Earnings Call Transcript - ACU Q2 2020

Operator, Operator

Good day and welcome to the Acme United Corporation's Second Quarter 2020 Earnings Conference Call. At this time, I would like to turn the conference over to Mr. Walter Johnsen, Chairman and Chief Executive Officer. Please go ahead, sir.

Walter Johnsen, Chairman and CEO

Good morning. Welcome to the second quarter 2020 earnings conference call for Acme United Corporation. I am Walter C. Johnsen, Chairman and CEO. With me is Paul Driscoll, our Chief Financial Officer, who will first read a safe harbor statement. Paul?

Paul Driscoll, CFO

Forward-looking statements in this conference call, including, without limitation, statements related to the Company's plans, strategies, objectives, expectations, intentions and adequacy of resources, are made pursuant to the safe harbor provision of the Private Securities Litigation Reform Act of 1995. Investors are cautioned that such forward-looking statements involve risks and uncertainties such as, among others, those arising as a result of the effects of the COVID-19 pandemic, including the ongoing economic downturn and the other risks and uncertainties described in our periodic filings with the Securities and Exchange Commission and in our current earnings release.

Walter Johnsen, Chairman and CEO

Acme United had good performance in the second quarter of 2020. Our sales were $44 million, an increase of 9% over this time last year. Our net income was $3.2 million, an increase of 20%. Our earnings per share were $0.92 compared to $0.77 in the second quarter last year, a 19% increase. We've had many challenges during the quarter. We had customers whose businesses plummeted because their stores were closed or people were afraid to shop in them. We had orders canceled or delayed for cutting tools due to uncertainty in the office, school and retail markets. We anticipate bankruptcies of customers who will not be able to recover in the months ahead. Our sources of supply of raw materials, components and finished goods across all our product lines were at various times closed or shipments were delayed, this was particularly true with our production in China which closed during Chinese New Year and then stayed closed due to the coronavirus. We had intense catch-up production only to discover that the virus had migrated to the U.S. and Europe and the demand was delayed. Components of our first aid kits were in high demand and costs increased dramatically for gloves, isolation gowns, procedure masks, alcohol wipes, hand sanitizer, disposable thermometers and many other items that are used in our first aid kits. Our factories and distribution centers in the United States, Canada and Europe operated under adverse conditions. We prioritized safety with masks, hand sanitizer and gloves available for all of our production workers. We conducted regular deep cleaning of our facilities, installed clear flexible barriers between operators and our kit packing lines and paid extra incentive bonuses to our front-line workers. We checked temperatures of our employees daily and paid them to stay home if they were not well. We had planned shutdowns to test for coronavirus and cleaning and tracing in our plants. We produced and shipped at all of our facilities on the west coast when the east coast plants were down and then did the reverse when the west coast plants shut down. We ran over time and weekends. We shipped as fast as we could despite higher costs. The operations in our eight plants and warehouses continue under these adverse conditions and we see no end until the pandemic eases. Our sales, our teams in sales, marketing, sourcing, quality control and engineering have often worked remotely or managed remote locations. While not ideal, we have functioned. We're planning to continue in this mode. At the end of the first quarter, we expected sales to many of our traditional Westcott customers to fall dramatically and they did. Sales to the office superstores, wholesale and independent office dealers plummeted in the United States and Europe. The largest wholesaler in the UK filed for bankruptcy. The largest school distributor in the United States was taken over by its creditors. We fear more bankruptcy in the next six months. So far they have shifted sales and avoided major account receivable issues. We were pleased by the strength of our online and mass market sales as well as sales for our hunting and fishing product lines. As stores began to reopen in June, we began to see more orders from the office segment. The overall sales of Westcott cutting tools, Camillus knives and Cuda fishing products in the U.S. increased 4% during the second quarter compared to last year demonstrating the size of this unforeseen shift in buying patterns. Our first aid and safety business increased 16% during the quarter much of the growth was due to market share gains in the mass market, e-commerce and home improvement channels. We estimate that we had surge demand due to the COVID virus of approximately $1.5 million during the quarter. We are preparing new products for our customers to focus on safety. During the second quarter we introduced personal protection kits that have gloves, sanitizers, masks, wipes and thermometers for use in offices, schools, dining facilities, planes and many other locations. The initial demand has been good and we plan to begin shipping in the third quarter. We have been increasing our inventory of key components and finished goods across all our product lines in preparation for potential supply chain disruptions during the coming quarters. We worry about the spread of COVID virus in Europe, China and the United States which could disrupt production and shipments. So you will be seeing increases in inventory in the coming quarters as we prepare for disruptions we hope do not occur. We maintained our entire workforce and hope to continue to do so. In some cases we were open when our competitors were not and gained market share. We developed new products, improved our content on our online sites, added to our efforts to drive online search and hustle for business. I am humbled and grateful for the work our team has done and we believe we are positioned to move forward in these tremendously uncertain times. I will now turn the call to Paul.

