H. B. Fuller Company

Good morning, and welcome to the HB Fuller Q1 2020 Quarterly Earnings Conference Call. All participants will be in listen-only mode. Should you need assistance, please signal a conference specialist by pressing the star key followed by zero. After today's presentation, there will be an opportunity to ask questions. Please note, this event is being recorded. I would now like to turn the conference over to Barbara Doyle, Vice President, Investor Relations. Please go ahead.

Good morning and welcome to HB Fuller's first quarter 2020 earnings call for the fiscal quarter ended February 29, 2020. Our speakers are Jim Owens, HB Fuller President and Chief Executive Officer, and John Corcoran, Executive Vice President and Chief Financial Officer. After our prepared remarks, we will take questions. Please let me cover a few items before I turn the call over to Jim. First, a reminder that our comments today will include references to non-GAAP financial measures and references to organic revenue, which excludes the impact of foreign currency fluctuation and the impact of acquisitions and divestitures. On today's call, unless otherwise specified, discussions of sales and revenue refer to organic revenues, and discussions of EPS, margins, or EBITDA refer to adjusted non-GAAP measures. These measures are in addition to the GAAP results in our earnings release and in our forms 10Q and 10K. We believe that discussion of these measures is useful to investors to assist in the understanding of our operating performance and the comparability of results with other companies. Reconciliation of non-GAAP measures to the nearest GAAP measure is included in our earnings release. Also, we will be making forward-looking statements during this call. These statements are based on current expectations and assumptions that are subject to risks and uncertainties. Many of these risks and uncertainties are and will be exacerbated by the COVID-19 pandemic and any worsening of the global business and economic environment as a result. Actual results could differ materially from these expectations due to factors discussed in our earnings release, comments made during this call, or risk factors in our Form 10-K filed with the SEC and available on our website at hbfuller.com. Now let me please turn the call over to Jim Owens.

