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Reconciliations of these measures to the most directly comparable GAAP measures are included in the appendix and posted on our website.
I'm pleased to share we've delivered another strong quarter and continue to be ahead of plan for the year.
I'll walk through the specifics in a moment, but I couldn't be more pleased with the strong execution demonstrated by the team, both operationally and financially.
We continue to deliver every day for our customers, coworkers and for you, our investors.
Earlier this month, we completed the sale of EnerBank, grossing over $1 billion in proceeds.
The sale of the bank simplifies and focuses our business model squarely on energy, primarily the regulated utility, an important step as we continue to lead the clean energy transformation.
The proceeds from this sale will fund key initiatives in our utility business related to safety, reliability, resiliency and our clean energy transformation.
As shared in previous calls, we have eliminated our equity needs from 2022 through 2024.
The keyword there, continued.
As we double down on the clean energy transformation, I'm also pleased to share that we received approval for our Voluntary Green Pricing program, which would add an additional 1,000 megawatts of owned renewable generation to our growing renewable portfolio.
This program is in high demand and currently oversubscribed.
And more importantly, it's what our customers are asking for, an important step in offering renewable energy solutions for our customers.
As we prepare for the grid of the future, we have a highly visible and detailed capital plans outlined in our recently filed electric distribution infrastructure investment plan.
This plan provides a 5-year view of the projects down to the circuit level where we plan to invest to ensure the reliability and resiliency of our electric infrastructure and aligns with our operational and financial plans.
As always, we balance these investments with customer affordability.
Our prices remain competitive as the average residential customer pays about $2 a day to heat their home and $4 a day to keep the lights on.
And because we know our most vulnerable customers still struggle, our team has mobilized resources at the state and federal levels to ensure their protection.
In fact, as we approach the winter heating season, our 90-day arrears are back to prepandemic levels with an 80% reduction in our uncollectible accounts.
Our commitment to identifying and eliminating waste means that we keep our prices affordable.
This commitment is evident in our results.
In the first nine months of this year, we surpassed our full year cost reduction target of more than $40 million.
The CE Way is in our DNA, and we continue to deliver savings in the near term and well into the future.
Speaking of the future, this year, we grew our EV program with PowerMIFleet.
This is part of our long-term planning in collaboration with Michigan businesses, governments and school systems looking to electrify their vehicle fleets.
Within just a few months of the program introduction, we were working with nearly 20 different customers on their fleets and have another 50 who have indicated interest in the next tranche, exceeding our expectations.
This is an important contribution to our long-term sales growth.
And finally, one of my favorites which speaks to our culture, our coworkers and our ability to attract the best talent.
Our commitment to diversity, equity and inclusion continues to be recognized nationwide and most recently by Forbes, where we were ranked the #1 utility in the U.S. for both America's best employers for women and #1 for diversity, delivering excellence every day continues to position the business for sustainable long-term growth.
Strong execution leads to strong results.
but two are linked.
One drives the other.
In early August, we experienced one of the worst storms in our company's history.
Our team established and into command structure to deploy resources and took decisive action to restore customers.
We had a record number of crews on our system.
The speed of our response led to the highest positive customer sentiment we have ever received during a major storm.
During the storm, we had more than 3,700 members of our team working around the clock to safely restore customers.
Like we do every year, through storms, pandemics, and on seasonal weather, we continue to deliver.
And when there's upside, we reinvest.
This is the CMS model of responding to changing conditions that allows us to deliver consistently year after year.
Year-to-date, we've delivered ahead of plan with adjusted earnings per share of $2.18 for continuing operations.
Our strong performance, coupled with the completion of the EnerBank transaction and the financial flexibility that provides -- gives us further confidence in our ability to meet our full year guidance, which we've raised to $2.63 to $2.65 from $2.61 to $2.65 for continuing operations.
For 2022, we are reaffirming our adjusted full year guidance of $2.85 to $2.87 per share.
And our continued strong performance in 2021 builds momentum for 2022 and beyond.
Longer term, we are committed to growing our adjusted earnings per share toward the high end of our 6% to 8% growth range as we highlighted on our Q2 call.
As previously stated, we are committed to growing the dividend in 2022 and beyond.
That's what you expect, why you own us, and we know it's a big part of our value.
As we move forward, we continue to see long-term dividend growth of 6% to 8% with a targeted payout ratio of about 60% over time.
Many of you have asked about gas prices and the impact on our business and more importantly, our customers.
Let me tell you about our gas business.
We have one of the largest storage field in the U.S. and compressing resources to match.
That is a significant advantage.
We started putting natural gas into our storage field in April and continued throughout the summer when natural gas prices were low.
Right now, our fields are full and ready to deliver for our customers' heating needs throughout the winter months.
Most of the gas is already locked in at just under $3 per thousand cubic feet, which is well below current levels in the spot market and offers tremendous customer value.
Given the operational certainty of storage as well as the financial protection of a pass-through clause, our customers stay safe and warm all winter long and have affordable bills.
Heat in Michigan is not an option.
And we don't leave it up to the market.
We buy, store and deliver.
That's what we do.
Michigan's strong regulatory construct is known across the industry as one of the best.
It includes the integrated resource plan process, which is a result of legislation designed to ensure timely recovery of the necessary investments to advance safe, reliable and clean energy in our state.
It enables the company and the commission to align on long-term generation supply planning and provide certainty as we invest in our clean energy transformation.
Here's what I like about our recently filed IRP.
There is a win in it for everyone.
It is a remarkable plan that addresses many of the interests of our stakeholders and ensure supply reliability.
It reduces costs and it delivers industry-leading carbon emission reductions.
We continue to have constructive dialogue with the staff and other stakeholders, and we anticipate seeing their positions later today.
I'm pleased to offer the details of another strong quarter of financial performance at CMS, as a result of solid execution across the company.
As a brief reminder, throughout our materials, we report the financial performance of EnerBank as discontinued operations thereby removing it as a reportable segment in reporting our quarterly and year-to-date results from continuing operations in accordance with generally accepted accounting principles.
Now on to the results.
For the third quarter, we delivered adjusted net income of $156 million or $0.54 per share.
The key drivers for the quarter were higher service restoration expenses, attributable to the August storms that Garrick mentioned and planned increases in other operating and maintenance expenses in support of key customer and operational initiatives.
These sources of negative variance for the quarter were partially offset by favorable weather, the continued recovery of commercial and industrial sales in our electric business and higher rate relief net of investment-related expenses.
Year-to-date, we've delivered adjusted net income of $628 million or $2.18 per share, which is up $0.19 per share versus the first nine months of 2020, exclusive of EnerBank's financial performance.
All in, we continue to trend ahead of plan and have substantial financial flexibility heading into the fourth quarter.
The waterfall chart on Slide eight provides more detail on the key year-to-date drivers of our financial performance versus 2020.
For the first nine months of the year, rate relief continues to be the primary driver of our positive year-over-year variance to the tune of $0.45 per share given the constructive regulatory outcomes achieved in the second half of 2020 for our electric and gas businesses.
As a reminder, our rate relief figures are stated net of investment-related costs such as depreciation and amortization, property taxes and funding costs at the utility.
This upside has been partially offset by the aforementioned storms in the quarter, which drove $0.16 per share of negative variance versus the third quarter of 2020 and $0.11 per share of downside on a year-to-date basis versus the comparable period in 2020.
To round out the customer initiatives bucket, planned increases in our operating and maintenance expenses to fund safety, reliability and decarbonization initiatives added the balance of spend for the first nine months of the year, which, in addition to the August storm activity, added $0.35 per share of negative variance versus the comparable period in 2020.
As a reminder, these cost categories are still net of cost savings realized to date, which as Garrick mentioned, have already exceeded our target for the year with more upside to come.
To close out our year-to-date performance, we also benefited from favorable weather relative to 2020 in the amount of $0.07 per share and another $0.02 per share of upside, largely driven by recovering commercial and industrial load.
As we look ahead to the remainder of the year, we feel quite good about the glide path for delivering on our earnings per share guidance range, which has been revised upward to $2.63 to $2.65 per share, as Garrick noted.
As we look ahead, we continue to plan for normal weather, which in this case, translates to $0.06 per share of positive variance, given the absence of the unfavorable weather experienced in the fourth quarter of 2020.
We'll also continue to benefit from the residual impact of our 2020 rate orders, which equates to $0.07 per share and is not subject to any further MPSC actions.
And we'll make steady progress on our operational and customer-related initiatives which are forecasted to have a financial impact of roughly $0.07 per share of negative variance versus the comparable period in 2020.
Lastly, we'll assume the usual conservatism in our utility non-weather sales assumptions and our nonutility segment performance.
All in, we are pleased with our strong execution to date in 2021 and are well positioned for the remainder of the year.
Turning to Slide 9.
I'm pleased to highlight that this year's financing plan has been completed ahead of schedule.
In the third quarter, we issued $300 million of first mortgage bonds at a coupon rate of 2.65%, one of the lowest rates ever achieved at Consumers Energy.
We also remarketed $35 million of tax-exempt revenue bonds earlier this month at a rate of under 1% through 2026.
Due to the strong execution implied by these record-setting issuances coupled with the EnerBank sale, which provided approximately $60 million of upside relative to the sale price announced at signing, we now have the flexibility to reduce our equity needs for the year even further, which will now be limited to the $57 million of equity forwards we have already contracted.
Our simple investment thesis has stood the test of time and continues to be our approach going forward.
It is -- it's grounded in a balanced commitment to all our stakeholders, enables us to continue to deliver on our financial objectives.
As we've highlighted today, we've executed on our commitment to the triple bottom line through the first nine months of the year.
We're pleased to have delivered strong results.
We're positioned well to continue that momentum into the last three months of the year as we move past the sale of the bank and continue progress to the IRP process.
This is an exciting time at CMS Energy.
With that, Rocco, please open the lines for Q&A. | sees fy adjusted non-gaap earnings per share $2.63 to $2.65 from continuing operations.
reaffirms fy adjusted earnings per share view $2.85 to $2.87.
q3 adjusted earnings per share $0.54 from continuing operations.
q3 earnings per share $0.54 from continuing operations.
sees fy 2021 adjusted earnings from continuing operations in the range of $2.63 per share to $2.65 per share.
raised its full-year 2021 adjusted earnings from continuing operations guidance to $2.63 to $2.65 per share.
reaffirmed 2022 adjusted earnings guidance of $2.85 - $2.87 per share. |
Reconciliations of these measures to the most directly comparable GAAP measures are included in the appendix and posted on our website.
I've had the pleasure of meeting many of you over the past couple of months as I've transitioned into the CEO role.
I'm excited to be hosting my first earnings call and sharing yet another year of consistent industry-leading financial performance.
Before I discuss our year-end results and our updated five-year capital investment plan, I want to take a moment to reiterate our simple but powerful investment thesis, was simple to put on paper it's not easy to replicate, and that is what sets us apart.
It starts with our industry-leading commitments to clean energy.
Our net zero methane and carbon goals require significant investment as we update our expansive electric and gas systems to achieve decarbonization.
These investment opportunities are supported by constructive energy legislation as well as alignment with our Commission and the MPSC staff.
This strong regulatory and legislative framework is why Michigan is consistently ranked a top tier regulatory jurisdiction.
But investment opportunities in a supportive regulatory environment are not enough.
Our focus on affordability is critical, so our customers can afford these investment.
Now, I've been with the company for 18 years, much of it in operations.
Over that time, we've demonstrated our ability to consistently manage costs as we've invested in the safety and reliability of our systems while improving customer service.
That ability to manage costs is not driven from the top down but from the bottom up.
It's our 8,500 coworkers who are committed to excellence, delivering the highest value to our customers at the lowest cost possible.
This is embedded in our culture and was built in partnership with our union over the last two decades.
These unique attributes to the CMS story or would allow us to deliver for our customers and you, our investors.
Our adjusted earnings per share growth of 6% to 8% combined with our dividend provides a premium total shareholder return of 9% to 11%.
Our ability to deliver this growth each and every year is something we are uniquely capable of doing.
Regardless of weather, a global pandemic, who is leading our state, our Commission or our company, we have delivered consistent industry-leading results year-in and year out 2020 proved this, 2021 will be no different.
In 2020, we delivered adjusted earnings per share of $2.67, up 7% from 2019 and achieved operating cash flow of almost $2 billion, excluding $700 million of voluntary pension contributions in 2020.
Today, we're raising our adjusted earnings per share guidance for 2021 by $0.01 to $2.83 to $2.87 with a focus on the midpoint.
This reflects annual growth of 6% to 8% from our 2020 results.
Last month, we announced our 15th dividend increase in as many years, $1.74 per share, up 7% from the prior year.
We continue to target long-term annual earnings and dividend per share growth of 6% to 8%, again with a focus on the midpoint.
Today, we're also increasing our five-year capital plan to $13.2 billion, up $1 billion from our prior plan.
18 consecutive years of industry-leading financial performance.
I'll let that sit with you for a moment.
I'm pleased with our financial performance, but equally important is our commitment to the triple bottom line.
We balanced everything we do for our coworkers, customers and the communities we serve, our planet and our investors as demonstrated on Slide 6.
2020; 2020 was a tough year for everyone, the global pandemic impacted all of us emotionally, physically and financially.
Through it all, I'm proud of the work done by our coworkers.
We were able to provide over $80 million of support to our customers and communities in 2020 through support programs, low-income assistance, donations to foundations and reinvestment to improve safety and reliability.
We focused our efforts on COVID relief for residential and small business customers, payment forgiveness as well as enhanced support in the area of diversity, equity and inclusion.
This quite change in our work practices as a result of the pandemic, we maintained first quartile, employee engagement, achieved first quartile customer experience and attracted 126 megawatts of new load to our state, which brings with it significant investment and over 4,000 new jobs.
From a planet perspective, we continue to lead the clean energy transition.
We added over 800 megawatts of new wind and are executing on 300 megawatts of new solar.
The first tranche of our integrated resource plan.
Furthering our commitment, over $700 million of investments were made to advance our clean energy transition, additionally, our demand response and energy efficiency programs continue to save our customers money, reduce carbon and earn an incentive.
And last but certainly not least we finished the year with more than $100 million in cost savings driven by the CE Way.
Many of you have asked about my commitment to the CE Way, light blue arrow at the bottom of this slide in my experience leading this operating system over the past five years should be a strong signal.
I'll tell you this, we are positioned well but there is still more opportunity.
Through the CE Way, we will continue to improve reliability, reduce waste and deliver better customer service.
And that is just the tip of the iceberg, there are opportunities in every corner of the company to achieve excellence through the CE Way.
My coworkers and I remain committed.
We will continue to lead the clean energy transition with support from our new five-year $13.2 billion capital investment plan, which translates to over 7% annual rate base growth and focuses on enhancing the safety and reliability of our systems, as we move toward net zero carbon and methane emissions.
In fact, 40% of our plan directly supports our clean energy transition and includes our renewable generation, electric distribution investment to support this generation, grid modernization as well as programs like our main invented service replacement programs which reduce methane emissions.
In addition to our traditional rate base returns, our wind investments, renewable PPAs and demand side resources are supported by regulatory incentives above and beyond our ROE.
These incremental earnings mechanisms enhance our earned returns and combined with our investments in clean energy, our growing percentage of our earnings mix.
Our customers' ability to afford the investments in our system is complemented by our continued focus on cost savings.
Over the last decade, we have reduced the utility bill as a percentage of the customer's wallet and we continue to see further opportunity to reduce costs in the future.
We have unique cost saving opportunities relative to peers and two above market PPAs, Palisades and MCV, which will generate nearly $140 million of power supply cost recovery savings.
This coupled with the future retirement of our remaining coal facilities provides over $200 million or 5% cost savings for our customers.
These structural cost savings combined with the productivity we will deliver through the CE Way will ensure we deliver on our capital plan and keep customer bills affordable.
Now the great thing about the CE Way is it delivers more than cost savings.
What makes us unique is our engaged coworkers, we value our best-in-sector employee engagement and our 8,500 coworkers who work every day to deliver the best value for our customers.
This engaged workforce has doubled productivity which has enabled us to consistently increase our capital plan without significantly increasing our workforce.
Furthermore, we have never served our customers better as we move from the bottom quartile to top quartile not just in the utility industry but across all industries.
Slide 9 serves as an excellent example of how our team leverages the CE Way to deliver on our triple-bottom line.
Our ability to deliver this level of excellence for our customers and investors supported is by Michigan's constructive regulatory environment.
We benefit from a legislative and regulatory construct that supports our rate case proceeding and a statute that allows for financial incentives above and beyond current authorized ROE.
Michigan's regulatory jurisdiction has been ranked in the top tier since 2013.
That's not by accident, it's a reflection of the hard work my coworkers do every day to earn the trust of our customers, policy makers, environmental groups, EMV and MPSC Staff.
Turning to Slide 11, you know, we have a light regulatory docket with no financially significant regulatory outcomes in 2021.
With the approval of our current securitization and electric rate case in December of last year, we'll file our next electric rate case in the first quarter and our gas rate case in December of this year.
Notably, we'll file our second iteration of our integrated resource plan in June.
I'm sure many of you would like a sneak peek, but it's too early, we're in the midst of the modeling phase.
You can be confident that this next iteration will continue to build on industry-leading clean energy commitments and we'll find ways to get cleaner, faster and a corporate storage in customer-driven solutions as they become more cost effective.
Beyond that we'll ask you to stay tuned until our second quarter earnings call, we will provide more information after we file.
We're pleased to report our 2020 adjusted net income of $764 million or $2.67 per share, up 7% year-over-year off our 2019 actuals.
To elaborate on the key drivers of our year-end results, we realized increases in rate relief net of investments due to constructive orders in our recent gas and electric rate cases, strong performance in our non-utility segments and most notably our historic companywide cost reduction efforts led by the CE Way which Garrick noted earlier.
These positive factors were partially offset by mild weather and reinvestments or flex up back into the business.
We've talked in the past about our practice of flexing up, which enables us to put financial upside to work in the second half of the year to pull ahead or connect to work to improve the safety and reliability of our gas and electric systems to fund customer support programs, which was particularly important in 2020 given the effects of the pandemic, invest in coworker training programs and derisk our financial plan in subsequent years.
This tried and true approach benefits all stakeholders, which is the absence of the triple bottom line of people, planet and profit.
On Slide 13, you will note that we met our key financial objectives for the year.
To avoid being repetitive with Garrick's earlier remarks, I'll just note that we invested $2.3 billion of capital in our electric and gas infrastructure to the benefit of customers, including investments in wind farms, which add approximately $500 million of RPS related rate base, which I'll remind you earns a premium return on equity of 10.7%.
I'll also note that our treasury team had a banner year successfully raising approximately $3.5 billion of cost effective capital which includes roughly $250 million of equity while navigating turbulent capital market conditions over the course of 2020.
These efforts further strengthened our balance sheet to the benefit of customers and investors.
Turning the page to 2021, as mentioned, we are raising our 2021 adjusted earnings guidance to $2.83 to $2.87 per share, which implies 6% to 8% annual growth off our 2020 actuals.
Unsurprisingly, the majority of our growth will be driven by the utility and I'll also note a modest level of anticipated upside at the parent and other segment in 2021, largely due to the absence of select non-operating flex items executed in 2020.
All in, we will continue to target the midpoint of our consolidated earnings per share growth range of 7% at year-end, which is in excess of the sector average.
To elaborate on the glide path to achieve our 2021 earnings per share guidance range, as you'll note in the waterfall chart on Slide 15, we'll plan for normal weather, which in this case amounts to $0.06 per share of positive year-over-year variance given the mild winter weather experienced in 2020.
Additionally, we anticipate $0.41 of earnings per share pickup in 2021 attributable to rate relief net of investment costs largely driven by the orders received in the second half of 2020.
It is also worth noting that the magnitude of earnings per share impact here is in part due to the absence of an electric rate increase in 2020 which was a condition of our 2019 settlement agreement.
While we do plan to file an electric case in Q1 of this year, as Garrick mentioned, the test year and economic impact for that case will commence in 2022.
As we look at our cost structure in 2021 you'll note approximately $0.27 per share of negative variance attributable to incremental O&M approved in our recent rate cases to support key initiatives around safety, reliability customer experience and decarbonization, needless to say we have underlying assumptions around productivity and waste elimination, driven by the CE Way and we'll always endeavor to overachieve on those targets while delivering substantial value for our customers.
Lastly, we apply our usual conservative assumptions around sales, financings and other items.
And I'll note that while the pandemic remains relatively uncontested, we are assuming a gradual return of weather normalized load to pre-pandemic levels around mid-year.
In the event, the mass teleworking trend persists and/or we see an accelerated reopening of the Michigan economy, we can potentially see some upside from incremental, residential and commercial margin.
As always we'll adapt to changing conditions and circumstances throughout the year to mitigate risks and increase the likelihood of meeting our operational and financial objectives.
We're often asked whether we can sustain our consistent industry-leading growth in the long-term given the widespread concerns about economic conditions or potential changes in fiscal, energy and/or environmental policy?
And our answer remains the same, irrespective of the circumstances, we view it as our job to do the worrying for you.
Our familiar earnings per share chart on Slide 16 illustrates one of our key strengths, which is to identify and eliminate financial risk and capitalize on opportunities as they emerge to deliver additional benefits to customers while sustaining our financial success over the long term for investors, each year provides a different fact pattern.
And we've always risen to the occasion.
2020 offered some unique challenges resulting from the pandemic and more familiar source of risk in the form of mild winter weather.
And as usual, we didn't make excuses instead we offer transparency, devise our course of action and counted on the perennial will of our 8,500 co-workers to deliver for our customers, the communities we serve, and for you, our investors.
To summarize our financial objectives in the near and long term, we expect 6% to 8% adjusted earnings per share and dividend growth and strong operating cash flow generation.
From a balance sheet perspective, we continue to target solid investment grade credit ratings and we'll manage the key credit metrics accordingly.
One item I'll note in this regard is that we have slightly modified our FFO to debt targets to align better with the various rating agency methodologies.
Given the increase in our five-year capital plan, we anticipate annual equity need of up to $250 million in 2021 and beyond, which we are confident that we can comfortably raise through our equity dribble program to minimize pricing risk.
And two additional items I'll mention with respect to our financial strength as we kick off 2021 that are not on the page but no less important are that we concluded 2020 with $1.6 billion of net liquidity, which positions our balance sheet well as we execute our updated capital plan going forward.
And we have fully funded benefit plans for the second year in a row due to proactive funding.
The latter of which benefits roughly 3,000 of our active co-workers and 8,000 of our retirees.
Our model has served and will continue to serve all stakeholders well.
Our customers receive safe, reliable and clean energy at affordable prices while our co-workers remain engaged well trained and cared for in our purpose-driven organization, and our investors benefit from consistent industry-leading financial performance.
As you'll note with the reasonable planning assumptions, rate orders already in place in our track record of risk mitigation, the probability of large variances from our plan are minimized.
And with that, I'll hand it back to Garrick for some final comments before Q&A.
Our investment thesis remains simple but unique.
It enables us to deliver for all our stakeholders year in and year-out.
We remain committed to lead the clean energy transition, excellence through the CE Way and delivering our premium total shareholder return through continued capital investment that benefits the triple bottom line.
With that, Racho, please open the lines for Q&A. | raised guidance for 2021 adjusted earnings to $2.83 - $2.87 per share. |
CNA performed extremely well in the third quarter with core income up 23% year-over-year despite the elevated catastrophe activity.
In the third quarter, core income was $237 million or $0.87 per share, driven by improved underlying underwriting performance and favorable Life & Group results.
Net income for the quarter was $256 million or $0.94 per share.
Gross written premium, excluding our captive business grew by 10% this quarter, fueled by excellent new business growth and continued strong price increases.
And importantly, momentum continued to build throughout the quarter.
As we expected, the transactional capability limitation that we mentioned last quarter, following the cyber security incident are now behind us.
Earned rate was 11% in the quarter, and written rate was 8%, which remains well above loss cost trends and which we believe portends continued progress toward building margin as the written premium earns in over a third renewal cycle in 2022.
Additionally, the tighter terms and conditions we have been able to secure during the hard market persists with no early signs of pressure to relax them.
I'll have more to say about production performance in a moment.
The all-in combined ratio was 100% this quarter, about a point lower than the third quarter of 2020, which included elevated catastrophes in both periods.
In the third quarter of 2021, pre-tax catastrophe losses were $178 million or 9.2 points of the combined ratio, which included $114 million for Hurricane Ida.
The P&C underlying combined ratio was 91.1%, a 1.5 point improvement over last year's third quarter results.
This is a record low for the third consecutive quarter.
After adjusting for the impacts of COVID in last year's third quarter, the improvement in our underlying combined ratio is actually 2.1 points.
The underlying loss ratio in the third quarter of 2021 was 60.2%, which is down 0.3 points compared to the third quarter of 2020.
Excluding the impacts of COVID in the prior year quarter, the underlying loss ratio improved by 0.9 points, and the decrease reflects our prudent acknowledgment of margin improvement.
As I've mentioned before, we increased our loss cost trends about 2 points over the last couple of years and classes impacted by social inflation.
This quarter, we increased our loss cost trends in property lines about 2 points because of the supply chain shortages, which have increased the cost of material and labor and don't look like they will revert back lower anytime soon.
This change pushed up our overall P&C loss cost trends marginally, and are now above 5%.
During the third quarter, earned rates are running close to 11%.
So, earned rate is exceeding loss cost trend by about 6 points.
Applying that to a 60% loss ratio should portend about 3 points of improvement in the quarter.
We have reflected about 1 point of improvement in the underlying loss ratio in the third quarter.
We are going to continue to be prudent in terms of acknowledging margins since the courts are just starting to open up and the dockets are only starting to clear.
The underlying combined ratio for Specialty was 89.6%, a 0.9 point improvement compared to last year, entirely from an improvement in the underlying loss ratio, while the expense ratio was comparable to the third quarter of 2020.
The all-in combined ratio was 88.2%, a 1.3 point improvement compared to the third quarter of 2020.
The all-in combined ratio for Commercial was 111.6% including 18.6 points of Cat compared to 111.3% in last year's third quarter including 17 points of Cat.
The underlying combined ratio for Commercial was 92.5%, which is the lowest on record and it's 1.2 points lower compared to last year and 2.3 points lower, excluding the COVID frequency impacts that reduced the loss ratio in 2020.
The underlying loss ratio improved by 0.4 points, excluding the COVID frequency impacts last year, while the expense ratio improved by 2 points.
Incidentally, compared to the second quarter of 2021, the underlying loss ratio is higher simply because of the resulting mix change between property and casualty net earned premium due to the new property quota share treaty we purchased in June.
In ceding [Phonetic] an annual estimate of property earned premium to the reinsurers in June, it altered the underlying loss ratio with a higher casualty mix going forward.
The underlying combined ratio for international improved by four full points to a record low of 91%.
This reflects at 2.8 point improvement in the expense ratio and a 1.2 point improvement in the underlying loss ratio, which was 58.9% in the quarter.
Importantly, as our reunderwriting has largely been completed in international, we've continued to see that benefit in the underlying loss ratio as well as a more modest catastrophe ratio from the meaningful reduction in our P&L exposures.
The all-in combined ratio of 95.5% compared to 98.1% in the third quarter of 2020, reflects the success of our reunderwriting strategy.
Now, turning back to production statistics.
As indicated earlier, our P&C operations had 10% growth in gross written premiums ex-captive which was 2 points above what we achieved in the first half of 2021 and 1 point above full year 2020.
Our growth in the quarter was fueled by strong new business growth of 24% and written rate of 8%, while retention was stable at 81%.
Net written premium growth for P&C was plus 5% for the quarter, up 4 points over the first half of the year.
Our specialty gross written premium growth ex-captive was plus 10%, driven by excellent new business growth of 40%, concentrated in affinity programs and management liability in continued strong rate of 9%.
This is our fifth consecutive quarter of double-digit growth in specialty notwithstanding that our retention in the third quarter was down about 5 points to 80%.
In the quarter, we continued our reunderwriting of the healthcare portfolio and we non-renewed a portion of our hospital medical malpractice business, because we could not achieve our required returns even after the rate increases we secured to-date.
Non-renewing this segment also lowered the rate increase for specialty this quarter, because it was the segment achieving some of our highest rate increases in recent quarters.
But improving our profitability is always our first priority and walking away from this business was the right action to take.
In Commercial, our gross written premiums ex-captives grew 10% in the quarter, representing an 8 point improvement over the second quarter's growth.
As we mentioned last quarter, commercial was disproportionately impacted by the cyber incident, as the majority of the underwriters in the branches are in the commercial business unit.
And so we expected to see the biggest rebound in commercial, now that it's behind us.
And we did indeed see that this quarter.
Commercial new business growth grew by 21% in the quarter with all segments contributing and retention increased 3 points to 83% compared to last quarter and rates increased 6%.
Although rates moderated in certain segments like national accounts, where rate increases were lower by 3 points, we still achieved a very strong 13% increase in the quarter, which is well above loss cost trends.
Our middle market rates were lower by 1 point this quarter, but we had a 7 point increase in retention to 84%.
We also achieved 2 points of exposure increase in Commercial in the quarter from higher payroll and sales compared to the third quarter of 2020.
Our international gross written premium growth was 16% for the quarter or 11% excluding currency fluctuation.
As we mentioned, with the reunderwriting actions behind us, we are focusing on growing the portfolio.
We continue to achieve strong rate in International at 13%, consistent with the second quarter.
Retentions have improved each quarter this year and stand at 79% in the quarter, up from 77% last quarter and 74% in the first quarter.
For P&C overall, prior period development was favorable by 0.3 points on the combined ratio.
Turning to Life & Group, we conducted our Annual Gross Premium valuation or GPV analysis on our active life reserves as well as a claim reserve review on our disabled life reserves.
There was no result in unlocking of the assumptions, which we believe is due to our continued prudent management of this run-off book and we now have $72 million of GAAP margin on the active life reserves.
The claim reserve review resulted in favorable development of $40 million on a pre-tax basis and Larry will have more detail on the Life & Group reserve analysis and our P&C prior period development.
Larry, of course, is no stranger to CNA.
He retired as CNA's Chief Actuary in August of last year after serving over a decade at CNA's Chief Actuary, during which time he worked hand-in-hand with the finance function.
Larry's willingness to come out of retirement has afforded us the time to accomplish a thorough search for this vital role which is going well and we expect to complete it soon.
Larry will also help facilitate a smooth transition with the incoming CFO.
I must say, it has been both a professional and personal pleasure working with the CNA executive team once again these past two months.
As Dino highlighted, the 23% increase in core income for the third quarter produced a core ROE of 7.7%.
Before providing more information on the financials, I will first discuss Life & Group.
As you know, each quarter -- each year in the third quarter, we complete our annual reserve reviews for Life & Group.
These reviews include our long-term care active life reserves, which we refer to as gross premium valuation or GPV as well as our long-term care and structured settlements claim reserves.
Slide 12 contains key demographic information about both our individual and group long-term care blocks.
As a reminder, both blocks are closed with no new policies issued for individual since 2004, and no new group certificates since 2016.
As a result, the average attained age for the individual block is 80 years old and the group block is 67.
While, the group block is less mature in age, you can see from the table on the top right of Slide 12 that the benefit features on average for the group block are less rich.
As we have discussed on past calls, we have proactively reduced risk in both blocks, while obtaining meaningful rate increases and using a prudent approach to setting assumptions in our reserve analysis, both for active life and claim reserves.
One clear result of our efforts is the 35% reduction in policy count since 2015, which is shown on the bottom left graph on Slide 12.
As we continue to push for needed rate, we also offer benefit reduction options to our policyholders as a means to avoid or mitigate rate increases.
This reduces the cost of future claims, while providing a viable option for our policyholders.
Also worth noting on Slide 12, our claim counts are down significantly over the past two years as can be seen in the graph on the bottom right.
Starting with the GPV analysis, the results of which are shown on Slide 13.
Our efforts involved a thorough review of all of our reserving assumptions, including critical factors related to morbidity, persistency, rate increases and discount rate.
The key result is that we did not have an unlocking event, and we now have margin in our GAAP carried reserves of $72 million.
Starting with the discount rate.
Recall, that last year we moved meaningfully on our assumption by lowering the normative risk free rate of 2.75% and increasing the gradient period for the risk free rate to rise to that level to ten years.
For the first three years of that 10-year period, as you might recall from last year's analysis, we used the forward curve.
We followed the same approach this year and the current forward curve has interest rates that are higher than the assumptions we locked in last year creating margin.
Given the higher rate interest rate environment, we also reviewed our estimates around the cost of care assumptions, and determined a small increase was warranted, which decreased margin.
Taken together, the changes resulted in creating the $65 million of margin disclosed in the table.
Turning next to Morbidity.
We refined our claim severity assumptions, specifically those related to utilization rates in our group block, expected recovery rates and claim side as mixed, which together drove margin improvement of $205 million.
Importantly, we did not include our favorable experience in 2020 due to COVID-19 as part of the datasets that are analyzed to update the long-term assumptions.
Not including the 2020 experience is further evidence of the prudent approach we take with our reserving assumptions.
With respect to persistency, the key assumption change was a decrease in healthy life mortality.
While, this result may seem counterintuitive as the pandemic caused elevated mortality, we excluded the impacts from the pandemic when setting our long-term GPV assumptions as we do not believe this recent elevated mortality will persist over the duration of our liabilities.
Rather, the assumption change is from a periodic review of past policy terminations to better determine our attribution between mortality and lapse.
For this year's review, we used external data sources to obtain data at a more granular level to examine the terminations over multiple past years.
The result of that effort was a slightly lower level of mortality than we had used in the 2020 assumptions.
Of course, even a slight change in mortality rate applied against the entire tail of the portfolio will have a leveraged effect and these assumption changes resulted in margin deterioration of $233 million.
We will continue to monitor active life mortality, relative to our revised assumptions to see how our approach plays out.
Regarding future premium rate increases, our actual rate achievement over the past year exceeded our assumption in last year's analysis, contributing $27 million to the favorable margin increase.
As you may recall, our prudent approach is to include rate increases that have been approved; filed, but not yet approved, or that we plan to file as part of a current rate increase program.
As a result, the weighted average duration of future rate increase approvals assumed in reserves is less than two years.
As you can see on Slide 13, the cumulative impact of these changes, including a slight margin improvement of $8 million from lowered operating expenses, resulted in a reserve margin of $72 million in our carried reserves, while continuing to use a prudent set of reserve assumptions.
As a result, there is no need to have an unlocking event and we feel good about the reserves.
In addition to the GPV, we concluded our annual long-term care claims reserve review, which is a review of the sufficiency of our reserves for current claims.
The impact from this review was favorable, driven by lower than expected claims severity.
Specifically, we observed higher claim closure rates, most notably driven by mortalities.
The favorability, which flows through to our bottom line was a pre-tax benefit of $41 million -- $40 million or $31 million on an after-tax basis.
Turning to Slide 14.
Our overall Life & Group segment produced core income of $41 million in the third quarter, which compares to a third quarter 2020 loss of $35 million.
In addition to the $31 million favorable impact from the annual long-term -- long-term care claims review that I just discussed, activity in the quarter contributed another $10 million to core income, as we had strong net investment income performance predominantly from our alternative investments portfolio.
Returning now to financial results, our third quarter 2021 pre-tax underlying underwriting profits increased 28% on a year-over-year basis, driven by the 6% growth in net written premium and a record low underlying combined ratio.
A key component of the combined ratio improvement is the expense ratio.
The third quarter 2021 expense ratio of 30.7% was 1.1 points lower than last year's third quarter.
Our Commercial and International segments drove the overall improvement, as commercial improved 1.9 points to 30.4% and International improved 2.8 points to 32.1%.
Our focus on expense discipline as we grow the Company has driven meaningful expense improvement.
And this quarter's result reinforces the success of our strategy.
Of course, as we have mentioned before, the improvement will not be a straight line down because, we continue to make investments in talent, technology and analytics, which in any one period can materially vary.
As this quarter's expense ratio reflected somewhat less investment, we believe a more appropriate expectation on run rate is 31%.
For the third quarter, overall P&C net prior period development impact on the combined ratio was 0.3 points favorable, compared to 0.4 points favorable in the prior year quarter.
Favorable development was driven by surety in the specialty segment, somewhat offset by amortization of workers' comp tabular reserves in the commercial segment.
In terms of our COVID reserves, we made no changes to our COVID catastrophe loss estimate following an in-depth review during the quarter, and our loss estimate is still virtually all in IBNR.
Total pre-tax net investment income was $513 million in the third quarter compared with $517 million in the prior year quarter.
The results included income of $77 million from our limited partnership in common stock portfolios as compared to $71 million on these investments from the prior year quarter.
The strong LP returns for the quarter across both the P&C and Life and Group segments were significantly driven by private equity investments and reflected the lag reporting results from the second quarter.
As a reminder, our private equity funds primarily report results on a three-month lag basis, whereas our hedge funds primarily report results on a real-time basis.
Our fixed income portfolio continues to provide consistent net investment income, stable relative to the last few quarters and modestly down relative to the prior year quarter.
The year-over-year decrease reflects lower reinvestment yields due to the ongoing low interest rate environment with pre-tax effective yields on our fixed income holdings of 4.3% during the third quarter of 2021, compared to 4.5% during the third quarter of 2020.
However, our strong operating cash flows have fueled the higher investment base with the book value of the fixed income portfolio growing by $1.5 billion over the past year.
From a balance sheet perspective, the unrealized gain position of our fixed income portfolio was $4.8 billion at quarter-end, down from $5.1 billion at the end of the second quarter, reflecting a slightly higher interest rate environment.
Fixed income invested assets that support our P&C liabilities and Life & Group liabilities had effective duration of 5.1 years and 9.3 years respectively at quarter-end.
Our balance sheet continues to be very solid.
At quarter-end, shareholders' equity was $12.7 billion or $46.67 per share.
Shareholders' equity excluding accumulated other comprehensive income was $12.3 billion or $45.39 per share, an increase of 8% from year-end 2020 adjusting for dividends.
We have a conservative capital structure with a leverage ratio of 18% and continue to maintain capital above target levels in support of our ratings.
In the third quarter, operating cash flow was strong once again at $669 million.
In our P&C segments, the paid to incurred ratio was 0.75%, consistent with the last two quarters.
Contributors to this include our growth, which increases the incurred losses while paid losses lagged, especially for casualty lines, as well as the ongoing impact of slowed court dockets.
Certainly, the occurrence of catastrophe events in a given quarter and the payout over subsequent quarters impact this ratio as well.
In addition to strong operating cash flow, we continue to maintain liquidity in the form of cash and short-term investments and together they provide ample liquidity to meet obligations and withstand significant business variability.
Finally, we are pleased to announce our regular quarterly dividend of $0.38 per share.
Before opening the call for the Q&A session, I'd like to offer a few comments about how we see the marketplace that we compete in evolving.
Most importantly, we see the market remaining very favorable throughout 2022.
We continue to build momentum in new business growth and retention, and rate increases should remain above long-run loss cost trends for most of 2022 in light of the headwinds of social inflation, elevated Cat activity, low interest rates and the additional headwind of economic inflation emanating from the protracted supply chain dynamics.
Although rates have moderated from the high watermark of the fourth quarter of last year, it is premature to assume it will continue down on a straight line due to the uncertainty of the strength of the headwinds.
In the third quarter, we saw pricing inflections as a response to pressure on those headwinds.
As an example, momentum on cat exposed property pricing picked up immediately after Hurricane Ida.
And the supply chain issues creating higher cost of labor and materials are partially offsetting the benefit of the price increases, leading to a greater awareness that additional rate is required in property for a longer period of time.
Similarly, notices of seemingly outsized jury awards in the industry reminds us that social inflation was merely obfuscated during the pandemic, and by no means extinguished, which should allow continued strong pricing in most casualty lines.
Indeed, we are seeing similar strength in our price increases early in the fourth quarter.
Bottom line, we believe written rate increases will persist above loss cost trends in 2022 leading to earned rates above loss cost trends for a third year in a row, which portends well for margin build all else equal.
And we remain very bullish about our ability to increasingly take advantage of the opportunities this continuing favorable marketplace affords us. | compname announces third quarter 2021 net income of $0.94 per share and core income of $0.87 per share.
q3 core earnings per share $0.87.
q3 earnings per share $0.94.
qtrly book value per share of $46.67.
qtrly book value per share excluding aoci of $45.39. |
I am pleased to share our fourth quarter results and our full-year performance in what was clearly an unprecedented year.
Importantly, our industry rose to meet the challenges and effectively deliver on our commitments.
I'm very proud of our CNA employees who effectively served the needs of our agents and brokers, as well as our insurers, and have positioned us well to continue to take advantage of the hardening market conditions.
Before I provide detail on the quarter, here are a few highlights for the full-year.
Core income was $735 million, or $2.70 per share, and net income for the year was $690 million, or $2.53 per share.
This compares to $979 million and $1 billion in 2019, respectively.
The shortfall from the prior year primarily attributed to the impact of the elevated pre-tax catastrophe losses of $550 million, which included our reserve charge for the pandemic of $195 million that we announced in the second quarter of 2020 as compared to $179 million of catastrophe losses in 2019.
On the other hand, our P&C underlying underwriting profit for the full-year increased 38% to $498 million as the underlying combined ratio improved 1.7 points to 93.1%.
It is the fourth consecutive year of improvement in the underlying combined ratio.
The improvement in the underlying combined ratio came from both the loss ratio and the expense ratio.
Our underlying loss ratio improved 0.8 points from 2019.
A half a point of the improvement reflected the favorable claim frequency from the shelter-in-place directives.
