Earnings Call: Q3 2020

Feb 4, 2020

Good day, everyone, and welcome to Eagle Materials' 3rd Quarter of Fiscal 2020 Earnings Call. This call is being recorded. At this time, I would like to turn the call over to Eagle's President and Chief Executive Officer, Mr. Michael Hack. Mr. Hack, please go ahead, sir. Good morning. Welcome to Eagle Materials' conference call for our 3rd fiscal quarter of 2020. We are glad you could be with us today. Joining me today are Craig Kessler, our Chief Financial Officer and Bob Stewart, Executive Vice President of Strategy, Corporate Development and Communications. There will be a slide presentation made in connection with this call. To access it, please go to egomaterials.com and click on the link to the webcast. While you're accessing the slides, please note that the first slide covers our cautionary disclosure regarding forward looking statements made during the call. These statements are subject to risks and uncertainties that could cause results to differ from those discussed during the call. For further information, please refer to this disclosure, which is also included at the end of the press release. Our results this quarter have been consistent with the outlook that we have been sharing with you and business conditions remain favorable across our construction markets. Moving forward, we continue to expect demand growth in the low single digits for this foreseeable future. On both the heavy side, notably the Portland cement and on the light side, specifically in gypsum wallboard. We also recognize that there are risks to this outlook, but as I have stated before, we continue to believe these risks tilt to the upside for calendar 2020. Overall, it was a solid quarter for Eagle Materials. Consolidated revenues were up 5%, driven by increased cement and wallboard shipments, strong operational execution and improved cement pricing. Our cement sales volumes were up 7% to a record 1,400,000 tonnes. Operating earnings from cement were up 15% over the same quarter a year ago due to higher sales volumes. Wallboard demand remained healthy and our shipments were up 2%. However, soft pricing in wallboard was a headwind affecting operating earnings for the segment this quarter. We do have price increases out across all markets in wallboard and in cement as well. I'd like to take a moment to update you on the major expansion developments underway at both the heavy and light sides of our businesses. Starting with the light side, we announced a significant expansion project at our Republic Paperboard operations aimed at expanding productive capacity there by roughly 20%. The goal of this expansion is to meet market demand, lower current costs and minimize future cost exposure to white fiber. The project entails the installation of proven technology, but it is technology that is new to Gypsum Wallboard Paper Manufacturing Industry. Republic is a world class operation and a talented team there will utilize this technology to further extend our competitive advantages on paper performance. Project is expected to be complete this spring and we expect to begin ramping up paper production in the 2nd calendar quarter of 2020. Most of the equipment spend is complete for this project. On the heavy side, we announced during the quarter that we entered into a definitive agreement to purchase the Kosmos cement plant, 7 terminals and related assets from the Zmak Bootsi joint venture. We are on track to close on this transaction in the 4th fiscal quarter and begin enjoying an immediate contribution to cash flow starting next fiscal year. The transaction has now cleared HSR review. We're quite excited about the acquisition as this further extends our reach in the U. S. Heartland footprint consistent with our growth and plant network strategy. This acquisition will also provide the Cement business with even more capacity to serve U. S. Heartland cement markets. The timing of this transaction could not have come at a better time given our intentions to separate the company into heavy and light stand alone entities this summer. While we're on the topic of that separation, I want to underscore that we are still on track for a summer launch of the 2 parts of the company as we have indicated in prior communications. Also as a prelude to the separation, we have been evaluating options for the non core heavyside assets, specifically including our frac sand processing and distribution assets. While we continue to work on this process, I have no announcements to make yet other than to say this quarter we wrote down the frac sand assets and have continued to operate this business on a near cash flow breakeven basis, while we have been evaluating the alternatives. It is worth noting that excluding this non routine impairment items, our adjusted net earnings per share was up 22% over the 3rd fiscal quarter a year ago. That's all for me as far as introductory remarks. Now let me turn it over to Craig to go through the financials for the quarter. Thank you, Michael. Eagle's 3rd quarter revenue improved 5% to $350,000,000 reflecting increased cement sales volume and pricing, improved wallboard and paperboard sales volume and the results of a small concrete and aggregates acquisition. The acquired business contributed approximately $9,000,000 of revenue during the quarter. 