And welcome to Caesarstone First Quarter 2018 Earnings Conference Call. As a reminder, this conference is being recorded. It's now my pleasure to introduce your host, Sarah Bicknell of IRC. Thank you. You may begin.
Thank you, operator, and good morning to everyone. Certain statements in today's conference call and responses to various questions may constitute forward looking statements. We caution you that such statements reflect only the company's current expectations and that the actual events or results may differ materially. For more information, please refer to the risk factors contained in the company's most recent annual report on Form 20 F and subsequent filings with the Securities and Exchange Commission. In addition, on this call, the company will make reference to certain non GAAP financial measures, including adjusted net income, adjusted net income per share and adjusted EBITDA.
Reconciliation of these non GAAP measures to the most directly comparable GAAP measures can be found in the company's first quarter 2018 earnings release, which is posted on the company's Investor Relations website. Thank you. And I would now like to turn the call over to Yair Averbug, Caesarstone's Interim Chief Executive Officer. Yair, please go ahead.
Thank you, Sarah, and good morning to everyone. As you should have seen in the earnings press release today, we experienced a disappointing Q1. Before I turn to discuss the quarter highlights, I would like to make 3 comments about how we
see the remainder of the year.
As for gross margin, we are very focused on improved capacity utilization, increased production efficiency and better execution with respect to inventory management. The first quarter included charges related to inventory and logistical inefficiencies, the majority of which we do not expect will continue in the remainder of the year. While margin pressure from higher raw material prices and from lower manufacturing throughput associated with increased mix of differentiated products will continue, our goal is to end 2018 with higher and more stable margin and a clear line of sight to additional improvement opportunities in 2019. My second comment is with respect to the company management. Caesarstone has a strong team, but we saw the need to make changes that are better aligned with implementing our goals for growth resumption and higher margins.
In addition to Ophir, our new CFO, we have now onboard Yaron Mande as our new VP of Operations. Yaron brings with him deep experience background and proven track record. We are confident, Yaron, we need our global operation teams to improve the results. More recently, we passed away with Dan Clifford, our President of U. S.
Sales and Distribution Operations. Our Chief Commercial Officer, Israel Sandler, is taking this role in the interim while we look to fill the position permanently. In my interim role as CEO, my partnership with Ariel Alperin, our Chairman, is very helpful, and we are working diligently to reposition the business and our strategy as the Board completes the search for a permanent CEO. 3rd, while we consider the Q1 results and the reduced guidance we are reporting today to be clearly unacceptable, we are doing what is necessary to leverage our strong brand, innovation capabilities and position in the market to grow the business and navigate to success in the competitive environment we are in. While we endeavor to improve our near term financial performance, we also consider other benefits that will be realized over a longer time period to be just as important.
Now I will refer to the Q1 financial highlights. Our Q1 revenue of $136,000,000 was similar to last year, and on a constant currency basis, our revenue declined by 3.7%. We saw a decline in revenue mainly in the United States and in Australia. The decline in the U. S.
Was mainly the result of a more competitive environment, including price pressure and execution challenges. Our adjusted EBITDA in the quarter was $11,200,000 a margin of 8.2% compared to $24,300,000 a margin of 17.8% in the Q1 of last year. This was well below our expectation and reflects the lower gross margin and the loss of some scale related benefit because of softer than anticipated revenue performance in the quarter. Our adjusted net income in the Q1 was $3,400,000 and adjusted EPS was 0 point 1 $0 Now I would like to provide an update on each of our regions for the Q1. In the United States, sales were down 2.2 percent to $56,800,000 compared to $58,000,000 last year.
Although these results were below our expectation, we are confident in our ability to capture growth in this market as we realign our execution and progress with our business plans. Australia sales were $28,900,000 down 2.1% compared to $29,500,000 last year. On a constant currency basis, Australia was down 5.2%. The overall housing market in Australia remained soft, including remodeling activities, and to some extent, we also suffered from inventory availability. In Canada, sales grew by 4.7 percent to $23,400,000 On a constant currency basis, our business in Canada was flat to last year.
