Good day, ladies and gentlemen, and welcome to Ashland first quarter earnings conference call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session, and instructions will follow at that time. If anyone requires assistance, please press star then zero on your touch-tone telephone. As a reminder, this conference is being recorded. I will now turn the call over to your host, Seth Mrozek, Director of Investor Relations. Please go ahead.
Thank you, Stephanie. Good morning and welcome to Ashland's first quarter fiscal 2016 conference call and webcast. We released preliminary results for the quarter ended December 31st, 2015, at approximately 5:00 P.M. Eastern Time yesterday, January 25th, and this presentation should be viewed in conjunction with the earnings release. Additionally, we posted slides and prepared remarks to our website under the investor relations section and have furnished each of these documents to the SEC in a Form 8-K. On the call today are Bill Wulfsohn, Ashland's Chairman and Chief Executive Officer; Kevin Willis, Senior Vice President and Chief Financial Officer; Luis Fernandez-Moreno, Senior Vice President of Ashland and President of the Chemicals Group, which includes Ashland Specialty Ingredients, or ASI, and Ashland Performance Materials, or APM; and Sam Mitchell, Senior Vice President of Ashland and President of Valvoline.
As shown on slide two, our remarks include forward-looking statements as such term is defined under US securities law. We believe any such statements are based on reasonable assumptions but cannot assure that such expectations will be achieved. Please also note that we will be discussing adjusted results in this presentation. We believe this enhances understanding of our performance by more accurately reflecting our ongoing business. In addition, when discussing ASI, we also refer to core markets. Those are the highly differentiated markets of personal care, pharma, and coatings, which we identified during our November 2015 Investor Day as core platforms for targeted growth. I will now hand the presentation over to Bill.
Thank you, Seth, and good morning, everyone. As we entered our fiscal year 2016 in October, we established four core investor-related priorities for the year. I will now quickly walk through these priorities and our relative performance against these objectives in our first quarter. Our first investor-related priority is to continue to drive the operational and strategic improvements needed to meet targeted earnings and margin gains. In our first fiscal quarter, we made significant progress in this area. While overall sales were down, the ASI team realized gains in several of their core strategic growth markets, including pharma, personal care, and coatings. Additionally, the composites team improved profit margins through effective cost management and with pricing discipline in a volatile raw material cost environment. Finally, the Valvoline team delivered record Q1 earnings, delivering strong performance across virtually all of their core performance metrics, including driving unit volume growth.
At the same time, as anticipated, we continued to feel the negative impact of FX, divested product lines, and reduced demand for oil and gas-related products. Fortunately, we are beginning to lap these headwinds and expect to feel their impact less moving forward in our fiscal year. That said, ASI began to see softer demand in the quarter for portions of their industrial products, especially in China and Brazil. To help mitigate the impact of these challenges, the Ashland team responded aggressively in the areas we could control. More specifically, Ashland drove solid gross profit margin improvements by driving productivity gains and by maintaining pricing discipline. In addition, with a strong focus on cost control, Ashland's SGA was down year-over-year on an absolute dollar basis. Net-net, while overall revenues declined, the Ashland team drove a 240 basis point improvement in EBITDA margins versus the prior year.
This, combined with a reduction in our share count due to our expanded share repurchase activities, resulted in adjusted EPS of $1.41 per share, in line with our overall earnings expectations. Sam, Luis, and Kevin will describe the dynamics leading to these results, along with some of their strategic and operational gains in a couple of moments. Moving to our second investor-related core priority, we are increasing our focus on effectively converting earnings to cash. In this area, we experienced normal seasonality during the quarter, and we remain on track to generate approximately $325 million of free cash flow during the fiscal year. Our third core investor-related priority is to maintain our disciplined capital allocation strategy to drive shareholder value creation. To that end, in the quarter, we entered into a $500 million accelerated stock repurchase program.
We also announced the acquisition of the Oil Can Henry's quick lube business, which is expected to close in this current quarter. Finally, we continued our growth-related capital investment to add incremental capacity for a number of ASI's key differentiated product lines where demand exceeds supply. Moving to our fourth and final core priority, we are working hard to complete the previously announced separation into two great independent companies, Valvoline and the new Ashland specialty chemical company. On this front, I'm pleased to report that we remain on track to complete the separation consistent with the previously stated timeline. In summary, net-net, in the quarter, we made targeted progress on all four core priorities. With that said, we recognize there's much work to be done to meet our full year targets, especially in the context of changing emerging region market dynamics.
I'll now turn the call over to Kevin to provide you with a more complete update on the quarter and our forward outlook. Kevin?
