Worthington Enterprises, Inc. Q4 FY2023 Earnings Call

Hello and welcome to the Worthington Industries' Fourth Quarter Fiscal 2023 Earnings Conference Call. All participants will be in listen-only mode until the question-and-answer session. This conference is being recorded at the request of Worthington Industries. I would like to introduce Marcus Rogier, Treasurer and Investor Relations Officer. Mr. Rogier, you may begin.

Thank you, Chris. Good morning, everyone and welcome to Worthington Industries' fourth quarter fiscal 2023 earnings call. On our call today, we have Andy Rose, Worthington's President and Chief Executive Officer and Joe Hayek, Worthington's Chief Financial Officer. In addition, we also have Tim Adams, who is currently the Vice President of Strategy and Corporate Development for our Steel Processing Business, and who will become the CFO of the Steel Company after we complete the planned business separation. Before we get started, I'd like to remind everyone that certain statements made today are forward-looking, within the meaning of the 1995 Private Securities Litigation Reform Act. These statements are subject to risks and uncertainties that could cause actual results to differ from those suggested. We issued our earnings release yesterday after the market close. Please refer to it for more detail on those factors that can cause actual results to differ materially. Today's call is being recorded, and a replay will be made available later on our worthingtonindustries.com website. At this point, I will turn the call over to Joe for a discussion of the financial results.

Thank you, Marcus. Good morning, everybody. We finished the fiscal year with a very strong quarter, reporting Q4 earnings of $2.61 a share versus $1.61 year ago. Among the unique items that impacted our quarterly results include the following: we incurred a pretax expense of $8 million or $0.13 per share related to the planned separation of our Steel Processing Business into a new public company, which we expect to complete by early calendar 2024; recognized modest impairment charges in steel processing related to some equipment we no longer use, which was offset by a one-time non-recurring gain in our cabs JV during the current quarter. This compares to a small restructuring gain of $0.03 per share in the prior year quarter. Excluding these unique items, we generated record quarterly earnings of $2.74 per share in the current quarter, compared to $1.58 per share in Q4 of last year. In addition, in Q4, we had inventory holding gains estimated to be $33 million or $0.49 a share, compared to inventory holding losses of $42 million or $0.64 a share in Q4 of 2022. Consolidated net sales in the quarter was $1.2 billion, a decrease of 19% from the prior year due to lower average selling prices in steel processing combined with lower volumes across most of our segments. Gross profit for the quarter increased to $244 million from $168 million in the prior year quarter, and our gross margin increased to 19.9% from 11%, primarily due to improved spreads in steel processing. Adjusted EBITDA in Q4 was a record $211 million, up from $139 million in Q4 of last year, and our adjusted EBITDA in fiscal 2023 was $515 million. Regarding cash flows in our balance sheet, cash flows from operations totaled $229 million in the quarter and free cash flow was $212 million. In fiscal 2023, we generated $539 million in free cash flow. During the quarter, we invested $18 million in capital projects and paid $15 million in dividends. We also received $51 million in dividends from our unconsolidated JVs during the quarter, resulting in a 92% cash conversion rate on that equity income. Looking at our balance sheet and liquidity position, funded debt at quarter-end of $693 million was flat sequentially. Net interest expense of $5 million was down by $3 million, primarily due to interest income we earned on our cash balances and, to a lesser extent, lower average debt levels. We continue to operate with extremely low leverage levels, and our net debt to trailing EBITDA leverage ratio is now under 0.5 times. We believe we are well-positioned for the future with ample liquidity, and in Q4, we had $455 million in cash and over $500 million available on our revolving credit facilities. Yesterday, the board declared a dividend of $0.32 per share for the quarter, which is payable in September of 2023. This is a 3% increase over last quarter and marks the 13th consecutive year we have increased our dividend. We are very pleased to continue rewarding our shareholders as we deliver strong results. Let's spend a few minutes on each of the businesses. In Consumer Products, net sales in Q4 were $181 million, down slightly from $186 million a year ago, primarily driven by lower volumes, partially offset by the inclusion of Level5's results. Adjusted EBIT for the Consumer business was $26 million and adjusted EBIT margin was 14.2% in Q4, compared to $29 million and 15.8% last year. Consumer's earnings and cash flows for the current quarter were strong, and adjusted EBIT increased by 43% on a sequential basis, as we saw a return to seasonal patterns. Our point-of-sale data suggests that consumers are spending less in stores. Our products are typically not considered big ticket items and are used for home projects or to enjoy celebrations, cookouts, and camping trips. We believe this dynamic positions us well regardless of economic conditions. The Consumer team continues to do a great job managing the business while developing new and innovative branded products. In fact, we launched the Balloon Time Mini helium tank last month. This innovative new product is compact and easier to use, opening up more opportunities for distribution and potential new channels. The Balloon Time Mini is currently available in select Meyer stores and will launch more broadly across the U.S. later this fall. Building Products generated net sales of $142 million in Q4, down 18% from $173 million a year ago, driven by lower volumes, partially offset by a favorable shift in product mix. Building Products generated adjusted EBIT of $59 million for the quarter, and the adjusted EBIT margin was 41.6%, compared to $64 million and 36.8% in Q4 of last year. The decrease in EBIT was driven by our wholly owned businesses, which saw operating income decrease by $10 million year-over-year from record results due to lower volumes in residential construction and maintenance end markets, which continue to see some destocking compared to a year ago. The headwinds in our wholly owned business were partially offset by higher equity earnings contributions from our building products JVs, which collectively contributed $50 million in Q4, $6 million more than they did a year ago. ClarkDietrich and WAVE both continue to perform well, generating year-over-year earnings growth while their end markets are being impacted by interest rates and economic uncertainty. Our Building Products team continued to do an excellent job executing in the current environment while investing in innovation and long-term profitable growth. In Q4, Building Products shipped a first-of-its-kind, patent-pending cylinder called PowerCore. This disruptive, innovative containment solution gives contractors the power to increase productivity by spraying water-based adhesives onto a surface with speed and efficiency, where previously, those adhesives could only be applied manually. In Sustainable Energy Solutions, net sales in Q4 of $45 million were up 10% or $4 million from the prior year, driven by higher average selling prices. SES reported adjusted EBIT of $3 million in the current quarter compared to a loss of $2 million in Q4 of last year. The economy in Europe continues to be challenging and SES's results will be impacted as a result. We believe our team continues to do an excellent job executing in the current environment while positioning that business as an important part of the supply chain that will enable the global transition to low and zero emissions mobility. At this point, I will turn it over to Tim to discuss Steel Processing's results.

