Kimball International, Inc.

Good afternoon, ladies and gentlemen. My name is Rocco, and I will be your conference call facilitator today. At this time, I would like to welcome everyone to the Kimball International First Quarter Fiscal 2023 Earnings Conference Call. As with prior conference calls, today's call, November 3rd, 2022, will be recorded and may contain forward-looking statements as defined under the Private Securities Litigation Reform Act of 1995. Actual results could differ materially from the forward-looking statements. Risk factors that may influence the outcome of forward-looking statements can be seen in the Kimball International Form 10-K. During today's call, the presenters will be making references to an earnings slide deck presentation that is available on the Investor Relations section of Kimball International's site. On today's call are Christy Juster, Chief Executive Officer of Kimball International, and T.J. Wolfe, Executive Vice President and Chief Financial Officer. I would now like to turn today's call over to Christy Juster. Christy Juster, you may begin.

Good afternoon, everyone, and thank you for joining today's call. We are pleased to report a strong start to fiscal 2023, which marks our third consecutive quarter of industry-leading performance and continues to demonstrate the value of our unique set of strategic choices, differentiated market positioning, and the resilience due to our leadership position in faster-growing geographies and categories. First quarter sales to our core workplace and health end markets increased 20%, driven by our focus on ancillary products and secondary markets. Ancillary products, which are critical to the flexibility, collaboration, and privacy needs of today's developing workplace and health settings, continue to see the most robust demand across all categories and accounted for 87% of our trailing 12-month sales. At the same time, secondary geographic markets, which are experiencing the highest levels of employment and population growth, along with a faster return to office, represented 78% of our shipments over the last 12 months. Our focused strategy, customer excellence, and applied research are enabling us to deliver the products and solutions our customers are seeking in the geographies and end markets with the highest growth and resiliency, resulting in continued revenue growth and market share gains. This was also our third consecutive quarter of substantial year-over-year profitability growth. Sustained top-line growth, a commitment to operational efficiency gains, and timely actions to mitigate inflationary pressures continued to drive margin improvement and enabled us to convert 14% revenue growth into 136% increase in adjusted EBITDA. Taking a closer look at our key end markets, workplace sales increased 22 percent in the first quarter, with a double-digit growth achieved across most verticals led by commercial and education. Workplace order rates were slightly ahead of last year's levels, while we experienced a mid-quarter slowing of the return-to-office pace, mostly in major metropolitan markets, and cycled a 57 percent year-over-year growth comp from last year. Recent market data shows continued increases in the return to office trend, and while major metropolitan areas remain behind secondary markets, the gap has begun to narrow. Finally, we continue to see a sustained high level of upstream dividend signals, including inquiries, showroom visits, and A&D activity. While all of these data points are encouraging, We also appreciate that recessionary concern remain a headroom to future demand, and we are closely monitoring the market for signs of change in order and project patterns. This quarter also marks year one of perfect harmony, the implementation of our harmonized selling model into a multi-branded selling organization, which continues to yield very positive results. In Q1, incremental sales for this new multi-branded approach represented more than 25% of our year-on-year increase in sales growth. We are also pleased to announce that all of our Kimball International showrooms have been refreshed and upgraded over the last year to showcase this combined Perfect Harmony product offering of all five workplace and health brands, including a new pop-up showroom in New York City. These efforts have been well received in the market with an increased number of showroom visits, customer inquiries, and influencer events. Our teams and dealer community have been actively connecting in person this quarter, learning new products and sharing best