Our core business performance was reasonably well, but was offset by a decline in our IKEA business due to change in promotional event timing, which we expect to gain back later in the year. Sales in Israel were up 0.8% to $11,800,000 for the quarter. On a constant currency basis, however, sales were down by 6%, a reflection of challenging market conditions. Europe sales were up 16.6% to $7,400,000 from $6,400,000 last year. On a constant currency basis, growth was 1.7% year over year.
We had very strong growth in the UK, offset by decline in some of our indirect markets. Revenue in the rest of the world during the quarter was down 7.8 percent to $7,800,000 On a constant currency basis, revenue was down 19%. In this region, we experienced supply issues and we were unable to fulfill demand for our product. Before I turn the call to Phil, I want to say again that we are dedicated to improving our results and our effectiveness in every aspect of the business. At the top of our list is to quickly improve our ability to grow revenue and to create sustainable gains in our production efficiencies.
These challenges are operational as well as strategic. We are working diligently to refine our strategy and our view of the future. I believe that over time, improved execution combined with good strategic decisions will yield strong business results. I would like now to introduce and welcome Ofer Jacobian, our new CFO, who will provide more detailed review of our consolidated results and of our guidance.
Thank you, Eyir, and good morning, everyone. Global revenue in the Q1 of 2018 was $136,100,000 a decrease of 0.3% compared to 130 $6,400,000 in the Q1 of last year. On a constant currency basis, revenue declined by 3.7% versus last year. Gross margin in the quarter was 25.2% compared to 36.1% last year. As Eir mentioned, there are a number of factors that contributed to the 10.9 percentage point decline.
During the Q1, the company recorded charges related to inventory and logistical inefficiencies, primarily related to the U. S. Distribution activity, the majority of which we do not expect will continue to in the remainder of the year, accounting for approximately 300 basis points of the decline. The other major factors that led to the decrease in margin year over year were lower production throughput in Israel impacting margins by 500 basis points, higher raw material prices impacting margins by approximately 150 basis points and lower volume and average selling prices in certain regions, partially offset by regional mix impacting margins by approximately 100 basis points. Operating expenses in the Q1 were $32,800,000 or 24.1 percent of revenue versus $34,100,000 last year, which was 25% of revenue.
The year over year reduction in expenses were mainly due to timing of marketing and selling expenses offset by increased expenses for legal settlement and loss contingencies. Excluding legal settlement and loss contingency expenses, operating expenses in the Q1 were $30,300,000 or 22.3 percent of revenue compared to $33,400,000 or 24.5 percent of revenue in the Q1 last year. This primarily reflects more moderate marketing and sales expenses in the U. S. Our Q1 GAAP operating income was $1,400,000 compared to operating income of $15,100,000 in the Q1 of last year.
Adjusted EBITDA in the Q1, which eliminates share based compensation and legal settlement and loss contingencies, was $11,200,000 a margin of 8.2% compared to $24,300,000 and margin of 17.8 percent last year. The decline in adjusted EBITDA margin primarily reflects the factors that pressured our gross margin in the quarter. We had finance income in the Q1 of $500,000 compared to finance expenses of $1,500,000 last year. This swing is due to the favorable impact of currencies, including its impact on our hedging instruments. Taxes in the first quarter were $500,000 compared to $2,300,000 last year.
Adjusted net income attributable to controlling interest in the Q1 was $3,400,000 compared to $12,500,000 last year. Adjusted diluted earnings per share in the quarter were $0.10 compared to $0.36 in the same period last year. Both figures are on 34,400,000 shares. Turning to March 31 balance sheet, we had cash, cash equivalents and short term bank deposits of $112,100,000 I would note that during the quarter, we had used $14,200,000 of cash to settle previously announced microgrid arbitration and $10,500,000 for payment of the dividend we announced at the end of the year. Will note that considering the quarter's result, we will not distribute dividend this quarter.
With respect to our revised outlook and guidance for 2018, our current assumption for full year revenue is between $590,000,000 to $610,000,000 compared to our prior guidance for a range between 612 dollars to $632,000,000 With respect to adjusted EBITDA, given the variety of factors we experienced in the Q1, most significantly the lower than anticipated gross margin, we now believe that the adjusted EBITDA is expected to be in the range of $74,000,000
to $82,000,000
compared to our prior guidance range of $110,000,000 $2,000,000 to $110,000,000 Thank you. And I will now turn the call back to Ariel for closing remarks.