Paul Driscoll, CFO

Acme net sales for the second quarter were $44 million compared to $40.2 million in 2019, an increase of 9%. Sales for the six months ended June 30, 2020 were $79.8 million compared to $71.6 million in the same period in 2019, an increase of 11%. Net sales in the U.S. segment increased 10% in both the quarter and the six months ended June 30. The sales increase mainly came from first aid and safety products primarily in market share gains and to a lesser extent gains from COVID-19 related surge demand. Net sales for Europe increased 6% in local currency for the quarter and 12% for the six months ended June 30. The sales increase for both periods was primarily due to increased sales of Westcott and Camillus products and the e-commerce channel as well as higher sales of DMT sharpening products. Net sales in local currency for Canada excluding first aid central decreased 42% in the quarter and 25% for the year-to-date. Sales of office products have declined due to office and store closings as a result of COVID-19. Including first aid central sales, Canada sales increased 11% in the quarter and 35% year-to-date. The gross margin was 36.5% in the second quarter of 2020 compared to 36.7% in 2019. The year-to-date gross margin was 37.1% for both 2019 and 2020. SG&A expenses for the second quarter of 2020 were $11.7 million or 26% of sales compared with $11 million or 27% of sales for the same period of 2019. SG&A expenses for the first six months of 2020 were $23.2 million or 29% of sales compared with $21.8 million or 31% of sales in 2019. Net income for the second quarter of 2020 was $3.2 million or $0.92 per diluted share compared to a net income of $2.7 million or $0.77 per diluted share for the same period of 2019, an increase of 20% in net income and 19% in earnings per share. Net income for the first six months ended June 30, 2020 was $4.5 million or a $1.28 per diluted share compared to $3.5 million or $1.01 per diluted share in the comparable period last year, increases of 29% and 27%. The company's debt less cash on June 30, 2020 was $37.3 million compared to $41 million on June 30, 2019. During the 12-month period we paid $2.1 million for the first aid central acquisition. We spent $1.6 million on dividends and generated $9 million in free cash flow. I'll turn the call over to Walter.

Walter Johnsen, Chairman and CEO

I am here. Are there any further questions?

Operator, Operator

At this time we'll take our questions. We will go first to Tim Call of Capital Management Corporation.

Tim Call, Analyst

Congratulations on a great quarter again.

Walter Johnsen, Chairman and CEO

Thank you, Tim.

Tim Call, Analyst

Do you expect interest expense to continue to rapidly decline because of your solid cash flow generation?

Walter Johnsen, Chairman and CEO

Tim, we are increasing our inventory right now, in preparation for I don't know what but if COVID were to be spreading throughout more of China or we had the ports closed or who knows. So we are buying an extra quarter of inventory of our top selling products right now in preparation to be covered for the next six months and that's an unusual step but we have the balance sheet to do it and we borrow with 2% interest. So chances are the interest expense will not decline. On the other hand if we don't need that inventory then we'll be selling it off in the first quarter of next year.

Tim Call, Analyst

Do you expect the healthcare sales to benefit in the future as the economy opens back up in areas like food service, hotels, office, retailers?

Walter Johnsen, Chairman and CEO

That's a great point, Tim. Currently, our first aid sales have not increased in some areas, especially with major distributors in the food service market, which has seen a decline. As that market begins to reopen, I anticipate our distributors will start rebuilding their stock and increasing their purchases from us.

Tim Call, Analyst

Last year Cuda introduced a new line of puncture resistant gloves. Do you think there are any selling opportunities for similar items in hunting, industrial or healthcare?

Walter Johnsen, Chairman and CEO

Well, we really don't sell much into the hospitals. So our gloves and masks are being used in workplaces and in homes and in offices where typically you're not dealing with needles but more importantly I don't think we could get the gloves even if we wanted them because there are shortages throughout the entire supply chain. I'm sure we could sell them though.

Tim Call, Analyst

Well, in this environment I'm glad to see that you have a robust inventory level to handle whatever comes. Thank you.

Walter Johnsen, Chairman and CEO

We are lucky to have a balance sheet to be able to do it and we do have that balance sheet. So we're using it.

Tim Call, Analyst

Well, good job. Thank you.

Walter Johnsen, Chairman and CEO

Thank you.

Operator, Operator

We will go next to Jeffrey Matthews of RAM Partners.

Jeffrey Matthews, Analyst

Hi Walter! How are you?

Walter Johnsen, Chairman and CEO

Hi Jeff. Good, thanks.

Jeffrey Matthews, Analyst

I can imagine what you've been going through the last three months and just have to say congratulations that you made it through all of you did in the way that you did and my question is a little bit longer term if you can kind of pick your head up from all these fire drills you must have been going through the last few months, is there anything about this that has caused you to think a little differently about how you run the company or where the company's going over the next five years or is it just your playbook is the same and that you are going to keep, you are going to stick to it?

