Earnings Call Transcript - ODC Q2 2024

Operator, Operator

Good day, and thank you for standing by, and welcome to Oil-Dri Corporation of America Second Quarter Fiscal 2024 Earnings Discussion via webcast. Please note that today's conference is being recorded. I would now like to pass the call over to the President and CEO, Dan Jaffee.

Dan Jaffee, CEO

Great. Thank you. Welcome to our second quarter and six month teleconference. Joining me either in person or virtually for the call to answer your questions: Susan Kreh, our CFO and CIO; Aaron Christiansen, VP of Operations; Wade Robey, VP of Ag and President of Amlan International; Chris Lamson, Group VP of Retail and Wholesale; Laura Scheland, Chief Legal Officer and Vice President and General Manager of the Consumer Products Division; Bruce Patsey, our Vice President of Fluids Purification; and Leslie Garber, our Director of Investor Relations, who will lead us through the safe harbor.

Leslie Garber, Director 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 in 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. Now I'm going to turn the call over to Susan Kreh.

Susan Kreh, CFO and CIO

Thank you, Leslie. And just a quick shout out to you, Leslie, you did an excellent job of highlighting records and providing color on our very positive second quarter results in the press release. So thank you, and great job. And since Leslie did such a thorough job, I'll just highlight a few key points, and then I'll be happy to answer any further questions during our Q&A session. For the quarter, consolidated net sales were up 4%, which was a record for Oil-Dri's consolidated net sales for the second quarter. This was driven in part by growth of fluids purification and cat litter products, including co-packaged items. The strong sales of co-packaged items were partially a result of a large customer restocking during the second quarter, following a first quarter disruption caused by a cyber event. In analyzing the split between pricing and volume on the quarter, higher prices across all principal products drove the improvement in net sales. And while we did experience strong volume growth for our fluids purification products, that growth on a consolidated basis was more than offset by the purposeful shedding of some low profit volume within our Retail and Wholesale segment. Consolidated gross profit was $30.9 million for the second quarter, representing a 34% increase over the same quarter in the prior year. Our gross margins expanded to 29.3% in the second fiscal quarter from 22.6% in the second quarter of fiscal 2023. Our gross margin expansion is a result of our teammates' keen focus on restoring our margins in order to fund our future. This is necessary because of the financial impact of our aging infrastructure. We have a 5-year capital plan that addresses replacing key aged and fully depreciated assets in our manufacturing facilities. It is imperative that our pricing enables Oil-Dri to generate adequate cash to fund the asset infrastructure that's required to sustain our future ability to serve our customers and grow our business. To highlight this point, I would call your attention to the bottom of the consolidated balance sheet that was presented in the earnings release. Year-to-date, we've made capital investments of $15.5 million compared to a depreciation and amortization expense of $8.9 million for the same period. That depreciation and amortization expense represents 57% of capital invested. And as we continue to replace our aged infrastructure, we expect that ratio of depreciation as a percentage of capital investment to increase. During the second quarter, we also booked a one-time or unusual item related to the modification of our only landfill, which is located at our Ochlocknee, Georgia manufacturing site. Now as a reminder, during the second quarter of last year, we established an accrual of $2.5 million to perform the work required to modify the Ochlocknee landfill. That modification work is now underway. So today, we have a better estimate of the cost to complete the modification. As a result, we have taken an additional charge of $500,000 to add to this accrual during our second fiscal quarter of 2024. Now let's hit a couple of points related to cash. Year-over-year, cash and cash equivalents are up substantially from $14 million at the end of the second fiscal quarter of 2023 to $27.8 million at the end of our second fiscal quarter in 2024. However, as highlighted in the consolidated statement of cash flows, for the first six months of fiscal 2024, we reduced our cash by $4 million. In addition to funding the $15.5 million of capital investments that I mentioned earlier, we paid our teammates their annual bonus during the first quarter, and we deliberately increased inventories by $3.7 million to support our historically high service levels with our customers. One of the drivers of this strong performance in service levels has been having the right inventory in the right place at the right time. In addition to that, we also built inventory in advance of some specific one-time customer initiative, which we expect to occur during the third and fourth quarters of this fiscal year. I would also point out that during fiscal 2024, we have repurchased 40,075 shares of Oil-Dri stock for $2.1 million that were surrendered by teammates to pay taxes as part of the vesting process under our restricted stock award program. We have not purchased any shares on the open market during fiscal 2024. And finally, let's talk about our strong balance sheet, which is a result of our continuing strong financial performance, along with our low net debt position. Oil-Dri remains well positioned to invest in our growth opportunities. Our cash priorities continue to be investing and reinvesting in our business with a focus on future growth opportunities, while at the same time maintaining our existing asset base, supporting our dividend, which we have increased for 20 straight years and paid for 50 straight years, maintaining enough financial strength to support strategic M&A if targets become available. And that is all followed by opportunistically assessing the repurchasing of shares of our stock when the valuation warrants an acceptable return for our shareholders. So those are some of the key highlights for the quarter. And with that, Dan, I'll turn it back over to you for our question-and-answer session.