Thanks, Bill, and good morning. Yesterday, we reported GAAP earnings from continuing operations of $1.38 per share. When adjusted for key items, earnings per share was $1.41, a 3% decline from prior year. In the aggregate, Ashland's adjusted EBITDA margin increased by 240 basis points when compared to a year ago. Specialty Ingredients saw good growth in some of the core markets, offset by lower emerging market growth as certain customers reduced their inventory levels due to uncertainty in near-term global demand. Performance Materials delivered another solid quarter, due in large part to the strength of composites margins amid a favorable raw material cost environment. Valvoline continues to execute at a high level and turned in yet another record quarter of profitability. As you can see on this slide, the combination of foreign currency and divestitures together reduced EBITDA by $14 million when compared to a year ago.
We continue to expect to lap the headwinds we have been facing as we head into the June quarter. We are pleased with the results at APM, Valvoline, and certain core growth markets of ASI. However, in line with recent macro dynamics, we are seeing lower than expected March quarter demand in industrial specialties products in emerging regions. In this context, as Bill indicated, ASI is accelerating productivity and sales pipeline initiatives. While Q2 will be impacted, based on the actions we are taking, we are not changing our perspective on our internal estimates for the second half of the year at this time. Now for a few corporate items. Our adjusted effective tax rate during the quarter was 25%. During fiscal 2016, we continue to expect our full year tax rate to be 24%-26%. Capital spending in the quarter totaled $53 million.
We continue to expect capital spending this year to be in the range of $320 million-$340 million, driven by our previously announced capacity expansions at Hopewell, Virginia and Nanjing, China to support growth in our value-added cellulosic technologies. In addition, we are also continuing the investments to upgrade Valvoline's digital marketing and infrastructure. Free cash flow in the quarter totaled $13 million, which is consistent with normal seasonality and customary calendar year-end payment practices. We continue to estimate free cash flow of approximately $325 million-$350 million during this fiscal year. As I stated on the conference call last quarter, our intention was to execute on the first $500 million of our existing $1 billion share repurchase authorization early in fiscal 2016. In November, we announced a $500 million accelerated share repurchase agreement and took an initial delivery of 3.9 million shares.
That agreement is in place until May 2016, and we will provide an update when it has been completed. With that, I will now hand the presentation over to Luis to provide more color on results for the Chemicals businesses for the quarter.
Thanks, Kevin. ASI's results were mixed in the first quarter, which is typically our lowest seasonal period. We made continued gains in several of our core growth end markets, including pharmaceutical, hair care, and coatings, where our differentiated products and strong relationships continue to deliver value for our customers. These gains were offset by a number of broader headwinds, which continued to weigh on sales and volumes. Overall, sales declined 15% to $476 million, largely due to the same factors that we have been talking about during recent quarters: weak energy markets, foreign currency, and exited product lines. Overall results were lower than expected as weaker demand in some end markets and customer destocking contributed to the overall shortfall. As expected, during the quarter, we also completed maintenance turnarounds at more than a half a dozen manufacturing facilities, which added $10 million in incremental costs versus last year.
This work largely completes the planned turnarounds at ASI's manufacturing facilities for fiscal 2016. The combination of those four factors, weak energy markets, foreign currency, exited product lines, and planned turnarounds, resulted in an estimated $25 million headwind to EBITDA. That's equal to the decline in ASI's adjusted EBITDA during the quarter. Within Consumer Specialties, overall sales declined 7%, or a currency adjusted 2% when compared to the prior year. We are seeing good penetration of our value-added product lines sold into the core growth pharmaceuticals market, with sales growing 3% after adjusting for currency. We continue to gain share in our key technology platforms, where we have capitalized on some of our more differentiated controlled release chemistries. Within our personal care end markets, sales fell by currency adjusted 7%. Our results were negatively affected by weaker than expected global demand and customer destocking, particularly within oral and skincare.
These results were offset by improved demand for Ashland's hair care products, where we saw robust volume growth driven by new product introductions. We have introduced a number of technological innovations over the past year to continue delivering value to our hair customers. Thanks to this pipeline of new products, we have been able to improve our competitive position and strengthen relationships with new and existing customers. On the industrial specialty side, sales fell 23%, largely due to weak energy markets and exited product lines. Within the core growth coatings end market, we continue to see growth in our HEC and related products. We are supporting that growth through the ongoing expansion of our manufacturing facilities in Virginia and China.
On a similar note, during the first quarter, we completed an expansion of our paint and coatings applications laboratory in Wilmington, Delaware to help our customers create new formulations and accelerate product development. The new facility provides paint formulators with expansive resources for testing new or modified formulations, understanding consumer preferences, and optimizing their products for success. Sales into the energy market declined 75% versus the prior year, as rig activity in North America remained weak during the quarter. Volumes in other industrial end markets, including adhesives, performance specialties, and construction, reflected weaker than expected demand across many regions of the globe. Looking to the second quarter of fiscal 2016, we expect to see continued growth from the higher margin core growth end markets. We expect the headwinds from currency, energy, and divested product lines to begin moderating, assuming foreign exchange rates remain at their current levels.
