Cintas Corporation

Good day, everyone, and welcome to the CENTOS Quarterly Earnings Results Conference Call. Today's call is being recorded. At this time, I would like to turn the call over to Mr. Mike Hansen, Executive Vice President and Chief Financial Officer. Please go ahead, sir.

Good evening, and thank you for joining us. With me is Paul Adler, CENTOS Vice President and Treasurer. We will discuss our third quarter results for fiscal 2019. After our commentary, we will be happy to answer questions. The Private Securities Litigation Reform Act of 1995 provides a safe harbor from civil litigation for forward-looking statements. This conference call contains forward-looking statements that reflect the company's current views as to future events and financial performance. These forward-looking statements are subject to risks and uncertainties, which cause actual results to differ materially from those we may discuss. I refer you to the discussion on these points contained in our most recent filings with the SEC. Revenue for the third quarter of fiscal 2019 was $1.68 billion, an increase of 5.9% over last year's third quarter. The organic growth rate, which adjusts for the impacts of acquisitions and foreign currency exchange rate fluctuations, was 6%. In the third quarter of fiscal 2019, the organic growth rate for the uniform rental and facility services operating segment was 6.2%, and the organic growth rate for the first aid and safety services operating segment was 8.6%. The organic growth rates of both segments were negatively impacted by a greater number of customers being closed for business in this year's third quarter compared to last year's third quarter due to severe winter weather and the timing of the holidays. Christmas Eve and New Year's Eve fell on a Monday this year compared to on a Sunday in the prior year. Gross margin for the third quarter of fiscal 19 of $755.2 million, increased 7.8%. Gross margin as a percentage of revenue was 44.9% for the third quarter of fiscal 19, compared to 44.1% in the third quarter of fiscal 18. Uniform rental and facility services operating segment gross margin as a percentage of revenue improved 80 basis points from last year's third quarter to 44.9%, And the First Aid and Safety Services operating segment gross margin percentage improved 130 basis points to 48.2%. Reported operating income for the third quarter of fiscal 19 of $278.3 million increased 39.1%. Operating income margin was 16.5% in the third quarter of fiscal 19 compared to 12.6% in fiscal 18. Operating income was negatively impacted by integration expenses related to the G&K acquisition by $800,000 in the third quarter of fiscal 19 and $9.8 million in the third quarter of fiscal 18. Operating income in the third quarter of fiscal 18 was also reduced $39.7 million by a one-time cash payment to CENTOS employees following the enactment of the Tax Cuts and Jobs Act signed into legislation on December 22, 2017. Excluding the integration expenses related to the G&K acquisition and the one-time cash payment to employees, operating income increased 11.8%, and operating income margin improved 90 basis points to 16.6% in the third quarter of fiscal 19, compared to 15.7% in the third quarter of fiscal 18. Reported net income from continuing operations for the third quarter of fiscal 19 was $200.9 million. and reported earnings per diluted share from continuing operations for the third quarter of fiscal 19 were $1.83. Please note that there were a few items impacting the comparability of reported financial results. First, G&K acquisition integration expenses negatively impacted reported EPS in the third quarter of fiscal 19 and 18 by 1 cent and 6 cents, respectively. Also, reported EPS in the third quarter of fiscal 18 included a negative impact of $0.24 from the one-time cash payment to employees. Finally, reported EPS in the third quarter of fiscal 18 included a positive impact of $1.59 from benefits under the Tax Act, primarily due to a one-time revaluation of deferred tax assets and liabilities. Excluding these items, net income dollars increased 31.7%, and net income margin was 12% compared to 9.6% last year. EPS increased 34.3%. As Scott Farmer, our chairman and CEO, stated in today's press release, we're pleased with our third quarter financial performance. Our employee partners are working diligently to exceed customer expectations while also making significant progress on integrating the G&K acquisition and converting more operations to our new enterprise resource planning system. And while our employee partners are focused on getting customers ready for the workday, we remain committed to efforts to increase shareholder value. In this year's third quarter, we paid an annual dividend totaling $220.8 million. The dividend of $2.05 per share was an increase of 26.5% over last year's dividend. Also in the quarter, we purchased $100 million of Cintas stock under our buyback program. As of February 28th, we have now purchased $546.6 million of Cintas stock during fiscal 19, and the amount remaining under our buyback program is $863.4 million. We updated our annual guidance for fiscal 19. We expect revenue to be in the range of $6.87 billion to $6.885 billion. This implies a strong finish to our fiscal 19 year with fourth quarter revenue growth in the range of 6% to 7%, and operating income margin in the range of 17% to 17.5%. We expect EPS from continuing operations, excluding certain items, to be in the range of $7.42 to $7.48. Note the following regarding the EPS guidance. It assumes an effective tax rate for fiscal 19 of 20.6%, This implies a fourth quarter effective tax rate of 24.5%. The reported effective tax rate in last year's fourth quarter was 21.5%. The higher tax rate expected in the fourth quarter of this year will have a negative impact of 7 to 8 cents. Keep in mind that the tax rate can move up or down from period to period based on discrete events, including the amount of stock compensation benefits. Our guidance assumes a diluted share count for computing EPS of 111.5 million shares. It does not assume any future G&K integration expenses, and it does not assume any future share buybacks. I'll now turn the call over to Paul.

