Hamilton Beach Brands Holding Co Q3 FY2023 Earnings Call

Thank you, Lisa, and good morning, everyone. Welcome to our Third Quarter 2023 Earnings Conference Call and Webcast. Yesterday, after the market closed, we issued our third quarter 2023 earnings release and filed our 10-Q with the SEC. Copies are available on our website. Our speakers today are Greg Trepp, President and Chief Executive Officer; and Sally Cunningham, Senior Vice President and Chief Financial Officer. Joining us for Q&A will be Scott Tidey, Senior Vice President, Global Sales. Our presentation today does include forward-looking statements. These statements are subject to risks and uncertainties that could cause actual results to differ materially from those expressed in either the prepared remarks or during the Q&A. Additional information regarding these risks and uncertainties is available in our earnings release and 10-Q and our annual report on Form 10-K for the year ended December 31, 2022. The company disclaims any obligation to update these forward-looking statements, which may not be updated until our next quarterly conference call, if at all. And now I'll turn the call over to Greg.

Thank you, Lou Anne. Good morning, everyone. Thank you for joining us. I will take the next few minutes to provide an overview of our performance for the third quarter of 2023 and discuss our expectations for the remainder of the year. Then Sally will discuss our financials in more detail. We were pleased with our third quarter results. As expected, revenue returned to growth and increased nearly 2% compared to last year's third quarter. Our gross profit margin expanded by 300 basis points to 26.1%. Lower average sales price was offset by lower product costs and lower distribution and warehousing costs. Operating profit increased 54% to $14.4 million compared to $9.4 million in the third quarter of 2022, reflecting the gross margin expansion and flat SG&A. We also continued to deliver significant improvement in net working capital and free cash flow. Regarding our revenue results, in our consumer markets, overall revenue increased approximately 3% and by market, revenue increased in our Latin America and Mexican markets as a result of increased distribution across key retailers. Revenue decreased in our U.S. and Canadian markets due to softer demand in the small kitchen appliance category compared to last year. In our global commercial market, revenue decreased 11%. This decline is attributable to demand normalizing compared to the third quarter of 2022 when revenue grew nearly 36% due to strong post-pandemic demand in the food service and hospitality industries. Additionally, the current year sales decline occurred in international markets, while sales in the U.S. food service and hospitality industries performed well. As we have discussed in our previous calls this year, for the full year 2023, we expect a solid performance for the soft first half and a stronger second half, which is how the year has unfolded. Our expectations for the stronger second half were based on increases in placements and promotions across many of our North American customers. This year, we are introducing more than 40 new product platforms across a wide variety of categories. These include products in high-demand categories like single-serve coffee, personal blenders, ovens, grills, slow cookers, garment steamers, and many others. Our team has done an outstanding job securing placements and promotions for our new products across a broad range of customers and channels. Our new products that are in the marketplace now are selling well overall. We have also gained market share this year that we expect will benefit us in the fourth quarter and in 2024. We believe our incremental placements, planned holiday promotions, new products, and increased market share position us well for a solid holiday selling season. I will comment on the small kitchen appliance industry in a moment, but first, note that we are further encouraged that retail sales overall in the U.S. have continued to grow year-over-year and consumer spending has been resilient. At the same time, economists and retailers have expressed uncertainty regarding continued momentum due to inflation and high interest rates. Consequently, consumer spending for the small kitchen appliance industry and the overall marketplace remains challenging to predict. There are mixed signals with some data pointing towards solid trends while others indicate a potential softening underway. Small Appliance industry sales decreased modestly through September compared to the same period last year but remained above pre-pandemic levels. While we have seen no indication of a significant drop in spending on the small kitchen appliance category in the near future, we do expect it to end the year down slightly. As always, our final results will depend on the sell-through at retail and retail replenishment orders. Given the uncertainty in the macroeconomic environment, we've adopted a slightly more conservative view regarding full year 2023 revenue and have slightly lowered our expectations from flat with 2022 to modestly below 2022. We could end up chasing demand depending on consumer spending, but we want to avoid generating increased levels of excess inventory by being too optimistic. Despite the slightly lower revenue outlook, we continue to expect operating profit to be above last year, excluding the nonrecurring $10 million insurance recovery in 2022. I also want to take a few minutes to discuss our longer-term view. Since our spinoff into an independent public company in 2017, we have said that we operate our business for the long term. As a reminder, we have six strategic initiatives to drive long-term growth. We continue to make progress with these initiatives that are designed to drive revenue growth, expand margins, and generate strong cash flow over time. The initiatives are focused on increasing sales of innovative, higher-priced, higher-margin products in our core North American market. Across our initiatives, we have continued to expand our portfolio of leading trusted brands. We also continue our commitment to consumer-driven innovation and launched 250 new product platforms in the last five years. We expect the momentum to continue in 2024. Let me briefly summarize each initiative. First, we want to gain share in the premium market. We have a growing number of licensed brands in the premium market, including Wolf Gourmet and CHI. Recently, we have established new partnerships with Bartesian and Numilk. We acquired Weston Brands and created the Hamilton Beach Professional brand. In 2022, sales of our premium brands accounted for 15% of total revenue. We expect premium brand sales to be on track with or ahead of that amount in 2023. Next, we plan to expand in home health and wellness. We launched an