As we deal with a lower than expected demand environment, we are accelerating productivity and sales growth initiatives. We estimate second-quarter sales to be in the range of $515 million-$535 million, and EBITDA margins are expected to be in the range of 23.5%-24.5%. These results incorporate the impact of normal seasonality patterns. Let's turn to the next slide, and I'll walk through the first quarter results for Performance Materials. APM reported results that exceeded our expectations at the beginning of the quarter. Strong margin growth driven by good pricing discipline within composites, and a continued focus on product innovation and applications development drove these results. Overall, EBITDA margin rose 360 basis points to 16%. This performance was offset by weaker results within Intermediates and Solvents, where volumes and pricing negatively affected sales and earnings.
These factors, combined with the effects of divestitures on foreign exchange, led to a 12% year-over-year decline in EBITDA. Composites posted strong year-over-year margin growth driven by good pricing over cost and its strategic focus on product innovations and application development. Over the past year, we have launched a number of new products to help our customers meet new regulatory challenges and demands of the customers. From a volume perspective, we saw better penetration in Europe from the value-added products sold into the residential construction markets. That strength was offset by softness in other regions, notably China and Brazil, where industrial growth is low. In addition, sales to North American energy markets also remained weak. Overall, composite sales declined 23% for the quarter. The majority of this decline is due to lower pricing, reflecting lower raw material costs and currency translation.
Our teams continue doing a good job of managing margins in a fairly volatile raw material environment. Within Intermediates and Solvents, overall results reflected lower volumes and pricing for BDO, consistent with previous expectations. When compared to the prior year period, total I&S sales declined 20%. Looking to the second quarter, we expect APM sales to increase sequentially consistent with normal seasonality. The underlying performance of composites should remain strong. However, we believe that industrial weakness, particularly in China and Brazil, will persist in Q2. Strained BDO volumes and pricing are also expected as we continue to see lower demand and more aggressive pricing in the marketplace. A planned shutdown of an I&S plant will also contribute to sequential headwinds in the quarter. In total, we expect sales of between $235 million-$255 million in EBITDA and a margin of 10%-11% for the second quarter.
Longer term, we expect to see continued improvement in the profitability of composites, while I&S market dynamics should continue throughout the year as we operate close to the bottom of the cycle. To ensure we maintain our strong position and continue to participate in growth, we continue to develop new and existing product applications to drive both sales and earnings expansion. I now hand it over to Sam for a summary of Valvoline's first quarter.
Thanks, Luis. Valvoline posted record first quarter earnings as our teams continued to execute at a high level. The Valvoline Instant Oil Change team had another exceptional quarter with each of the key metrics improving from prior year. Oil changes per day were up nearly 5%, average ticket increased 1%, and same-store sales for company-owned sites rose almost 6%. Premium oil changes accounted for more than 58% of all oil changes, up from roughly 56% a year ago. Our franchise system also delivered similarly strong results, evidence of consistent execution of our customer service model and marketing programs. During the year, we continued to expand our overall store network, adding 26 new sites. At the end of 2015 calendar year, we had 956 stores system-wide. In December, we announced a definitive agreement to acquire Oil Can Henry's, which operates and franchises 89 quick lube stores in six states.
In a moment, I will share some additional details regarding this exciting acquisition. Within the DIY channel, volume was largely flat, although mix improved due to successful branded promotions with a number of key customers. Within the international channel, volume grew 8%, driven by good execution of channel building efforts. Our international team continues to do a good job of developing key channels and marketing strategies, which is fueling higher growth across the regions. Premium product sales remained strong across Valvoline and accounted for 43% of total branded lubricant sales. This strong operational performance, coupled with good margin management, led to EBITDA growth of 10% from prior year. This performance marks our ninth consecutive quarter of year-over-year EBITDA growth. EBITDA margin rose 340 basis points to 22.1%. Looking to the second quarter, we expect continued solid performance across all channels.
Typical seasonal patterns should result in a sequential increase in sales. We expect sales to be in the range of $480 million-$490 million and EBITDA margin to remain healthy at around 23%. Let's turn to the next slide, I will share some more details about Oil Can Henry's. As I stated before, in December, we announced the signing of a definitive agreement to acquire the Oil Can Henry's network of quick lube centers. Oil Can Henry's is the 14th largest quick lube network in the U.S., with 47 company-owned stores and 42 franchised-owned locations. The quick lube centers are located primarily in the U.S. Pacific Northwest. This is a great fit for us as it will expand Valvoline's geographic footprint into an attractive growth market. With this acquisition, we are accelerating our store growth in fiscal 2016.
