Nordson Corp Q1 FY2020 Earnings Call

Thank you, Marcela. Good morning. This is Lara Mahoney, Vice President of Corporate Communications and Investor Relations. I'm here with Sundaram Nagarajan, Nordson's President and CEO; and Greg Thaxton, Executive Vice President and CFO. We welcome you to our conference call today, Thursday, February 20th, 2020 to report Nordson's fiscal year 2020 first quarter. Our conference call is being broadcast live on our Investor Relations webpage at investors.nordson.com, and it will be available there for 14 days. There will be a telephone replay of the conference call available until March 5th, 2020, which can be accessed by dialing 416-621-4642. You will need to reference ID number 2468115. During this conference call, forward-looking statements may be made regarding our future performance based upon Nordson's current expectations. These statements may involve a number of risks, uncertainties, and other factors as discussed in the company's filings with the Securities and Exchange Commission that could cause actual results to differ. After our remarks on the quarter, we will be happy to take your questions. With that, I'll turn the call over to Naga.

Good morning, everyone. Thank you for joining Nordson's 2020 fiscal first quarter conference call. 2020's first quarter performance was in line with our expectations for the quarter where sales were consistent with the typical seasonal pattern. As a reminder, our spending is generally consistent throughout the year due to our direct sales model and strong customer focus. So total company operating margin in the first quarter was also in line with our expectation. We expect sales to improve as we move through the year, allowing us to achieve our previously announced fiscal 2020 sales growth, margin, and EPS guidance. I'll speak more about our fiscal 2020 annual guidance in a few moments. But first, I'll turn the call over to Greg to provide more detailed perspective on the quarter.

Thank you, Naga, and good morning to everyone. First quarter sales decreased 1% compared to the prior year's first quarter. Changes in sales included a decrease in organic sales of less than 1%, growth from the first-year effect of acquisitions of less than 1%, and a decrease of approximately 1% related to the unfavorable effects of currency translation as compared to the prior year's first quarter. First quarter's acquisitive growth includes the fiscal 2019 acquisition of Optical Control GmbH. Within the Adhesive Dispensing Systems segment, sales decreased 2% compared to the prior year's first quarter, inclusive of a decrease in organic volume of 1% and a decrease of 1% related to the unfavorable effects of currency translation as compared to the prior year. Growth in our non-woven product line was offset by modest declines in other product lines segment in the Advanced Technology Systems segment. First quarter sales decreased approximately 1% compared to the prior year's first quarter, inclusive of a decrease in organic volume of 2%, an increase of 1% related to the first-year effect of the Optical Control acquisition, and a decrease of less than 1% related to the unfavorable effects of currency translation as compared to the prior year. Solid growth in medical product lines was offset by softness in those product lines supporting the electronic end market. Industrial Coating Systems segment sales increased 9% compared to the prior year's first quarter, inclusive of organic volume growth of 9% and a decrease of less than 1% related to the unfavorable effects of currency translation as compared to the prior year. Most product lines generated organic growth in the quarter, driven primarily by demand in the US associated with cold materials in the outer systems product line. Moving down the income statement, gross margin for the total company was 53% in the quarter. Operating profit was $75 million with reported operating margin of 15%. During the quarter, we incurred approximately $3 million of restructuring charges as we realigned our cost structure within the Advanced Technology segment. Excluding this charge, total company operating margin was 16% and the Advanced Technology segment operating margin was 15%, down from last year's first quarter operating margin due to lower absorption and product mix impacts on gross margin. Operating margin performance for the Adhesive and Industrial Coating segments were both equal to the prior year's quarter. On a total company basis, net income for the quarter was $52 million and GAAP diluted earnings per share were $0.89, inclusive of a $0.04 per share charge related to restructuring and a $0.04 per share discrete tax benefit related to stock-based compensation. We delivered first quarter EBITDA of $101 million or 20% of sales. Excluding restructuring charges in the quarter, EBITDA margin was 21%. Free cash flow before dividends during the quarter was $102 million or 197% of net income. Free cash flow in the quarter benefited from collection of accounts receivable associated with the prior quarter revenue. Our press release includes financial exhibits reconciling net income to free cash flow before dividends and EBITDA, as well as the reconciliation of diluted EPS to adjusted diluted EPS. From a balance sheet perspective, net debt to EBITDA was approximately 1.7 times trailing 12 months EBITDA at the end of the first quarter. I'll now turn the call over to Naga for a few closing comments.

