Officer]

Sure. So I think that one of the things we spoke about on the call is, certainly, the volatility in the raw materials. So that's something we've seen. And even in recent months, after the fourth quarter, we've seen some volatility, both ups and downs, in some of our resin pricing, the resin market. And certainly, as Greg mentioned on his call, that we expect that we will be able to pass on cost increases. But when we have quick fluctuations of these raw materials, sometimes there can be lags, right, and sometimes you can see some volatility in your earnings. So that certainly would be something that would impact results going forward, either on the upside or on the downside to some degree. And then, obviously, you got these projects coming online. As we discussed, these -- a lot of the projects that came online last year are growth-related projects, so there's no question that there's revenue that we're going out and getting. So far, as we said, in Q4, we felt that our quarter was solid, but certainly, we have to go get that revenue. So depending on what level of revenue you get, you certainly have some level of fluctuation there. And then, ultimately, there's inflationary impacts and so forth that we talked about also and that can certainly offset some of the growth depending on how much or how large or small they are.

[Gregory A. C. Yull, Chief Executive Officer, President and Non]

Yes. And just to add a couple, I mean, certainly, performance of existing operations plants, they can have a big impact on downside or upside. And certainly, Jeff touched on a little bit with raw materials, is the competitive intensity, right, that has a factor over 12-month period either on the upside or the downside.

[Operator]

Our next question comes from Maggie MacDougall from Cormark.

[Maggie Anne MacDougall, Analyst of Institutional Equity Research]

So the update you gave on Blythewood, I think I missed part of it. I believe that stencil tape is working well. And did you give an update on the masking tape side as well?

[Gregory A. C. Yull, Chief Executive Officer, President and Non]

Yes. So we commented that one of the masking tapes has been commercialized, so we were actively selling that product. The other masking tape is in final production trials. And we're seeing positive results as it relates to performance of both those products. And then on the stencil side, we commented that we launched our final product in February of this year and that we're really focused right now on efficiencies within that process right now because we're not at levels that we used to be prior to the flood in that specific product. So...

[Maggie Anne MacDougall, Analyst of Institutional Equity Research]

You mean in terms of, like, the production volume?

[Gregory A. C. Yull, Chief Executive Officer, President and Non]

Yes, production volume, waste, uptime, things of that nature. And so we're just working our way through there, but we have commercial products to sell.

[Maggie Anne MacDougall, Analyst of Institutional Equity Research]

Okay. And then you commented as well just on looking to recapture sales in those product lines. I'm wondering if you could give a little bit of color on what you see as being involved in that strategy.

[Gregory A. C. Yull, Chief Executive Officer, President and Non]

Well, I think what's involved is time, and that's why I believe that, sequentially, as we move through the quarters, we'll pick up more and more business. I don't know if we'll be able to recapture all of it. I don't know whether we'll surpass that, but we're at least right now in the sales cycle, competing with products that's commercial. So we're out of the development phase, at least on one of them, and into the sales and marketing phase on that one and pursuing customers. So I think it's going to be time-based. Like I said, I mean, I said we'll progress 2018 into '19. I think it takes a while to get that back. So expect that to happen over the next 2 years.

[Maggie Anne MacDougall, Analyst of Institutional Equity Research]

Okay. And then just one final question. In terms of the maintenance CapEx spend that's planned for '18, when I look at the total project spend this year and then the total CapEx spend, it implies about $35 million in maintenance CapEx. Is that accurate?

[Jeffrey Crystal, Chief Financial Officer]

Well, when we talk about maintenance spend, we talk about it in 2 ways. So when we say $12 million to $15 million, we really mean that to keep the lights on to basically make sure that we're operating. We said in the past that to really remain competitive or to make sure we're keeping up with the Joneses we'd probably be talking more like a $25 million to $30 million, $35 million level. So really, when you think about leftover, call it $30 million or so, that's really what our major growth projects or large-scale projects happening in the year.

[Maggie Anne MacDougall, Analyst of Institutional Equity Research]

Okay. So if I add up the 5 projects in the presentation, it's $45 million to $55 million, and then total CapEx, $80 million to $90 million. So you've got $12 million to $15 million, call it, of maintenance and the remainder would be other growth initiatives.

[Jeffrey Crystal, Chief Financial Officer]

Yes. It's other efficiency projects that are smaller-type projects that enable us to be -- we keep up with the competition.

[Operator]

[Operator Instructions] Our next question comes from Michael Doumet from Scotiabank.

[Michael Doumet, Analyst]

You highlighted gross margins improved sequentially this quarter on wider spreads between selling prices and input prices. How do you expect that to play out, call it, in the next couple of quarters, so for Q1 and for Q2? And maybe also, if we step back, if you could address investor perception, the company's ability to pass through higher input costs over the medium term as it relates to your ability to offset with cost reductions, but also on your evolved product portfolio and the general view on the North American competitive landscape.