Once closed, the addition of Oil Can Henry's company-owned and franchised network will increase our total store count by approximately 10%. Furthermore, the acquisition highlights the strength of our quick lube model. First, we will be able to leverage the unique benefit gained from our vertical integration by introducing industry-leading Valvoline branded lubricants into the Pacific Northwest quick lube market. Second, we can further develop our ability to own and operate stores and support franchisees in a new market for Valvoline. The acquisition is expected to be completed in our fiscal second quarter. We look forward to working with the team at Oil Can Henry's to grow the business and build on their success. I'll now hand the presentation to Bill for his closing remarks.
Thank you, Sam, and congratulations to you and your team on delivering a record first fiscal quarter and also on the announced acquisition of Oil Can Henry's. I think this is a really attractive and strategic opportunity for Valvoline and will accelerate the expansion of Valvoline's store network. Looking forward, we will stay focused on our four core investor-related priorities. Our first priority remains to drive the operational and strategic gains in our businesses so as to enhance their competitiveness and achieve targeted earnings growth. From an earnings perspective, we have some good news as we expect to lap the ASI FX divestiture related and oil and gas headwinds in the June quarter. That said, as Luis explained, we are currently seeing softer demand in some portions of the ASI business, largely in emerging regions and the industrial specialties end markets.
This dynamic emerged towards the end of the first quarter and will continue to put pressure on ASI earnings in the March quarter. While we can't control the global economy, we are taking actions in the areas we can control. More specifically, the chemicals team is taking actions to control cost and accelerate its sales pipeline. The Valvoline team continues to hit on all cylinders, and the planned acquisition of Oil Can Henry's should increase Valvoline's strong momentum. As for our second core priority, as previously stated, we expect to generate approximately $325 million of free cash flow this fiscal year. We made great strides last year to reduce the cash required to support legacy liabilities with the establishment of the asbestos trust, which together with insurance receivables, we hope will eliminate the need to tap future operating cash flow for years to come.
In addition, with last year's $500 million voluntary payment to the U.S. qualified pension plans, we do not expect to make required contribution to the plans in fiscal year 2016. This action is expected to improve year-over-year cash flow by approximately $70 million. While we continue to make those strategic investments required, including an approximately $75 million year-over-year capital investment gain required to support demand growth for ASI's core growth pharma, personal care, and coatings markets, and Valvoline's digital capabilities. At the same time, we are increasing our focus on working capital management to help offset to ensure high levels of cash conversion during the next roughly 24 months until we begin to ramp down total capital spending.
As for our third priority, which is focused on effective capital allocation, we expect to close the Oil Can Henry's acquisition in the quarter, and we'll move forward and move towards closing out the $500 million accelerated stock repurchase announced this first fiscal quarter. Finally, as for our fourth core investor priority, separating Ashland into two great companies, we remain on track with our previously stated timeline. To that end, we expect to make further announcements regarding the separation in the coming months. In conclusion, we feel great about putting the FX, oil and gas, and divestiture-related headwinds behind us by the June quarter.
For expanding our positions in our core chemicals growth end markets of personal care, pharma, and coatings, sustaining operational and profit growth momentum in Valvoline while welcoming the Oil Can Henry's network to the company, and continuing to make the needed progress to successfully separate Ashland into two great companies. At the same time, recent market weakness in some end markets and in emerging regions has made us cautious with our outlook for near-term ASI performance. In the end, we have a great team, which is aligned around a clear strategy with a proven track record of execution, and we are driven to take the actions required to drive the operating, financial, and shareholder value creation. With that, I will turn the call over to the operator to take your questions.
Thank you, Bill.
Go ahead, Stephanie.
Thank you. Ladies and gentlemen, to ask a question, please press star then one on your touchtone telephone. If your question has been answered and you wish to remove yourself from the queue, you may press the pound key. Our first question comes from Brian Maguire with Goldman Sachs. Your line is open.
Hey, good morning, everybody.
Morning, Brian.
Morning, Brian.
I think if I heard you right, you said that despite some of the market weakness, you're reiterating your full-year targets, as you expect some of the productivity and sales growth initiatives at ASI to offset some of that weakness. Can you kind of confirm that, and then also maybe give some examples, or do you have any kind of financial targets for those productivity and sales initiatives?
Brian, what we expect is that Q2 will be impacted, as we've indicated, due to the destocking and the emerging market dynamics that we're seeing. However, based on our current internal view of Q3 and Q4, we're not changing our point of view on the second half of the year. We do believe Q2 will be impacted as we've indicated. That would impact the full-year number, but just on the Q2 basis. Does that clarify?