The frequency benefit was relatively muted for us because, as I said on the second quarter call, a substantial portion of our insureds are in essential industries, such as healthcare, construction and manufacturing, which were not subject to shelter-in-place restrictions.
The expense ratio improved 0.9 points from 2019 to 32.6%, which reflected our disciplined approach to managing expenses as we grow the business and continue to make meaningful investments in talent, technology and analytics.
The all-in combined ratio was 100.9% with 7.7 points of catastrophe losses and flat prior period development.
Gross written premium growth ex-captives grew 9% in 2020 despite the impacts of the economic downturn, which reduced our exposure almost 3 points from the prior year.
Net written premium increased 6% for the full-year.
We successfully achieved rate increases of 11% for the full-year, more than double our 2019 rate increases, and new business was up 6% for the year.
We continue to leverage this hardening market to build margin, all else equal, as rates continue to earn-out above our long run loss cost trends.
The 11% of written rate we achieved in 2020 was 8 points on an earned basis for the full-year, while our long run loss cost trends were about 4 points.
However, as I have said before, we are going to continue to be prudent on how we act on any margin due to the global pandemic's disruptive impact obfuscating claim trends [Phonetic], in particular social inflation.
Moreover, the economy has not recovered nor have court dockets reverted to pre-pandemic activity, therefore, we are staying the course.
Turning to the fourth quarter.
Our results in the quarter evidenced our strong execution in every aspect of our business, including significant growth driven by double-digit rate, strong new business growth, and improved retention, as well as an improved underlying loss ratio and expense ratio.
We also benefited from a low catastrophe quarter and strong investment performance.
Core income for the quarter was a record $335 million, $1.23 per share, an increase of $70 million over the prior year fourth quarter.
The increase was largely driven by improved underlying underwriting profits.
Net income for the quarter was $387 million, or $1.42 per share, and was an increase of $114 million over 2019's fourth quarter.
The P&C underlying combined ratio was 92.7%, a significant improvement over last year's fourth quarter results and in line with Q3 results, both of which are the best two underlying combined ratios CNA has had in over 10 years.
The all-in combined ratio was 93.5%, slightly more than 2 points of improvement compared to the fourth quarter a year ago, driven by commercial, which improved 4.4 points to 96.2% and international, which improved 3.4 points to 96.9%.
Although specialty had less favorable prior period development in the fourth quarter a year ago, they had a very strong combined ratio of 89.4%.
Pre-tax catastrophe losses were benign at $14 million, or 0.8 points of the combined ratio.
Our estimated ultimate losses from COVID-19 are unchanged at $195 million as claim activity continues to unfold slowly, as we expected.
Prior period development had no impact on the combined ratio in the quarter.
The underlying loss ratio was 60.5% for the quarter, a 0.4 point year-over-year improvement and consistent with Q3.
Specialty was 60%, commercial was 61.1%, and international was 60.1%.
In the fourth quarter, the expense ratio was 32%, 1.7 points better than the prior year quarter as we maintained a disciplined approach to managing expenses as we continue to grow the business.
We are pleased with the improvement and as our growth continues to earn out through 2021, we expect that to drive additional improvement.
Gross written premium ex our captive business grew 15% in the quarter with significant contributions across all operating segments, with specialty at plus 17% and commercial at plus 13%.
International was also strong at plus 14%, fueled by strong rate in the quarter in our London operation and strong rate and new business growth in our Canadian operations.
Net written premium for total P&C increased 12% in the quarter.
In the quarter, the hardening market persisted as evidenced by our continued double-digit rate achievement of plus 12%, while increasing our retention by 3 points to 85% from the third quarter.
We achieved strong rate across the board with specialty at plus 13%, commercial at plus 12%, and international at plus 18%.
In addition to double-digit rate achievement for the quarter, we continued to implement tighter terms and conditions across our portfolio.
These improved terms and conditions, as I have mentioned before, are equally important to strong pricing as they improve attritional loss ratios, help prevent unintended coverage, and are typically slower to be relaxed once market conditions start to soften.
New business growth was strong in the quarter, 17% higher compared to last year's fourth quarter.
Specialty grew 23% and commercial 22%, while international remained slightly negative.
We are writing high-quality accounts within our target market segments.
Examples, we continue to grow our profitable specialty affinity portfolio, we grew our very profitable construction segment within commercial, and we are building our management liability portfolio at a time when we can get excellent terms and conditions.
We carefully monitor pricing on new business relative to renewal policies, and the new to renewal relativities have been stable all year across the portfolio, indicating rate on new business has increased commensurately and obviously contributed to the overall growth in new business.
We are well positioned to grow in these hardening market conditions and indeed, we believe it is the best time to grow.
In addition to restoring pricing to these levels and improving terms and conditions, the disruption from insured dislocation in a hardening market causes broad remarketing by agents and brokers that also ferrets out tremendous high-quality new business opportunities, and we have been able to secure more of these opportunities as we are leveraging all the investments we have made in the last few years to deepen our specialized underwriting expertise and provide improved solutions to our customers.
Finally, we completed our annual asbestos and pollution reserve review, which resulted in a non-economic after-tax charge of $39 million, which compares to last year's after-tax charge of $48 million, and we also had positive core income of $26 million from our life and group operations.
Al will provide more detail on this, as well as our asbestos and pollution review.
As Dino mentioned, I will provide more detail on the Life & Group results, as well as our corporate segment, including the asbestos, environmental reserve review.
Before I do that, let me just highlight a few items related to our overall results, as well as our P&C operations.
Core income for the quarter was a record at $335 million, 26% higher than the prior year quarter results.
With a core ROE of 11.4% for the period, we are certainly pleased with the close to 2020 and the significant progress made to build upon our underlying underwriting profitability.
Dino spoke about this progress with regards to our combined ratio improvement.
A meaningful contributor was the expense ratio.
I would like to highlight the advancements made during 2020.
Our fourth quarter expense ratio of 32% reflects significant progress on a year-over-year basis, as well as on a sequential quarter basis during 2020.
The expense ratio improvement was reflected in all three of our P&C business segments, especially in international notably recording improvements of 2 and 3 points, respectively, versus the prior year quarter.
We are particularly pleased with the international results as the efforts to reduce acquisition costs as part of our reunderwriting strategy is paying dividends.
Likewise, with respect to specialty and commercial, the significant progress we have made on our expense ratio reflects our ability to grow while being disciplined about our expense spend and also making investments back into the business.
Considering the trajectory of our net written premium, we would expect that our earned premium growth will further aid our progress on the expense ratio in 2021.
Turning to net prior period development and reserves, for the fourth quarter overall P&C net prior period development was flat compared to 2.2 points of favorable development in Q4 2019.
Favorable development in specialty during the quarter driven by professional and management liability was offset by adverse premium development on general liability within commercial.
For the full-year 2020, overall development was essentially flat versus 0.7 points of favorable development in 2019.
In terms of our COVID reserves, we have made no changes to our catastrophe loss estimates during the quarter.
We continually review our COVID reserves and our previously established estimate of ultimate loss remains appropriate, and our loss estimate is still virtually all in IBNR.
Finally, with regards to the P&C operations, on January 1 several of our reinsurance treaties were renewed, the main ones being for management liability and casualty lines of business.
These treaties renewed with more favorable terms and conditions relative to expectations given current market conditions.
Now, turning to Life & Group.
This segment produced core income of $26 million in the quarter and $9 million for the full-year.
This compares with Q4 2019 loss of $4 million and a full-year 2019 loss of $109 million.
Favorable long-term care results for full-year 2020 relative to 2019 reflects the lower reserve charge in the current year relative to the prior year, as well as better-than-expected morbidity experienced in 2020 amid the effects of COVID-19.
Specifically, since the onset of COVID, we've experienced lower-than-usual new claim frequency, higher claim termination, and more favorable claim severity as policyholders favor home healthcare versus the use of long-term care facilities.
The higher level of claim terminations is largely being driven by an elevated level of mortality and claimant recoveries.
As referenced in the previous quarters, given the uncertainty of these trends, we've been taking a cautious approach from an income recognition perspective, and accordingly, we've been holding a higher level of IBNR reserves.
As well, in our annual gross premium valuation review completed in third quarter of 2020, we did not build any of this favorable experience into our ongoing reserving assumptions.
With all of this in mind, we are closely evaluating these favorable claim trends to assess the extent to which they may persist beyond the pandemic.
Our Corporate segment produced a core loss of $60 million in the fourth quarter and $108 million for the full-year.
This compares to a $68 million loss in Q4 2019 and $102 million loss for the full-year 2019.
The loss for Q4 2020 was driven by our annual asbestos, environmental reserve review concluded during the quarter.
The results of the review included a non-economic after-tax charge of $39 million driven by the strengthening of reserves associated with higher defense and indemnity costs on existing claims, and this compares to last year's non-economic charge of $48 million.
Following this review, we have incurred cumulative losses of $3.3 billion, well within the $4 billion limit of our loss portfolio transfer cover that we purchased in 2010, and paid losses are now at $2.1 billion.
You will recall from previous years' reviews that while we continue to be covered under this OPT limit, there is a timing difference with respect to recognizing the benefit of the cover relative to incurred losses as we can only do so in proportion to the paid losses recovered under the treaty.
As such, the loss recognized today will be recaptured over time through the amortization of the deferred accounting gain as paid losses ultimately catch up with incurred losses.
As previously announced, we've entered into a loss portfolio transfer transaction with a subsidiary of Enstar Corporation and related to legacy excess worker comp reserves.
This non-core portfolio has been in runoff for over 10 years and the transaction enables us to strengthen our focus on going forward operations while reducing potential future reserve volatility.
The transaction closed on February 5.
Going forward, we'll report the impacts associated with this line of business and the associated loss portfolio transfer through the Corporate segment.
Turning now to investments.
Pre-tax net investment income was $555 million in the fourth quarter, compared with $545 million in the prior year quarter.
The results reflected more favorable returns from our limited partnership and common equity portfolios relative to the prior year, more than offsetting the decline in net investment income from our fixed income portfolio and attributable to lower reinvestment yields.
As a point of reference, pre-tax effective yield on our fixed income holdings was 4.4% at Q4 2020 compared to 4.7% as of Q4 2019.
Pre-tax net investment income for the full-year was $1.9 billion, compared with $2.1 billion in the prior year.
While lower interest rates have certainly been a headwind for our net investment income, it's also driven the increase of our unrealized gain position on our fixed income portfolio, which stood at $5.7 billion at year end, up from $5 billion at the end of the third quarter and $4.1 billion at the end of 2019.
The change in unrealized during the quarter was driven by the tightening of credit spreads across the market, our risk-free rates have remained low.
Fixed income invested assets that support our P&C liabilities had an effective duration of 4.5 years at quarter end.
The effective duration of the fixed income assets that support our Life & Group liabilities was 9.2 years at quarter end.
Our balance sheet continues to be very solid.
At quarter end, shareholders' equity was $12.7 billion, or $46.82 per share, reflective of the increase in our unrealized gain position during the quarter.
Shareholders' equity excluding accumulated other comprehensive income was $11.9 billion, or $43.86 per share.
Book value per share ex-AOCI and excluding the impact of dividends paid has grown by 6% over the last year.
We have a conservative capital structure with a leverage ratio below 18% and continue to maintain capital above target levels in support of our ratings.
In the fourth quarter, operating cash flow was strong at $367 million, compared to $160 million during Q4 2019.
On a full-year basis, operating cash flow was $1.8 billion versus $1.1 billion for 2019, a significant increase substantially driven by the improvement in our current accident year underwriting profitability and a lower level of paid losses.
In addition to our strong operating cash flow, we continue to maintain liquidity in the form of cash and short-term investments and have sufficient liquidity to meet obligations and withstand significant business variability.
Finally, we are pleased to announce an increase in our regular quarterly dividend to $0.38.
This increase reflects our confidence that we can continue to grow our underwriting profits and build upon our financial strength.
In addition, notwithstanding an extraordinary year in 2020, including the elevated impact of catastrophe on our results, we were pleased to declare a special dividend of $0.75 per share.
In summary, we had a great quarter generating record core income as we effectively leveraged the opportunities from the hardening market, as we did throughout the year, and we are confident in our ability to continue to do so as these market conditions persist in 2021. | compname posts q4 earnings per share $1.42.
compname announces q4 2020 net income of $1.42 per share and core income of $1.23 per share.
compname announces full year 2020 net income of $2.53 per share and core income of $2.70 per share.
q4 core earnings per share $1.23.
q4 earnings per share $1.42.
book value per share $46.82 at december 31, 2020 versus $45.00 at december 31, 2019. |
Such risk factors are set forth in the company's SEC filings.
We appreciate you joining us to discuss our 2021 third quarter results.
I'm very pleased to start off by saying that our industry and our company continue to make significant progress in recovering from the effects of the pandemic.
We're highly encouraged by the continuing positive trends with increasing consumer demand for the cinematic theatrical experience and growing momentum at the box office.
This favorable progress was demonstrated in our third quarter's 61% growth in worldwide attendance since last quarter in 2Q '21.
Importantly, that growth in attendance flowed through to our bottom line results in the third quarter, which included positive adjusted EBITDA of $44 million.
Our 3Q results marked a significant milestone for Cinemark as it represents our first quarter since the pandemic began with positive total company adjusted EBITDA.
Furthermore, every month in 3Q delivered positive EBITDA, which tangibly underscores our company's resurgence.
Strength in the domestic box office was a key driver of our third quarter performance, as the North America industry delivered $1.4 billion of gross proceeds on a larger volume of more sizable commercial releases.
Top hits in the quarter included Shang-Chi and the Legend of the Ten Rings, Black Widow, Jungle Cruise, Free Guy, Space Jam and the carryover from 2Q's highly successful release of Fast and Furious Nine.
And consistent with last quarter, I'm thrilled to report that Cinemark once again over-indexed the North America industry box office performance relative to 3Q '19 with a substantial outperformance of 700 basis points.
This outperformance helped us capture an approximate 15% market share of North America box office, which significantly exceeded our historic average of just under 13%.
Our 15% market share achievement is particularly meaningful this quarter as the vast majority of theaters in the U.S. and Canada had reopened.
During our last several calls, we talked about four key factors that impact theatrical exhibition recovery, all of which continue to experience noteworthy progress.
First, is the status of the virus.
Driven by vaccine penetration to date as well as impacts from the virus beginning to subside, COVID rates have plunged 73% since the Delta variant peaked in September.
Vaccination rates continue to rise across the U.S., especially with the recent approval of inoculation for children five and older.
Moreover, vaccination rates are also rapidly progressing throughout Latin America.
The second factor is government restrictions, which have largely gone away in the U.S. at this juncture and continue to reduce in Latin America.
Third is consumer sentiment.
While the Delta variant threw us a curve ball during the third quarter and caused a meaningful dip in consumer comfort regarding visiting theaters, that sentiment has since recovered to 77% of U.S. moviegoers expressing comfort and going to the theater in the current environment.
This level of positive response is in line with the peak levels of sentiment we witnessed in early July of 78%.
And the final key factor of the theatrical exhibition recovery is the consistent flow of new film content with broad consumer appeal, which clearly is now underway.
Of course, these recovery factors not only apply to the U.S., but are also applicable on a global basis.
And while the domestic market is further along in its rebound cycle, we're also seeing positive trends in Latin America.
Currently, 100% of our theaters have reopened across the region, and even though certain capacity and operating hour restrictions persist in Central and South America, consumer demand to return to the theaters is very strong.
There is no question that theatrical exhibition is meaningfully recovering around the world, and Cinemark is extremely well positioned to benefit during this comeback on account of the many operational advancements we made during the pandemic as well as our ongoing efforts to maximize attendance and drive new ancillary revenue opportunities.
Some examples include improved operating efficiencies, enhanced marketing programs and capabilities and our recently implemented online food and beverage platform, new alternative content possibilities and ongoing impact of our premium amenities.
In terms of operational efficiencies, we have made some significant strides over the course of the pandemic.
For instance, we're optimizing operating hours and showtime schedules through utilization of enhanced data management analytics.
We have simplified and streamlined numerous theater practices, such as ticket issuance, inventory procedures and ushering routines to be leaner and more efficient.
And we've refined the degree of staffing that is required to operate our theaters, including enhanced planning and management controls.
We also continue to significantly advance our digital and social marketing capabilities, utilizing proven best practices from retail, travel and technology industries.
Examples include leveraging iterative A/B testing to identify and scale winning concepts, simplifying consumer touch points to drive a more frictionless experience and applying advanced analytics against our highly valuable customer database to drive improved targeting accuracy and contextually relevant messaging.
These actions and capabilities are focused on increasing moviegoing frequency and overall consumer spend, and we believe they will be highly valuable in navigating the competitive landscape ahead and maintaining our increased market share.
In tandem with our digital and social marketing actions, we continue to leverage our unique industry-leading transaction-based subscription program, Movie Club, to drive attendance.
During the third quarter, we completed billing reactivation on all Movie Club accounts that were proactively paused for the past 1.5 years during the pandemic.
In doing so, we have been extremely pleased by the minimal amount of churn we've experienced, which represented only a modest 6% dip in our pre-pandemic membership base that was largely driven by credit cards that expired during that timeframe.
This dip was better than expected due to our member-first approach, and we're already seeing new net positive Movie Club additions as we actively work to reattain those expired members as well as attract new ones.
We've also continued to further enhance Movie Club and recently introduced Movie Club Platinum, an earned premium tier that provides our most frequent moviegoers with even bigger incentives.
We expect this heightened tier will serve to further increase loyalty of our most active customers as well as stimulate incremental transactions.
Since we announced the launch of Movie Club Platinum just over a month ago, 64% of Movie Club members familiar with the program stated that they have been incentivized to achieve Platinum status this year.
Another foray into simplifying and enhancing our customer experience while driving ancillary revenues is Snacks In A Tap, our recently launched online food and beverage ordering platform.
This platform enables guests to skip the line and have their concessions ready for pickup upon arrival or delivered to their seats for a nominal fee.
The added convenience and time savings provided by Snacks In A Tap have been extremely well received by our moviegoers, and we look forward to continuing to grow the program's awareness and utilization in the months ahead.
We're also continuing our reintroduction of select expanded food and beverage options as a more consistent release cadence of stronger film content takes hold and moviegoer attendance increases.
Another exciting new business venture that we announced last week is our heightened focus on gaming initiatives, including our plan to hire a new Vice President to forge strategic relationships and pursue content and licensing agreements in the gaming realm.
Gaming is the latest evolution in our ongoing focus to secure alternative content, further utilizing our auditoriums to supplement Hollywood film content, and we have seen several promising indicators with regards to consumer interest in both spectator and participatory gaming events.
Additionally, we're continuing to explore other alternative content offerings and have seen similar positive results from events such as professional wrestling with AEW and WWE, boxing with Triller Fight Club, movie premiers, special live Q&A sessions with talent and concerts, all in addition to ongoing events provided by Fathom entertainment.
We're also continuing to reap benefits from investments we've made in premium amenities that enrich the moviegoing experience, which movie fans continue to seek out, including reclining seats with approximately 65% of our entire domestic circuit featuring country loungers, the highest recliner penetration among the major theater operators.
Premium large-format auditoriums led by our XD, our proprietary brand, which ranks number one in the world, which delivered 12% of our box office in the third quarter alone on only 4% of our screens and an increase in D-Box motion seats, which are synchronized with the on-screen action.
And finally, Cinionic laser projectors.
In line with our previously announced partnership, we are featuring laser projections crystal clear picture in all of our new build theaters and continue to upgrade our existing theaters with laser technology, which lasts longer and operates more efficiently.
We're happy to share that in addition to other locations across the U.S., we have completely converted all of our Dallas-Fort Worth theaters and screens, our home city, delivering consistently bright, colorful and sharp images on laser.
Speaking of new theaters, strategic new-builds are a cornerstone of our strategy, and we are thrilled to have opened six new theaters and 67 screens already this year, all of which were committed to prior to the onset of COVID.
These new-build theaters are all in high-growth areas with significant opportunities to capture moviegoing attendance.
While it's still early days, we're highly encouraged by the results to date.
We have opened three locations in the U.S., Kirkland, Washington, just outside of Seattle; Jacksonville, Florida; Waco, Texas; and three in Latin America, Guatemala, Chile and Peru.
We also have one more theater open -- to open later this year in Roseville, California, just outside of Sacramento.
Based on everything I've just shared, I hope it's clear that we are pleased with our performance trend in the third quarter and the advancements we made to continue to make our business more vibrant through business development.
While we're cognizant, there's still a long road ahead.
Over the course of the coming months, we continue to expect an ongoing ramp-up of box office and overall financial results.
The fourth quarter has already started out strong as October delivered our best monthly box office results since the onset of COVID.
Notably, our cash generation during the month of October was significant enough to more than cover all of our variable and all of our fixed costs.
Looking ahead, upcoming film content for the balance of the year includes highly anticipated blockbusters appealing to families and adults alike, such as Eternals, which opened with previews last night to outstanding results.
Ghostbusters: Afterlife, Encanto, House of Gucci, West Side Story, Spider-Man: No Way Home, Matrix: Resurrection and Sing two to highlight just a few.
And the slate next year looks absolutely tremendous with broad range of highly promising films for all moviegoing audiences.
Importantly, these films were made to be experienced in a cinematic out-of-home entertainment environment that only a movie theater can provide.
We're also optimistic about the future of exclusive theatrical windows as it's such a meaningful contributor to the overall media landscape.
As we've witnessed with the positive box office results generated most recently, I have been a significant proponent of the longevity of the theatrical exhibition industry, and especially for Cinemark, as the company is uniquely positioned and poised for long-term success.
As previously announced, this is my last earnings call as CEO of Cinemark before I hand over the reins to Sean at the end of this year.
It has been an honor serving as CEO and leading the incredible people of Cinemark the past 6.5 years.
It has been tremendous getting to know so many of you over the years, and we appreciate your ongoing support.
I, along with the rest of the Board, are highly confident in Sean and his ability to lead Cinemark going forward.
His operational background and strategic mindset along with his keen eye for efficiencies and business opportunities will be especially advantageous as Cinemark continues to emerge from the effects of the pandemic.
I look forward to watching the company thrive under his direction as I continue in a strategic capacity through my position on the Board.
You've been a tremendous leader for our company and our industry over the past 6.5 years.
And to say you'll be missed from our day-to-day operations is clearly an understatement.
On a related note, three weeks ago, we announced Melissa Thomas will be joining Cinemark as our next CFO.
Melissa was most recently the CFO for Groupon and has a strong and impressive leadership and financial background.
We believe she will be a great cultural fit for Cinemark and an excellent complement to our leadership team and finance organization.
Melissa will officially start this coming Monday, November 8, and we look forward to formally introducing her in the near future.
As Mark already highlighted, the resurgence of theatrical moviegoing is in full swing, and Cinemark delivered another quarter of meaningful financial improvement.
During 3Q, our average monthly cash burn reduced to approximately $11 million after normalizing for working capital timing.
This rate was in line with the expectation of a $10 million to $15 million monthly cash burn that we communicated on our last earnings call.
As of today's current operating environment, we have now flipped to modestly positive average monthly cash flow, and we expect this rate will continue to improve as our industry further rebounds.
At the end of the third quarter, we had a global cash balance of $543 million.
As of October 31, that balance had increased to approximately $595 million, driven by the strong box office results of Venom: Let There Be Carnage, No Time To Die, Halloween Kills and Dune as well as working capital timing associated with corresponding film rental payments.
Based on our current and improving cash flow position, we continue to believe we have ample liquidity and will not require any additional financing.
That said, multiple financing opportunities still remain available to us, including drawing on our $100 million revolving credit line, tapping incremental term loan borrowing capacity within our credit facility, executing sale-leaseback arrangements on unencumbered properties we own and issuing equity.
Also, as we described last quarter, following our recent refinancing transactions, our revolver maturity now sits at November of 2024 and all other significant debt maturities extend through March of 2025 and beyond.
Turning now to our third quarter results.
Furthermore, as we have indicated in previous quarters since the onset of the pandemic, our traditional metrics continue to be somewhat distorted in the current environment.
Considering our theaters were only beginning to reopen with limited new film content in the third quarter of 2020, we will compare our most recent quarter's results to 2Q '21 and 3Q '19 in select instances.
During the course of the third quarter, we continued to further expand operating hours in response to increasing consumer demand for a growing volume of new commercial film releases.
Compared to second quarter, our third quarter domestic operating hours expanded by nearly 40%, although still remained approximately 25% below 3Q '19.
Expanded hours and increased moviegoing led to quarter-over-quarter domestic attendance growth of 42.4% to 21.5 million patrons.
Domestic admissions revenues were $195.3 million with an average ticket price of $9.08.
Our average ticket price increased 14.1% versus 3Q '19, primarily as a result of price increases and ticket type mix largely on account of fewer matinee and weekday showtimes.
Domestic concessions revenues were $142.6 million and yielded another all-time high food and beverage per cap of $6.63.
Our third quarter per cap was roughly flat with 2Q accrued 27% compared to 3Q '19 as pent-up moviegoing demand continues to drive a heightened indulgence in food and beverage consumption across our core concession categories and operating hours remain concentrated in timeframes that are more conducive to concession purchases.
Our third quarter results also benefited from ongoing strategic promotions and pricing initiatives, the reintroduction of various enhanced food offerings and recognition of previously deferred revenues associated with the issuance of loyalty points.
Domestic other revenues also continued to rebound during the quarter and grew 28.3% to $37.6 million, driven by volume-related increases in screen ads, transaction fees and promotional income.
Altogether, third quarter total domestic revenues were $375.5 million, with positive adjusted EBITDA of $44.8 million.
Internationally, we also continue to see material recovery in Latin American box office and operating results during the third quarter.
Driven by expanded theater openings and increased availability of new film -- new commercial film content, our third quarter international attendance grew 128% versus 2Q '21 to 9.2 million patrons, which generated $30.2 million of admissions revenues and $21.6 million in concession revenues.
Total international revenues were $59.3 million and yielded adjusted EBITDA that was just shy of breaking even for the quarter.
Globally, film rental and advertising expenses were 51.9% of admissions revenues, which increased 200 basis points compared to 2Q '21.
This increase was expected and resulted from a higher concentration of larger, more successful new film releases.
That said, compared to the third quarter of 2019, our film rental rate was still down 420 basis points, predominantly due to reduced film grosses as skew lower on our film rental scales.
Concession costs were 17.2% of concessions revenues and were in line with both our second quarter results and pre-COVID averages.
Third quarter global salaries and wages were $67.6 million and increased 34.1% versus 2Q '21.
This increase was driven by additional theater reopenings, extended operating hours to accommodate growing consumer demand and the reintroduction of select enhanced food and beverage options that require more labor.
Facility lease expenses were $68.8 million, and while largely fixed, experienced a modest uptick from the second quarter due to a slight increase in percentage rent in common area maintenance as volumes increased.
Worldwide utilities and other expenses were $81.8 million and increased 33.7% quarter-over-quarter, driven by variable costs that grew in line with volume, such as credit card fees, janitorial expenses and commissions paid to third-party ticket sellers.
Utility expenses also increased as we expanded operating hours while other costs within this category, such as property taxes and property and liability insurance remained predominantly fixed.
Finally, G&A for the quarter was $38.6 million and remained considerably lower than pre-pandemic levels as a result of the restructuring actions we pursued in the second quarter of 2020 and our ongoing efforts to minimize nonessential operating expenditures.
Collectively, our worldwide adjusted EBITDA for the third quarter was positive $44.3 million.
As Mark previously described, this result represents a significant milestone for our company as it was our first quarter of positive total company adjusted EBITDA since the onset of the pandemic and our second consecutive quarter of material adjusted EBITDA recovery.
Our net loss also materially improved in 3Q to $77.8 million, reducing by $64.7 million quarter-over-quarter.
We'd like to congratulate our studio partners on the success their films achieved in the quarter, and we like to commend our hard-working teams on their relentless execution and drive to deliver these results.
Capital expenditures during the quarter were $24.4 million, of which $13.6 million was associated with new-build projects that had been committed prior to the COVID-19 pandemic and $10.8 million was driven by investments and maintenance in our existing theaters.
Our consistent investment in proactively maintaining and enhancing our theaters over the years has enabled us to scale back capital expenditures in the near term without hindering our asset quality or guest satisfaction.
As such, we continue to anticipate spending a highly reduced level of capex in 2021 relative to pre-pandemic ranges, which we previously estimated at approximately $100 million.
However, due to varied supply chain constraints that have started impacting the delivery timing of certain equipment and supplies, we now anticipate capex may come in slightly below $100 million for the full year.
That said, we do not expect these delays will have any adverse impact on our daily operations.
In closing, we are thrilled with the positive momentum we continue to experience regarding the rebound of theatrical exhibition and our company's financial results, and we are optimistic about the robust release calendar that lies ahead in the fourth quarter and beyond as well as further improvements in consumer moviegoing enthusiasm as the pandemic subsides.
We are proud of the advancements our team has already made to set up Cinemark for success in a post-pandemic environment, and we look forward to the impact our strategic initiatives will continue to have on further enhancing the cinematic entertainment experience we provide our guests and delivering long-term shareholder value. | expect a continued ramp-up in box office performance over course of coming months. |
Such risk factors are set forth in the company's SEC filings.
We appreciate you joining us for our fourth quarter and full year 2021 results.
It has been a pleasure getting to know many of you during my time as CFO and COO, and I look forward to our ongoing relationships in my new role.
The theatrical exhibition industry made huge strides in its recovery throughout 2021, culminating in an exceptional fourth quarter, during which North American box office crossed the $2 billion mark for the first time since the onset of the pandemic.
New film releases that led the charge included Venom: Let There Be Carnage; Eternals; Ghostbusters: Afterlife; No Time To Die; and of course, the record-setting Spider-Man: No Way Home that now represents the industry's third highest-grossing film in history.
It's worth noting that all five of these films had an exclusive theatrical window.
Cinemark contributed to these box office results in a big way.
On the release of Venom, we set a record for the largest October opening weekend ever for a single film, pre, and post pandemic.
3 for the industry, Spider-Man has now become our No.
1 highest-grossing film of all time, driven by our sustained outperformance on this title.
The fourth quarter's box office success underscores enduring consumer appetite and demand to experience great films in an immersive, shared cinematic environment.
Over 48 million guests visited our global Cinemark theaters in the fourth quarter, and that consumer enthusiasm translated into strong results.
On a worldwide basis, our fourth quarter attendance grew 57% compared to 3Q '21.
Once again, Cinemark surpassed North American industry box office recovery this past quarter, over-indexing by more than 700 basis points when comparing 4Q '21 box office results against 4Q '19.
Our Latin American admissions also outperformed their corresponding industry results by a similar degree.
These significant global attendance and box office results flowed through to our bottom line.
Adjusted EBITDA in the fourth quarter was positive $140 million, and that sizable 4Q result drove positive adjusted EBITDA of $80 million for the full year.
Moreover, exclusive of one-time benefits, we generated positive cash flow during the fourth quarter in both the U.S. and Latin America, another meaningful milestone in our company's recovery from COVID-19.
I'd like to commend our incredible global team for their outstanding planning, execution, and dedication to deliver these tremendous results.
Our Cinemark team has faced monumental challenges during the pandemic.
And what they have accomplished and what they continue to accomplish through their endless perseverance, resourcefulness, strategic thinking and optimism is nothing short of astounding.
While strong film content was certainly a key component of our fourth quarter success, exceptional operating performance and the ongoing execution of our strategic initiatives were also significant factors.
As we look ahead, our overarching focus remains unchanged, and that is to maximize attendance in box office while actively pursuing ancillary revenue opportunities.
Over the course of 2021, the world made tremendous progress combating the ongoing effects of the pandemic.
Although for the time being, the impact of its lingering presence, particularly on our industry and business, still remains.
As a result, as we move forward in 2022, our priorities will continue to focus on: first, effectively navigating the ongoing pandemic; second, fully reigniting theatrical exhibition; and third, positioning our company for ongoing success in the evolving media landscape.
With regard to our first priority of effectively navigating the pandemic, I'm exceptionally proud of the accomplishments our Cinemark team has achieved over the past two years.
These accomplishments include swift and appropriate actions that were taken to preserve cash, minimize expenses and improve our liquidity profile, as well as refine our operating practices, such as streamlining processes, driving new efficiencies, and strengthening operating hours management.
We defined, implemented, and have consistently executed a wide range of new health and safety protocols to protect our guests, communities, and employees.
Additionally, we effectively reopened our entire global circuit and remained open while dealing with frequent fluctuations in content supply and government restrictions.
Our team also continues to skillfully manage through the challenging labor and supply chain dynamics, just to name a few.
We have provided examples of the meaningful impact these actions have had throughout the pandemic during prior calls, and their benefits clearly continued in the fourth quarter, as demonstrated by our sustained market share advances compared to 2019, guest satisfaction scores averaging 90%, and as I mentioned a moment ago, positive adjusted EBITDA and cash flow.
That said, our work navigating the pandemic is not done yet.
At the end of 2021 and throughout most of the first quarter to date, our industry, alongside many others, was affected by another surging COVID headwind brought upon by the Omicron variant.
Fortunately, however, we are encouraged by the recent decline in new cases around the world, as well as commentary by a growing number of health experts, who believe the virus may be transitioning from a pandemic to an endemic.
with regard to moviegoing, as well as consumer sentiment, which has improved to 75% of moviegoers, indicating they are comfortable returning to theaters today and over 80% within the next month.
Theatrical exhibition's ongoing recovery remains highly contingent on the state of the virus, government restrictions, and consumer sentiment, and all of these factors are now moving in a favorable direction.
At the same time we have been navigating through the challenges of the pandemic, we have also been actively working to reignite theatrical moviegoing, our second key priority.
First and foremost, this effort has included actively collaborating with our studio partners to bring new compelling first-run film content back into our theaters on a steadier release cadence.
While health concerns and availability of content have clearly been two of the largest challenges during the pandemic, so too has been the inconsistent film calendar with large gaps between commercial releases.
While Omicron caused another blip in the return to a more normalized release pattern, we are highly optimistic about the film slate for the rest of the year.
New releases this past weekend, uncharted and dog, both exceeded projections, and we expect industry box office will continue to ramp and accelerate with the release of the Batman next week, followed by a long list of additional highly anticipated titles throughout the year, including Doctor Strange in the Multiverse of Madness; Top Gun: Maverick; Jurassic World Dominion; Lightyear; Minions: The Rise of Gru; Thor: Love and Thunder; Black Adam; Aquaman and the Lost Kingdom; Black Panther: Wakanda Forever; and the long-waited -- awaited next installment of Avatar.
And these are just a handful of examples of the franchise films that are lined up for 2022, not to mention the broad range of additional family, drama, comedy, and other genre films that are interspersed throughout the year, providing varied offerings for all audiences.
Furthermore, I'm pleased to report that the majority of films being released theatrically this year will include an exclusive window, with most larger and commercial titles maintaining a 45-day window.
Demonstrated yet again in the fourth quarter of 2021 and this past weekend, a theatrical window continues to produce bigger events, larger cultural moments, and increased box office results with reduced piracy.
It also continues to provide a platform that establishes stronger emotional connections with content, unlike any other distribution channel.
And those connections lead to more sizable brands, franchises, and promotional value for all other windows.
Great films are an essential part of reigniting theatrical moviegoing, and so too is compelling marketing that increases consumer awareness, sentiment, and ticket sales.
To that end, we will continue to lean heavily into a myriad of digital, social, on-screen, and loyalty strategies throughout 2022 to target a wider range of consumers, increase moviegoing frequency and grow our Cinemark audiences.
Over the past few years, we have significantly enhanced the scale of our digital marketing capabilities and reach.
We are now directly connected to more than 20 million addressable guests across our global circuit.
And by way of these connections and the comprehensive omnichannel network we have built, we are consistently delivering billions of impressions each month via social media engagement, personalized emails, and earned media stories showcasing the benefits of the Cinemark moviegoing experience.
These marketing actions have not only been helping to revive moviegoing, but have also increased loyalty, which we've witnessed in the ongoing strength of our market share results and Movie Club program.
After proactively pausing Movie Club memberships at the onset of the pandemic, we fully reactivated the program in the second half of 2021, and we are thrilled to report that we have already returned to new monthly membership gains.
During the fourth quarter, we added 40,000 new Movie Club members, bringing our membership base to within 1% of its pre-pandemic level at approximately 940,000 members.
We continue to receive tremendous feedback about our unique transaction-based subscription program that allows members to roll over unused monthly credits, share credits with friends and family, and receive a meaningful 20% discount on concessions.
Member feedback has also been resoundingly positive with regard to Movie Club Platinum, a new earned premium tier that we launched in September.
By the end of the year, more than 100,000 members achieved this heightened status, which they will enjoy throughout the entirety of 2022.
And that brings us to our third key priority, which is positioning our company for ongoing success in the evolving media landscape.
Examples include our Luxury Lounger recliner seats in over 65% of our U.S. footprint, nearly 300 premium large-format XD and IMAX auditoriums worldwide, immersive D-BOX motion seating across 250 of our theaters, the best sight and sound technology in the industry, and enhanced food and beverage offerings throughout 75% of our global circuit.
Furthermore, we continue to simplify and enhance our transactional processes for tickets and concessions, including our recently deployed Snacks in a Tap online ordering platform that allows guests to purchase food and beverage ahead of time and simply pick up their order upon arrival to our theaters or have it delivered directly to their seats.
These amenities, innovations, and capabilities provide us considerable tailwind as we sort through evolving opportunities and implications driven by the pandemic and near-term shifts in the distribution landscape.
As we concentrate on positioning Cinemark for ongoing success within this dynamic environment, we are focused on five primary strategies.
First is providing our guests an extraordinary experience.
Doing so is fundamental to our business, and Cinemark has a solid reputation and long history of delivering this objective.
That said, we are investing time, energy, and resources to take the experience we provide our guests to the next level.
Our goal is to be top of mind when consumers think about world-class guest service, quality, value, ease, and a premium entertainment destination.
Second is building audiences with an increased focus on attracting a wider range of consumers by expanding the variety of content we offer, as well as utilizing our industry-leading marketing capabilities to drive consumer demand and conversion, as described a moment ago.
Third is growing sources of revenue by creating incremental sales opportunities, such as continuing to expand food and beverage offerings, honing recently implemented e-commerce and theater design initiatives, optimizing pricing, testing new experiential entertainment concepts, and enhancing Cinemark partnerships and brand tie-ins.
Fourth is streamlining processes, which essentially means executing the aforementioned strategies as efficiently as possible, and includes initiatives, such as workforce management, continuous improvement, and utilizing advanced tools, practices, and platforms to free up time spent on administrative tasks and increase focus on our guests, teams, and productivity.
And fifth is optimizing our footprint.
This strategy involves actively assessing our circuit, as well as domestic and international markets, to determine where it is most advantageous to grow, recalibrate and strengthen our circuit to deliver sustained long-term returns.
We believe these areas of focus are best suited to steer us through expected ongoing fluctuations within the media landscape in the near term and position us for continued success over the long haul.
In summary, while our recovery from the pandemic is still ongoing, we are highly encouraged by recent improvements in the state of the virus and associated consumer sentiment.
Fourth quarter attendance demonstrated that consumer enthusiasm for the shared, immersive theatrical moviegoing experience remains strong, and films maintain the ability to become larger than life and generate significant box office results even in the current environment.
As we look ahead, we remain optimistic about the future of theatrical moviegoing and Cinemark.
We are working diligently to position ourselves for ongoing success in the evolving media landscape and to deliver long-term value for our shareholders, guests, communities, and employees.
With that, I will now pass the call to Melissa, who will provide further information about our fourth quarter financial results.
I'm honored to be part of the Cinemark team, and I'm greatly looking forward to meeting the investment community in the near future.
As Sean discussed, we made significant progress in terms of the overall recovery of our industry and our company throughout 2021, and especially in the fourth quarter, which is reflected in our financial results.
Our worldwide attendance was 48.1 million patrons for the fourth quarter.
We delivered $666.7 million of total revenue, $139.4 million of adjusted EBITDA, and $208 million of operating cash flow.
Notably, these worldwide results were driven by robust performance in both our domestic and international segments, with each segment generating positive adjusted EBITDA in the quarter and reporting adjusted EBITDA margins in excess of 20%.
Taking a closer look at our U.S. operations in the fourth quarter, our attendance rebounded to 31.2 million patrons, representing a 45% increase over the third quarter and underscoring the recovery of theatrical moviegoing.
We were able to service these guests with operating hours that were essentially flat to last quarter and approximately 20% below that of pre-COVID, which speaks volumes to the operational efficiencies and technological advances we've achieved since the onset of the pandemic.
Our domestic admissions revenue rebounded to $287.3 million in the fourth quarter on an average ticket price of $9.21.
Our average ticket price continues to be elevated due to three key factors: reduced operating hours resulting in fewer matinee and weekday showtimes; strategic pricing actions; and a higher concentration of premium large-format box office.
box office was generated by our premium large formats.
This is 400 basis points higher compared with the fourth quarter of 2019.
The growth in the average ticket price was partially offset by revenue deferrals related to our loyalty program ramping back up.
concessions revenue was $207.8 million in the fourth quarter and reached 90% of fourth quarter 2019 levels, with an all-time high per cap of $6.66.
Our food and beverage per cap remained above $6 throughout 2021 due to a few factors, including heightened indulgence in food and beverage consumption, particularly within our core concession categories; a mix of moviegoers that tends to skew higher in-purchase incidents; and our operating hours, which, while reduced, remain concentrated in time frames that are more conducive to concession purchases.
