Quanex Building Products Corporation

Thank you for standing by, and welcome to the Quantix Building Products Corporation second quarter 2021 earnings conference call. At this time, all participants are in listen-only mode. After the speaker's presentation, there will be a question-and-answer session. To ask a question during the session, you'll need to press star 1 on your telephone. As a reminder, today's program is being recorded. And now I'd like to introduce your host for today's program, Scott Zilke, Senior Vice President, Chief Financial Officer, and Treasurer. Please go ahead, sir.

Thanks for joining the call this morning. On the call with me today is George Wilson, our President and CEO. This conference call will contain forward-looking statements and some discussion of non-GAAP measures. Forward-looking statements and guidance discussed on this call and in our earnings release are based on current expectations. Actual results or events may differ materially from such statements and guidance, and Quantix undertakes no obligation to update or revise any forward-looking statement to reflect new information or events. For a more detailed description of our forward-looking statement disclaimer and a reconciliation of non-GAAP measures to the most directly comparable GAAP measures, please see our earnings release issued yesterday and posted to our website. I'll now discuss the financial results. We generated net sales of $270.4 million during the second quarter of 2021, which represents an increase of 44.2 percent compared to $187.5 million during the second quarter of 2020. The growth was mainly the result of increased demand for our products across all product lines, coupled with increased pricing, mostly related to raw material cost inflation. More specifically, we posted net sales growth of 34.6 percent in our North American fenestration segment, 25.5 percent in our North American cabinet component segment, and 92.1% in our European fenestration segment, excluding the foreign exchange impact. As a reminder, both of our manufacturing facilities in the UK were shut down late March of 2020 and did not resume operations until mid to late May last year. In an effort to provide a more realistic comp on a consolidated basis, we posted revenue growth of 20.6% in the first half of 2021 compared to the first half of 2019, prior to COVID. We reported net income of $14.6 million, or $0.43 per diluted share, for the three months ended April 30, 2021, compared to $5.5 million, or $0.17 per diluted share, for the three months ended April 30, 2020. The increase in net income was mostly due to higher volumes and improved operating leverage. this improvement was somewhat offset by a $13 million increase in SG&A during the quarter, $9.7 million of which was related to the valuation of our stock-based comp awards and $3.1 million of which was due to higher and more normalized medical claims. On an adjusted basis, EBITDA for the quarter increased by 47.7% to $32.2 million compared to $21.8 million during the same period of last year. The improved profitability was again largely due to increased operating leverage from higher volumes. From a margin standpoint, this increase represents adjusted EBITDA margin expansion of approximately 30 basis points on a consolidated basis. However, we did realize significant adjusted EBITDA margin expansion in our North American and European fenestration segments. Margins were pressured in our North American cabinet component segment, primarily due to hardwood cost inflation. Moving on to cash flow in the balance sheet, cash provided by operating activities was 32.4 million for the three months ended April 30, 2021, compared to 6.1 million for the three months ended April 30, 2020. Free cash flow came in at 27.8 million for the quarter, compared to essentially zero free cash flow in Q2 of last year. Year-to-date, as of April 30, 2021, cash provided by operating activities was $29 million, compared to $2.5 million for the same period of last year. And free cash flow year-to-date, as of April 30, 2021, was $19.2 million, compared to negative $12.8 million during the same period of 2020. Our strong free cash flow generation during the quarter enabled us to repay $25 million in bank debt and repurchase approximately 2 million of our stock. Our balance sheet is strong, our liquidity position continues to improve, and our leverage ratio of net debt to last 12 months adjusted EBITDA improved to 0.3 times as of April 30, 2021. We will remain focused on managing working capital and generating cash as the year progresses. As stated in our earnings release, our outlook is positive and we remain optimistic about the economic recovery. Based on our strong first half results and ongoing conversations with our customers, we are raising our expectations for the year again and now expect approximately 20% sales growth in our North American fenestration segment, approximately 15% sales growth in our North American cabinet component segment, and approximately 40% sales growth in our European fenestration segment. We're now comfortable providing the following full-year 2021 guidance for modeling purposes. Net sales of 1.04 to 1.06 billion, adjusted EBITDA of 125 to 130 million, depreciation of approximately 33 million, amortization of