Thanks, Joe. In Steel Processing, net sales of $860 million were down 23% from $1.1 billion in Q4 last year, primarily due to lower average selling prices. In Q4 of last year, the market price for hot rolled steel was $1,300 a ton, while in Q4 of this year, the market price was just over $1,100 per ton, resulting in a 23% decrease in our average selling prices. Total tons shipped were down 2% compared with the prior year quarter. Excluding the impact of divestitures, direct sale tons were down 1%, while total tons shipped were up 8%, primarily due to increased volumes with the mills. Direct sale tons made up 57% of the mix, compared to 56% of the mix in Q4 of 2022. From a demand perspective, we're seeing modest increases in automotive production, but we continue to experience softness in both residential and non-residential construction, which have been impacted by rising interest rates. In Q4, Steel Processing reported adjusted EBIT of $96 million, which was up $80 million from the $16 million reported in the prior year quarter. In the quarter, we had estimated inventory holding gains of $33 million compared to estimated losses of $42 million last year. We anticipate generating inventory holding gains in Q1 and estimate those holding gains could be around half of what we experienced in the current quarter. Our employees remain focused on what's in front of them both near-term and long-term, as they manage the ever-changing steel environment, while planning for the future. It's an exciting time within Steel Processing with opportunities for us to capitalize on recent investments in lightweighting, electric vehicles, and electric grid infrastructure. In fact, we're expanding capacity in Mexico at our Serviacero joint venture, in addition to a planned expansion at Temple Steel to capitalize on the growth expected in these markets. We would also like to congratulate our Temple Steel employees who yesterday received a Global Supplier of the Year Award from Dana Incorporated. Dana named Temple the 2022 Lead Electrical Propulsion Supplier of the Year for Temple's efforts to support Dana's global electric vehicle business. Our thanks to the Temple team as well as to the broader Steel team for their focus on our future and for keeping our people safe while doing so. At this point, I'll turn it over to Andy.

