Earnings Call Transcript - ODC Q3 2020

Operator, Operator

Ladies and gentlemen, thank you for standing by and welcome to the Third Quarter Oil-Dri Corporation of America Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speakers’ presentation, there will be a question-and-answer session. I would now like to hand the call over to Dan Jaffee, President and Chief Executive Officer. Please go ahead.

Dan Jaffee, President and CEO

Thank you. Welcome everybody to the Oil-Dri third quarter investor teleconference joining me both physically and virtually. So, we are in this COVID reality. Susan Kreh, our Chief Financial Officer; Molly VandenHeuvel, our Chief Operating Officer; Jessica Moskowitz, Vice President and General Manager of the Consumer Products Division; Flemming Mahs, President of Amlan International; Laura Scheland, General Counsel; and Leslie Garber, Manager of Investor Relations. Leslie, will you walk us through the Safe Harbor?

Leslie Garber, Manager of Investor Relations

Thank you, Dan. Welcome, everyone. On today’s call, comments may contain forward-looking statements regarding the company’s performance in future periods. Actual results in those periods may materially differ. In our press release and our SEC filings, we highlight a number of important risk factors, trends, and uncertainties that may affect our future performance. We ask that you review and consider those factors in evaluating the company’s comments and in evaluating any investment in Oil-Dri stock. Thank you for joining us. Dan?

Dan Jaffee, President and CEO

Great. And before I turn it over to Susan to walk us through the financial results, just some high-level comments which I am very proud of regarding the Oil-Dri team. This is a very, very challenging environment. We had to go virtual, we had to figure out what essential meant, and we had people pantry loading cat litter. So, we had to meet incredible demand, and our entire Oil-Dri team did a fantastic job staying healthy both physically and financially, which enabled us to deliver an incredible quarter in an incredibly challenging time. For those investors who have been with us for 2 years or longer, you had to live through the go-live pain of our ERP system when we launched it in August a year and a half ago, almost 2 years ago now, and we would not have made it without that system. If we were on the old system, we would not have made it. We would have been worse than a Lucille Ball skit. I just feel very fortunate. Timing is everything. When this hit, we had the right team in place, we had the right systems in place, we had been far enough along on the implementation of our S&OP process so that we could get out in front of the demand and more than meet it. We have 99% and 100% fill rates from really all of our major customers and received a lot of kudos from them. So just recognize that your Oil-Dri team really delivered during this quarter.

