Good afternoon, everyone. Welcome to the Superior Group of Companies' Q2 2023 conference call. With us today are Michael Benstock, the company's Chief Executive Officer, and Mike Koempel, the Chief Financial Officer. As a reminder, this conference call is being recorded. This call may contain forward-looking statements regarding the company's plans, initiatives, and strategies and the anticipated financial performance of the company, including, but not limited to, sales and revenue. Such statements are based upon management's current expectations, projections, estimates, and assumptions. Words such as expect, believe, anticipate, think, outlook, hope, and variations, or such words and similar expressions identify such forward-looking statements. Forward-looking statements involve known and unknown risks and uncertainties that may cause future results to differ materially from those suggested by the forward-looking statements.
Such risks and uncertainties are further disclosed in the company's periodic filings with the Securities and Exchange Commission, including, but not limited to, the company's most recent annual report on Form 10-K and the quarterly reports on Form 10-Q. Shareholders, potential investors, and other readers are urged to consider these factors carefully in evaluating the forward-looking statements made herein and are cautioned not to place undue reliance on such forward-looking statements. The company does not undertake to update the forward-looking statements contained herein, except as required by law. Now I'll turn the call over to Mr. Michael Benstock. Please go ahead.
Thank you, operator, thank you everyone for joining today's call. I'll begin by reviewing our Q2 highlights on a consolidated basis, including an update on our strategy to navigate the current economic uncertainty and ultimately position the company to capitalize on the compelling growth opportunities ahead. I'll then review our three business segments and our various initiatives to more profitably grow each business. Mike will then provide more detail on Q2 results, along with an update on our full year outlook. We'll then open the call for Q&A. We generated consolidated Q2 revenues of $129 million, compared to $148 million for the same period last year, along with consolidated Q2 Adjusted EBITDA of $7 million, compared to $5 million in the prior year quarter, which excludes last year's non-cash impairment charges.
Our overall financial performance was consistent with the soft market conditions described in our last quarterly call. In the midst of a challenging market environment, our team remained focused on delivering on our commitment to drive positive cash flow and strengthen our balance sheet. As a result, we generated operating cash flow of $38 million through the first six months of the year, reduced working capital and improved our leverage ratio, while also strategically investing in the attractive addressable markets across all three of our business segments. As a result, we believe SGC is in a better position to capitalize on improved sales trend in the second half of the year and beyond, as macro softness and uncertainty ultimately gives way to better economic times. With that, let's take a closer look at each of our three business segments.
Healthcare Apparel, which primarily includes the Wink and Fashion Seal Healthcare brands, generated Q2 revenues of $28 million, up from $26 million in the prior year's Q2. This 7% increase came despite the continued soft conditions across the healthcare market. Q2 Adjusted EBITDA of $1.9 million improved from -$1.4 million in the year ago period, which included significant inventory write-downs last year, as you may recall. Consistent with what I've mentioned on our past two earnings calls, we have made and will continue to make progress towards achieving better inventory equilibrium. As a reminder, healthcare apparel is a large and growing addressable market, and our overarching strategy involves growing our market share well in excess of the 2 million-plus caregivers who already wear our brands every single day.
Since the launch of our direct-to-consumer website, featuring our Wink product line early in the Q2, results have remained above expectations. By adding the D2C channel to our business, we have been able to drive higher consumer awareness and engagement with our brand. Another strategy within Healthcare Apparel is the recent launch of our B2B website, designed to allow wholesale accounts to engage with us more efficiently. Wrapping up on Healthcare Apparel, we see attractive long-term growth opportunities and continue to expect stronger year-over-year results, which have already begun. Next up is Branded Products, which is our largest segment, generating revenues of $80 million during the Q2 versus $102 million a year ago, consistent with the softness that we outlined on our last call.