Thank you, Tim. Good morning, everyone. Our fiscal fourth quarter adjusted earnings per share results were the best in our 68-year history. And our just completed fiscal year was the second best ever. To our customers, thank you for making this all possible, and to our employees who go the extra mile every day to make it happen, we thank you for your dedication to Worthington Industries. As we close in on our Worthington 2024 plan to separate into two distinct financially strong growth companies, we fully intend to continue delivering the same level of quality, service, and commitment. This project is progressing well and on track for completion in early calendar 2024. We have finalized the corporate structure for both businesses and our employees have all joined a team within one of the two companies. We believe our employees have embraced the coming changes and are excited about the opportunities in front of them. As evidence of this, we recently received the results of our Annual Employee Engagement Survey. We were pleased to learn that participation increased and employees continued to rank Worthington above manufacturing benchmarks in employee engagement and manager effectiveness. Responses to questions specifically related to Worthington 2024 were also very strong. Our people and our culture continue to be our greatest assets. The belief and energy regarding the future of the company is palpable. In addition, we hope to announce the names and branding for each company by next quarter's earnings call. Once complete, new Worthington will be a market-leading company with premier brands and fast-growing attractive markets in consumer products, building products, and sustainable energy poised to capitalize on key trends in sustainability, technology, construction, and outdoor living. With higher margins and lower asset intensity, this business should benefit from premium sector multiples. Worthington Steel is and will continue to be a best-in-class value-added steel processor with a unique capability set and excellent growth opportunities in automotive lightweighting and electrical steel laminations positioned to take advantage of expanding opportunities in electrification, sustainability, and infrastructure spending. To ensure that both businesses begin their new day with low leverage and plenty of available capital, we have built up cash of $455 million as of quarter-end. We plan to use this cash to pay down debt and capitalize each business with significant available capital. Once the separation is complete, we are likely to continue with our historical balanced capital allocation strategy. Both businesses will be run with our philosophy and golden rule principles and utilize the Worthington business system of transformation, innovation, and acquisitions to drive growth in shareholder value. Some of you may have seen our recent victory in the DC Circuit Court reversing a ban unlawfully imposed by the EPA on our refrigerant cylinder. We would like to thank all of those involved in the effort to save American jobs and deliver a practical solution that is better for the environment, HVAC contractors, and American workers. Our customers, industry associations, Ohio and Kentucky governors, and members of Congress on both sides of the aisle were instrumental in supporting us in this effort. To all of our customers, suppliers, employees, shareholders, and other stakeholders, thank you for your continued partnership. And we look forward to share success in the coming months and years. We'll now take any questions.

Thank you. Our first question is from Katja Jancic at BMO Capital Markets. Your line is open.

Hi, thank you for taking my question. First, can you talk about what’s driving the strength in WAVE and ClarkDietrich?

Well, there's a handful of things that are going on. But if you look at their models, if you look at their business models and how their businesses have evolved from an innovation perspective, they both run really good businesses. If we look at their cash flow contributions this year, they tend to do well when prices are going up, but they have money tied up in working capital. In their equity income last year, costs were relative to their distributions; we didn't get as much in distributions as we did relative to their income. So this was a catch-up here for them. They have really well-run businesses, but there's nothing really specific that's driving their results. They are facing challenges, as are most companies that participate in the building products, construction end markets, but it's just a testament to the way those businesses are run. We are proud to be a part of them.

Yeah. And I might add that both of those businesses are leaders in the markets they serve. WAVE focuses on acoustical ceilings, and ClarkDietrich specializes in metal framing. They offer the best products and service; they can do things that other customers cannot. This often commands a premium in their marketplace.

So, if I look at the earnings this quarter, right, they improved meaningfully sequentially. And I understand steel prices are going higher. So they likely pushed price increases. Was there any potential pre-buy in those two businesses this quarter?

Yeah, it happened a little bit. I mean, they were up $6 million collectively year-over-year, I think $3.5 million and $2.5 million, respectively. But ultimately, they're not just buying spot; a lot of times, they try and understand and hedge their steel purchases. When you see price increases, you do see some pre-buying. But I think the sequential order of growth is probably more seasonal rather than something specific in the businesses.

Okay, so how should we think about it going into first quarter?

Both of those businesses are facing some of the same pressures and headwinds that others are dealing with regarding interest rates and economic uncertainty. They will continue to do what they do. Fundamentally, without trying to get into guidance, which we don't provide, they'll keep trying to take and maintain market share while caring for their customers in what I would describe as challenging end markets.

Okay, just one last one. What's your expectation for CapEx this year?

Sure. The best place to start is where we ended in '23. We had $86 million in CapEx for the year, down about $9 million from '22. A little more than 50-50, $46 million and $40 million of that was in the steel business. We think that's a good run rate for the businesses going forward. We have some significant growth CapEx investments that we're making. Tim mentioned a couple, one in Mexico and another that will focus on North America for the Temple business. Overall, for fiscal '24, CapEx could be 50% or slightly higher compared to how it was in '23.

Okay, thank you very much.

Sure.

The next question is from Martin Englert with Seaport Research Partners. Your line is open.

Hello, good morning, everyone.