practices at our national sales meeting and select dealer conference, all in our newly harmonized headquarters in Jasper, Indiana. Poppin's first quarter sales were flat year over year, constrained by heavy brand reliance on metro markets due to the lower than expected return to office. Our newer growth initiatives, Poppin Pro, the Pod category, and our expansion into secondary markets continued to perform above our expectations and are a very important part of Poppin's growth acceleration into the future. Our three new Poppin showrooms and secondary markets open during fiscal year 2022 are scaling well and all placed in the top 10 of Poppin's markets for the quarter. In addition, Poppin's original five showrooms are in the process of being refreshed with a newly relocated showroom in the LA market to Culver City. Poppin's pod category revenues are up 38% year on year, and our Poppin Pro dealer channel accounted for 15% of Poppin sales for the third consecutive quarter. Poppin's work-happy approach to product design and in-stock ready-to-ship model will allow us to capitalize quickly on increased demand in core markets while providing a platform for continued expansion into new territories. Moving on to our health markets. sales were up 13% year-over-year in the first quarter, while orders were up slightly year-over-year, as hospitals and health systems re-engage on projects that were delayed throughout the pandemic. Our Interwoven Health brand continues to perform well in the market, with sales up 27% year-over-year, and we are gaining share in the federal government health business, which is benefiting from increased funding. This vertical makes up more than 10% of our overall health bookings. We just returned from the Healthcare Design Expo in San Antonio, where we proudly received the Nightingale Award for our EverySpace modular solution and showcased how our family of brands support spaces throughout the entire healthcare facility and puts the focus back on patients, caregivers, and family members. We continue to build on our expertise in health through investments in applied research, product development, and partnering with our health-focused dealer community and health systems. We are also pleased to share our new Creating Places to Belong campaign, addressing both our workplace and health markets. This program is a culmination of our research, insights, conversations with customers, and a reflection on our own journey around what it takes to create an equitable, inclusive, flexible, and safe workplace. Creating places that foster a deep connection, productivity, and well-being is more than just providing a space for working, learning, and healing. It is about reinvigorating spaces to a place of belonging and is based upon four fundamental elements. Balancing hybrid environments, prioritizing flexibility, focusing on inclusion and belonging, and supporting health and well-being. Combined with our deep expertise and broad ancillary product portfolio, this new design thinking will allow us to become the trusted partner in our customers' return to office and employee re-engagement efforts and their pursuit to create environments that promote a personalized sense of belonging. In combination with creating Places to Belong, we have also launched nine new product introductions and enhancements in October, ranging from nesting chairs to accessory tables, as well as enhancements to many of our most successful solutions. These new introductions are directly related to the latest research and insights that continue to guide our view on collaboration, connection, flexibility, and hybrid environments. In hospitality, we are realizing the return of some property improvement mandates as brands are positioning themselves for a post-pandemic travel environment that is comprised of pent-up demand for leisure travel and a realization of the value of in-person business meetings. While still early, the renewed optimism in the sector makes us cautiously optimistic regarding a return to growth in this end market in the second half of fiscal year As one of the largest providers of case goods, lounge seating, and ancillary products to the hospitality industry, we will clearly benefit from a turnaround in the sector and future demand trends. To sum up, our first quarter performance represented a solid start to fiscal 2023, and it set the stage for another year of growth for Kimball International. Now I'll turn over the call to our CFO, T.J. Wolf, for review of our first quarter financials and a discussion of our outlook for fiscal 2023. T.J.?