Susan Kreh, Chief Financial Officer

Thanks, Dan. And although I usually jump right into the numbers, I want to reiterate a few things that you just said. This was truly an unprecedented quarter and I want to thank all our team members who enabled us to achieve such good financial results, which we are going to talk about shortly. As Dan said, in mid-March, our teammates were asked to work from home and they pivoted very quickly. They embraced new technologies practically overnight in order to deliver the results required to support our business and our customers, and not just at ordinary levels but at an all-time record level of net sales. I particularly want to thank our frontline workers who maintained safe practices to keep each other healthy and we put in a lot of extra effort to keep our customers’ shelves stocked. With that, now I will shift to our financial results. Consolidated net sales for our fiscal third quarter 2020 were an all-time record of $76.3 million, an 8% increase compared to net sales in the same quarter of fiscal 2019. We saw strength during the quarter in both of the products where we are focusing our growth investments in those products, cat litter, in our retail and wholesale products group, and animal health in our business-to-business products group. In our B2B group, net sales for the third quarter of fiscal year 2020 were $26.7 million, an increase of 2% over the prior year. Within that, there were some ups and downs by product line, but we were pleased to see that our increased focus on our animal health products is paying off. Net sales of our animal health and nutrition products increased 25% year-over-year during the third quarter, driven by increases in many of our markets for our animal feed additives, particularly in Latin America, Mexico, Africa, the Middle East, and Asia outside of China. Additionally, net sales within B2B of our agricultural and horticultural chemical carrier products increased 11%, and offsetting this growth was a year-over-year decrease of 8% for our fluids purification products where sales were impacted by decreases in edible oil sales due to closures of restaurants and schools linked to the outbreak of COVID-19. Sales were also unfavorably impacted by the closure of one of our customers’ biodiesel processing plants. Switching to our retail and wholesale products group, net sales for the third quarter were $49.6 million, an increase of 11% over the same quarter in the prior year. This increase was driven by 20% year-over-year growth in net sales of cat litter in both private label and branded litters. In addition to the organic growth that we have been experiencing throughout the previous quarters here in fiscal 2020, as Dan mentioned, we had incremental increases in cat litter sales during the third quarter as customers purchased more cat litter and related products in anticipation of future potential shortages or store closures caused by COVID-19. Sales of industrial and sports products decreased 22% or $2.2 million, primarily driven by the impact of businesses and sports fields shutting down beginning in March due to COVID-19. Our consolidated gross profit for the 3 months ended April 30 was $21.4 million, which was an increase of 27% over the third quarter of fiscal 2019. This improvement had two primary drivers: a decrease in the costs of freight and natural gas, which on a per-ton basis declined 20% and 32% year-over-year respectively. During the quarter, we did incur some additional employee compensation costs to meet increased customer demand as well as some incremental cleaning and sanitation processes due to COVID-19, where reduced costs didn’t have a significant impact on our consolidated gross profit and were offset by the reductions we saw in travel and expense in our SG&A expenses for the quarter. Our third quarter income from operations of $5.7 million is more than double our income from operations of $2.3 million during the same period in fiscal 2019, driven by the stronger sales and improved gross profit resulting from lower freight and natural gas. The third quarter net income attributable to Oil-Dri of $4.6 million compares to $5.6 million during the third quarter of fiscal 2019, which included a material one-time benefit of proceeds under a confidential agreement resolving legal proceedings. Net income per diluted common share for the third quarter of fiscal 2020 was $0.61 compared to $0.74 in the third quarter of fiscal 2019, which again included the one-time material legal settlement. Year-to-date net income per diluted common share of $1.69 for 2020 compares to $1.17 for the same fiscal year-to-date period in fiscal 2019, marking a 44% increase year-over-year. I would like to highlight two subsequent events that have substantially improved our liquidity during these uncertain times. Our final debt payment of $3.1 million is coming due on August 1 of this year, and we opportunistically amended our note agreement with Prudential, details of which you can find in our 10-Q that was filed with the SEC this past Monday. Under the amended agreement, Oil-Dri issued $10 million in new notes further with a 10-year tenor, and that cash is on hand today. Another event that occurred after the end of the quarter was that Oil-Dri entered into a confidential agreement to grant a non-exclusive perpetual license for $13 million, which has been received by Oil-Dri. Both of the aforementioned items will be included in our fourth quarter financial results which we expect to release on October 13. So, all in all, it was a really strong quarter and good liquidity position, and with that, Dan, I will turn it back over to you.

Dan Jaffee, President and CEO

Great, thank you, Susan. Obviously, great quarter and great year-to-date results. We are going to open up for questions as always; ask your most important question first and then go back to the end of the queue. This allows everybody the chance to at least get one question in and maybe two or three, so let's please open it up.

Operator, Operator

Our first question comes from Ethan Starr. Your line is open.

Ethan Starr, Analyst

Good morning. Nice quarter considering all the challenges.

Dan Jaffee, President and CEO

Yes, thank you.

Ethan Starr, Analyst

I understand from a recent article that Oil-Dri has improved results in customer service leading to significant improvements in cost reduction. Can you please explain this in more detail and give some idea of maybe how much money has been saved, please?

Dan Jaffee, President and CEO

Sure. I am going to let Molly answer the question.

Molly VandenHeuvel, Chief Operating Officer

Sure, thanks, Dan. So as the article said, we really focused on customer service first, and once we got our customer service levels to benchmark levels, we focused on cost reduction. You really can see that in the operating income, so I think the amount becomes evident in our cost of goods sold. We focused on a lot of the basics, making things more efficient, ensuring we have the right pricing and contracts in place, and just overall operational effectiveness.

Dan Jaffee, President and CEO

Yes. And I'll add because she doesn't want to toot her own horn, but Molly has led our team, and increased quality leads to lower costs. It always does because you have less rework. You have greater customer satisfaction, which leads to more sales and can lower your costs if you can spread your fixed costs over a greater base. The results you are seeing are evident in the topline growth led by our general managers and the bottom line growth led by our supply chain, which is just functioning very, very well. So, it's been a win-win, but thank you for your question.