Good morning, Martin.

I think I asked a similar question a year ago, but I'm going to revisit it. It comes back to the underlying profitability in steel processing. When we remove the holding gains, steel processing was strong at $75 per ton of EBITDA for the quarter, $62 for the fiscal year. What do you believe is maybe normalized unit profitability through the cycle for this business?

We don't look at the business that way. That's a tough one.

Okay. Maybe ask it a different way. I guess how do you look at it? Are you looking at it on a margin basis? Or when you think about like, through cycle ability for that business?

Yes. The best way to think about that is we look at the gross on materials for each product. Gross on materials would be the average selling price minus the material costs. We think of it that way.

Okay. Do you think that materially changes on a year-over-year basis and maybe will continue to on that spread going forward?

Certainly, what we try to do is part of our strategy to push price wherever we can, and to add more profitable products. When you see Temple being added, their gross on materials is much higher than, say, hot rolled product. So yeah, the strategy continues to be let's push price and let's push that spread as much as we can.

Yeah, but you do see yield improvement over the last couple of years. I think that's the nature of your question, Martin. But it's really a testament to the job that that team does and honestly how unique that offering is. Because when you do as much as we do from a value-added perspective, and from a partnering with our customers' perspective, it's simply worth more and less commoditized. That's something we do pretty well and we're proud of.

Yes, that's the main point I wanted to emphasize. In previous years, if we consider holding gains and losses, it was around $40 to $50 per ton. In fiscal 2022, it was $56, and in fiscal 2023, it increased to $62, which includes capital costs. It seems like there has been some improvement over time, and the potential for normalization in the long term appears to be favorable. Thank you, that clarification is helpful. You already mentioned holding gains and the EBITDA in the sustainable energy segment, which has generally improved this past year despite a tough market. You noted that pricing was influenced by some factors in the fourth quarter. Was the unit profitability just an anomaly, or should we expect it to reflect improved run rates in the upcoming quarters?

Yeah, I would say it wasn't an anomaly. However, it's also not the beginning of a trend, Martin. The first quarter for that business is always going to have some headwinds because of the August shutdowns in Europe and things like that. Ultimately, that business is continuing to invest in the transition that we discussed, the global transition to low and zero emissions mobility, but in the meantime, they're buffeted by what's happening in Europe and some of the other things that will challenge them. We expect them to certainly do their level best to improve every month and every quarter. We hope to see growth in their profitability over the next year, but it's going to be in fits and starts and a little choppy.

What are you hearing from your customers in the Euro footprint for that business? I understand there's a strong seasonality on a sequential basis that you just highlighted coming up here. But what are you hearing, what are you seeing anticipating? Maybe thinking of the current quarter fiscal 1Q relative to last year, like the demand level of activity. Is this something that will be slightly down, comparable, or is that it's starting to pivot and kind of come up off the bottom even?

With SES, I mean, the conversations we have with customers, Martin, are further out than that. These are our plans, this is what we hope to be able to accomplish in the next three or four years. We ultimately believe the inflection point for that industry is still several years away from that kind of hockey stick. Thus, we will continue to participate, help innovate and drive some of those conversations forward. However, we feel good about the investments we've already made, which will position us as a key part of that supply chain. But the market still has to grow. When there's ongoing war and all the disruption, everybody's plans get thrown out. The European economy has reflected that over the last year and a half and we see that continuing.

Okay, excellent. One last one, any budgeted tax rate for fiscal '24?

No reason that should be materially different than it was this year.

Okay, excellent. Congratulations on the results. Thank you.

Thank you.

The next question is from Phil Gibbs with Keybanc Capital Markets. Your line is open.

Hey, good morning.

Good morning, Phil.

On the site at WAVE, profits are up nicely year-over-year. Was that largely driven by spreads or volume? Or do we have a little bit of a mix of both?

I think as you know, Phil, this business goes in cycles around what steel pricing is doing. This quarter, we saw a bit of margin expansion from the business. Their end market has remained pretty steady; however, we anticipated a bit of volume softness there. But for the time being, their business is pretty good, and margins are solid.

Thanks, Andy. Regarding automotive, there seem to be mixed signals, with a lot of back and forth changes. What are you seeing in your automotive business in terms of polls and expectations or any model changes that you're focused on? Just looking for an update on the broader picture.

Yes, from an automotive standpoint, year-over-year, we were up about 7%, and North American production was up about 7% as well. For the year, IHS is predicting 15 million units for calendar '23, which is a 5% increase over last year's 14.3 million. While 15 million units sound strong, it's still quite far behind the units produced on average in '19 and '18, which were around 16.6 million. Supply chain problems still exist. However, we think automotive production will be up about 5% this year.

