Insteel Industries, Inc.

Ladies and gentlemen, welcome to the InSteel Industries second quarter 2023 earnings call. My name is Glenn, and I'll be the moderator for today's call. If you would like to ask a question during the presentation, you may do so by pressing star 1 on your telephone keypad. I will now hand you over to host H. Watts, Chairman, President, and Chief Executive Officer of InSteel Industries. Mr. Watts, please go ahead.

Thank you. Good morning, and thank you for your interest in InSteel. Welcome to our second quarter 2023 conference call, which will be conducted by Scott Giuffruti, our Vice President, CFO and Treasurer, and me. Before we begin, let me remind you that some of the comments made in our presentation are considered to be forward-looking statements that are subject to various risks and uncertainties, which could cause actual results to differ materially from those projected. These risk factors are described in our periodic filings with the SEC. The first two quarters of fiscal 2023 have been challenging for the company in view of inventory accumulations throughout the supply chain and a significant downward reset in steel prices that occurred following several quarters of extreme supply tightness and significant market price escalations. As stated in the release, We believe these headwinds have about run their course, and we're optimistic about the underlying level of demand for our products and the margin environment. I'm going to turn the call over to Scott to comment on our financial results for the quarter and the macro environment, and then I'll pick it back up to discuss our outlook.

Thank you, H, and good morning to everyone joining us on the call. As reported in our release earlier today, going against difficult prior comps, the second quarter of fiscal 2023 proved to be another challenging period for InSteel as we continued to contend with narrowing spreads between selling prices and raw material costs, lower shipments, and higher unit conversion costs. Net earnings for the second quarter fell to $5.1 million from record earnings of $39 million a year ago, and earnings per share dropped to 26 cents from $1.99 per diluted share in the prior year. We reported net sales for the quarter of 159.1 million, a decrease of 25.4% from the prior year. Shipments rose 5.2% sequentially from Q1 due to the normal seasonal demand upturn, but fell 12.8% year over year. Our shipping volume during the quarter was weaker than we anticipated due to a combination of winter weather conditions in several of our markets, reducing construction activity, as well as the continuation of the inventory stocking activities pursued by our customers, which has now extended out over the first half of our fiscal year. However, as we move into our third quarter, we believe most customers have largely completed their inventory management programs and are returning to a more predictable ordering pattern. Average selling prices declined during the second quarter, falling 9.4% from Q1 and 14.5% from a year ago. Competitive pricing pressures triggered by the softening of shipments and the drop-off in steel prices continue to erode ASPs. Not unexpectedly, the largest decline in average selling prices from Q1 is within our product line most impacted by the continued weakness in the residential construction markets. However, looking ahead to the third quarter, we expect gradually increasing ASPs across most of our product lines driven by price increases that became effective earlier this month in response to rising raw material costs. More on this in a moment. Gross profit for the quarter fell $43.8 million from a year ago, and gross margin narrowed to 8.3% from 26.8% due to a combination of lower spreads, the reduction in shipments, and higher overall unit conversion costs resulting from lower production levels. On a sequential basis, gross profit fell $4.5 million from the first quarter and gross margin decreased 240 basis points. As we conveyed in our first quarter call, the spread compression we had experienced in the first half of the fiscal year has been intensified by the continued consumption of higher cost inventory in a declining price environment. Considering that we typically carry around three months of inventory valued on a FIFO basis, Our spreads and margins have been adversely affected by the matching of higher cost inventory purchased in prior periods against lower ASPs for our products. This time lag has the effect of deferring the favorable impact of the reduction in raw material costs until the higher cost inventory purchased in earlier periods is sold. Fortunately, this negative trend could be coming to an end given the growing signs that steel prices may have reached the bottom from the recent decline. With scrap prices rising now for four consecutive months and by a total of $155 since January, wire rod producers have followed suit, announcing price increases in March and April, and we have rolled out an initial increase across most of our product lines that went into effect earlier this month. If these increases mark the beginning of an upward trend, or at least a leveling out of prices, it could potentially remove the weight that has been pulling down our results since the start of the fiscal year. SG&A expense for the quarter increased to $7.5 million, or 4.7% in net sales, from $7.2 million, or 3.4% in net sales, last year. The dollar increase was primarily the result of higher compensation and employee benefit expense, partially offset by the relative year-over-year change in the cash-rendered value of life insurance policies. Our effective tax rate for the quarter was virtually unchanged at 22%, which is now slightly from 22.3% last year. Looking ahead to the balance of the year, we expect our effective rate will remain steady at around 23%, subject to the level of pre-tax earnings, book tax differences, and other assumptions and estimates that compose our tax provision calculation. Moving to the cash flow statement and balance sheet. Cash flow from operations for the quarter generated $46.6 million of cash due to a working capital reduction that was driven mainly by a $34.7 million decrease in inventories. Our inventory position at the end of the quarter represented 3.1 months of shipments on a forward-looking basis, calculated off of forecasted Q3 shipments compared to 3.9 months at the end of the first quarter. Additionally, our inventories at the end of the second quarter were valued at an average unit cost that were lower than our second quarter cost of sales, which should favorably impact margins during the third quarter as the lower cost material is consumed and reflected in cost of sales. provided that ASPs do not fall to a greater extent. We incurred $7.2 million in capital expenditures in the quarter for a total of $15.4 million through the first half of our fiscal year. We remain committed to our full-year target of $30 million, given the many initiatives underway that we've highlighted in previous calls. H will provide more detail on this topic in his remarks. From a liquidity standpoint, we ended the quarter with $80.2 million of cash on hand and no borrowings outstanding on our $100 million revolving credit facility. Furthermore, in March, we completed an amendment to our credit facility, which extended its maturity date to March, 2028. Finally, during the second quarter, we continued our share buyback program, repurchasing $1 million of common equity equal to approximately 34,000 shares. Looking ahead to the remainder of fiscal 2023, The leading indicators for non-residential construction, architectural billings, and Dodge Momentum Indexes remain healthy. In March, the ABI score increased to 50.4, up from 48 in February, moving above the 50 growth threshold for the first time in six months. However, while the billings increased, new project inquiries grew at a slower pace and the value of new design contracts declined. The Dodge Momentum Index, which tracks non-residential building projects going into planning, has fallen over the last several months. The March report showed a drop to 183.7, down 8.6% from February. However, year over year, the index is still 24% higher than in March 2022. In the most recent report, Dodge noted that lending standards for small banks have tightened as a result of the recent upheaval in the banking sector, likely resulting in developers and owners pulling back in the short term, which could also result in the DMI contracting as we continue further into the year. Finally, the monthly construction spending data has remained strong over the last several months, with the latest February data showing total construction spending on a seasonally adjusted annual basis up approximately 5% from last year, with non-residential construction up almost 17%, and public highway and street construction, one of the largest end-use applications for our products, up nearly 19%. Despite the challenges experienced in the first half of the fiscal year, we expect to regain momentum as we enter the time of year that is traditionally our busy season and the weather-related headwinds begin to subside. Additionally, we anticipate favorable market conditions driven by continued strong demand in our private non-residential construction markets, along with a gradual recovery in residential construction. Finally, we should benefit from the rebalancing of our inventories, which will result in the consumption of more recent, lower-priced raw material. These conditions should support widening spreads, higher operating levels, and lower conversion costs at our facilities. This concludes my prepared remarks. I will now turn the call back over to H. Thank you, Scott.