Ethan Starr, Analyst

Okay, I will get back in the queue. Thanks.

Dan Jaffee, President and CEO

Thanks.

Operator, Operator

Our next question comes from John Bair of Ascend Wealth Advisors. Your line is open.

John Bair, Analyst

Thank you. Yes, I will echo nice quarter. I also appreciate more detailed information in the press release and commend you for the aspect of helping the frontline workers. So, I'm wondering to what extent or degree do you think those extra orders in March and April may have pulled forward orders? And, kind of parallel to that, did you see an increase in orders through online vendors like Chewy or somewhere that you think might continue in the future? Thanks.

Dan Jaffee, President and CEO

Alright. Well John, thank you; and Jessica, who runs our Consumer Products Division, will answer that question.

Jessica Moskowitz, Vice President and GM of Consumer Products Division

Hi, good morning.

John Bair, Analyst

Good morning.

Jessica Moskowitz, Vice President and GM of Consumer Products Division

So in terms of the shift from Q3 to Q4, if we look at kind of the first half, I would say we were benchmarked up 10%, and then Q3 was up around closer to 19%. So, I would say that the 9% to 10% difference is likely what shifted up into Q3 from Q4, and year-to-date, we've had strong sales thus far, so we could expect that to continue, but again the shift would likely be 9% to 10%. In terms of Chewy and Amazon, we continue to focus on e-commerce. We have seen strong sales in e-commerce as a result of COVID, and we do expect it to continue going forward. To what extent, I don’t think we can disclose that at this point, but it is something we are investing in and have seen consumer momentum into those channels.

John Bair, Analyst

I would think that sometimes when you are forced into a habit change like this pandemic has caused a lot of people whether it’s work or shopping that you might have a sense of whether those trends are continuing. Are you seeing some momentum in that area?

Jessica Moskowitz, Vice President and GM of Consumer Products Division

Yes. I think the macro-level trends would suggest that consumers are shifting into those channels, and our results would continue to support that ongoing shift into e-commerce.

John Bair, Analyst

Alright. Great, thank you. I will get back in queue.

Dan Jaffee, President and CEO

Thank you, John.

Operator, Operator

Our next question comes from Robert Smith of Center for Performance. Your line is open.

Robert Smith, Analyst

Yes, good morning and congratulations on the good quarter and also on the dividend increase. My question focuses on animal health. It’s a two-part question. First part Dan, if animal health were a standalone unit, at what revenue level would it become profitable, at what kind of ballpark number?

Dan Jaffee, President and CEO

I mean, I will take that, and I can tell you I don’t know. I don't look at it that way. I mean everything is so commingled. If it was a standalone, it couldn’t be; I mean, the products are co-generated and we make money by being in all aspects of our business. I once used this analogy to Clorox. We have been supplying them Fresh Step for over 40 years now. We can’t just sell the fillet to make money. We have to sell the entire product, and then the fillet becomes very profitable, but if all you did was sell the fillet, you wouldn’t make any money in the steak business at Oil-Dri. So honestly, it’s an unanswerable question. So, I don't know.

Robert Smith, Analyst

The second part of the question is with COVID entering the Southern Hemisphere more vigorously now, how do you see the animal health possibilities in the remaining quarter of the year?

Dan Jaffee, President and CEO

Great. Fleming, who is the President of that division will field that question.

Flemming Mahs, President of Amlan International

Yes. Hi, great question. Thank you. Yes. So right now, we are continuing to see good support for our products globally in all the regions. The COVID-19 situation is affecting more of the industrial kitchens, but the schools are starting to come back. So, at this point, we are not anticipating any huge impact to the business.

Robert Smith, Analyst

I meant in particular animal health—I think Brazil is an important market, so they are having quite a bit of difficulty down there.

Flemming Mahs, President of Amlan International

Yes. I mean, they are seeing challenges, but they are also seeing additional improved exports into China. There are different resources and sources pulling in different directions that we would not normally see.

Robert Smith, Analyst

Okay, thank you. I will get back in the queue.