Thank you. As it relates to the separation coming in the next couple of quarters, will there be any need for IT investment or transition? I assume most of that has been set up over the last few years, but do you need to undertake any material systems modifications before that point?

Well, it's an opportunity to give a shout-out to our IT group; they are excellent at keeping us running consistently. They are managing a lot of the burden of the separation, as that's where much of the work needs to occur. The short answer is, there's a little investment required, but it's minor relative to our total CapEx in terms of what we need to do to separate. Some will happen before we separate, but some will happen post-separation. It's not a material investment that is needed.

It's a little unique to us, but the business currently operates on different ERP systems. So they're a bit more portable than a situation where you'd have to carve something out of a different company. More broadly, regarding the Worthington 24 process, while everybody asks about timelines, we filed our initial Form 10 with the SEC during our Q4, and are in that process. With our fiscal year just ended, we'll complete our audit in the next month or so, and we hope to get that on file with the SEC and start those conversations from there.

Thanks, guys. Good job.

Thank you.

The next question is from John Tumazos with John Tumazos Very Independent Research. Your line is open.

Thank you very much for $12 or $13 of earnings the last two years with steel prices falling to $1,250 a ton. It boggles my mind; you did so well. Congratulations. I wish I could shine your shoes.

That's very kind of you, John. But we believe our steel processing business is the best around, and they are showcasing what they can do.

How much was the total percentage for 2023?

Total percentage in 2023, for the entire fourth quarter, was 43%.

So, the total percentage in 2023, for the entire fourth quarter, was 43%.

It was probably not a lot higher than that, John, for the fiscal year. This was the first quarter where we saw year-over-year growth in tolling, mostly due to the geographies where they are and some of their mill partners getting back up and going.

In the fiscal year just ended, the steel processing volumes fell 272,000 tons. If we have a 5% rebound in fiscal 2024, in-line with the auto production, for example, it would only make up about half of that lost ground. What are the segments in steel processing that are declining? I thought that reshoring and lower steel imports wouldn't be helping you.

We had some divestitures in prior quarters; we exited our facility in Decatur, Alabama, which was a direct sales facility only. We also exited a toll processing facility in Jackson, Michigan. You’ve got some divestiture noise that you're overcoming in those figures.

Yeah, John. In Q4, specifically excluding divestitures, our direct tons were down 1%, while total tons were actually up 8%. As Tim mentioned, we are seeing some headwinds in the construction space, but automotive is growing a bit from recessionary levels. Since that's our largest market, it picks up some of the slack and addresses some of the year-over-year weakness in construction.

Concerning the demerger, do you think it would be unreasonable to estimate $300 million or larger buybacks the first year from the combined companies? I'm estimating that steel dynamics is under a six PE on current earnings and new core under eight. I'm a bit concerned that the Steel Processing business has a discounted PE and sympathy to that. The RemainCo of diverse construction and cylinder and WAVE and Dietrich businesses doesn't have an exact comparable and might get misunderstood like a little mini conglomerate. So it's not clear to me that the combined valuation is a lot more. Maybe I'm just saying tongue-in-cheek; your legal and banking advisors encourage you to do it at a hefty asset fee of $24 million. But do you think it's unreasonable to expect much larger buybacks in the coming year out of concern that these two companies won't trade as well as your current 10 PE-ish?

Well, a couple of things, John. First, we didn't do this spin because our bankers and lawyers encouraged us to. We did it because we believe it's the right thing to do for our shareholders and for the long-term value creation of the company, employees, and other stakeholders. I will say while we have not been buying back stock this year, we've tried to bolster our balance sheet to ensure both companies have a tremendous amount of liquidity and low leverage to take advantage of opportunities. It's tough to say right now what those opportunities might be. If you followed us for a long time, you know we allocate capital based on where we see the best opportunities. Sometimes these could be acquisitions, other times share repurchase when we think there - is value there. However, it's somewhat of a black box in terms of how these companies will trade when we separate, as you correctly identified. We are bullish both companies will trade at premiums to their peer groups, but we'll have to see how it shakes out, which will help determine where our free cash flow is best invested.

Thank you. I'm just lazy and cranky. I'd like to rebuild my models when you change your segment.

Thank you, John.

And it appears that we have no further questions. I'll turn it back over to the presenters for any closing comments.

Great. Thanks, everyone for your time today. We appreciate you joining us and encourage everybody to have a great July 4 holiday. We'll speak to you in September. Thanks, guys.

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