Eagle Materials Inc Q1 FY2023 Earnings Call

Good day, everyone, and welcome to Eagle Materials Q1 2023 Earnings Conference Call. Please note, this event is being recorded. I would like to turn the conference call over to Eagle's President and Chief Executive Officer, Mr. Michael Haack. Mr. Haack, please go ahead, sir.

Thank you. Good morning. Welcome to Eagle Materials conference call for our first quarter for fiscal 2023. This is Michael Haack. Joining me today are Craig Kesler, our Chief Financial Officer; and Bob Stewart, Executive Vice President of Strategy, Corporate Development and Communications. We are glad you could be with us today. There will be a slide presentation made in connection with this call. To access it, please go to eaglematerials.com and click on the link to the webcast. While you're accessing the slides, please note the first slide covers our cautionary disclosure regarding forward-looking statements made during this 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 our press release. First, I want to start off by saying we had a very good quarter. Business conditions remain favorable for Eagle. I am pleased to report we enjoyed record adjusted net earnings per share up 25% on record revenues. We're able to capitalize on very favorable market conditions for our product in our U.S.-operating geographies. We expanded gross margins by 30 basis points, bringing our gross margins to nearly 27% as we overcame inflationary cost headwinds to achieve this result. This illustrates once again that being a low-cost producer in a commodity industry has benefits in good times, not just in tough times. We realized 24% price increases in wallboard for the quarter, reflecting the strong prevailing market demand, and we realized 10% higher prices for cement. We are implementing a second round of price increases in cement starting this month as we remain in a virtually sold-out position. We have some headroom left on wallboard capacity, and our wallboard volumes were up 5% for the quarter. The question on many investors' minds now is what is ahead of this construction cycle? Some aspects of the outlook I'm actually quite confident about and others I'm less confident about. The first thing I'm confident about is that Fed moves will eventually slow the economy. The question is by how much and for how long? Much of our business strength is driven by infrastructure spend, which is less consumer-dependent and more policy-dependent. On the infrastructure side, the outlook is very good. We're seeing a willingness to invest in infrastructure at both the federal and state levels. This investment is not only for renewing existing infrastructure but adding additional infrastructure. In fact, as it relates to both need recognition and funding clarity, there's arguably more visibility than there has ever been before in this aspect of the outlook. For the housing side, which represents the single most critical end-use for our products, there's more uncertainty in the outlook. To answer how the housing side will play out the cycle will depend heavily on the consumer. So far, consumer spending has been remarkably resilient, bolstered in part by stronger household balance sheets and a sense of security about jobs and job prospects. My confidence about this year in the longer term is significantly high because of our visibility on the drivers of demand for our products. The mid-term is where I have more questions. In the short term, the rate of the outlay for federally-aided highway funding and budget allocations for state funding have largely been set and they will accelerate over the next two years. The momentum associated with a record pace of housing construction will see us through this year from a standpoint of building materials demand. Single-family units under construction is at the highest level since November of 2006 and multifamily units under construction is at the highest level since 1974. Record home construction backlogs will support product demand this year. Regarding the long-term, what gives me the most confidence about housing is demographics. The age 30 to 39 group is traditionally the most important home-buying cohort as it corresponds to when families are most frequently becoming established and inclined to buy homes. This age group has been increasing and is expected to increase further through 2028. The mid-term is where it has the greatest uncertainty. Will the Fed overshoot, undershoot, or land the plane just right? What the Fed does is not under our control. Therefore, we will do as we always have, and that is focus on operating our assets safely, efficiently, and effectively. In short, we will focus on what is entirely in our control to add value to our shareholders. We are well-positioned and well-prepared for the mid-term eventualities. Our track record through the cycles is arguably unrivaled in our industry; margins, returns, EBA, safety, customer satisfaction, environmental stewardship, you name it. I'm confident we will meet any challenges that may arise in the mid-term with the same steadfastness in both strategy and execution that has led to the results we are sharing with you today. We are well-positioned, well-prepared, and cycle-experienced. We also continue to hold steadfast to our investment priorities and disciplines. Our first priority remains growth and improvement investments. We remain highly disciplined about our strategic focus and return criteria. We will not compromise either aspect in the pursuit of growth for growth's sake. Having said that, we continue to find acquisitions that do meet our criteria. At this time, these are smaller and are directed at extending our network of cement terminals, expanding our aggregate operations, or improving our low-cost producer positions. One such acquisition that we were able to close in the quarter was a concrete and aggregate producer north of Denver. This acquisition gives us multiple decades of aggregates in a market where we currently participate. Our free cash flows are strong and when we do not find growth investments that meet our criteria, we have a strong track record of returning cash to shareholders, especially through share repurchases. This quarter was no exception. I'm pleased to say we invested $110 million to repurchase 884,000 shares this quarter. Another critical priority for us is advancing our environmental and social agenda. It is a company priority and a personal one. We continue making progress on the rollout of our limestone cement initiative, which will make our finite clinker production go further and reduce the carbon footprint of concrete in use on a per yard basis. Specifically, I'm pleased to report that over half the sales at one of our largest cement plants this quarter were our new Portland limestone cement. This is a major milestone for us. Across our system, nearly 15% of our cement sales for the quarter were limestone cement, a major accomplishment, but only a start. I might add that these sales were at price equivalence with our traditional product. In summary, in conclusion, I cannot help but feel optimistic about the prospects for the company and the economy when business is as good as it is today. We remain confident about the short-term and the long-term and recognize the mid-term introduces a more than usual amount of uncertainty as the Fed rebalances employment and inflation goals. I assure you that we are well-prepared and well-positioned to capture the opportunities that are presenting themselves today and to meet the challenges of any eventualities ahead. Now, let me turn it over to Craig to discuss the financials for the quarter.