3rd quarter EPS was a loss of $2.77 which includes the impact of several non routine items during the quarter, most notably an asset impairment charge of $224,000,000 related to the oil and gas proppants business. Other non routine items were business development costs and the effect of an outage linked to the planned expansion of our paper mill. Excluding the impact of these non routine items, adjusted EPS was $1.51 Turning now to segment performance. This next slide highlights the results of our Heavy Materials sector, which includes our Cement and Concrete and Aggregates segments. Revenue in the sector increased 18%, driven primarily by a 7% improvement in cement sales volume, improved pricing of both cement and concrete and the results of the Concrete and Aggregates acquisition. Operating earnings increased 19%, again reflecting the improvement in sales volume and pricing. Moving to the Light Materials sector on the next slide. Improved Wallboard and Paperboard sales volume was offset by an 8% decline in Wallboard prices, which led to a 4% decrease in light materials revenue. Quarterly operating earnings in our light materials business declined 7% to $48,000,000 reflecting lower net sales prices, partially offset by higher sales volume. In connection with the expansion of our paper mill, we took an extended outage during the quarter to tie in new equipment. The impact of this outage was approximately $1,500,000 during the quarter. In the oil and gas proppant sector, 3rd quarter revenue was down 48% and we had an operating loss of 7,000,000 dollars During the 1st 9 months of fiscal 2020, operating cash flow increased 9% to $321,000,000 and capital spending was down slightly to $84,000,000 We completed the acquisition of the Small Concrete and Aggregates Company during August with a purchase price of approximately $30,000,000 In advance of our pending acquisition of Kosmos Cement Company as well as the company separation, we have paused the share repurchase program to manage our capital structure. Finally, our debt to cap ratio was 51 percent at December 31, 2019, with $126,000,000 of cash on hand. Our net debt to EBITDA leverage ratio was approximately 1.8x at December 31. In advance of the Kosmos Cement acquisition, we established a $665,000,000 term loan facility in December, providing us with a low cost financing source. Post acquisition, pro form a leverage will be at or slightly below 3x with good visibility to delever post acquisition. The Kosmos Cement assets will increase our annual cement capacity by nearly 25% to more than 7,500,000 tonnes and provide an immediate contribution to annual cash flow. As Michael said, we expect the pending acquisition to be completed during our fiscal Q4. We are very excited about this opportunity to grow our cement position and to welcome a talented group of new employees to Eagle. Thank you for attending today's call. We will now move to the question and answer session. Catherine? Thank you. And it looks like our first question is coming from Trey Grooms with Stephens. Your line is open. Thank you. Good morning. So I guess the first one is on the Kosmos acquisition. So getting you deeper into that geographic market, I guess it's also bringing more long haul or maybe more barging into the picture with the 7 terminals. Can you talk about kind of how that plant fits there in your network in the market that it serves? What's the kind of demand and pricing been like in that market and kind of the outlook? And then also how this plant might compare to others in your network just from an efficiency or profitability standpoint? Sure, Trey. When we look at this asset, we're very excited, as Craig and I alluded to, to get this asset into our network. When we look at this transaction, this opportunity, we're really looking at our cement plant as a network. We have Illinois cement, airborne cement and Sugar Creek that are all in this area. And this further enhances it kind of knits those together to provide better service to our customers throughout this area. As for the plant itself, it was redone in 2002. So it's a modern plant with a large capacity plant. So we feel it's a perfect fit for us to expand our reach and extend our capacity in that market. And as I said knitting that together as one unit in that area. Okay. Thank you for that, Michael. And then kind of sticking with the cement, there had been some more kind of competitive behavior, I guess, or maybe more competitive than we would have thought at this stage in the cycle, within some of your cement markets anyway over the last few years. And it seems like the stage should be set for pretty good pricing realization this year given the demand outlook. Can you talk about any early reads that you may have around that cement price increase specifically, as we look into the spring season, given that backdrop? And then kind of tying that in, any early comments around the wallboard pricing for January as well? Thank you. Yes. Trey, when we look at it, we're out in all of our markets with the cement price increase. It's too early to really tell what the market is going to the market will determine that price and it's too early to tell what that's going to be. We're fairly we're out everywhere with it. Wallboard is