Thank you, Barbara. I'd like to first express my thanks and concern to everyone on the call, and especially those of you from New York that are in the epicenter of the U.S. COVID-19 crisis. I know you're dealing with the challenges in your personal lives and inside your own companies, and I appreciate you being here to understand what's happening within HB Fuller. At HB Fuller, we've been dealing with this crisis since January 23rd, when Hubei province went on lockdown. 18% of our employees and 12% of our revenue are from China, and we quickly learned how to manage social distancing, supply chains, quarantines, and delivery of essential products. We've used that experience and the experiences we have seen as China has begun to return to normal to guide our business plans, and our expectations going forward in other parts of the world. A significant portion of our business in China and around the world supports hygiene, health, food, and other consumer products, which have seen a significant increase in demand as consumer buying habits have shifted to using products at home. Our position as the largest dedicated manufacturer of adhesives in the world and our culture of global collaboration have positioned us to manage the supply chain and resource needs of the business more effectively than our competitors, both big and small. Our company is holding the world together in a time of crisis, whether in a personal hygiene product for your baby, a complex medical filter, electronic communication device, or packaging for the foods we're all eating at home. HB Fuller is there as an essential product in our lives. It is this capability to meet the diverse technical adhesive needs of manufacturers across the world that is the long-term value our company provides to the world and to our shareholders. We are squarely focused on protecting that long-term value for you, the shareholders who own this company, along with the employees who run it, and the billions of people in the world who rely on our products in their daily lives As a result of our actions through this crisis, we will be a stronger company, better positioned for growth after the economy recovers from the crisis. Last evening, we announced our financial results for our first quarter of fiscal 2020. Adjusted EBITDA of 78 million and adjusted EPS of 34 cents were both in line with our guidance for the first quarter, which did not reflect any estimated impact from the COVID-19 outbreak. Given the extensive disruption that this disease caused in China in the first quarter, this was an outstanding result and reflects the broad end market diversification of our business, the resiliency of our business model, and terrific work on the part of the HB Fuller team. Additionally, we continue to drive outstanding cash flow improvement with cash flow from operations up significantly year on year in the quarter and our debt pay down plan for the year intact. Let me start by talking about what we are seeing on the ground, how COVID-19 is impacting our business, and how our experience in China is guiding our plans and actions as the pandemic slows in China while it ramps up in the rest of the world. Based on our success and lessons learned in China, we have already taken steps for business continuity and to operate effectively during this period of uncertainty, making sure that we are keeping our employees safe and healthy through social distancing and hygiene actions, while meeting all of our customers' needs. We estimate that the disruption caused by COVID-19 and the shutdown in China to address it had a negative impact of approximately $15 million on revenue in the quarter. China was the only affected geography in the quarter, with 75% to 80% of the impact in engineering adhesives and the remainder in health, hygiene, and consumables. We estimated that this sales decrease in China translated to a negative impact on EBITDA of about 4.5 million and EPS of about six cents in the quarter. The outbreak began to affect our operations in China in late January. We have approximately 1,000 employees in China, all of whom are safe with no reported infections. During the first quarter, the disruption to our raw material supply was very limited given our robust global supply chain and well-established business continuity plans. As part of those plans, we have been actively securing alternate raw material sources, quickly locking down supply of materials where we anticipated shortage could occur. We have six factories in China, none in the Hubei province. All but one of our six factories have been fully operational since the extended Lunar New Year holiday ended on February 10th, and all of our factories have now reopened and returned to normal production levels. In our China engineering adhesive business, We see March results at about 80% of expected levels, and based on market feedback, expect April to be at about 90% of expected levels. Our hygiene, health, and consumable demand is above budgeted levels in March, as supply chains for these consumable goods are refilled, and we expect that to continue into April and move back to normal levels in May. The total three-month impact on HHC in China is resulting in a shift of volume across the months, but not an overall decline in the total demand. Our engineering adhesive business is seeing about a 30 percent total decline from expected levels. Our planning assumptions assume similar short-term impacts in Europe, North America, and other parts of the world, combined with recessionary impacts related to reduced employment and reduced consumption in other sectors of the economy. We are already seeing this scenario play out in Europe and North America. Our March demand numbers are up significantly in HHC and down slightly in engineering adhesives. Our April projections show continued strong demand in HHC and sizable reductions in engineering adhesive market segments beginning to hit our numbers in April. We believe that our global supply strategy, robust business continuity plans, and outstanding leadership on the ground provided us a meaningful competitive advantage in China during this challenging first quarter. As we prepare for disruptions to ramp up in other geographies in the coming weeks, the protocols we are implementing are similar as we leverage the lessons learned in China. From implementing disinfectant and social distancing procedures utilizing internal chat tools to connect to each person in the company, ensuring effective remote work capabilities as practical and appropriate, allowing essential travel while utilizing technology to connect with customers, including our state-of-the-art wearable glass technology to provide remote support to our customers. The core of our continuity plans is working closely with customers to determine and plan for customer delivery needs, utilizing our robust global supply chains to backfill raw materials as needed, and shifting production between sites where needed. Manufacturing factories have generally been exempt from business shutdowns around the world. But whenever there have been manufacturing shutdown mandates, such as the recent mandates from the governors in New York, California, and other states in the U.S., HB Fuller facilities have received a government exemption as they meet the criteria for an essential manufacturer under federal guidelines supplying the hygiene, food packaging, or medical industry. We operate these facilities under strict protocol to avoid disease transmission. Today, nearly 100% of our 72 factories around the globe are operating fully. Now I will move on to the financial results in the first quarter. Organic revenues were down 1% year over year, driven by the impact on our China sales of the disruption caused by the COVID-19 outbreak. Outside of this impact, our business was on track for very strong performance in the quarter. Excluding impacts on our sales in China from the delayed holiday and the outbreak, we estimate that organic revenue is up approximately 1% year over year, with volume growth in all three segments. Adjusted EBITDA was 78 million in the quarter, which is consistent with our guidance, despite an estimated 4.5 million impact from COVID-19. Impacts from the virus were offset by lower raw material costs, restructuring savings resulting from the move to global business units, and solid organic growth, particularly in construction adhesives, as well as strong growth in HHC adhesives due to elevated demand within the paper, packaging, and hygiene end markets. Adjusted EPS of 34 cents was flat year over year and would have increased by more than 15% without the COVID-19 impact of approximately six cents in the quarter. And cash flow continued to be very strong in the quarter, with cash flow from operations up significantly versus last year, keeping us on track for our full year debt pay down plan. Importantly, our business reorganization remains on track and delivered savings in Q1 at the high end of expectations. The new global business unit organizations have been fully operational since December 1st, strengthening the collaboration across our global teams and the support of our customers. In addition, we are driving down our cost-to-serve customers. In the first quarter, we realized $6 million of savings from our reorganization. We are also accelerating several projects and now plan to see total annualized savings at the high end of our $25 to $35 million range. Now I'll move to segment performance in the first quarter on slide four. Revenues in engineering adhesives declined by 4% on an organic basis, driven by lower volume compared with last year. As we said earlier, the impact of COVID-19 felt in China was most evident in our engineering adhesive segment. We estimate that the virus impacted EA revenues by about $12 million in the quarter, and organic revenue would have been close to expectations in about even the last year, excluding this impact, with volume up in the low single digits year on year. We continue to see very strong results in electronics, which was up double digits again in the quarter based on market share gains. This was offset by slower results in automotive, insulated glass, and new energy. These end markets will likely decline further through the fiscal year as economic impacts of the pandemic are felt. Adjusted EBITDA margin of 12.4% was lower than last year, reflecting unfavorable mix associated with lower sales volumes. Hygiene, health, and consumable segment, or HHC, organic sales, were up about 1% year-on-year in the quarter. As we said, we saw about 3 million of sales impact from the shutdown in China in the quarter for COVID-19. We estimate that organic revenue would have been up about 2%, excluding this impact, reflecting strong growth in packaging and health and beauty. HHC segment EBTA margin of 11.5%, improved 100 basis points year-over-year, driven by favorable mix, slightly lower raw material costs, and savings from the restructuring of the business. Construction adhesives had a very solid quarter as the business returned to top-line growth and double-digit EBITDA, on track with our forecasted improvements. The improvement in the quarter was led by double-digit revenue growth in roofing and improving results in flooring. Construction adhesives' EBITDA margin returned to double digits and increased year over year, driven by volume growth and improved mix related to the portfolio repositioning and new product solutions, as well as the operational improvements from the restructuring. Our visibility and pipeline for construction adhesives look solid in the first two months of the second quarter. Looking further, we would expect a negative impact to this business if there is a pandemic-related shutdown of new construction or a significant processionary environment. Regarding our outlook for the second quarter and the rest of this year, This obviously continues to be a very fluid and difficult environment to predict. We are using China as a baseline on which to rigorously plan our operations and adjustments we need to make. Our current assumption is that we will see economic contraction in the second and third quarter of this year. More acute in the second quarter than the third quarter with some rebounds in the fourth quarter. We expect the high demand we are seeing for paper, tissues and towels, hygiene and health products will continue through the year particularly in packaging, as consumers continue to delay eating out. Construction will continue at close to the current pace in March and April and likely slow into May and the third quarter. Engineering adhesives will face declining demand in durable goods for transportation, solar, and doors and windows, with some offsets in filtration, electronics, and MRO adhesives. We also expect that raw material costs will decline significantly based on softer global demand and lower underlying petroleum prices, with these cost declines accelerating over the next several months. Fundamentally, a decline in petrochemical prices supports HB Fuller's margins and our cash flow. Importantly, under various scenarios, we continue to forecast sufficient cash flow generation to pay dividends of approximately $34 million and $200 million of debt repayment this year. We are also developing additional levers to improve our operating efficiencies and underlying costs. Our 2019 restructuring project impacted SG&A costs, and prior to COVID-19, we initiated a review with external consulting support to evaluate our 72 factories with three goals. To improve efficiencies in our large factories, to establish a roadmap towards site consolidation, and to build a plan to accelerate our inventory reduction strategies to improve supply chain planning. We expect to share more details on our plan savings and timing during our Q2 conference call in June. While the economic backdrop continues to evolve and our underlying assumptions could change dramatically, we think that it is important to share with you what we are seeing today and how it is guiding our expectations and operating plans for the rest of the year. and share with you other levers that we have at our disposal. Now let me turn the call over to John Corcoran to review our first quarter results and our revised outlook for fiscal 2020 based on the economic assumptions that I just described.

