Earnings Call Transcript - EXP Q2 2021

Operator, Operator

Good day, everyone, and welcome to Eagle Materials Second Quarter of Fiscal 2021 Earnings Conference 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 Haack. Mr. Haack, please go ahead, sir.

Michael Haack, CEO

All right. Thank you. Good morning. Welcome to Eagle Materials conference call for our second fiscal quarter of 2021. 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 the call. To access it, please go to www.eaglematerials.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 our press release. I'm pleased to be able to report another consecutive quarter of record revenue and net earnings growth, along with further strengthening of our balance sheet. Let me begin with four important facts: first, our EPS was up 20%, which I'm sure you appreciate is no small feat in this pandemic environment; second, we shipped an all-time record 2.2 million tons of cement during the quarter; third, we shipped the second quarter record 720 million square feet of Wallboard; and fourth, and most importantly, we achieved these results safely. Now let's turn to the outlook for each of our businesses. Let me start with Cement. Cement volumes were up 23% for the quarter and up 28% for the fiscal year, reflecting the overall strength across all of our organic markets. Some on the call may not realize that state and local budgets account for the lion's share of infrastructure funds, not the federal government. State and local budgets have been stretched during this pandemic, but state DOT budgets have remained resilient to date. A significant portion of local government funds is property taxes. It is worth noting that property values actually have been rising considerably through this pandemic. Sales taxes represent another significant portion of the pie. And as you know, retail sales have rebounded, and retail sales are now, in fact, above pre-pandemic levels. Gasoline taxes have rebounded as well with the increase in miles driven. The states will be under undeniable pressure since expenditures have been rising as well as revenues. Each state will face different challenges and different urgencies with their infrastructure's priorities. The states with the largest negative funding variances from their 5-year averages are states, largely outside our footprint, such as Washington, Oregon, and some Northeastern and Southeastern states. Many of our Heartland geographies are faring better. We anticipate that demand over the longer term should be positive, especially with the added potential contribution from the federal government for infrastructure funding at some point. I do not want to discount that there is also the potential for slower trend growth over the near term, especially with the current significant uncertainties about the overall economy. The reality is that we at Eagle are operating at very high levels of capacity utilization today. We are working hard to squeeze out every last bit of cement capacity to meet the customer's existing demand. If demand were to continue at the pace we have seen, frankly, our production would not be able to grow with it. Now let me turn to Wallboard. The South leads the nation in housing starts, and it is more important than the Northeast, West, and Midwest combined in terms of construction activity. We have long believed that the Sunbelt, meaning for us, the lower half of the U.S. and now California is the right place to be for Wallboard through cycles. We have strategically positioned ourselves here due to long-term construction activity, growth, and demographic migration trends. Recent developments around out-migration from the Northeast, Chicago, and California, and the prospects of even higher taxation in some states reinforce our optimism that this is a good long-term strategic position. Our Wallboard shipments were up 6% this quarter and were up 6% for the fiscal year, a consistent trend. Latest industry data showed industry shipments up 1% for the quarter. We fared better through the pandemic dip simply due to our geographic positioning. Continued strong housing starts and the latest single-family permits would suggest these trends should remain intact for the foreseeable future. The relationship between single-family starts and Wallboard demand is a close one. Single-family construction utilizes more Wallboard than multi-family on a per unit basis. Against this backdrop, we have announced a Wallboard price increase to be implemented next week. Finally, let me comment on the status of the planned separation of these 2 businesses, Cement and Wallboard. The industrial logic for the separation remains intact, as does our intention to complete the separation, but the timing remains uncertain. Timing is a factor we must watch closely and carefully evaluate. While the economy in 2020 seems to be in the rearview mirror, the path to normality remains exceptionally and remarkably uncertain. Because of this uncertainty, we have not determined the timing for the split. We will continue to evaluate and watch the market. It should be noted that although it is not a driver for the decision timing, a distinct benefit of the business remaining together beyond the obvious ability to weather uncertainty as a larger enterprise is the speed of company deleveraging that is occurring. This deleveraging is highly supportive of a successful separation launch and a benefit that should not be underestimated, as we formulate the capital structures and policies around the return of cash to shareholders for each business. Now let me turn it over to Craig to discuss the financials.