[Gregory A. C. Yull, Chief Executive Officer, President and Non]

So I'll take the pricing and the offset question, and then Jeff can answer a little bit. I think when you look at Intertape and you look at the last 10 years, we have done an excellent job in dealing with raw material volatility, whether that was event-driven through storms and other issues or just through the normal course of supply chain. The company has done, I would say, an exceptional job passing those on in a timely manner. So I don't see any reason why as a whole, as a company that does not continue. Certainly, we have spots of competitive intensity in our business like any business would. Specifically, right now, in the Powerband business, we have competitive intensity on a stand-alone basis. But that business is actually, on an integrated basis, performing quite well and much better than we would have expected as it relates to growth within North America. But that will work itself out. I think, over time, it'll work itself out because the markets will demand that pricing goes up. So I think they'll work out. So I think the company has done a great job in managing those kind of situations. I don't see anything different this year or next year or in the future. And again, I think there'll always be spots of intensity, but as a whole, I think the company can continue to do that.

[Jeffrey Crystal, Chief Financial Officer]

Yes. And then on your first question about Q1, we haven't given any direct guidance on Q1 gross margins. But obviously, with raw materials having gone up in Q4, as we discussed, you can certainly see some of those prices rolling into Q1. So that certainly can put some pressure. The other thing we have going on as well coming into 2018 is we've got a lot of depreciation coming online, certainly with our Midland project, with our stretch film project, so you're going to have a full -- kind of full effect of that depreciation coming online, so it won't necessarily affect EBITDA, and certainly, we'll see it affect some of our gross margins. So that's about as much as I can give you on that.

[Michael Doumet, Analyst]

Okay. No, I appreciate those comments. They're pretty colorful. Maybe if I can zero in on Powerband, I believe you discussed the input costs remain somewhat volatile in that business. Could you comment generally on the current profitability versus what you would consider more normalized margin in that business?

[Jeffrey Crystal, Chief Financial Officer]

Yes. So the current profitability remains stable now. So I mean, when we think about earlier in the year, we saw a dramatic reduction and instability in that business, both in terms of the raw material price, which skyrocketed, almost basically doubled from the time we bought them with -- over a few months. And then you have the competitive pressures from the Chinese and other competitions putting pressure on price. So certainly, there's a lot more volatility in results. I would say now, there's certainly a lot more stability. But we've seen an uptick. We've seen that -- especially due to [indiscernible], it has still uptick. So just to give you an idea, when we bought the business, we were -- they were at about $900 a ton. It's skyrocketed to somewhere close to probably $1,600 a ton. And today -- let's say, 6 months ago, maybe at $1,200; today, we're running at closer to $1,400. So there's been certainly upticks, ups and downs. I would say, like I said, it's somewhat more stable now, so the profitability level has been consistent but again, low compared to what we initially bought the company at. Now the other side of the coin, which Greg alluded to in the presentation, is that we've also been benefiting from Powerband in our North American operations. So when we talk about the profitability of that business, we're talking about it on a stand-alone basis. But certainly, on the North American side, we've seen an uptick in volume that we've been able to sell in North America as a result of having a more competitive price point on that product coming from India. So we picked up margin and volume on the North American side as well, not to mention that it's also enabled us to take advantage of some raw material pricing even within North America. So globally speaking, certainly, the picture looks better than a stand-alone basis. But stand-alone, as Greg said, I mean, it certainly is very much cash flow positive. And when you add the North America impact, you're actually looking at pretty respectable margins.

[Michael Doumet, Analyst]

Okay. And maybe just one more before I turn it over. If I go back all the way to your initial expectations on the Blythewood facility and fast forward it to today to where you are in masking tape and stencil tape, assuming Blythewood continues to trend in the more favorable direction, let's say, for the next 12 months, how should we think -- or how should we base our expectations today on what that means for the bottom line, let's say, versus what your initial expectations were?

[Jeffrey Crystal, Chief Financial Officer]

Hard to say. I mean, we articulated the cost savings that we believe we've realized versus the original guidance of that $13 million number. And certainly, we haven't gotten there, but we articulated a number that was still pretty respectable. In terms of the actual potential of that plant, I mean, at this point, certainly, there's a lot of business we lost. We've got to go get that business. That's just starting really right now, and the wrap-up is uncertain. It's also uncertain as to whether we'll get back all of it. And like we've mentioned in the past, I think dynamic has changed as a lot of that business went overseas. And since the time we started that project, and I guess it was 2012, 2013, certainly, the U.S. dollar has strengthened significantly and put us at a disadvantage in some of those categories. So we're sort of unsure at this point as to what that may look like over the long period of time. It's really hard to articulate what that contribution will look like.

[Michael Doumet, Analyst]

Yes, I know. Fair enough. I mean -- but should we think of the, call it, recovered sales plus the cost savings as cumulative but maybe not a full recapture, just a partial recapture rate because in the last -- I mean, you've commented in the last couple of quarters that those sales have been lost. So like, how should we think overall? I mean, maybe the other way, is that a fair way to think about it as you sort of move this business over the next 12 months?

[Jeffrey Crystal, Chief Financial Officer]

Yes. Yes, I mean, that's fair. That's fair.

[Operator]

Mr. Yull, there are no further questions at this time. I will now turn the call back to you. Please go ahead.

[Gregory A. C. Yull, Chief Executive Officer, President and Non]

Thank you for participating in today's call. We look forward to speaking with you again at the release of our first quarter 2018 results in May. Thank you.

[Operator]

Please note that a replay of this call can be accessed as of 1 p.m. today Eastern daylight time.