Thank you, Michael. As mentioned, first quarter revenue was a record $561 million, an increase of 18% from the prior year. Excluding the recently acquired business, revenue increased 16%. The increase reflects higher wallboard and cement sales prices as well as increased wallboard sales volume. First quarter earnings per share were $2.75, a 22% increase from the prior year. The increase is driven by improved earnings and our reduced share count due to our buyback program. Fully diluted shares are down 10% from the prior year. Excluding non-routine items highlighted in the earnings release, first quarter adjusted EPS was up 25%. Turning now to segment performance. This next slide shows the results in our heavy material sector, which includes our cement and concrete and aggregate segments. Revenue in the sector increased 10%, driven primarily by the increase in cement sales prices implemented earlier this year. These increases were partially offset by lower cement sales volume. Operating earnings were essentially flat as increased cement sales prices were partially offset by higher energy and maintenance costs during the quarter. Given the strong demand backdrop, we did implement a second round of cement price increases in early July. Within the concrete and aggregates segment, on a like-for-like basis, our concrete sales volume improved 2% and our aggregate sales volume improved 31%. Moving to the light material sector on the next slide, revenue in our light material sector increased 30%, reflecting higher wallboard sales volume and prices. Operating earnings in the sector increased 32% to $88 million, reflecting higher net sales prices, partially offset by higher input costs for recycled fiber and energy. And while energy costs remain elevated, we recently increased our foreign purchases for natural gas to 40% of company-wide needs at $4.78 per MMBtu. Looking now at our cash flow, which remains strong. In the first quarter, operating cash flow increased 13% to $125 million reflecting improved earnings and working capital management. Capital spending increased to $15 million. As Michael mentioned, during the quarter, we completed the acquisition of an aggregates-led business in Northern Colorado with a purchase price of $121 million. We also repurchased 884,000 shares of our common stock for $110 million and paid our quarterly dividend. Between the share repurchases and dividends, we returned $119 million to shareholders this quarter. Lastly, taking a look at our capital structure. At June 30th, our net debt to cap ratio was 49% and our net debt to EBITDA leverage ratio was 1.6 times. We ended the quarter with $68 million of cash on hand, bringing total committed liquidity at the end of the quarter to approximately $631 million, and we have no meaningful near-term debt maturity, giving us substantial financial flexibility. Thank you for attending today's call. We'll now move to the question-and-answer session. Mike, I'll turn it back over to you.

Yes, thank you. We will now begin the question-and-answer session. The first question comes from Trey Grooms of Stevens. Please go ahead.

Good morning, everyone. Great job this quarter, and thank you for sharing your outlook. I understand there's less visibility regarding the medium-term housing market, as you mentioned. Michael, you briefly touched on this, but could you expand on any adjustments you would consider for running the business in a lower demand environment? You've mentioned controlling what you can, but a bit more detail on that would be appreciated.