Domestic other revenue also benefited from the uptick in attendance and increased more than 50% quarter over quarter to $56.6 million, driven by volume-related increases in screen ads and transaction fees.
Altogether, fourth quarter total domestic revenue was $551.7 million, with positive adjusted EBITDA of $115.9 million and an adjusted EBITDA margin of 21%.
Our international segment also experienced a substantial recovery in the fourth quarter, exceeding our expectations.
All of our theaters were operating throughout the fourth quarter, albeit with certain government-imposed restrictions on operating hours and capacity.
We were able to grow our attendance 84% quarter over quarter to 16.9 million patrons, given a lineup of films that resonated extremely well with the Latin demographics, including Encanto, which is a story based in Colombia; Venom: Let There Be Carnage; Eternals; and of course, the global phenomenon, Spider-Man: No Way Home.
We delivered $115 million of total international revenue in the fourth quarter, including $57.6 million of admissions revenue, $40.4 million in concessions revenue, and $17 million of other revenue.
International adjusted EBITDA was $23.5 million for the fourth quarter, with an adjusted EBITDA margin of 20.4%.
This was our first quarter of positive international adjusted EBITDA since the onset of the pandemic.
Turning to global expenses.
Film rental and advertising expense was 57.5% of admissions revenue, driven primarily by a higher concentration of larger, more successful new film releases with an exclusive theatrical window.
We also increased our investment in marketing to help reignite moviegoing, strengthen loyalty and drive market share, which also flow through this line item.
Concession costs were 17.6% of concession revenue and were up 40 basis points from last quarter.
Supply chain constraints were amplified in the fourth quarter as attendance rebounded.
We experienced product shortages and price increases on certain concession inventory, and we took appropriate actions during the quarter to mitigate much of these impacts.
Fourth quarter global salaries and wages were $83.7 million and increased 24% quarter over quarter as we hired incremental employees to service the expected surge in attendance.
Like most industries, we faced a series of labor challenges, including wage rate inflation and staffing shortages, which we were able to partially offset by streamlining our workforce management processes.
Facility lease expense was $79.2 million and increased 15.1% quarter over quarter.
While largely fixed, lease expense will fluctuate with percentage rent, and common area maintenance increases as volume rebounds.
Worldwide utilities and other expense was $90.8 million and increased 11% quarter over quarter, driven by variable costs, such as credit card fees that grew in line with volumes and higher utility expenses due to expanded operating hours, particularly for our international segment.
Finally, G&A for the quarter was $49.3 million and increased 27.7% quarter over quarter due to investments in cloud-based software and higher consulting costs, legal fees, and stock-based compensation.
Capital expenditures during the quarter were $38.3 million, including $13.9 million for new build projects that had been committed to prior to the pandemic, and $24.4 million for investments to maintain or enhance our existing theaters, such as laser projectors.
And rounding out our fourth quarter results, we generated net income attributable to Cinemark Holdings, Inc. of $5.7 million, resulting in earnings per share of $0.05, another metric that was positive for the first time since the pandemic and represents another milestone in our recovery during the quarter.
As we look forward, we expect 2022 to be a recovery year.
We remain optimistic regarding the full year, particularly with a strong film slate.
That said, our first quarter results will be impacted by the lighter film release calendar due to the Omicron variant, which may lead to negative cash flow during the first quarter.
However, we expect to generate positive cash flow for the full year 2022.
On the cost side, like most other companies in the service industry, we are experiencing inflationary increases due to supply chain constraints and the challenging labor market.
We will continue to mitigate these impacts, wherever possible, in 2022.
Some steps we are taking include implementing incremental labor productivity initiatives, negotiating with an expanded set of vendors, considering alternative concession products, and evaluating strategic price increases.
Turning to our expectations around capital expenditures, while still well below our pre-pandemic ranges, we are beginning to ramp up our investments in our theaters in 2022 and expect to spend approximately $125 million on capital expenditures.
We expect to continue to reap the benefits of our consistent investments in proactively maintaining and enhancing our theaters over the years, which has enabled us to scale back capital expenditures in the near term without hindering our asset quality or guest satisfaction.
In closing, while our recovery from the pandemic is ongoing, we remain highly optimistic regarding the future of theatrical moviegoing and the long-term prospects for our industry, particularly for Cinemark.
We are innovating and evolving in this new operating environment, pursuing what is in the best long-term interest of our key stakeholders to further secure Cinemark's position as an industry leader. | q4 earnings per share $0.05.
q4 revenue rose 579 percent to $666.7 million. |
We expect to file our Form 10-Q and post it on our website on or before August 6.
You'll find a reconciliation of the non-GAAP measures to the corresponding GAAP measures in the appendix.
Turning to slide 4, we reported operating earnings per share of $0.66, which represents 20% growth over the prior period, or 60% growth excluding significant items in both periods.
Sales activity remains strong and we have exceeded pre-pandemic levels in a number of areas.
Total Life and Health NAP was up 35% over the second quarter of 2020 and up 10% relative to 2019 levels.
Our results also benefited from ongoing deferral of medical care which boost our health margins, solid alternative investment performance, and continued share repurchase activity.
Premium collections remain strong in our underlying margins excluding COVID impacts performed well as expected.
Our capital and liquidity remain conservatively positioned.
We ended the quarter with an RBC ratio of 409% and $336 million in cash at the holding company while also returning $105 million to shareholders through a combination of share repurchases and dividends.
We continue to execute well against our strategic priorities, specifically, successfully implementing our strategic transformation that we initiated in January 2020, growing the business profitably, launching new products, and services, expanding to the right to slightly younger wealthier consumers within the middle-income market, and deploying excess capital to its highest and best use.
Turning to slide 5 and our growth scorecard: As was the case for 6 consecutive quarters prior to the pandemic, all 5 of our scorecard metrics were up year-over-year.
Life sales remained strong, fueled by continued momentum in both our direct to consumer and exclusive field agent channels.
Overall health sales were up almost 90% over the prior period which reflected the first full quarter of the pandemic when state home restrictions were first Instituted.
Total collected life and health premiums were up 1%.
This reflects continued solid growth in Life NAP and persistency of our customer base offset as expected by lower Medicare Supplement premiums.
Annuity collected premiums were up 42% year-over-year, relative to the second quarter of 2019 annuity collected premiums were up 1%.
Client assets in brokerage and advisory grew 33% year-over-year to $2.6 billion fueled by new accounts, which were up 13%, net client asset inflows and market value appreciation.
Sequentially client assets grew 8%.
Fee revenue was up 50% year-over-year to $31 million, reflecting growth in 3rd party sales, growth within our broker dealer, and registered investment advisor, and the inclusion of DirectPath results.
Turning to our Consumer division on Slide 6: We continue to leverage our cross-channel sales program.
Our hybrid sales and service model which blend virtual engagement with our local field, exclusive field agents has led to significant improvements in lead conversion rates, customer acquisition costs, and sales product.
Life and health, sales were up 32% over the prior period, and 19% over the same period in 2019.
Life sales climbed 8% for the quarter to over $50 million reflecting the 6th consecutive quarter of year-over-year growth.
Direct to consumer life sales were level with the record production in the prior period.
Life sales generated by our exclusive field agents were up 23% and comprised over 40% of our total life sales.
Leads from our direct to consumer business supported this growth.
Within our health product lines supplemental health and long-term care sales saw healthy growth over both the second quarter of 2020 and the second quarter of 2019.
These results benefited from initiatives that enable our products to be sold through multiple channels.
Our 3rd-party Medicare Advantage party sales were up 20% in the second quarter.
Medicare supplement sales remain challenged.
Med sales were up modestly over the first quarter.
However, as discussed in previous quarters, our market is experiencing a secular shift away from Medicare supplement and toward Medicare Advantage.
We continue to invest in both our Medicare supplement and Medicare Advantage offerings to ensure we are well positioned to meet our customers' needs and preferences.
Consistent with the first quarter, roughly 50% of our Consumer Division life and health sales were completed virtually.
Consumer selecting to engage virtually held steady, even as communities reopened and vaccination rates increase.
This is a profound change in how we connect with consumers and further validate the transformation we initiated in January of 2020.
It will continue to have significant implications for our business going forward.
Among other things, this change, expand our agents' ability to interact with customers across a broader geographic area.
As I mentioned annuity collected premiums were up 42% as compared to the prior year and up 1% versus 2019.
The number of new annuity accounts grew 16% and the average annuity policy size rose 14%.
Our portfolio of index annuity products continues to be well received by our middle market consumers.
Our recently launched guaranteed lifetime income annuity plus was a key contributor to our second quarter annuity sales growth.
Of course, we continue to maintain strict pricing discipline on our annuities to balance sales growth and profitability.
Participation rates and other terms are reviewed regularly to reflect current macro environment conditions.
Client assets and brokerage and advisory grew 33% year-over-year and 8% sequential to $2.6 billion in the second quarter.
Combined with our annuity account values, we now manage $12.7 billion of assets for our clients.
This has fundamentally shifted the relationship we have with our customer base.
Unlike some insurance products, which can be transactional in nature, investment products tend to create deeper and longer-lasting customer relationships.
We continue to reap the benefits of the shift in the agent recruiting strategy that we initiated several years ago.
We now rely more heavily on targeted recruiting approaches, including personal referrals.
This has periodically resulted in fewer new agent recruits.
However, the new agents we appoint are more likely to succeed and stay with us over time.
Relative to the year-ago period, our producing agent count increased 7%.
Sequentially, our producing agent count was down slightly but overall, our agent force remained stable.
Our securities licensed registered agent force was up 6%.
Improvements in agent productivity had became more important driver of our sales growth then agent count in recent quarters and we have significant runway for future growth.
Turning to slide 7 in our worksite Division: It looks like sales were up sharply in the second quarter as compared to the year-ago period.
We expect to approach 2019 sales levels when access to workplaces improves.
Ongoing pilots and programs to target new employer groups, offer new services, and capture new business continue to progress retention of our existing customers also remained strong with continued stable levels of employee persistency our producing agent count was up 15% year-over-year and 7% sequentially.
Recall that we slowed our agent recruiting during the pandemic due to workplace restrictions.
As a result agent count remains down nearly 40% from pre-COVID levels.
To help boost recruitment and support a return on to pre-COVID production levels, we are rolling out a field agent referral program.
This program is designed similarly to our successful Consumer Division program.
Relative to 2019 levels, our veteran agent count is up 7%.
Retention in productivity levels among our veteran agents who have been with us for more than 3 years remains very strong.
These agents have been the driving force behind our recent sales momentum and are expected to be instrumental in helping to rebuild our overall agent force.
Few revenue generated from our business is more than doubled in the quarter due to the DirectPath acquisition feedback has been strong surrounding the unique combination of products and services we can now bring to the worksite market.
We are realizing early cross sale successes between Web Benefits Design and DirectPath and the pipeline continues to grow.
Along with strong client retention, these business has also generated double-digit increases over both 2020 and 2019 in various metrics.
Turning to slide 8: Our robust free cash flow enabled us to return $105 million to shareholders in the second quarter, including $87 million in share buybacks.
We also raised our dividend 8% in May and 9 consecutive annual increase.
Our capital allocation strategy remains unchanged.
We intend to deploy 100% of our excess capital to its highest and best use over time.
While share repurchases form a critical component of our strategy, organic, and inorganic investments also play an important role.
Turning to the financial highlights on Slide 9: Operating earnings per share were up 20% year-over-year and up 60% excluding significant items.
The results for the quarter reflect solid underlying insurance margins, ongoing net favorable COVID related impacts, strong alternative investment performance, and continued disciplined capital management.
Over the last 4 quarters, we have deployed $337 million of excess capital on share repurchases reducing weighted average shares outstanding by 7%.
Return on equity improved 90 basis points in the 12 months ending June 30, 2021 compared to the prior year period.
The sum of expenses allocated to products and not allocated to products.
Excluding significant items increased by about $6 million sequentially driven by incentive compensation accrual adjustments related to earnings outperformance in the first half of the year.
The increase in expenses over the prior year period also reflects lower a management expenses in 2020 due to COVID related restrictions and the June 30, 2020 conclusion of a transition services agreement related to the long-term care reinsurance transaction completed in 2018.
In general, our expenses continue to reflect both expense discipline and operational efficiency on the one hand and continued targeted growth investments on the other hand.
Turning to slide 10: Insurance product margin in the second quarter was up $17 million or 8% excluding significant items.
Net COVID impacts were $21 million favorable in the quarter as compared to $6 million unfavorable in the prior year period.
Excluding COVID impacts, margins in the quarter remained solid and stable across the product portfolio.
The net favorable COVID impacts in the quarter reflect continued favorable claims experience in our healthcare products, particularly impacting Medicare supplement and long-term care due primarily to continued deferral of care.
This was partially offset by the unfavorable impact of COVID related mortality in our life products.
The favorable COVID impact in the quarter exceeded our expectations as the outlook that we provided on our April earnings call assume that healthcare claims would begin to normalize in the second quarter, including an initial spike in claims due to pent-up demand that did not materialize in the quarter.
Regarding our annuity margin, recall that in the second quarter of 2020, we saw a favorable mortality in our other annuities block unrelated to COVID, which translated to $10 million of positive impacts.
As we noted at the time, this resulted from a handful of terminations and large structured settlement policy, which we expect from time to time in this block, but not on a regular basis.
Turning to slide 11: Investment income allocated to products was essentially flat in the period as growth in the net liabilities and related assets was mostly offset by a decline in yield.
Investment income, not allocated to products, which is where the variable components of investment income flow through increased $40 million, reflecting a solid gain in the current period and our alternative investment portfolio and a loss on that portfolio in the prior year period.
Recall that we report our alternative investments on a 1/4 lag.
Our new money rate of 3.38% for the quarter was lower sequentially reflecting a continuation of our up in quality bias from the first quarter and continued spread tightening in general, partially offset by higher average underlying Treasury rate in the second quarter versus the first quarter.
Our new investments comprised $1.1 billion of assets, with an average rating of single A and an average duration of 16 years.
This higher level of new investment reflected reinvestment of maturing assets and a higher level of prepayment activity in the period.
Our new investments are summarized in more detail.
Turning to slide 12: At quarter end, our invested assets totaled $28 billion, up 8% year-over-year approximately 96% of our fixed maturity portfolio is investment grade rated with an average rating of single A. This allocation to single A rated holdings is up 200 basis points sequentially.
The BBB allocation comprised 39.4% of our fixed income maturities, down 140 basis points.
Both year-over-year and sequentially.
We are actively managing our BBB portfolio to optimize our risk-adjusted returns to the extent suitable and attractive opportunities develop, we may over time balance recent up an quality bias with a modest increase in allocation to alternatives asset-backed securities closed or investment grade emerging market security.
Turning to slide 13: We continue to generate strong free cash flow to the holding company in the sector with excess cash flow, $114 million or 128% of operating income for the quarter and $432 million or 119% of operating income on a trailing 12 month basis.
Turning to slide 14: At quarter end, our consolidated RBC ratio is 409%, which represents approximately $45 million of excess capital relative to the high end of our target range of 375% to 400%.
Our Holdco liquidity at quarter end was $336 million, which represents $186 million of excess capital relative to our target, minimum Holdco liquidity of $150 million.
Even after returning $105 million of capital to shareholders in the quarter, our excess capital grew by approximately $22 million from March 31 to June 30 of this year.
This primarily reflects the strength of our operating results in the quarter and the recent up in quality bias in our investment portfolio.
Turning to slide 15: While uncertainty related to COVID continues, we believe it is very unlikely that any future COVID scenario would cause our capital and liquidity to fall below our target levels.
For that reason, we are no longer running a formal adverse case scenario as we had been doing through the first quarter of this year.
Instead, we are updating a single base case scenario or forecast with upside and downside risks to that forecast.
In our most recent forecast, we expect a continuation of the sales momentum we've seen in the past 5 quarters, we expect a modest net favorable COVID related mortality and morbidity impact on our insurance product margin for the balance of 2021 and the modest net unfavorable impact in 2022.
This assumes that COVID deaths do not worsen in the second half of this year and that healthcare claims begin to normalize after a brief spike beginning in the 3rd quarter due to pent-up demand from deferral of care.
When and if a spike actually occurs and when our health product claims actually normalize is highly uncertain.
So far, we have seen some intra-quarter volatility in our health claims during the pandemic, but nothing that has persisted long enough to establish a trend.
On the mortality side impacting our life products, the number of COVID deaths we will see for the next several quarters is also uncertain, given the recent rise in infections largely from the Delta variant and the potential for material impacts from additional variants.
Certainly, one of the biggest risks to our forecast is how exactly COVID will evolve from here.
But again, we believe, however it evolves, it represents an earnings event for us, favorable or unfavorable, not the capital or liquidity of that.
Assuming no shift in interest rates, we expect net investment income allocated to product to remain relatively flat in this base forecast as growth in assets is offset by lower yields reflective of both the lower interest rate environment and are up in quality shift in asset allocation.
In general, we expect alternative investments to revert to a mean annualized return of between 7% and 8% at some point and over the long term, but the actual results will certainly be more variable with likely more upside potential than downside in the near term given the current economic outlook.
We expect fee income to be modestly favorable to the prior year as we grow our 3rd party Med Advantage distribution and improve the unit economics of that business.
Growth in web Benefits Design, earnings, and the inclusion of DirectPath will also contribute to fee income.
We expect the sum of our quarterly allocated and not allocated expenses tax significant items for balance of the year to be generally consistent with levels reported in the first quarter of this year, allowing for some quarterly volatility.
And finally as COVID related uncertainty diminishes which is certainly will at some point, we expect to manage our capital and liquidity closer to target levels, reducing our excess capital over time.
We are pleased with the healthy results we've generated this quarter and in the first half of the year.
The strength of our diversified business model and the steady execution of our strategic priorities and organizational transformation underpin that success.
The consumer division has met or exceeded pre-pandemic performance and our worksite Division is making meaningful progress.
As we enter the second half of the year, we remain squarely focused on maintaining our growth momentum, building upon our competitive advantages, and managing the business to optimize profitability, cash flows, and long-term value for our shareholders.
Please continue to take care of your health, including vaccinations for those that are eligible. | q2 operating earnings per share $0.66.
qtrly total revenues $1,073.1 million versus $1,014.2 million. |
You can obtain the release by visiting the media section of our website at cnoinc.com.
We expect to file our Form 10-Q and post it on our website on or before November five.
You'll find a reconciliation of the non-GAAP measures to the corresponding GAAP measures in the appendix.
We delivered another strong quarter with operating earnings per share up 7% over the prior year period, excluding significant items and COVID impacts in both periods.
Our results reflect ongoing deferral of medical care, which continue to boost our health margins, solid variable investment income results and robust share repurchase activity.
Our sales metrics exceeded pre-pandemic levels in a number of areas.
Total life and Health NAP was up 1% over the third quarter of 2020 and up 1% relative to 2019 levels.
As the pandemic continued to pressure an already tight labor market, we experienced a slowdown in new agent recruiting.
Premium collections remained strong, exceeding pre-pandemic levels.
As expected, our underlying margins excluding COVID impacts, performed well.
Our capital and investment portfolio remain conservatively positioned with ample liquidity.
We ended the quarter with an RBC ratio of 388% and $366 million in cash at the holding company.
This is after returning $131 million to shareholders through a combination of share repurchases and dividends.
We continue to execute well against our strategic priorities, specifically, successfully executing on our strategic transformation, growing the business profitably, launching new products and services, expanding to the rise to slightly younger, wealthier consumers within the middle-income market and deploying excess capital to its highest and best use.
Turning to slide five and our growth scorecard.
Four of our five growth scorecard metrics were up compared to 2020.
Relative to 2019, all five metrics were up for the second consecutive quarter.
As a reminder, pre-pandemic, we have delivered five consecutive quarters of growth in all five of our scorecard metrics.
Life sales were up modestly compared to 2020 fueled largely by continued momentum in our direct-to-consumer channel.
Relative to 2019, life sales were up 22%.
Overall, health sales were essentially flat year-over-year but down 16% relative to 2019.
Total collected life and health premiums were down 2%.
This reflects continued solid growth in Life NAP and persistency of our customer base offset as expected by lower Medicare Supplement premiums.
Annuity collected premiums were up 17% year-over-year and up 2% relative to the third quarter of 2019.
Client assets in our brokerage and advisory grew 30% year-over-year to $2.7 billion, fueled by new accounts, which were up 16%, net client asset inflows and market value appreciation.
Sequentially, client assets grew 2%.
Fee revenue was up 41% year-over-year to $28 million, reflecting growth within our broker-dealer and registered investment advisor, higher fees generated by Web Benefits Design, our worksite technology platform and the inclusion of DirectPath results, which is our worksite enrollment and advisory services business.
Turning to our consumer division on slide six.
I continue to be pleased with how we're executing on our transformation to leverage synergies between our agent and direct-to-consumer businesses.
Consumer segment life and health sales were down 2% over the prior period but up 8% over 2019.
Life sales were essentially flat in the quarter.
Direct-to-consumer life sales were up 13% on top of 23% growth in the prior period.
Life sales generated by our exclusive field agents were down 15%.
Health sales were down 5%, largely reflecting continued weakness in Medicare Supplement sales.
As discussed in previous quarters, our market is experiencing a secular shift away from Medicare Supplement and toward Medicare Advantage.
We continue to invest in both our Medicare Supplement and Medicare Advantage offerings to ensure we are well positioned to meet our customer's needs and preferences.
In 2022, we will be launching a new Medicare Supplement product that we believe is more aligned with consumer preferences.
We've also made several enhancements to our Medicare Advantage platform, myhealthpolicy.com and our product offerings to position us well for this Medicare annual enrollment period.
Specifically, we expanded our carrier partners and product offerings.
We now have nearly 3,000 exclusive field agents certified to sell Medicare products, which is up 14% from last year, and we boosted our D2C capabilities through enhanced lead acquisition and sales capabilities.
As I mentioned, annuity collected premiums were up a healthy 17% as compared to the prior year and up 2% versus 2019.
The number of new accounts grew 6% and the average annuity policy rose 10%.
We continue to maintain strict pricing discipline on our annuities to balance sales growth and profitability.
Participation in crediting rates are reviewed regularly to reflect current macro environment conditions.
Client assets in brokerage and advisory grew 30% year-over-year to $2.7 billion in the third quarter.
Combined with our annuity account values, we now manage $13 billion of assets for our clients.
This has fundamentally shifted the relationship we have with our customer base.
Unlike some insurance products, which can be transactional in nature, investment products typically create deeper and longer-lasting customer relationships.
Over the last several years, we have shifted our agent recruiting strategy to focus more heavily on targeted recruiting approaches and boosting the productivity levels of our existing agent base.
This has periodically resulted in fewer new agent recruits.
However, the new agents we appoint are more likely to succeed and stay with us over time.
Until recently, we haven't felt much impact from the tight labor market.
In the third quarter, however, our total producing agent count was down, largely due to fewer first year agents.
Our veteran agent retention and productivity remains strong.
The number of agents that have been with us for at least three years has remained consistent through the third quarter and is up 1% year-to-date.
Productivity among these veteran agents is up 5% over the prior period and up 13% year-to-date.
These more seasoned agents typically generate higher premiums for policy and drive cross-sales of other products, including annuities and health products.
We remain committed to prioritizing agent retention and productivity.
However, we also want to attract new agents.
Therefore, we are experimenting with various pilots and programs to jump-start our new agent recruiting, but expect these near-term headwinds to continue.
Turning to slide seven and our Worksite division.
Worksite sales were up sharply in the third quarter as compared to 2020.
However, sales remained well below 2019 levels.
The emergence of the delta variants caused a number of on-site enrollments to be postponed or canceled.
We expect the pace of worksite recovery to improve as workplaces reopen and COVID disruption subsides.
The workplace, as we know, continues to evolve.
As more companies shift to permanent hybrid work arrangements, we continue to explore new approaches to improve access to existing employer groups and their employees.
At the same time, pilots and programs to target new employer groups and offer new products and services remain a key strategic priority for us.
Retention of our existing customers remain strong and employee persistency within these employer groups continues to be stable.
Our producing agent count was down 5% year-over-year and down 11% sequentially due to the tight labor market.
Asian count remains down more than 45% from pre-COVID levels.
Our recently launched field agent referral program, which is modeled after our consumer division program is generating promising results in its early stages.
Retention and productivity levels among our veteran agents who have been with us for more than three years remains very strong.
These agents have been the driving force behind recent sales activity.
The integration of our fee-based businesses continues to run smoothly.
Fee revenue nearly doubled in the quarter due to both organic growth within WBD, our website technology platform and DirectPath, our worksite enrollment and advocacy services business.
Our average client size in these businesses increased 15%, and our average per employee per month rates were up double digits.
Market feedback on our unique combination of worksite products and services remains positive, and we are realizing meaningful cross-sale success.
Turning to slide eight.
Our robust free cash flow enabled us to return $131 million to shareholders in the third quarter, including $115 million in share buybacks.
This is the highest level of capital return in the past six years.
Our capital allocation strategy remains unchanged.
We intend to deploy 100% of our excess capital to its highest and best use over time.
While share repurchases form a critical component of our strategy, organic and inorganic investments, also play an important role.
Turning to the financial highlights on slide nine.
We generated operating earnings per share of $0.72 in the quarter, which is down $0.07 year-over-year as reported, down $0.05, excluding significant items and up $0.04 or 7% excluding significant items and adjusting for the net favorable COVID impacts on insurance product margin.
We had $3 million pre-tax or $0.02 per share of unfavorable significant items in the current period and none ended prior year period.
And we had $23 million or $0.14 per share of net favorable COVID impacts in the current period as compared to $42 million or $0.23 per share in the prior year period.
The results for the quarter reflect solid underlying insurance margins, ongoing net favorable COVID-related impacts, strong alternative investment performance and prepayment income and continued disciplined capital management.
Over the last four quarters, we have deployed more than $400 million of excess capital on share repurchases, reducing weighted average shares outstanding by 9%.
The operating return on equity was 11.5% for the 12 months ending September 30, 2021.
The sum of expenses allocated to products and not allocated to products, excluding significant items, was flat to the first quarter of 2021 as expected.
In general, our expenses continue to reflect both expense discipline and operational efficiency on the one hand and continued targeted growth investments on the other.
Turning to slide 10.
Insurance product margin, excluding significant items, was down $21 million or 9% in the third quarter as compared to the prior year period, driven by the $19 million year-over-year change in COVID impacts.
The year-over-year decrease in net COVID impacts primarily reflects a decrease in the favorable benefit in our Med Supp product.
Sequentially, the net favorable COVID benefit was essentially flat with the offsetting changes in the impact on our health and life products.
Page 10 of our financial supplement summarizes those impacts by quarter.
The sequential decline in our annuity margin reflects volatility related to the indexed annuity FAS 133 accounting for our embedded derivative reserve, which had a favorable impact in the second quarter and an unfavorable impact in the third quarter.
Excluding COVID impact, insurance margin was essentially flat year-over-year, both in total and by major product grouping.
This is in line with expectations, reflecting the underlying stability of the book of business.
Turning to slide 11.
Investment income allocated to products was up slightly as growth in the net liabilities and related assets was mostly offset by a decline in yield.
Investment income not allocated to products, which is where the variable components of investment income flow through increased $7.2 million or 16%, reflecting solid performance within our alternative investment portfolio and higher prepayment income.
Our new money rate of 3.55% for the quarter was up 17 basis points sequentially, reflecting increased allocation to direct investments and an increase in market yields.
Our new investments comprised $849 million of assets with an average rating of A minus and an average duration of 13 years.
Turning to slide 12.
At quarter end, our invested assets totaled $28 billion, up 5% year-over-year.
Approximately 95% of our fixed maturity portfolio is investment-grade rated with an average rating of single A. This allocation to A-rated holdings is up 20 basis points sequentially.
The BBB allocation comprised 39% of our fixed income maturities, down 180 basis points year-over-year and 40 basis points sequentially.
During the quarter, we established a $3 billion funding agreement backed note program and in early October, we issued an inaugural $500 million funding agreement backing five-year notes.
The program provides a new vehicle for us to leverage our core investment competencies to generate incremental earnings at an attractive return on the underlying capital.
It is complementary to our existing Federal Home Loan bank program because they both improved the company's financial flexibility and draw on similar investment capabilities with slightly different duration and asset allocation strategies.
The combination of the two provides CNO with greater funding diversification and earnings potential.
We expect the FABN program will provide roughly 100 basis points of annualized pre-tax spread income, net of expenses on the notional amount of the notes outstanding.
We'll report the net spread income in NII, not allocated products, just as we currently report the net spread income associated with our Federal Home Loan Bank program on page 17 of our quarterly financial supplement.
Turning to slide 13.
We continue to generate strong free cash flow to the holding company in the third quarter with excess cash flow of $166 million to 179% of operating income, which reflects the solid operating results in the quarter, the continued up in quality bias in our investment portfolio and our decision to increase dividends out of the operating companies to bring the RBC ratio down into our targeted range.
Turning to slide 14.
At quarter end, our consolidated RBC ratio was 388%, which represents approximately $70 million of excess capital relative to the low end of our targeted range.
Our Holdco liquidity at quarter end was $366 million, which represents $216 million of excess capital relative to our $150 million minimum Holdco liquidity target.
Turning to slide 15.
We are not projecting beyond year-end, given the ongoing uncertainty of how the pandemic will evolve from here, particularly as we enter the winter months.
That said, we will share our expectations for the fourth quarter based on our most recent internal forecast.
First, we expect modest growth in Total Life and Health NAP and total collected premiums.
This reflects our continued positive momentum, particularly in our direct-to-consumer business, coupled with the challenges of a very tight labor market and for our worksite business, ongoing delays in office reopenings and in businesses, allowing on-site enrollments.
We expect continued net favorable COVID impacts on our insurance product margin, but at a lower level than recent quarters.
We expect net investment income allocated to products to remain relatively flat as growth in assets is offset by lower yields, reflective of both the lower interest rate environment and our up in quality shift in asset allocation.
We expect net investment income not allocated to products to trend down as compared to recent quarters in light of market conditions in the third quarter; recall that our alternative investments are reported on a one quarter lag.
We expect fee income to be up sequentially and year-over-year as we grow our third-party Medicare Advantage distribution and improve the unit economics of that business.
Growth in web Benefits Design earnings and the inclusion of Direct Path will also contribute to growth in fee income.
We expect the sum of our allocated and non-allocated expenses ex significant items to be generally in line with recent quarters.
Finally, we expect dividends out of the operating companies to be lower than in recent quarters as we absorbed the impact of the revised C1 factors on our consolidated RBC ratio.
As mentioned previously, that will reduce our RBC by approximately 16 points, all else equal, which translates to about $80 million of capital.
For the time being, we are not reducing our target RBC ratio, but we will manage the low end of the 3.75% to 400% target range.
And we will move closer to our $150 million minimum Holdco liquidity target.
I'm pleased with our results for the third quarter, which reflects solid execution against our strategic objectives.
Although uncertainty surrounding the pandemic remains, I am confident that we are well positioned to successfully navigate whatever lies ahead.
The earnings and cash flow generating power of the company remains strong, and our team is laser-focused on building upon our progress in delivering long-term growth and value creation for our shareholders.
Finally, please continue to take care of yourself, including getting vaccinated if you are able.
Stay healthy and stay safe. | q3 operating earnings per share $0.72.
qtrly book value per share was $42.11, up 15% from 3q20.
qtrly total revenues $968.3 million versus $1,013.5 million. |
You can obtain the release by visiting the Media section of our website at cnoinc.com.
We expect to file our Form 10-K and post it on our website on or before February 26.
You'll find a reconciliation of the non-GAAP measures to the corresponding GAAP measures in the appendix.
And unless otherwise specified, any comparisons made will be referring to changes between fourth quarter 2019 and fourth quarter 2020.
I'm going to start with a discussion of the DirectPath acquisition, we announced last night.
I'll then provide brief commentary on our fourth quarter and full year performance, before turning it over to Paul to discuss our financial results and outlook in more detail.
Turning to Slide 4.
We are very excited about this transaction and the enhanced worksite capabilities it brings to CNO.
The transformation that we announced last year created a Worksite division dedicated to this market.
Growing our Worksite business is the next step in our strategy.
We are significantly expanding our Worksite business to position CNO as a full service provider of Worksite solutions.
DirectPath is a leading national provider of employee benefits management services to employers and employees.
It brings three primary new revenue sources to CNO; employee education services, employee advocacy and transparency services and employer benefits communications and compliance services.
DirectPath operates directly nationwide through approximately 7,000 benefit broker partners.
It serves 400 employers of all sizes from small businesses to Fortune 100 companies, which reflects a covered employee base of more than 2.5 million individuals.
Prior to COVID, Worksite was one of the fastest growing higher multiple businesses for us and in the industry.
We expect that dynamic to resume over the next year or so.
DirectPath builds out our capabilities and gets us deeper into the employer value chain.
It will also create extensive cross-selling and referral opportunities for us.
Through its fee-based structure, DirectPath will diversify our Worksite revenue base.
It adds to our existing high return fee-based businesses that will help drive expansion in our overall ROE.
The purchase price of $50 million was funded out of holding company cash.
There is an additional earn-out, if certain financial targets are achieved.
The transaction is expected to add $0.01 per share to our earnings beginning in 2022.
This transaction aligns well with the M&A playbook we've been executing against, and is reflective of the types of opportunities we may consider again in the future.
Turning to Slide 5 and our full year performance.
We reported operating earnings-per-share growth of 37% for the full year, $387 million of free cash flow or 107% of our operating income and we returned $330 million to shareholders in the form of buybacks and dividends, which reflects 12% of our market cap at the beginning of 2020.
End results underscore the continued strength and resiliency of our diverse product portfolio and distribution channels.
Despite the COVID backdrop, we achieved many important operational accomplishments during 2020.
Within the Consumer division, we've continued to build upon success with our direct-to-consumer life business and cross-channel collaboration efforts.
Integrating these channels has led to significant improvements in overall lead conversion rates and per customer acquisition cost.
Leads generated from our D2C business have become an increasingly important source of new business for our exclusive field agent force.
In 2020, these leads drove two-thirds of the increase in life sales generated by our exclusive field agents.
This year we recognized the opportunity to create a similar multi-channel sales and service experience for the Medicare market.
We launched our new digital health insurance marketplace myHealthPolicy.com.
Our objective is to take the strength of our face-to-face distribution, couple it with our growing online strength and use our unique offerings to become a significant player in the online health insurance market.
This is a competitive space.
The depth and strength of our agent force is the key differentiator.
Just as we successfully scaled and became a top five provider of direct-to-consumer life insurance, we intend to profitably grow the direct-to-consumer healthcare business.
Within the Worksite division, despite COVID, we saw modest growth in our employer client base.
Of course, we faced significant restrictions accessing workplaces to complete employee enrollments.
In response, we focused extensively on building out our virtual and online enrollment capabilities.
For the full year, virtual sales comprised 23% of total production.
Continued premium persistency was another key driver of our Worksite business this year.
Persistency was actually up modestly over historical levels, reflecting the critical value of our -- our consumers' attribute to our protection products and the mix of stable industries we serve.
While we intentionally slowed our agent recruiting efforts in 2020 to align with the softer demand for on-site enrollment due to COVID, we retained our core managers who are critical to rebuilding our sales force and driving our ultimate recovery.
As I've shared in previous quarters, in 2020, we made significant investments in supporting the safety, wellness and financial well being of our associates, customers and agents in response to the pandemic.
We expanded our commitment to diversity, equity and inclusion and named a senior director to support our ongoing initiatives to develop and embed ENI practices across our organization.
We also made progress in our ESG efforts, the principles of which are central to our overall business strategy.
CNO is now a signatory to the United Nations principles for responsible investment, which commits us to incorporating ESG principles in our investment analysis and reporting framework.
We expect to formally adopt the SASB and TCFD reporting frameworks this year when we publish our updated corporate social responsibility report.
Turning to Slide 6 and our results for the quarter.
Our fourth quarter results benefited from the ongoing deferral of medical care which drove continued strong health margins.
Our performance was also boosted by a particularly robust alternative investment earnings.
Operating earnings per share were up 17%.
Our book value per diluted share excluding AOCI was up 8%.
During the quarter, we saw continued improvement in several key metrics.
However, the wave of COVID late in the fourth quarter created a headwind to certain sales and agent metrics.
Premium collections remained strong across both divisions, but reflect the impact from weaker health sales in recent periods.
Expenses were higher in the quarter and higher than we signaled on previous calls, driven primarily by the acceleration of spending on growth initiatives.
This was a conscious decision.
The strength of our business and cash flow in 2020 enabled us to capitalize on opportunities to support the continued growth of our franchise beyond the pandemic.
We saw this as an opportunity to build capabilities for future growth and differentiation.
Paul will provide more details.
Fee income was down, reflecting solid growth in fee revenue, offset by spending related to the development and marketing of myHealthPolicy.com.
Our capital and liquidity positions remained solid.
We issued $150 million in subordinated debt in November and ended the quarter with an RBC ratio of 411% with $388 million in cash at the holding company.
Turning to our growth scorecard on Slide 7.
Three of our five metrics were up year-over-year.
Life sales were up 6% for the quarter and 12% for the full year, fueled by both continued strong direct-to-consumer growth and a sharp increase in sales from our exclusive field agents.
Collected life premiums were up 3%, reflecting solid growth in NAP in recent quarters and the continued strong persistency of our customer base.
Collective health premiums were down 4.7%, largely resulting from the impact of softer in-person health sales in recent quarters.
Annuity collected premiums were up 6% for the quarter, reversing the trend in recent quarters.
Client assets under management grew 18% to nearly $1.8 billion.
Of this growth, approximately half was driven by new client assets.
Fee revenue was up a healthy 19% to $36 million, reflecting growth in third-party sales and growth within our broker-dealer and registered investment advisor.
Health sales remained challenged, down 22% over the prior year, driven by a 29% decline in Medicare supplement sales.
As we've discussed previously, we're in the midst of a secular shift away from Medicare supplement toward Medicare Advantage.
Helping customers navigate the complex Medicare landscape has been a core strength of our exclusive field agents.
Our approach to the shift in consumer preferences is to leverage the strength of both our field agents and our new digital health marketplace to capture incremental Medicare Advantage sales.
At the same time, we will continue to maintain a strong presence in the Medicare supplement market, which consistently delivers a compelling loss ratio and provides a meaningful contribution to our health margin.
It's also a key differentiator.
Very few peer companies manufacture and sell Medicare plans.
As a reminder, Medicare supplement sales are reflected in the new annualized premium, while Medicare Advantage sales are reflected in the fee revenue.
Turning to our Consumer division on Slide 8.
Sales of life insurance remained strong, up 17% for the quarter and up 19% for the full year.
Direct-to-consumer life sales, which comprised about half of our total life sales, were up 10%.
Life sales generated by our exclusive field agents were up 26% supported by leads shared from our direct-to-consumer channel.
This cross-channel dynamic has resulted in improved productivity metrics, such as lead conversion rates and customer acquisition costs.
Again, this underscores the value of our unified distribution model as growth in one channel is able to feed growth in the other.
As I mentioned earlier, we are working to create the same dynamic on the health side of our consumer business.
During this year's Medicare annual enrollment period, consumers were able to purchase Medicare products from us online or from one of 2,800 tele-sales and local exclusive field agents certified to sell Medicare plans.
With the launch of myHealthPolicy.com marketplace, we created pathways for our tele-agents to refer consumers to local agents and for field agents to refer consumers to a tele-agent or the platform itself.
As a result, our Medicare Advantage policies sold in the fourth quarter increased 3% over the prior year and total third-party policies were up 5%.
myHealthPolicy.com accounted for 14% of our third-party health sales in the quarter.
Our producing agent count was down 3%, which makes our sales momentum and productivity even more impressive.
Due to the resurgence of the pandemic, COVID-related quarantines kept a number of our exclusive field agents and clients from engaging in face-to-face appointments.
COVID restrictions also remain more stringent in the areas of the country where our agents are more concentrated.
As a reminder, to be counted as producing, our agents need to sell at least one policy each month.
Our total exclusive agent count, which includes our field and tele-sales agents was actually up 3% for the full year.
We continue to grow the number of securities licensed financial representatives, which is core to how we are evolving our field force and changing the relationship with our clients.
Turning to Slide 9 and our Worksite division.
Collected premiums remained strong as the profile of our existing employer groups has translated to continued healthy levels of employee persistency.
We saw continued sequential improvement in our Worksite sales in the fourth quarter with sales up 61% over the third quarter.
Relative to the year ago period, however, sales were down 41%.
Given recent increases in COVID infection rates across the country and workplaces opening up more slowly, we continue to expect a steeper recovery path in the Worksite business.
We launched a new group product in the fourth quarter called monthly income protection group term life.
This is a unique group life product that is designed to replace monthly income rather than paying a lump sum death benefit.
Web Benefits Design delivered solid results in 4Q, including a 3% increase in the average per employee per month charge.
WBD cross-selling activities drove 5% of overall NAP in the quarter.
The division will be co-managed by current Worksite President, Mike Hurd and by DirectPath, Chairman and CEO, Mike Byers.
Both will report to me and Mike Byers will join our executive leadership team.
Turning to Slide 10.
We returned $117 million to shareholders in the fourth quarter, including $100 million in share buybacks.
For the full year, we deployed $263 million on buybacks at an average price of $18.17.
Our capital allocation strategy remains consistent.
We intend to deploy 100% of our excess capital to its highest and best use over time.
While share repurchases form a critical component of our strategy, organic and inorganic investments also play an important role.