Got it. You think you can basically course correct by the time you get to three Q, but two Q's too near on the horizon to be able to do much about it?
We're working on that, and Luis can talk a little bit about that as well. I think that's fair.
I mean, that's a very good point. There's a couple of things that we're doing. First and foremost, I mean, we do expect to lap the headwinds from both energy and FX, assuming the current state at the current level by Q3 and Q4. We will see earnings growth for Q3 and Q4. As I mentioned, we are accelerating a variety of productivity initiatives that will allow us to compensate for what we're seeing as a lower demand in Q3 and Q4. That's what we're expecting to do. That's pretty much the forecast that we have.
Okay, great. Just on the Oil Can Henry's acquisition, I know you mentioned it's about a 10% increase in your stores, I think the stores channel is about 20% of your sales. Should we expect about a 2% annualized benefit to revenues? What kind of margins above or below segment average would you kind of expect on that?
Yeah, the margin impact will certainly be positive. Valvoline Instant Oil Change carries a stronger margin contribution than the balance of the portfolio. The Oil Can Henry's system is very profitable. With the synergies that Valvoline brings to the system, it will certainly be accretive in the long term. Won't have a significant impact on fiscal 2016. We do expect to close, as I mentioned, in Q2. There'll be some transitional costs, the benefits really ramp up for us in fiscal 2017 and beyond.
Great. Thanks very much.
Our next question comes from Laurence Alexander with Jefferies. Your line is open.
Hi, this is Jeff Schnell on for Laurence. As you look at the operating levers within ASI heading into the back half of the year, what kind of conditions would you need to see to lift margins in the back half, say more than 200 basis points over the first half, or can it occur on productivity alone?
Actually, that's a very good question. In terms of our margins, our gross margins continue to be very strong. If you consider actually the fact that we had $10 million of planned expenses compared to last year and that our gross margins were pretty flat with last year. We continue to make progress when it comes to our overall gross margin as we grow on the higher margin portions of the portfolio.
That's one of the levers that we continue to use, continue to grow in the high margin parts of the portfolio, which is one of the levers we have as we introduce new products. Obviously, when it comes to productivity improvements, there are things that we can do and continue to do when it comes to managing our plant operations effectively in the case of a slower demand, as well as certain initiatives on our productivity and SG&A, mostly on the back office functions, not on the front office. We're accelerating those to compensate the lower demand and to reduce our fixed costs, let's put it that way. Those are the levers that we're moving.
I would just add, this is Bill, a couple of things, as Luis highlighted, the gross profit percent has been strong, that's important right there. Secondly, in the first half of the year, as was discussed earlier, this is the period which not only is slower, but also the period in which there were the plant turnarounds, the scheduled plant turnarounds. Those weigh a little bit heavily on the first half of the year. Without having those in the second half, that will also help to the margin improvement on the EBITDA level.
Great. Thank you.
Our next question comes from David Begleiter with Deutsche Bank. Your line is open.
Thank you. Good morning. Bill, Luis, on ASI, when do you expect volumes to turn positive? Would that be in Q3?
Yeah, David, that's again, a good question. As we lap the energy, fundamentally, that's the thing that is impacting volume the most is the energy situation. We definitely expect volumes overall to go up. Having said that, let me highlight that on pharma, we continue to see volume growth. In coatings, we continue to see volume growth and different than in the past. We actually have the capacity to support that volume growth because of the investments that we've done. And in certain elements of our personal care business, we continue to see volume growth. So when you do that, you compare the fact that we are growing in those core segments and eliminate the negative impact of energy because we will lap those effects, definitely we'll start seeing volume growth in the June quarter.
Very good. Bill and Kevin, on the buyback, what's your thinking on the remainder of the billion-dollar buyback program in terms of being completed?
Yeah, we'll evaluate that after the current ASR has been closed out, which is really at the option of the bank, but no later than May of 2016. We'll continue to evaluate our options as that winds down.
Do you think it'll be done before the spin is affected?
Couldn't really say at this point. We'll just have to see how things play out over the course of time.
Thank you.
Our next question comes from John Roberts with UBS. Your line is open.
Morning, guys.
Morning, John.
Morning, John.
Sam, are there any metrics on Oil Can Henry's that you could compare for us with the VIOC? Are your average tickets materially higher, or are your average raw material costs materially lower? I'm just trying to get either a sense of how good you are at the VIOC or how much you might be able to improve them.
Yeah, we think there's well, first of all, they're a very well-run system, and that was one of the things that attracted Valvoline to it, so it's certainly not a turnaround situation. There are a lot of capabilities that we have in our model that they don't have as a smaller regional system. The team there is very excited. We've begun the transition process, the planning process, and getting ready for the close. Some of these tools we definitely expect are going to benefit them from a marketing perspective that can help drive car counts. They do have healthy car counts today, but we think there's opportunity for upside. They definitely have a healthy ticket, too, quite comparable to Valvoline and a small change.