Thanks, Christine. Good afternoon, everyone. We began the new fiscal year with solid first quarter results, giving us confidence in our strategic priorities and keeping us on track to achieve our full year guidance. Net sales increased 14% to $177.8 million, led by our workplace and health end markets. Sales and workplace increased 22 percent, mainly in the commercial and education verticals. Health revenue increased 13 percent as providers in this sector have begun to reengage on projects that were postponed during the pandemic. As expected, the hospitality and market remained challenging, with revenue decreasing 21 percent compared to the year-ago quarter. Gross margin increased 220 basis points to 33.5 percent, reflecting proactive pricing actions to offset inflationary costs and supply chain pressures. as well as higher utilization from improved sales volume. The slight sequential decline in gross margin was mainly driven by higher freight and logistics costs. Selling and administrative expenses were 53.4 million, or 30 percent of net sales, a decrease of 210 basis points year over year. Excluding amortization from the pop-in acquisition totaling 1.5 million, as well as SERP adjustments, adjusted S&A was 52.4 million, or 29.4 percent of net sales, compared to 48.6 million or 31.1 percent a year ago. First quarter 2023 gap net income was 6.6 million or 18 cents per diluted share, inclusive of a 9 cent per share after-tax contingent earn-out gain. This compares to a gap net loss of 5 million or 14 cents per diluted share in the year-ago quarter. Excluding the gain, as well as the acquisition-related amortization or restructuring expense, adjusted net income was 4.8 million or $0.13 per diluted share, up from an adjusted net income of $1.9 million or $0.05 per diluted share in the first quarter of fiscal 2022. Adjusted EBITDA grew to $11.5 million, up significantly from $4.9 million in the fiscal 2022 first quarter. Adjusted EBITDA margin also more than doubled to 6.5% from 3.1% in the year-ago quarter. Moving to our order trends. Workplace orders were up 1% with price more than offsetting volume declines, supported by demand in the commercial vertical. Orders in the health end market were up 3% with price more than offsetting volume declines, recovering from a decline in the quarter ended this past June. Orders in the hospitality end market declined 4%. However, the cadence of order trends in hospitality suggests a bottoming of demand and potential return to growth in the next quarter. Our total backlog at quarter end was 180 million compared to 170.8 million in the first quarter of fiscal 2022, with lead times for all major product lines back within one to two weeks of pre-pandemic or normal lead times. Assuming no new supply chain disruptions, we would expect them to reach our desired lead times by Q4. And generally, our backlog is comprised of 75% workplace and health and 25% hospitality orders. Turning to the balance sheet and cash flow statement, We ended 2023 first quarter with total available liquidity of $75 million, consisting of $17 million in cash and $58 million from the unused portion of our credit facility. At the end of the first quarter, our net debt to adjusted EBITDA ratio was 1.2 times. In the first quarter, we generated $18.1 million in operating cash flow. Capital expenditures of $5.4 million consisted of investments in our warehouse in Jasper, which is now fully operational, updating showrooms, manufacturing equipment automation to drive our operational excellence programs, and enhancing the customer experience. We returned $4.3 million of capital to shareholders in the form of dividends and share purchases. We continue to focus on finding solutions for and eliminating running hot costs and supply chain disruptions, while also continuing to invest in more efficient operations. For instance, we have modified our warehouse network to provide for a single point of order dispatch, and we are halfway through the process of installing our metal automation infrastructure, which combined with lowering steel prices will drive further operational efficiencies. This project is expected to go online in April 2023. We have also initiated several initiatives to reduce our working capital levels, which we estimate reached its peak during the current quarter, and we anticipate will begin to ease over subsequent quarters. Improvement in our cash conversion will enable us to further reinvest in our business, reduce leverage, and return additional cash to shareholders. Now looking at our 2023 outlook, we reaffirm our 2023 revenue guidance of $750 million to $780 million, representing approximately 15% growth at the midpoint, and our adjusted EBITDA guidance of $48 to $52 million, representing approximately 47% year-over-year growth at the midpoint. We expect full-year revenue and adjusted EBITDA to be weighted toward the second half of the year, with the fourth quarter being the strongest. Our guidance reflects current order trends through October, additional price realization from actions already taken, and a reduction in backlog during the second half of fiscal 2023, driven by improved operational performance. We are planning for full-year capital expenditures of approximately $25 million and expect our full-year effective tax rate to be in the range of 25% to 27%. As for the second quarter, we expect revenue to be similar to Q1 levels and adjusted EBITDA to be slightly below Q1 levels, mainly due to a temporary increase in freight and logistics costs. With that, I will now turn the call back to Christy for her closing remarks.