approximately 14 million, SG&A of approximately 115 million, Note this is higher than previously expected due to an increase in stock-based comp expense and more normalized medical costs, interest expense of 2.5 to 3 million, tax rate of approximately 27 percent, capex of 30 to 35 million, and free cash flow of 60 to 65 million. If you adjust for the expected increase in SG&A, the implied incremental adjusted EBITDA margin is in the low 20% range. The takeaway here is that we have been successful at passing through price, and we are realizing operating leverage through increased volume. As previously mentioned, we expect the typical seasonality in our business to be less pronounced this year, so we feel it would be helpful to provide some direction on a quarterly basis for the remainder of the year. From a cadence perspective for Q3 and on a consolidated basis, we expect net sales to be up by 28 to 30% year over year. However, it will be challenging to realize adjusted EBITDA margin due to a decent comp coupled with inflationary pressures. Looking ahead to Q4, we will have a very tough comp. We do expect net sales growth of approximately 10% year over year during the quarter on a consolidated basis, but we do not expect to realize margin expansion. To summarize, On a consolidated basis for the full year, we now expect to generate net sales growth of approximately 23% year-over-year to the midpoint of guidance, while maintaining adjusted EBITDA margin in the low 12% range. I'll now turn the call over to George for his prepared remarks.

Thanks, Scott. We are pleased to report another quarter of solid results, as demand for all our products remains strong and exceeded our expectations. Operational performance was excellent across all segments, and I'd like to take a moment to thank the entire Quantix team for their continued efforts and dedication to our customers and shareholders. Similar to most others in the building product space, we are facing inflationary pressures and labor shortages. However, we continue to stay focused on operational excellence projects and other initiatives that improve our return on invested capital and our ability to generate cash flow. We have had success in these areas and believe this focus will continue to generate value for our shareholders. Prior to discussing the detail by segment, I'm going to provide some color on the ever-changing macroeconomic conditions of the markets in which we serve. In the North American residential housing market, both new construction and repair and remodel remain strong. Demand for windows and doors remain solid, and according to many of our OEM customers, Lead times to their consumers are being extended, while backlogs continue to increase. Specific to cabinet components, we believe that the semi-custom segment, which is the main segment we serve, again outperformed the stock segment. As we mentioned in our last call, there was a significant shift in market share away from the semi-custom segment to the stock segment over the previous few years. so the recent KCMA data is encouraging in that it shows the semi-custom segment continuing to outpace the stock segment. Demand for the products we manufacture in the UK and Germany also remains strong. Although markets are slowly beginning to reopen in the UK and Europe, continued travel restrictions coupled with an underbuilt housing market bodes well for demand in our markets. One area that we continue to watch is a potential shortage in the supply of glass in the UK and Europe. Further demand pressures and supply issues with this commodity could provide headwinds for our products in the second half of the year. As was the case in our Q1 call, we remain optimistic on macroeconomic conditions in all the markets we serve. However, we face challenges in the form of inflation and labor shortages. With respect to inflation, I think it is accurate to say that we are seeing pressures in every raw material and freight category. The most significant pressures are in the PVC resin, chemical feedstocks, and hardwood lumber species for cabinet components. As a reminder, for the most part, we have contractual pass-throughs for the major raw materials we use in North America, but there is often a contractual lag that can generally be anywhere from 30 to 90 days. With the rapid rate of inflation today, These time lags are applying short-term margin pressures. We do not have these contractual pass-throughs in Europe and the UK, so our ability to pass on any increases through price becomes more important, and for the most part, we continue to be successful in that regard. In all regions, our customer base is passing along increases to the end consumer, and the entire supply chain is following in kind. We're not on an index. We have been successful at keeping inflation neutral so far. As also discussed on the Q1 call, labor shortages have also been a challenge for most U.S. manufacturing companies, and Quantix is no exception. This continued into Q2 and is ongoing. We are hopeful that some of the recent government decisions to roll back unemployment benefits in certain states will have a favorable impact on this front, But at this time, it's just too early to tell, and margins are being pressured by overtime utilization rates. I'll now go ahead and