The key for us in the transaction is in addition to the capabilities that we bring to operating their stores, is the fact that they'll be selling Valvoline products. That gives us tremendous leverage and opportunity for profit impact when we look at the impact that this acquisition is going to have on our total Valvoline business. It's a great market. We like the Northwest for, when you look at that map and you see where Valvoline's developed today, we've really not had a presence in the Northwest. This is really helping us become a fully national chain in a very attractive market. Really just couldn't be more excited about this acquisition, and the early work that the teams are doing points to a very successful transition, too.
Okay. Luis, why is the new product activity so much stronger in hair care than oral and skin care? Is it just normal lumpiness as customers work on different areas, or is there some divergence going on between those two markets?
No, it's more the lumpiness of how we work on the different projects and the fact that we just launched a significant amount of new products in hair care. That's what we're seeing the benefit of those. We also have new products that are launching for skin care that we expect to start picking up in the near term, and the same thing in oral care. There is nothing specific that is natural to the markets rather on how we introduce the new products as we have the different projects and the different collaborations. As you said, it's somewhat lumpy.
Thank you.
Our next question comes from Michael Sison with KeyBanc. Your line is open.
Hey, guys. Just curious, last quarter you gave us your thoughts on your outlook for 2016 relative to consensus estimates, it certainly seems that 2Q will be weaker. Are you signaling that you're still comfortable where, I guess the Street is set up for the second half of the year?
This is Bill. Based upon the discussions we had last quarter, we are seeing, as we've discussed, a weaker profile in Q2, we are not changing our outlook for the second half of the fiscal year.
Okay, great. Sam, organic volume growth in Valvoline continues to be impressive, given the environment here. How does that look as you head into the second, third, and fourth quarters, and can you sustain that level of growth?
Yeah, we're confident we're going to see continued volume growth through the balance of the year. Certainly, the first quarter was impressive at 4% and with the strong international growth. When we take a look at the international business and across the different regions, we really had solid volume growth in every one of the regions in which we operate. There's some good momentum there. Even in the U.S. market, the number of initiatives that we have with some of our key customers, we feel are going to help us drive volume growth in the second half of the year, too. The team is definitely really performing at a high level and confident that we're going to be able to continue the pace that we're on.
Great. Thank you.
Our next question comes from Dmitry Silverstein with Longbow Research. Your line is open.
Good morning. Just wanted to follow up on a couple of things. Number one, did I hear you right that adhesive sales were also down in the quarter on year-over-year basis as part of the industrial weakness and inventory correction?
No. What I did say was below our expectations. Obviously, as we enter the quarter, we have certain expectations for growth. When it comes to adhesives, we expected to see growth, the fact of the matter, they were flattish.
Okay
versus last year. Below definitely of our expectations.
Okay. The reason that they were sort of below expectations, is that mainly sort of North American construction, or is it still China and Brazil that are driving the results in adhesives?
No. For adhesives, our exposure is mostly to North America. We have very little exposure outside of North America, and we again believe it's mostly around the stocking on certain segments of the market. Some of it is construction, some of it is packaging. Again, it's that we expected to grow rather than a reduction.
Okay. The anniversary of all the divestitures as far as elastomers and biocides, that's all going to come to an end in the March quarter. June and September quarters are going to be pretty clean on year-over-year look-back comps?
Yes. Elastomers actually is done in Q1. For Q2, we will not see any elastomer issues. The closure of redispersible powders will come out of the results in Q1, and biocides will be until Q4.
Biocides will be okay. That's a relatively small business, if I remember.
That is correct. That's why, for all intents and purposes, by the June quarter, we expect to lap both divestitures and energy markets.
Got it. Secondly, in Valvoline, besides the top-line growth that earlier callers commented you on, and my congratulations on that as well. Your margins seem to have benefited significantly even though you're passing through lower pricing. Part of that is continuing declines in base oil. Is part of that also that you're seeing some declines in the additive portions or your other cost buckets within Valvoline? Can you talk a little bit about sort of the cost environment outside of base oil in Valvoline?
Yes. In additives, additive costs have also been moving down, impacted by the energy markets, too. We've worked with our key suppliers there to also benefit from lower additive costs moving forward.
Got it. Just finally, again, a point of clarification. When you talk about sort of lapping the foreign exchange headwind, I can see that happening clearly in the EUR part of the exchange. If you look at some of these other currencies, whether it's Chinese or Canadian or Australian, where I think you have a pretty good Valvoline business, all of those currencies really softened in the second half of 2015 calendar. Should that continue to impact you for much of 2016 calendar or fiscal? I'm sorry.