Craig Kesler, CFO

Thank you, Michael. Second quarter revenue was a record $448 million, an increase of 12% from the prior year. This increase primarily reflects contributions from the Kosmos Cement Business we acquired in March, and organic revenue improved 2%, reflecting increased cement and Wallboard sales volume. Second quarter earnings per share from continuing operations were $2.16, an improvement of 20%. As we highlighted in the press release, the second quarter results included a one-time $0.14 per share tax benefit. This benefit related to regulations issued during the quarter to clarify the calculation of certain interest deduction limitations. Before we turn to the segment performance, I'd note that having completed the sale of our Oil and Gas Proppants business during September, the current and prior period financial results of that business have been presented separately as discontinued operations on the income statement and balance sheet. Let's look at our Heavy Material results for the quarter, highlighted on the next slide. The Heavy Materials sector includes our Cement, Concrete, and Aggregates segments. Revenue in this sector increased 15%, driven primarily by the addition of the recently acquired Kosmos Cement business. Organic cement sales volume and prices improved 1% and 4%, respectively. Operating earnings also increased 15%, again, reflecting the addition of the Kosmos Cement Business. As we discussed last quarter, because of COVID-19, we delayed certain planned cement plant maintenance outages until our second quarter, which resulted in approximately $5 million of higher maintenance costs this quarter compared with the prior year period. Moving to the Light Materials sector on the next slide. Second quarter revenue in our Wallboard and Paper business was up 1%, as improved sales volume was partially offset by lower Wallboard prices. Quarterly operating earnings in this sector declined 1% to $48 million, again reflecting lower Wallboard sales prices, partially offset by increased volume. Looking now at our cash flow, which remains strong. During the first 6 months of the year, operating cash flow increased 94%, reflecting earnings growth, disciplined working capital management, and the receipt of the majority of our IRS refund. Capital spending declined to $41 million, and we continue to expect capital spending in the range of $60 million to $70 million for fiscal 2021. Finally, a look at our capital structure. We continue to prioritize debt reduction as a primary use of cash at this time, and the preservation of financial flexibility in line with pandemic-related uncertainties. At September 30, 2020, our net debt-to-cap ratio was 48% and our net debt-to-EBITDA leverage ratio was 2x. Total liquidity at the end of the quarter was over $700 million, and we have no near-term debt maturities. Thank you for attending today's call. We'll now move to the question-and-answer session. Lisa?

Operator, Operator

Your first question comes from the line of Zane Karimi with D.A. Davidson.

Zane Karimi, Analyst

Hello, can you guys hear me?

Michael Haack, CEO

Yes.

Zane Karimi, Analyst

Okay, sorry about that. I hope you drive some of the quarterly improvements there. My first question would be along the Heavy Materials sizing, can you just talk a little bit about how the pricing dynamics and demand changes?

Craig Kesler, CFO

Yes. I think, Zane, were you asking about cement pricing? We had a hard time hearing you.

Zane Karimi, Analyst

Yes.

Michael Haack, CEO

All of our markets contributed this last quarter. We feel very comfortable with how our network is performing in the Heavy side of the business. There's not one location that stands out more than another. Each location contributed equally, both in terms of pricing improvements and demand.

Zane Karimi, Analyst

Okay. Got you. And then, you mentioned earlier as well, about DOT funding environment, but I was hoping you could talk a little bit more on the key states for you and how they're doing, mostly with regards to second half as well as calendar '21?

Michael Haack, CEO

Yes. So I'm not going to talk about the projections forward. What we see basically is what we've always been saying is low single-digit growth. There's nothing that's changed our thought process on that. What we're seeing here currently, as you can tell by our cement volumes is demand is very robust in the locations we operate. As you know, we're primarily a Heartland company. So with the states that are impacted are primarily up that Heartland side, along with the Nevada operation out to the West.

Operator, Operator

Your next question comes from the line of Anthony Pettinari with Citi.

Anthony Pettinari, Analyst

Can you discuss the supply-demand balance, particularly in light of your current capacity utilization and the announcement of a large competitor's capacity project during the quarter? Do you see any opportunities to expand your footprint given the strong demand we are experiencing?