initiative to expand our participation in the large and fast-growing home health and wellness market in 2021. We entered into a trademark licensing agreement with Clorox and launched a new line of premium air purifiers under the Clorox brand in 2022. We entered into a licensing agreement with Brita in 2022. In early 2023, we launched a new category for electric countertop water filtration under the name Brita Hub. This electric countertop appliance creates fresh, great-tasting water, much faster than traditional pitchers. We have also begun to participate in the home medical market, where several trends are converging that we believe we can drive strategic opportunities for us. The aging population in our country is creating a large pool of individuals who are living with and managing chronic health conditions. Many younger people are doing so as well. There is also a growing shortage of primary care physicians, nurses, and other medical clinicians. For these and other reasons, including advances in technology, the health care industry is implementing new solutions that enable patients to manage many of their health care needs at home. Often, these solutions combine a connected medical device and digital communications, which can provide key information to patients or report information back to medical providers. We believe our company can help both the patients and the medical providers through solutions created under the Hamilton Beach Health banner. Over the past few years, we've had discussions with many companies in the home medical market about prospective collaborations. A few years ago, we met with a company called Health Beacon, which is based in Dublin. Health Beacon is a digital therapeutics company that has created a patent-protected, FDA-cleared system for managing injectable medications, which are used to treat a broad range of chronic conditions in the home. Their system is a connected countertop medical device that combines with a digital support system to help patients manage their adherence to their prescribed treatment. The device also provides for the safe disposal of Sharps. Health Beacon was seeking a relationship with a company that could help them market and distribute their system in the large U.S. and Canadian markets. In June of 2021, we entered into an exclusive multiyear commercial relationship to do that. In March 2022, we introduced the Smart Sharps Bin from Hamilton Beach Health powered by Health Beacon in the U.S. Health Beacon has an agreement with a major specialty pharmacy company, and there is a strong pipeline of prospects. As Health Beacon prepared to deploy the system to market, they experienced delays; unfortunately, this has caused Health Beacon to experience financial pressures and ultimately a cash squeeze. Last Friday, Health Beacon entered examinership in the Irish statutory framework for restructuring companies in financial difficulty. Hamilton Beach Brands has entered into a facility agreement with Health Beacon under which we will make secured loans to Health Beacon of up to a total of EUR 1.85 million or approximately $2 million to fund its operations during the examinership, which is a period of up to 100 days. Due to our existing commercial relationships with Health Beacon and our knowledge of current and prospective specialty pharmacy orders, we believe Health Beacon should be able to stabilize and continue to operate. Now let me turn to how we are working to increase our leadership in the global commercial market. We are a leading participant in the global commercial market, serving the food service and hospitality industries with small kitchen appliances. We continue to develop products that support our competitive advantage in the core blending and mixing categories and have expanded into new categories as well. We continue to increase our relationships with regional and global chains. In 2022, sales of our commercial products accounted for 10% of our total revenue. Our sales of commercial products increased 50% in 2022 as businesses in the food service and hospitality industries engaged in significant post-pandemic restocking. While we do not expect that growth rate to continue, we do expect the commercial products will continue to be 10% or more of total revenue in 2023 and beyond. As we expand into new markets, we continue to drive the growth of core brands and invest in driving the growth of our flagship brands, Hamilton Beach and Proctor Silex, in our core North American market. Hamilton Beach remains the #1 unit brand in the U.S. Our rebranding of Proctor Silex as simply better has gained traction in the marketplace. We are accelerating our digital transformation for the benefit of all the markets we serve. We continue to make significant investments in our well-developed e-commerce capability and digital marketing. Through the first nine months of this year, e-commerce sales accounted for 36.5% of our total sales, up from 35% in the same period last year. In addition to organic growth, we plan to leverage partnerships and acquisitions. We are actively engaged in the pursuit of additional trademark licensing agreements, strategic alliances, and acquisitions to drive growth in all of our markets. For all these reasons, we believe we are well positioned to deliver strong results and increase shareholder value in the years to come. Let me conclude by sharing some early thoughts about 2024. Over the past few years, our strong team has managed through an extraordinary operating environment due to various factors such as tariffs, pandemic-driven historic surges in demand, disruptions across the supply chain, and spiking then following product and container costs. Early this year, we were still working through the remnants of that environment. At this time, however, most suppliers have returned to normal lead times and transit times have returned to normal. Our biggest challenge in the short term is understanding the expected retailer and consumer demand. Retailers reduced their on-hand inventory levels earlier this year. The point-of-sale trends are down slightly but are still above pre-pandemic levels. While our revenue is now increasing over 2022, we continue to receive orders that are slightly lower than expected. Economists and retailers are focused on whether consumers will be able to remain as resilient as they have been. Consequently, we expect retailers to remain cautious in the near term. At the same time, we are excited about favorable feedback from retailers regarding our products and brands. Our investments in our brands, innovation, as well as our leading shares in many categories are all benefits. We are in the process of finalizing our 2024 plan. We expect to provide more details regarding our outlook for next year when we announce our fourth quarter results. And now I will turn our discussion over to Sally.