Yep. For the Valvoline business, there's additional impact, mainly because of the AUD. We have a good sized business there, and certainly Canada too. Those would be our two major impacts. That will continue for the next couple of quarters.
This is Bill. Just adding that there will, of course, always be currency fluctuations, and there has been change, or there were changes last year in the rate of exchange with the EUR. Really what we're talking about is moving it to the point or getting to the point where it's not as meaningful of an impact on our overall results, where we're not needing to speak to that as part of what's driving our business. That's really in the aggregate what we're talking about. There will still be impacts, some plus, some minuses as we go forward, we can focus more on the fundamentals of the business.
By far, the biggest impact on an overall basis is the Euro, and the biggest impact specifically around that is within ASI. Primarily because the high-value polymers are mostly manufactured in the U.S. and then exported around the world. A strong dollar has a negative impact on that. Again, the Euro is by far the largest part of that impact.
Okay. I appreciate that granularity. Thank you very much.
Sure.
Our next question comes from James Sheehan with SunTrust Robinson Humphrey. Your line is open.
Good morning. First, on the energy end market, could you update us on what % of ASI consists of energy in 2015? Also talk about the impact that the energy market has had on your nutrition business. Is there still a crossover impact going on there?
Yeah. At this time, if you remember before the energy market crisis started, energy represented 8% of our sales. For total fiscal 2015, it's about 3%. You can imagine that for fiscal 2016, it's going to be slightly lower than that, just from what we saw in Q1. It's had a significant impact. Yes, I don't think that we are seeing much more of what we've seen in the past when it comes to the nutrition markets. I think it had a significant impact when it comes to the volumes available for nutrition, when it comes to certain cellulosics and HEC. I think that volume has been transferred to those segments. There's no further impact in terms of more volumes going to that market. I think that what we've seen is what we will continue to see in the future.
Great. Bill, can you offer your thoughts currently on where you see leverage in the new Ashland versus Valvoline after the separation?
Sure. I think it's very consistent with what we have said before, that we are looking to essentially keep the same basic financial ratings that we have today with our current Ashland, with the two respective independent companies.
Thank you.
Our next question comes from Mike Harrison with Seaport Global Securities. Your line is open.
Hi, good morning.
Morning.
Luis, can you give us a little bit more color on what's going on in the skincare market? How much were volumes down? How does that compare with the trend that you had been seeing? I know there have been some competitive dynamics going on there, but how much is it competitive dynamics, and how much is inventory destocking?
Yeah. A couple of comments there. There's definitely a difference in the regions. We saw in Latin America, specifically in Brazil, a significant reduction, a significant destocking as people face challenges with their currency. Now, we don't necessarily get impacted by the currency impact because our prices are in dollars. What we saw is that the customers in Brazil immediately protected their balance sheet by reducing inventories, and there's a certain level of reduced demand. I would say that would be the place where we saw more of an impact, and we had a significant presence in that market. We saw some destocking in North America in certain categories. Some of them are related to pending technology changes. It's really destocking rather than other things. I cannot necessarily comment on the details of that.
We did see slightly lower demand when it comes to the sunscreen materials. That has an impact on competitive reasons. Those would be the areas in terms of having a little bit more, be more specific of what the situation is in skincare. Oral care, really what we saw was a significant destocking from our major customers. We've confirmed that, again, in the regions that I mentioned before, but it's mostly a destocking impact. To me, the question is how much of that destocking is just destocking and how much is they are seeing a slightly lower demand in their own markets. That's where we're a little bit more cautious in our forecasts.
All right. On the coatings side, Luis, can you talk about where you are relative to your capacity constraints? I know you mentioned the HEC volumes were up 3%. Are you pretty much sold out at this point? Where are we in terms of the timing of new capacity coming on stream?
At this time, we have now started all of the Nanjing expansion, and we're working on expansion, hopeful that will come on stream next year. With the expansion of Nanjing and assuming that the growth continues to be in the market between 3%-4%, and we'll be growing slightly ahead of that, we are good for 2016 and 2017. At this time, assuming normal growth, we are capable of supplying the market, which is very positive. Obviously, if the market were to grow slightly faster, we would need to get back to buying material as we've done in the past. Again, if the market were to grow slightly slower, we would have a small amount of capacity left over. It'll come back in 2017.
Bottom line, at this time, what we see is we have a very balanced perspective on our HEC capacity, and it's not going only into coatings. It's going into coatings, it's also going into personal care. Both of those markets are growing, we feel that we have now caught up when it comes to the current demand. As we continue to do investments, we'll be catching up to the growth of those markets. Just to add, I happened to be at the Nanjing facility last week, and while they've ramped up the new capacity addition, they're working on productivity enhancements to get more out of the existing capacity or the new capacity that's been put in, which will also give us a little bit more headspace or headroom for growth.