Branded Products' Q2 Adjusted EBITDA of $7 million was up slightly over last year, with last year's result reflecting PPE-related inventory write-downs. While top-line headwinds caused by economic uncertainty continue, Branded Products is another segment which we're effectively managing through this period by improving gross margins, carefully managing expenses, and developing new sales strategies to overcome the macro environment. In other words, we're focusing on what's within our control, and these actions will leave us well positioned to capitalize on future growth as the economy improves over time. Our long-term vision for Branded Products is to expand our market share, currently less than 2%, in this attractive and growing $26 billion marketplace. Let's move on to Contact Centers , our highest margin segment.
Q2 revenues were $23 million, up 6% over the past year, with Adjusted EBITDA of $3.3 million, reflecting a margin of 14%, slightly improved from the Q1. Relative to Adjusted EBITDA of $4.9 million a year earlier, this quarter reflects higher labor costs and the investments in talent, technology, and infrastructure during the second half of 2022, partially offset by price increases that were implemented at the end of the Q1. We continue to build our pipeline of new business while identifying further pricing opportunities. Our long-term plan is to continue to significantly grow The Office Gurus, tapping into the large addressable market for Contact Centers while aiming for EBITDA margins in the high teens. I'll now turn the call over to Mike before we take Q&A. Mike?
Thank you, Michael, and thanks everyone for joining today. Q2 results were consistent with the quarterly cadence we described in our call in May, and we continue to expect a back-end loaded year. We generated consolidated revenues of $129 million, compared to $148 million in the prior year quarter. Our gross margin expanded to 36.8%, up 430 basis points over the past year. This improved gross margin was primarily driven by last year's inventory write-down of $4.5 million, which accounted for 300 basis points of the expansion and a significant improvement in the Branded Products gross margin rate due to favorable pricing and customer mix.
While Q2 SG&A costs of $43 million were improved from last year, SG&A expenses as a % of sales increased to 33.6% for the quarter, compared to 31.1% for the Q2 of 2022. The increase as a % of sales was due to expense deleverage, resulting from the sales decrease in branded products and higher expenses associated with additional headcount and infrastructure costs to support growth in our Contact Centers segment. Q2 interest expense of $2.6 million was consistent with the Q1, but was up $2 million from last year due to higher interest rates.
Rounding out our income statement discussion, Q2 net income was $1.2 million, or $0.08 per diluted share, compared to the prior year quarter's net loss of $26.7 million, or $1.70 per diluted share. In the year ago, Q2 of 2022, the company recognized pre-tax, non-cash impairment charges related to goodwill and trade names of $30 million, or $28 million net of tax, or $1.78 per diluted share. On an adjusted basis, which excludes the prior year charges, this quarter's net income of $1.2 million, or $0.08 per diluted share, was about flat to last year. Moving on to the balance sheet. Our cash and cash equivalents grew slightly since start of the year.
As Michael mentioned, while we navigate challenging market conditions, we have made meaningful progress towards strengthening our balance sheet by continuing to reduce debt and working capital, as well as driving $38 million in operating cash flows through the first 2 quarters of the year. We remain focused on these areas and will also continue our tight management of expenses and capital expenditures. As a result of these efforts, our net leverage ratio has improved slightly from the Q1 to 3.7 times our trailing 12-month covenant EBITDA, and was well within our covenant requirements. Turning to our updated full year outlook.
Given the persistence of soft and uncertain macroeconomic conditions, we now expect a revenue range of $550 million-$560 million, relative to the range issued in March of $585 million-$595 million. For earnings per diluted share, our outlook now reflects $0.45-$0.55, relative to our original range of $0.92-$0.97. Note that our updated outlook still calls for a back-end weighted year, with both the third and Q4s stronger than both quarters in the first half. Finally, on a business segment basis, for Healthcare Apparel, we continue to expect low single-digit sales growth for the full year that reflects gradual improvement through the balance of the year as inventory levels and customer demand approach normalized levels.
For Branded Products, we expect a high single-digit sales decline for the full year, again, based on an improved sales trend during the second half. Lastly, for Contact Centers, we anticipate improved sales and profitability in the second half of the year compared to the first and Q2s, resulting in double-digit sales growth in the low teens for the full year. Operator, if you could now open the line, we'd be happy to take questions.