Thank you, Mike. Please note that our fiscal third quarter contained the same number of workdays as the prior year third quarter. Additionally, there will be no workday differences in our fiscal fourth quarter. Looking ahead to fiscal 2020, please note that there will be one less workday than in fiscal 19. Each quarter of fiscal 20 will contain 65 workdays. One less day will negatively impact fiscal 20 total revenue growth by about 40 to 50 basis points. To illustrate the magnitude of the headwind, using fiscal 19 third quarter revenue, one workday is about $26 million. One less workday also has a negative impact on operating margin. Fiscal 20 operating income margin would be reduced by about 10 to 15 basis points in comparison to fiscal 19. The negative impact on the margin occurs because certain expenses, like amortization of uniforms and entrance mats, are expensed on a monthly basis as opposed to on a daily basis, and we will have one less day of revenue to cover the expenses. Please keep these headwinds in mind when modeling our fiscal 20 results. We have two reportable operating segments, uniform rental and facility services and first aid and safety services. The remainder of our business is included in all other. All other consists of fire protection services and our uniform direct sale business. First aid and safety services and all other are combined and presented as other services on the income statement. Uniform rental and facility services operating segments includes the rental and servicing of uniforms, mats, and towels, and the provision of restroom supplies and other facility products and services. The segment also includes the sale of items from our catalogs to our customers en route. Uniform rental and facility services revenue was $1,358,000,000. an increase of 5.7%. Excluding the impact of acquisitions and foreign currency exchange rate changes, the organic growth rate was 6.2%. As Mike mentioned earlier, the organic growth rate was negatively impacted by customer closures caused by the severe weather and the holiday calendar. Our uniform rental and facility services segment gross margin was 44.9% for the third quarter, compared to 44.1% in last year's third quarter, an improvement of 80 basis points. Energy expense as a percentage of revenue was 2.4% compared to 2.5% in the prior year quarter. We are pleased with the gross margin expansion and our ability to overcome the weather and holiday challenges, as well as continued wage pressures, increased commodity costs such as for hangers, which are sourced mostly from China, and the inefficiencies that are customary with an acquisition, integration, and an ERP system implementation. Our first aid and safety services operating segment includes revenue from the sale and servicing of first aid products, safety products, and training. This segment's revenue for the third quarter was $149.2 million. The organic growth rate for the segment was 8.6%. This segment, too, was negatively impacted by severe weather and the timing of the holidays. The first aid segment gross margin was 48.2% in the third quarter compared to 46.9% in last year's third quarter, an increase of 130 basis points. Note that first aid segment gross margins are at record levels and have been marching higher since the acquisition of Z Medical three and a half years ago. National account new business continues to help drive high single digit organic growth. Penetration of existing customers with more products and services is also a major contributor to top line growth, and it results in above average gross margins. Our fire protection services and uniform direct sale businesses are reported in the all other category. Our fire business continues to grow each year at a strong pace. Uniform direct sale business growth rates are generally low single digits and are subject to volatility, such as when we install a multimillion-dollar account. Uniform direct sale, however, is a key business for us, and its customers are often significant opportunities to cross-sell and provide products and services from other business units. All other revenue was $174.8 million, an increase of 4.5%. The organic growth rate was 2.3%, and was driven by 11.3% organic growth in the fire business. All other gross margin was 42.3% for the third quarter of this fiscal year compared to 41.7% for last year's third quarter. Selling and administrative expenses as a percentage of revenue were 28.3% in the third quarter compared to 30.9% in last year's third quarter. Note that the one-time cash payment to employees in last year's third quarter that Mike mentioned earlier was recorded in selling and administrative expenses. Excluding this payment, last year's selling and administrative expense as a percent of revenue was 28.4% compared to 28.3% in this year's third quarter. Our effective tax rate on continuing operations for the third quarter of fiscal 19 was 20.1%. In the third quarter of fiscal 18, we realized a significant tax benefit from the Tax Act, primarily due to a one-time revaluation of deferred tax assets and liabilities. Our fiscal 19 EPS guidance assumes an effective tax rate of 20.6%. This implies a fourth quarter effective tax rate of 24.5%. The effective tax rate in last year's fourth quarter was 21.5%. As Mike stated previously, the higher expected tax rate will have a negative impact on fourth quarter EPS of seven to eight cents. Our cash and equivalence balances of February 28th was $80.9 million. Operating cash flow in the third quarter of fiscal 19 increased 15.7% from the amount of operating cash flow in the third quarter of fiscal 18. Capital expenditures in the third quarter were $70.2 million. Our CapEx by operating segment was as follows, $55.8 million in uniform rental and facility services, $8.1 million in first aid and safety, and $6.3 million in all other. We expect fiscal 19 CapEx to be in the range of $270 million to $285 million. As of February 28th, total debt was $2,754.5 million. $2,537,000,000 is fixed interest rate debt, and $217.5 million is variable rate commercial paper. At February 28th, we are at our targeted leverage of two times debt to EBITDA. That concludes our prepared remarks. We are happy to answer your questions. Thank you.