Headwaters Management Discusses Q3 2012 Results - Earnings Call Transcript

Headwaters (HW)

Q3 2012 Earnings Call

July 31, 2012 11:00 am ET

Executives

Tricia Ross - Vice President

Sharon A. Madden - Vice President of Investor Relations

Kirk A. Benson - Chairman and Chief Executive Officer

Donald P. Newman - Chief Financial Officer and Principal Accounting Officer

Murphy K. Lents - President of Eldorado Stone

William H. Gehrmann - President of Headwaters Resources Inc

Analysts

Trey Grooms - Stephens Inc., Research Division

Albert Leo Kaschalk - Wedbush Securities Inc., Research Division

Philip Volpicelli - Deutsche Bank AG, Research Division

Adam Wyden

Presentation

Operator

Welcome to the Headwaters Incorporated Q3 Fiscal Year 2012 Conference Call on the 31st of July, 2012. [Operator Instructions] I will now hand the conference over to your host, Tricia Ross, of Financial Profiles. Please go ahead, Madame.

Tricia Ross

Good morning, everyone, and thank you, for joining us for the Headwaters Incorporated third quarter 2012 conference call. There are slides accompanying today's presentation that can be found on the webcast link at Headwaters Incorporated under the Investor Relations section of Events and Presentations. Please go there to follow along with the slides. Should you have any trouble accessing the slides, please contact me at (310) 478-2700 or tross@finprofiles.com. I would now like to turn the call over to Sharon Madden, Vice President of Investor Relations at Headwaters.

Sharon A. Madden

Thank you, Tricia. Good morning and thank you for joining us as we report Headwaters' fiscal 2012 Q3 results. Kirk Benson, Headwaters' Chairman and Chief Executive Officer; and Don Newman, Headwaters' Chief Financial Officer, will be conducting this morning's call; along with Bill Gehrmann, who is President of Headwaters Resources and Heavy Construction Materials segment; and Murphy Lents, President of Eldorado Stone.

Please remember that certain statements made during call, including statements related to our expected future business and financial performance may be considered forward-looking within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, both as amended. Forward-looking statements, by their very nature, address matters that are, to different degrees, uncertain. These uncertainties are described in more detail in Headwaters' annual and quarterly reports filed with the SEC. You can find Headwaters' annual report on Form 10-K, quarterly report on Form 10-Q, and other SEC filings readily available from the SEC's website, Headwaters' website or directly from the company.

I will now turn the call over to Kirk Benson. Kirk?

Kirk A. Benson

Thank you, Sharon. We continue to have an excellent year, with adjusted EBITDA margin up 300 basis points year-to-date, and up $16 million on the trailing 12 months basis comparing September 30 to June 30, a 22% improvement. Importantly, we forecasted our free cash flow for the current fiscal year, from continuing operations, should increase to approximately $30 million. The improvements of free cash flow and stable liquidity levels have given us the opportunity to improve our capital structure by repaying $15.2 million of subordinated debt in the quarter and $34.7 million year-to-date. Additionally, we restructured approximately $50 million of our subordinated debt to a 2016 maturity instead of a 2014 maturity, which aligns our maturity dates with the generation of free cash flow. Today, we have $58.6 million of debt due in 2014, with 2 cash flow cycles remaining of $30 million each, but we have the current capacity to repay our debt as it matures. We will look at making additional early debt repayments. As our EBITDA and free cash flow have grown, and we have reduced our debt, our risk profile have substantially improved. Debt to EBITDA has gone from 6.7% to 5% over the last year.

Performance in the quarter is consistent with the very positive improvements that we achieved in the first 2 quarters of the year. Our SBU gross margins, operating margins and adjusted EBITDA margins are all substantially better than last year. However, the improved performance in the current quarter is masked, somewhat, because we recorded approximately $5.5 million of incentive compensation in excess of normalized amounts. Typically, we target compensation in the range of the 50th percentile of peers. Our consolidated adjusted EBITDA for the quarter was essentially flat to last year, but this year, absorbed over $5 million of incentive compensation that would not be expensed in a normal year. The additional incentive compensation relates to increases in our stock price, which has increased over 250% over the year, to successfully achieving cost-saving targets greater than planned and improvements in our top line. As we look forward to 2013, we will forecast normalized incentive compensation, so we may have some benefit next year from lower SG&A. If we, otherwise, have a stable year.

As you know, we have been pursuing the sale of our coal cleaning assets. During the quarter, we successfully closed the sale of one of the facilities. We received $2 million at closing and have the potential of receiving an additional $3 million over the next 12 months, and the total potential, over $10 million. We are negotiating the sale of additional facilities and expect to close those facilities before the end of the calendar year, but due to the negative cold environment, the sale of coal facilities has been more difficult than what we originally anticipated.

I'd now like to turn the time over to Don for a review of the financials.

Donald P. Newman

Thank you, Kirk. Good morning and thank you for joining us. Before discussing Slide 3, I wanted to mention that we intend to file our Form 10-Q later this week. My comments today will be directed to the slides that were sent out this morning and to a lesser extent, the condensed consolidated balance sheets and statements of operations that were attached to the press release.

Starting with Slide 3, our second quarter revenue from continuing operations was $175.6 million, up $14.9 million or 9% from the prior year revenue of $160.7 million. Second quarter adjusted EBITDA from continuing operations was $28.7 million, an increase from prior year EBITDA of $28.5 million. Under our pay-for-performance compensation philosophy, elements of our compensation program are tied to the company stock and financial performance. As a result of the strong stock performance and above target financial performance, compensation expense in Q3 was $5.5 million higher than planned and exceeded 2011 levels. Despite the additional expense, the company continues to perform well and expects to post full year results in the mid-to-high end portion of our original EBITDA guidance range.

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