It's worth noting that most of our organic investments in the fourth quarter flowed through our income statement as operating expenses rather than as capital expenditures.
These investments remain mission-critical to our future success.
Paul will provide more color in his remarks.
Turning to Slide 11.
Over the past two years, we've also been making minority investments in various InsurTech and FinTech companies.
Through CNO ventures, we seek to generate attractive returns, develop relationships, source and track opportunities, and ultimately invest in various companies that are disrupting the insurance and financial space.
We fully expect these investments to stand on their own merits and deliver attractive returns.
They also serve as important vehicles for us to collaborate and innovate.
We seek out companies that are strategically relevant, particularly those we can partner with, to help us improve our digital engagement with consumers, accelerate our speed to market with new products and services and/or enhance our technology.
To date, we have invested a total of $21 million in five companies, including HealthCare.com, Human API and Kindur.
We expect to complete a few similar transactions per year.
The portfolio will remain small relative to our total invested assets, but impactful in other ways.
Turning to the financial highlights on Slide 12.
Operating earnings per share were up 17% in the fourth quarter and up 21% excluding significant items, benefiting from favorable health insurance product margins, driven by continued customer deferral of care related to COVID and by strong net investment income, resulting from significant outperformance of our alternative investments.
Earnings per share also benefited from our share repurchases, which reduced our fourth quarter weighted average share count by 7%.
We deployed $100 million of excess capital on share repurchases in the fourth quarter and $263 million for the full year.
Partially offsetting the increase in insurance product margin and investment income in the quarter was an increase in expenses and a decrease in fee income, both driven by our decision to fast track spending on growth initiatives in the second half of 2020 in the context of accelerating trends relating to all things virtual and digital and supported by strong earnings in the period.
These initiatives included spending related to myHealthPolicy.com, which flows through as an expense in our fee income line as it relates to activities supporting our fee revenue.
Other examples of growth initiatives in the period include spending on virtual sales and service capabilities, market access, data analytics and various initiatives designed to improve our policyholder customer experience.
All of these investments flowed through our income statement on the expenses allocated to products line.
In the 12 months ended December 31, 2020, we generated operating return on equity excluding significant items of 12%, which compares to 10.4% in the prior year period.
The favorable impact was driven by our lower initial portfolio rates, which manifested from asset turnover in the annuity portfolio in the third quarter of 2020.
Those lower rates drove a favorable adjustment to the embedded derivative reserve related to our fixed index annuities.
Separately, as part of the assumption update, we lowered the new money rate assumption to 3.5% in 2021 and 3.75% in 2022, but that did not create material unlocking impacts.
Turning to Slide 13 and our product level results.
Our overall margin in the fourth quarter was up $30 million or 15%.
Excluding significant items, it was up $9 million or 4%.
This included a net favorable COVID impact of $18 million, driven by the deferral of care in our healthcare products and reflects modest spread compression in our annuity product and generally stable results in our life and health products ex-COVID.
Turning to Slide 14 and our investment results.
Investment income allocated to products was essentially flat in the period as the favorable impact of the 4% increase in net insurance liabilities was largely offset by a 19 basis point year-over-year decline in the average yield on those investments to 4.83%.
Sequentially, the average yield declined five basis points consistent with our prior guidance.
Investment income not allocated to products increased $32 million year-over-year to $58 million driven by strong alternative investment performance.
This translates to an annualized return on our alternative investments of 24% as compared to a mean expectation of between $7 million and 8%, reflecting outperformance driven by private equity realizations and strong private equity -- excuse me, private credit results.
Our new money rate of 3.58% was down 50 basis points both year-over-year and sequentially with the sequential change driven primarily by tighter credit spreads.
Turning to Slide 15.
At quarter end, our invested assets were $27 billion, up 9% year-over-year.
Approximately 95% of our fixed maturity portfolio is investment-grade rated with an average rating of single A. The BBB allocation comprised 42% of our investment-grade holdings, up slightly from the prior quarter.
Turning to Slide 16.
We continue to generate strong free cash flow to the holding company in the fourth quarter with excess cash flow of $122 million or 142% of operating income this quarter and $387 million or 107% of operating income on a trailing 12-month basis.
Turning to Slide 17.
At quarter end, our consolidated RBC ratio was 411%, down from 428% at September 30.
This represents approximately $55 million of excess capital relative to the high end of our targeted range of 375% to 400%.
Our Holdco liquidity at quarter end was $388 million, which represents $238 million of excess capital relative to our target minimum Holdco liquidity of $150 million or approximately $185 million of excess net of the capital deployed this quarter on the DirectPath transaction.
We had intentionally maintained a more conservative posture in the context of ongoing COVID-related uncertainty.
Turning to Slide 18 and our outlook for the remainder of the year.
We continue to run base and adverse case scenarios that are generally aligned with certain rating agency assumptions regarding COVID-19 infection rates, death rates and related economic impacts.
From a top-line perspective, in our base case, we expect the continuation of the positive momentum that we experienced in the second half of 2020.
From an earnings perspective, we expect two sets of headwinds in '21 relative to 2020.
The first relates to COVID where we expect to trend toward more normal claims experience in our healthcare products as consumers and healthcare providers continue to become more accustomed to COVID-related protocols and/or as the benefits of vaccines take hold.
In our base case, we expect this will translate to net mortality and morbidity impacts that are modestly favorable in the first half, modestly unfavorable in the second half and neutral for the full year.
It's also worth noting that the decline in sales in 2020 due to COVID will reduce insured product margin in 2021 and beyond, all else equal.
The second set of earnings headwinds in 2021 relate to investment income, particularly a potential for reduced income from alternative investments and from opportunistic trading as compared to significant outperformance in 2020.
Lastly, continued pressure from low interest rates generally, which has lately been coupled with tighter spreads, will continue to pressure earnings.
We expect this will translate to flat net investment income allocated to products within our insurance product margin as growth in the asset base will likely be offset by a decline in the yield on those assets.
These headwinds notwithstanding we expect a modest offset from a slight decline in expenses, mostly in the second half of the year as we continue to drive operational efficiencies, while also continuing to invest in growth initiatives.
Regarding free cash flow and excess capital, we exhausted our life NOLs in 2020, which will put modest pressure on our free cash flow conversion rate in 2021.
Nevertheless, still healthy levels of free cash flow generation in our base case scenario on top of our excess capital position at year end 2020 should result in share repurchase capacity, exceeding our actual share repurchase activity in 2020.
Importantly, even in our adverse case, which is intended to capture scenarios far out in the tail, we expect to be able to manage RBC Holdco liquidity and debt leverage within our targeted levels, pay our dividends to shareholders and still had a modest amount of share repurchase capacity, albeit at much reduced levels compared to our base case.
Turning to Slide 20 -- to Slide 19.
2020 was an incredibly challenging year on many fronts.
Our pandemic response and financial results demonstrated the resilience of our organization and proved that we can emerge from the crisis even stronger while continuing to support our associates, agents, customers and communities.
There's no question that difficult and uncertain conditions remain.
In many respects, we have less visibility into 2021 than we had in 2020.
The lack of short-term clarity should not detract from the long-term view of our prospects.
Our franchise remains strong and our financial position is robust.
Longer term I couldn't be more optimistic about the future of this company and our ability to capitalize on the opportunity before us.
Please continue to stay healthy and safe. | qtrly book value per share was $40.54, up 28% from 4q19. |
Dave Lesar, our CEO; Jason Wells, our CFO; and Tom Webb, our Senior Adviser, will discuss the company's first quarter 2021 results.
Actual results could differ materially based upon various factors as noted in our Form 10-Q, other SEC filings and our earnings materials.
We will also discuss earnings guidance and our utility earnings growth target.
In providing this guidance, we use a non-GAAP measure of adjusted diluted earnings per share.
We previously referred to our earnings guidance as guidance basis EPS, and we'll now refer to it as non-GAAP earnings per share or utility EPS.
Similarly, we will refer to our 6% to 8% non-GAAP utility earnings per share target growth rate as utility earnings per share growth rate.
As a reminder, we may use our website to announce material information.
Information on how to access the replay can be found on our website.
Now I'd like to turn the discussion over to Dave.
We are observing a sense of normalcy starting to return here in Texas and in many of our other jurisdictions.
Just as important to me is that I look forward to an opportunity to meet you in person and tell you about the amazing things we have accomplished in less than a year and what our strategy entails moving forward.
I want to share with everyone our excitement about the progress CenterPoint is making and our continued belief in the utility assets that we operate.
We believe they are premium assets and want you to believe that too.
Today, we will provide an update on the continued disciplined execution of our strategy that we outlined during our Investor Day just five short months ago.
I hope you see that we are developing a track record of being consistent and accountable against the goals that we set.
As you know, I'd like to lead with headlines, and we have some worthy ones to cover this quarter.
First, we delivered very strong results for the first quarter of 2021, including $0.47 of utility EPS.
Because the higher natural gas prices are pass-through costs for our business, they did not impact this quarter's utility results.
In addition, our first quarter results are in line with recent historical trends in which the first quarter contributed close to 40% of the full year utility EPS.
We are, of course, reaffirming our full year utility earnings per share range for 2021 of $1.24 to $1.26 and our long-term 6% to 8% utility earnings per share annual growth target.
We are off to a great start for the year, so let's check the utility earnings box as being on track.
The second big headline is, of course, the announced agreement to sell our Arkansas and Oklahoma gas LDCs, which is anticipated to close by the end of the year, subject to regulatory approvals.
These are premium assets, and this was demonstrated by the level of interest we saw and, of course, in the price we got for them.
The landmark valuation was 2.5 times 2020 rate base.
This outcome was well beyond what even the most optimistic observers thought we would achieve.
We saw extraordinary interest from over 40 parties, 17 of which made bids, including strategics, infrastructure funds and PE firms.
There are a number of key takeaways from this great outcome.
First, it validates our strong and stated belief that our remaining gas LDCs are significantly undervalued, and investors should rethink their position as to the value of our remaining gas LDCs in our share price.
This also illustrates the strength, viability and value of the broader gas LDC industry.
The premium multiple these assets garnered in the marketplace shows that investors continue to see natural gas as an essential fuel that is efficient, valuable and affordable energy source.
This transaction demonstrates how we can efficiently finance our industry-leading rate base growth.
This is a perfect example of the efficient capital recycling strategy we committed to you on our Investor Day.
It's a simple model.
You sell at 2.5 times rate base and invest at 1 times rate base.
Naturally, this begs the question if we would consider more LDC sales in the future.
Currently, we're content with our utility portfolio mix.
But that being said, if we see another opportunity to recycle capital in a similarly attractive way, we would explore it as part of our broader strategy.
Our Investor Day plan highlighted that we had the opportunity to spend an additional $1 billion over our current $16 billion five-year capital plan.
At this price, the LDC transaction will provide us with $300 million of incremental proceeds on an after-tax basis compared to the five-year plan we showed you on our Analyst Day.
We will first look to deploy this $300 million in incremental proceeds into high-value utility capital spend opportunities that are part of those additional $1 billion in capital opportunities.
This incremental capital spending is likely to be spent in 2022 and begin to flow into earnings in 2023 and allow us to continue to provide reliable, essential services to our customers.
Therefore, this transaction will not impact our long-term growth plans or earnings trajectory.
On the contrary, we believe this will even more strongly support consistent 6% to 8% utility earnings annual growth rate in our industry-leading 10% rate-based CAGR targets.
We previously committed to you a 2Q sales announcement, and we delivered on that.
So let's also check that box as being done.
Turning now to the Enable transaction.
We anticipate the transaction between Enable and Energy Transfer to close in the second half of the year.
We remain absolutely focused on reducing and eliminating our midstream exposure through a disciplined approach.
And to reiterate what we said when we announced the news of a transaction back in February, completing this transaction also will not change our 6% to 8% utility earnings per share annual growth target or our 10% rate base CAGR.
So that box stays checked as we remain on track to reduce midstream exposure.
Turning to the impacts from the winter storm, Uri.
Last quarter, many of you questioned the incremental gas costs and the likelihood and timing of recovery.
We said that the storms impacts won't change the utility earnings per share target range and they will not.
We also said we believe we had a handle on the issue but needed some time to work through it with our regulators.
Let me give you an update on what progress we have made on that front.
First, in part by actively engaging, auditing and challenging our gas suppliers, we have reduced our incremental gas costs by over $300 million since our initial estimates, resulting in reduced customer incremental gas cost exposure of $2.2 billion.
We won't stop pursuing these actions, because we believe this is the right thing to do for our customers.
We are also beginning to seek the timely recovery of these costs through early adjustments to our normal cost recovery mechanisms.
We have started recovery in Arkansas and Louisiana, including some carrying costs.
Both Arkansas and Oklahoma have also passed legislation for securitization.
In Minnesota, we are pursuing recovery of storm-related costs, including some carrying costs due to the existing gas cost recovery mechanism over a two-year period.
And in Texas, a state-sponsored securitization bill on incremental gas cost has already passed through the house and is being considered by the Senate.
We believe there is good momentum behind this bill.
So while not completely behind us, we are getting closer to checking the incremental gas cost box.
We have said all along that we have strong regulatory relationships, and that belief is supported by our progress in working through this event.
On the electric side, the Texas PUC is undergoing a complete turnover, and we look forward to building our relationships with the new team.
There's also been some legislative progress around the proposal to increase grid resiliency in Texas.
In Texas, several proposed bills have been moving that are intended to protect systems and customers from a repeat of the electric disruption we saw in February.
We are very encouraged by the progress, and we see this as an opportunity for the system as a whole to find better ways to serve our community.
We remain on course for a $16 billion-plus capital spending program and industry-leading 10% compounded annual rate base growth target over the next five years.
For 2021, we are on track to spend the full $3.4 billion outlined on our Investor Day.
Similar to our earnings, there is a seasonality to our capital spend where we typically ramp up spending as the year progresses.
As stated previously, we have opportunities above our current $16 billion five-year plan and the $300 million in incremental proceeds from the ultimate sale of our Arkansas and Oklahoma LDC assets transaction will provide additional capacity for us to pursue some of these, if we so choose.
So let's check the capital spending box as being on track.
We have talked about our industry-leading organic customer growth rates.
Despite the impact of COVID, we again saw about 2% growth rates quarter-over-quarter, reinforcing the value of the fast-growing markets that we serve.
That organic growth plays a part in keeping our service costs reasonable for our customers.
In addition, we take a disciplined approach to reducing our O&M expenses to benefit our customers.
We are on track to reduce O&M by 2% to 3% in 2021.
However, given the incremental opportunity set we see to reinvest in our business, we may take the decision to reinvest some O&M savings back into our utility assets this year.
This is a great luxury to have.
So for 2021 on O&M, let's check that box as being on track.
Next up is our commitment to environmental stewardship.
We are well under way in developing and then announcing what we believe will be an industry-leading carbon strategy.
On that front, a critical constructive piece of news was recently received in Indiana, where we received a very positive Indiana Director's report for our IRP.
Though our Indiana IRP does not require approval, the directors report has provided us with the confidence that we are headed down the right renewable path with both regulators and our communities.
Since our last earnings call, we have reviewed our updated ESG plans with our Board and are preparing a rollout of our transition to net zero.
We should be in a place to disclose these exciting plans in the third quarter.
Since this is still a work in progress, we cannot check the box here, but I am very happy with the progress that we are making.
I've been looking forward to these calls every quarter, because we have so many exciting things to share with you as we execute our long-term strategy that we outlined on Investor Day.
I strongly believe that the strategy we laid out and the progress we have made so far more than demonstrates what a unique value proposition CenterPoint offers.
Just to echo Dave's sentiment, we're looking forward to seeing more of you in person in 2021.
To continue the theme of execution and delivery, I want to start by reviewing our quarterly results with you as well as provide some incremental details on a few events Dave highlighted.
Let me get started with our first quarter earnings.
On a GAAP basis, we reported $0.56 for the first quarter of 2021 compared to a loss of $2.44 for the first quarter of 2020.
Looking at slide four.
We reported $0.59 of non-GAAP earnings per share for the first quarter of 2021 compared to $0.60 for the first quarter of 2020.
Our utility earnings per share was $0.47 for the first quarter of 2021, while midstream investments contributed another $0.12 of EPS.
The notable drivers when comparing the quarters are strong customer growth across all of our jurisdictions and rate recovery, which makes up $0.05 of the favorable impact.
Our disciplined O&M management contributed another $0.03 of positive variance for the quarter.
The growth drivers were partially offset by the $0.09 from share dilution due to the large equity issuance back in May 2020 and $0.03 due to the nonrecurring CARES Act benefit we received last year.
Turning to slide five.
We are very pleased with the high level of interest we received for our Arkansas and Oklahoma gas LDCs as we've conveyed through the entire process.
As Dave said, there were interested parties across the spectrum, which drive a highly competitive auction process.
The successful outcome emphasizes the high-quality nature and supportive regulatory frameworks that are present in all of our businesses.
We're preparing to commence the regulatory approval process and anticipate a close by the end of the year.
The integrated nature of the operations between these two jurisdictions will also accelerate the carve-out in integration process with the new owners as we work toward closing and will facilitate delivering on our commitment of reducing any remaining allocated O&M.
As shown on the slide, this transaction priced at $2.15 billion, inclusive of $425 million of incremental gas cost recovery.
The $1.725 billion in proceeds, after the natural gas cost recovery, represents a multiple of 2.5 times 2020 rate base and a multiple of 38 times 2020 earnings for those businesses.
This earnings multiple is based on the purchase price of $1.725 billion, reduced by approximately $340 million of implied regulatory debt compared to $36 million of 2020 full year earnings.
This transaction multiple, consistent with some of the highest multiples paid for gas LDCs, demonstrates that the market continues to see gas LDCs playing a pivotal role in our country's energy supply by providing affordable, efficient and lower carbon energy sources for our customers.
The net proceeds from this sale are estimated to be $1.3 billion after tax and closing costs as our Arkansas and Oklahoma assets have a relatively low tax basis of approximately $300 million.
While there's been a lot of focus on tax leakage, we were clear at our Investor Day that our five year plan assumed full tax on the gain on sale for these assets given the low tax basis.
Therefore, the headline is the competitive auction process will, at close, result in generating an additional $300 million in after-tax proceeds than what was assumed in the original five year plan.
To zero in on the use of the incremental $300 million of proceeds, we will prioritize funding an increase in our capital investment plan.
It is important to note this incremental capital will be deployed in 2022, and as a result, will likely impact 2023 earnings and beyond once the capital has been approved in rate base.
We will also evaluate using some of the excess proceeds to delay the start of our at-the-market equity program that was originally slated for 2022.
We're grateful I have these options.
I'd also like to reiterate that this disposition will not change our 2021 utility earnings guidance range.
It is also important to reiterate Dave's point that the premium multiple achieved through this transaction as well as the performance of the systems through the recent winter storms reinforces that there are many states that see natural gas as a viable low carbon fuel source and the market has been undervaluing these assets.
And as renewable fuels continue to advance, our systems will have the proven capabilities to adapt and evolve along with them.
Turning to slide six.
Dave discussed that we are still on pace to close the Enable and Energy Transfer merger in the second half of this year, and then we'll look to liquidate our midstream position in a disciplined but efficient manner.
As a reminder, we will have $385 million of energy transfer preferred units that we can liquidate at any time after the merger closes.
The $200 million of Energy Transfer common units we will receive in the merger will be registered through a process that will likely take two to three months after close.
We will have the flexibility to either dribble those units into the marketplace or sell through up to five block offerings.
As we've noted in the past, our negative tax bases at Enable will carry over to Energy Transfer units and will result in an effective 50% tax on the sale.
As previously discussed, we continue to explore tax mitigation strategies across the company to offset the burden that may come with a common unit sales and continue to have confidence we can reduce the tax leakage.
As a result, I'd like to reaffirm that the sale of the Energy Transfer units will not change our utility earnings per share growth target of 6% to 8% annually.
As Dave mentioned, we have actively worked with suppliers, which has, in part, helped to reduce the overall incremental gas costs from the winter storm to $2.2 billion, down from $2.5 billion we signaled last quarter.
In addition, CenterPoint regulators and legislators have all been working over the past few months to align on cost recovery methods that suit the needs of all of our stakeholders.
As laid out on slide seven, we have multiple mechanisms available to us for cost recovery.
two states have already initiated interim recovery.
Another two states have enacted a legislation enabling securitization, and Texas has a securitization bill pending.
Between the securitization, the sale of the gas LDCs and the interim rate recovery, we now expect between $1.6 billion and $1.7 billion of the total incremental gas costs to be recovered before the one year anniversary of the storm, assuming the Texas securitization bill is signed into law.
We are grateful for the diligence of our regulatory team and the constructive support of our commissions across our jurisdictions for getting us to this point.
Turning to our financing updates.
We closed our $1.7 billion CERC senior notes offering on March 2, which included $1 billion of floating rate notes and $700 million of fixed rate notes, both due in 2023.
The proceeds for the $1.7 billion issuance were used to pay for the incremental gas costs for the winter storm and the notes have an optional redemption date at any time on or after September two of this year, giving us full flexibility to pay down this debt consistent with our regulatory recoveries.
Recovery of the carrying costs and the majority of the impacted states such as Texas, Louisiana, Arkansas and Oklahoma will help offset the incremental interest cost from this debt issuance.
Our current liquidity remains strong at approximately $2.1 billion after the issuance of the senior notes proceeds and the payments made for the incremental gas costs.
Our long-term FFO to debt objective is between 14% and 14.5% and is consistent with the expectations of the rating agencies.
We continue to actively engage with them, and they are comfortable with the outlook and thresholds we've indicated.
I'd like to reiterate, we have no large equity issuance needs over our current planning horizon and can now reevaluate the need for our ATM program in 2022, depending on how we utilize the expected proceeds from our LDC asset sale.
I hope it's becoming clear that our story is streamlining nicely as we prove to you, our investors, that we're delivering on our plan as outlined.
We are reducing our exposure to nonutility businesses, realigning our balance sheet to reduce our reliance between intercompany borrowings and parent debt and committing to efficiently fund our industry-leading rate base growth.
These are the updates for the quarter.
Both Dave and I are excited about the direction CenterPoint is taking, and we cannot wait to share more good news with you as we continue to execute on our plan throughout 2021 and beyond.
Over to you, Tom.
Five months after our strategy-revealing Investor Day, CenterPoint, as you just heard, is well under way executing its strategy.
It's dispensing with volatile noncore nonutility businesses, think Enable; implementing efficient financing, think gas LDC sales; introducing clean energy, think coal closures, renewable additions and much more; and improving performance, think continuous improvement, a whole new culture.
Dave and Jason already have highlighted details about each of these as strategic changes are nearing completion, our premium utility operation is humming.
I hope you see it.
I hope you feel it.
We really sweat the details, so you don't have to.
We have superior rate base growth, delivering needed capital investment.
Our growth rate target of 10% outstrips the peer average of about 7%.
Our resulting utility earnings per share growth target at 6% to 8% every year is well above the peer average of 5%.
And our customer growth at 2% is something we would celebrate at my old company, with top quartile customer satisfaction, we still seek to hold down customer price increases, reducing our O&M cost by 1% to 2% every year.
Coupled with customer growth, this creates a lot of headroom for the needed capital investment.
Five months ago, we showed you our five year plan to reduce costs 1% to 2% each year.
We added the detail for 2021 during our last call.
And here, you can see our progress in the first quarter.
We plan for a fast start with 2021, down 2% to 3%, with results in the first quarter faster yet.
Please keep in mind, some of this is timing.
We still expect to reduce costs by about 2% to 3% for the year.
As you know, one of our tools is our continuous improvement initiative.
We improve our processes from the ground up to enhance safety every day; quality, doing things right the first time; delivery, doing things on time; cost, we see and eliminate waste; and morale, higher and higher every day.
Each day, I observe more who are proud to wear the colors.
Continuous improvement takes time to ramp up.
It's a powerful process.
It shifts dependence from heroic individual work to better processes that can be repeated.
As we succeeded eliminating human struggle, the cost will fall out.
My favorite chart is on the right.
We take on the headwinds.
We take advantage of the tailwinds.
We deliver our earnings per share commitment consistently every year.
We really do sweat the details, so you don't have to.
As I have experienced elsewhere, this management team may do so well on cost reductions that it can pull ahead work from next year, reinvesting savings to benefit our customers sooner.
We did this last year.
We maximize resources for customers and deliver our commitment to you, our investors.
No more, no less, a win-win.
Dave, Jason and this superb leadership team know the secret sauce.
They are working for both our customers and our investors, no or's here.
Back to you, Dave.
I want to reemphasize what we consider critical elements as we transform CenterPoint into a premium utility we believe it can be.
We will continue to deliver sustainable, predictable and consistent 6% to 8% earnings growth year after year.
With our industry-leading organic customer growth and our disciplined O&M management, we believe we can generate robust capex and 10% rate base growth while continuing our focus on safety.
We also look forward to unveiling our enhanced ESG strategy that will put us as an industry leader for a net-zero economy.
We will continue to keep our eyes on maintaining and enhancing our balance sheet and credit profile.
We have executed on our capital recycling strategy through our announced gas LDC sale at 2.5 times rate base and investing at 1 times rate base, and we will continue to explore opportunities to do more of this.
We remain absolutely committed to delivering an economically viable path to minimize the impact of our midstream exposure and eventually eliminate it.
And finally, as we work to move toward a fully regulated business model, we continue to stay focused on our utility operations and improving the experience for our customers.
I hope you will join us on this path of transitioning CenterPoint into a premium utility.
While myself, our team and our employees are only 10 months into this new journey, I could not be more pleased by the momentum we have, what we've accomplished and the bright future we see for CenterPoint.
What you see is the new CenterPoint, where you can expect consistent and predictable earnings and rate base growth, world-class operations and growing service territories and a commitment to delivering on our promises to you, our investors.
We sweat the details, so you don't have to.
We will now take questions until 9:00 a.m. Operator? | centerpoint energy - qtrly earnings per share $0.56.
q1 non-gaap earnings per share $0.59.
q1 earnings per share $0.56.
reaffirming 2021 utility earnings per share guidance range of $1.24 - $1.26 and reiterating 6% - 8% utility earnings per share annual growth rate target.
on path to deliver 10% compound annual rate base growth through $16 billion 5-year capital plan. |
Dave Lesar, our CEO; Jason Wells, our CFO; and Tom Webb, our Senior Adviser, will discuss the company's second quarter 2021 results.
Actual results could differ materially based upon various factors as noted in our Form 10-Q, other SEC filings and our earnings materials.
We will also discuss non-GAAP EPS, referred to as Utility EPS, earnings guidance and our utility earnings growth target.
In providing these financial performance metrics and guidance, we use a non-GAAP measure of adjusted diluted earnings per share.
As a reminder, we may use our website to announce material information.
Information on how to access the replay can be found on our website.
Now I'd like to turn the discussion over to Dave.
Now while we are always keen to discuss our great future, we are planning to discuss our exciting longer-term strategy updates at our Analyst Day, which will take place on September 23 here in Houston.
Though this is our second Analyst Day in less than 12 months, we feel that it is warranted as we are now well into our strategic transition and we want to use that forum to update our investors on our longer-term business plan, earnings capacity, financial metrics and the net zero emissions target that we will be sharing with you.
We are also excited for the opportunity to spend more time with you in our hometown here in Houston and to see you in person.
Let me quickly remind you of just how far we have come in the last year.
A year ago, CenterPoint was going through a strategic review at the direction of our Business Review and Evaluation Committee or BREC.
The goal of the review was to optimize shareholder value and address specific shareholder concerns.
Initially, in my role as Chairman of the BREC, and then later when I became CEO, it was crystal clear to me that while the company had a great asset base and talented employees, we have not unlocked all of our potential, and certainly had not taken full advantage of all of our inherent opportunities.
Before the BREC process, CenterPoint was targeting modest earnings per share growth and had reduced capital spending in our regulated businesses.
We had work to do to strengthen our regulatory relationships.
The company had previously announced a strategic review of Enable, but had not found an executable opportunity to actually reduce exposure to its midstream investments.
Our O&M expenses were historically growing, and we needed a stronger balance sheet.
We had minimal renewables opportunities on our radar screen, and we were in search of a permanent CFO.
So yes, the list of challenges was long.
I mentioned these not to revisit the adversities our investors and company we're experiencing, but to highlight for you the aggressive speed and approach used by our new team to attack and resolve the challenges and headwinds we faced.
Let me quickly recap our progress.
I substantially refreshed and diversified our Executive Committee, and we now have what I believe is a best-in-class management team.
We announced an updated five-year strategy that prioritizes investment in our regulated businesses and boosted our planned capital spending by about 25% to $16 billion.
We instituted a 10% utility rate base CAGR, well above our peer group average of 8%.
That rate base growth then supported an increased long-term utility earnings per share target growth rate of 6% to 8%, which is also above the consensus peer average of 6%.
To efficiently fund our growth, while repairing our balance sheet, we announced the sale of our Arkansas and Oklahoma gas LDCs at a landmark earnings multiple of 2.5 times rate base.
We were instrumental in the Enable and Energy Transfer merger which, once closed, will provide us a pathway to eliminate our exposure to midstream.
And we announced a commitment to a 1% to 2% annual reduction in O&M over the five years to keep our customer rate growth manageable.
We recently announced changes to our Board leadership to bring our governance structure in line with best practices and shareholder expectations, and we will be announcing a commitment to an industry-leading net zero carbon commitment at our Analyst Day.
So in my view, we certainly have walked the talk, and through timely and aggressive actions overcome many of the headwinds we faced.
Now it's time for CenterPoint to switch gears.
We are going to use the same aggressive approach and organizational speed to take advantage of the tailwinds we have today.
Our strong execution, coupled with a privilege to serve some of the fastest-growing regions in our country, have created the foundation for CenterPoint to trade as one of the premium utilities in the U.S. Believe me, we are just getting started.
Our six-month financial performance in 2021 has been strong.
Today, we are raising our 2021 Utility earnings per share guidance range to $1.25 to $1.27.
This 8% growth projection in '21 puts us at the high end of our 6% to 8% Utility earnings per share annual growth target.
And as a reminder, this increase in guidance is after the dilution impact of the 18% increase in our share count that we experienced in 2020.
When we compare our Utility earnings per share growth to analysts' long-term consensus growth for our peers, we are now in the top decile.
And as you would expect, we are also reaffirming both our long-term 6% to 8% Utility earnings per share annual growth target and 10% rate base compound annual growth rate target.
This 10% rate base growth also exceeds the average 8% rate base growth of our peer group.
For the second quarter of 2021, we reported strong results, including $0.28 of Utility earnings per share compared to $0.18 for the second quarter of 2020.
The comparison to Q2 2020 is a bit noisy, and I believe essentially irrelevant as both quarters included a number of one-off items.
Q2 2020 results also reflected the impact of COVID on our business.
The bottom line for me is to focus on the reality that our Utility earnings per share is expected to grow 8% this year over last year, and then target 6% to 8% growth from there.
Our O&M continuous improvement programs have strengthened our results for the first six months of 2021.
We are already on track to save over $40 million in total O&M costs this year alone, while maintaining our focus on safety.
This is almost 3% of our annual O&M cost.
However, when compared to last year's second quarter, our O&M costs are actually up a bit.
Again, this is just more noise that I don't worry about as last year's second quarter O&M costs were artificially depressed by the impact of COVID and disconnect moratoriums.
We are still absolutely committed to our continuous improvement cost management efforts in our target of 1% to 2% annual reductions in O&M.
In fact, as a result of our excellent 2021 results to date, we were in the fortunate place to be able to already make a management decision and begin pulling recurring O&M work forward from 2022 into the last six months of this year and still be able to hit the 8% Utility earnings per share growth for this year.
This allows us the luxury of reducing near-term run rate O&M costs today, and immediately reinvesting them for the future long-term benefit of our customers and investors.
We continue to see industry-leading organic customer growth rates.
Despite COVID, our Houston service territory continues its 30-plus years of consistent growth.
Overall, we saw about 2% customer growth for electric and 1% for natural gas for the first six months of the year when compared to the prior year.
The growth is supported by the highest level of new home starts in Houston since 2005.
This continued and consistent growth reinforces the value of the fast-growing markets that we serve.
This organic growth plays a key role in keeping our service costs reasonable for our customers.
Moving to capital investments.
We have invested approximately $1.5 billion for the first six months of this year and are still on track to invest approximately $3.4 billion for the full year 2021.
More importantly, we now have better line of sight to additional capital investment opportunities beyond the five-year $16 billion investment plan we outlined on our Analyst Day.
New Texas legislation provides more tools to transmission and distribution utilities to improve the resiliency of the electric grid and helps minimize the risk of prolonged outages and allows us to put all of this into rate base.
Some of these laws include the ability to lease and put into rate base, backup battery storage capacity for resiliency and to assist with restoring power.
Next, the ability to lease and put into rate base emergency generation, which may include mobile generation capabilities.
The ability to immediately procure, store and put into rate base long lead time items related to restoring power, and the allowing of economic versus resiliency justifications for new transmission projects.
Based on initial analysis, these legislative changes provide support to increase our five-year capital investment plan by at least $500 million.
Now this is on top of the $1 billion in reserve capital investment opportunities we previously identified during our last Analyst Day, but were not incorporated into that plan.
Just as important, we will have the ability to efficiently fund $1.1 billion of these incremental opportunities.
This is primarily due to the incremental proceeds expected from the sale of our gas LDCs and the execution of tax mitigation strategies, which Jason will discuss shortly as well as additional debt, assuming a roughly 50-50 cap structure.
Even better, all of this is before the additional proceeds we anticipate from the sale of Energy Transfer units given the significant appreciation in value since the Enable and Energy Transfer merger was announced.
We are in the midst of quantifying what the whole new slate of organic opportunities will look like, and we'll be in a position to provide more detail at our Analyst Day in September.
However, just as a teaser, we are confident that we will be in a position to announce an increase to our previous five-year investment plan, fund that increase with no incremental equity and execute on projects that will continue to improve the resiliency and safety of our systems for the benefit of our customers, a very nice trifecta.
Now I will briefly touch on strategic initiatives, which we have announced over the recent months, including our gas LDC sale and our planned exit of our midstream investment.
We know that investors are highly focused on the ultimate completion of these initiatives, and we believe we will achieve our timing expectations.
We continue to make progress on the gas LDC sale and still anticipate closing by the end of the year.
We are working closely each day with Summit to secure regulatory approvals for the sale and to successfully transition that business.
Turning to the Enable transaction.
We still anticipate the transaction between Enable and Energy Transfer to close in the second half of the year.
We remain absolutely focused on reducing and then eliminating our midstream exposure through a disciplined approach.
Now to be clear, it would be very unlikely for either of these transactions to close prior to our September Analyst Day.
And finally, to reiterate what we said when we announced the news of these two transactions in our last quarterly call, completing these transactions will not change our industry-leading 6% to 8% Utility earnings per share growth target or 10% rate base compound annual growth rate target.
Finally, I want to highlight the Natural Gas Innovation Act that recently passed in Minnesota.
This is a landmark law that establishes a new state regulatory policy that creates additional opportunities for a natural gas utility to invest in innovative, clean energy resources and technologies, including renewable natural gas, green hydrogen and carbon capture and further demonstrates the forward-thinking mindset of the jurisdictions that we serve.
This is a successful outcome for all stakeholders as we work to collectively achieve lower greenhouse gas emission reduction goals.
With the approval from the Minnesota Public Utility Commission, a utility can invest up to 1.75% of our gross operating revenue in the state annually.
This opportunity increases up to 4% of gross operating revenues by 2033.
Under the new law, we expect to submit our first innovation plan to the PUC next year.
This law aligns with our steadfast commitment to environmental stewardship and more specifically, our carbon reduction goals.
Our customers are asking for ways in which we can deliver not only safe and reliable, but cleaner electricity and gas, and we are working to achieve that.
Across jurisdictions, we are collaborating to find ways to introduce more renewable fuels into our systems as we firm up our goal to achieve a net zero target.
We look forward to unveiling this in September during our Analyst Day.
For now, I'll just remind everyone how thrilled I am to be able to deliver these messages.
As I've said, this marks one year for me as CEO, and a lot has changed.
I look forward to the calls every quarter, so I can proudly share our team's accomplishments with you.
I strongly believe the strategy we have laid out and the progress we have made so far more than demonstrates what a unique value proposition CenterPoint offers.
While I don't quite have a full year with CenterPoint under my belt, I am just as energized as Dave by our recent execution and more importantly, about the path we are on to becoming a premium utility.
Let me get started by discussing our earnings for the second quarter of 2021.
On a GAAP earnings per share basis, we reported $0.37 for the second quarter of 2021 compared to $0.11 for the second quarter of 2020.
Looking at slide four, we reported $0.36 of non-GAAP earnings per share for the second quarter of 2021 compared to $0.21 for the second quarter of 2020.
Our Utility earnings per share was $0.28 for the second quarter of 2021, while Midstream investments contributed another $0.08.
As Dave mentioned, there were a few onetime items for both quarters that made the comparison a bit noisy.
This included favorable impacts for the second quarter of 2021, inclusive of $0.05 attributable to deferred state tax benefits.
Of this $0.05 in total, $0.03 of the benefit was related to legislation in Louisiana that eliminated the NOL carryforward limitation period.
This amount is included in our Utility earnings per share results.
The remaining $0.02 of benefit was due to Oklahoma's revision of the corporate tax rate, which is a favorable driver in our midstream segment.
Our 2020 Utility earnings per share included a negative $0.06 impact due to COVID.
Beyond those onetime items, other notable drivers for the second quarter of 2021 include customer growth and rate recovery, which contributed about $0.04 of favorable impacts as well as miscellaneous revenue contributing another $0.02 of favorable impacts.
These were partially offset by a negative $0.02 impact from the share dilution resulting from the May 2020 issuance and a negative $0.03 for unfavorable O&M variance.
So there's a lot of noise when comparing to second quarter of 2020 as that was the quarter that most impacted by COVID worldwide.
I look through that noise, and I think you should, too.
The bottom line is we expect to grow our Utility earnings per share 8% this year and target 6% to 8% thereafter.
And that's what we should all focus on.
As Dave mentioned, O&M is a bit noisy this quarter as well.
The key takeaway is we are delivering on our planned efficiencies of over $40 million in cost reductions for the year, and are now beginning to accelerate O&M work from 2022.
This will help improve reliability of our service for our customers while sustaining growth for our shareholders.
With two quarters of financial results behind us, we have good line of sight to our full year 2021 earnings per share outperformance.
Our disciplined execution and tailwinds led us to raise our Utility earnings per share guidance range to $1.25 to $1.27 per share for the full year, which is at the high end of our 6% to 8% annual Utility earnings per share growth target.
Beyond 2021, I want to reiterate, we are focused on growing Utility earnings per share at 6% to 8% each and every year.
And we look forward to discussing incremental drivers over a longer-term horizon during our September Analyst Day.
Moving to a discussion of future capital opportunities as shown on page five.
We are currently developing our full analysis of additional capital opportunities resulting from bill signed into effect in Texas during the last legislative session.
There will be some shorter-dated opportunities that develop such as the ability to procure long lead time items or to lease a portion of battery storage or backup generation across our footprint, and then some longer-dated projects such as transmission opportunities through economic justification.
Based on our first look, we have confidence that new Texas legislation will support at least $500 million of incremental capital investment opportunities over just our current five-year plan.
This number will likely increase as we work with stakeholders to refine the implementation of this new legislation and develop the longer-dated plan to incorporate some of these opportunities.
We are confident the new tools we have been providing will help create a more resilient electric grid and help reduce the risk of prolonged outages.
Regarding the previously identified incremental $1 billion, we may be able to deploy above our 2020 Analyst Day plan of $16 billion.
This incremental capital spending is likely to be allocated toward recurring system improvements to accelerate the improvement in resiliency, reliability and safety of our services.
We will provide a more comprehensive update on this additional capital spend in our upcoming Analyst Day, but it is important to highlight any incremental capital we include in this plan won't begin contributing to earnings until 2023 at the earliest, as we will begin recovering incremental spend the year following the investment.
As far as the funding sources for these incremental capital opportunities, we continue to take advantage of a number of tailwinds that will allow us to incorporate additional capital spend.
As we reported last quarter, and Dave reinforced, we will receive an incremental $300 million of proceeds above our original plan once the gas LDC sale closes.
Additionally, we have continued to refine the estimate of the incremental benefit for the method we use to determine the amount of repairs expense that can be deducted for tax purposes.
While we are still refining this study, we have confidence that the benefit will generate at least $1 billion in incremental tax deductions, resulting in at least $250 million in additional cash to us and likely more.
This enhanced method for determining repairs expense is an efficient way for us to fund these capital investment opportunities, which improve the resiliency and safety of our systems for the benefits of our customers.
The combination of these improved sources of funding, coupled with debt, that will be authorized under our regulatory capital structure, supports incremental investments of at least $1.1 billion.
And importantly, this amount is before we consider any additional proceeds due to the unit appreciation of Energy Transfer.
Moving to the financing updates.
We closed our $1.7 billion debt issuance in May, which was comprised of $700 million of three-year floating rate notes, $500 million of five-year fixed rate notes at 1.45% and $500 million of 10-year fixed rate notes at 2.65%.
The proceeds was to refinance $1.2 billion of near-term maturities at the parent as well as to pay down commercial paper.
Based on our current financing plans, we have no further issuance needs for 2021.
Our current liquidity remains strong at $2.2 billion, including available borrowings under our short-term credit facilities and unrestricted cash.
Our long-term FFO to debt objective is between 14% and 15%, aligning with the Moody's methodology and is consistent with the expectations of the rating agencies.