Thanks, Jim. I'll begin on slide five with some additional financial details on the first quarter. Net revenue was down 3.9 percent versus the same period last year Currency and the divestiture of the surfactants and thickeners business had a combined negative impact of 2.6%. Adjusting for currency and the divestiture, organic revenue was down 1.3%. As Jim mentioned, we estimate that COVID-19 impacted revenues by about $15 million in the quarter, primarily in engineering adhesives and HHC. Adjusting for the impacts of COVID-19, organic revenue was up about 1% year-on-year, with volume growth in all three segments. Year-on-year adjusted gross profit margin was 26.5%, down 50 basis points versus last year, as lower volume associated with COVID-19 and product mix offset the impact of lower raw material costs and manufacturing efficiency gain. Adjusted selling general and administrative expense was down 3.2% versus last year, reflecting actions related to the business reorganization and restructuring announced last year, as well as some impact foreign currency. Adjusted EBITDA for the quarter of $78 million was in line with our expectations and guidance despite the impact of COVID-19 on revenue in the quarter, reflecting slightly lower than expected raw material costs and higher savings from restructuring. Adjusted earnings per share were $0.34, the same as last year, as underlying organic revenue growth, savings from our restructuring actions, and lower interest expense associated with our debt reduction actions and lower interest rates offset the impact of COVID-19 and currency headwinds versus last year. Cash flow from operations increased by $34 million compared with the first quarter of last year, based on continued improvement in working capital performance. This allowed us to continue to reduce debt during our lowest cash flow quarter of the year. And it keeps us on track for our full year debt pay down plan. Regarding our outlook, based on what we know today and the assumptions that Jim laid out earlier, We anticipate revenue to be down 5% to 15% year on year and EBITDA to be approximately $90 to $100 million in the second quarter. As business in China continues to recover, while we anticipate disruptions in other parts of the world will increase and raw material costs will start to decline. Using our cash flow performance during the recessionary period of 2008 and 2009 as a reference point, and given the lower expected working capital requirements associated with reduced demand, as well as higher anticipated raw material cost savings, we continue to expect to see strong cash flow performance over the rest of the year. This is allowing us to maintain our target to pay down approximately $200 million of debt during 2020, keeping us well ahead of our original deleveraging plan laid out in late 2017. Additionally, we have more than adequate liquidity to meet any foreseeable need. This includes a $400 million revolving credit facility, with a built-in accordion feature that allows us to upsize the facility by $300 million if needed. We also have ample room under our debt covenants using even the most conservative scenarios. With that, I'll turn the call back over to Jim Owens for some closing comments.

Thank you, John. We don't know for certain what the impact of COVID-19 will be on our business, but we do have good experience from China and a number of other facts. that are working in our favor. These facts are as follows. Our first quarter was strong despite the impact of COVID-19 in China for five weeks. Our first month of Q2 remains on track due to increased demand in our consumer goods and hygiene businesses, offsetting slowdown in our engineering adhesive business. Our actions taken last year to decrease SG&A, delivered savings in Q1, and will deliver further savings throughout this year. Our actions for reducing manufacturing costs are moving forward as planned this quarter and will result in additional savings. The decrease in oil prices and reduced demand for chemicals globally will result in reduced raw material costs during the second half of this year for HB Fuller. HB Fuller is an essential supplier and remains open for business around the globe. While there are still many unknowns, the facts surrounding HB Fuller's business as an essential supplier will enable us to weather this storm successfully, delivering strong cash flow and reducing our debt. Most importantly, the fundamentals of our business and of your business investment in an industry-leading company that creates significant value remain firmly intact. The execution of our strategy to be the best adhesive company in the world and to grow by solving the world's adhesion challenges better and faster than our competitors has proven itself thus far through this crisis and will continue to be a source of strength for HB Fuller going forward. We are better positioned as a business today than we were six months ago, having completed the global business unit realignment in our business. We are more agile. and able to more quickly assess and respond to end market conditions and customer needs under this new structure. Our robust global supply chain, business continuity planning, and nimbleness give us a significant competitive advantage as reflected in our first quarter results. While there are significant global health risks that we all are managing and economic challenges to face over the next quarters, adhesives will continue to be a high-value part of the supply chain for vital products needed to address the pandemic today and the long-term challenges we will all see afterward. As customers need to accelerate manufacturing efficiencies and product innovations, adhesives will be front and center in driving those outcomes. I am confident that HB4 will continue to strengthen our position in this industry because of our extraordinary collaboration with customers, our ability to quickly reformulate and repurpose our broad portfolio of adhesive applications, our robust global operations and supply chain, and our unmatched expertise in adhesives. I will again credit our entire team around the world for working to keep all of our employees safe and to meet our customer needs safely, creatively, and with unwavering focus. That concludes our prepared remarks today. Operator, please open up the call so we can take some questions.