Thank you, Greg. Good morning, everybody. I will start with our third quarter 2023 results compared to the third quarter of 2022. Net sales increased to $153.6 million in the third quarter of 2023 compared to $150.8 million last year due to increased unit volume, which was partially offset by lower average sales price. Gross profit for the quarter was $40.1 million or 26.1% of total revenue compared to $34.8 million or 23.1% in the prior year. This increase was due to lower product costs and lower distribution and warehousing costs, offset by lower average sales price. Selling, general, and administrative expenses were relatively flat year-over-year at $25.6 million compared to $25.4 million last year, with increased personnel-related expenses offset by a nonrecurring insurance recovery this year. Operating profit increased significantly to $14.4 million for the third quarter of 2023 compared to $9.4 million last year, reflecting gross profit expansion and relatively flat SG&A. Net interest expense decreased by $700,000 to $600,000 for the third quarter of 2023 versus $1.3 million last year. This decrease reflects significantly lower average debt outstanding, partially offset by higher interest rates. Other expense net was flat compared to last year and included currency losses of $400,000 this year. The effective tax rate for the third quarter was 21.6%, compared to 22.8% in last year's same period. The lower rate in the third quarter of 2023 was due to a discrete benefit on foreign income in the current year. Net income for the quarter was $10.3 million or $0.74 per diluted share compared to net income of $5.9 million or $0.43 per diluted share in last year's third quarter. Now turning to our balance sheet and cash flows. Year-to-date, net cash provided by operating activities increased nearly $109 million to $68.7 million compared to an outflow of $40.2 million in the prior year period. Significant improvement was driven by our focus on net working capital improvement. We continue to reduce inventory, which declined more than $84 million versus the prior year period, reflecting our inventory reduction and control actions. Accounts payable was $116.1 million compared to $111.5 million last year, primarily due to the timing of purchases. Trade receivables were $102.2 million compared to $97.8 million, reflecting our higher sales. We allocated our strong cash flow primarily to reduce debt as well as return value to shareholders through the quarterly dividend and repurchase of stock. At the end of the third quarter, net debt was $49.7 million compared to $144.5 million in the same period last year. During the third quarter, we paid $1.5 million in regular cash dividends and repurchased 82,676 shares at prevailing market prices for an aggregate purchase price of $900,000. The capital expenditures were $2.4 million for the nine months ended September 30, 2023, compared to $1.6 million for the same period last year. This increase primarily related to internal use software development costs. Now turning to our outlook for the full year 2023. As Greg reported, we expect total revenue to be modestly below full year 2022. Operating profit is expected to increase compared to 2022, excluding the $10 million insurance recovery in 2022. Cash flow before financing is expected to increase significantly compared to 2022 as a result of our improvements in net working capital. Our outlook has changed as consumer demand and retailer replenishment orders are softer than currently expected. This concludes our prepared remarks. We will now turn the line back to the operator for Q&A.

We'll take our question from Adam Bradley with AJB Capital. Please go ahead.

Hey, Greg and Sally, how are you? It was a solid quarter with strong profitability through gross margins, which was great to see, along with the improvement in free cash flow and net working capital. I have a couple of questions to start with, and then I'll rejoin the queue. Looking at the longer term, it would be helpful for investors if you shared your strategic initiatives. Over the next three years or whatever your outlook may be, where do you see the biggest opportunities for dollar sales growth from these strategic initiatives? Just a broad overview would be appreciated.

Thank you, Adam, for the question. I feel good about our mix of initiatives. They all have high potential, and we feel strongly about each of them. Some will grow at different rates than others. Right now, if I consider the core business, Hamilton Beach and Proctor Silex, given the fragmentation in the market, there is significant upside. The commercial market has strong growth potential. The premium business makes up a third of the market dollars. While this has increased in our portfolio, we have considerable opportunity to gain more share in the premium segment. The home health and wellness area is new territory for us but presents exciting growth potentials. Each initiative needs investment, and while all will take time, I believe the core business has the highest growth opportunity, closely followed by other markets I mentioned.