Thank you, Ophir. Thank you for your attention this morning. We have some challenges in front of us for sure. Fortunately, we continue to have powerful advantages and strengths. Our brand occupies a premium position at the top of our category.
Our products and our reputation are excellent, and we are known for quality and innovation. We have a very capable global platform that we will be able to leverage for better results. Finally, we have a strong balance sheet with an approximately $100,000,000 net cash balance, which provides us a wide variety of range of options as we determine our next steps towards driving value to our shareholders. Thank you. And we are now ready to open the call for questions.
Thank you. Our first question is from Susan MacLary with Credit Suisse. Please proceed.
Thank you. Good morning.
Hi, good morning.
Good morning. My first question is around the inventory and the logistical inefficiencies, Yair, that you talked about. Can you just give us a little bit more color on that? And I guess with it, can you discuss the U. S.
Plant, how the new management team there is doing, how the progress is coming along and how we should be thinking about it coming up to speed over 2018?
So with regards to the change of leadership in the U. S, The change is very, very recent. Susan, are you talking about the plant or the distribution operation?
Well, both. I mean, in your comments, Yair, you said that it was an inventory that there were inventory and some inefficiencies on the logistics side there. Are those related to the plant?
Okay. So let me clarify this. So first of all, nothing that we have discussed in the call related to the U. S. Plant.
Let me put this one first out of the radar screening. The U. S. Plant, we experienced a significant improvement both year over year and also sequentially. And the plant is really on track based on our plan.
It didn't play any factor in this quarter results because on one end, there was an internal major improvement in the factory. On the other end, because the factory now is a bigger component of the total production and it's still more expensive than in Israel. So those two drivers kind of offset each other and Richmond deal was not part of the gross margin drivers for the year. So most of the inventory and logistics inefficiencies and also the miss on the revenue side was related to our U. S.
Sales and marketing operation. As I've said, I started to say, our leadership changer is extremely recent. I believe that we aligned what we need to do now, how we should go about the market, and I believe that we are off to a better performance.
Okay. All right. That's helpful. And then Yair, one of your U. S.
Competitors has filed an anti dumping suit in the U. S. Given all the case as a significant player in this market?
Yes. Sundar, we actually prefer not to refer to any specific allegations. But I would just say that in general, of course, we support fair trade practices in all markets. More specifically, this petition was not initiated or submitted by us. However, of course, if regulatory agencies will approach us, we will provide any relevant information.
Okay. Thank you.
There are no more questions at this time. I would like to turn actually, Susan MacLary has a follow-up question.
If I'm the only one that's in the queue, I'm going to ask you another question. I guess with Dan Clifford gone, can you talk about the kind of person that you're looking to fill that role? What will be different about their profile relative to Dan's? And how are you going about the process?
Okay. So
without referring to Dan at all, I would say that we are looking for somebody with some specific industry experience ideally, or is a very strong marketing and sales capabilities and background, somebody who is a strategic thinker. And I would add to those 3 that we want somebody who can roll up his sleeves and move a quite a big organization with a lot of complexities, drive it to do strong execution. So in a nutshell, that's what I would that would be my ideal candidate.
Okay. All right. That's helpful. And then just lastly on the dividend reinstatement. So you're not going to pay the dividend in the Q2, but then how should we think about it going forward?
So we set I mean, the Board decided on a dividend policy at the end of last year, and we believe that once we see a better performance in terms of the results, we will resume the distribution of dividends hopefully in the next quarter.
Okay. All right. That's perfect. All right. Thank you, guys.
Thank you.
Our next question is from Michael Renaud with JPMorgan. Please proceed.
Hey, good morning. This is Neil Buscimilian for Mike. I guess I just wanted to continue on the gross margin performance. Your comments on the inefficiency were helpful, but on the raw materials part, what are you doing with pricing or otherwise as an offset? And I guess as an add on, sort of what do you see as your pricing power?
Well, I think that in the industry of polyester prices and titanium oxide in those of the world, those are commodities that I'm not sure that Caesarstone, all due respect to us, has much power. This is market that tends to fluctuate quite a bit. We, of course, try to bid between different suppliers and
do the
maximum and optimize ourselves, but our capabilities there are not exactly it's like oil industry. I'm not sure that somebody has a buying power in oil industry.