Thank you. We will now begin the question and answer session. To ask a question, you may press star, then 1 on your touchtone phone. If you're using a speakerphone, please pick up your handset before pressing the key. To withdraw your question, please press star, then 2. Our first question comes from Vincent Anderson from Stiefel. Please go ahead with your question.

Thanks. Good morning. Good morning, Vincent. Good morning. I was interested in how your sales process is mitigating any limitations on your personnel working directly with customers, you know, bringing visitors to do your prototyping operations. And second, do you have any impression on whether customer product development cycles are being delayed in this environment, you know, to the extent that there's risk of maybe missing out on new wins as potential customers are forced to move forward with product refreshes with just whatever materials are available at the time?

Yeah. Well, I would say, Vincent, again, with China as our guide, our sales teams continue to work throughout the crisis, staying closely connected with customers. And as our labs opened up, our R&D folks were back in the labs. And today, as an essential business, we have people operating in our labs and working on projects. Importantly, for staying connected with customers, we've put in place a lot of remote communication and the tools are there. We had piloted about a year ago this Google Glass technology where we can give a customer a set of remote glasses that they can wear in their factory as we're trialing products and we've accelerated that program here in the U.S. and it's been a very successful program where we've used it. So is there some change in the cycle? Yes, but our customers as well have people working from home, and those people that are working on new projects continue to work with our team. So I would say that work continues, and based on our experience in China, it continued there as well. That's great. Thank you.

And then if I think about the effects of the slowdown in cross-border shipments, are there any key exporting plans, for instance, that could suffer in your network? Or on the other hand, any business lines that are really focused on domestic customers that could benefit from the slowdown in import volumes?

Yeah, I would say thus far that's been an advantage for us, a sizable advantage. A good example was we have some competitors that exported from China into Southeast Asia. Our facilities in Southeast Asia were able to meet those needs for customers that couldn't get the product there otherwise. In India, before the recent shutdown there, we were able to fill in for some major customers that had supply issues making some hygiene products that weren't able to get materials. And even recently here in the States, there's somebody who exports into the United States from Europe, unable to supply here. So most of our business is very much, as most of you know, we make around the world for those local markets. We certainly have some exports, but for the most part, we make in-country for the country. And I think that's turned out to be an advantage for us in this environment. Thanks.

If I could sneak in a quick modeling question, just if you think about the second half slowdown that you're potentially expecting, how do we think about the flexibility in your R&D spending to kind of cushion cash flows?

Yeah, the way we look at our modeling, Vincent, is really around three things that we have in flight. We expect RALs to come down as a result of significant decline in petrochemical prices as well as a slowdown in demand, and we've seen that through any other slowdown that's ever happened. The SG&A work that we did is going to have a benefit, and there's some things we can do there to accelerate some of that work. And then this manufacturing project I talked about, we had kicked that off before all this COVID, so we'll see some of those savings as well. We have a number of other levers, but those are the three main ones that we see that are going to offset a slowdown. But our intention is not to cut R&D. We're investing for the long term in our company.

Okay, thanks very much, and good luck.

Okay, thanks.

Our next question comes from Mike Harrison of Seaport Global Securities. Please go ahead.

Hi, good morning.

Good morning, Mike.

I think you guys are in a pretty good position having gone through what you saw in China and, as you said, applying some of those lessons. I wanted, though, to understand, as you're seeing the effects of COVID-19 starting in China and now, obviously, parts of Europe, and maybe we're a couple weeks behind that in the U.S. Can you talk about some of the trends that you're seeing in, I guess, maybe those EA markets where you're seeing the most pronounced impact? It seems like China had more of a V-shaped impact where things fell off very quickly and now have recovered more. more quickly than people would have assumed. Are you seeing the pattern be pretty similar in Europe and the U.S., or do you feel like at this point the fall-off has been a little bit more gradual in those two geographies?

Yeah, so I would say, you know, certainly it's two months difference between where the U.S. is and China is pretty close to that, and Europe's only a So the recovery curve could be different in those different areas. I think the big difference, and we've looked at what the differences are, China had the extended lunar holiday for most of the country. So there's sort of an abrupt process there that was a little different than what happened in other parts of the world where it sort of took a wave across Europe and a wave across the U.S. But our fundamental assessment is very similar. We... You know, the steps that the government took there, very similar to what's been taken by other governments. And the things that we learned, we've been able to, I think, do a better job as a company. We're doing a better job in Europe and North America. And I'm guessing that governments are learning from China. So, you know, there's a chance that governments in other parts of the world will have a faster recovery than China. Of course, there's a chance it will be slower. But, you know, for us, supplying raw materials, supplying logistics, really important. getting the social distancing right, making certain that we quarantined employees and put ourselves in a position where other employees weren't gonna get sick, all were steps that we took in China that we were able to do very early in advance of issues. And you look at a plant like our plant in Italy in Venice, it's still operating today. They supply materials for essential goods. None of our employees have caught the virus. We've quarantined any that have family members that have the virus, and we've been able to keep our employees safe and keep our business running. And I would say our reaction and the attitude and energy of our Italy team is a great example of how we've learned from China. So did I answer your question, or did you have more to it, Mike?

No, I think that that got to the question that I was trying to ask there. The second question I have is I think you did a good job mentioning that in hygiene and packaging and filtration, you're seeing some benefits, some elevated demand. Can you help us quantify how much improvements you're seeing in some of those markets that Is some of it pull forward and maybe the effect of hoarding or unusual spikes that would be not sustainable and other areas maybe sustainable? Maybe just a little bit more color on what you're seeing in some of those markets that are benefiting.