Thank you, Greg. We remain committed to our annual organic sales growth guidance of 1% to 3% for fiscal 2020 with this growth being generated in the second half of the fiscal year. The incremental revenue will generate improved operating and EBITDA margins as we move through the year where we expect to deliver a total year margin performance equal to fiscal 2019 and EPS growth in the range of 2% to 6% over FY '19. We will continue to monitor the macroeconomic environment, including the impact of the coronavirus in the Asia-Pacific region. Our facilities in China are operational and we expect to be closer to full capacity soon. I want to thank our employees in China for their incredible commitment to serving the needs of our customers, along with the rest of the Nordson team, who supported our China employees during the difficult time in many ways. We greatly appreciate all of their efforts, and we'll continue to do all we can to support our employees and their families. Although there may be some impact on sales in our second fiscal quarter as we scale up production, our supply chain recovers, and our customers resume operations and delivery schedules return to normal, we do not expect a material impact from the coronavirus on our full year results. Before we open the phone lines for Q&A, I want to share a few observations from my first six months at Nordson. This is a great company driven by talented employees who are focused on serving their customers. While we are focused on delivering our near-term 2020 results, we are aligning our internal priorities on the greatest long-term opportunities for this business' profitable growth. To deliver profitable growth, we have four key priorities. First and foremost, we need to sustain the historical organic growth track record. We'll do this through our focus on innovation, emerging markets, and new applications. Second, we need to diversify our business portfolio, including through acquisitions. We'll stay true to what makes us great, which is precision technology. This includes scaling our Medical and Test and Inspection product line. Number three, we need to implement a growth-focused strategic framework that allows us to grow sustainably. I'm pleased that Nordson has a good start on this with the Nordson Business System. With the executive leadership team, we are evaluating how we can take NBS to the next level. I believe there is an opportunity for Nordson in refining and executing on this growth framework. Our fourth priority is to focus on developing a deep and diverse team to support our growth aspirations. I'm pleased with the customer-focused team that we have today. As we grow, we will need more of them. I'm also pleased to announce our plans for an Investor Day in the fall, where we will discuss our long-term plans for the business in more detail. Please mark your calendar for the morning of September 30th, 2020; the event will be focused at the New York Plaza Palace Hotel and available through a webcast. More information will be available in the coming months. As always, I want to thank our customers, employees, and shareholders for their continued support. With that, we'll pause and take your questions.

Your first question comes from the line of Matt Summerville from D.A. Davidson. Your line is open.

Thanks. Good morning. First of all, can you maybe talk about within the Adhesive business what the organic volume outlook looks like for the balance of the year as the comparisons in that business get a bit tougher beyond what was an easier comparison in Q1 and in a quarter where organic volume actually declined against that somewhat easy comparison?

Thank you, Matt. We don't provide guidance by segment for organic growth rate. We fully stay committed to our full-year total company guidance of 1% to 3%.

Okay. And then, with respect to maybe the coronavirus, did you see any discernible impact late in your fiscal first quarter, and is there a way to sort of frame up what you think that impact could look like in Q2 and maybe talk about how we should be thinking about the sequential earnings cadence for the company, perhaps if seasonality is pushed a bit to the right here relative to a more normal year?

Matt, I think there were two questions in there. The first one is around coronavirus. The impact of awareness in our first quarter was immaterial as we had already planned for the Lunar New Year and had shipments already scheduled and went out in time. We don't expect to have a material impact from the coronavirus on our full year results. As we look at it today, we don't see any impact in the second quarter. If there is further disruption in the supply chain or customers having trouble getting back to capacity, there may be some delays in orders that may get pushed out following the quarter. So that is on coronavirus. And I think you had a question around earnings cadence for the company.

Yeah.

So, our growth is based on our typical seasonality; most of our growth always happens in the second half. So, as we go into the second half, this increased revenue will improve and will generate improved operating margins and EBITDA margins that typically have very strong flow-through as we have higher sales.

Your next question comes from the line of Jeff Hammond from KeyBanc. Your line is open.

Hey. Good morning, guys. Can you just talk about what you're seeing in electronics as you go into the heavier kind of quoting and order season around 5G infrastructure, 5G mobile, and just kind of project inactivity levels going into the year? I know that's something we've been looking for an inflection.

Yeah. As you know, there is a lot of press regarding 5G infrastructure, and we continue to believe that that is where we will see the greatest opportunity. The progress also on infrastructure build-out has been slow and slowing. As mentioned before, we don't expect growth in our electronics business compared to fiscal '19 in 2020, that's not what we have forecasted, but our project activities continue to be robust. We are in great conversations. When that wave of 5G infrastructure hits, we will benefit from it. So, as of now, project activities are strong. We continue to be participating in a lot of quoting; timing is what it will be dependent on when those project activities convert into orders. And you're right, we are at that point in terms of typical order rates will pick up to have us confident in delivering that strong second half, and that's what gives us the strength in maintaining our guidance for the full year of 1% to 3%.

5G is certainly a key factor and represents a significant change. Additionally, we have diversification in automotive electronics and AI, among various other applications.

Okay, great. And then, it looks like the US business was particularly strong in the quarter. What do you see that's working there well?

It is primarily related to our ICS business that has done well. And certainly, our Adhesive businesses in the US have also continued to do well.

Okay. And then, just on the second half, so I guess you mentioned some of the project visibility. But other than kind of just typical seasonality, is there anything else in the quoting or activity pipeline that gives you that confidence in kind of an acceleration as you move through the year?

No, it is our typical seasonality. Based on our project activity and seasonal pattern, we feel strongly about a strong second half, which we've experienced in the past as well.