Thanks, TJ. We are very pleased with our positioning as we move forward in fiscal 2023. Our first quarter results mark a solid start to our new fiscal year. Through our focused set of strategic choices, We are successfully delivering products and solutions to end markets and geographies of high growth, resiliency, and favorable return to office dynamics. While we are mindful of the challenging macroeconomic environment and heightened recessionary risks, we are confident in our ability to continue to gain share and outperform the industry. Finally, in September, we published our 2021 ESG report, which outlines our company's fiscal 2023 goals and provides details on our ongoing commitment to sustainable business practices. I'd like to thank our employees, customers, and partners that enable this commitment. Kimball International believes in creating places to belong where each individual feels safe, productive, included, and valued. Thank you again for joining us today. And now, Operator, I'd like to open the call to questions.

And we will now begin the question and answer session. To ask a question, you may press star, then one on your touch-tone phone. If you're using a speakerphone, please pick up your handset before pressing the keys. To withdraw your question, please press star, then two. And at this time, we'll pause momentarily to assemble the rock. And our first question today will come from Greg Burns with Sidodium Company. Please go ahead.

Good afternoon. Could you please quantify how much the orders were impacted by price versus volume, like how much were volumes down versus price?

Sure, Greg. So if we look at, let's look at revenue first, we look at shipments in the quarter, you know, the plus 14% was primarily price was plus 16 in price actually, and minus two in volume. And then if you go to the orders, which were plus one, That was plus 15 in price and minus 14 in volume for the orders in the quarter.

Okay. And relative to pricing, have you fully realized all the pricing that you've tried to pass along over the last 12 months, or is there any further room for price realization and margin improvement from here?

Yeah, Greg, I think if you look in the backlog, we would say that the backlog contains somewhere between 80% to 90% of all the pricing actions we've taken. So we feel that we've realized the vast majority of the price in the backlog for future shipments. So a slight amount to go, but the majority of that has been put in place.

Okay, great. And then in terms of demand trends, obviously you're maintaining your guidance for the year, so it doesn't seem like – Things have deteriorated since the end of the quarter, but could you give us maybe some insight into what you're seeing? Are you seeing the slowdown in major metros being offset by growth in your secondary markets? How is that dynamic playing out for you?

Sure. We look carefully at our metro markets versus kind of secondary and tertiary markets, and there is a significant difference in those two markets in our own performance. We would say metro markets are certainly kind of in line with industry growth trends, and we are seeing a much different, about a 15-point difference in secondary markets.

And, Greg, when you look at through October, you know, the order rate through October has a similar trend for the quarter. So orders were roughly flat versus prior through the month of October.

And just the other thing that I would comment is when you look at the mix of our businesses, versus industry, you know, certainly because 75% of our business is in secondary markets. It makes a big difference for us how the overall business is performing.

Okay. And then I guess just back to the price versus volume. So when we look at the full year guide with the 15 point increase in revenue, that's mainly all coming from price.

Yeah, the vast majority of that is going to be price, Greg. And I think when we think about kind of the other elements that'll kind of fuel the growth in the back half, it's so it was never a volume-driven growth price. Also, we expect the backlog to convert faster. So we would see as lead times come in, we would see a reduction in the backlog. And then, you know, we've talked a little bit about the hospitality recovery. And, you know, we are beginning to see a place where those orders are stabilizing and we see growth potential. So we think hospitality will perform more favorably in the second half of the year as well.

Okay, great. Thank you.

Thanks, Greg. And our next question will come from Ruben Garner with The Benchmark Company. Please go ahead.

Thanks. Good evening, everybody. So, I guess it sounds like orders, you are starting to see some volume declines even though you're still outperforming the industry. I'm just curious if you could kind of go into what gives you confidence that things are going to recover to be able to meet that full year guidance based on what you know at this point.

Yeah, sure, Ruben. So I think, you know, a few other things to note. You know, during the quarter, if you don't get the pattern in the quarter – We certainly saw that August was the weakest month of the quarter. So, you know, started off in July, softened significantly in August, and then came back up in September. And then we've seen that September level sort of carry, you know, straight across, maybe a little bit of choppiness. But I think, you know, that's one point. I think when we look at also the buying patterns for something like education buying season, you know, that's clearly something that fuels our second half of the year growth. We think that that might come slightly earlier than it has in the past. So we think there could be some growth from education buying. And then again, the points I just kind of made previously, there will be some reduction in the backlog that will convert into shipments in the second half from the current levels. And again, I think I would point out that we do believe hospitality will perform more strongly in the second half of the year than it does in the first half. And that's not really fully reflected in the order patterns that we see year to date. So we think that's going to be another growth lever.