Yeah, so again, we're using China as our guide in terms of what's happened in and what we expect to happen. Yeah, our demand this month is way up in hygiene, health, and consumables around the world, including China, but in Europe and North America as well. And one of our priorities right now is filling that demand. We do think there's increased usage. I think in a world where people are worried about coronavirus, anything that's related to cleaning products, hygiene, personal hygiene products, there's an increased use of those products. Food packaging, I think, has potentially a long-term shift as people are certainly eating out less. And at some point in this process, they'll start eating out again. But there may be some resistance by some people to eat out. So I think we're anticipating this. Well, some of it's definitely a spike in demand. Some of it's refilling pipelines. And some of it is, we think, a little bit of a shift in demand that's going to happen over time based on our customers. We don't see any hoarding. We see customers ramping up their facilities and meeting demand, whether that's our food customers or our hygiene customers. So they're not building inventory of adhesives. They're using these adhesives as they get them.

All right, and then the last question I had is on the 5% to 15% decline that you're guiding to for second quarter revenues. Just trying to frame up kind of what you're seeing thus far in March to inform that range, maybe what assumptions you're using to get to that range. And is the 15% decline and a $90 million EBITDA number Is that a worst-case scenario? Is that just a pretty bad-case scenario? How did you get to that point?

Yeah, we did a detailed assessment through each one of our segments because we knew it would be an important question and people would have to model it. I can let John comment more on our process. I wouldn't call it guidance, right? I'd call it our planning assumptions. We have to build our plans and our business plans on what's going to happen. As I mentioned in the comments earlier, If you looked at our March revenue numbers overall, you'd see a company that through Q1 and through this month is right on plan. But we do see auto plants shutting down. We do see what happened in China in terms of certain market segments where there was a clear short-term dip in demand on especially more durable goods. So we modeled what happened in China in aggregate. into our views on our engineering adhesive business, and we looked at what's happening with HHC and the feedback we had for our customers and our HHC business, and applied very similar numbers to Europe and North America. Europe and North America could get through this quicker, and the numbers would be on the high side of that, or maybe better. There could be a much longer term problem in Europe and North America, but we see this all on the EA side. On construction adhesives, Thus far, construction demand and a lot of the things we did to advance some new products continue to see good demand here in March. And at this point, looking into April, we still see solid demand in most of those segments. We are thinking that construction will slow down in May a bit, especially related to recessionary forces and uncertainty. So that's what we modeled, Mike, but it was really educated based on what we saw. But all that is temporary, right? We see all that as temporary, and then the only thing that we all need to figure out is, you know, is there a lasting recessionary impact that will last into Q3 and Q4? But the downturn we talked about there was temporary. So I don't know, John, if you have anything else you want to add to that?

Yeah, maybe just a little color around the approach. I mean, Mike, we went to the people who are running the business in each GBU in the region to get their view. So it's really sort of a bottoms-up, and not surprisingly, there's a pretty wide range of outcomes that they are thinking could be anticipated given how early we are in this. The other thing we tried to assess is how quickly raw material cost savings could come, and I think our position, at least for this view is that they won't, not very much will show up in the second quarter, and I think a big focus will be to try to accelerate those savings.

All right. Thanks very much. Great color.

Okay. Thanks, Mike. Thanks for the question.

Our next question comes from Gansham Punjabi of Baird. Please go ahead.

Hey, guys. Good morning. I hope all of you are safe. Thanks for taking my questions. I guess first off, I may be following up on the last line of questions. You know, just from our check, I mean, it seems like there's a fair amount of concern about employee absenteeism along the supply chain and, you know, related disruption risk. You know, Jim, you mentioned that customers seem to be just sort of ordering like normal to service demand. But are you seeing a buildup on safety stock in some of the other businesses? I mean, your EA business is very, very specified. I assume that there's a longer production cycle associated with that along the supply chain. Just curious as to your thoughts in terms of what you're seeing this week, maybe versus last week, and if you're seeing customers start to worry about raw material accessibility, including what you produce.

Yeah, I would say that, well, first off, on the issue of absenteeism, I think that's a priority for us, and I think most manufacturers understand how important that is, but I'm part of the business community here, which has a lot of global companies in the Twin Cities, and clearly everyone's doing a lot of work to keep their manufacturing employees safe and healthy and isolated from other employees. So what I see around the world is manufacturing sector employees not having a major absentee problem up until this point. The supply chain issues we see are mostly people filling demand that they have. So we don't see, even in some of the specified orders, you know, the auto supply chain, people trying to load up on adhesives, right? So I think people are trying to get a balance of their supply demand. And we don't see, at this point, a lot of over-ordering. Might that change in April and May? And we see customers, auto companies that are shut down, trying to build up adhesive supply, potentially, but that's not what we see at this point.

Okay, and then in terms of the, you know, guidance-specific QQ and the 5% to 15% and, you know, looking at the midpoint of EBITDA, that sort of implies a 35% detrimental. How do you see that, you know, manifesting in the back half of the year as ROMCO prices kick in, you know, on the downside and starts to buffer some of that impact? And, John, you mentioned, you know, using 08-09 as sort of a proxy for cash flow. So how should we, you know, going back to that timeline, how did defermentals kind of phase through apart from the initial shock, which I assume is easy to do?

Yeah. Yeah, so, you know, as, you know, as is clear from our commentary, we're not really commenting in detail on the second half of this year other than to say that, you know, we're going to get continued SG&A benefits. that we're definitely going to get raw material benefits that will happen, and we're quantifying and working to accelerate those, and that this manufacturing project that we already started will start seeing benefits in the second half of the year. We also have other levers that we could pull, but those are the three main levers that we're targeted on. I'll let John give more color on 2008 to 2009, but these are the high-level numbers. Our revenue from 2008 to 2009 was down 11%. and our gross profit was up 380 basis point, and our operating income was flat. Working capital went from a use of capital to a source of cash, and our cash flow was up 50% from 2008 to 2009. So that's what we saw back then. We're in a different time, and the company's different, but the same fundamental things are what we anticipate and what we've modeled all the various scenarios. John, anything you want to add to that?