the same thing. We're out with the wallboard price increase and we just don't have enough time yet to see where that's going to settle out. We'll have more information here over the coming months to see what the market determines that price to be. Okay. We'll stay tuned. I'll pass it on. Thank you very much. Thank you. And our next question comes from Brent Thielman with D. A. Davidson. Your line is open. Great. Thank you. Good morning. Could you guys clarify the price increases you're out within the market on light and heavy? Sure. Brent, this is Craig. The on the cement side, we are out generally around $8 a tonne in every one of our markets. And generally those are for the springtime close to April 1. There's a couple of markets that we were up in January, but it's generally $8 in April. And then the January the wallboard price was a January price that we were communicating to customers. Got it. Okay. And then on wallboard, maybe you could just talk about the demand environment. It seems like some of the early signs are looking healthier. You guys seem to sort of outperform with what we see in the broader market. Can you talk about what you're seeing in some of your regions just from a demand perspective on the wallboard side? Yes. With the underlying fundamentals look good. We've consistently said we see low single digit growth in the foreseeable future, And that's kind of what we're planning around. And there's nothing to deter us from planning around those numbers, low single digit growth. Okay. Thank you. Thank you. And our next question comes from Anthony Pettinari with Citigroup. Your line is open. Good morning. I was wondering if you could touch a little bit on the demand you're seeing in some of your regional cement markets. I think you've talked about strength in Texas and Colorado and some weakness in Illinois. Just wondering if you had any kind of additional color on regional market strength? Yes, Anthony, I think as we've said in the past, we are seeing improvement in all of our markets. And the rate of the pace of increase might be slightly different. But I mean to put it into perspective, the state of Texas in calendar 2019 was pushing 18000000, 19000000 tons of demand. We continue to see good growth here in the state of Texas. That is an enormous number. But even across our other states, we're seeing it. You're also seeing states becoming more creative or more aggressive in the way they finance their infrastructure spending. You mentioned Illinois. Illinois is a good example where they put some spending budgets in place in order to improve their infrastructure. And that doesn't happen overnight. It happens over a period of time. But we are seeing improvement across all of our markets. Okay. That's helpful. And then just on the paperboard side, as you think about costs for 2020, last year we saw this collapse in OCC prices. I guess they exited the year $20, $25 a ton kind of historic lows. As you think about paperboard costs for the next 12 months, specifically on OCC, are you expecting kind of prices to remain near these levels and any other kind of cost items that you call out? Yes. Really with regards to the OCC pricing, we're projecting that it's a very cyclical market, but it's been fairly flat over the last with a slightly declining trend over the last 12 months. And we think that it's kind of stabilized and we're expecting a stabilization of that price through. There will be minor variances on a month to month basis, but overall, we're expecting a fairly flat to slightly rising trend there. Okay. That's helpful. I'll turn it over. Thank you. And our next question comes from Jerry Revich with Goldman Sachs. Your line is open. Yes. Hi. Good morning, everyone. Good morning. I'm wondering if you could talk about how you're thinking about your heavyside network, assuming the transaction that you've highlighted earlier closes, how do you view other white space within the U. S. Geography? Just qualitatively, what markets would you view as attractive? Any parameters would be helpful. Yes. So I'm not going to speculate on what becomes available or what markets come open. But if you see our historical performance of where we've invested our money, you can see this one does fill a white space in our network. And that's kind of how we look at our network as a whole, how we bring those plants together. And that's what we use as our strategy, filling those white spaces. Okay. And in the past, you folks have spoken about really focusing on landlocked parts of the network. And obviously, we've got some barge exposure on the proposed assets. Can you just talk about how your thought process there has evolved part served asset is interesting to you folks? Yes. It really results again around the location and the how it fits with our other facilities. So when you look at that asset and how it ties together, like I said a little bit earlier was we have Illinois Cement, we have Fairborn, we have Sugar Creek. This completes a nice area. And the extended reach, while we haven't been participating in that market in the past, this does have the extended reach that it fills all those markets with it. So it's how we determine it is barge is one mode of transportation where we've done rail and truck in the past with it. And this just