Okay, and then in the press release, and sorry if I missed this on the call already, but in the press release you referenced logistics, your logistics network kind of hitting the second quarter. Any more color you can give us there on what exactly is going on?

Yeah, sure, Ruben. So if you think about in the logistics space, kind of the whole logistics area, ocean freight costs have certainly decreased significantly. So to move a container from Asia to either the east or west coast, those have maybe been cut in half. However, because there's still a lot of congestion domestically, we experienced higher costs from storing containers at the ports longer, and then also congestion in our own warehousing network, along with 3PL providers that added incremental costs. So we are in the process of getting the logistics network fully optimized. And once we do that, those costs will come off. And so that's something we're in the process of doing now, but that will be, we'll experience those higher costs again in this quarter.

Okay. And then last one for me, can you give us a little bit more color on the timing of expected benefits on pop-in? Is that something that is material enough that it's given you some visibility into the revenue growth as we move through the year that might not necessarily be showing up on the order front over the last few months?

Yeah, absolutely, Ruben. So I think if you look at Poppin's business, one of the things that we've talked about is that in stock ready to ship model, Poppin does not operate with really a backlog. And so when you see a slowdown in an order pattern, it really impacts Poppin's business immediately. So I think as we talked about major metro markets, which are Poppin's strengths, Along with the fact that there is no backlog, you know, you see that depressed kind of performance from Poppin in the moment. And we mentioned, you know, flat year and year. And, again, we believe that that will begin to recover in the second half. And the positive side is that Poppin benefits quickly from a recovery when it does occur. So if we do see order patterns recover further in the second half of the year, Poppin would benefit from that quite quickly. Okay.

And Ruben, I would just add that when you think about the new incremental opportunities that we've launched with Popin, Popin Pro, the new pod category, secondary markets, you know, those are brand-new initiatives that we've been working on for about a year. We're very pleased with how those are progressing, and so those will become a bigger part of Popin going forward.

Okay, and I said last one. I want to sneak one more in. The healthcare vertical... How did those orders hold up relative to others over the last few months? Is that an area that's maybe less kind of sensitive to the macro concerns and might hold up better this year?

Yeah, I'll just give some top-level comments and let TJ talk about the trends. You know, the health vertical is back. Our business is back to pre-pandemic levels. So we are very pleased with how that health business is operating. We are involved and have been involved in some longer lead time opportunities that we've been working. And so we're pleased with how the funnel is actually building. You can feel focus coming back to kind of redesigning and working with the interiors of those environments. So we do believe that that business will come back and you can start to see that in the order trends that you're seeing this quarter.

Okay, great. Thanks, guys, and good luck on through the rest of the year.

Thanks, Ruben.

And once again, if you would like to ask a question, please press star, then 1. We'll come from Bud Bugach with Water Tower Research. Go ahead.

Yes, congratulations on a good quarter. And good afternoon, by the way. Sure, Bud. I had a couple questions, if I could. On the price versus cost, any commentary that you could give us, any differential between the end market of price versus cost in the quarter and also in the backlog?

Yeah. Yeah, Bud, so I think, you know, the margin expansion, if you kind of look at how we achieve that, you know, I would say broadly 300 basis points of expansion was our ability to realize price above inflation. And then there was about 100 basis point deterioration from some of these incremental logistics costs that we're experiencing both in the previous quarter and into Q2. So I think over the course of fiscal year 22, price cost was sort of holding par on level. Now we've got to the point where the pricing actions are beginning to cover inflation. And so in the backlog, as we mentioned earlier, Almost the entirety of the backlog, between 80% to 90%, contains all the pricing actions we've taken. And so we're quite comfortable with where we stand right now in relation to that.

And is there any difference in the end markets of price? I mean, was the inflation fell pretty much across the three end markets?

It was. The only differential I would say is that because hospitality – is both almost an entirely project-based business and because that is source product as well, either from Asia or LATAM, they experienced higher costs as far as ocean freight goes. But as far as workplace and health, really no differential between the two.