Walter Johnsen, Chairman and CEO

We've certainly realized that we can accomplish much more remotely, though there are also downsides to this approach. I’ve been surprised by how effectively we’ve managed it, and the volume of online meetings each day is remarkable. I believe some of this will persist. I want to travel, and our sales team is eager to visit customers and suppliers, specifically suppliers and our international operations, but I expect to see less travel in the near term. We are currently reassessing our office layout, and it’s possible we will allow more remote work in the future. I anticipate that social distancing will continue in our offices, and we may need more space rather than less. This situation is not something we can easily forget. Just as the events of 9/11 changed airport security protocols, I believe we will see similar shifts regarding hygiene and distancing. If that is the case, the products we develop going forward will be better suited for creating a safe and hygienic workplace environment, which may differ from traditional first aid. This opens up opportunities for new products. Additionally, within our Westcott product line, we have introduced antimicrobial scissors, rulers, protractors, and baskets, which we will be emphasizing more in next year’s sales across all categories. These products have been refreshed and are well-known, and I expect stronger sales as a result. I also believe they will gain traction in the hunting and fishing sectors. We have seen unexpected growth in fishing, and with new participants entering the market, we are presented with various opportunities to offer innovative products for enthusiasts.

Jeffrey Matthews, Analyst

Got it. And how about supply chain? Can you give your thoughts there?

Walter Johnsen, Chairman and CEO

We have been diversifying our base of components and products over the last two years. One significant step in this diversification was acquiring our first aid operations in Vancouver, Washington, and expanding that in Rocky Mountain, North Carolina. We also purchased DMT in Marlborough, Massachusetts, and we have two plants for spill magic, one in Santa Ana, California, and the other in Smyrna, Tennessee. All of these efforts have played a crucial role in our diversification. Additionally, we are now sourcing components from places like Egypt, which we hadn't done two years ago. We're increasing our activities in Malaysia and have started doing more in India. However, China remains a very important partner, and I expect that to continue.

Jeffrey Matthews, Analyst

Great. Thanks a lot Walter. And thanks everybody and good luck.

Walter Johnsen, Chairman and CEO

Thank you Jeff.

Operator, Operator

We will move next to a private investor.

Unidentified Analyst, Analyst

Good afternoon Walter. Regarding the Canadian results, have you started to integrate the domestic Acme United product line into the sales report? Are you seeing any indication of that?

Walter Johnsen, Chairman and CEO

So Bob that is a very good question. When we bought First Aid only in January. The primary reason to do that was to bring in our entire first aid category into our Canadian business and we haven't been able to do it because of many restrictions in that market. And so by buying First Aid Central it gave us the ability to bring in Canadianized versions of many of our products. Well, we've closed that in January and by March none of us have been back. And what we've done online has been amazing and our team in Laval, Canada has been working throughout in production. There are plenty of opportunities particularly with our customer base in Canada to take those customers and bring in products to them. We're doing that now. We haven't seen too much of the results yet but we will be seeing them. And so that acquisition was very strategic in hoping our Canadian business expand into the first aid segment which is so important in the rest of the company. And now that's been accomplished. Fortunately, also the Canadian business is starting to rebound because the stores seem to be more open and we're seeing orders. So, I think it's hard to say the worst is over for Canada but it appears that way at this stage.

Unidentified Analyst, Analyst

So the 4 million-plus that you've gotten in sales for the first half of the year that essentially represents the Canadian business as it was bought rather than result of combining the two companies in a product line.

Walter Johnsen, Chairman and CEO

That's correct.

Unidentified Analyst, Analyst

Okay. That's what I wanted to, thank you Walter.

Walter Johnsen, Chairman and CEO

Sure.

Operator, Operator

We will go next to Ralph Marash at First Manhattan Company.

Ralph Marash, Analyst

Hi Walter.

Walter Johnsen, Chairman and CEO

Hi Ralph.

Ralph Marash, Analyst

Thanks. Given the uncertainty surrounding school reopenings, and assuming that many schools will not open, what are your thoughts on school supply purchases?

Walter Johnsen, Chairman and CEO

Well, I am getting more confident and the reason I'm saying that is we had good growth in the school area in the second quarter and that was very uncertain area. As we are looking and we are now in the third quarter we're finding that our school supply business is not only holding but with the online business increasing. Now the schools may not close, but we still have 3.8 million students in each of the grades that have to get educated and they get supplies. And so while we may find that they're not getting them from some of our current customers. They may be purchasing on Amazon or buying at Wal-Mart or other places which are also our customers. So the shift within the customers is occurring but I believe we'll have a pretty normal back to school and it may be just that they're studying in a different place but they're using the supplies and that's what I believe and what we're seeing right now in the quarter.

Ralph Marash, Analyst

And you mentioned anti-microbial, so if I remember correctly you had introduced it in the past and it probably was a slow grower. Will that benefit currently or is that something more in the future?

Walter Johnsen, Chairman and CEO

Well, it was an okay product line a number of years ago. Today, all of our retail customers are quite interested in it and fortunately we're tooled up. We've got the formulas in place and so we're producing antimicrobial items now for the customers that want them and we expect that to be a continued vector against some of our competitors' products.

Ralph Marash, Analyst

Good. Thank you very much Walter.

Walter Johnsen, Chairman and CEO

Thank you.

Operator, Operator

And at this time there are no further questions in the queue. I will turn the conference back over to management for any concluding remarks.

Walter Johnsen, Chairman and CEO

Thank you very much. If there are no further questions then this call is complete and we look forward to updating you again after the third quarter. Goodbye.

Operator, Operator

And that does conclude today's conference. Again thank you for your participation.