Craig Kesler, CFO

No. It's really not appropriate for us to comment on other companies' capacity announcements. They were quite clear. Regarding our capacity utilization across our Wallboard plant network, as Michael pointed out, we are fortunate in the regions where we operate. The Southern half of the U.S. has generally shown resilience. Our utilization rates have definitely improved, and with single-family construction being the primary driver of Wallboard demand for the foreseeable future, we anticipate strong volume in our markets.

Anthony Pettinari, Analyst

Okay. That's helpful. And then just on the Wallboard price increase, is it possible to give any kind of thumb point on magnitude or timing or just kind of the setup compared to maybe previous price hike attempts if you look like you're up for it?

Craig Kesler, CFO

Yes, the price increase will be implemented early next week, in early November. With strong demand, this should support the price increase. We are currently having direct conversations with our customers about this.

Operator, Operator

Our next question comes from the line of Jerry Revich with Goldman Sachs.

Jatin Khanna, Analyst

This is Jatin Khanna on behalf of Jerry Revich. Can you please talk about which of your cement markets have had more success in putting through price increases?

Michael Haack, CEO

Yes. Like I said before, when we look at the Cement, we really look at our Cement now as a network across. And each section of the network is contributing equally. We're very happy with our pricing and our price increases across the entire network. So there's not one that I would single out compared to the others. It was pretty consistent across the U.S.

Craig Kesler, CFO

I would add to that, if you look at the price realization, our organic realization was an increase of 4%. That is ahead of what we've seen in the last 2 years. So I would just point that out in terms of the strength that we've seen in our markets.

Jatin Khanna, Analyst

All right. And in residual, we are seeing strong price increases across basic commodities. Are you optimistic about getting more pricing power over the next 12 months compared to challenges in recent years?

Michael Haack, CEO

Yes. When you look across with the high utilization we're having across both of our businesses, I think that's a good assumption to make. We have a very high capacity utilization at our plants. And in my opening comments, I did discuss on the Cement side that production cannot keep up with the demand growth that keeps growing at this pace. So utilization is going to be a key factor, which will result in discussions on pricing with our customers.

Operator, Operator

Your next question comes from the line of Kevin Hocevar with Northcoast Research.

Kevin Hocevar, Analyst

Could you comment on the Wallboard business? How is the residential focus in Wallboard performing compared to the more commercially focused private sector?

Craig Kesler, CFO

Yes, Kevin, Wallboard demand is approximately 85% driven by residential construction, with a significant portion coming from new builds along with ongoing repair and remodeling. The demand from commercial or private non-residential sectors is considerably smaller. Specifically, when we discuss new residential construction, our primary focus is on single-family homes. While multifamily units are also important, single-family homes use twice as much Wallboard as multifamily units. This is what primarily fuels Wallboard demand in the U.S.

Kevin Hocevar, Analyst

Okay. Got you. And then just kind of talk about how demand was down in this quarter and here into October? Have trends been pretty steady or have you seen any acceleration in demand trends as time is going on?

Craig Kesler, CFO

To provide some perspective, Wallboard consumption in a home or building typically occurs 60 to 90 days after construction begins. We are just beginning to see this increase in construction starts impacting our business. As indicated in our quarterly results, we observed strong volumes, and October has remained robust as well. This aligns with the natural progression following housing starts.

Operator, Operator

Okay. Our next question comes from the line of Adam Thalhimer with Thompson, Davis.

Adam Thalhimer, Analyst

So Kosmos, I want to start with Kosmos. The volumes for Kosmos were like 25% above what we were modeling. And I'm just curious if that's a good run rate to use. Obviously, you're going to have normal seasonality, but were there any puts and takes in the quarter for Kosmos?

Michael Haack, CEO

Yes. Really, when you look at Kosmos, it was in line with our expectations on the volumetric side this month. And there will be seasonality, as you noted. So you should take into account, it's a little bit more northern of the markets. So there will be some seasonality, but it was in line with what our expectations are in the non-seasonal months.

Adam Thalhimer, Analyst

Okay, helpful. And then on Wallboard, what was the quarter in Wallboard size?

Craig Kesler, CFO

It was right around the average rate, $1 below the average for the quarter.

Adam Thalhimer, Analyst

All right. And then last one for me. I think a couple of people have tried on this. I just want to try one more time. How would you characterize the overall Cement volume environment, as we head into the fall and the winter?