provide my comments on performance by segment for our fiscal second quarter. Our North American fenestration segment generated revenue of $146.1 million in Q2, which was approximately 35% higher than prior year Q2 and compares favorably to Ducker window shipment growth of 10.8%. for the calendar quarter ending March 31st, 2021. Prior year COVID impact combined with strong demand across all product lines, share gains in our screens business, and increased capacity utilization on our vinyl extrusion assets all contributed to the above market performance. Adjusted EBITDA of 20.6 million in this segment was approximately 54.1% higher than prior year Q2. non-recurring COVID impact, volume-related operating leverage, the implementation of annual pricing adjustments, operational improvements, and lower SG&A all contributed to the improved performance year-over-year. For the first six months, this segment had revenue of $274.3 million and adjusted EBITDA of $36.9 million, which represents growth of 25.2% and 67.9% respectively. This also represents adjusted EBITDA margin expansion of approximately 340 basis points. Our European fenestration segment generated revenue of $61.7 million in the second quarter, which is $32.5 million or approximately 111% higher than prior year. Excluding foreign exchange impact, this would equate to an increase of approximately 92%. Strong demand for our products continues in both vinyl extrusions and spacers as the repair and remodel markets in the UK and continental Europe remain strong. Adjusted EBITDA of $12.9 million for the quarter was $10 million better than prior year. But it is important to remember that our UK plants were shut down for part of the prior year comp period. Also contributing to the strong results were volume-related operating leverage and pricing actions, which helped offset inflationary pressures. On a year-to-date basis, revenue of $110.7 million and an adjusted EBITDA of $23.6 million resulted in margin expansion of approximately 840 basis points as compared to the first half of last year. Our North American cabinet component segment reported net sales of 63.6 million in Q2, which was 12.9 million, or approximately 26% better than prior year. Note that this growth rate was slightly higher when compared to the latest KCMA data for the semi-custom segment, which came in at 24.2% growth over the same period. Favorable comps due to the COVID impact in Q2 of last year, higher index pricing, and higher order demand all contributed to solid revenue growth in the quarter. Adjusted EBITDA was $3 million in this segment, which was 21.6% higher than prior year. Although we are being impacted by the timing lag of our index pricing mechanisms on hardwood, operating leverage from higher volume and incremental pricing on certain products all contributed to holding adjusted EBITDA margin relatively flat versus prior year Q2. In fact, the rapid increase in hardwood prices has impacted adjusted EBITDA by $1.7 million year-to-date. And if we adjust for this inflation, we would have realized approximately 180 basis points of margin expansion in this segment. On a year-to-date basis, operational improvements and volume-related leverage gains have helped offset the timing-related material impacts and resulted in margin expansion of approximately 150 basis points. Unallocated corporate and other costs were $4.3 million for the quarter, which is $7.2 million higher than prior year. As Scott mentioned earlier, the primary drivers of this increase were stock-based compensation expense, operating incentive accruals, and more normalized medical expenses, as our employees and their families have started to feel more comfortable going back to their doctors. As I mentioned earlier, our priority has been meeting customer demand furthering our operational excellence programs, optimizing our cash flow, and improving return on invested capital across all segments of our business. Despite inflationary headwinds, we continue to make progress in these areas, and this work has strengthened our balance sheet by enabling us to further pay down debt during the quarter while still repurchasing approximately $2 million in Treasury stock. Going forward, our capital deployment strategy will remain intact, as we execute on our path to being debt-free. We will opportunistically evaluate stock repurchases and continue to invest in projects that grow revenue and improve our ROIC. In addition, the Board recently approved a capacity expansion project at our spacer plant in Germany, and we're also currently evaluating additional capacity projects in our screens and cabinet component business in North America. Note that due to the extended lead times of equipment, we don't expect to realize any benefits from these projects until next year at the earliest. In summary, our outlook on demand for our products remains strong for the remainder of the year. We are executing on our plan and performing well from an operational standpoint. With these points in mind, on a consolidated basis, we are confident in our ability to deliver revenue growth in the low 20 percent range of this year. while maintaining adjusted EBITDA margin in the low 12% range, despite the increasing inflationary pressures. And with that, operator, we are now ready to take questions.