So I was interested, TJ, in your comments about the logistics costs, and I'm going to see if I can challenge you a little bit on this. I think container cost, did that max out at around $20,000 for a 40-footer during the heading times? Yeah, at the very high end. Maybe even $15,000, but yeah, at the very high end, yeah. And it started around $3,000 or $4,000, right? Before we went through all the inflation. So, The increase in logistic costs, you're not back yet to where you were pre-pandemic.

Correct. I think what we'd say is the cost has moved. Ocean container has come off significantly. It's not back to pre-pandemic, but it's come off of the highs. What has impacted us in the very recent quarter and well into Q2 is the fact that as containers came in, they stacked up for a much longer period of time at the port. And that is the highest cost location to store those goods. And so as we try to relieve the goods from the port, we're going to experience the impact of those costs. And then we also had to acquire additional warehouse space. We talked about this both in our last call and now. Our inventory balance, we would say, is higher than we would like it to be. We believe it peaked this quarter. And so as the inventory balance reduces, we'll be able to both reduce our warehouse footprint and ease those logistics costs into Q3 and Q4.

Oh, I may be the only one on the call that's experienced the unpleasantness of demurrage in the past. I'm very much aware of how that is a very painful cost. So can you give us a feel of how much demurrage you did incur in the quarter? And what do you think you can get rid of it?

Yeah, I think from a gross margin standpoint, you know, it was a number that could be between, you know, 50 to 100 basis points. So I think it's an impactful number that needs attention, needs to be worked. So I think, you know, we were pleased that we could expand margins even with that headwind there. But, again, we think that will stay for another quarter or two.

You don't think you can get that to March? I mean, it is – truly unconscionable what they do to you on on that it's uh it may be one of the best reasons in the world to get angry um so um but you're going to take you another quarter or two to get rid of the to at least allow them allow for them to allow you to get get the containers out of the port yeah i think i think it i think you know it's just a it's a it's

everyone is dealing with this too, but the congestion there, the fact that the containers, you know, we can only get so many out a day. So it just is a, it's an unfortunate situation. Once you're there, it does take some time to solve the, to solve the challenge. And what is the leeway these days, three days before they start charging you? Uh, yeah. I mean, in some cases it's immediate as well. So you do get a day or two typically, as you say, to move it off the, off the port onto either rail or a truck. But, um, But it also – yeah, but then it begins quickly after that and the costs add up quite quickly. It's just unconscionable.

Okay, that's very helpful. For me, I'm just – and I must have – somebody did something wrong because I didn't have a lot of time to really digest the release. But one question I do have is orders were $10 million overall higher than – and I would have thought that would have been the add to the backlog, but it turned out to be only about $4 million. What's wrong with my math? Is something wrong with that? Sure.

No, I think that math is actually correct. The other thing, you know, again, when you're talking these numbers, looking at the inventory change, the finished goods made the inventory change, and then would have to look at any cancellations, which are typically not material as well, but have to do all the math across that to see. I can... I haven't worked out the calculation here with you, but that would be how you'd expect it to work.

Plus orders minus sales equals ending backlog, I think. I mean, I think that's the math. So unless the orders are not net orders, that's why I get a small difference or a $4 million difference. Yeah, exactly. Yeah, something like that, but that's right. Okay, so maybe you can, offline, you can help me with that, Matt. Okay, I appreciate it. Sure. Yep. All right. Thank you very much. Good luck on the ensuing quarters in the year. Thanks, Bud.

Thank you, Bud. And this concludes our question and answer session. I'd like to turn the conference back over to Chrissy Juster for any closing remarks.

Yes, thank you for joining us this evening. And as we reflect on the quarter, we're really pleased with how our strategy and the key choices that we've made over the last few years are playing out as our business is starting to ramp back to pre-pandemic levels. So we look forward to keeping you posted and have a nice evening.

The conference is now concluded. Thank you for attending today's presentation. You may now disconnect your lines at this time.