Michael Haack, CEO

Yes, like I said before, we're consistent across all of our locations we had a good consistent run rate. And like Craig said on the Wallboard side, Cement is no different. We went into October with a very consistent run rate. Where Cement gets more impacted in the fall as we are weather dependent. So we're going to have more weather dependency than anything else. As I said, October has held up very consistently with the last months forward, and we don't see it changing unless weather hits us.

Operator, Operator

Your next question comes from the line of Philip Ng with Jefferies.

Philip Ng, Analyst

Is that mostly a mix, or did you observe some price compression? Additionally, considering that nonresidential might be somewhat weaker, will that affect your average selling price and margins moving forward?

Craig Kesler, CFO

Phil, the first part of your question was unintelligible due to a muting issue. Could you please repeat your question?

Philip Ng, Analyst

Sure, no problem, Craig. On your Wallboard pricing in the quarter, it looks like it slipped a little bit sequentially. How much of that was mix-related versus like-for-like pricing? And when we think about going forward, appreciating that nonres might be weaker than new resi. Does that have an impact on your ASPs or margins?

Craig Kesler, CFO

Yes. So it was not a lot of product mix impacting the price for the quarter. It's pretty like-for-like. And in terms of margins, 5 inch versus 0.5 inch, they're pretty consistent; a little higher priced on the commercial product because of the incremental cost for it. So any change in nonres wouldn't really impact the overall margin profile of the business.

Philip Ng, Analyst

Got it. Yes. I mean your organic volumes in Cement were really impressive, holding up far better than your Heavy Materials peers. Any thoughts on what's driving some of the resiliency? And have you seen a slowdown in some of your big states from a lighting standpoint or bidding at this juncture? It sounds like October is holding up really well.

Michael Haack, CEO

Yes. October has been holding up well. We haven't seen anything that is a major distraction for many of our markets right now on the heavy side. The biggest thing that we'll experience, as I said before, is we're more weather-dependent on that side of the business. So depending on we have a winter or not. If you recall, last year, we did not have much of a winter. So we were very busy throughout the whole timeframe. And this year, it will be more dependent on if we have that winter or not.

Philip Ng, Analyst

Okay, great. And then we're seeing some signs at freight and logistics. Spot prices are starting to tick up a bit and maybe supply is getting a little more constricted. Curious what you're seeing and what kind of impact it's having in your business?

Craig Kesler, CFO

Yes, Bill, we notice similar trends in margins as the economy begins to improve and we exit the shutdown areas. However, we have not experienced any significant impact so far. We are definitely keeping a close eye on economic activity, especially in the residential sector.

Operator, Operator

Next question comes from the line of Trey Grooms with Stephens.

Trey Grooms, Analyst

I've been away for a bit, so I apologize if these questions have already been addressed. Regarding the Wallboard sector, did the spike in OCC earlier this year have any effect in the third quarter? Also, how are we projecting Wallboard margins for the next quarter or two?

Craig Kesler, CFO

Yes, it's a good question, Trey. You saw sequentially, the paper mill profitability improved significantly. And part of that was associated with the ramp-up of the new equipment that we installed in the spring. But certainly, the other piece of that is the pricing mechanism that we passed through the higher OCC prices from the spring, they get passed through a quarter later. And so that really contributed there. Conversely, on the Wallboard side, certainly, they did have a higher paper cost. Now that ends up reversing itself because OCC prices then fell again during the summer time, and they've been fairly flat now for 3 or 4 months. So on the balance of the year, they'll equalize out in terms of the OCC price impact for the Wallboard business. Longer term, we think about our business, we've got a long-term supply, natural gypsum. We've got a unique synthetic gypsum supply agreement. So we have a good, low-cost structure. We don't see any significant headwinds to that. And so we think we sit in a pretty unique position that we can drive margins higher from here, given the strength of single-family residential construction.

Trey Grooms, Analyst

Okay, that's helpful, Craig. You mentioned my next question regarding the synthetic gypsum side. I heard there was some disruption related to Santee Cooper and possibly some shutdowns at one of their plants. However, my understanding is that this won't have a significant impact on your operations since you're supplied by the plant that will remain operational. Is that correct?