No, I think that was a good description. I think, you know, obviously 2008-2009 could be very different than what we're seeing right now, but I do think those fundamental things that we talked, that Jim hit on, if we see a revenue decline, we expect offsetting lower raw material costs and we would see working capital free up. So those are the basic fundamental things that we think will be the case for the rest of this year, and that's how we're looking at our cash flow.

Okay, just one final one on the construction segment. You know, I think, Jim, you mentioned in your comments of the backlog being pretty healthy, or I forget the word that you used. Just give us some more color on that, which protector end mark is, you know, kind of separate between roofing and flooring or whatever else is relevant to that. Thanks again.

Yeah. Yeah, so we've had conversations with all of our major roofing customers, which is the biggest segment, and out with contractors and roofers. And there's a pent-up demand in that space. So they have current projects and insight into their next projects that they see continuing to go forward. So they're concerned about filling supply chains and ordering and moving forward. How and when that will slow down really, I think, depends on people, the overall economic conditions in the country. But what we see, certainly what we've had, we have the orders in hand and products shipped and sold in March, and what we see into April is still pretty robust there. In the flooring business, we're seeing more activity at the big boxes than we're seeing at the distributors. So I think there's a bit of a DIY piece going on and Maybe some planning around there so we see more activity there than the other. And then in our utility infrastructure business, pretty stable so far in terms of the projects and the things that are going forward. But again, in a recession, we'd expect that to slow down if there is a recession as we go forward. And then we have some anomalies in the business. We have a disinfectant product that we, in our utility infrastructure business, that's used when people install new insulation, especially after hurricanes or other issues. That product, of course, is selling off the shelves, and our team is doing everything they can to get that out in the hands of users. It's effective against coronavirus and is an uptick. So we have things like that that are out there as well that are balancing things out. But yeah, we see... Right now, we see construction strong, but we're really anticipating it to slow down here in the second half of the quarter.

Thanks so much.

Stay safe.

Okay. You too.

Our next question comes from Eric Petrie of Citi. Please go ahead with your question.

Hey, good morning, Jim and John. Good morning, Eric. So, a question on electronics. You noted that volumes were up double digits, and A lot of that was due to share gains, but if I'm looking correctly at your planning assumptions for 2020, it looks like you have electronics under down moderately, so just give any color there, whether it be impact of lower shipments of smartphones, and remind us, too, how much of sales of electronics represent.

Yeah, so I appreciate your persistence on the second question. We don't share specifically our electronics business, but it is growing sizably and becoming a a sizable part of our business. We are gaining share both through wins that we had that are impacting products that are being launched, as well as the really great work that our team did in China helped us fill some needs that are out there in the market that others weren't able to fill needs. So business that we maybe were about to replace got accelerated. because of our ability to get our Yantai facility up and running so quickly. I would say down moderately is only because of what we read externally. Our business is very strong in electronics, and it could be up, it could be down. Certainly it would have been up a lot more in Q1 if the coronavirus hadn't hit China.

Thank you. As a follow-up, Are you seeing any near-term pressures on the smaller mom-and-pop adhesive suppliers, and can you gain share there, or is there an opportunity for consolidation in the industry?

Yeah, you know, I think everybody's in a different position. It depends on the nature of their business. Certainly if somebody's a smaller company that exports around the world, they've got a lot of challenges, right? And there's a number of those that have a sizable part of their business or at least a piece of their business where they're trying to ship around the world. That's a big challenge for small companies. And then in their local market, depending on the nature of the situation, if you're a small adhesive company in Hubei Province, your ability to serve all of China is dramatically impacted. So it depends on who they are, but I would say broadly speaking, as I said in the script and my other comments, our global supply chain, our team's ability to work around the world has been a competitive advantage to enable us to serve customers really well and demonstrate the benefits of our strength as a company, not just versus small suppliers, but also big suppliers who maybe are distracted with other parts of our business. Everybody in this company worries about the adhesive business and where and how to serve it, and I think that's a fundamental advantage that we have in our understanding and our singular focus in making that happen versus companies that have a lot of other needs and a lot of other different parts of the business.

Great. Thank you.

Thank you, Eric. Our next question comes from David Begleiter of Deutsche Bank. Please go ahead.

Hi, this is David Huang here for Dave. His first question, just on your restructuring savings, how much do you expect to realize in Q2 and then the second half?

Yeah, let me give that to John. But I think we said originally it would be two-thirds this year, and we're doing work to accelerate that and move some of those savings forward. So that $25 to $35 million we originally said was going to be two-thirds. We're now saying we're at the high end, and we're also working to accelerate some of those savings. So, John, I don't know if you have a specific number on Q2 you can share.

Yeah, I think Q2 will be at least what we realized in Q1, which was $6 million, and we'd expect that to increase slightly over the year. As Jim said, we originally had a range of $25 to $35 million, with two-thirds of that realized this year, which would put us, you know, So, you can do the math on that. Obviously, our goal is to exceed that.

And the second one, I guess, how much pricing erosion do you expect this year from lower raw materials and probably recurrent demand?

Yeah, so we're not really in a position to quantify that. We certainly... see that the dramatic change in petrochemical prices is something that's very unique to happen that quickly, and we definitely know it will benefit us. Normally it takes a couple quarters for us to see those benefits. We think in this environment there could be an opportunity to accelerate that, but we don't go up and down with oil prices except when it makes dramatic moves like this, and normally there's a phasing of that. supply-demand drives us more than anything, and if, you know, supply-demand slows down, that will also be a contributing positive factor. But, you know, the models we're running show that what we're seeing as potential downturn in the second half of this year will be offset by raw material savings. So, John, do you want to add anything to that?