Dan Jaffee, President and CEO

And before we go for the next question, I just think we all recognize that there is a new world now. We used to divide equities into large cap and small cap and micro cap and growth versus value and all these different cuts. I think what we will be seeing forever more now is essential versus non-essential. No one ever thought about this before COVID but boy, am I better to be lucky than good. I feel very sorry for fellow CEOs and businesses who were run every bit as well as Oil-Dri, but there are non-essential businesses and there’s nothing they can do about it. Most of our sales are essential either tied to food production or animal care of pets, and so we got very lucky there. So, all I can tell you is that yes, there is COVID going on throughout the world, but you may or may not die from COVID; you will die if you don’t eat. So, food is absolutely essential and we feel very lucky and fortunate that our core businesses are tied to things that were not and really won’t be impacted too much by the global pandemic. Next question?

Operator, Operator

Our next question is a follow-up from Ethan Starr. Your line is open.

Ethan Starr, Analyst

Yes. First, the quick question is the license fee related to cat litter?

Dan Jaffee, President and CEO

Laura, you wanted to answer?

Laura Scheland, General Counsel

I am sorry, we can’t provide any detail.

Ethan Starr, Analyst

Okay, that’s fine. My main question is this: what are your biggest challenges in getting more consumers to purchase lightweight scoopable litter or the lowest cost litter, which is Cat’s Pride among the major brands, and how do you plan to address those challenges?

Dan Jaffee, President and CEO

I mean, Jessica, I am happy to— you may answer it, I'm also happy to jump in, give me a thumbs up or thumbs down. If you want to take it, give me a thumbs up. Okay, Jessica is going to field that.

Jessica Moskowitz, Vice President and GM of Consumer Products Division

Yes. I can take it, Dan, feel free to build on it as you would like. I think I wouldn’t really view it as a challenge; I think it’s an opportunity. Lightweight cat litter continues to improve in quality while lowering the price, and I think that our brands and our private label and branded products are well positioned as a value player to really continue to dominate the market. I feel optimistic, and our goal is to continue to delight our consumers through offering them great products at a great price. As we improve the quality and are able to lower prices or offer at the same value, that value continues to delight consumers even more.

Dan Jaffee, President and CEO

Well said. And I think the only thing I would add is we are clearly in a recession. They have announced that and actually they think now it started before COVID even hit, and COVID put it into hyper gear. But clearly, when you are in that position, people will be more incentivized to save money in their weekly or monthly grocery bill. Competing in the value segment, whether it's through private label or through opening price point quality brands, is a good place to be. Having cat's lightweight scoopable at $5.98 at Walmart is a good place to be. So, clearly, when it’s price-related, we believe we are well positioned to supply them with high-quality products at affordable prices.

Ethan Starr, Analyst

Okay, are you taking share?

Dan Jaffee, President and CEO

Well, you can see our growth. I mean we are growing faster than the category. So, by definition, we are taking share.

Ethan Starr, Analyst

Okay, I will get back in queue.

Operator, Operator

Our next question is a follow-up from John Bair. Your line is open.

John Bair, Analyst

Thank you. What is the most exciting part of your business that you are most excited about and offers what you think will be the best opportunities going forward, and conversely, where do you see the biggest challenges right now? Thanks.

Dan Jaffee, President and CEO

That's like asking me which of my children do I love the best, I mean that's a tough one. But okay. I love our businesses that are around creating value from sorbent minerals. I am excited about all of our businesses. We have great people in place, a great strategy, and we play various roles. You said which ones we are targeting for the highest growth, well that’s clearly on the cat litter side, especially with our high-quality lightweight litters, and on the animal health side where, as you well know, there is a global push away from antibiotics in the human food chain. They are pulling them out of raising the animals, and there is a real unmet need to figure out how to maximize production. We have a fantastic antibiotic-free solution, so we are very excited about that growth potential. I am very excited and thankful for our Oil-Dri floor absorbent, industrial absorbents business, our agricultural business, and our fluids purification business. These are all solid differences where we have a real reason to compete and are doing well. The biggest challenge is staying disciplined. When we started doing really well, we have done really well for a long time, but you can see the momentum is gaining. The challenge is to stay disciplined, not just chase every hand, but knowing when to fold.

John Bair, Analyst

Okay, okay I will get back to the queue.

Dan Jaffee, President and CEO

Okay.

Operator, Operator

Our next question is a follow up from Robert Smith. Your line is open.

Robert Smith, Analyst

Hi Dan. Can you give us some additional color on your approach to digital advertising and within the context of the advertising and promotion budget?