Okay. That makes sense. I meant more pricing on your end as far as raising prices on products.
Yes. So what I would say about our prices is that the dynamic in our as far as we see it is the following. There is generally an increased competition in the quartz market, especially in the U. S. From low end manufacturers, mainly from China.
For SazerStell as a brand, as a differentiator in the market, we continue to put a lot of weight and a lot of effort to try and introduce new products into the market and keep the gap between us and the competition. On the other end, to still optimize the top line growth, we are a bit more aggressive on the classical collection in general. And then and some of this whole equation ends up in a more challenging environment in our plants because the newer products are more sophisticated or more complex to introduce and take more cycle time in our plants.
Okay. That makes sense. I want to ask a little bit on channels. Maybe if you could break down the results you're seeing in big box versus retail, where is maybe trending better or worse than your expectations?
Yes. I would without getting into a lot of specific, in the big boxes, we are in IKEA. IKEA, as we said, in Canada, was a bit down due to the timing of the promotional events. In the U. S, if I remember right, IKEA was a growth.
What we see for the remainder of the year in IKEA in the U. S, our outlook for IKEA is structure of the promotional events in IKEA. Basically, it's less favorable of a promotional matter for the consumer in IKEA. And because a lot of the demand comes in those promotional events, we are also impacted by that. Okay.
That makes sense. So that's on the IKEA channel. I will say that in the more in the builder segment, we are doing quite well. I think our more the challenges are mostly on the retail channel. Okay.
You're welcome.
Our next question is from Dillard Watt with Stifel. Please proceed.
Thanks. Yair, good morning. Maybe if you want to talk a little bit about Australia, it's your 2nd biggest market. You said you had some inventory availability issues there. Is that something that gets better through the rest of the year?
Or are you going to continue to face the headwind so long as I guess, maybe the Israeli plant throughput is not where you want it to be?
I expect Australia to be better in terms of inventory availability because we shifted some production there to juggle between all of our capacity challenges. I would say that in Q1, this was the case because in the second half of twenty seventeen, we put a lot of emphasis on build up inventory for North America. And so Australia was impacted in Q1 somewhat. We are now fixing those situation, and I believe I hope that the revenue opportunities that are going to be lost due to inventory availabilities will diminish dramatically.
Okay. And just back on the inventory and logistics issues in the U. S, I mean, maybe if you could just again give us a little more detail on what happened and what gives you confidence that that was a one time charge, I assume, I guess sort of through the 1st 5 weeks of the quarter, maybe things are better or maybe that was just first half of the first quarter issue that was just a really big drag and then has since corrected itself. But what happened?
Yes. So in the as Jerry mentioned, we built inventory in North America, both in the U. S. And in Canada.
The way that we built it was in a way that there was some
peaks in delivery
of our products, of the shipments to the location, and that created some extra charges related to freight and storage and related expenses. And as a result, we suffered we had some excess expenses that we don't expect now to return later in the year. In addition to that, we had some inventory write downs related to some finished goods that we also don't expect to return in the remainder of the year. So these were the two main factors, and that's why we don't think it's the majority of which will not
reoccur during the year.
Okay. And raw material outlook for the rest of the year, I assume it gets better as we get through the year. What should we expect for the raw material impact on gross margins this year?
Well, we are always as good as the last quote and the last buy, and I wish we had a crystal ball on guessing where this is going. Prices of both polyester and titanium oxide have crept up on us sequentially. So I'm not sure that the future is brighter on that. We'll have to wait and Okay. If
you just assume maybe they were flat from here, is it a similar year over year pressure Or does it get a little easier just on the year over year comparison?
I think it may be a minor impact on the year over year because the prices of polyester trended up sequentially for quite a long time. So I guess that the impact is somewhat More moderated. More moderated as we go along if the prices will stay flat now.
Okay. Thank you.
Ladies and gentlemen, we have reached the end of our question and answer session. I would like to turn the conference back over to Yaron for closing remarks.
So thank you everybody for attending the call and we look forward to provide better results in the next quarter. Thank you.
Thank you. This concludes today's conference. You may disconnect your lines at this time and thank you for your participation.