completes that network in that area and ties everything together. So that's why this was a very attractive opportunity for us to participate in. Okay. Thanks. Thank you. And our next question is from Adam Thalhimer with Thompson Davis. Your line is open. Hey, good morning guys. First question on Cosmos. Is the pricing similar in that region to the rest of your wholly owned regions? Yes, it will be pretty close to the average, yeah. And then how much volume should we bake in? Should we use that $1,700,000 figure? Similar to a lot of the U. S. Of industry, utilization rates are pretty high. We don't own it today, but certainly utilization rates are pretty high in that marketplace. Okay. Just getting ready for when it closes. And then on the paperboard side, pricing down 11%, you said there were some pricing provisions in our long term sales agreements that brought that down. What's going on there? How does that play out? So like we've said in the past, our most of our volumes contractually sold. Those contracts have inflators and deflators based on the price of inputs. So there's the price and the major one being OCC or recycled fibers. And as that price has come down, the price we charge to customers comes down with it. So it's been pretty consistent. Okay. And then paperboard volumes, would you bake in the full 20% increase in Q2 of 2020? Or does it just kind of layer in? Yes. No, I think as Michael alluded to in the outset, this will be a ramp over a period of time, and it will come up in March, April timeframe. It takes a little while to line out the machine. And then over the next several months, we'll begin to move it into the market. But yes, it'll be it'll ramp over a broader period of time than that. Okay, perfect. Thanks, guys. Thank you. And our next question comes from Phil Ng with Jefferies. Your line is open. Hey, guys. In your cement business, assuming demand holds up again in the Q4, it looks like you're running north of your reported clinker capacity this year. So is there more you can do to unlock more supply? And does this Cosmo acquisition free up some of that capacity as well for you? Yes. So if you look at it, we always look at it as a 12 month rolling too. So we do have some less busy times a year that we are able to produce more clinker and store that clinker. We also, on the last call, talked about some of the additional grind capacity we had matched into some of our facilities where we're able to take that clinker out of storage and grind it and sell it to the market. So we still feel comfortable with that side of running these plants full year and storing that clinker for the busier times a year to meet some of that increased demand. Got it. When we think about calendar 2020, using your outlook of low single digit growth, Does it feel like you have enough supply to meet that demand? And are you kind of running into a situation you run full out? I imagine you're pretty close. So with that backdrop, what kind of conversations are you having with your customers on pricing? And are they approaching those conversations only differently? Just wanted to make sure they have supply secure. Yes. So we've been able to satisfy our customers' needs. We think we're going to be able to satisfy those needs through this next calendar year also. We as Craig stated, we were out with $8 number across that market and we're having those conversations currently with the customers to see where that settles out. So yes. Okay. Got it. And maybe switching gears to wallboard, when you look at your volumes pretty solid in a choppy housing environment, but it lagged the region broadly. Curious what's driving that and if you saw any increased competition in the quarter with your ASP slipping a little bit? Yes. I would tell you that we're very happy with where our markets are performing. Our regions, as they have done recently, have outperformed the national average. And we're excited and look, the latest print on homebuilding was pretty positive, and we think calendar 2020 will be another good year for volume. Okay. And just one last one for me on wallboard. Did you see any pre buy in the quarter? I know it gets kind of noisy. And how should we think about that in the upcoming quarter normalizing on that stuff out? Thanks. Yes, Phil, I don't think there was any significant pre buy activity. And as you said, it's a little noisier as demand is improving. Pre buy was easier to spot 4, 5 years ago. It's a little less meaningful today than what it was. We just see homebuilding starting to improve. Thanks. Appreciate the color. Thank you. And our next question comes from Josh Wilson with Raymond James. Your line is open. Good morning. Thanks for taking my questions. Thanks, Josh. First off, just a housekeeping question. Can you give us a sense of where your wallboard price was exiting the quarter so we know where to start the January from? It was pretty consistent with the quarterly average. Okay. And what was the revenue impact of the outage in the paperboard plant? It isn't as much of a revenue impact as it is a cost efficiency impact. So then in terms of the margin benefit year on year adjusting that out, what were the drivers there? Look, OCC prices, as we've been saying, are very pretty low. Even and energy prices have remained low, but OCC is