We continue to actively engage with them and they have informed us that they are comfortable with the outlook and thresholds we've indicated.
Based on our current financing plans, we will not issue any incremental equity through an aftermarket equity program in 2022, as previously discussed, and are evaluating if or when we would initiate it beyond that.
As we've said in the past, we take our commitment to be good stewards of your investment very seriously and realize our obligation to optimize stakeholder value.
I am energized with our execution over the last year, and I am confident we are positioning CenterPoint to be a premium utility moving forward.
Those are the updates for the quarter.
As mentioned, we'll be hosting an Analyst Day here in Houston on September 23.
We look forward to the opportunity to engage and introduce you to the depth of the CenterPoint team then.
This will be Tom's last call with us, as Tom's work here at CenterPoint is winding down.
I want to extend our sincerest appreciation to Tom for his counsel and support over the past year.
I have, and I know we all have benefited greatly from his time here.
I finally remember your visit to Kalamazoo a year ago, went over Dana's cooking in a bottle of nicely aged Bordeaux wine, I explained how I was busy and retired.
I was humbled to be asked and honored to help in a very small way on your extensive checklist.
Top of your list was identifying and attracting one of the very best CFOs in the business.
You already have made immediate critical improvements that will be lasting.
CenterPoint has transformed in less than a year, selling noncore, nonutility businesses, think Enable securing more efficient financing, think LDC sales, driving clean energy, think coal closures, renewable growth and a lot more to come, and accelerating performance, think continuous improvement.
We are witnessing the emergence of a premium utility with sustainable, predictable earnings per share growth every year.
I trust you see it, feel it.
We truly do sweat the details so you don't have to.
You'll see bumps in the road, serious challenges like the winter storm that impacted many utilities.
I bet you had doubts.
But watch CenterPoint, this team promptly addresses challenges to protect our customers and deliver for you, our investors.
With important capital investment to deliver needed improvements for our customers, our rate base growth target at 10% substantially outstrips the peer average at about 8%.
Our resulting annual Utility earnings per share growth target of 6% to 8% is strong.
We expect it to be at the high end of the range this year.
And as Dave mentioned, that's top decile.
Customer growth of 2% is just the level our peers would celebrate.
Coupled with O&M reduction of 1% to 2% a year, this creates a lot of headroom for needed capital investment.
Our five-year plan includes 1% to 2% cost reduction every year.
Our plan for this year is for a fast start, down more than $40 million or 3%.
And with a fast start, we already are pulling work ahead from 2022.
The cost reductions, favorable tax changes, lower financing cost, economic recovery and more allow us to reinvest $20 million for our customers now and possibly more later.
This performance reflects good business decisions and continuous improvement.
It comes from management commitment, experienced teams and ground-up process improvements that enhance safety every day; quality, doing things right the first time; delivery, doing things on time; cost, we see; and eliminate waste and morale higher every day.
This continuous improvement process is powerful.
It's just dependence from heroic individual work to better processes that are repeatable; as we eliminate human struggle, the cost fall out.
And one of my favorite charts is on the right.
As Dave often observes, we take on the headwinds, we take advantage of the tailwinds.
We deliver our earnings per share commitment consistently every year.
We deploy surplus resources to our customers.
It is all about our customers and our investors.
We did this last year.
We're doing it again now.
No ors, just ands here.
It's fun to be part of a premium winning utility.
CenterPoint is a great company with wonderful people and a huge investment opportunity.
As Jason said, you've been a valuable part of our team, and we're grateful for the time you have shared with us.
This has been one exciting year for CenterPoint.
I could not be more pleased by the momentum we have, what we've accomplished and the bright future that we see for ourselves.
We have truly been sweating the details so you don't have to.
And I believe our effort is evident in our consistent and more predictable earnings and rate base growth in our world-class operations in growing service territories.
I hope you now have the trust that we will continue our commitment to deliver on our promises to you, our investors.
I believe the best is yet to come.
I'd also like to remind everyone to register for our upcoming Analyst Day on September 23 here in Houston.
We will now take a few questions. | centerpoint energy q2 earnings per share $0.37.
q2 earnings per share $0.37.
qtrly adjusted earnings per share $0.36.
raising 2021 utility earnings per share guidance range to $1.25 - $1.27.
on path to deliver 10% compound annual rate base growth over 5 years. |
David Lesar, our CEO; Jason Wells, our CFO, will discuss the company's third quarter 2021 results.
Actual results could differ materially based upon various factors as noted in our Form 10-Q on their SEC filings and our earnings materials.
We will also discuss non-GAAP EPS, referred to as utility EPS, earnings guidance and our utility earnings growth target.
In providing these financial performance metrics and guidance, we use a non-GAAP measure of adjusted diluted earnings per share.
As a reminder, we may use our website to announce material information.
Information on how to access the replay can be found on our website.
Now I'd like to turn the discussion over to Dave.
As you know, we laid out our first ever 10-year plan back at our Analyst Day.
We expressed that and are reiterating today that we are a management team who can execute.
We believe we will continue to demonstrate that for you.
This marks my sixth quarter with CenterPoint and Jason's fifth.
I'd like to first start by laying out how we are building a consistent track record of delivery.
First, if you recall, the CenterPoint value proposition we laid out at our recent Analyst Day focused on our efforts to achieve sustainable earnings growth for our shareholders, sustainable, resilient and affordable rates for our customers and a sustainable positive impact on the environment for our communities.
I believe we are continuing down the path of achieving this value proposition.
Each quarter under the new CenterPoint leadership, we have met or exceeded quarterly utility earnings per share and dividend expectations.
We have increased our annual utility earnings per share guidance for both 2020 and 2021.
And as I will discuss shortly, today, we are increasing our 2021 utility earnings per share guidance once again.
Our 2021 through 2024 annual utility earnings per share growth rates of 8% are top decile among our peers, and we also expect to achieve at the mid- to high end of our 6% to 8% utility earnings per share guidance range each year from 2025 to 2030.
I am confident in our team's ability to achieve that growth.
Last year, we had a $13 billion 5-year capital plan.
We increased that to $16 billion in our 2020 Analyst Day.
In this year, we increased it yet again to $18 billion plus.
We introduced our first ever 10-year capital plan.
CenterPoint remains ripe with opportunities across our footprint to expand and harden our system to benefit customers and shareholders.
Our current 10-year plan contains no external equity issuances.
We will fund the equity portion of our capital needs to internally generated operating cash flows and our already announced strategic transactions.
We are also executing on our plan to become a pure-play regulated utility as we approach the closing of the Enable ET merger expected by the end of this year and then our subsequent sell-down of our midstream stake.
With the recent settlement agreement among the parties in Arkansas, we are also moving toward the completion of our LDC asset sale.
The remaining steps include the Oklahoma approval, which is anticipated to be received in November and the all-party settlement in Arkansas is expected to be approved by mid-December.
And with our newest announcement around our industry-leading ESG targets, we are on the path to executing our goals to be net 0 on direct emissions by 2035.
We continue to believe that this is an achievable path delivering for customers, regulators, investors and the environment.
In the third quarter of 2020, I said that I will not be satisfied until we are recognized as a premium utility.
In the theme of our Analyst Day was again establishing a path toward a premium.
I believe we are making tremendous strides down that path.
The storm headwinds of up to 90 miles an hour, leaving 470,000 of our Houston Electric customers without power.
Within three days, we had 95% of the power restored for those customers.
And within five days, the whole system was back online.
Now for this quarter's headlines.
Our year-to-date financial progress has been strong.
We are reporting a utility earnings per share beat and are raising our full year outlook this quarter.
For the third time this year, we are increasing our 2021 utility earnings per share guidance this time to $1.26 to $1.28 for the full year.
And for the first nine months, we've already achieved nearly 80% of that full year goal.
More importantly, we are still targeting an 8% annual growth rate for 2022 to 2024.
So this raises our guidance for 2022 utility earnings per share to $1.36 to $1.38.
For the third quarter of 2021, we reported $0.25 of utility EPS, which compares to $0.29 in the third quarter of 2020.
In the third quarter of this year, we had a onetime impact to earnings of $0.04 per share related to our most recent Board implemented governance changes.
Jason will get into more detail on the variances shortly.
As I mentioned earlier, we have increased our five-year capital plans to $18 billion plus over the next five years and $40 billion plus over the next 10 years.
This is nearly a 40% increase in our five-year capital investment plan since the third quarter of 2020.
This includes new opportunities that stem from the latest legislative session in Texas.
One of those opportunities was the ability to lease and put into rate base mobile generation units.
We move quickly on this opportunity and procured [Indecipherable] five-megawatt and 30-megawatt mobile generation units, some of which we were able to deploy during Hurricane Nicholas as backup while crews worked to repair our system.
And recently, during an ERCOT forecasted Texas wide load-shedding event, the Texas PUC [Indecipherable] to make sure our units were ready to support customers.
We were the first the utility in the state to act on this legislative opportunity and had them in place to utilize them in the way the law intended.
We look forward to mobilize quickly on the other tools provided to us by the Texas legislature to improve the resiliency of the electric grid and help reduce the risk of prolonged outages.
We already have an outstanding RFP for additional mobile generation, which could bring our total up to 500 megawatts and hope to have this procured in the coming months.
We believe that with the deployment of these additional tools, we will be able to mitigate some of the impacts of future extreme weather events on our customers.
Due to recent weather events in both Louisiana and Texas, we are running slightly behind on our capital spending plans on a year-to-date basis.
These weather events pulled away many of our contract crews, so they could provide mutual assistance to our fellow utilities, especially in Louisiana.
Therefore, while deployed elsewhere, they cannot work on our capital projects, but we have a catch-up plan in place and anticipate making the short fall of.
In anticipation of continued labor shortages and as we ramp up our capital plans in the coming years, we have now moved to procure additional contractor resources from multiple suppliers.
We believe that this will help to support continuity and crews on a long-term basis and reduce the impact of any labor disruptions in executing our $40 billion-plus capital spend over the next 10 years.
We remain committed to our continuous improvement cost management efforts and our target of 1% to 2% average annual reductions.
We've already realized the benefit of some of these improvements this year.
We stated in the second quarter that we could accelerate approximately $20 million of recurring O&M work forward from 2022 into this year if we had the available resources.
So far, we've achieved approximately 20% of this goal year-to-date and remain confident around our team's ability to continue to execute toward this goal for the balance of the year.
This allows us the luxury of reducing near-term run rate O&M costs which helps to mitigate rate pressures while maintaining continued focus on reliability and safety of our service for customers, all while sustaining growth for our shareholders.
In addition to O&M continuous improvement efforts, we are fortunate to operate in growing jurisdictions.
This combination plays a key role in keeping our growth plans affordable for our customers.
As we discussed during our Analyst Day, Houston is the fourth largest city in the U.S. and the only one of those four that's growing.
Houston's organic growth has been multi-decades long.
That organic growth rate continued for yet another quarter.
We are also seeing strong growth in many of our other jurisdictions as well.
On a year-over-year basis, we saw about 2% customer growth for electric and 1% for natural gas through September.
Again, this organic growth is the luxury, most other utilities just do not have.
Now let me shift gears and give a brief regulatory update.
A recent highlight in Indiana happened just this past week.
As part of our long-term electric generation transition plan, we received the CPCN approval from the Indiana Utility Regulatory Commission for the first tranche of solar generation, 75% of which we expect to own and 25% due a PPA.
This approval shows the commission's alignment and support of our 2020 IRP, which bridges our coal generation into a mix of lower carbon and renewable sources.
We anticipate the CPCN decisions for our Gas CT plant in the second or third quarter of 2022 and the incremental solar PPA in the third quarter of 2022.
As outlined in our IRP, we are targeting to own approximately 50% of our total solar generation portfolio.
Our continued build-out of renewables is a key driver in achieving our net zero direct emissions goal by 2035.
Shifting to gas cost recovery from the February winter storm.
We continue to make progress.
And as we previously mentioned, we have mechanisms in place or have begun recovery in all jurisdictions.
We are happy to report that just this past week, we reached a settlement on the prudence proceedings supporting securitization of 100% of gas costs in Texas, including all of related carrying costs.
We look forward to the commission approval of the agreement.
We anticipate a financing order for the securitization bonds by the end of the year.
With this time line, we anticipate receiving the proceeds sometime mid next year.
In Minnesota, we started a recovery as of December and are working with stakeholders on ways to reduce the impact on our customers.
We filed a rate case earlier this week, and also proposed an alternative rate stabilization plan to address the unique set of circumstances customers are experiencing.
The full rate case requests $67.1 million per year, while the rate stabilization plan requests $39.7 million per year and an extended recovery period for winter storm costs.
The proposed rate stabilization plan would resolve the rate case and limit the bill impact on customers, in part by recovering the winter storm costs over a 63-month period.
We're asking the PUC to review and approve the stabilization plan by the end of this year, which would allow rates to take effect on January 1.
To summarize, we are working with stakeholders to align our focus on safety and related investments while minimizing the burden to our customers.
Largely as a result of mechanisms in our Houston Electric in Indiana South gas jurisdictions, we have recently received approval for $40 million of increased incremental annual revenue.
As discussed in our Analyst Day, we anticipate approximately 80% of our 10-year capital plans to be recovered through interim mechanisms, which demonstrates the constructive jurisdictions in which we operate.
In Texas, our PUC is now appointed a fourth commissioner.
Jason and I have now had the opportunity to meet all four commissioners and are very encouraged by the dialogue and expertise that all of these commissioners bring to the PUC.
We look forward to continued engagement with the commissions in all of our jurisdictions.
So those are the headlines for the quarter.
I remain excited about what's to come for CenterPoint.
We have a growing track of execution and believe it more than demonstrates what we can do in the near future and the unique value proposition that CenterPoint offers to you.
This marks my one year of earnings calls with CenterPoint and the story keeps getting better.
To reemphasize Dave's message, we are focused on establishing a track record of consistent execution, and I fully believe the best is yet to come here at CenterPoint.
On a GAAP earnings per share basis, we reported $0.32 for the third quarter of 2021 compared to $0.13 for the third quarter of 2020.
Looking at slide five, we reported $0.33 of non-GAAP earnings per share for the third quarter of 2021 compared to $0.34 for the third quarter of 2020.
Our utility earnings per share was $0.25 for the third quarter of 2021, while midstream investments contributed another $0.08.
Favorable growth in rate recovery, lower interest expense and reversal of the net impacts from COVID last year, each contributed $0.01 of favorability.
Board implemented governance changes recorded this quarter and another $0.03 of unfavorable variance attributable to weather and usage.
For context, we experienced 73 fewer cooling degree day in Houston for the third quarter of 2021 compared to the third quarter of 2020.
We estimate that each cooling degree day above normal has approximately a $70,000 a day impact in our Houston Electric business.
Turning to slide six.
For the first nine months, we've achieved nearly 80% of our full year 2021 utility earnings per share guidance, which we are now raising to $1.26 to $1.28.
And as Dave said, we are also raising our utility earnings per share guidance for 2022 to $1.36 to $1.38, which is an 8% increase from our new 2021 estimates.
Looking beyond that, we are focused on delivering 8% annual utility earnings per share growth through 2024 and at the mid- to high end of our 6% to 8% annual utility earnings per share range over the remainder of our 10-year plan, strong growth each year and every year, no CAGRs for earnings.
The last thing I'll mention for this quarter is the share count.
Our preferred Series B shares converted into 36 million common shares as of September 1, further reducing the number of share classes outstanding.
We expect the conversion will have no impact on earnings as the increase in shares is effectively offset by the termination of our Series B dividends.
Going forward, I want to reiterate we have no external equity included in our current [Indecipherable] and only expect our share count to modestly increase from dividend reinvestment or incentive plans.
Now I want to offer some color on the capital plans supporting our rate base and utility earnings per share growth.
We've spent approximately $2.3 billion year-to-date on capital investments.
As Dave mentioned, we had some slight delays due to recent weather events and are focused on making that up over the coming months.
We outlined on our Analyst Day the three buckets that we are investing in, safety, reliability and growth and enabling clean investments that are included in our $40 billion plus 10-year capital investment plan.
This investment profile should benefit our shareholders, our customers and the environment.
We see those opportunities weighted nearly 60% toward investments in our electric business throughout the plan.
While we are slightly behind the capital plan on a year-to-date basis, we are in the midst of ramping up to a sustained increase in our capital investments and we are restructuring contract crews in a way that helps support our labor needs to execute this level of investment.
We are confident we will make up the shortfall by early 2022.
Moving to the financing updates.
Our current liquidity remains strong at $1.8 billion, including available borrowings under our short-term credit facilities and unrestricted cash.
Our long-term FFO to debt objective remains between 14% and 15%, aligning with Moody's methodology and is consistent with the expectations of the rating agencies.
As mentioned during the Analyst Day, it's our intention to stay within this range throughout the course of our long-term plan.
Lastly, as we near the end of the calendar year, we are getting incrementally closer to the expected closing of the strategic transactions we've announced.
We recently filed a settlement in Arkansas that represents an agreement among all parties.
We anticipate that Arkansas Commission will issue its final approval by mid-December.
In Oklahoma, a hearing was held on November 3, and we expect a final order soon.
Finally, as Energy Transfer expressed on their earnings call earlier this week, the Enable and Energy Transfer merger is also expected to close before year-end.
Once that transaction closes, we will remain absolutely focused on reducing and then eliminating our exposure to midstream through a disciplined approach.
Analyst Day, we anticipate being fully exited from the midstream sector by the end of 2022.
We will then be nearly a pure-play regulated utility.
As we continue to express, we take our commitment to be good stewards of your investment very seriously and realize our obligation to optimize stakeholder value.
And with that, we look forward to more of these shorter earnings calls in the future.
As you heard from us today, and others from our full management team during the Analyst Day, the outlook for CenterPoint just keeps getting better.
As I said, we now have six quarters of meeting or exceeding expectations, but we believe there is much more to come.
We are demonstrating the pathway to premium, and we hope that you will be on board with us as a shareholder when that happens.
We will now take a few questions being mindful of today's earnings schedule and the upcoming EEI conference. | q3 non-gaap earnings per share $0.33.
q3 earnings per share $0.32.
utility earnings per share guidance range for 2022 raised to $1.36 - $1.38.
reiterating 8% utility earnings per share annual growth rate target for 2022 through 2024.
raising 2021 non-gaap utility earnings per share guidance range to $1.26 - $1.28. |
Joining me are our President and Acting Chief Executive Officer, Joe Harvey; our Chief Financial Officer, Matt Stadler; and our Chief Investment Officer, Jon Cheigh.
Further, none of our statements constitute an offer to sell or the solicitation of an offer to buy the securities of any fund.
These non-GAAP financial measures should be read in conjunction with our GAAP results.
Before we go through our regular agenda, I'd like to provide an update on Bob Steers who as we announced in February is currently on medical leave.
Bob's recovery has been remarkable and he is doing well.
He is available to provide input on business decisions and we expect him to resume active duties as CEO by the end of the second quarter.
In the meantime, our executive committee and broader leadership group continue to perform at a high level.
I'll return later to summarize the quarter after Matt and Jon provide the reports.
Next up is Matt, who will review our financial results for the quarter.
Yesterday, we reported record earnings of $0.79 per share, compared with $0.61 in the prior year's quarter and $0.76 sequentially.
Revenue was a record $125.8 million for the quarter, compared with $105.8 million in the prior year's quarter and $116.6 million sequentially.
The increase in revenue from the fourth quarter was primarily attributable to higher average assets under management across all three investment vehicles, partially offset by two fewer days in the quarter.
Our implied effective fee rate was 57.3 basis points in the first quarter, compared with 57 basis points in the fourth quarter.
Excluding performance fees our fourth quarter implied effective fee rate would have been 56.3 basis points.
No performance fees were recorded in the first quarter.
Operating income was a record $53.2 million in the quarter, compared with $40.4 million in the prior year's quarter and $49.4 million sequentially.
Our operating margin decreased slightly to 42.3% from 42.4% last quarter.
The fourth quarter included a cumulative adjustment that reduced compensation and benefits to reflect actual incentive compensation that was paid, which increased our fourth quarter operating margin by 153 basis points.
Expenses increased to 8% compared with the fourth quarter, primarily due to higher compensation and benefits, distribution and service fees and G&A.
The compensation to revenue ratio for the first quarter was 35.5%, consistent with the guidance provided on our last call.
The increase in distribution and service fee expense was primarily due to higher average assets under management in US open-end funds.
And the increase in G&A was primarily due to higher professional and recruiting fees.
Our effective tax rate was 27.25% for the first quarter, in line with the guidance provided on last quarter's call.
Our firm liquidity totaled $118.8 million at quarter end, compared with $143 million last quarter.
Firm liquidity as of March 31 reflected the payment of bonuses as well as the firm's customary funding of payroll tax obligations, arising from the vesting and delivery of restricted stock units on behalf of participating employees.
We remain debt free.
Total assets under management was a record $87 billion at March 31, an increase of $7.1 billion or 9% from December 31.
The increase was due to net flows of $3.8 billion and market appreciation of $4 billion, partially offset by distributions of $690 million.
Advisory accounts which ended the quarter with a record $20.3 billion of assets under management, had record net inflows of $1.7 billion during the quarter.
$1.1 billion, of which were included in last quarter's pipeline.
We recorded $968 million of inflows from five new mandates and $799 million of inflows into existing accounts.
These inflows were evenly a portion between US real estate, global real estate, preferred and global listed infrastructure portfolios.
Joe Harvey, will provide an update on our institutional pipeline of awarded unfunded mandates.
Japan subadvisory had net outflows of $204 million during the quarter, compared with net inflows of $83 million during the fourth quarter.
We believe the outflows were largely attributable to a distribution rate cut made by the Japanese advisor to one of the funds we sub-advise in January 2021.
The last time the Japanese Advisor made a distribution rate cut to one of the funds we sub-advise was in the second quarter of 2019, which coincided with the last time Japanese Subadvisory had net outflows.
Encouragingly the annualized organic decay rate for the two months since January 2021 distribution rate cut was considerably less than what we experienced in 2019.
Subadvisory excluding Japan had net inflows of $97 million, primarily from the new Taiwanese mandate into a blended next-gen REIT digital infrastructure portfolio.
Open-end funds, which ended the quarter with a record $38.6 billion of assets under management had record net inflows of $2.2 billion during the quarter, primarily to US real estate and preferred funds.
Distributions totaled $238 million, $193 million of which was reinvested.
Let me briefly discuss a few items to consider for the second quarter and remainder of the year.
With respect to compensation and benefits, which includes the cost of our newly formed private real estate group that we announced earlier this week, we expect that our compensation to revenue ratio will remain at 35.5%.
We expect G&A to increase by about 9% from the $42.6 million we recorded in 2020, which is higher than where we guided to on our last call.
In addition to incremental investments in technology and global marketing, we expect an increase in recruitment costs associated with the hiring of certain key investment and distribution personnel in addition to the new private real estate group.
We expect that our effective tax rate will remain at 27.25%.
And finally, you will recall that on our last call, Bob Steers mentioned the termination of an institutional global real estate account of approximately $900 million that was expected to be withdrawn in the next quarter or two.
This account, which has a lower than average fee is still being managed and while we expect it to terminate this year, we have no visibility as to timing.
Today, I plan to review the investment environment, our performance and then provide some deeper perspective on our larger asset classes and their outlook.
So markets continued their strength in the first quarter as evidenced by US and global equities being up 6.2% and 4.7% respectively.
But beyond the noise, there were three noteworthy economic and market trend that stood out.
First, strong upward global growth revisions driven primarily by the US.
Second, underneath the surface, the market has increasingly taken on a reflationary tone as reflected by repricing of medium-term inflation prospects and a strong performance in our more inflation sensitive investment areas, such as commodities, which were up 6.9% for the quarter and are now up 35% over the last 12 months.
Last, with a higher growth and higher inflation as the context, we saw a repricing of Fed policy expectations, which partially drove the meaningful rise in the US 10-year treasury yield, ending the quarter at around 1.7%.
So given those three dominant trends of higher growth, inflation and rates, the high level summary of our asset class absolute performance is that listed real assets generally outperformed US and global equities.
This was led by MLPs, natural resource equities, and US REITs.
This performance was consistent with our expectations given deeply depressed relative valuations and that fundamentals for these asset classes were held disproportionately back in 2020 by the recession, but also some unique aspects from social distancing.
On the other side of the ledger, preferred securities were very modestly negative in the quarter.
Compression of preferred credit spreads could only partially offset the headwinds of the steep rise in yields.
That said, this flattish performance still far outpaced traditional fixed income in both income rate and total return with the Barclays Global Ag down 4.5%.
So turning to our performance scorecard.
In the first quarter six of nine core strategies outperformed their benchmark, but for the last 12 months seven of nine core strategies outperformed.
As measured by AUM, 93% of our portfolios are outperforming on a one-year basis, an improvement from 84% last quarter, mostly due to our preferred portfolios.
On a three and five year basis 99% and 100% respectively are outperforming, which is marginally better than last quarter.
By most medium and long-term measures, our investment performance continues to be strong and have high breadth.
That said the regime has shifted, particularly since the November of vaccine announcements.
We expect the market, which has been quite factor dominated to exhibit more idiosyncratic behavior over time, typically a more bottom up environment has allowed our specialist teams to achieve even higher performance batting averages.
So digging deeper into some of our major asset classes.
US and global real estate returned 8.3% and 5.8% respectively in the first quarter, both outpacing their respective equity indices.
Leadership has been in the Retail, Gaming, Lodging and residential areas in anticipation of significant pent-up demand supported by high global savings rates, driving multi-year recoveries in those areas.
The early phase -- the early cycle phase, excuse me, of an economy tends to be the strongest phase for listed real estate.
This is when economic recoveries are the strongest and where tightening is still several years away.
We continue to educate our clients by producing thought leadership demonstrating the historically higher growth and inflation expectations, triumps higher interest rates when it comes to reperformance.
Q1 absolute performance is a perfect reflection of that.
While we outperformed in our US and European strategies, our performance was weaker in Asia.
In general, while we have adopted a more value and reflationary repositioning in the US given stronger growth in vaccination success, we had been positioned more secularly in Asia given different growth dynamics.
Despite these different growth dynamics, Asia like the US has seen the value versus growth momentum reversal.
Preferred securities returned minus 0.6% in the first quarter and we outperformed in both our core and low duration preferred strategies.
After one quarter of underperformance last year, our highly experienced and accomplished team has now outperformed the last four quarters and 10 of the last 13 quarters.
We have also been communicating to our clients for the last three to six months that interest rates were more likely to move up over time, while the 10-year has trickled down since quarter-end, our expectation is that the 10-year will move more toward 2% by the end of 2021 and 2.25% by the end of 2022.
Importantly, in contrast to the start of the year, most market participants have already socialized the idea that rates will likely be higher over time, which in our view, reduces the odds of a tantrum or a disorderly unwind [Phonetic].
Given our rate view, we continue to suggest that investors consider our low duration preferred strategy when building portfolios.
Credit fundamentals of preferred issuers continues to improve with the economic recovery.
Take for instance US banks, who are the largest issuers of preferreds.
Banks have just come off an earning season in the US where they announced their releasing nearly $10 billion in loan loss reserves, as the pandemic-related losses they had accounted for have not been realized.
In addition their capital levels remain far in excess of their regulatory capital requirements.
The first quarter returned 3.5%, which slightly lagged global equities.
Returns in the quarter were led by economically sensitive businesses such as marine ports and freight railways and sustained higher energy prices provided a tailwind for midstream energy companies.
An important catalyst for the asset in the future will be infrastructure focused, fiscal stimulus packages around the world.
President Biden recently proposed over $2 trillion in spending and tax credits, which we see as a clear positive for listed infrastructure, tying into key themes we've highlighted over the past year.
Specifically, we see direct benefits for renewable energy developers in electric utilities, primarily through tax incentives.
We see the potential for new revenue opportunities for cell tower and data center companies, due to a larger addressable market for wireless carriers.
And last, we see broader support for the most economically sensitive segments of listed infrastructure, such as freight railways and marine ports.
Related, we continue to see increased adoption of infrastructure allocations with asset consultants and institutions, and we see growing interest from wealth advisors, as evidenced by record flows into our infrastructure open-end mutual fund and the NAV premium at which our infrastructure closed-end fund, UTF, continues to trade.
Disappointingly, we underperformed our benchmark during Q1 and while our three-year excess return is still attractive, we have underperformed over the last 12 months, so improving our performance here is a key focus area.
I also want to mention that our real assets multi-strategy portfolio was up 6.6% in the quarter, outpacing US and global equities.
We had very good relative performance of plus 100 basis points, with strong alpha contribution from asset allocation and natural resource equities.
We now have good relative performance over the last one, three and five years.
Over a full cycle, this portfolio is designed to provide equity like returns with inflation protection and with diversification versus stocks and bonds.
As a reminder, we launched this multi-strategy offering now more than nine years ago.
And in the last deflationary secular stagnation regime, it's fair to say, there wasn't much interest in diversified real assets.
Fast forward to today, it's clear that inflation is top of mind, while economic forecast always have wide confidence intervals, we expect that there is a very reasonable probability that inflation isn't just a short-term story, but it is more likely to be elevated for the long-term.
As a result, we expect that this is very good nine-year track record may be a hidden asset as we look out over the next three or five years.
And it's something we will speak about more on future calls.
We know that there is a fantastic opportunity to leverage the performance DNA in intellectual capital of our listed real estate team.
One with Jim's team, we are going to be able to create high performing stand-alone private strategies as well as integrated listed and private strategies that dynamically allocate over time to optimize for the best investment opportunities.
The start to 2021 couldn't have been more different than the start to 2020, as we begin to see the pathway out of the pandemic and toward economic recovery, rather than face the sea of uncertainty that the pandemic unleashed one year ago.
We're off to a good start in 2021.
Record fiscal and monetary stimulus combined with the continued rollout of vaccine distribution in the US have set the stage for reopening of our society and economy.
We expect this will be a gradual process and should result in a vigorous extended economic recovery.
Last year we achieved industry leading organic growth despite depreciation and share prices for REITs and infrastructure.
This year to date, we've had some catch-up appreciation, which has provided momentum to our results on top of our continued organic growth.
To set the stage for discussion of our fundamental trends, I'd like to share some thoughts on the big picture for our business and strategy.
Allocations to most of our asset classes are rising because of what I call the asset allocation dilemma.
That is fixed income yields cannot meet investors return targets, which places a significant ask on the equities portion of portfolios.
This creates a need for alternatives including real assets, which can provide equity like returns as well as diversification benefits.
This allocation dynamic combined with our strong investment performance has helped fuel our organic growth.
The current macro environment further supports the demand for our strategies.
Recently, Michael Hartnett, the Chief Investment Strategist at Bank of America, released a report citing five reasons to own real assets.
Number one, they're cheap and at the lowest valuations versus financial assets since 1925.
Number two, there are a hedge for inflation, infrastructure spending and the war against any quality.
Number three, they diversify portfolios.
Number four, they are under-owned and number five, they are scarce and more valuable in the coming digital currency era.
I believe that Hartnett's case for real assets only adds to the demand for our asset classes.
Turning to our fundamental results.
As Jon reviewed, we had an OK quarter in investment performance with six of nine core strategies outperforming as some portfolio managers didn't rotate strongly enough to value in cyclicality as the reopening rally unfolded.
We are confident in our investment teams ongoing portfolio adjustments.
Importantly with 93% and 99% of our AUM outperforming over one and three years respectively, we are in a terrific position to retain assets and compete for new allocations which continue at a good pace.
Our AUM set a record $87 billion at quarter-end with all three of our investment vehicles setting firm records.
Starting from a record $7.5 billion of gross inflows in the first quarter, firmwide net inflows were $3.8 billion and annualized growth rate of 19%.
Open-end funds led the way on net inflows with a record $2.2 billion, driven primarily by US REITs and secondarily by preferreds.
We were awarded $460 million asset allocation model placement in US REITs from a wealth advisory firm.
We also had multiple allocations from small to mid-sized institutions into our institutional US refund, in part driven by several new consultant recommendations.
Notwithstanding rising treasury yields, we had inflows into both our core and low duration preferred strategies, albeit with an anticipated shift and flow momentum to the low duration strategy.
Another notable open-end fund trend was a pickup inflows into our infrastructure fund.
We believe this increased interest has been driven in part by President Biden's infrastructure proposal as Jon mentioned.
In our major asset classes of Global real estate, US real estate, preferreds and infrastructure, we gained market share, measured against both active and passive fund vehicles combined, attribute to both our consistent performance and the strength of our distribution.
Institutional advisory had record net inflows of $1.7 billion.
We believe that the record results are partially attributable to attractive relative valuations and allocation entry points for real estate and infrastructure as well as the strong execution by our distribution team in the Middle East where we've seen growing demand for real estate and infrastructure strategies.
Subadvisory ex-Japan had net inflows of $97 million, relatively quiet, but importantly included a mandate combining two of our recently developed strategies.
Japan subadvisory was our only channel with net outflows, primarily due to one funds distribution reduction that Matt explained.
For perspective, Japan subadvisory peaked in the third quarter of 2011 at 33% of our AUM, but is now just 11% of our AUM as assets have declined by 34% in Japan, while the firm's AUM and other channels has grown by 69%.
Our current won unfunded pipeline stands at $1.4 billion.
Working from last quarter's $1.8 billion pipeline, we had $1.1 billion of fundings in the quarter and won $940 million in seven new mandates and account top-ups across global real estate, infrastructure and a multi-strategy blend of US REITs and preferreds.
Three of the seven new mandates were in our focus strategies, which have higher active share and where performance has been very strong.
We continue to see growing interest for these differentiated, high-performing strategies.
Turning to corporate strategy.
We are confident and continuing to invest in the business.
We believe the next several years will be good allocation entry points for both real estate and infrastructure, providing additional support for resource allocation.
Priorities always start with alpha generation, so we will continue to invest in people, process, data and strategy development.
On that front, we continue to allocate resources to next-generation strategies, focused portfolios, multi-strategy allocation capabilities, ESG integration, and as we announced earlier this week, expanding our real estate capabilities.
Our strategic rationale is to create another growth driver through private investment in the $15 trillion universe of real estate in the US that is not owned by listed REITs.
Leading the group is Jim Corl, who previously worked with us from 1997 to 2008, in his last four years as Chief Investment Officer of our listed real estate team.
Jim spent the last 11 years at Siguler Guff & Company, where he helped build and led an opportunistic real estate investment business.
We're excited about the team that Jim has built to execute our private business, which is a testament to Jim and to our platform.
Without distractions from legacy assets, this team will be able to focus on the best investment opportunities available today.
Our goal is to excel in private real estate as a stand-alone as we haven't listed -- but more importantly, to innovate in combining listed and private to create more alpha levers.
Investors have become more interested and agile in allocating between the two markets.
Moreover, many institutions have real estate allocations that are heavily weighted in legacy property types such as office and retail.
As a result, they need new solutions, and we believe we are well positioned to provide advice on how to rebalance using the listed markets or segments of the private market.
These dynamics will position us to gain a greater share of real estate allocations, where private typically has the greatest share.
We have a product plan that includes strategies and vehicles for both the institutional and wealth channels.
Bob Steers's and my collective vision is to have both private and listed capabilities in real estate and infrastructure, enabling us to provide stand-alone strategies and bespoke solutions that include both markets.
We will work closely with Greg Bottjer, who heads Product Strategy, as well as our Executive Committee to build this foundation for our next phase of growth.
In conclusion, while the past year has been unprecedented, we are energized and optimistic about our future.
We look forward to returning to the office and seeing our colleagues and all of you in person. | qtrly net inflows of $3.8 billion.
qtrly adjusted earnings per share $0.79. |
Joining me are our Chief Executive Officer, Bob Steers; our President, Joe Harvey; and our Chief Financial Officer, Matt Stadler.
Further, none of our statements constitute an offer to sell or the solicitation of an offer to buy the securities of any fund.
These non-GAAP financial measures should be read in conjunction with our GAAP results.
Yesterday, we reported record earnings of $0.94 per share compared with $0.54 in the prior year's quarter and $0.79 sequentially.
Revenue was a record $144.4 million for the quarter compared with $94 million in the prior year's quarter and $125.8 million sequentially.
The increase in revenue from the first quarter was primarily attributable to higher average assets under management across all three investment vehicles, the recognition of performance fees and one additional day in the quarter.
Our implied effective fee rate was 58 basis points in the second quarter compared with 57.3 basis points in the first quarter.
Excluding performance fees, our second quarter implied effective fee rate would have been 57 basis points.
No performance fees were recorded in the first quarter.
Operating income was a record $62.6 million in the quarter compared with $35.5 million in the prior year's quarter and $53.2 million sequentially.
Our operating margin increased to 43.4% from 42.3% last quarter.
The second quarter included a cumulative adjustment to reduce the compensation to revenue ratio.
Expenses increased 12.6% compared with the first quarter, primarily due to higher compensation and benefits, distribution and service fees and G&A.
The compensation to revenue ratio, which included the just mentioned cumulative adjustments to lower the incentive compensation accrual, was 35.03% for the second quarter and is now 35.25% for the six months ended.
The increase in distribution and service fee expense was primarily due to higher average assets under management in US open-end funds, and the increase in G&A was primarily due to higher professional and recruitment fees as well as an increase in travel and entertainment expenses.
Our effective tax rate, which also included a cumulative adjustment, was 26.51% for the second quarter and is now 26.85% for the six months ended.
The reduction in the effective tax rate from the first quarter was primarily due to the diminished effect of the non-deductible portion of executive compensation on a higher than previously forecasted pre-tax base.
Our firm liquidity totaled $185.6 million at quarter-end compared with $124.3 million last quarter.
Total assets under management was a record $96.2 billion at June 30th, an increase of $9.2 billion or 11% from March 31st.
The increase was due to net inflows of $2.6 billion and market appreciation of $7.4 billion, partially offset by distributions of $769 million.
Advisory accounts, which ended the quarter with a record $23.1 billion of assets under management, had net inflows of $1 billion during the quarter.
We recorded $300 million of inflows from five new mandates and a record $1.2 billion of inflows from existing accounts.
Partially offsetting these inflows were $493 million of outflows resulting from client rebalancing.
Net inflows were evenly a portion between US real estate, Global real estate, Preferred and Global listed infrastructure portfolios.
Bob Steers will provide an update on our institutional pipeline of awarded unfunded mandates.
Japan Subadvisory had net outflows of $272 million during the quarter, compared with net outflows of $204 million during the first quarter.
As mentioned on last quarter's call, in January of 2021, our distribution rate cut was made to one of the funds we subadvised.
Encouragingly the rate of net outflows in this fund decelerated throughout the quarter and we actually recorded net inflows for the month of June.
Subadvisory excluding Japan had net outflows of $375 million primarily from a single client who decided to bring the portfolio management for a portion of the assets we manage for them in-house.
Open-end funds, which ended the quarter with record assets under management of $43.5 billion, had net inflows of $2.1 billion during the quarter.
This marks the 10th straight quarter of net inflows into open-end funds, and the first time we have recorded net inflows into each of our 11 US mutual funds.
Net inflows were primarily into US real estate and preferred funds.
Distributions totaled $312 million, $260 million of which was reinvested.
Let me briefly discuss a few items to consider for the second half of the year.
With respect to our outlook for compensation, the double-digit sequential growth in our assets under management and revenue, driven by our industry-leading organic growth rate and our strong investment performance, is tempered by the fact we still have half a year ago.
As a result, we reduced the compensation to revenue ratio by 25 basis points to 35.25% for the six months ended, and we expect that our compensation to revenue ratio will remain at 35.25%.
As we resume certain business activities that have been restricted during the worst of the pandemic, we expect G&A will increase by about 12% from the $42.6 million we recorded in 2020, but only by about 3% from the $46 million we recorded in 2019.
As was the case last quarter, the increase is primarily attributable to incremental investments in technology and global marketing as well as higher recruitment costs associated with the hiring of certain key investment and distribution personnel.
We expect that our effective tax rate will remain at 26.85%.
And finally, during the second quarter, in response to a client requests, we converted the fee structure on two portfolios from a performance-based fee structure to a base fee-only.
This conversion resulted in the realization of the year-to-date outperformance.
The increase in the base fee for these portfolios is not expected to have a meaningful impact on our overall effective fee rate.
Today, I will review our investment performance and discuss related key themes such as our near record, our perfect record of outperformance, what we are doing to sustain and enhance performance, the impact of accelerating inflation on our asset classes and how our major asset classes are performing versus expectations at the beginning of the year.
As we all know, in the second quarter, the US economy reopened from the pandemic and surged powerfully, driving appreciation and positive returns in virtually all asset classes.
A good portion of our AUM did better than the S&P 500, which was up 8.6%.
And we continued to post stellar outperformance versus our benchmarks.
One surprising development was that, treasury yields declined in the quarter against the backdrop of accelerating economic growth and rising inflation.
In fact, inflation surprised on the upside, something that hasn't happened in a long time.
Looking at our performance scorecard, in the second quarter, eight of nine core strategies outperformed their benchmarks.
For the last 12 months, all nine core strategies outperformed.
99% of our AUM is outperforming benchmarks on a one-year basis compared with 93% last quarter, driven by improvements in global listed infrastructure and certain global real estate portfolios.
On a three-year basis 100% of AUM is outperforming, and for five years 99% is outperforming, essentially the same as last quarter.
US REITs returned 12% in the quarter, lifting the year-to-date return to 21.3%.
We outperformed our benchmark in the quarter and for the last 12 months.
Going into this year, we believe 2021 would be a good, so called vintage year for real estate investing starting first with listed and then followed by private, consistent with a long history of the listed market leading the way, particularly during turning points.