Dan Jaffee, CEO

Thank you, Susan, for your excellent summary. I just want to mention that many of our long-time investors have had interactions with my father, and I believe he would be proud of these results. This journey has spanned 84 years, dedicated to my father and to me, and I feel very humbled and grateful to our team. I visited our Mississippi plants last week and our Georgia plants about six weeks ago, and it is incredibly rewarding to see the teammates who are working hard every day to make this happen. I appreciate our Oil-Dri team. I also want to mention that I plan to head to the mountains and Canada as soon as possible. Now, let's move on to the Q&A session, as I would like to address the questions most important to our shareholders.

Leslie Garber, Director of Investor Relations

Okay. I'm going to take over. Please submit your questions using the Ask A Question field on the webcast and click submit. And I'm going to read the first question. This question comes from Robert Smith for the Center for Performance Investing. He asks the softness at Amlan for Latin America and Mexico surprised me, specifically what's happening in those two geographies and what actions are needed to turn them around. I'm going to have Wade answer that question.

Wade Robey, VP of Ag and President of Amlan International

Thank you, Leslie, and thank you, Robert, for that question. I'm going to separate those two geographies slightly and how I answer the question. In Mexico, as I think our investors know, we have been participating in that business through AgroMex, which was an acquisition we partially made a few years ago and now have completed in the last year. The softness in Mexico at the moment was really caused by a couple of things. But chiefly, we completed the acquisition of that business. We did some restructuring, which caused what I would call a temporal pause in some of the commercial activity we had with a couple of the products that we were selling in that region. We've reestablished that and we're very bullish on the growth of Mexico for the future. There are a lot of key accounts in Mexico that are very large that we had not approached previously, and we're excited about the prospects of gaining business with them and, as I said, growing that business. When you look at Brazil, it's somewhat of a similar story to what we've seen with the economy in North America, where feed prices have been high, and there's been a bit of a depression of productivity or economic productivity in that market. That has caused some in and out of products in diets in Brazil rations for poultry. We've had to deal with that over the last six to nine months. On a positive note, we see gaining momentum there as feed prices have started to come down. And we expect to continue to have Brazil be really the strongest performer for us in the Latin American market going forward.

Leslie Garber, Director of Investor Relations

Great. Thank you, Wade. The next question comes from Ethan Starr, an individual investor. He asks how successful is the new antibacterial cat litter, both in terms of retail distribution and consumer purchases? Are consumers purchasing the antibacterial litter switching from other Cat's Pride products or competing brands? Chris, I'll have you answer that.

Chris Lamson, Group VP of Retail and Wholesale

Yes, good morning, Ethan. Thank you for your question. Regarding antibacterial cat litter, we have three key points to address: distribution velocity, sales incrementality, and our marketing efforts. Our distribution is strong, as our key grocery retailers along the East Coast carry the product, including many major stores. We are pleased with the current velocity, which is approximately 80% of what we typically see for Cat's Pride items. Although we are content with this performance, we are striving for improvement. We are investing significantly in trial-generating initiatives tied to our merchandising activities. For instance, in February, we launched a campaign focusing on shelter awareness, promoting our product while emphasizing cleanup efforts. Our marketing presence is strong, particularly on the East Coast, and we will continue these trial activities until the end of the fiscal year. As for the incremental sales, while challenging to quantify, our research indicates that this product should drive additional growth, affirming its unique position in the market. Although the product is gaining traction, it appears that other items in our lineup are not negatively impacted, reinforcing our positive assessment of its incremental potential.

Leslie Garber, Director of Investor Relations

Great. Thank you, Chris. The next question comes from Robert Smith. He says, Chevron recently announced it is closing two of its biodiesel plants because of falling demand. Do you see continuing strength in this area for you in the immediate future? And I'm going to turn that over to Bruce Patsey.

Bruce Patsey, Vice President of Fluids Purification

Robert, thanks for the question. Yes. Chevron did close some plants. We were aware of that. We didn't have any business with those companies. Biodiesel is a very small segment of the market, and we do have some business in biodiesel, but where all the growth is in renewable diesel. This is a very large oil refineries that are building plants where they use a fixed bed catalyst to turn vegetable oil and waste oils into diesel fuel. And where biodiesel, you can add into fuel at about 5% to 10% to diesel, renewable diesel, you can add 100% of it into the line with diesel fuel. So all the growth in this industry and what's starting to drive some of our numbers is the renewable diesel industry. And so we see continued growth in that marketplace.

Leslie Garber, Director of Investor Relations

Right. Thank you. The next question comes from Ethan Starr. In the 10-Q, it noted that some North American Amlin customers shifted from trials to purchasing products at full price. What will this shift mean for Amlin revenue in the upcoming quarters? And do you expect more trial users to become full-price customers? And if so, when? I'm going to turn that over to Wade.