Thank you very much. We will now begin the question and answer session. To ask a question, you may press star then one on your telephone keypad. If you are using a speakerphone, please pick up your handset before pressing the keys. To withdraw from the question queue, please press star, then two. At this time, we will pause momentarily to assemble our roster. Today's first question comes from Kevin Steinke with Barrington Research. Please go ahead.
Good afternoon. Just wanted to start off by asking about, you know, what's changed. I know you're still expecting a, a, a back half weighted year and, and an uptrend in the second half of the year. Just kind of curious what you're hearing from your clients on the Branded Products side that might have, you know, changed your outlook, and if they're just being, I, I suppose, a little more cautious than previously anticipated.
Yeah, Kevin, hi. Thanks for the question. I'll jump in. Mike can add anything that he sees. You know, we have started to see some positive signs of budgets opening up in marketing spend in the past few months. You know, the large tech companies continue to report pretty strong earnings, which overall bodes well for us. Our backlogs, in fact, which is representing orders received but not yet delivered, is, you know, was up significantly June 30 over the end of March. You know, we're seeing good signs. What we're not seeing is, you know, a return to any kind of normalcy that we would have expected, you know, sooner than we're seeing it.
You know, all the, all the predictions that we heard, in the latter part of last year is what we relied most of our first half and second half outlook on. We expected that the second half would come back a little bit stronger as the economy was predicted to come back stronger. We seem to be just in this, in this malaise of uncertainty, where, you know, some budgets are opening up, some budgets aren't. You know, we, we are seeing positive signs. I think we're taking a conservative approach to this. We, we, we don't want to disappoint, and we want to be certain that, you know, our targets are realistic for the second half of the year.
Still, second half of the year, if you, if you do the math, is up significant double digits, over the first half of the year in order to achieve those results. I would expect that, that that will happen at this point. You know, it's really a mixed bag. It, it truly is. We're seeing, you know, within, I spoke about the, the branded merchandise, Branded Products in particular, when you look at, the uniform side of that, that's a little bit slower than the branded merchandise is, even though that's a smaller part of our Branded Products segment today. You look at, you know, Healthcare was up, in fact, Q2.
But there's still a lot of product in the marketplace that's being, that's being, sold by our competitors. I, I have no visibility to how much excess product they have left to sell. I know ours is coming down significantly. We're looking to get past our issue of, of any kind of, you know, product overhang by the end of this year, which I think we've been pretty clear on. You know, lastly, when we get to the call center business, you know, interestingly, Mike can probably share exact statistics a little better than I can, but, you know, we did put on a lot of customers in the first half of the year. I think at an unprecedented rate.
Unfortunately, we also had a lot of customers, who cut back on the number of agents that they required because they have uncertainty in their business as well. Mike, you want to jump in on that a little bit?
Sure. Yeah, I would just add, Kevin, I mean, Michael covered it well in terms of Branded Products. Nothing to add there. On the contact center business, you'll recall we mentioned at the end of the Q1 that we onboarded quite a few customers in the Q1, and we certainly saw the benefit of that in the Q2. While we still had some growth within our existing customers, we also had some of our customers cut back on seats. That, that cutback with some of our customers is what tempered the growth a little bit in the Q2. As, as I noted in my guidance, we expect the sales trend to improve with Contact Centers as we continue to get the benefit of those added customers, plus customers in the pipeline.
We feel good about the back half of the year for Contact Centers .
Great. Thank you for all the insight there. You know, nice job on the cash flow and, and the financial leverage ratio. That didn't spike up as much or didn't really move as much as I thought it might, based on, you know, that amendment to your credit agreement you had executed. How should we think about leverage and cash flow as we look to the second half of the year and, and relative to the covenants you, you, you have in place for the remainder of this year?