The reopening in the US economy has created greater visibility into the turnarounds and demand for space, leasing activity and tenant credit and assorting out of rent deferrals, all of which restrained REIT share prices last year, while investment sales activity resumed including some major portfolio and Company sales.
While fundamentals and share prices for many property sectors have reached or eclipsed pre-pandemic levels, some of the most impacted sectors such as hotels, office and healthcare have loan recovery runways.
We believe that inflation in prices for building materials, such as steel and copper, labor, housing and land have contributed to rising real estate values and share prices.
This is different than in past periods where the replacement cost dynamic has taken a development cycle to kick in.
Global real estate returned 9.2% in the quarter compared with global stocks at 7.7%, lifting the year-to-date return to 15.5%.
For both the quarter and the last 12 months, we have outperformed in all three of our regional strategies as well as in our global and international strategies.
Global listed infrastructure returned 2.9% in the quarter, lifting the year-to-date return to 7%.
We outperformed for the quarter and for the last 12 months.
Similar to real estate, we believed that 2021 would be a good vintage year for infrastructure investing as infrastructure depreciated last year in part due to the sub-sectors that were uniquely impacted by the pandemic.
This year, the sectors hardest hit by the pandemic such as airports, ports and toll roads are still wrestling with concerns about the spread of coronavirus variance and levels of cross-border travel.
And utilities have been flat for the second year in a row, left back in a strong technology-led bull market.
That infrastructure performance, while positive, has not been stronger likely represents an opportunity in our view.
Preferred returned 2.9% in the quarter, helped by the 10-year treasury yield falling 30 basis points to 1.4%.
The year-to-date return is 2.4%.
We outperformed in the quarter and for the last 12 months in both our core and low duration preferred strategies.
Going into this year, we believe that the flat yield curve with the potential for a transition in the rate environment to higher long-term yields suggested investors should pivot toward our low duration strategy.
Notwithstanding the surprise and inflation this year, concerns about the coronavirus variants and global central bank yield management, have resulted in a very orderly interest rate market.
The risks of higher bond yields are on our watch list.
The inflation surprise has helped some of our strategies performance wise and has stimulated investor demand, particularly in our real estate strategies.
Going into this year we believe that inflation risks arising and that our multi-strategy real assets portfolio would see greater investor interest, while conversations have increased, they have yet to translate into flows.
Our real assets multi-strategy benchmark returned 8.5% in the quarter, lifting the year-to-date return to 14.5%.
We outperformed for both the quarter and the last 12 months, driven by excess returns in every strategy sleeve, real estate, infrastructure, commodities, resource equities, gold and high-grade low duration credit, and through top down asset allocation.
In the quarter commodities returned 13.3%, with 25 of the 27 commodities in the index producing positive spot price returns.
On the topic of whether higher inflation is temporary or not, we believe that many factors, including unprecedented fiscal and monetary stimulus, trade bottlenecks, labor markets, housing prices and consumer psychology have come together to support a phase of higher and longer inflation.
If so, the conversations about inflation solutions should turn into more allocations.
In terms of inflation beta or the sensitivity to surprise inflation, the most sensitive of our strategies in descending order are commodities, resource equities, multi-strategy real assets, infrastructure and real estate.
At the same time, the macro environment for real assets is improving.
Real assets are the cheapest versus equities in nearly 20 years.
While we have a near-perfect record of outperformance, we are by no means complacent.
Our goal is to sustain our current level of outperformance, while continuing to innovate, identify alpha sources, put process in place to harvest that alpha and widen our excess return margins versus benchmarks.
The longer our outperformance persist, the better our ability to realize returns on the investments we've made and new vehicles and distribution.
We continue to devote resources to our investment department.
We've talked previously about our initiatives to integrate quantitative techniques and IT efficiencies into our fundamental processes.
Those initiatives are producing positive results and our investment teams are now asking for more.
We've added analysts and are identifying our next group of emerging leaders through our annual talent review process.
We recently added a Head of ESG, who will help our teams take our current ESG integration framework to the next level, contribute to the development of explicit strategies and help address the increasing demands of clients and consultants.
We see many opportunities for innovation and real estate investing.
There is an acute need for next generation real estate strategies to help investors reorganize and rebalance existing allocations, which are heavy in private, heavy in core property types and are not set up to be nimble to pivot to where the best deal is.
We have developed next generation, new economy property type strategies for the listed market.
In April, as we discussed on the last call, we announced the formation of our Private Real Estate group.
Our imperative is to innovate at the intersection of private and listed real estate investing to tilt to where the best returns are and harvest the alphas at those intersections.
Meantime, the pandemic has created change in demographic and business trends, which we believe creates opportunity by geographic market, property sector and business model.
Our private team is organized, our allocation and research processes between listed and private are established and we are commencing efforts to raise capital in institutional vehicles and in closed-end fund strategies.
In closing, we are in a unique phase of the economic and market cycles from an investor's perspective or what we do.
The setup that I've talked about before is how to achieve in a risk-managed fashion, a return bogey of 7% from a 60-40 blend of stocks and bonds.
For a long while now, the 40% in fixed income on a current basis has not been able to meet the return goal.
Now introduce inflation and the exercise becomes more difficult.
The fixed income dilemma is tougher.
There is higher risk for equities and the need to fit real assets into portfolios is greater.
Our strategies offer attractive total returns, current yield, diversification, inflation protection and for the taxable investor, tax advantages.
We have organized our teams to engage with clients to help solve these portfolio challenges.
We are excited about the opportunity.
First off, it's great to be back at work in my office, and I'm 100% healthy.
Also, I'd like to recognize Joe Harvey and our entire Executive Committee, who stepped up seamlessly in my absence, which underscores the quality and depth of our leadership team.
As I look back on the quarter and the year-to-date, it's apparent that we're in an environment that's very favorable for real assets.
The historically strong cyclical recovery that we've experienced this year has fostered a dramatic rebound in fundamentals for real assets ranging from real estate and infrastructure to resource equities and commodities.
The rebound and prospects for real assets versus 2020 is stark.
As Joe just pointed out, whereas the performance of virtually all real asset strategies badly lagged the broader equity markets last year, the reverse has been the case so far this year, especially for our real estate and diversified real asset strategies.
We believe this is a unique point in time for real assets and CNS, one that will not be transient in nature, and is supported by secular trends.
First, this cyclical recovery is historic and underpinned by unprecedented fiscal and monetary stimuli, which are supportive of real asset fundamentals.
Second, investor psychology is shifting toward real assets.
The forces behind this shift are both fundamentals, including growing demand for hedges against unexpected inflation, and technical also including expectations of massive capital flows into public and private infrastructure.
We believe our strong brand and investment performance have put us in a unique position to capitalize on these trends as evidenced by our $2.6 billion in net inflows and the 12% organic growth in this latest quarter.
That said, we're working hard to expand our breadth and depth of capabilities in the real asset space by developing unique and valuable new space [Phonetic].
In addition, we're continuing our work to enhance and improve the results in all distribution channels, especially our US Advisory segment.
Last quarter's net flows in the wealth channel were a near-record $2.1 billion, and just shy of the first quarter record of $2.2 billion.
The organic growth rate in this, our largest channel was 22%.
Importantly, the strong growth in assets was well diversified by channel and product.
We saw strong flows for each of the broker dealer, RIA and independent channels.
DCIO also delivered a $163 million of net inflows, which marks the 12th consecutive quarter of positive net flows for this vertical.
Flows by strategy were diverse as well.
The preferred securities fund led the way with $665 million of net inflows, and our low duration preferred securities fund also generated $205 million of net inflows.
Consistent with the growing interest in real estate, our global real estate securities fund achieved a record $370 million of net inflows in the quarter, and year-to-date has generated a 62% organic growth rate.
Net flows into our three US real estate funds were strong as well at $390 million.
Our non-US funds experienced $61 million of net inflows, which marks the fourth consecutive quarter of positive inflows.
These flows, which have been accelerating, are the result of our expanding network of platforms and relationships throughout the EMEA region.
We expect these results will continue to improve over time.
The advisory channel delivered a solid $1 billion of net inflows in the quarter, also with strong demand across a range of strategies.
US real estate led the way with $443 million of net inflows, followed by preferred securities at $314 million.
Global real estate and global infrastructure also experienced net inflows of $227 million and $162 million, respectively.
$860 million of the $1.4 billion beginning institutional pipeline was funded during the quarter.
In addition, $479 million of new mandates was both won and funded in the quarter, and thus, never even made it into the pipeline.
Our end of quarter pipeline stands at $925 million.
As you may remember, less than one year ago, the advisory group under the leadership of Jeff Sharon was reorganized into a regional team approach, and we are very encouraged by these early results.
The subadvisory channel had net outflows of $375 million, which was attributable to one client who took $381 million of US and global real estate mandates in-house as a cost-saving measure.
Similarly, Japan subadvisory saw $272 million of net outflows, and $309 million of distributions, which reflect the continuing effects of a distribution cut in a large US REIT fund.
Looking ahead, the economy and equity markets appear to be at a tipping point, either the economic activity slows materially and inflation pressures turn out to be transitory or not.
As Joe alluded, the indicators that we follow strongly suggest that economic activity and inflation will remain higher for longer than expected.
In this environment, real assets will be highly sought after for their return and diversification characteristics.
Current fundamentals and stock market momentum appear to confirm this view.
We believe that this is a time to step-up new product initiatives to capitalize on what we expect will be strong vintage years ahead of us.
The launch of our first private real estate fund will be an important milestone for us.
Related to this, we are also growing our multi-strat asset allocation team.
And this, together with our listed and unlisted capabilities, will position us at the intersection of what is now for us a $16 trillion real estate universe.
The opportunity as we see it is to advise investors on how to tilt their real estate portfolios between listed and unlisted investments continuously to generate alpha and maximize returns.
This will open a range of opportunities for us from open and closed-end funds and separate accounts to non-traded vehicles.
Separately, we expect to recognize improved results from our EMEA, wholesale and US institutional teams, both of which are benefiting from new leadership and additional resources.
Only time will tell, but our excellent track record, strong cyclical tailwinds and proven distribution make us as excited about our growth prospects as ever. | qtrly diluted earnings per share of $0.95; $0.94, as adjusted.
quarter ending aum of $96.2 billion; average aum of $92.9 billion.
qtrly net inflows of $2.6 billion. |
Joining me are our Chief Executive Officer, Bob Steers; our President, Joe Harvey; and our Chief Financial Officer, Matt Stadler.
Further, none of our statements constitute an offer to sell or the solicitation of an offer to buy the securities of any fund.
These non-GAAP financial measures should be read in conjunction with our GAAP results.
Yesterday, we reported record earnings of $1.06 a share compared with $0.67 in the prior year's quarter and $0.94 sequentially.
Revenue was a record $154.3 million for the quarter compared with $111.4 million in the prior year's quarter and $144.4 million sequentially.
The increase in revenue from the second quarter was primarily attributable to higher average assets under management across all three investment vehicles and one additional day in the quarter, partially offset by a sequential decline in performance fees from certain institutional accounts.
Our implied effective fee rate was 57.5 basis points in the third quarter compared with 58 basis points in the second quarter.
Excluding performance fees, our third quarter implied effective fee rate would have been 57.3 basis points compared with 57 basis points in the second quarter.
Operating income was a record $70.4 million in the third quarter compared with $44.2 million in the prior year's quarter and $62.6 million sequentially; and our operating margin increased to a record 45.6% from 43.4% last quarter.
Expenses increased 2.6% compared with the second quarter, primarily due to higher compensation and benefits, distribution and service fees and G&A.
The compensation to revenue ratio, which included a cumulative adjustment to lower the incentive compensation accrual was 33.19% for the third quarter and is now 34.5% for the trailing nine months.
The increase in expenses related to distribution and service fees was primarily due to higher average assets under management in U.S. open-end funds, partially offset by a favorable change in share class mix.
And the increase in G&A was primarily due to higher travel and entertainment expenses as well as costs attributable to preparation for a new closed-end fund that combines public and private real estate with preferred and debt securities.
Our effective tax rate, which was 25.93% for the quarter, included a cumulative adjustment to bring the rate to 26.5% for the trailing nine months.
The reduction in the effective tax rate from the second quarter was primarily due to the diminished effect of the non-deductible portion of executive compensation on a higher than previously forecasted pre-tax base.
Our firm liquidity totaled $241 million at quarter-end compared with $185.6 million last quarter and we continued to be debt free.
Total assets under management were $97.3 billion at September 30, an increase of $1 billion or 1% from June 30.
The increase was due to net inflows of $1.3 billion and market appreciation of $469 million, partially offset by distributions of $718 million.
This marks our ninth straight quarter of net inflows.
Advisory accounts, which ended the quarter with $22.8 billion of assets under management had net outflows of $311 million during the quarter.
We recorded $1.1 billion of inflows, the majority of which were from existing accounts.
Offsetting these inflows were $1 billion of outflows from an unexpected account termination after a client decided to eliminate its allocation to multi-start real assets as well as $300 million of client rebalancings.
This account termination is unrelated to the one noted on previous calls.
Bob Steers will provide an update on our institutional pipeline of awarded unfunded mandates.
Japan Subadvisory had net outflows of $52 million during the quarter, compared with net outflows of $272 million during the second quarter.
Distributions from these portfolios totaled $295 million compared with $309 million last quarter.
Subadvisory, excluding Japan, had net outflows of $253 million, primarily from a client that decided to convert its global listed infrastructure portfolio to passive.
Open-end funds, which ended the quarter with a record $45.6 billion of assets under management had net inflows of $2 billion during the quarter.
Net inflows were primarily into U.S. real estate and preferred funds.
Distributions totaled $276 million, $225 million of which was reinvested.
Let me briefly discuss a few items to consider for the fourth quarter.
With respect to compensation, we continue to refine our estimates as we approach year-end.
Given our double-digit year-over-year growth in assets under management, revenue and operating income, driven by our leading organic growth and strong investment performance, we reduced the compensation to revenue ratio from the previous quarter's guidance of 35.25% by 75 basis points to 34.5%.
All things being equal, we expect our compensation to revenue ratio for the fourth quarter to remain at 34.5%.
We now project that our G&A will increase by about 9% from the $42.6 million we recorded in 2020.
And finally, we expect that our effective tax rate will remain at approximately 26.5%.
Today, I will review our investment performance, discuss the macro environment and its impact on our asset classes and talk about certain key priorities for our investment department.
The third quarter felt like a transitory phase in the markets with the S&P 500 up 0.6% and low dispersion across sub-sector performance.
The markets are evaluating several important macro shifts, including stabilization of virus trends after the variant scares, deceleration in the economic recovery, potential for a transition from monetary easing to tightening and gridlock in Washington DC regarding stimulus and potential tax increases.
The one trend that continued to gain traction was the likelihood that inflation will be more persistent.
Reflecting that, commodities reached a seven-year high and were up 7% in the quarter, one of the top-performing asset classes.
The commodities rally has been broad-based with spot prices positive year-to-date for 80% of commodities.
Looking at our performance scorecard, in the third quarter and for the last 12 months, eight of nine core strategies outperformed their benchmarks.
International real estate, which is global ex-U.S. was the one strategy that underperformed for both time periods.
Measured by AUM, 79% of our portfolios are outperforming benchmarks on a one-year basis compared with 99% last quarter.
On a three and five-year basis, 100% of AUM is outperforming.
The one-year figure declined primarily due to global real estate, where our batting average declined from 99% last quarter to 25% in Q3.
Our core global real estate accounts are outperforming year-to-date.
So if we at least break even in the fourth quarter, our figures will improve next quarter.
We believe the macro environment is favorable for most of our strategies in terms of both fundamentals and investor demand.
We expect above trend economic expansion and more persistent inflation.
If the pandemic continues to subside and the recovery broadens, some of the most negatively affected sub-sectors in real estate and infrastructure should continue to recover and help sustain the fundamental recovery.
In terms of investor demand, the need for income is acute as is the need for equity-like returns with diversification.
Adding inflation to the picture should increase demand for more of our strategies.
As we said last quarter, our reading of the factors contributing to inflation supports a phase of higher for longer inflation.
U.S. real estate returned 0.2% in the quarter and we outperformed in all of our sub strategies.
Year-to-date, U.S. real estate is up 21.6%, outperforming the S&P 500's 15.9%.
The powerful recovery in real estate security prices has been driven by a return of overall demand and increased market need for effective inflation hedges and the ongoing search for income.
So far in 2021, $13 billion has flowed into REIT, mutual funds and ETFs, the largest inflow since 2014.
We continue to see increased adoption of listed REITs by institutional investors as a core component of their real estate allocations.
Investors better understand and can tolerate short-term volatility, knowing that over the long-term, REITs are highly correlated to the fundamentals of their underlying real estate.
And the long-term record of listed REITs compared with core private real estate is undeniably compelling.
REITs have outperformed by nearly 400 basis points annually for over 40 years, while providing liquidity.
These dynamics are powerful in terms of potential flows as REIT allocations get right-sized higher based on merit.
Global real estate returned negative 0.7% in the quarter.
While our core strategies outperformed slightly, our international strategy underperformed, primarily due to the Asia sleeve of our portfolios.
Global listed infrastructure returned negative 0.25% in the quarter and we outperformed in all of our sub-strategies.
The downward trajectory of the virus spread and return of travel and global commerce has made marine ports and airports some of the best performing sectors in the quarter.
The big news for infrastructure was what didn't happen that being passage of infrastructure legislation in Washington, DC.
The longer the process takes, the more it underscores the need for infrastructure capital investment and generates interest in the asset class.
Institutionally, infrastructure as an asset class is understood and accepted, and we see strong search activity.
The dry powder amassed by private equity infrastructure managers reached a record $300 billion and provides fuel for our investment thesis that private equity capital will find its way into the listed markets to buy companies and assets with the latest example being the announced privatization of Sydney airport.
In terms of the wealth channel, we need to continue to educate on how infrastructure best fits into allocation strategies.
Notwithstanding that, we've seen strong inflows into our open-end infrastructure fund in part based on the headlines related to significant infrastructure spending.
Preferred securities returned 0.6% for our core strategy and 0.2% for our low duration strategy.
We outperformed in both.
Preferreds continue to look attractive in the fixed income world with yields of 4.8% for investment-grade preferreds in our core strategy and 4.2% for our low duration strategy.
For context, corporate bonds yield 2.25%, municipals yield 1.75% and high-yield yields 4.75%.
Our portfolios are positioned defensively relative to interest rates and we continue to guide incremental allocations to our low duration strategy, which by design has a duration of less than three years and is the only one of its kind.
The benchmark for our multi-strategy real assets portfolio returned 1% in the quarter and we outperformed.
As a reminder, this strategy combines real estate, infrastructure, commodities, resource equities, gold and short duration credit with an asset allocation overlay.
Over the past year, the real assets portfolio returned 32.5% compared with the S&P 500 at 30%.
This strategy is designed to provide protection from unexpected inflation and produce equity-like returns with a low correlation to financial assets.
Somewhat surprisingly, we haven't seen a significant increase in demand for this portfolio, but with a long history of head fakes on inflation, it simply may be early and the demand for this strategy may follow rather than lead inflation.
We continue to expand our investment department, including the addition of a Portfolio Manager and Head of Multi-Asset Solutions, who will join us next month to oversee asset allocation, strategy research and macroeconomic research.
This is a strategic role that will expand our real assets and real estate solution investment capabilities and enable us to engage with clients at a higher level.
We've made tremendous progress preparing strategies for our private real estate business, including a strategy with a capital appreciation objective.
We have commenced the investment process and are evaluating acquisition opportunities.
In addition, for our closed-end real estate funds, we will pursue an income strategy to capitalize on mispriced property sectors.
This will expand our investment universe for our closed-end funds and supplement these funds' primary focus on listed real estate with higher income generation and rifle shot opportunities in the private market.
These are examples of our broader vision using both listed and private real estate to broaden our opportunity sets and provide investors with optimized allocations to real estate by tilting portfolios to where the best values are.
Looking into 2022, we will be developing other vehicles for the wealth channel and we expect to add a real estate strategist to further enhance our asset allocation and advisory capabilities.
Meantime, commercial real estate has a positive outlook with fundamentals strong or recovering, compelling income generation, and particularly in this environment, attractive inflation sensitivity.
Finally, we're looking forward to the next phase of our return to office plan whereby everyone will be in the office three days a week beginning next week.
While we have performed well working remotely as our operations and investment performance attest, we want to get back to in-person interaction, debate and decision-making on the investment team and across the firm.
The creativity, innovation and cross-team collaboration our business requires is best done in person.
Current indicators point to the general containment of the pandemic, thereby allowing us to return safely as we transition to being together once again as a team while having the best of both worlds with some work model flexibility.
As you heard from Matt and Joe, we had a very strong quarter.
Continued excellent investment performance across the board, record AUM, revenues, earnings and profit margins.
For the first time in several years, we benefited from strong, absolute and relative market returns.
We believe this is significant because fundamentals indicate that this is the beginning of a new trend, not the end.
An inside joke here at Cohen & Steers is how often I use the metaphor of how important it is to skate to where the puck will be and not stare at where it is now.
Where the puck is now is only useful in helping to see where it's going.
Broad-based, demand-driven inflation will persist and is most definitely not transient, but the bond market, like most investor portfolios is where the puck was.
The latest inflation measures have all moved broadly higher.
September CPI increased 5.4% year-over-year and the core CPI was also up 4%.
In a surprise announcement, the Social Security Administration last week disclosed that future payments will be increased by 5.9%, the largest such increase in over 40 years.
Consumer spending surged 11.9% in the second quarter and 13.9% in the month of September.
But the real story beyond these surging spot indicators is the steady increase of the more persistent and heavily weighted components of these inflation measures.
Rent is a key category as it makes up over 30% of CPI.
Tenant rent jumped 0.5% in September which was the biggest monthly increase in 20 years.
Owners' equivalent rent, which is the accepted measure of what homeowners would pay if they had to rent their homes rose 0.4%, the most since 2006.
Lastly, as these persistent measures of inflation continue to rise, it can cause expectations to become self-fulfilling.
According to the New York Fed, consumers' median inflation expectations for the next three years is 4.2%.
So where the puck is today isn't bad as we saw this quarter, but to get to where the puck is going, will require investors to reposition their portfolios to hedge against or even benefit from the shift to a more enduring inflationary environment.
All real asset classes and especially infrastructure and real estate have historically provided investors with the solutions that they'll be looking for.
At the risk of being repetitive and with the benefit of strong, absolute and relative returns from our real asset strategies, we achieved record AUM of $97.3 billion and over $100 billion intra-quarter; record open-end fund AUM of $45.6 billion and $1.3 billion of net inflows in the quarter.
As has been the case, recently, the wealth channel led the way with $2 billion of net inflows, representing 18% organic growth and our third best quarter on record.
Both the BD and RIA verticals were strong and DCIO fund flows were positive for the 13th straight quarter.
From a product standpoint, we saw strength in preferred security strategies, which generated net inflows of $1.1 billion, and in real estate which had net inflows of $755 million.
Looking forward, as inflation and interest rates move higher, we anticipate that flows into our low duration infrastructure and multi-strategy real asset portfolios will all benefit.
In addition, we have filed with the SEC to launch a closed-end fund offering in the first quarter of next year that will combine public and private real estate in one actively managed listed portfolio.
In the advisory channel, due to a planned design change, we had an unexpected $1 billion termination of a high performing multi-strategy real asset portfolio, which resulted in $311 million of net outflows in the quarter.
Gross inflows remained strong, totaling $1.1 billion with U.S. real estate accounting for over two-thirds of that amount.
The pipeline of awarded but unfunded mandates is at $900 million and we recorded $550 million of mandates, which were both won and funded in the quarter, our second best result on record.
Japan Subadvisory net outflows were $52 million pre-distributions and totaled $347 million, including distributions.
All things being equal, we are optimistic that flows, especially for our U.S. real estate portfolios, may shortly begin to improve.
First, the portfolios are performing extremely well, especially after currency adjustments.
Second, we are approaching the 12-month mark for the last distribution cut, which typically coincides with flows turning positive.
Lastly, the end of COVID restrictions -- with the end of COVID restrictions in Japan, our teams have been asked to resume a significant number of in-person sales seminars.
Subadvisory ex-Japan had net outflows of $253 million as well, primarily driven by the termination of an offshore global listed infrastructure portfolio and modest outflows elsewhere.
We did bring on a new $83 million global real estate mandate in the quarter.
We believe that the next several years will witness a generational shift in the economy and capital markets.
Higher growth rates sustained by unprecedented monetary and fiscal stimuli have produced demand-driven supply/demand imbalances resulting in asset price inflation, which is becoming self-fulfilling.
Real estate values and rents, labor costs and commodity prices are rising with no current end in sight.
Many investors have never experienced this set of economic variables.
We believe that as investors begin to extrapolate these trends, allocations to real assets, especially infrastructure and real estate will substantially increase.
Our traditional range of products is well positioned to capture this shift.
In addition, we recently commenced the marketing process for our private real estate strategies that we discussed last quarter.
And as I've said, we hope to launch our first public-private real estate closed-end fund this February.
Given the favorable outlook for real assets, we are committed to adding new capabilities and products that will provide the solutions that investors need when they ultimately see where the puck is going. | cohen & steers inc - qtrly diluted earnings per share of $1.05; $1.06, as adjusted. |
Joining me are our Chief Executive Officer, Bob Steers; our President, Joe Harvey; and our Chief Financial Officer, Matt Stadler.
Further, none of our statements constitute an offer to sell or the solicitation of an offer to buy the securities of any fund.
These non-GAAP financial measures should be read in conjunction with our GAAP results.
Yesterday, we reported record earnings of $0.76 per share compared with $0.74 in the prior year's quarter and $0.67 sequentially.
The fourth quarter of 2020 included cumulative adjustments to compensation and benefits and income taxes that lowered our compensation to revenue ratio and effective tax rate, respectively.
Revenue was a record $116.6 million for the quarter compared with $109.8 million in the prior year's quarter and $111.4 million sequentially.
The increase in revenue from the third quarter was primarily attributable to higher average assets under management, partially offset by lower performance fees when compared with the third quarter.
Our implied effective fee rate was 57 basis points in the fourth quarter compared with 59 basis points in the third quarter.
Excluding performance fees, our fourth quarter implied effective fee rate would have been 56.3 basis points, and our third quarter implied effective fee rate would have been five point -- 56 basis points.
Operating income was a record $49.4 million in the quarter compared with $47.4 million in the prior year's quarter and $44.2 million sequentially.
Our operating margin increased to 42.4% from 39.6% last quarter.
Expenses were essentially flat compared with the third quarter as lower G&A was offset by higher expenses related to distribution and service fees as well as compensation and benefits.
The decrease in G&A was primarily due to lower professional fees and a reduction in virtually hosted conferences.
The increase in distribution and service fee expense, which as noted earlier, excludes the cost of our new closed-end fund, is primarily due to higher average assets under management in U.S. open-end funds.
And the compensation to revenue ratio for the fourth quarter was 35% lower than the guidance we provided on our last call.
The decrease was primarily due to an adjustment to reflect actual incentive compensation to be paid.
For the year, the compensation to revenue ratio was 36.1%.
Our effective tax rate was 25.8% for the fourth quarter, which included an adjustment to bring the full year rate to 26.65%.
The lower full year tax rate was primarily due to the relationship between a consistent amount of permanent differences relative to higher-than-forecasted pre-tax income.
Our firm liquidity totaled $143 million at quarter end compared with $201.9 million last quarter.
Firm liquidity as of December 31 reflected the payment of approximately $60.2 million for costs associated with our new closed-end fund and a special cash dividend in December of approximately $47 million or $1 per share.
Over the past 11 years, we have paid a total of $14 per share in special dividends.
And we remain debt-free.
Assets under management totaled a record $79.9 billion at December 31, an increase of $9.4 billion or 13% from September 30.
The increase was due to net inflows of $3.9 billion and market appreciation of $6.4 billion, partially offset by distributions of $859 million.
Bob Steers will be providing an update on our flows and institutional pipeline of awarded unfunded mandates.
Now I'd like to briefly discuss a few items to consider as we begin the new year.
With respect to compensation and benefits, we expect to balance anticipated revenue growth from year-end assets under management that exceeded our 2020 full year average assets under management by about 15%, with our focus on controlled investment in order to maintain our industry-leading performance, broaden our product offerings and expand our distribution efforts.
As a result, we expect that our compensation to revenue ratio will decline to 35.5% from the 36.1% recorded in 2020.
Continuing with the theme of investing in our business, we expect G&A to increase by about 6% from the $42.6 million we recorded in 2020.
After finishing last year 8% below 2019, which was largely driven by lower travel and entertainment and a reduction in hosted and sponsored conference costs as a result of COVID conditions, we intend to make incremental investments this year in technology, including the implementation of new systems, cloud migration and upgrades to our infrastructure and security as well as in global marketing, focused on hosting virtual conferences and expanding our digital footprint.
We also expect that travel and entertainment costs will increase as conditions begin to return to normal.
We expect that our effective tax rate will be 27.25% in 2021.
And finally, we will have earned a full quarter and full year of fees from our new closed-end fund.
And so all things being equal, we expect our implied effective fee rate, excluding performance fees, will increase by about one basis point.
Today, I will review our investment performance and provide some perspective on how our largest asset classes are positioned for 2021.
The markets were ebullient in the fourth quarter as investors continued to look beyond the valley of the pandemic, encouraged by progress with the vaccine and anticipating a potential economic recovery, relieved by clarity on our new administration and government and supported by record monetary and fiscal stimulus.
The macro environment in 2020 was unprecedented with the Fed's balance sheet increasing by over 75%, the budget deficit reaching the highest level since World War II, money supply growing 25% and negative yielding debt reaching $18 trillion globally.
Although we had some of the best relative performance ever in 2020, our asset classes, except for preferreds, lagged their market counterparts meaningfully.
Summarizing our performance at a high level, preferreds performed competitively within fixed income.
U.S. and Global REITs and infrastructure significantly trailed the technology-led performance in stocks.
And certain of our strategies with energy allocations underperformed due to concerns about the secular decline in the demand for oil, considering the growing focus on renewables.
Looking at our performance scorecard, in the fourth quarter, five of nine core strategies outperformed their benchmarks.
For the last 12 months, six of nine core strategies outperformed.
As measured by AUM, 84% of our portfolios are outperforming on a 1-year basis, an improvement from 70% last quarter, mostly due to our preferred portfolios.
On a 1- and 3-year basis, 99% are outperforming, which was consistent with last quarter.
Preferreds returned 4.6% in the fourth quarter.
We outperformed in both our core and low-duration preferred strategies.
After a brief stretch of underperformance, we've now outperformed for three consecutive quarters.
Our 12-month figures are beginning to turn positive across our accounts, which led to the improvement in our 12-month outperforming AUM.
While our relative performance was mixed in 2020, we outperformed all peers.
Taking stock of the critical factors for preferreds, unprecedented monetary stimulus has helped to compress credit spreads to near record low levels.
Credit quality should benefit as the recovery progresses.
With 2020 elections over, the expectation for more fiscal stimulus, and potentially, with the bottoming of inflation, treasury yields may be transitioning from declining to rising.
As a result, companies are taking their queue from markets and issuing significant amounts of preferreds at a very low cost of capital.
Taken together, these factors lead us to expect lower returns from preferreds, and we are currently suggesting that investors consider our low-duration strategy.
With that as a starting point, we believe that conditions later in 2021 and 2022 may create good entry points for these asset classes as the vaccine continues to be distributed, businesses reopen and recovery brings back the more cyclical real estate and infrastructure subsectors that have been disproportionately hit.
In the fourth quarter, infrastructure returned 8.4%, which lagged the global stock index return of 14.8%.
While we underperformed our benchmark in the fourth quarter, we exceeded our excess return target for the full year.
Assessing the infrastructure universe's sensitivity to the economic situation and pandemic, we believe that 9% benefits from secular trends, 50% is relatively unaffected by the economy and pandemic, 20% is directly sensitive to the economic recovery, and 21% will be reliant on successful penetration of the vaccine.
Key investment themes for infrastructure include digital transformation of economies, including 5G deployment; decarbonization and development of renewable power; and the potential for recovery in travel.
We continue to see adoption of infrastructure allocations with asset consultants and institutions.
With the new administration and potential for additional fiscal stimulus via infrastructure, we also believe that wealth advisors may have more interest as well.
In fact, our closed-end fund, UTF, is now trading at a premium to its NAV, indicating investor demand and anticipation of recovery.
In the fourth quarter, U.S. real estate returned 8.1% compared with the S&P 500, which was up 12.1%, and global real estate returned 13.2%.
For the year, we outperformed our benchmarks in all strategies by region and style and by amounts that exceed our excess return targets across the board.
In terms of where real estate is headed, all eyes are on the vaccine and the timing of the reopening of the economy.
Currently, some sectors such as apartments are seeing stabilization with rents flattening out, which is a key step in the recovery progression.
The secular winners such as cell towers, data centers and industrial continue to have great fundamentals.
Probably, the biggest unknown relates to return-to-office dynamics and the proportion of occupancy that may be permanently impaired.
Broadly speaking, lenders have been kicking the can down the road, but banks are now beginning to feel pressure to address problem loans.
While pricing transparency for many sectors is opaque, we expect transactional activity to pick up as the economic recovery takes hold.
Overall, on most metrics, REITs are very cheap, as cheap as they were in the depths of the global financial crisis in 2009.
As the recovery unfolds, considering how much REITs have lagged, we would expect a catch-up in performance.
I also want to mention that our real assets multi-strategy portfolio had very good relative performance in 2020, outperforming by 200 basis -- 240 basis points for the year, which puts us in good position with investors who are looking for inflation protection.
Looking backward over a period of low inflation, investors had not felt a need for this portfolio, which includes real estate, infrastructure, resource equities, commodities and short-duration credit.
However, it has the highest inflation sensitivity of all of our strategies, and we are seeing increased interest in inflation protection, perhaps no surprise considering the deficit and monetary statistics cited earlier.
As Matt mentioned, allocating resources to our investment department is always a priority.
This past year has been particularly gratifying as we continue to see the growing return on investments we've made over the past five years in our people, IT, processing strategies and data and quantitative resources.
One example is our transition of U.S. REIT team leadership that we announced in the fourth quarter.
Our current head, Tom Bohjalian, will be retiring in the middle of this year, and our succession plan has been put in place with Jason Yablon assuming leadership in partnership with Matt Kirschner.
It's hard to imagine replacing as a strong a leader and investor as Tom.
But in the spirit of continuous improvement, we expect Jason to give Tom a run for his money.
We'll continue to build the team for depth and succession.
We will never be complacent on performance and innovation, and we will continue to drive our Alpha Mining initiatives.
Last quarter, I noted that we have a stable of -- track record accounts for strategies that have been developed over the past three years, ranging from existing strategy extensions to new ideas generated by our investment teams.
All but one outperformed benchmarks last year.
We'll be adding more track record accounts in 2021, including one in renewables and clean energy.
Our challenge will be to convert these investment ideas into investor allocations.
Our recent hire of Greg Bottjer from Nuveen, who heads Global Product Strategy and Development, will help us bring some of these strategies to market as well as map out real asset strategy extensions for the next phase of growth.
Overall, I'd say the state of our investment department is strong.
And we are optimistic about our ability to capitalize on the investment opportunities that are expected to come along with a post-pandemic economic recovery.
Let me start by stating the obvious.
2020 was a year that all of us would like to forget.
The one-two punch of COVID and political and social upheaval has had a devastating impact on our culture and economy, and we're not out of the woods quite yet.
In contrast to the unprecedented challenges that we faced last year, U.S. equity markets posted remarkably positive returns led by the COVID beneficiary plays as demonstrated by the strength in the FAANG and related stocks, as Joe already touched on.
While most active managers continued to battle the dual challenges of declining fees and net outflows, the equity markets offered them a reprieve with the S&P 500 and NASDAQ up 16.3% and 43.6%, respectively, last year.
While alternative income strategies such as preferred securities also performed well, delivering returns in high single digits, most real asset strategies, notably real estate and infrastructure, did not.
As Joe noted, global and U.S. real estate securities indices actually declined by 9% and 5.1%, respectively, while global listed infrastructure indices also fell by 4.1%.
It's a point of pride for us that unlike our peers in the industry that benefited from market appreciation, we faced significant market headwinds last year, and yet, still generated industry-leading organic growth.
Importantly, our growth was broad-based and -- with almost every region, strategy and channel contributing to record-breaking results.
We ended the quarter with record assets, as Matt said, of $79.9 billion.
Assets under management in each of the open-end fund, closed-end fund and advisory channels also ended the year at record levels.
In the quarter, gross inflows were a record $7.3 billion and net inflows contributed $3.9 billion.
Virtually, all the organic growth in the quarter was derived from the wealth channel.
Our confidence in the new generation of closed-end funds paid off in the quarter, and we added $2.1 billion of net new assets through the IPO of our Tax-Advantaged Preferred Securities and Income Fund.
Although not a record, our open-end fund channel registered $1.7 billion of net inflows, driven mainly by preferred securities and U.S. real estate strategies.
Notably, each of the RIA, BD, DCIO and Bank Trust verticals generated positive net inflows in the quarter.
Our non-U.S. open-end fund showed modest improvement, albeit from low levels, with net inflows of $41 million in the quarter.
We are continuing to build out our EMEA wholesale distribution team and fully expect that these nascent positive trends will improve.
Consistent with more recent trends, Japan subadvisory saw net inflows of $83 million before distributions and $293 million of net outflows after distributions.
And it was a quiet quarter for subadvisory ex Japan with $10 million of net inflows.
While the headline results for the advisory channel of $101 million of net outflows was disappointing, the underlying trends continue to be strong.
five new mandates totaling $297 million, combined with $282 million of inflows from existing clients, contributed $579 million of gross inflows.
Offsetting these inflows was an unexpected $301 million global real estate outflow, stemming from the termination of a relatively new institutional account, along with a global listed infrastructure termination totaling $299 million.
We do expect the balance of the terminated global real estate account of approximately $960 million to be withdrawn in the next quarter or 2.
Lastly, the quarter ended with a record-setting pipeline of $1 billion, but unfunded mandates of $1.7 billion.
The quarter began with a $1.2 billion pipeline.
$400 million was funded in the quarter, and another $280 million has been deferred due to funding uncertainties.
New awards totaled $1.1 billion.
These new awards were diverse both by strategy and region.
Demand for our strategies, especially real assets remained strong, driven by relative performance, attractive valuations and rising concerns regarding future inflation expectations.
As you know, in recent years, our overarching goal has been to achieve positive flows in each of our core strategies and in every channel and region simultaneously.
To accomplish these results, we have invested continuously in our investment teams, IT, existing and new channels of distribution, innovative new investment strategies, and most importantly, in our people and culture.
So while 2020 was a terrible year in so many ways, it was also a year to be proud of at Cohen & Steers.
All of our teams came together under crisis conditions to deliver a cascade of record results.
For the full year, firmwide gross sales were $27.4 billion, which exceeded the prior record achieved in 2011 of $17 billion by 61%.
Open-end fund gross sales of $17.6 billion were 41% above the prior record, and closed-end fund sales of $2.7 billion similarly blew by the prior record by more than double.
Even in the transition year for us in the U.S. institutional market, our advisory channel recorded sales of $4.3 billion, which was more than 100% better than the prior -- the record set in 2018.
Net inflows last year also set a record at $10.8 billion.
While this was only modestly above the prior record set in 2011, it highlights the important progress that we've made in diversifying our sources of organic growth.
In 2011, net inflows were $10.7 billion.
However, subadvisory inflows from Daiwa Asset Management contributed 81% of that amount in one single strategy.
In contrast, last year, six strategies across open-end funds, closed-end funds and advisory contributed $5.4 billion, $2.6 billion and $1.6 billion of net inflows, respectively, and each setting individual channel records and accounting for almost 90% of firmwide totals.
Achieving these results despite significant market declines for most of our strategies is extraordinary and bodes well for the future.
Strong investment performance in our core strategies has helped us to gain significant market share from our active peers and even passive alternatives.
Seeding and launching innovative new strategies, such as low duration and tax-advantaged preferred securities, next-generation real estate and digital infrastructure has been well received, and our product pipeline is robust.
In addition, expanding and improving the delivery of our strategies through the launch of usage funds, CITs, SMAs and closed-end funds has materially broadened our distribution reach and opportunities.
Lastly, our focus on improving underperforming distribution channels such as U.S. Advisory is starting to pay dividends.
Maintaining the current level of organic growth will not only require a continuation of industry-leading investment performance but also the development of the next generation of innovative real asset and alternative income strategies to complement our existing lineup.
We believe that in the current market cycle, a significant shift in asset allocations into real assets, seeking to capitalize on depressed valuations and the potential to hedge against unexpected inflation is taking place.
Current and prospective clients are looking to us to implement their strategies through both listed and private markets.
In response to our clients' needs and to maintain our leadership position in real assets and alternative income strategies, we plan to expand our opportunity set and related capabilities to include non-traded equity and fixed income investments.
In addition, an important point of differentiation for us will be the ability to deliver all of our capabilities through strategically allocated and bespoke solutions.
As always, we're committed to invest as necessary to drive our long-term growth.
With that, I'd like to ask the operator to open up the floor to questions. | cohen & steers inc - diluted eps, as adjusted, of $0.76 for the fourth quarter.
cohen & steers inc - net inflows of $3.9 billion for the fourth quarter.
cohen & steers inc - quarter end aum of $79.9 billion. |
We have in the room today, Nick DeIuliis, our President and Chief Executive Officer; Don Rush, our Chief Financial Officer; Chad Griffith, our Chief Operating Officer; and Yemi Akinkugbe, our Chief Excellence Officer.