Yeah, well, his only point is, you know, even though raw materials have been dropping, you know, our customers are more concerned with supply than price right now, and so that's been their big focus.

And, you know, I guess the last question is assuming the current energy prices stay here, what level of raw material savings are we talking about, and then how much cash would you expect to realize from working capital?

Yeah, again, we're not modeling or, you know, providing guidance on what that's going to be in the last half of the year. But, you know, I think the, you know, it's a sizable tens of millions of dollars of benefit on raw materials. And we see that flow through on working capital as well. So, John, you want to add any more?

No, I think your question also on working capital, we've been targeting to reduce working capital by 100 basis points as a percentage of sales this year. We think that we're still on track to do that. If we have lower sales, we'll see lower working capital. So the percentage should hold.

Okay, thank you.

As a reminder, if you would like to ask a question, it is star then one. Our next question comes from Jeff Zakowskis of JP Morgan. Please go ahead with your question.

Hey, Jeff, you might be on mute.

I am. Sorry about that.

Hi, Jeff.

Hi. How are you? Good. Can you remind us what percentage of your sales were to the auto market in 2019? and how you expect Fuller's adhesive sales to the auto market to fare in 2020?

Yeah, so, you know, that's a great question. So if you can figure that out, we're looking at external numbers in terms of car builds and, you know, trying to manage our plans around that. Certainly, at this point, we're expecting a decline. I think the latest numbers I saw in the U.S. were a 20% decline in builds but that number moves around every day and every week, Jeff. So, you know, we're building that into our second half models, a decline, but we don't know exactly what it is. Our revenue in auto is between five and 10%, you know, on the lower end of that.

So I wish you could just speak a little bit more specifically to the, I think you said a 30% decline in revenues in engineering adhesives in the second quarter. so that must have pockets of, you know, much better performance and pockets of much worse performance. Can you give us an idea of what the levers are in that?

Yeah. Yeah. So, uh, so solar and new energy was, was downsizably. Um, and again, these are things we're expecting around, around the world, uh, auto auto and anything transportation related was downsizably, um, You know, markets like textiles, footwear, filtration, down less so. So, you know, I'd say things that are more consumer-oriented or construction-oriented were down less, and things that are more heavy, durable goods, bus, truck, rail, and then solar for infrastructure panels were down more. John, do you want to add something to that?

Yeah, just for your reference, Jeff, we added a slide in the presentation that was posted in the appendix that sort of shows those different markets and so on. The down moderately, the one other than construction, those are the engineering adhesives markets that would be down moderately.

Okay. Normally, when oil falls, you say, well, we don't buy oil. It's difficult to know how it affects our raw material costs, but your stance is much different with oil being down very sharply. Do you expect to see a widening of your price raw material gap? you know, for a period of time and then to have it close up. Do customers really want prices to come down very quickly, or do you think they'll be more patient?

Yeah, it's true that normally when oil comes down, and normally oil is moving, you know, $10 a barrel, and people are asking me, are you going to see raw materials decline? And I say no, right, because it goes up and down $10 or $15 a barrel. Now, when it moves up, $30 a barrel, there's a substantial change in the cost structure of our suppliers that we think will eventually get passed on to us. Normally, that's a nine-month cycle. We think the fact that their costs are down, combined with the supply-demand dynamics that will likely be unfavorable across the chain, and with China's chemical production ramping up, we see a positive dynamic for us. And, you know, it's not like huge, but it's, you know, sizable, right? In 2008, 2009, we shared there. So that gives you some color, right? And we think it'll buffer any kind of recessionary decline that we see in volumes. As far as customers' reaction, you know, we have about 15% of our revenue that moves on some sort of an index rate. Some of those are tied to external numbers, and some of those are just tied to what our costs are. So we've set agreements up with customers. The other 85%, most of those products are specified. We won't see any change in pricing, and some of them will have negotiated pricing. So, yes, some of it will be given back to the market, but a lot of it will be retained.

Can you turn off your CapEx if you need to, or are you pretty much... you know, fixed on what you're going to spend this year.

Yeah, I think one of the things you saw on the slide on our earnings release was a very strong commitment to deliver the $200 million in debt. And, you know, I think two fundamental principles John and I have and our leadership has is build the company for the long term and make certainly deliver that $200 million in debt pay down. So if We definitely have some levers on capital that can be pulled back. In fact, some projects we've been able to delay already. I think there's an opportunity there. We also think there's a sizable opportunity on working capital, Jeff. We think those are two levers that we can modify depending on how the world looks when we come out of this.

Here's just the last question. Order of magnitude, Jim, I know it's early days in the the virus issue and the downturn. Do you think that HB Fuller's experience will be similar to what it was in the 2009 downturn? Maybe you guys were down 20% at EBITDA. And when you look at the kinds of near-term forecasts that you have, it seems sort of similar. Is that your base case? Yeah.

Interestingly, Jeff, we were flat in EBITDA from 2008 to 2009 and into 2010. It was this raw material piece and some of the savings we were able to generate that offset declines in volume. Our base case, as I said in the script, is this Q2 decline, mostly around EA and somewhat in construction. And then some recessionary forces, we're not expecting a great recession type of decline. We've got scenarios that are built like that. We've got scenarios that are built worse than that. But some recessionary impact into Q3, maybe into Q4, is what our planning assumptions are, right? So I wouldn't call that a projection or guidance. I'd just say that's what we're planning for. Okay. Good luck to you guys. Thanks, Jeff. Thanks, William.