Sure. Yeah, Kevin, I'll, I'll say, you know, we clearly exceeded our expectations in the first six months, as we talked about really starting last year, really focused on inventory in particular and cutting back on purchasing that we, we felt would drive improvement this year. Clearly, we see that happening. We're obviously really satisfied with how we ended the first six months. I think there's still, there's still room for improvement in the balance of the year. Not to the magnitude, obviously, that you've seen the first six months, inventory levels, while we're making progress, still have more progress to go for the balance of the year, particularly in healthcare. Our, our expectation is, is to still make some, let's say, modest improvement balance of the year.
And obviously, with the improvement that we've made in terms of working capital and the reduction of debt, and the improvement in our leverage ratio, where we're feeling more comfortable about our covenant position, going forward. Still have work to do to hit what Michael and I would say is our target net leverage ratio, which is to be 2.5 or lower. That will, that will take some time, but we're, we're obviously feeling, more positive as we move forward.
Okay, well, that's good to hear. You mentioned some customers and Contact Centers pulling back on the number of agents, and I know you're implementing some price increases to offset some higher labor costs you had seen in that segment. What's the status of pricing there? You know, does the fact that there's maybe less demand for agents currently take some of that pressure off of labor costs, at least in the short term?
No, I'll, I'll jump in on that, and then Mike, Mike can add again. We're not seeing... You know, we, we, we had a few clients who decided to reduce their headcount, and, you know, we haven't lost clients, which is always a good thing. Our expectation, Kevin, is when there's more clarity to the future and, and when, when things do turn the corner, from an economic standpoint, that we'll get those seats back. In the meantime, you know, that was not contemplated, that we would re-do the kind of headcount reduction that we did with these few particular customers, during Q2. Obviously, you know, that affects our growth overall for the year. So that's the first part of it.
I wouldn't say that there's a that there's a a a lessening demand for new customers and new agents in the the the places where we operate. In fact, I would say nearshore is as robust as it's ever been. You know, when you have close to 300 seats that you've cut back in in a single quarter, that you're not gonna see revenue from those for the remainder of the year, it, it does impact you. We've tried to redeploy many of those people into other seats that we have won, and we have won a fair amount of seats, so we haven't had to really cut back our headcount that much. It's just, you know, it's one offsetting the other.
Instead of having growth, we're just basically, have had to temper our, our expectations with respect to growth right now because of that. Mike, do you have anything?
Okay, thank you. Okay.
You covered it.
Okay.
Okay, good. Thanks. I, I just wanted to ask about Healthcare Apparel. You mentioned some positive early results out of the direct-to-consumer initiative, and maybe just talk more about how that's trending and how you think that could play out and potentially contribute to the second half of the 2023.
Yeah, as, as we've said in the past, we, we don't expect it to have a big impact on this year. You know, we, we did a soft launch in April, I believe it was the end of April. We've had 3.5 months at it so far. Every month is better than the prior month. We're getting much better at, you know, at keeping our customer acquisition costs in check and, and our return on ad spend, where we want it. We're not disclosing what those metrics are because it's not significant enough to really speak about. You know, I would expect that until the latter part of 2024, you're not gonna hear us speak about actual numbers, and maybe even beyond that, from a competitive standpoint, we're best off not speaking to that.
I can tell you it is exceeding our expectations. We're very happy with the gross margins it's bringing the business. We're very happy with our ability to move clearance merchandise through that, which we significantly said we have a lot of. So we're, we're excited about the channel and it is everything we hoped it would be. I'm looking forward to, to sometime in the future being able to report when it is a more significant part of our business, which it will be, just a question of time.
Okay. Thank you for taking the questions. I'll turn it over for now and get back in the queue. Thanks.
Thank you.
The next question comes from Jim Sidoti with Sidoti & Company. Please go ahead.
Hi, good afternoon, and thanks for taking the question.
Hi, Jim.
Hi, Jim.