Yes, Trey, what we do is we've historically done with any cycle, as you know, we monitor our demand profile, which right now our demands are strong across both businesses, but we monitor those demand profiles, and we can shift with those demand profiles to make sure we continue to operate the operations effectively. A lot of our businesses, especially on the wallboard side, are more people-dependent than anything else, and we do not tend to overstaff during the heavy times versus the light times with it. So, we run very lean. The other thing that we're doing that Craig mentioned briefly in his comments was looking out at our fuels and some hedging opportunities and everything else to control some of our heavier cost input areas. What also should be remembered is we control our raw material input on the side. So, we are not subject to those swings if those prices do change. Therefore, we monitor the whole supply chain, and we have mechanisms in place if there is a demand change, but right now, we're seeing strong demand as we said.

Thank you for that. This leads into a follow-up on the wallboard business. You mentioned the backlog at the homebuilders and the construction catch-up. You expect this to sustain the volume or demand for wallboard throughout the year. So, does this mean that what we've observed recently in terms of lower mid-volume is the expectation as we progress through the remainder of the calendar year, considering that backlog?

How I look at it, Trey, is the backlog is there on the homebuilding side of it and as long as the demand profiles on the housing side remain strong, that should support us through this year at kind of our run rate we're seeing today.

Perfect. Fair enough. My last question is about the energy sector. Craig, you mentioned some actions you're taking in that area. The natural gas prices have been very volatile, presenting challenges. Can you discuss how the current trends in natural gas prices, along with the portion of your natural gas needs addressed, and your pricing strategies affect our understanding of margins in the short and medium term given this situation?

Yes, and Trey just to clarify, right, natural gas is the predominant fuel in wallboard and paper, whereas on the cement side, it's generally solid fuel consumption, coal pet coke, and things like that. So, on the wallboard and paper side with nat gas, as I mentioned, we've got about 40% of our needs hedged at under $4 or $5 for the remainder of the year. Importantly, that is sustained through the winter at that level, where you could see some different changes in natural gas prices. But as we've mentioned on the cement side, our solid fuel is generally locked in for the remainder of the year. That's generally how we do these annual contracts in cement. I will tell you as we look out into calendar 2023, or for us, for what would be fiscal 2024, we do see continued elevation in fuel prices for the cement business. A little too early to quantify that, but it is something that we are monitoring. But take all of that against the environment that we're operating in where we've been able to achieve good price increases across all these businesses, and certainly, the demand environment is very supportive of that. With very high utilization rates across the network, there's no doubt a portion of those are also associated with these inflation costs around energy. As we pointed out this quarter, we've been able to raise prices ahead of this inflation this year-to-date and we've got additional price increases slated for this summer and in both cement and wallboard. So, at this point, we've been able to manage and keep up with inflation.

Okay. Thanks for the detail on that, Craig, and I'll pass it along. Good luck. Thank you.

Next with Brent Thielman of D.A. Davidson.

Hey great. Thank you. Michael or Craig, the strength and resiliency of wallboard pricing, especially that downbeat environment is pretty notable. I guess, any future plans or announcements you can share? And then I just be curious your thoughts on how you think about the industry, sort of, maintaining these higher levels in terms of pricing and in sort of a softer landing housing scenario?

Yes, that's a valid question. As I mentioned in my opening remarks, considering the current backlog, we perceive a stable environment in the short term. We have announced a price increase for wallboard and are in discussions with our customers about it. The demand remains robust, and we continue to experience a high demand cycle in our wallboard operations. As I noted, we expect to maintain this backlog.

I would also like to add a couple of thoughts. First, our markets are among the strongest in the U.S., particularly in the southern region where demographic trends and construction activity are robust. We've discussed before how certain raw material inputs are decreasing in the eastern U.S., especially synthetic gypsum, which poses a cost challenge for many companies but not for us since we primarily use natural gypsum. These factors are important to consider throughout the business cycle and their impact on the wallboard market. With limited future supply expected, we anticipate higher utilizations during the cycle, which differs significantly from previous cycles. This gives us confidence that our business is much more sustainable and resilient than in the past.

And maybe to add to that, Michael or Craig, could you share your thoughts on the evolution of the competitive landscape since we last experienced a rising rate environment and a housing downturn? How might this impact your pricing strategy?