Wade Robey, VP of Ag and President of Amlan International

Thank you, Leslie. And thank you, Ethan. This is a question we've had previously, but I know it's a little bit complicated, so I'll certainly address it again. Ethan, as you know, and as I've indicated previously, we do start out with trial pricing in the U.S. at some of the largest integrators as we've launched our products there and as we're growing our business. That is a time-based program that then results ultimately in those customers moving to our full pricing based on the volume that they purchased. As we've done that over the last two years, we've been able to retain those customers, and we've not seen that move to what we would call our list pricing at those volumes to be an impediment to our growth. Going forward, as Amlin becomes more established in the North American market, I would suspect that the need to offer trial pricing to customers who have never experienced our products previously will become less of a necessity or an opportunity, I would say. And we'll move more to straight pricing with some rebate programs based on the growth that we see in our large accounts. So that's how we address it. And naturally, as that goes forward, we expect to see positive impacts on both revenue and the margins or profit we'll earn for that business.

Leslie Garber, Director of Investor Relations

Thank you for your question. Thanks, Wade. The next question is from Robert Smith. What are your two chief concerns going forward? I'm going to turn that over to Dan Jaffee.

Dan Jaffee, CEO

Thank you. I would say that aging infrastructure is a significant issue, along with the fact that our depreciation is a lagging indicator. We're depreciating assets that were put into service a decade or two ago and are now replacing them with new assets that are much more expensive. While focusing on margins is interesting, the real focus will be on cash generation to drive our efforts. I've always believed that earnings are an opinion, but cash is a fact. Therefore, we will prioritize cash generation to ensure we can meet our customers' needs in terms of both quality and quantity. Our customers have been very appreciative of our discussions with them and understand our focus. Aging infrastructure is one concern. Another issue is lapping current results. Depreciation will start to align more closely with our spending. If we’re spending around $30 million per year on capital and depreciating about $18 million to $19 million, the difference will begin to narrow as we replace older equipment with new. In ten years, that figure should be about $30 million, which will impact reported earnings, though the cash will have already been spent. Our focus will be on cash generation, but managing current results is certainly a challenge. The positive aspect is that we have several promising growth businesses on the verge of development, which should become significant over the next 6 to 18 months. Additionally, we have exciting cost savings opportunities that are still emerging. While I can't disclose specific details, they are likely to help offset some of that additional depreciation expense. So, the main concerns are aging infrastructure and the challenge of lapping current results.

Leslie Garber, Director of Investor Relations

Thanks, Dan. Great. The next question is from Ethan Starr. What results are you seeing from the light in your life advertising campaign for Cat's Pride? I'm going to turn that over to Chris Lamson.

Chris Lamson, Group VP of Retail and Wholesale

Hi again, Ethan. Let me start with a focused overview and then expand on it. I mentioned our emphasis on digital marketing, which you clearly noticed. We transitioned from primarily focusing on litter for good before the pandemic, faced some challenges like many in the industry, but we returned our attention to lightweight litter and its messaging. The excellent aspect of digital advertising is the ability to track expenditures and adjust strategies as needed. Our campaign, alongside our agencies and tools to measure return on investment, is yielding impressive results. We're very pleased with the returns on our spending. Looking back at the litter for good campaign, we actually found our results to be even stronger. This provides a concentrated view of how we're adapting and optimizing our programs. On a broader scale, I also mentioned at the shareholder meeting that we are pleased with our market share growth in the private label lightweight segment; however, our branded lightweight segment has not been gaining share compared to the market, which was noted two quarters ago. In the last two quarters, though, we've observed that lightweight is now growing faster than heavyweight, helping us regain our share. With strong shares, particularly in private label lightweight, that is crucial for us. While it's challenging to determine causation, we initiated this program two quarters ago, and lightweight products are performing well in the market again, which had not been the case prior to last year. Overall, we're making a positive impact in the marketplace and seeing good returns from our initiatives.

Leslie Garber, Director of Investor Relations

Great. Thanks, Chris. Okay. We have another question from Bob Smith. Is your most important cat litter retailer pressuring for lowering prices? Chris, do you want to answer that?

Chris Lamson, Group VP of Retail and Wholesale

Sure. Again, I guess. And I guess I don't want to answer it specifically to answer your question, honestly, Leslie. But Bob, I'll answer it a little more generally. What I mean by that is we don't talk to specific plans with specific retailers. I'll start more broadly on this one and say that when you look at marketplace data, when you look at syndicated data, sales in the category are still growing faster than units. So as it plays out in the retail shelves, the retailers are acknowledging. There's still an inflation presence. Now is that cost inflation for us, still real, absolutely. Is it real at a lesser rate than we were experiencing a year ago absolutely. Said differently, costs continue to rise when we compare year-over-year just not at as great a rate. Our sales team, without revealing our cost structure, is well armed to talk to that story when pushed by retailers. And I think they've done so effectively to this point. I believe they're going to continue to tell that story really effectively. They speak to a few different buckets in general. And when you aggregate those buckets, costs are still right when we tell that story very well.

Leslie Garber, Director of Investor Relations

Great. We have a few minutes left in the call, and I would like to encourage other investors to please submit questions via the webcast, and we will wait a few minutes to see if anything comes up.

Dan Jaffee, CEO

Okay. Well, I guess, I mean, we've asked and answered all the questions. Thank you for your interest. Thanks for your support, and we will be back with you. We will be back with you in three months. Thanks, everybody.

Operator, Operator

And thank you, everybody, for participating, and you may now disconnect.