You know, you've, you've guided for, or you're based on your guidance, you know, it sounds like you're looking for the top line to turn around and grow low single digits in the second half of the year, after falling, you know, roughly 10% in the beginning of the year. Are you starting to see any evidence of that now in the Q3, or do you think that's primarily a Q4 event?
I'll, I'll.
Yeah, you go ahead, Mike.
Yeah. I'll start. I think, I think, Jim, I think Michael alluded to, to this a little bit in the previous question. I think we're, we're, we're seeing signs in, in our businesses that, that, that there is an improvement in the trend from what we saw in Q1 and Q2. In the, in the Branded Products space, we've seen a trend improvement in the backlog of orders that are coming into the business. We're obviously encouraged with the positive comp in Healthcare Apparel in the Q2. Don't want to get ahead of ourselves.
There's a, a lot of the year to go, but the business driving an increase over last year, making- placing an emphasis in digital, not, not to some extent, the D2C, but overall in our digital business, which includes our wholesale business, I think is helping to, to create a little bit of momentum in that business. Lastly, what, when we talked about the contact center business, you know, we are seeing the benefit of the new customers that were added in the Q1. We're, we're seeing, you know, traction there in terms of added seats, which we think will provide an incremental lift to the back half of the year.
it, it sounds like you're seeing some evidence in this quarter, but you expect it to continue to build in, in Q4. Is, is that accurate?
Yeah, I think it'll be a build between Q3 and Q4.
All right. You know, despite the, the decline in revenue, you, you have been, you, you really haven't seen a, a huge drop in earnings, and you've generated, significant cash flow. What's the plan for that cash right now? Is that all going to debt paydown?
Our focus is, is still primarily on bringing our debt levels down. As I mentioned, you know, our, our target is to get our net leverage ratio down into somewhere between 2 and 2.5. You know, we've been there historically, and we would like to get back into that position, which then would enable us to consider, you know, other uses of capital. We're, we're, we're happy with the progress we've made in 6 months, but we've got unfinished business, and we'll remain focused on bringing those debt levels down.
Okay. All right, the last one for me. In, in the Branded Products business, it sounds like that has a lot of potential for you to grow, if you can pick up some share there. You know, what are the one or two things you need to do to pick up that share? Is it adding people? Is it increased promotional activity? You know, what do you think the key is to growing share in that market?
Yeah, that's, that's a great question. You know, it growing share in that market means we have to take business away from one of our 22,000 competitors, right? The easiest way to do that is to take their salespeople, who come to us with a book of business, and generally, within 18 months, have moved, you know, 80% of their book of business to us. With the support we can give them, we can help them grow even, you know, double their business, with us versus, you know, their prior employers. That's the easiest and least expensive way. The, the second, most, you know, favorable way to do it, is to, is to, you know, really produce a, a marketing effort, which we have done very, very little marketing in the past.
We are starting to spend some money on marketing to drive people to us who perhaps have never heard from us before. The third, the third, you know, probably the way we've done it in the past and so successfully, is we've bought, we've bought some of our smaller competitors and rolled them up under BAMKO, and that's been a very successful strategy. Obviously, with our leverage ratio is, you know, where it's at right now, we're not comfortable doing that. We are talking to people. We continue to speak to them so that when things ease up from a covenant perspective, we'll be able to go ahead and, and, and actually kind of close these deals.
I can tell you that, you know, because of the way the economy is and because of the maybe interest rates being what they are and, and, you know, expectations being lower than they might have been, a few years ago, I think the valuations will come in very, very well to our favor when we do go out and do acquisitions again. In the meantime, we're sitting tight and trying to work through our, our capital requirements very, very carefully. I would expect, you know, sometime next year that we will be back in M&A movement. I can't say we'll close any deals, but we certainly will be a lot more active, and there's never a shortage of opportunities out there.
Those are really the three ways.
Okay. All right. Thank you.
Sure.
The next question is from David Marsh with Singular Research. Please go ahead.