Today, we will be discussing our first quarter results.
And then we will open the call up for Q&A.
Then we're going to go over to Don Rush, our Chief Financial Officer, to talk about the financials, and then Yemi will wrap things up to talk about some thoughts on ESG that we've got.
But starting now on Slide two.
There's one main theme that I think is important to highlight, and the theme there is steady execution.
First quarter was another example of steady execution, and it's illustrated by us generating $101 million in free cash flow.
This is the fifth consecutive quarter that the company generated significant free cash flow.
Similar to last quarter, we used some of that free cash flow to pay down debt.
That helped build further liquidity.
And we use some of the free cash flow to buy back our shares in the open market at attractive pricing.
So for the quarter, we repurchased 1.5 million shares at an average price of $12.26 per share at a total cost of $18 million.
We still have ample capacity of around $240 million under our existing stock repurchase program, which, as a reminder, that's not subject to an expiration date.
Also in the quarter, we upped our free cash flow guidance by $25 million to $450 million.
That's $2.04 per share compared to the previous guidance of $1.93 per share.
Our steady performance drives our confidence in continuing to execute upon our seven year free cash flow plan, and we continue to expect will generate over $3 billion over those seven years.
Again, this is done by steady execution each and every day.
Our long-term plan is largely derisked through our hedging program that supports us a simple operational program that consists of one rig and one frac group.
We've worked hard to get the company to where we are today, and our focus is going to remain on successfully executing that plan.
I want to jump over now to Slide three.
This is a slide that we have shown for the past few quarters now, but I think that it's a really powerful one.
Our competition for investor capital is not so much among just our Appalachian peers, but more so across the broader market.
And as you can see by three of the main financial metrics that we track, CNX streams incredibly well across various metrics and indices.
We believe that these things matter most to generalist investors, along with what has become a much simpler differentiated story.
CNX is a differentiated company due to the structural cost advantage we enjoy compared to our peers, mainly because we own our midstream infrastructure.
And this moat provides us with superior margins that drive significant free cash flow, which, in turn, puts us in a unique position to flexibly allocate capital across the full spectrum of shareholder value creation opportunities.
While our near-term focus is to continue to reduce debt and opportunistically acquire shares, we continually evaluate all our alternatives that we've got.
So last, in that regard, with respect to the often asked about potential M&A activity, our view remains consistent from last time we spoke.
Our two key screening metrics or the ability to deliver long-term free cash flow per share accretion and having good risk-adjusted returns.
The strength of our company affords us the ability to be patient on this front to ensure that we avoid M&A missteps that too often permanently can destroy shareholder value.
With that, now, I'm going to turn things over to Chad.
I'm going to start on Slide four, which highlights some of the key metrics that make CNX an incredibly attractive investment today, particularly relative to our peers.
For us, it begins in the upper right quadrant where we illustrate our peer-leading production cash costs.
While our Q1 result of $0.66 is up roughly $0.05 quarter-over-quarter, we're still more than $0.11 better than our next closest competitor.
It's also worth noting that, that $0.05 increase was driven predominantly by some reworking of our FT book, which allowed us to eliminate some unused FT and exchanges for some FT that is better matched up with our production locations.
As Don will go into more details momentarily, our low production cash costs allow us to generate more operating cash flow per Mcfe at a given gas price relative to our peers.
And this operating margin creates -- this operating margin advantage creates many other advantages for CNX.
First, we'll generate more EBITDA per Mcfe, which means we need less daily production to achieve the same level of EBITDA compared to our peers.
This allows us to maintain that level of EBITDA, but less maintenance drilling, thereby consuming fewer of our acres each year.
The operating margin advantage also enhances each well's return on capital, which means a greater subset of our net acres are in the money.
So fewer well each year from a broader amount of net acres means that we'll be able to sustain this formula for decades to come.
By the way, the lower number of new wells required to maintain our EBITDA means that less of that EBITDA is consumed by maintenance capital expenditures.
That is how we generate, on average, $500 million per year of free cash flow over the next six years at strip pricing.
Wrapping up this slide, you can see that we continue to trade at very attractive free cash flow yield on our equity, while continuing to pay down debt and returning capital to shareholders.
Slide five is another illustration of our cost structure when you look at it on a fully burdened basis.
That means that this cost illustration includes every cash cost that exists in our business.
We expect cost to continue to improve, primarily driven by a reduction in the other expense bucket, which consists primarily of interest coming down and additional unused FT rolling off.
We are expecting around $10 million of unused firm transportation to roll off in 2021, a modest amount next year in 2022 and then another $20 million rolling off across -- through 2023 through 2025.
These are simply contractual agreements that are expiring.
So with these changes, and assuming all future free cash flow goes toward debt repayments, we would expect fully burden cost to decrease to around $0.90 per Mcfe and then lower in years beyond 2021.
Before handing it over to Don, I wanted to spend a couple of minutes on our operations, the gas markets and provide a hedge book update.
During the quarter, we turned in line five Marcellus wells, and we're in the process of drilling out another 13 that will be turned in line within the next two weeks.
Those 18 wells had an average lateral length of just over 13,000 feet and has an average all-in cost of less than $650 per foot per lateral foot.
Also during the quarter, we brought online two Southwest PA Utica wells, the Majorsville 12 wells.
Deep Utica have continued to come down with the all-in capital cost for these two wells averaging $1,420 per lateral foot.
Production from these wells are being managed as part of our blending program, but we're very encouraged by the data we're seeing.
As we've really discussed, we only have four additional SWPA Utica wells in our long-term plan through 2026, but based on what we're seeing so far at Majorsville 12, we're excited about the deep Utica's potential as either a growth driver if gas prices improve or as a continuation of our business plan for years and into the future.
As for our CPA Utica region, as a reminder, we continue to expect about a pad a year through the end of the 2026 plan.
This continues to be an area that we are very excited about.
Shifting to the gas markets, we saw weakening in the near-term NYMEX and weakening to the curve of in-basin markets.
As a gas producer, we're always rooting for stronger prices.
But fortunately, our cost structure and hedge book make higher prices a luxury for CNX, instead of a necessity as it is for many of our peers.
The way we see it, there are four fundamental drivers of gas price that need to be in our favor to actually see higher gas prices.
One, moderate production levels; two, lower storage levels; three, higher weather-related demand; and four, sustained levels of LNG exports.
If all four hit, expect gas prices to surge.
But despite our optimism and others' dire needs, it's becoming less likely each year that all four of those factors line up in favor of strong gas prices.
As an example, just last year, everyone was expecting all four factors to line up in 2021, and the forward curve surge, but a mild winter, lack of strong winter storage draw and growing drilling and completion activity have weighed on 2021 pricing.
The difficulty in having all four factors line up in favor of strong gas prices is why we will continue to focus on being the low-cost producer and protecting our revenue line through our programmatic hedging program.
That's why we do not rely on full commodity cases to make projections or investment decisions.
Insead, our free cash flow projections and investment decisions are based on the forward stroke.
Speaking of our hedging program, during Q1, we added 136 Bcf of NYMEX hedges, 15.5 Bcf of index hedges and 61.3 Bcf of basis hedges.
For 2021, we are now approximately 94% hedged on gas based on the midpoint of our guidance range and after backing out 6% to liquids.
That 94% includes both NYMEX and basis hedges or fully covered volumes, which are hedged at $2.48 per Mcf.
It is a true realized price that we will receive in the year.
We are also now fully hedged on in-basin basis through 2024.
We will continue to programmatically hedge our volumes before we spend capital by locking in significant economics, which are supported by our best-in-class cost advantage.
Q1 was the fifth consecutive quarter of generating significant free cash flow and consistent execution of our plan.
Our confidence in future execution supports a $25 million increase in our 2021 free cash flow guidance and our continued expectation to generate over $3 billion across our long-term plan.
Slide seven is a new slide that highlights our superior conversion of production volumes into free cash flow.
The top chart highlights that CNX is able to convert production volumes into EBITDA more efficiently than our peers as a result of our low-cost structure generating higher margins.
The bottom chart further highlights the superior conversion cycle through a reinvestment rate metric, which is simply capital divided by operating cash flow.
As you can see, CNX has an incredibly low reinvestment rate, which supports our expectation to generate average annual free cash flow of $500 million across our long-term plan.
Our profitability profile allows us to generate an outsized free cash flow per Mcfe of gas and per dollar of capital spending.
Also, this low reinvestment rate demonstrates the company's commitment to generating cash used toward investor-friendly purposes, which include balance sheet enhancement and returning capital to shareholders.
Slide eight highlights our balance sheet strength.
We have no bond maturities due until 2026, so we have a substantial runway ahead of us that provides significant flexibility.
In the quarter, we reduced net debt by approximately $70 million.
And after the close of the quarter, we completed our semiannual bank redetermination process to reaffirm our existing borrowing base.
Lastly, as you can see on the slide, our public debt continues to trade in the 4% to 5% range.
Now let's touch on guidance that is highlighted on Slide nine.
There are a couple of updates on this slide.
The first is the pricing update, which is simply a mark-to-market on what NYMEX and Basis are doing for cal 2021 as of April seven compared to our last update, which was as of January 7, 2021.
We also increased our NGL realization expectations by $5 per barrel as a result of the increase in expected NGL realizations.
As we have already highlighted, we are increasing free cash flow for the year by $25 million.
Lastly, there are a few other guidance related items to highlight that are not captured on this slide that I would like to address in advance of questions.
We expect production volumes to be generally consistent each quarter throughout the rest of the year, with a very slight decrease expected in the second quarter.
As for capital cadence, we expect capital to have a bit more variation.
Specifically, we expect our first half capital to be more than our second half capital, so Q2 should be near Q1 and Q3 and Q4 a bit less.
As we have said previously, quarterly capex cutoffs are difficult to predict since a pad going a bit faster or a bit slower can change the period numbers materially without changing our long-term plan and forecast at all.
I'm Yemi Akinkugbe, the Chief Excellence Officer here at CNX.
A few of you may be wondering what exactly this role entail.
The short answer is I oversee and manage all operational and corporate support function withing the company.
The longer answer is what I want to speak about in more detail today.
We've been focused on the underlying tenets of ESG and its benefit with generation.
This is an effect or a means we only talk about to ponder up to certain interest for short-term end.
Instead, the concept was part of our fabric long before the current management team joined the company, and it will be part of our fabric long after it's gone.
With that backdrop, let's talk for a minute where we have been and where we are heading on this front.
A lot of you when it comes to ESG is simple and can really be summed up in three words: tangible; impactful; local.
We've been the first mover across the board, and I just want to highlight a few of our significant accomplishments over the years.
First, we proactively reduced Scope one and two CO2 emissions over 90% since 2011, something that a few, if any, of any public company had claimed.
Two, we were the early adopters and innovators of commercial-scaled coalbed methane capture in the 1980s.
This resulted in historical mitigation of cumulatively over 700 Bcf of methane emission that would have otherwise been vented into the atmosphere.
Annually, we capture nearly as much methane from this operation than the nation's largest waste management company does from its landfill.
That ingenuity and leadership on a key tenet of ESG is what ultimately birth this company we see today.
Three, we were the first to fully deploy an all-electric frac spread in the Appalachian Basin.
This improved our emission footprint, increased our efficiency and support our best-in-class operational cost performance.
The elimination of diesel fuel in this operation is equivalent to taking 23,000 passenger vehicles off the road for a year.
We recycled 98% of produced fluid in our core operation.
This prevented unnecessary water withdrawal and eliminates the need for disposal.
Our unique pipeline network decreases the need for water trucking, which have the dual benefit of reducing community impact of trucking, while reducing overall air quality emissions.
These achievements are important and impactful, but ESG is not just about proven track record.
To us, it's about what we are doing now and how we'll continue to push the envelope through intangible, impactful and local accomplishments.
Committing to target or goals decades into the future without a concrete path to accomplish them and without accountability for those words, in our opinion, is the epitome of flawed corporate governance.
These are the strategies that have allowed CNX to thrive for over 150 years and will continue to drive our success.
Let me introduce a few of our efforts this year.
We introduced methane-related KPIs into our executive compensation program.
We've committed to make substantial multi-year community investment of $30 million over the next six years to widen the path of the middle class in our local community, while growing the local talent pipeline.
We've redoubled our efforts to spend local and hire locally.
100% of our new hires will be from our area of operation, and we will maintain at least 90% local contract workforce.
We committed 6% of our contract spend to local, diverse and businesses in 2021 and dedicated 40% of the total CNX small business spend to companies within the Tri-State area.
We adopted a task force on climate-related financial disclosure, or TCFD framework and a FASB standard for both our E&P and midstream operation.
In addition, the transparency and the financial sustainability of our business is second to none.
One year into our seven year free cash flow generation plan, we have a low-risk balance sheet driven by the most efficient, lowest cost operation in the basin.
This leads to independence from equity and debt market when pursuing value creation.
Finally, while you will hear more about this in the weeks and months ahead, I want to take the opportunity to announce that CNX is developing an innovative proprietary solution in combination with a few commercial solutions that allows us to significantly minimize from a blowdown and pneumatic devices, which make up about 50% of our emission source.
The blowdown solution under development will also allow us to recirculate methane, which will otherwise be admitted into the atmosphere back into the gathering system.
This is yet another leadership step for a company that continues to lead and deliver tangible impactful ESG performance that is reducing risk and creating sustainable value for our shareholders.
Tangible, impactful, local ESG is our brand of ESG.
We don't follow the herd.
We chart our own course and do what we know is right and impactful over the long term for employees, our communities and our shareholders. | qtrly average daily production 1,562.5 mmcfe versus 1,476.5 mmcfe.
2021e fcf guidance increased to approximately $450 million. |
To access the call on the Internet, please log on to Capital One's website at capitalone.com and follow the links from there.
In the second quarter, Capital One earned $3.5 billion or $7.62 per diluted common share.
Included in the results for the quarter was a $55 million legal reserve build.
Net of this adjusting item, earnings per share in the quarter was $7.71.
On a GAAP basis, pre-provision earnings increased slightly in the sequential quarter to $3.4 billion.
We recorded a provision benefit of $1.2 billion in the quarter as $541 million of charge-offs was offset by a $1.7 billion allowance release.
Revenue grew 4% in the linked quarter, largely driven by the impact of strong Domestic Card purchase volume on noninterest income and the absence of the mark on our Snowflake investment a quarter ago.
Period-end loans held for investment grew $6.5 billion or 3%, inclusive of the effect of moving $4.1 billion of loans to held-for-sale during the quarter.
The loans moved to held-for-sale consisted of $2.6 billion of an International Card partnership portfolio and $1.5 billion in commercial loans.
Turning to Slide 4.
I will cover the changes in our allowance in the quarter.
We released $1.7 billion of allowance, primarily driven by observed strong credit performance and an improved economic outlook.
Turning to Slide 5.
We provide the allowance coverage ratios by segment.
You can see allowance coverage declined in the quarter across all segments, largely reflecting the dynamics I just described.
However, coverage ratios remain well above pre-pandemic levels due to continued economic uncertainty as our allowance is built to absorb a wide range of outcomes.
Our Domestic Card coverage is now 8.9%, down from 10.5% last quarter.
Our branded card coverage is 10.1%.
Recall that the difference between branded and domestic coverage is largely driven by the loss sharing agreements in some of our partnership portfolios.
Coverage in our consumer business declined about 60 basis points to 3%.
In addition to continued strong credit performance and improved economic outlook, historically high auto values aided the reduction in coverage.
Coverage in our Commercial Banking business declined about 25 basis points to 1.7%, with the single largest driver being the improvement in our energy portfolio.
Turning to Page 6.
I'll now discuss liquidity.
You can see our preliminary average liquidity coverage ratio during the first -- during the quarter was 141%.
The LCR continues to be well above the 100% regulatory requirement.
Our liquidity reserves from cash, securities and Federal Home Loan Bank capacity ended the quarter at approximately $137 billion.
The $14 billion decline in total liquidity was driven by lower ending cash balances.
Our cash position declined in the quarter as it was redeployed to net loan growth, wholesale funding maturities, a modest increase in our securities portfolio and share repurchases.
Moving to Page 7.
I'll now discuss net interest margin.
You can see that our second quarter net interest margin was 5.89%, 10 basis points lower than the prior quarter.
The linked-quarter decline in NIM was largely driven by lower yield in our card portfolio, where the typical seasonal decrease in revolve rate was exacerbated by higher transactor volume and associated higher payments.
These impacts were partially offset by the favorable impact from one more day in the quarter.
Lastly, turning to Slide 8.
I will cover our capital position.
Our common equity Tier 1 capital ratio was 14.5% at the end of the second quarter, down 10 basis points from the first quarter.
Loan growth and capital actions were largely offset by earnings growth.
During the quarter, the Federal Reserve released the results of their stress test.
Our stress capital buffer requirement, which will be effective on October 1 of this year, is 2.5%, resulting in a total capital requirement by the Fed of 7%.
While we saw a decline in this year's SCB, it's important to note that the Fed's stress testing results can move around meaningfully from year to year and are only one of many factors that we use in our capital planning process.
Based on our internal modeling, we continue to estimate that our CET1 capital need is around 11%.
Turning to share repurchases.
We repurchased $1.7 billion of common stock in the second quarter, the full amount allowed under the Fed's capital preservation measures.
We have approximately $5.3 billion remaining of our current board authorization of $7.5 billion.
Now let me move on to dividends.
In the third quarter of 2020, we reduced our dividend to $0.10 due to the Fed's capital preservation measures.
We chose to continue this reduced level of dividend in the fourth quarter of 2020 out of an abundance of caution.
The difference between our historical $0.40 dividend and the reduced level for those two quarters was $0.60 per common share.
Therefore, we expect to make up for the reduced level of dividends from the second half of 2020 by paying a $0.60 special dividend in the third quarter of 2021.
In addition to the special dividend, we expect to increase our quarterly common stock dividend from $0.40 per share to $0.60 per share in the third quarter.
Both the $0.60 special dividend and the increase of our quarterly common stock dividend to $0.60 will be subject to board approval.
I'll begin on Slide 10 with our Credit Card business.
Strong year-over-year purchase volume growth drove an increase in revenue compared to the second quarter of 2020, more than offsetting a modest year-over-year decline in loan balances.
And provision for credit losses improved significantly.
Credit Card segment results are largely a function of our Domestic Card results and trends, which are shown on Slide 11.
Second-quarter results reflect building momentum in our Domestic Card business.
As we emerge from the pandemic, consumers are spending more and continuing to make elevated payments.
Accelerating purchase volume growth partially offset the impact of historically high payment rates, resulting in strong revenue growth and a more modest year-over-year decline in loan balances.
High payment rates are continuing to contribute to strikingly strong credit results.
Domestic Card purchase volume for the second quarter was up 48% from the second quarter of 2020.
Purchase volume was up 25% from the second quarter of 2019, which is an acceleration from the first quarter when we saw growth of 17% versus 2019.
T&E spending continues to catch up to overall spending and accelerated through the second quarter.
In June, T&E purchase volume was up 3% compared to June of 2019.
At the end of the quarter, Domestic Card loan balances were down $4.1 billion or about 4% year over year.
Excluding the impact of a partnership portfolio moved to held-for-sale last year, second quarter ending loans declined about 2% year over year.
Compared to the sequential quarter, ending loans were up about 5%, ahead of typical seasonal growth of 2%.
Credit performance remained strikingly strong.
The Domestic Card charge-off rate for the quarter was 2.28%, a 225-basis-point improvement year over year.
The 30-plus delinquency rate at quarter end was 1.68%, 106 basis points better than the prior year.
Provision for credit losses improved by about $3.5 billion year over year.
We swung from a large allowance build in the second quarter last year to a large allowance release this year.
Let me turn to Domestic Card revenue margin.
Purchase volume growth outpacing loan growth and strong credit were the key drivers of Domestic Card revenue margin, which was up 226 basis points year over year to 17.7%.
Revenue margin increased over 50 basis points quarter over quarter, higher than our typical seasonal pattern.
Total company marketing expense was $620 million in the quarter, up $347 million compared to the second quarter of 2020.
Our choices in card marketing are the biggest driver of total company marketing trends.
As we emerge from the pandemic, we're seeing strong originations and purchase volumes.
Our growth opportunities are enhanced by our technology transformation.
We are leaning further into marketing to drive future growth and continue to build our franchise.
At the same time, we're keeping a watchful eye on the competitive environment, which is intensifying.
Pulling up, our Domestic Card business continues to deliver significant value and build momentum.
Slide 12 summarizes second quarter results for our Consumer Banking business.
Auto growth and exceptional auto credit are the main themes in second quarter Consumer Banking results.
Driven by auto, second quarter ending loans increased 12% year over year in the Consumer Banking business.
Average loans also grew 12%.
Auto originations were up 56% year over year and up 47% from the linked quarter.
Pent-up demand and high auto prices drove a second quarter surge in growth across the auto marketplace.
In the context of increased industry growth, our digital capabilities and deep dealer relationship strategy continued to drive strong growth in our auto business.
Second quarter ending deposits in the consumer bank were up $4.4 billion or 2% year over year.
Average deposits were up 9% year over year.
Consumer Banking revenue increased 27% from the prior-year quarter, driven by growth in auto loans and retail deposits.
Second-quarter provision for credit losses improved by $1.2 billion year over year, driven by an allowance release and lower charge-offs in our auto business.
Credit results in our auto business are strikingly strong.
Year over year, the second quarter charge-off rate improved 120 basis points to negative 0.12%, and the delinquency rate was essentially flat at 3.26%.
In the quarter, elevated used car prices drove an increase in auction proceeds, amplifying the normal seasonal benefit we see from tax refunds around this time of the year.
As used vehicle prices normalize, they will become a headwind to the auto charge-off rate.
we expect the auto charge-off rate to increase from the unusually low second quarter level.
Moving to Slide 13.
I'll discuss our Commercial Banking business.
Second quarter ending loan balances were down 5% year over year.
Average loans were down 7%.
Commercial line utilization continues to be down year over year, and we moved $1.5 billion of commercial real estate loans to held-for-sale.
Quarterly average deposits increased 22% from the second quarter of 2020 and 5% from the linked quarter as middle market and government customers continue to hold elevated levels of liquidity.
Second-quarter revenue was up 3% from the prior-year quarter and down 6% from the linked quarter.
The linked quarter decline is more than entirely driven by a one-time cost associated with moving the commercial real estate loans to held for sale.
This decline was offset by an equivalent one-time gain in the other category and is therefore neutral to the company.
Excluding this effect, Commercial Banking revenue would have increased about 13% year over year and 4% from the linked quarter.
Provision for credit losses improved significantly compared to the second quarter of 2020, driven by a swing from an allowance build to an allowance release and a swing from net charge-offs to net recoveries.
In the second quarter, the Commercial Banking annualized charge-off rate was negative 11 basis points.
The criticized performing loan rate was 7.6%, and the criticized nonperforming loan rate was 1%.
Our Commercial Banking business is delivering solid performance as we continue to build our commercial capabilities.
I'll close tonight with some thoughts on our results and our strategic positioning.
Several key themes are evident in our second quarter results.
Credit remains strikingly strong.
Purchase volume and loans are rebounding.
We're continuing to invest to propel our future results, and we're returning capital to our shareholders.
We are seeing increasing near-term opportunities to build our Domestic Card business as we emerge from the pandemic.
We are leaning further into marketing to seize these opportunities.
We are also increasing our marketing for auto, national banking and our brand.
We are now in the ninth year of a journey to build a modern technology company from the bottom of the tech stack up.
Our progress is accelerating, and the stakes are rising.
Competitor tech investments are increasing as technology is increasingly seen as an existential issue.
The investment flowing into fintechs is nothing short of breathtaking.
And the war for tech talent continues to escalate, including levels of compensation.
We continue to invest in technology and the opportunities that emerge as our transformation gains traction.
Our modern technology is powering our current performance and setting us up to capitalize on the accelerating digital revolution in banking.
We'll now start the Q&A session.
[Operator instructions] If you have follow-up questions after the Q&A session, the Investor Relations team will be available after the call.
Holly, please start the Q&A. | compname reports second quarter 2021 net income of $3.5 billion, or $7.62 per share.
q2 adjusted earnings per share $7.71 excluding items.
qtrly provision (benefit) for credit losses decreased $337 million to $(1.2) billion versus q1 2021.
qtrly net interest margin of 5.89%, a decrease of 10 basis points versus q1 2021.
qtrly earnings per share $7.62.
common equity tier 1 capital ratio under basel iii standardized approach of 14.5% at june 30, 2021. |
To access the call on the internet, please log on to Capital One's website at capitalone.com and follow the links from there.
With me this evening are Mr. Richard Fairbank, Capital One's chairman and chief executive officer; and Mr. Andrew Young, Capital One's chief financial officer.
In the fourth quarter, Capital One earned 2.4 billion or $5.41 per diluted common share.
For the full year, Capital One earned 12.4 billion or $26.94 per share.
On an adjusted basis, full year earnings per share were $27.11.
Full year ROTCE was 28.4%.
Included in the results for the fourth quarter was an upgrade to a legacy rewards program, which increased our rewards liability and decreased noninterest income by $92 million.
Both period end and average loans held for investment grew 6% on a linked-quarter basis.
Ending loans grew 10% in domestic card, 7% in commercial, and 1% in consumer banking.
Revenue in the linked quarter increased 4%, driven by the loan growth I just described, while total noninterest expense increased 12% in the quarter, driven by increases in both operating and marketing expenses.
Provision expense in the quarter was 381 million and net charge offs of 527 million were partially offset by a modest allowance release.
Turning to Slide 4, I will cover the changes in our allowance in greater detail.
For the total company, we released 145 million of allowance in the fourth quarter, bringing the total allowance balance to 11.4 billion.
The total company coverage ratio now stands at 4.12%.
Turning to Slide 5, I'll discuss the allowance of each of our segments in greater detail.
As you can see in the graphs, our allowance coverage ratio declined in each of our segments.
In domestic card, the allowance balance remained flat at $8 billion.
The decline in card coverage was driven by the impact of balanced growth that I highlighted earlier.
In our consumer banking segment, continued strength in auto auction values drove a decline in both the allowance balance and the coverage ratio.
And in commercial, the decline in allowance balance was driven by modest credit improvement in the existing portfolio.
In addition to the allowance decline, the coverage ratio was also aided by growth in lower loss segments.
Turning to Page 6, I'll now discuss liquidity.
You can see, our preliminary average liquidity coverage ratio during the fourth quarter was 139%.
The LCR remains stable and continues to be well above the 100% regulatory requirement.
We continue to gradually run off excess liquidity built during the pandemic.
Relative to the prior quarter, ending cash and equivalents were down about $5 billion.
And investment securities were down about $3 billion as we used our liquidity to fund loan growth and share buybacks.
Turning to Page 7, I'll cover our net interest margin.
You can see that our fourth quarter net interest margin was 6.6%, 25 basis points higher than Q3 and 55 basis points higher than the year-ago quarter.
The linked-quarter increase in NIM was largely driven by balance sheet mix as we had a reduction in cash and securities, as well as a higher amount of card loans.
Outside of quarterly day count effects, the NIM from here will largely be a function of the change in card balances, cash and securities levels, and interest rates.
Turning to Slide 8, I will end by discussing our capital position.
Our common equity Tier 1 capital ratio was 13.1% at the end of the fourth quarter, down 70 basis points from the prior quarter.
Net income in the quarter was more than offset by share repurchases and growth in risk-weighted assets.
We continue to estimate that our CET1 capital need is around 11%.
In the fourth quarter, we repurchased $2.6 billion of common stock, which completed our $7.5 billion board authorization.
Our board of directors has approved an additional repurchase authorization of up to $5 billion of the company's common stock.
I'll begin on Slide 10 with our credit card business.
Accelerating year-over-year growth in purchase volume and loans, coupled with strong revenue margin, drove an increase in revenue compared to the fourth quarter of 2020.
Credit card segment results are largely a function of our domestic card results and trends, which are shown on Slide 11.
As you can see on Slide 11, our domestic card business posted strong growth in every top-line metric in the fourth quarter.
Purchase volume for the fourth quarter was up 29% year over year and up 30% compared to the fourth quarter of 2019.
The rebound in loan growth accelerated, with ending loan balances up $10.2 billion or about 10% year over year.
Ending loans also grew 10% from the sequential quarter, ahead of typical seasonal growth of around 4%.
Ending loan growth was the result of the strong growth in purchase volume, as well as the traction we're getting with new account origination and line increases, partially offset by continued high payment rates.
And revenue was up 15% year over year, driven by the growth in purchase volume and loans.
Domestic card revenue margin increased 123 basis points year over year to 18.1%.
Two factors drove most of the increase: revenue margin benefited from spend velocity, which is purchase volume and net interchange growth outpacing loan growth; and favorable year-over-year credit performance enabled us to recognize a higher proportion of finance charges and fees in fourth quarter revenue.
Credit results remain strikingly strong.
The domestic car charge-off rate for the quarter was 1.49%, a 120-basis-point improvement year over year.
The 30-plus delinquency rate at quarter-end was 2.22%, 20 basis points better than the prior year.
On a linked-quarter basis, the charge-off rate was up 13 basis points and the delinquency rate was up 29 basis points.
Noninterest expense was up 24% from the fourth quarter of 2020.
The biggest driver of noninterest expense was an increase in marketing.
Total company marketing expense was $999 million in the quarter.
Our choices in domestic card marketing are the biggest driver of total company marketing trends.
We continue to see attractive opportunities to grow our domestic card business, and our growth opportunities are enhanced by our technology transformation.
We continue to lean into marketing to drive growth and build our domestic card franchise.
At the same time, we're keeping a watchful eye on the competitive environment, which is intensifying.
Pulling up, our domestic card business continues to deliver significant value as we invest to grow and build our franchise.
Moving to Slide 12, strong loan growth in our consumer banking business continued in the fourth quarter.
Driven by auto, fourth quarter ending loans increased 13% year over year in the consumer banking business.
Average loans also grew 13%.
Fourth quarter auto originations were up 32% year over year.
Our digital capabilities and deep dealer relationship strategy continued to drive year-over-year growth in our auto business.
In the fourth quarter, we saw a pickup in competitive intensity in the marketplace.
On a linked-quarter basis, auto originations were down 16%.
Fourth quarter ending deposits in the consumer bank were up $6.6 billion or 3% year over year.
Average deposits were up 2% year over year.
Consumer banking revenue grew 7% from the prior-year quarter, driven by growth in auto loans, partially offset by declining auto loan yields.
Noninterest expense increased 15% year over year.
Fourth quarter provision for credit losses improved by $58 million year over year, driven by an allowance release in our auto business.
The auto charge-off rate and delinquency rate remains strong and well below pre-pandemic levels.
On a linked-quarter basis, the charge-off rate for the fourth quarter was 0.58%, up 40 basis points; and the 30-plus delinquency rate was 4.32%, up 67 basis points.
Slide 13 shows fourth quarter results for our commercial banking business, which delivered strong growth in loans, deposits, and revenue in the quarter.
Fourth quarter ending loan balances were up 12% year over year, driven by growth in selected industry specialties.
Average loans were up 8%.
Ending deposits grew 13% from the fourth quarter of 2020 as middle market and government customers continued to hold elevated levels of liquidity.
Quarterly average deposits also increased 14% year over year.
Fourth quarter revenue was up 19% from the prior-year quarter, with 29% growth in noninterest income.
Noninterest expense was up 17%.
Commercial credit performance remained strong.
In the fourth quarter, the commercial banking annualized charge-off rate was a negative 2 basis points.
The criticized performing loan rate was 6.1%, and the criticized nonperforming loan rate was 0.8%.
Our commercial banking business is delivering solid performance as we continue to build our commercial capabilities.
I'll close tonight with some thoughts on our results and our strategic positioning.
Growth momentum is evident throughout our fourth quarter results.
In the quarter, we drove strong growth in domestic card revenue, purchase volume, and loans.
We also posted strong auto and commercial growth.
Credit remains strikingly strong across our businesses, and we continue to return capital to our shareholders.
As we enter 2022, we continue to see attractive opportunities to grow our businesses and build our franchise.
We will continue to lean into marketing to capitalize on these opportunities and drive growth.
For years, we've talked about how sweeping digital change and modern technology are changing the game in banking.
Last quarter, I noted that the stakes are rising faster than ever before.
The investment flowing into fintech is breathtaking, and it's growing.
Also, many legacy companies are embracing the realization that technology capabilities may be an existential issue for them and are increasing technology investments.
The war for tech talent continues to escalate, which is driving up tech labor costs even before any headcount increases.
All these developments underscore the significant opportunity for players who have modern technology and who are in a position to drive growth.
Capital One is very well positioned to do that.
We've spent years driving our technology transformation from the bottom of the tech stack up.
We were an original fintech, and we have built modern technology infrastructure and capabilities at scale.
And we're investing to leverage these capabilities to grow and to realize the many benefits of our digital transformation.
We have been on a long journey to drive our operating efficiency ratio down.
We expect that the striking rise in the cost of modern tech talent, on top of our growth investment, will pressure annual operating efficiency in the near term.
But these pressures do not change our belief in the longer-term opportunity to drive operating efficiency improvement powered by revenue growth and digital productivity gains.
Pulling way up, we're living through an extraordinary time of digital change.
Our modern technology stack is powering our performance and our growth opportunity.
It's setting us up to capitalize on the accelerating digital revolution in banking.
And it's the engine that drives enduring value creation over the long term.
We'll now start the Q&A session.
As a courtesy to other investors and analysts who may wish to ask a question, please limit yourself to one question plus a single follow-up question.
And if you have follow-up questions after the Q&A, the investor relations team will be available after the call.
Justin, please start the Q&A. | compname reports fourth quarter 2021 net income of $2.4 billion.
q4 revenue rose 4% to $8.1 billion.
qtrly net interest margin of 6.60%, up 25 basis points versus q3.
compname reports fourth quarter 2021 net income of $2.4 billion, or $5.41 per share.
compname says common equity tier 1 capital ratio under basel iii standardized approach of 13.1 percent at december 31, 2021.
qtrly earnings per share $5.41.
qtrly provision for credit losses increased $723 million to $381 million versus q3 2021. |
I'm pleased to report another very strong quarter with record revenues at CooperVision and CooperSurgical, driving record earnings and robust free cash flow.
CooperVision's growth was broad-based and led by our daily silicone hydrogel portfolio of lenses and a solid rebound in EMEA.
While our myopia management products also performed really well, and of course, we received the exciting news about regulatory approvals for MiSight in China.
CooperSurgical continued posting great results led by fertility and a nice bump in PARAGARD, helped by buying activity from a price increase.
Moving forward, we expect core operational strength to continue driving strong performance even with challenges from COVID and currency.
With this expectation and the opportunities we're seeing in myopia management, daily silicones, and fertility, we've increased our constant currency revenue guidance for both CooperVision and CooperSurgical and we'll maintain our investment activity to capitalize on the potential for incremental share gains as we move toward fiscal 2022.
Moving to third-quarter results and reporting all percentages on a constant currency basis, Consolidated revenues were $763 million, with CooperVision at $558 million, up 20%, and CooperSurgical at $206 million, up 58%.
Non-GAAP earnings per share were $3.41.
For CooperVision, our daily silicone hydrogel portfolio led the way with all 3 regions posting strong growth.
Particular strength was noted in our daily toric franchises, but daily spheres and multifocals also performed well.
And in a great sign, we've seen a nice uptick in fit data for MyDay and clariti, which bodes well for share gains and future growth.
Within the regions, the Americas grew 16%, led by MyDay and clariti and continued improvement in patient flow.
EMEA grew a healthy 24% as consumer activity returned in the region, and we took share.
1 in EMEA, and we're seeing the benefits of increasing patient flow, So, we'll continue investing to support the reopening activity happening in many of the European markets.
Asia Pac grew 18%, led by a slow but steady improvement in consumer activity.
For us, a significant portion of Asia Pac is driven by Japan.
And although consumer activity remains somewhat muted, we're performing well and taking share, and we're well-positioned to capitalize on future opportunities given our recent product launches.
Moving to category details.
Silicone hydrogel dailies grew 31% and with MyDay and clariti both performing well.
MyDay, in particular, continues taking share, led by strength in MyDay toric in all regions.
For our FRP portfolio, Biofinity continued its solid performance led by Biofinity Energys and Biofinity toric multifocal.
Regarding product expansions and launches, we remain very active.
We're finishing the launch of clariti, sphere, and the MyDay second base curve sphere in Japan.
We're rolling out Biofinity toric multifocal in additional markets.
We're rolling out an expanded toric range for MyDay, giving it the broadest range of any daily toric in the world.
And we're also completing the rollout of extended toric ranges for clariti and Biofinity.
We've also started prelaunching activity for MyDay multifocal with the launch -- with a full launch on target for the U.S. and other select markets in November.
Feedback on this lens remains extremely positive, including from fitters commenting that our OptiExpert fitting app has the highest fit success rate of any multifocal on the market.
Recent data shows that over 90% of contact lens wearers over the age of 40 expect to continue wearing lenses with the biggest challenge being finding a good multifocal.
Given the feedback we've been receiving, we believe MyDay will be the best multifocal on the market and combined with the fact that it's joining an already highly successful MyDay sphere and toric, we're very optimistic about its success.
Moving to myopia management.
Our portfolio grew a robust 90% this quarter to $18 million, with MiSight up 187% to $5 million and ortho-k products up 68%.
As a global leader in the myopia management space, our portfolio is the broadest in the industry, comprised of MiSight, the only FDA-approved myopia control product, our broad range of market-leading ortho-k lenses, and our innovative SightGlass Vision glasses.
We continue targeting $65 million in myopia management sales this year, including MiSight reaching $20 million.
Regarding MiSight, there was a lot of positive activity this quarter as we continue capitalizing on our first-mover advantage.
We received regulatory approval in China, and we're extremely excited about that opportunity.
The approval requires lenses to be manufactured post-approval.
So, we've quickly initiated production and packaging, and plan to seed the market starting in early fiscal Q1 with a full launch in fiscal Q2 of next year.
As part of this, we're immediately ramping up marketing efforts and working quickly to ensure the product is positioned for success.
Myopia rates are very high in China, So, the market potential is significant.
As an example, it's estimated that over 80% of high school kids are myopic, So, treating children at a younger age is of high importance in the country.
Outside of China, we continue making great progress with our large retailers and buying groups.
Our pilot programs are live and expanding, and we've finally been able to resume in-person training in many markets, including in the U.S.
We now have over 40,000 children wearing MiSight worldwide, and that number is growing quickly.
Additionally, the average age of a new MiSight wearer remains 11, So, this treatment is bringing children into contact lenses at a much younger age.
Lastly, on MiSight, we did see momentum pick up even more in August, including here in the U.S., So, we're bullish for a strong Q4.
Regarding our other myopia management products, we had a solid quarter for ortho-k driven by our broad product portfolio and from the halo effect we're seeing with MiSight.
And we continue making progress with our SightGlass myopia management glasses, preparing for several upcoming launches later this calendar year.
We've also submitted our application to the FDA for approval for MiSight as a myopia management treatment and expect to receive initial feedback within a couple of months.
In the meantime, as the myopia management market continues developing, we're definitely seeing the value of offering multiple options to eye care professionals, So, we look forward to expanding our offerings and availability.
To wrap up on myopia management, our innovation pipeline is very healthy with eight focused pipeline products.
Our sales and marketing efforts are proving successful and our focus on leading with clinical data and providing the best and broadest portfolio in the market, has us in an excellent position for continued success.
To conclude on vision, our business is doing really well.
The back-to-school season is healthy, new fits are doing well, and we're excited about our existing products and upcoming launches.
On a longer-term basis, the macro growth trends remained solid, with roughly 33% of the world being myopic today, and that number is expected to increase to 50% by 2050.
Given our robust product portfolio, new product launches, myopia management momentum, and strong fit data, we're in great shape for long-term sustainable growth.
This was an outstanding quarter with record revenues of $206 million.
Fertility, in particular, continued to perform exceptionally well, growing 72% year over year to $83 million.
Strike was seen around the world and throughout the product portfolio, including from consumables, capital equipment, and genetic testing.
Some areas of strength included growth in media, for pets, needles, incubators, and embryo transfer catheters, along with another very strong quarter from RI Witness, our proprietary automated lab-based management system that clinics implement to maximize safety and security by optimizing their lab practices.
We're also benefiting from increased utilization of our artificial intelligence-based genetic testing platform, which increases the doctor's ability to select the best embryos for transfer.
Similar to last quarter, we're continuing to see COVID impact the market, but share gains and improving patient flow in most countries are driving our results.
Regarding the broader fertility market, the global landscape remains fragmented with significant geographic diversity.
And with an addressable market opportunity of well over $1 billion and mid- to upper-single-digit growth, this is a great market for us.
It's estimated that one in eight couples in the U.S. has trouble getting pregnant due to a variety of factors, including increasing maternal age.
And that more than 100 million individuals worldwide suffer from infertility.
Given the improving access to fertility treatments, increasing patient awareness, greater comfort discussing IVF and increasing global disposable income, this industry should grow nicely for many years to come.
So, overall, in fertility, our portfolio and market positioning are excellent.
We remain in a great spot for future share gains with improving traction in key accounts.
We're seeing continued reopening activity around the world, and the industry has great long-term macro growth drivers.
For all these reasons, we remain very bullish on this part of our business.
Within our office and surgical unit, we grew 50% with PARAGARD up 51% and office and surgical medical devices up 49%.