Craig Kesler, CFO

Yes, that's right, Trey. Santee Cooper has been a wonderful partner with Eagle over many, many years now. They continue to meet the requirements as stated in the contract. And so we don't have any concerns there. They've been a great partner with us.

Trey Grooms, Analyst

And then for my last question, it might be a broader perspective, but still related to syn gyp. Is there a way to consider, even though the expectation is that syn gyp will remain in shorter supply long-term, how you are approaching that situation in the medium-term over the next year or two? Do you anticipate that this might lead to some cost increases for the industry in the medium term?

Craig Kesler, CFO

Yes, Trey, it's a phenomenon and a trend that has only continued to pick up pace. For those who might not be familiar, synthetic gypsum is a byproduct of a coal-fired power plant. As coal-fired power plant production has come down significantly over the last couple of years, the supply of synthetic gypsum has diminished. We sit in a very unique position with our supply agreement. I can't speak to how others that have positioned themselves. But over the long run, synthetic gypsum is becoming harder to find, more expensive to get. And so you would expect to see for many, the cost curve increase. But again, I don't know everybody's situation. I just know ours, and we're uniquely positioned with a long-term supply agreement there, with our one plant in the Southeast.

Operator, Operator

Your next question comes from the line of Josh Wilson with Raymond James.

Josh Wilson, Analyst

Congrats on the quarter. Just a few one-off for me here, and I apologize for technical difficulties as well. So I apologize. Did you quantify the headwind weather that you mentioned in the press release?

Craig Kesler, CFO

Say that last part, did we quantify what, Josh?

Josh Wilson, Analyst

You mentioned some adverse weather impacting can you quantify that?

Craig Kesler, CFO

No. Look, it was the first couple of weeks of September. We just commented on it, but it didn't dramatically change the quarter, but it certainly had a couple of weeks fell there for us.

Josh Wilson, Analyst

Okay. And then as it relates to the net margins going forward, is there any other change in the timing of maintenance costs? Or was there any benefit from fuel that you want to call out as nonrecurring that we shouldn't continue forward?

Michael Haack, CEO

We have adjusted some of our outages due to the pandemic. There is one more plant where we will conduct an outage, but it won’t significantly impact the quarter. We postponed this outage from earlier in the year and typically manage to have no more than one or two plants down at any given time during a quarter. We will complete the outage for the last plant in this quarter, but it will not have a substantial value.

Josh Wilson, Analyst

Got it. And then last one for me, the ramp-up of the Paperboard equipment. Are we now at the full run rate for that? Or is there more benefit to come?

Michael Haack, CEO

Well, we do have the equipment installed now. We were able to get the people over that we needed to, to get the equipment installed. We're still working through that equipment. We probably have a couple of quarters of getting that equipment up and running. As you can see by our volume side, though, with it, we're very happy with where we ended up this last quarter; we were seeing some improvement on a volumetric standpoint. We expect over the next two quarters that you'll see some creeping up on that volumetric side as we get the equipment fully integrated and running.

Operator, Operator

Your next question comes from the line of Keith Hughes with Truist.

Keith Hughes, Analyst

This is Keith Hughes from Truist. Just a question back on the split. Obviously, external things have delayed this. What type of things will we need to see in the market for you to go ahead and complete the split? Is it around virus cases? Is it around demand patterns? Just trying to pick up what would give us a clue about what will be coming.

Michael Haack, CEO

Yes. What we're really looking for is something sustainable. As I mentioned earlier, we see various factors impacting the economy in different ways. I would like to see some stability and sustainability over a few quarters, where we feel confident about operating these two businesses independently. They will be smaller entities, and I hope to see them have a consistent path forward.

Keith Hughes, Analyst

Okay. And you talked about pricing in Wallboard a little bit earlier. There is at least one competitor announced an increase for January of next year. There may have been more, since I saw the first letter. Is that something you think the industry will participate? Are you going to participate with?

Craig Kesler, CFO

Yes. Keith, in terms of any future pricing decisions, we'll communicate that to customers first before we try to speculate on this.

Operator, Operator

And at this time, there are no further questions.

Michael Haack, CEO

Okay. I just want to say thank you all for attending the call. It was great talking to you, and we look forward to talking to you in the first part of next year.

Operator, Operator

This concludes today's conference. You may now disconnect.