Your next question comes from the line of Christopher Glynn from Oppenheimer. Your line is open.

Thank you. Good morning. Just had a question about the SG&A, was beta $9 million sequentially adjusted or unadjusted. And the last five years, typically that spend has been down $5 million or $8 million 4Q to 1Q, so wondering if that indicates some strategic imperative that your kind of front log or pipeline is mandating.

Chris, this is Greg. I wouldn't say it's related to what you just mentioned. In the first quarter, we did incur a one-time cost of $2 million in corporate expenses. That expense is not something we expect to happen again. If you're forecasting that line item, I would anticipate it to be around $12.5 million per quarter instead of the current quarter. When you exclude that one-time expense, the increase this year compared to last year is fairly modest. Additionally, the first quarter is when we implement our global compensation increases, resulting in a slight bump compared to the fourth quarter due to the merit increases occurring in Q1. So, when comparing the current quarter to the same quarter last year, it's a modest increase once you take out the $2 million one-time cost.

So that indicates that spending was somewhat limited after the first quarter last year, because if you apply the first quarter SG&A spending rates for the entire year and project a 2% top line growth, SG&A as a percentage of sales would increase by about 100 basis points. Are you suggesting that this is not the correct perspective?

What I would suggest, Chris, is that it depends on top line growth. If we consider our spending compared to the prior year, we will face inflationary impacts and merit increases. We need to achieve top line growth to counterbalance the dilution that our spending may cause.

Is 1Q the high watermark for SG&A spend on a run rate basis?

Yeah. From a seasonal standpoint, this is our lowest quarter in terms of sales.

So as you had sort of spend will be higher in subsequent quarters?

Our spending is fairly flat as you move throughout the year. As Naga mentioned in his comments, with our global infrastructure, we don't flex that based upon seasonality of sales trends. So it's a pretty fixed number as you move through the year. So, in terms of the margin impact, it's more heavily dependent upon the top line sales number.

So first-quarter spending was a higher mark for the year.

Sorry, Lara. Can you clarify that? I didn't hear.

I'm just agreeing with you that it is a higher watermark as a percentage of sales to your earlier question, just based on that spend.

Okay. I'll follow up offline. Thanks.

Your next question comes from Allison Poliniak from Wells Fargo. Your line is open.

Hi, guys. Good morning. I just want to go back to your comment, Naga, on just kind of looking at that growth rate mark and sort of maintaining a sustainable growth that Nordson's experienced. Any high-level color there of how we should think about that comment? Is it end market? Is it different, I guess, new products, any color there?

I believe the strategic growth framework is an important area of focus for us as we enhance our existing NBS framework. One key aspect of this strategic framework will be to identify the best growth opportunities for the company, allowing us to take a strategic approach to our investments and determine the product niches in end markets where we aim to succeed. This will be a distinguishing factor that complements our current growth framework. Additionally, our growth framework will leverage our strengths in commercial excellence and product innovation. Essentially, this new growth framework will be an improved version of our existing NBS next, incorporating a strategic lens on the optimal product-market combinations we want to pursue. You can think of it as establishing a stronger strategic discipline regarding our growth ambitions, while also utilizing our strengths in commercial excellence, a customer-centric approach, and innovation that leads to precision technologies that effectively address our customers' challenges.

Great, thank you for the update. It’s reassuring to hear that things are starting to get back on track. Are you facing any increased costs as we resume operations, particularly regarding obtaining components and completing projects as a result of the current situation?

At the present moment, no. Our hope is that the supply chain is continuing to improve as we are seeing. And if this continues over a longer period of time, then there may be some delivery that could get pushed out. But no, on the cost side, we are fairly comfortable. We have good visibility and good inventories that will allow us to continue on the path we're on.

Your next question comes from the line of Mark Halloran from Baird. Your line is open.

So, quick question just on the acquisition and M&A side of things. What does the pipeline look like and some of the management changes that now you're a little newer to the scene? And then, with Greg's upcoming departure, does it change your willingness to go after things as it sits here today?

No. We remain committed to our capital allocation strategy. And our priorities there continue to be funding our organic growth, maintaining our dividend streak, and acquiring in the spaces that we have expressed an interest in and focused on, which is Medical and Test and Inspection. In terms of acquisition pipeline, we have good opportunities. We continue to work them. When they come to market is something we don't control, but look for us to continue to stay disciplined and focused on what makes the company strong, which is precision technology and two areas as I mentioned earlier that we will remain focused on is Medical and Test and Inspection.

And then, anything in the Industrial Coating side that you'd point to for the strength? It seems mostly comparisons were a little easier and sequential seemed about normal, but anything in there that was unusual or just pretty normal cadence?

It is pretty normal. As you mentioned, the comps were a little easier. There were some project timing; certainly things that we worked on in the fourth quarter certainly helped us in the first quarter, but nothing significant.

There are no further questions at this time, I will turn the call back over to your presenters.

Thank you again for joining us today, and we'll talk to you soon.

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