Thanks. Bill, there's been a little bit of discussion around the strategy involving the Valvoline spin, whether it might make more sense to sell the Specialty Ingredients business. Is that an option that was under consideration by the board? If an offer did emerge for Specialty Ingredients, how would you guys approach it?
Well, to begin with, we look at all options in terms of what's the best way to create value for the shareholders. Clearly, we believe that the separation is the primary mechanism right now to create that value, and it's incumbent upon us to drive the value of the two new independent entities so we're more in the position to acquire than to be acquired. I think if you look historically and you look at our tax bases and so forth, I think acquisitions would've been challenging in the past from a tax effectiveness. Our objective is to separate into two great companies that grow, but it would've been more challenging in the past, we'll say that.
Thanks very much.
Our next question comes from Roger Spitz with Bank of America Merrill Lynch. Your line is open.
Thanks very much. Perhaps I'm trying to pin you down a little further on any clarity on the leverage of New Ashland. I think you've said in prior documents it might be over 3 times, should we think about that in terms of a little bit over 3 times or leverage flat currently? What debt at Ashland might you consider repaying upon separation?
As we look at creating the balance sheets for these 2 companies, it's our objective to maintain a rate of leverage that will achieve a mid to high BB credit rating from the agencies. That's our stated objective, as we continue to develop our plans for separation, that hasn't changed. In terms of what that leverage will look like for each company, I'd say more to come on that as we get more specific internally around that as well. Again, the objective is to create 2 balance sheets, 2 capital structures that will warrant a mid to high BB credit rating.
Thank you very much.
As a reminder, to ask a question, please press star then 1 on your touch-tone telephone. Our next question comes from Jeff Zekauskas with J.P. Morgan. Your line is open.
Hi. Good morning. Thanks very much.
Good morning.
Hi. Were Valvoline prices up sequentially? If they were, how did you do that? Is it all mix?
Were our prices up?
Sequentially, not year-over-year.
No. The improvements in our profitability, driven primarily by mix, with some benefit of the reduced base oil cost. As we have explained before with our pricing model, some of our volume is purely market based, where we adjust based on market conditions. Some of our volume is based on index pricing. We do private label business that also adjusts fairly quickly. In those parts of the business, we've made price adjustments to customers according to the model.
What I mean is, did the mix benefits lead to a higher average price sequentially?
Okay. I see what you're asking. The mix benefits did not offset the price adjustments in the first quarter.
Okay. When you take a step back and you look at Valvoline, in 2014, I think your gross margin was, I don't know, something below 32%, and in 2015, maybe it was something below 36%, and now where you are is 38. Obviously raw materials have come down and your prices have come down, but not as much. When you think about what's a normal average gross margin for Valvoline, is it 40 or 30 or 35, or you can't tell?
While Sam's reflecting upon your question there, I think one of the concepts that we need to begin to talk more about is really the contribution or profit per unit. If the price of oil goes down substantially or the price of oil goes up substantially, the question is our profitability per quart, per gallon, per barrel, however you want to look at it, how has that fundamentally changed along the way? The percentage could change just based upon the underlying price of oil, either plus or down. That's something I think we'll reflect upon and probably talk a little bit more about in the future just to make it easier to see what's really going on in terms of the dynamics of profitability versus the cost of the underlying materials.
Certainly you've seen, Jeff, some pretty big adjustments, obviously, in base oil costs, and that means our selling prices have adjusted fairly significantly too, when you're talking about going back a couple of years where crude was versus where it is today. It definitely has a big impact on our gross profit margin percentage, and certainly EBITDA. Those are higher. To say that they're normalized or what is the normal level really is dependent on where crude is. The key thing when you look at our profitability is that Valvoline has a very strong brand, and as we bring value to our customers, then we can benefit and protect our margins, really in both a rising cost environment and a falling cost environment. We're confident of that.
From the level that we're at now, is the direction of gross margins for the remainder of the year up or down? If you can tell.
Yes. As I mentioned in my earlier comments, is that for Q2, we're projecting an EBITDA margin of 23%.
Right. I guess that means the direction is up.
Relatively stable to what we just reported. We're still going to be in that range, as our base oil costs continue to be in this relatively low range, we would expect our EBITDA margins to continue to be solid, we continue to look for opportunities to drive our mix, certainly we're making good progress there.
Okay, great. Thank you so much.
I'm showing no further questions. I will now turn the call back over to Seth Mrozek for closing remarks.
Very good. Thank you all for your time and participation this morning. Look forward to further discussions. Thank you.
Thank you, ladies and gentlemen. That does conclude today's conference. You may all disconnect, and everyone have a great day.