Thanks for that. I have one more follow-up. You had a very strong gross margin quarter. In fact, I looked back through historic numbers, and I can't find another quarter with 26% gross margin. Can you tell us a little bit more about what's driving this? I believe you mentioned in the Q and in your release that it's driven by mix. If we overlay that onto the strategic initiatives, is it leading more to premium products or is it more of a cost-driven factor? Can you provide more color on gross margin? Understanding what drives this will give investors clearer insights into the company's performance.

Great question, and thank you. Expanding our gross margin percentage is a key focus for us. As costs rose sharply over the last two years, particularly last year, we worked hard to pass along those costs. We weren't trying to do anything other than offset our costs to retailers and consumers. However, it's been tricky to keep up with rising costs. As those costs have recently dropped, we've adjusted our prices to remain competitive and have not had to pass all the costs along. We're seeing positive movements in our premium products and commercial initiatives, which are crucial for our gross margin percentage. While there has been volatility, we are committed to maintaining our historical range of gross margins, and our goal is to exceed that range. Our focus is on driving top-line growth while controlling costs, which should positively impact our profit percentage and dollar expansion.

We have follow-up questions from Adam Bradley with AJB Capital.

Following up, your press release mentioned your gross margin being driven in part by savings from warehouse and distribution. I know you guys undertook a significant project to relocate to a better distribution warehouse system. Can you tell us a little about that? Can you quantify the savings from it? How should investors view that on a going-forward basis?

We won't break it out specifically, Adam, but directionally, I can say that we are improving efficiency compared to the previous years. We've moved to a more favorable facility which is key in supporting our operational improvements. While market costs are normalizing, there are still pressures in certain areas. Overall, the combination of our new facility's efficiencies and favorable market conditions are proving beneficial. The primary driver of margin change was the change in product costs and inbound freight costs. Distribution and outbound cost changes also played a lesser, but still important role.

This is Sally. I'll add that our net working capital shows significant reduction in inventory, which correlates directly to lower warehousing costs. Because we actively worked to consolidate warehouses and keep inventory levels lower, we should see this theme continue moving forward.

Great performance in unwinding the net working capital position you've built up over time. Historically, if there's stability in supply chain, your business tends to generate cash because of your asset-light nature. As we look at your strategic initiatives and shifting from cash consumption to cash production via net working capital, can you provide your capital allocation plan for Hamilton Beach? I know you've talked about dividends and acquisitions, but what’s your outlook over the next three years in terms of building value?

That's a great question. We're currently working through our 2024 plan alongside our three to five-year strategic plan. We've allocated cash flow to reduce debt and plan to continue doing that. We're aiming for a debt level around 1.5x to 2x EBITDA, which is comfortable. Looking ahead, we will want to allocate free cash flow towards our strategic initiatives and opportunistically to M&A where it makes sense. We're still finalizing which specific initiatives to focus on.

With capital-intensive strategic initiatives, the M&A landscape is currently a tough time for sellers, making it a better situation for buyers. Can you share your insights on this market? Are you seeking smaller bolt-on acquisitions, or would you consider larger opportunities if they arise? I know this is hypothetical, but understanding your thinking here would be beneficial for investors.

There’s certainly pressure on companies that are overextended or poorly positioned, and that can create opportunities for us. While the market has been relatively quiet, we're starting to see a bit of activity. We'll consider any opportunity that aligns with our strategic goals. While we’re more inclined to pursue bolt-on acquisitions, we have a knowledgeable board focused on long-term shareholder value. If something larger presents itself that makes strategic sense, we will certainly evaluate it as well.

And there are no further questions at this time. I'd like to turn the call back over to our CEO, Greg Trepp, for any additional or closing remarks.

Thank you. Today, we discussed our commitment to building long-term shareholder value, supported by our many competitive advantages in our strategic initiatives. We benefit from our leadership in the small kitchen appliance industry, which has a long history of strong durable demand. Our team possesses strong industry, customer, and consumer knowledge. We have a solid portfolio of well-known trusted brands, anchored by our flagship brands, Hamilton Beach and Proctor Silex. As a proven innovator, our retailer relationships span a broad array of customers in brick-and-mortar, omnichannel, and e-commerce channels. We have an asset-light global infrastructure and plan to leverage these strengths in 2024 and beyond. That concludes our report for today. Thank you again for joining our call.

Thank you. And that does conclude today's presentation. Thank you for your participation, and you may now disconnect.