Our next question comes from Rosemary Morbelli with Gabelli and Company. Please go ahead with your question.

Thank you. Good morning, everyone. Good morning, Rosemary. I was wondering if you could touch on the potential financial issues from some of your customers. Have you taken some bad debt into consideration, receivables that you are not going to get, some smaller customers filing?

Yes. Yes, we've looked at 2008 and we factored some of that in. I don't know, John, do you want to comment on that?

Yeah, so I'd just say the current state, we haven't seen any customers file. We're doing a pretty in-depth review of customer credit quality, as we always do, but we're stepping that up given the current situation. So I think we would be in a position to get out ahead of hopefully a situation where a customer was under significant stress.

I would comment, Rosemary, that our credit team is outstanding, and they've leveraged a lot of learning around the world. So if you look at our numbers relative to industry benchmarks in normal times, we've outperformed external benchmarks.

Okay, thanks. And could you give us a little more details vis-à-vis your comment on China's durable goods having spiked recently? Sure. Which areas was that and were those particular areas down substantially and now just filling up the pipeline?

I didn't say the durable goods spike. HHC, so all the hygiene products, the packaging products, consumable products, those have come up dramatically and we see a lot of demand there and we see consumers using them. Today I was on the phone with Our guy who's leading China, people are on the streets of Beijing, in parts of China now, restaurants are opening. Life is not normal yet, but it's getting back to normal where people are back to living or moving toward living a normal life and there's normal consumption patterns. That's driving a lot of business in HHC, but also an increase in other spending around construction products and other durable goods. And as I said, the exception to that is what's happened so far in the new energy, the solar space, and transportation so far. So those are the two that really haven't seen that uptick. And then, of course, China, some of our customers export around the world, so they're dealing with that. I would say the China domestic economy is moving forward very nicely. Any of our customers that export out of China, they're going to deal with the next couple months of lack of demand in the U.S. and Europe.

So as we are all confined at home, or at least most of us, and everyone has bought a lot of packaged food, we may or we may not eat it all. So do you think that we could see a very slow recovery as everyone is kind of eating from their pantries as opposed to going back to the store, and therefore we could expect some decline in the demand of When this is all over, that could last maybe a quarter or two.

Yeah, I guess from a packaging food in particular, Rosemary, I think people are... It's not just filling their pantries. People are eating a lot more packaged foods today all around the world, and we saw it in China. Our thesis is that after the crisis, people definitely, as I'm sure you are, dying to get to their favorite restaurant, but there will be a trend... that has people eating more packaged foods. So that's what we're hearing from our customers and the people that are studying the market. And, of course, you know, that's a positive trend for us. All this, you know, everything around hygiene, around medical, around packaged foods are positive trends that we think will continue certainly throughout this year.

And if I may squeeze in a couple small ones. Of the 72 plants that you currently have and you have that under study, how many do you think you can get by with?

Oh, you mean after our study? Well, you know, we're going to evaluate that, Rosemary, so it's premature to say what we would do with the whole network.

And then lastly, can you share the size of the areas that are considered essential and that are benefiting from the current situation?

Yeah, so it depends on the region, Rosemary, and what's happening. Again, as China is our guide, fundamentally our factories supply all these consumer goods, food, health products. But also, if you think about areas like some of our construction products, some of those are being used in hospitals and medical facilities. So our business as a manufacturer in every geography around the world has been deemed essential. Now, today in India, they're sorting through that. Everything is shut down today in India, but India is sorting through. One of the big markets for our products in India are hygiene and baby diapers. And assuming the The baby diaper production continues. I'm certain our plant there would be operational. But other than that place where there's been a government edict, our facilities are open for business and supplying the various markets. John, did you want to add something there?

Yeah, and this is just kind of an indication of how fast things move. I just got an email that our Pune government has approved our India plant as essential.

So at this moment, all 72 of our factories are operating Rosemary.

And the size of those essential product lines?

Well, again, we have a number in the appendix, but I would say across all of our businesses, the products are deemed essential in some way or another. So it's not like we're supplying products to non-essential markets. so everywhere around the world, the facilities we have supply essential markets, and therefore the facilities are open.

Okay, thank you very much, and you guys stay healthy.

You as well, Rosemary, you and your family.

Our final question comes as a follow-up from Mike Harrison. Please go ahead.

Hey, just a quick one here. You've talked a lot about cash flow and your expectation that cash flow is still going to be solid for the year and your $200 million of expected debt pay down. I was just wondering, can we think of that as maybe you'll keep that $200 million or accrue that cash on the balance sheet rather than pay down the debt right away in an environment where cash and liquidity is going to be very important? Or are you definitely committed to some kind of timeline for specifically paying down the debt?

Yeah, so our liquidity situation is extremely strong in the most ridiculous of scenarios. And we've run them all, Mike. So we don't have any concerns about managing cash. So we haven't set a specific timeline on our debt pay down yet. As you know, it's weighted toward the third and fourth quarters because of how our demand cycles, and that's probably how it will happen this year. But, you know, we have a very strong focus on making certain that we continue to bring that debt down, and we're going to focus on essentially our three priorities that I talked about, right? Supplying our customers, making certain that our employees and our communities are safe, and then preparing for the future. And, you know, we're doing a great job of managing this crisis, and hopefully you felt that through this call. But importantly, I think, for our investors is this is going to make us a stronger company coming out of this crisis. And I'm really proud of the work our employees are doing. So I really appreciate the question. Certainly the timing probably won't be affected by that. Okay. Thanks, Mike.

Understood.

Thanks very much. Thank you. Thanks, everybody, for your time on this call. Again, I ask that our hearts are with all of you. We appreciate your time here with H.B. Fuller, and please keep yourselves, your families, and your community safe.

The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.