Yes, look, we generally don't talk about competitors. I just would say if you think about the last two cycles in wallboard, you're talking about the late 1990s, early 2000s, and then the mid-2000s. In both of those cases, we saw a significant amount of new supply being added to the wallboard business. With the increasing supply of synthetic gypsum. We sit in a very different spot today with synthetic gypsum diminishing and availability as coal-fired power plant production has gone down. So, we don't see any significant new supply coming onto the market over the next several years. That is a very different environment than what we've operated in prior cycles. That should have a different outcome. And look, I think it's a little too early to make any decisions or confirmations around the demand profile for this cycle. There's still a lot of moving parts here.

Yes, fair enough and appreciate that. Just on cement, maybe a refresh of the magnitude of the price increases this month and whether that's across the entire footprint?

It's across nearly the entire footprint. Not every market for us, but the most markets, and it's again, it's another double-digit price increase that was slated for early July.

The next question we have will come from Anthony Pettinari of Citigroup.

Hi, this is indiscernible on behalf of Anthony. Thanks for letting me ask my questions. You mentioned PLC in your earlier comments, but could you provide an update on the progress towards fully utilizing that PLC? What is your current status on that? Also, is the bottleneck still related to states recognizing they can enable that?

Yes, I could give you a little color around that. When you look at PLC, there's multiple aspects to deploying PLC. One of them is with states and DoTs, and we're really far along on that with almost all of our businesses having approved PLC with state DoTs in their areas. The second part really is there is a change to the manufacturing process of where you've got to introduce limestone into a grinding circuit with it. So, there's some capital outlay that we've been doing, and each plant will have kind of a different timeline to become 100% PLC compliant. We're actually ahead of schedule for what we've been talking about before with 15% of our sales this quarter being PLC. I do see that accelerating, getting to the 100% PLC. We'll be more dependent on supply chain delivery of products, but we will make substantial progress to get there in the near-term, and in the mid-term, we should have everybody converted over as those projects come online.

Great, thanks. And then separately, can you guys talk about infrastructure spending is sort of largely set for the next couple of years, which is encouraging. But that is largely locked in in terms of dollars of spending or maybe projects in the pipeline? Because if it's the former, then if you see it all sort of price inflation persisting at these strong levels, some of that rising price may erode the volumes that would have been implied in those spending budgets.

Yes, no, that's not exactly how we think about it. There are lots of inputs into these construction jobs. And this is a multi-year bill that is in addition to state and local spending on infrastructure projects. So, based on the lettings that we're seeing from the markets that we're in, we expect to see good momentum and good demand from that bill, playing out for several years.

And the next question we have will come from Jerry Revich of Goldman Sachs. Please go ahead.

Yes. Hi. Good morning, everyone.

Good morning.

I'm wondering if you could talk about your expectations of price realization in cement relative to the double-digit numbers that you spoke about, Craig. I think in the past, you folks have essentially gotten 70% of what you've asked for, and I'm wondering, to what extent could that be moving higher in this environment, given the inflationary pressures that everybody's facing in a 15% price increase that was just reported by one of your competitors this morning?

It's still too early to provide a clear answer. We're currently working with our customers on this. However, I can say that the demand for our products is very strong, with many of our plants nearly sold out. This demand supports the price increase we are considering. While I can't give you a specific figure, we have expectations based on the demand that will guide us.

Okay. And can we talk about it in wallboard, when we looked at the last available financials for your biggest competitor, you folks had enjoyed about a 20-point margin gap five years ago, because of the co-located strategy. And given the transportation cost moves over the past five years, that gap looks to be about 25% today. I'm wondering what is your benchmarking analysis show relative to their cost structure because, obviously, when people look at the margins that you folks are putting up in wallboard, there's a question of what the next trough might look like. So, any comments you can make on the cost structure advantages you see it now would be helpful?

Yes, Jerry, it's all aspects of the operations where we see an advantage. And it starts with pulling the rock out of the ground. We largely own or control our primary raw material gypsum in this case, close to our facilities, with 40 to 50 years of supply of those raw materials. So, it starts there, but energy consumption, we talk about the hedging that we've done. In reality, the best hedge is just not using natural gas and we've taken energy consumption out of the business over the last five to ten years so that we're more efficient in energy consumption. The paper mill, we've talked about that a lot, continues to be a strategic advantage for us, providing lower-cost paper but a better paper for a wallboard plant. As you think through the entire operating system, we've continued to improve our low-cost operations. Again, trying not to compare ourselves directly to competitors, we know what we've done to our business to make it more resilient and more sustainable through a cycle. The Georgetown plant, we did operate in prior cycles out in the southeast. That plant is our lowest-cost plant, and that's putting into a network that was already low-cost. Again, we think we've actually improved our position.