the major driver there on the margin. Got it. And just to re ask the prior question then, do you feel like your market share is okay in wallboard and that there was nothing timing related or something like that? Our market share hasn't changed more than 40 basis points in 5 years. Okay. And then last one for me. Your inventory days and payable days were down a fair amount year on year. Was that timing as well? Or is there a shift or some activity there? Yes. I think as Michael said, on the cement side, we've made some investments on grinding that's allowed us to eat through some of the clinker inventory. And we're always managing working capital to the best of our abilities to maximize cash flow. But and a lot of it is just seasonal timing as well. Got it. Thanks. Thank you. And our next question comes from Paul Roger with BNP Paribas. Your line is open. Hi. This is Rob Whitworth on for Paul Roger. I wanted to start by asking, can you comment on the outlook for cost inflation and sort of remind us of your hedging policy, actually for natural gas? Thank you. Yes. We sit here with the majority of our cost inputs, no significant inflation. You think about things like OCC, natural gas, then it's more on the light side. On the heavy side, it is energy oriented with electricity and fuels. And you're seeing some inflationary pressures, but nothing unusual there across the business platform. In terms of hedging, yes, with gas, well below $2 now. We're making we are putting some hedges in place for certainly the next 12 months and looking out to fix those costs and at these very low levels. Great. Thank you. And just one follow-up. Obviously, you'll be closing the Kosmos deal shortly. Would you look at making more investments into cement, obviously, despite the upcoming separation? Is that something that you would look at, Right now, Paul, we always look at any opportunities that come available. I don't want to really discuss on if we'd be open to investing more into the thing. What we're concentrating on right now is the separation of these two companies that will happen in the summer months. So that's where the management team is focused right now. Fair enough. Thank you. Thank you. Our next question comes from Adrian Huerta with JPMorgan. Your line is open. Thank you for taking my question. Two very specific questions. 1 on cement trade cost. You said in the prior quarter that costs were stabilizing. Can you tell us how the cost was this quarter? And the second question is on the separation cost, that it was a little less than $3,000,000 in the previous quarter. What was the amount in this quarter? Thank you. Yes. I'll answer your first question or your last question first. So we were $3,400,000 as we highlighted in the press release for what I'll call business development costs that certainly included the separation. It also included fees around and costs associated with the Kosmos acquisition that we incurred just prior to the announcement. And then in terms of cement freight, and I'd say freight in general, we're not seeing major changes there. The trend has been pretty flat benign for the last 12 months. And again, there's always a little bit of cost pressure there, but nothing like what we saw 2 years ago. Thank you. Thank you. And we have a follow-up from Brent Thielman with D. A. Davidson. Your line is open. Hey, thanks. Just one quick one on the Kosmos transaction. In the original release, you guys talked about this $120,000,000 in tax benefits. Any more color to that and kind of how you would we could think about you recognizing that once this is done? Yes. Brent, that's a great question. It's a very important part of the investment. So with tax reform, we're able to immediately expense or deduct a significant amount of the purchase price. We're going through that process right now. But using the Fairbourn allocation as a barometer, there will be a 3 significant depreciation deduction here in year 1 right upon closing of the transaction that will very likely move us into an NOL position from a tax perspective. And that will be able to be carried forward with both of the companies, even post separation. So we'll be in the enviable position of minimal taxes being paid. So again, all about free cash flow and that will be improved as a result of this. But that's where that $120,000,000 comes from, is that immediate deduction for a big chunk of the purchase price. Okay. That's great. Actually, one more quick one on the paper mill. Do you expect any more outages or downtime here as this expansion gets wrapped up that might some impact on the cost basis? Yes. That will we as Michael said, we'll wrap that up here this spring. So very likely in March, we'll be a pretty extended outage, more so than this past quarter. And we'll certainly quantify that for everybody on the call. But that will impact our March quarter to tie in the new the total equipment package. Yes. Okay. All right. Thank you. Thank you. And I'm showing no further questions at this time. I'd like to turn the call back to Mr. Michael Hack for closing remarks. Thank you, everybody, for attending the call today, and we'll look forward to speaking with you again in the summer. Ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may now disconnect. Everyone, have a great day.