Hey, guys. Thanks for taking the questions. If I could start kind of at the macro, you know, the, the revenue guidance is a pretty meaningful reduction from what you guys provided last quarter. I guess the question is: Do you feel like the numbers that you've put out are conservative enough that you'll be able to, to hit that range here, as we sit here, kind of part of the way through the Q3 and really, you know, with only about five months left in the year?
Yeah, David, I would say, you know, we're, we're obviously, we're comfortable with the range. You know, as we approached, got closer to the Q3, a little bit into the Q3, can get some sense of what's in the pipeline across our segments. We felt that, you know, the range that we just guided to is a good range. We're certainly gonna work very hard to not just meet that range, but beat that range. We feel like it's an appropriate range based on the trends that we've seen in the business more recently.
Okay. Just turning to the, the, the inventory issue that, you know, you guys have talked about now for a little while. I mean, can you, can you give us a sense of, you know, how close you feel like you are to kind of an equilibrium inventory level? I mean, is it still a long way to go, or are you pretty close? I, I did appreciate the, the color provided there about being able to move some clearance through the, the website. That's really helpful to understand. You know, are, are you pretty close to being at a, at an equilibrium level, where you can kinda get back to your normal purchasing?
We're, we're, we're definitely making progress, Dave. We, and as, you know, Michael alluded to in the digital space, within healthcare, I think our, our emphasis on digital, both the D2C as well as our wholesale, has helped us to, to liquidate some of the underperforming inventory, and we'll obviously continue to do that. As we talked about last year, when we were looking forward, we felt it was gonna take the better part of a year for us to really, reach what we would call our inventory equilibrium or our target. I think the next 2 quarters will be critical. Obviously, we're expecting, an improvement in the trend of the healthcare business, which will help us facilitate moving the inventory to reach our target.
The next 2 quarters will be important, and, you know, our goal is to reach our inventory equilibrium, you know, around the year-end period. We'll remain focused on liquidating those inventories over the next 2 quarters.
From a supply perspective, you haven't seen any meaningful disruptions, correct? You can still purchase at, you know, whatever, kind of whatever level you would like to from your supply base. Is that a fair statement?
Yes. Yes, it is.
I just kind of reading, you know, I'm trying to read the tea leaves here. There, you know, there, there was some kind of dancing around it, but I just wanted to get a definitive answer. As you sit here today with the performance metrics that you have, do you feel like, you, you'll remain in compliance with the covenants, or is it still, you know, kind of, you know, you still kinda feel like it's maybe 50/50, that you might need to do another amendment?
We feel comfortable with, you know, with the amendment that we have in place, you know, and our current standing in the business. At this point, I would not anticipate, you know, any additional amendments that would be necessary. Obviously, we looked at this hard at the beginning of the year and felt, based on how we were viewing the cyclical nature of the business, we felt like it was appropriate to put an amendment in place that we felt would cover any potential increase in the ratio. Obviously, we've outperformed that, at this point, we feel comfortable as we move forward.
That's really helpful. Appreciate it. All right, let me yield the floor to to another caller.
Seeing no further questions in the queue, I would like to go ahead and turn the call back to Michael Benstock for closing remarks.
Great. Thank you, operator. Before we end this call, I would be remiss if I did not mention that we announced last month the passing of our Chairman Emeritus of the Board, my father, Jerry Benstock, whose vision and long career at Superior spanned over 60 years and led to many of the successes we have enjoyed over the last many decades. Dad truly loved his Superior family and every community that we operated in, and did much to tangibly improve the lives of so many. He'll be deeply missed by all who knew him. We mourn his loss. I want to thank all of you again today for joining our call. As you heard from us today, we continue to aim at profitably capturing share and creating long-term value for our shareholders, even as we continue to navigate these uncertain times.
We're excited about the opportunities ahead, and we look forward to keeping you updated on our progress. Please don't hesitate to reach out with any questions, and I hope everyone enjoys the rest of this very hot summer. Thanks again.
The conference is now concluded. Thank you for your participation. You may now disconnect your lines.