Dan Jaffee, President and CEO

Sure. Jessica, take that one?

Jessica Moskowitz, Vice President and GM of Consumer Products Division

Sure. So our approach is going to be hyper-targeted. I think digital offers us that opportunity to really understand who our consumers are and to reach them. We are testing the main digital advertising channels such as social search and typical digital tactics while also testing new tactics like video.

Robert Smith, Analyst

Here is an idea for you: carry on carry less.

Operator, Operator

Our next question comes from Ethan Starr. Your line is open.

Ethan Starr, Analyst

Yes, I am wondering; I guess my impression is that Oil-Dri saved much more money due to COVID on things like lower energy prices and travel expenses than you actually spent extra for COVID. Can you expand on that and maybe provide some possible numbers? Also to what extent when energy prices drop does that benefit Oil-Dri or does it benefit your customers, or how does that shift?

Dan Jaffee, President and CEO

Yes, Molly. Just so that I can earn my keep, I'll do the play-by-play and you can do the color if I need anything else. I'm proud of the fact that yes, we saved some money on travel and entertainment, but during the peak of demand when we were pushing our people really hard, we gave the equivalent of a $2 an hour shift premium to all of our frontline workers, and that more than offsets the savings.

Operator, Operator

We have 2 minutes remaining for this conference.

Dan Jaffee, President and CEO

During that peak demand, when things began to decline, we then went to a $1 an hour shift premium. That was a break-even to slight benefit; none of this was material to the bottom line. I'm not really going to give you the dollars, but I'm just telling you that we took the savings and gave it to our people who were what I call heavy combat pay, and I am proud that we did that. I now don't remember the second part of your question.

Ethan Starr, Analyst

Well, just to what extent do energy prices drop, how much is the benefit for Oil-Dri, and to what extent does it shift?

Dan Jaffee, President and CEO

Okay, Molly will take this one, although I can take the pricing part. I was telling the board yesterday that we are in a rational industry. When gas prices go crazy one way or the other, if our competition moves, we move with them and vice versa. We are in a rational business, but Molly, I will let you put some more color to that.

Molly VandenHeuvel, Chief Operating Officer

Right, and it is not a straightforward answer for energy and fuel prices for transportation. We do see immediate savings where we pay for freight as part of our product costs as part of our fuel surcharges in our contracts, typically aligned with the fuel index. Sometimes we get that when we pay for it, but we have a lot of customers who pay for freight and then they would see the benefit of that. For natural gas, we have seen some benefit in the third quarter, which was immediate. For other material costs savings, there is a bit of a lag due to commodity usage and timing, so it is not really straightforward. Some savings are immediate, while some are longer-term. The savings we saw in the third quarter are more than just commodities; we have built good processes in place to drive sustainable savings.

Ethan Starr, Analyst

Okay, great. Appreciate that. And I'm assuming that the lag is probably mostly in the resin price – plastic packaging prices. Yes, thanks for the dividend increase also, Dan.

Dan Jaffee, President and CEO

Great. I hope you also noticed the share repurchase program, which again was a way of trying to deliver value back to our shareholders. We have been opportunistic, and we had a chance to buy back shares with a higher dividend, and our cash is earning 0.2%. We have plenty of opportunities to deploy that cash, but we are going to stay opportunistic on the share repurchase program, so hopefully, you noticed that too. It’s been a half-hour, and we look forward to talking to you again at the end of the year when we will present our fourth quarter and fiscal year end. I would tell you that regarding one of our major metrics, which is pre-tax and pre-bonus income, we have already made more than we have ever made in any fiscal year through nine months, so we are playing with a house of money at this point. It feels really good—it feels good that all the investments we made in the last two and a half years on people and infrastructure are why this is happening. It feels good, it's predictable, and we are up in front of our businesses. We have always taken a long-term approach, so the seeds we planted years ago are sprouting now, and the seeds we plant today will start to grow in a few years. Thank you to the long-time holders, and we are happy to reward you with, I think, the 17th year in a row of dividend increases, which is fantastic. So, thanks everybody. We will talk to you again in a quarter.

Operator, Operator

Ladies and gentlemen, this concludes today’s conference call. Thank you for participating. You may now disconnect. Everyone have a great day.