And, Craig, is it possible to quantify that based on a qualitative discussion that sounds like it's higher than a five-point gap that the pure transportation element would suggest? Is that fair?

Yes. I'm not willing to quantify it for this purpose, but we know where we sit on the curve, and we've continued to expand our competitive position.

Okay, super. And lastly, in the press release, you folks spoke about a project delay. Can you just give us a bit more context on where that is and a bit more color on the drivers?

Yes, just in the central part of the U.S., I think you're hearing it from a number of people this cycle where there were some rain and weather events in the central part of the U.S. For us, that's Missouri, Kansas, Illinois, that area, just pushes projects out, and we see that from time to time.

The next question we have will come from Phil Ng of Jefferies.

Hey, good morning. This is actually a Colin on for Phil. Thanks for taking my questions. Just starting with cement with IJA funding coming through next year and a potential slowdown in housing, I guess, how are you looking out to maybe calendar year 2023 and cement volumes holding up in that type of backdrop?

Yes, I think we would tell you, we expect to continue to see very good demand, strong demand for cement and continued very high utilization rates across our network given all of those things that you just commented on. And look, I'll add to that the private non-res sector, which has continued to see improving numbers across the board.

Okay, and just following up on the non-res comment you just made there. I guess, is there any particular sectors that are seeing strength versus others that are seeing weakness that you would call out?

Yes, look, I think if you look across the ABI and the Dodge Index, those numbers have continued to improve and are operating above expansion periods. Look, data warehouses and those types of activities are very, very strong. But there’s strength across some of the other sectors that had been weak during the COVID period.

Great. And then my last question is just on the August wallboard price increase. Just given the move into the natural gas prices, do you need the August wallboard increase to keep margins intact? Or would that provide some opportunity for margin expansion through the rest of the fiscal year?

Yes, look, the recent move in natural gas has certainly continued to put some upward pressure on our cost structure. Therefore, it's a balance; any OCC is still at a relatively high level. We’re going into it with the expectation that we should achieve a decent amount of it, and we'll see where it all lands.

Great. Thank you for taking my questions.

Next, we have Paul Roger of BNP.

Hi, guys. Thanks for taking my question. This is actually George speaking on behalf of Paul. So, I'll just ask a quick question on demand. So, you've touched on the kind of macro headwinds and potential slowdown on the residential side. I appreciate long backlogs mean that you're not necessarily sort of experiencing all of that just yet. But are you seeing any early signs of a slowdown, maybe some sort of cancellations and projects or postponements or any just sort of incrementally more negative conversations with customers?

No, I'll answer that by saying I'm not going to speculate on some of the future stuff with it. As I said in my comments during this short-term area, the demand profile looks strong. As you stated, we have some inflationary pressures and we're putting out our price increase with it. We expect to realize that because of the demand profile. The midterm is still the midterm. In my comments, I said that's one that the consumer is going to define the midterm more than anything. Therefore, we feel comfortable in the short-term and the long-term outlook, and there's a little murkiness in the midterm, and we'll handle that as it comes.

Okay. And then sort of a similar theme, but as it relates to M&A, there's a sort of uncertainty in the midterm affecting your M&A pipeline, or are there deals that you're exploring at the moment? Maybe just a bit of color on what that pipeline looks like?

Yes. So, we're always active in the M&A market. We look at a lot of opportunities with it. We have strict objectives with that and criteria on when we do an M&A. We're not going to grow for growth's sake; we're going to look at deals that make sense for us that extend our reach our markets and grow our business on the heavy side. If one of those were to become available today, we'd be interested in those. We're active in that market and will remain active in that market as long as it meets our strategic criteria.

Well, sir, no further questions at this time. We will go ahead and conclude our question-and-answer session. I would now like to turn the conference call back over to Mr. Michael Haack for any closing remarks. Sir?

Thank you for joining us today for the call, and we look forward to talking to you at the end of next quarter in November.

And we thank you, sir, to the rest of the management team, for your time also today. The conference call is now concluded. At this time, you may disconnect your lines. Thank you. Take care and have a wonderful and blessed day everyone.