For PARAGARD, we implemented a roughly 6% price increase toward the end of the quarter, which resulted in a buy-in of roughly $4 million.
This will impact our Q4 performance, but the price increases are long-term positive noting with contracts and reimbursement timing, the price increase rolls in over the next couple of years.
Within medical devices, several products performed well, including EndoSee Advance, our direct visualization system, for evaluation of the endometrium and our portfolio of uterine manipulators.
To wrap up on CooperSurgical, this was another excellent quarter, and it was great to exceed $200 million in sales for the first time ever.
Similar to CooperVision, we have powerful macro trends supporting our underlying growth and remain confident in our ability to continue delivering strong results.
Third-quarter consolidated revenues increased 32% year over year or 28% in constant currency to $763 million.
Consolidated gross margin increased year over year to 68.3%, up from 66.3% with CooperVision posting higher margins driven by product mix and currency, and CooperSurgical posting higher margins from product mix tied to the significant year-over-year growth in fertility and PARAGARD.
Opex grew 28% as sales increased with a rebound in revenues, along with higher sales and marketing expenses associated with investments in areas such as myopia management.
Consolidated operating margins were strong at 26.6%, up from 23.2% last year.
Interest expense was $5.6 million and the effective tax rate was 13.5%.
Non-GAAP earnings per share was $3.41 with roughly 49.8 million average shares outstanding.
Free cash flow was very strong at $180 million, comprised of $224 million of operating cash flow, offset by $44 million of capex.
Net debt decreased to $1.5 billion and our adjusted leverage ratio improved to one and a half times.
Overall, this was a very strong quarter, and we exceeded our financial performance expectations.
We continue monitoring and evaluating the scope, duration, and impact of COVID-19 and its variants.
And while this remains a risk factor, our visibility is sufficient to provide the following update to our guidance.
For the full fiscal year, we're increasing our constant currency guidance for both CooperVision and CooperSurgical and maintaining our non-GAAP earnings per share guidance.
Specific to Q4, consolidated revenues are expected to range from $730 million to $760 million, up 7% to 11% in constant currency, with CooperVision revenues between $540 million and $560 million up 6% to 10% in constant currency, and CooperSurgical revenues between $190 million and $200 million, up 8.5% to 14% in constant currency.
Non-GAAP earnings per share is expected to range from $3.24 to $3.44.
To provide color on this guidance, currency moves since last quarter have reduced the benefit of the full-year FX tailwind from 3% to 2.5% for revenues, and 7% to 5% for EPS.
With respect to Q4, this equates to reducing revenues by $10 million in CooperVision and $2 million at CooperSurgical, and reducing earnings per share by $0.14.
CooperVision is offsetting some of the impact with expected strength in daily silicone and myopia management sales, while CooperSurgical is expecting continued strength, although incorporating the Q3 PARAGARD buy-in of $4 million and hopefully some conservatism regarding COVID's impact on elective procedures.
Consolidated gross margins for the fiscal year are expected to be around 68%, with fiscal Q4 gross margins expected to be around 67.5%, driven primarily by currency.
Operating expenses are expected to be slightly lower sequentially, but similar to fiscal Q3 on a percentage of sales basis, as we continue investing in multiple areas such as myopia management and fertility.
Our Q4 tax rate is expected to be around 11%.
And lastly, our free cash flow continues to improve, and we're now expecting roughly $550 million for the full year. | q3 non-gaap earnings per share $3.41.
sees q4 2021 non-gaap earnings per share $3.24 to $3.44.
sees fiscal 2021 total revenue $2,893- $2,923 million (16% to 18% constant currency).
sees fiscal q4 2021 total revenue $730 - $760 million (7% to 11% constant currency). |
Let me start by providing some key takeaways.
First, we continue taking share in the global contact lens market, with CooperVision being flat for calendar Q3 against the market being down 3%.
We're having success with our strong daily silicone hydrogel portfolio, with unique products like Biofinity Energys, and with several product launches.
Second, CooperSurgical outperformed with fertility, PARAGARD, and medical devices all exceeding expectations.
In particular, we're taking share in the fertility market, where we're seeing strong momentum.
Third, our myopia management portfolio comprised of MiSight and Ortho K lenses performed extremely well, including MiSight being up 73%.
So we're taking share, launching products, and investing intelligently, including helping expand the pediatric optometry marketplace.
Our teams are executing at a very high level, and we expect that to continue.
Moving to the numbers and reporting all percentages on a constant-currency basis, we posted consolidated revenues of $682 million in Q4, with CooperVision revenues of $506 million, down 3%; and CooperSurgical revenues of $175 million, down 4%.
Non-GAAP earnings per share were $3.16.
For CooperVision, the Americas were up 3%, led by strength in MyDay and Biofinity and some rebound in channel inventory of roughly $10 million.
EMEA was down 6%, which included quarter-end purchasing delays from several large accounts as the region returned to more restrictive COVID-related lockdowns in October.
Asia Pac was down 8% with COVID-related softness lingering longer into the quarter than we were expecting.
To add a little more color on Asia Pac, we're well-positioned in that region and taking share, but the market has been sluggish.
We are becoming more optimistic, though, as we saw a pickup in October and November, driven by strong MyDay sales.
Overall, for the full quarter, revenues came in roughly where we expected with COVID continuing to present challenges, but we're managing through it and taking share by executing on product launches and expanding our key account relationships.
Moving to some additional quarterly numbers.
Our silicone hydrogel dailies were up 1% in Q4, led by strength in torics and a strong rebound in MyDay sphere sales.
We're seeing daily silicones as the clear winner right now as health and wellness trends continue to drive adoption, and this bodes well for us given our strong portfolio.
Additionally, we're now fully unconstrained on MyDay, so we're able to aggressively launch the product around the world, especially the toric, which is still relatively early in its launch stage.
Biofinity and Avaira combined to be flat for the quarter, with strength noted in Biofinity toric and Energys.
Energys continues to be a strong performer, growing double digits.
It was launched a few years ago, probably a little ahead of its time.
But its innovative lens design that uses digital zone optics to help alleviate eye fatigue from excessive screen time is certainly catching on now as it's addressing an important need in today's digital world.
Moving to our product launches.
We remain incredibly busy with MyDay sphere and toric being launched or relaunched in many markets around the world.
Biofinity toric multifocal and clariti's extended daily toric range continuing their successful launches and the launch of MiSight.
One point to highlight is how incredibly active we are in the daily silicone hydrogel space right now, probably busier launching products than anyone, and we expect this to continue throughout 2021.
Given there still exists roughly $2.4 billion in traditional daily hydrogel sales worldwide, there's a significant multiyear trade-up opportunity for us and our industry.
The only FDA-approved myopia management contact lens clinically proven to slow the progression of myopia in children.
Things are going incredibly well.
We now have roughly 25,000 kids around the world wearing MiSight, including over 1,000 in the U.S., and the momentum when new fits is strong.
But we already have 2,100 optometrists certified to fit the lens and 1,400 more in the process of being certified.
We've also recently launched in Taiwan and Russia, and the early feedback is very positive.
launch, including the average age for a new MiSight wearer is 11 years old.
Getting fits in this age range is fantastic as the average age for fitting a new wearer in regular contact lenses is 17, which means we're getting an extra six years' worth of revenue.
Furthermore, 70% of kids being fit in MiSight are 12 and under.
So we're changing the overall perception of what age kids can be fit in contact lenses.
Regarding sales, even with continuing COVID challenges, our myopia management portfolio, including MiSight and Ortho K lenses, grew 39% to $13 million.
Within these results, MiSight grew 73% to $2.5 million and Ortho K grew 33%, which included $1.3 million of revenue from last quarter's acquisition of GP Specialties.
For this coming year, even with COVID impacting the market, we're continuing to target $25 million in global MiSight sales, which is growth of roughly 250%.
We're also targeting strong growth in our Ortho K franchise, driven by positive developments such as the recent receipt of European CE mark approval for our Paragon lenses.
When looking at the global myopia management market, we're at the forefront of an extremely exciting pediatric optometry category.
Myopia management is in its infancy.
But as we discussed last quarter, there's a clear path to a market that we expect will ultimately be well over $5 billion annually for manufacturers.
We still have a lot of work to do, and we're investing in sales and marketing programs, new launches, regulatory approvals, and R&D activities to really help drive the market forward.
This approach is clearly working, and it's great to keep hearing optometrists talk about MiSight as standard of care for their pediatric patients.
As trained professionals, optometrists know that reducing the progression of myopia brings many benefits, including reducing the risk of serious eye disease later in life, such as retinal detachment, cataracts, and glaucoma.
To conclude our vision, let me touch on the global contact lens market.
We're seeing optometry offices mostly open around the world, and we're frequently hearing that they're fully booked with appointments running through January.
Having said that, patient throughput remains below pre-COVID levels as offices work to get more efficient with COVID safety protocols and managing staffing challenges.
From a consumption perspective, wearers are returning to their normal wearing and ordering habits.
But new fits are running roughly 90% of pre-COVID levels on a global basis, and that's the challenge.
and in markets like China, and it's improving everywhere, but eye care professionals are still struggling to meet demand.
We're not seeing any signs that demand is disappearing, though, so we believe it's only a matter of time before new fit activity returns to pre-COVID levels and the pent-up demand is addressed.
On a longer-term basis, the underlying growth drivers for our industry remains strong and may actually be improving with the macro trend of people spending more time on electronic devices.
With roughly one-third of the world myopic, and this is expected to increase to 50% by 2050, combined with a continuing shift to daily silicone hydrogel lenses, geographic expansion, and strong growth in torics and multifocals, our industry has a very bright future.
And for CooperVision, our strong product portfolio, momentum within the myopia management space, and strong new fit data puts us in a great position for long-term sustainable growth.
Revenues rebounded faster than expected to $175 million for the quarter.
Although down 4%, we exceeded expectations in a challenging market environment and expect solid performance moving forward.
Starting with our fertility business.
Revenues rebounded nicely and were only down 2% year over year.
We're taking market share, and we're well-positioned for future gains with a strong product portfolio and improved traction with key accounts.
Within products, our consumable portfolio grew this quarter, led by our RI Witness system.
This is an RFID lab-based management system that helps fertility clinics automate their processes by identifying, tracking, and recording patient samples throughout the IVF process.
Labs are starting to use it as a cornerstone solution to improve safety, reduce errors, improve workflow management, and enhanced compliance of standard operating procedures.
The product almost doubled in revenue to $2.5 million and with a growing focus on safety and compliance within fertility clinics, we expect this product to continue growing nicely.
Our genomics business also returned to growth this quarter as testing volume picked up, and our media products also grew.
The only softness we saw was in capital equipment, which declined against a very tough comp from last year.
From a fertility market perspective, we're still seeing COVID negatively impact patient flow and some important countries like India still have clinics shut down or are operating with minimal patient volume.
But the good news is we're seeing patient flow improving, and we believe we'll see IVF cycles return to normal soon.
With this happening, we'll continue expanding our business through in-person and virtual sales and marketing activity, adding sales personnel, and expanding our product offerings.
The fertility market has extremely positive long-term macro growth trends.
And as the global leader in the space, we're intent on helping the industry return to its strong historical growth rates.
Within our office and surgical unit, we were down 5%, slightly better than forecasted.
PARAGARD continued to rebound, down 6% to $50 million against a tough comp from last year due to buy-in activity before price increase.
PARAGARD is another product that is benefiting from the positive wellness trends we're seeing in the U.S. as the only 100% hormone-free IUD on the U.S. market, it offers a fantastic long-lasting birth control option that addresses the needs and interests of women looking for a healthy alternative.
Sales of the product continued trending in the right direction through November, so we're optimistic we'll see PARAGARD grow year over year in Q1.
Elsewhere, like many medical device companies, we've seen deferred elective procedures steadily rescheduled, and our medical device sales have improved.
We're entering this year in a really nice position with some of our focus products such as INSORB, our patented surgical skin closure device, and EndoSee Advance, our direct visualization system for evaluation of the endometrium positioned to grow nicely as markets rebound.
In conclusion, let me say I'm optimistic about the future.
Our businesses are performing well, and we're taking share.
We're very active with new product launches, and we have fantastic dedicated people driving our businesses forward.
Our fourth-quarter consolidated revenues decreased 1% as reported or 3% in constant currency to $682 million.
Consolidated gross margin increased 70 basis points year over year to 67.7%.
This was driven primarily by currency at CooperVision and efficiency improvements at CooperSurgical, from our successful global manufacturing integration and consolidation efforts.
This quarter was an extremely busy one for our manufacturing teams as we work diligently to finish most of our manufacturing restructuring activity.
This now allows us to minimize costs while optimizing production to more efficiently manage inventory levels and improve margins and cash flow.
We're in a significantly better position with our manufacturing operations rightsized for the current environment, while also being well-positioned to ramp up quickly.
We still have some absorption-related inefficiencies, but we expect these to go away quickly as growth returns.
OPEX was up 4.3% year over year, largely due to planned MiSight investment activity, including sales and marketing, regulatory, and R&D costs.
This resulted in consolidated operating margins of 26.8%, down from 28.5% last year.
This performance slightly exceeded expectations as we continued to effectively managing expenses, balancing costs against investment opportunities.
Interest expense for the quarter was $6.7 million, driven by lower interest rates and lower average debt and the effective tax rate was 11.1%.
Non-GAAP earnings per share was $3.16 with roughly 49.6 million average shares outstanding.
The year-over-year FX impact for the quarter to revenue and earnings per share was a positive $10.6 million and a positive $0.15.
Free cash flow was strong at $111 million, comprised of $218 million of operating cash flow offset by $107 million of CAPEX.
Net debt decreased by $76 million to $1.68 billion, and our adjusted leverage ratio decreased to 2.15 times.
Before moving to guidance, I want to mention an item you'll see disclosed in the tax footnote in our upcoming 10-K.
In November, as part of an internal restructuring to simplify our supply chain, CooperVision's intellectual property and related assets were transferred from Barbados to the U.K. Although this will impact our GAAP financials, including a significant onetime P&L benefit in Q1, along with offsetting adjustments over the next 10-plus years, we will exclude these entries from our non-GAAP results to ensure transparency.
We do not expect this having a material impact on our non-GAAP tax rate over this period.
We were hoping to give full-year guidance but the surging COVID cases in Europe and in the U.S., make that extremely difficult.
So we're providing only Q1 guidance at this time.
This includes consolidated revenues of $642 million to $670 million, down 1% to up 4% or down 3% to up 2% in constant currency.
CooperVision revenue of $482 million to $502 million, down 1% to up 4% or down 3% to up 1% in constant currency.
And CooperSurgical revenue of $160 million to $168 million, down 1% to up 4%, both as reported and in constant currency.
Non-GAAP earnings per share is expected to be in the range of $2.66 to $2.86.
As compared to last year, we expect the midpoint of our non-GAAP earnings per share guidance to be up $0.07 due to a positive $0.21 currency impact, offset by MiSight investment activity and slightly lower gross margins tied to unfavorable manufacturing absorption.
Below the line, we expect lower interest expense to be roughly offset by a higher effective tax rate.
Lastly, on cash flow.
We made significant progress completing our multiyear capacity expansion program and expect solid improvement in free cash flow moving forward as operating cash flow improves and CAPEX reduces.
In conclusion, even with COVID, we expect to start the year off well.
We have strong product lines, solid manufacturing, and distribution capabilities, growing key account relationships, plenty of MyDay capacity, and a dynamic myopia management business.
We plan to continue taking market share, and we look forward to COVID vaccines and better treatments returning markets to normal. | compname reports q4 non-gaap earnings per share $3.16.
q4 non-gaap earnings per share $3.16.
sees q1 non-gaap earnings per share $2.66 to $2.86 including items.
sees fiscal q1 2021 total revenue $642 million - $670 million. |
Mark Keener, our vice president of investor relations, is also in the room today.
As Ellen mentioned, I'll make a few opening comments, and then Bill will address a few details about this quarter's results.
And then we'll begin the Q&A session.
Obviously, financial and operating results were outstanding, but the context for describing them as notable meant something different.
For the past year, we've been integrating Concho, improving underlying metrics across the business and creating the most competitive E&P for the energy transition.
The significance of this quarter's performance is that it represents the post Concho go-forward baseline for the company.
On a run rate basis, the integration is essentially complete.
We've captured the announced $1 billion of synergies and savings from actions the company took in connection with the transaction, all ahead of schedule.
We're unhedged, but even more importantly, our torque to upside is helped by having high conversion of revenue to income and cash flow.
The core executables of our global operating plan are delivering as expected.
We'll close out 2021 as a stronger company compared to any time in the past decade.
Every aspect of our triple mandate is moving in the right direction.
Our underlying portfolio cost to supply is improving.
Our overall GHG intensity is lower.
Our emissions intensity reduction targets are more stringent.
Underlying margins are expanding, and our trailing 12-month return on capital employed is headed toward an estimated 14% by year-end, reflecting the benefit of more than just stronger commodity prices.
Between now and year-end, our top priority is closing the Shell transaction, which we expect to occur in the fourth quarter.
Once we close, we will be working diligently to integrate these properties and capture efficiencies in a similar fashion to what we've achieved through the Concho integration.
In addition to layering in these properties on top of our existing high-performing platform, we're continuing to high-grade our portfolio and optimize the business drivers everywhere.
The setup for next year is, well, notable.
We're now in the process of setting our 2022 capital plans, which we expect to announce in early December.
Directionally, we don't anticipate a significant departure on capex from what we included in our June update excluding Shell.
In June, we provided an outlook based on a roughly $50 per barrel price that included a modest ramp in the Lower 48 to reactivate our optimized plateau plans, some incremental base Alaska investment and some longer-cycle low cost of supply investments in Canada, the Montney and in Norway.
Since June, we see some inflation pressures, especially in the Lower 48.
However, at this point, we'd expect to adjust scope modestly in order -- in response to maintain our base capital at a level that is roughly consistent with our June update.
And then, of course, we'll add capex for the Shell properties once we've brought them into the portfolio.
As we finalize our 2022 plans, we're watching the macro closely, keeping an eye on inflation and potential OBO pressures and undertaking our typical capital high-grading processes.
It goes without saying the market certainly appears to be more constructive, but we must always remember that this is an incredibly volatile business.
But there's more to come on that in December.
We believe we're entering a very constructive time for the sector, but even so, we know that there will be relative winners.
The relative winners will be companies with the lowest cost of supply investment options, peer-leading delivery of returns on and of capital and visible progress on lowering emissions intensity.
That's what we offer.
Our third quarter represents a glimpse and a strong jumping-off point to what you can expect from ConocoPhillips going forward.
To begin, adjusted earnings were $1.77 per share for the quarter.
Relative to consensus, this performance reflects production volumes that were slightly above the midpoint of guidance, better-than-expected price realizations and lower-than-expected DD&A.
As for the better realizations, we captured a higher percentage of Brent pricing in our overall realized prices.
And as Ryan mentioned, we're unhedged so we're getting full exposure to the current higher prices.
As for DD&A, we're trending lower compared to the previous guidance as a result of positive reserve revisions due to higher prices.
You saw in today's release that we lowered full year 2021 DD&A guidance from $7.4 billion to $7.1 billion.
Excluding Libya, production for the quarter was 1,507,000 barrels of oil equivalent per day, which represents about 2% underlying growth.
Lower 48 production averaged 790,000 barrels a day, including about 445,000 from the Permian, 217,000 from the Eagle Ford, and 95,000 from the Bakken.
At the end of the quarter, we had 15 operated drilling rigs and seven frac crews working in the Lower 48.
Across the rest of our operations, the business ran extremely well.
In particular, our planned seasonal turnaround activity across several regions went safely and smoothly.
This reflects the impact of a decision we're making to convert Concho two stream contracted volumes to a three-stream reporting basis as part of our ongoing efforts to create marketing optionality across the Lower 48.
We expect to convert the majority of our contracts in the fourth quarter.
Reported production is expected to increase by approximately 40,000 barrels a day, and both revenue and operating costs will increase by roughly $70 million.
In other words, this conversion is earnings neutral.
Besides DD&A and production, there were no other changes to 2021 guidance items.
Now, once we've closed the Shell acquisition and can see where the ongoing US tax legislation conversation lands, we'll provide an updated earnings and cash flow sensitivities that consider such factors as projected 2022 price ranges and how those ranges might impact our cash taxpaying position in various jurisdictions around the globe.
Coming back to third quarter results.
Cash from operations was $4.1 billion, which was reduced by about $200 million for nonrecurring items, so a bit higher than the average of external estimates on an underlying basis.
Free cash flow was almost $3 billion this quarter, and on a year-to-date basis, this is about $6.5 billion.
Through the first nine months of the year, we've returned $4 billion to shareholders, and we're on track to meet our target of returning nearly $6 billion by the end of 2021.
This is through a combination of our ordinary dividend and buybacks.
So to summarize, as Ryan said, it was a notable quarter.
The company is running exceptionally well, and we've achieved a significant reset of the base business post Concho.
That creates a powerful platform for entering next year.
We're focused on closing the Shell Permian acquisition so that we can begin the work of getting those properties fully integrated into the business, setting our capital plans for 2022, maintaining a leading position of returns on and of capital and lowering our emissions intensity.
That's the triple mandate.
That's what ConocoPhillips is all about.
And we look forward to providing additional information in December. | q3 adjusted earnings per share $1.77 excluding items. |
We have Ryan Lance, our chairman and CEO; Bill Bullock, executive vice president and chief financial officer; Dominic Macklon, executive vice president of strategy, sustainability, and technology; Tim Leach, executive vice president of Lower 48; and Nick Olds, executive vice president for global operations.
And finally, we'll also make reference to some non-GAAP financial measures today.
So, 2021 was a truly remarkable year for ConocoPhillips.
Our operating performance around the globe was outstanding, we generated strong returns on and of capital for our shareholders and closed on two significant, highly accretive acquisitions in the heart of the Permian Basin.
Our exceptional results last year are directly attributable to the talent and dedication of our global workforce.
We produced 1.6 million barrels per day and brought first production online at GMT2 in Alaska, the third Montney well pad, and the Malikai Phase 2 and S&P Phase 2 projects in Malaysia.
We also completed the Tor II project in Norway and achieved all of this with excellent cost, schedule, safety, and environmental performance.
Financially, we achieved a 14% full-year return on capital employed or 16% on a cash-adjusted basis and generated $15.7 billion in CFO, with over $10 billion in free cash flow.
And we returned $6 billion to our shareholders, representing 38% of our cash from operations.
We also continued our rigorous portfolio optimization work, completing the truly transformative Concho and Shell Permian acquisitions and further high-grading our asset base around the world.
In the Asia Pacific region, we exercised our pre-emption right to acquire an additional 10% in APLNG and announced the sale of assets in Indonesia for $1.4 billion.
In the Lower 48, we generated $0.3 billion in proceeds from the sale of noncore assets last year, and last week, we signed an agreement to sell an additional property set, outside of our core areas for an additional $440 million.
Collectively, these transactions reduced both the average cost of supply and the GHG intensity of our more than 20-billion-barrel resource base and we're well down the road toward achieving our $4 billion to $5 billion in dispositions by 2023.
In early December, consistent with our 10-year plan and capital allocation priorities, we announced a returns-driven capital budget for 2022 that's expected to deliver modest growth this year.
We also introduced a new variable return of cash, or VROC, tiered to our distribution framework and provided a full-year target of $7 billion in total returns of capital to our shareholders.
Based on current prices on the forward curve, we've increased the target to $8 billion, with the incremental $1 billion coming in the form of increased share repurchases and a higher variable return of cash.
The $0.30 per share VROC announced for the second quarter represents a 50% increase over our inaugural variable return to shareholders that we paid this quarter.
Now, to put the $8 billion in perspective, it equates to an increase of more than 30% from the $6 billion returned last year and a greater than 50% increase in projected cash return to shareholders.
Our three-tier distribution framework provides a flexible and durable means to meet our returns commitment through the price cycle and truly is differential to others in this sector as our returns commitment is based on a percentage of CFO and not free cash flow.
And as you know, we are guided in everything we do by our triple mandate.
We must reliably and responsibly deliver oil and gas production to meet energy transition pathway demand.
We need to generate competitive returns on and of capital for our shareholders and achieve our Paris-aligned net-zero ambition by 2050.
Just as I'm very proud of the excellent operational and returns-focused performance we delivered in 2021, I'm equally pleased about the progress we have made in support of the third pillar of our mandate.
We increased our medium-term emissions intensity reduction target to 40% to 50% by 2030 and expanded it to include both gross operated and net equity production.
As a reminder, we're also committed to further reducing our methane emissions and achieving our zero routine flaring ambition by 2025.
And as highlighted in our December release, we've allocated $0.2 billion of this year's capital program for projects to reduce the company's Scope 1 and 2 emissions intensity and investments in several early stage, low-carbon opportunities that address end-use emissions.
We strongly believe that this level of focus on and performance toward is fully realizing our triple mandate as ConocoPhillips is very well positioned to not just survive through the energy transition, but to thrive regardless of the pathways it takes.
While we're on the topic of energy transition, I'd like to touch on the macroenvironment.
Commodity prices today reflect global energy demand returning to pre-pandemic levels, along with supply being impacted by decreased investment in oil and gas over the past couple of years, concerns about inventory levels, and the amount of available spare production capacity in the system.
All these factors demonstrate the ongoing importance of our sector to the global economy today and for the foreseeable future.
It's becoming increasingly clear that the energy transition isn't going to happen with the flip of a switch.
What people and businesses around the globe need is a managed and orderly transition, but that's not what the world is seeing to this point.
Supply and demand balances are fragile at the moment, likely driving continued volatility and the current commodity price situation in Europe may be providing a cautionary signal.
The simple reality is that most alternative energy sources still have a long way to go toward becoming as scalable, reliable, affordable, and accessible as the world needs them to be, which brings me back to our triple mandate and the importance of performing well across all three of the pillars, for our shareholders and for the people in the world who need and use our products.
Looking at fourth-quarter earnings, we generated $2.27 per share in adjusted earnings.
This performance reflects production above the midpoint of guidance and strong price realizations, as well as some commercial and inventory timing benefits, partially offset by slightly higher costs in DD&A.
Lower 48 production averaged 818,000 barrels of oil equivalent per day for the quarter, including 483,000 from the Permian, 213,000 from the Eagle Ford and 100,000 from the Bakken.
As previously communicated, our Permian and overall Lower 48 production were both increased roughly 40,000 barrels of oil equivalent per day in the quarter due to the conversion from two- to three-stream accounting for the acquired Concho assets.
At the end of the year, we had 20 operated drilling rigs and nine frac crews working in the Lower 48, including those developing the acreage we recently acquired from Shell.
As Ryan touched on earlier, operations across the rest of the portfolio also ran extremely well last year with our GMT2 project in Alaska producing first oil in the fourth quarter as planned.
Turning to cash from operations, we generated $5.5 billion in CFO, excluding working capital, resulting in free cash flow of $3.9 billion in the quarter.
For the full year 2021, we generated $15.7 billion in CFO, $10.4 billion of free cash flow, and returned $6 billion to shareholders.
In addition to the asset dispositions Ryan covered, we also sold 117 million shares we held in Synovis in the year, generating $1.1 billion in proceeds that we used to fund repurchases of our own shares.
This left us with a little over 90 million Synovis shares at the end of the year, which we intend to fully monetize by the end of this quarter.
We ended the year with over $5 billion in cash, maintaining our differential balance sheet strength, even after completing the all-cash acquisition of Shell's Delaware Basin assets.
So, to recap, it was not only a strong quarter but one that also bodes very well for 2022 and future years.
We continue to optimize the portfolio.
Our businesses are running very well around the globe, and we have had an overall reserve replacement ratio of nearly 380%, establishing an incredibly powerful platform for the company as we head into this year and beyond.
Our cash flow performance and leverage to prices have substantially improved over the past couple of years as demonstrated by our fourth-quarter results and expect it will continue to improve as we begin including the newly acquired Delaware assets in our consolidated results this quarter.
Now, demonstrating this point and appreciating that it's helpful for the market to have an accurate sense of our stronger CFO generating capacity, at a WTI price of $75 a barrel with a $3 differential to Brent and a Henry Hub price of $3.75, we estimate our 2022 full-year cash from operations would be approximately $21 billion, which reflects us reentering a tax-paying position in the U.S. this year at those price levels.
And our free cash flow for the year would be roughly $14 billion.
And of course, we continue to be unhedged across our global diverse production base, so we expect to fully capture the upside of the current price environment.
We provided updated sensitivities in today's supplemental materials to help estimate how much earnings and CFO are projected to change this year with market price movements.
So, to sum it up, all that we've shared with you today underscores our readiness to reliably generate very competitive returns for our shareholders as we thoughtfully move forward as a responsible, valuable E&P player in the energy transition.
That is our triple mandate.
It's what we have ConocoPhillips built for and are ready to deliver.
Now, with that, let's go to the operator to start the Q&A. | compname reports fourth-quarter and full-year 2021 results; increases planned 2022 return of capital to $8 billion and declares quarterly dividend and variable return of cash distribution.
q4 adjusted earnings per share $2.27 excluding items.
announced a $1 billion increase in expected 2022 return of capital to shareholders.
declared both ordinary dividend of 46 cents per share & second-quarter variable return of cash (vroc) payment of 30 cents per share.
completed all-cash shell permian acquisition. |
Joining us today are Pedro Heilbron, Chief Executive Officer of Copa Holdings; and Jose Montero, our Chief Financial Officer.
First, Pedro will start by going over our second quarter highlights, followed by Jose, who will discuss our financial results.
Copa Holdings' financial reports have been prepared in accordance with International Financial Reporting Standards.
In today's call, we will discuss non-IFRS financial measures.
Many of these are discussed in our annual report filed with the SEC.
To them, as always, my utmost respect and admiration.
As many of you know, Raul Pascual decided to take on a new professional challenge and left the company earlier last month.
We're very grateful for the more than 15 years of outstanding work he dedicated to Copa.
Daniel has over 12 years of experience with the company in many areas, including airports, scheduling and most recently, fleet and network planning.
We're very confident in Daniel's ability to lead our Investor Relations group.
As you may remember, in our last earnings call, we discussed two diverging themes happening in Latin America.
On the one hand, some countries, including Panama, were experiencing a downward trend in infection rate, which led to fewer travel restrictions and an improved demand environment.
On the other hand, several other countries continued to struggle with the virus, which led many of them to reimpose air travel restrictions and/or new health requirements affecting demand for international travel.
As of today, the story has not changed much.
Due to the increase in COVID-19 cases, several countries have maintained and, in some cases, increased travel restrictions, which has affected our ability to reinstate capacity.
On the other hand, markets without significant restrictions, mainly to and from the U.S. and certain leisure destinations have continued to recover, which has allowed us to increase capacity quarter-over-quarter while also growing load factors.
In the month of June, we successfully transitioned our Hub of the Americas in Panama back to a six bank connecting structure, which enables cost efficiencies and lets us continue adding back frequencies and destinations.
Moreover, we started to reactivate some of the aircrafts sent to temporary storage during 2020.
Going forward, we assume ongoing vaccination efforts will have a positive effect on COVID-19 infection rates in the region, which we expect will lead to the relaxation of travel restrictions and a faster demand recovery, supporting the capacity deployment for the second half of the year.
Now I'll highlight some of our second quarter results.
In terms of capacity, we reached 48% of second quarter 2019 ASMs compared to 39% in the first quarter.
Load factor came in at 77%, which is an improvement of eight percentage points compared to the first quarter.
Revenues increased by 64% over the previous quarter to $304 million, as a result of the additional capacity, higher load factors and improved yields.
The additional capacity also allowed us to reduce our ex fuel CASM from $0.085 in Q1 to $0.076 in Q2.
We reported an operating profit of $8.7 million in the quarter.
Excluding a $10.4 million passenger revenue adjustment the company would have reported an operating loss of $1.7 million.
Cash accretion averaged $21 million per month, which was better than our expectations, primarily due to stronger sales in the quarter.
We ended the quarter with a cash balance of $1.3 billion and total liquidity of over $1.6 billion.
In terms of our operations and despite the complexity imposed by the multiple biosafety protocols, we're pleased to report an on-time performance of 92% for the quarter and a flight completion factor of 99.5%, which again, places us among the best in the world and is a true testament to our employees' continuous commitment to providing a world-class product to our passengers.
Turning now to Wingo.
We can report that it's now operating six 737-800s compared to the four it operated pre-pandemic.
During the second quarter, Wingo continued its regional expansion with new flights from Panama to San Jose, Costa Rica and from Bogota to Lima, Peru.
And since Q1, it's been operating more capacity than in 2019.
To finalize, I'd like to reaffirm that we have a proven and strong business model which is based on operating the best and most convenient network for intra-Latin America travel from our Hub of the Americas, leveraging Panama's advantageous geographic position with the region's lowest unit cost for a full-service carrier, best on-time performance and strongest balance sheet.
Going forward, the company expects that its Hub of the Americas will be an even more valuable source of strategic advantage.
I hope that you and your families are safe and doing well.
I'd like to join Pedro in acknowledging our great Copa team for all their efforts and great spirit many months of the pandemic.
I will start by going over our second quarter results.
Our capacity came in at $2.9 billion available seat miles, which amounts to about 48% of the capacity operated during the second quarter of 2019.
Load factor came in at an average of 77% for the quarter.
We reported a net profit of $28.1 million or $0.66 per share.
Excluding special items, we would have reported a net loss of $16.2 million or a loss of $0.38 per share.
Special items for the quarter are comprised mainly of an unrealized mark-to-market gain of $33.9 million, related to the company's convertible notes issued in 2020 and $10.4 million in revenues related to unredeemed tickets, which corresponds to sales made during 2019 and early 2020.
We reported a quarterly operating profit, which came in at $8.7 million.
On an adjusted basis, not including the $10.4 million in unredeemed ticket revenues, we had an adjusted operating loss of $1.7 million for the quarter.
It's worth noting that we achieved this result while operating at 48% of our pre-COVID capacity.
Unit costs, excluding fuel for the second quarter came in better than the first quarter at $0.076 per ASM, driven by quarter-over-quarter capacity growth as well as our continued focus on maintaining the savings achieved during the past year.
We continue with our cost savings initiatives, and we are targeting to achieve our unit cost below $0.06 once we reach 100% of our pre-COVID-19 capacity.
Aside from our cost performance, our operating results for the quarter were driven primarily by our yields, which at $0.119 on an underlying basis, came in 1% better than those in Q2 2019.
We also achieved cash accretion of approximately $21 million per month for the quarter, which is ahead of our expectation and driven mainly by increased sales during the period as well as some timing of operational cash outflows.
As a reminder for our cash accretion measure, we exclude all extraordinary proceeds from asset sales but include capex and the payment of our financial obligations.
I'm going to spend some time now discussing our balance sheet and liquidity.
As of the end of the second quarter, we had assets of close to $4.1 billion and our cash, short and long-term investments ended at $1.3 billion.
We also ended the quarter with an aggregate amount of $345 million in unutilized committed credit facilities, which added to our cash brought our total liquidity to more than $1.6 billion.
In terms of debt, we ended the quarter with $1.6 billion in debt and lease liabilities, similar levels to the ones reported for the end of the first quarter.
Turning now to our fleet.
During the second quarter, we finalized the sale and delivery of three Embraer-190s.
And in the month of July, we delivered the last remaining Embraer-190 aircraft in our fleet.
During the month of July, we also entered into an agreement for the sale of six 737-700s and decided to keep in our fleet the remaining six 737-700s.
We ended the second quarter with 81 aircraft.
68 737-800s and 13 737-MAX9s.
In these figures, we include our 737-800s that were sent to temporary storage during 2020.
During the fourth quarter, we expect to receive two more 737 MAX 9s and considering we are now keeping the six 737-700s, we expect to end the year with a total of 89 aircraft.
As to our outlook for the rest of 2021, we're still in an uncertain unpredictable demand and operating environment.
And as such, we will not be providing full year guidance.
However, based on preliminary results for the month of July, and the current state of the demand environment and air trial restrictions that can provide the following outlook for the third quarter of 2021.
We -- We expect capacity to be approximately 70% of Q3 2019 levels at about $4.5 billion ASMs, revenues to be approximately 58% of Q3 2019 levels at about $415 million.
We expect our CASM ex fuel to be approximately $0.66, a decrease of 14% versus the second quarter.
Given these operating assumptions, an all-in fuel price of $2.15 per gallon, as well as the incremental capex that we will incur during the quarter to reactivate our fleet, we expect to be cash neutral for the third quarter.
And with that, we'll open the call to some questions. | q2 earnings per share $0.66.
q2 loss per share $0.38 excluding items.
qtrly adjusted basic loss per share $0.38. |
I'm Rebecca Gardy, Vice President of Investor Relations.
A transcript of this earnings conference call will be available within 24 hours at investor.
Turning to slide 3.
These statements rely on assumptions and estimates, which could be inaccurate and are subject to risk.
On Slide 4, you will see our agenda.
With us on the call today are Mark Clouse, Campbell's President and CEO; and our Chief Financial Officer, Mick Beekhuizen.
Mark will share his thoughts on our overall first quarter performance and in-market performance by division.
Mick will discuss the financial results of the quarter in more detail and review our guidance for the second quarter.
We will close the call with an analyst Q&A.
I know I am grateful this year for the entire Campbell organization, especially our colleagues in the manufacturing plants and our distribution teams who have been producing and shipping to meet the higher demand the pandemic has brought, while prioritizing the safety of our people and following our heightened in-plant protocols.
Our strong top-line growth combined with gross margin expansion and value capture synergies, despite the impact of ongoing COVID-19 related costs, led to better than expected adjusted EBIT growth, up 18%, and a 31% increase in adjusted earnings per share to $1.02 per share.
It also was a strong executional quarter where we were able to strengthen supply levels to allow our retailers to improve inventory going into the crucial soup and holiday season.
In addition, we announced that our Board approved a 6% increase in our quarterly dividend, reflecting the Company's strong earnings performance, cash flows and increasing confidence in our long-term growth prospects as well as our continued commitment to shareholder returns.
Organic sales in the first quarter increased 8%, led by 12% organic sales growth in Meals & Beverages reflecting our continued investment in our brands to attract and retain new households as retailers also rebuilt inventory levels.
Turning to our Snacks Division, we drove solid growth, with organic sales up 4% reflecting sales increases across the majority of our nine power brands.
Our portfolio of unique and differentiated snacks remained in high demand as in-home consumption rapidly expanded.
We did make some selective strategic decisions to shift promotions from the first quarter to the balance of the year to help ease supply constraints, particularly in the Meals & Beverages division.
While these decisions did generate mixed share results as expected, we exited the first quarter in a much better position on retailer inventories and are seeing accelerating in-market performance as programming is ramping up into our key holiday season.
We expect that pressure of elevated demand on supply will continue in the near term, but we are building supply chain capacity and capabilities to help us better navigate this pressure and maximize availability while protecting and growing share.
For the sixth consecutive quarter, our total Company in-market dollar performance grew in measured channels, increasing 7%, with growth across almost the entire portfolio.
Continuing the momentum from the back half of fiscal 2020, October was the ninth consecutive month in which we grew household penetration versus prior year.
In our first quarter, we attracted millions of new households with the most notable increase coming from younger consumers.
We also continued to see elevated repeat rates with over 70% of households gained since the beginning of the pandemic purchasing our products again.
As we have said on previous calls, we consider this to be an enduring change in behavior and given strengthening consumer trends like quick-scratch cooking and at-home eating and snacking, we remain confident that we will retain a meaningful number of these households beyond the pandemic.
Within the Meals & Beverages division, soup net sales increased 21% with growth in all segments.
This reflects retailer inventory recovery, in-market gains, and moderated promotional activity.
We grew our household penetration in overall soup by 1.3 points.
In addition to gaining new buyers, we are retaining these new buyers as reflected by higher repeat rates.
And, among millennials, we grew share for total US soup by nearly 1 point, including significant growth of 2.7 points on condensed and over 1 point on ready-to-serve, demonstrating the sustained relevance of our core businesses with younger consumers.
Our condensed soups were the highlight of the quarter with double-digit net sales growth, gains in share led by cooking SKUs, and 4 million new households purchasing this quarter versus prior year.
We continued to bring new ideas and recipes to consumers who are cooking more frequently at home.
As these first-time cooks gain more confidence, we believe they will likely continue to use these skills to prepare more meals at home, well beyond the pandemic.
Our recipe solutions continue to resonate with consumers as we saw a 20% increase in overall recipe-related page views in the first quarter compared to the prior year.
Within ready-to-serve, we saw solid consumption growth, but supply pressure and our decision to moderate promotions as previously mentioned, resulted in some short-term share loss.
However, as supply has improved, we are seeing improved trends, supported by our Chunky NFL sponsorship activation, our Slow Kettle Crunch innovation, and our Well Yes!
We expect all these factors to have a very positive impact in the second quarter.
Our Pacific Foods growth engine performed well as we continued to build scale with nearly 22% dollar consumption growth in soup and broth in the quarter.
Pacific soup and broth grew share for the fourth consecutive quarter, including strong gains with millennials.
Pacific has also increased points of distribution and grew household penetration as we launched our first ever national advertising campaign.
Overall, we continue to feel great about the progress we've made against our Win in Soup strategy, as evidenced by our success expanding into millions of new households, attracting younger consumers and growing all of our core brands.
Turning now to the performance of our Snacks power brands, which grew dollar consumption by 6% in the quarter.
The most notable being Late July, which grew consumption sales by 26% and share by nearly 2 points.
We continued to run the brand's first national ad campaign throughout the quarter.
Late July is a great example of how our power brands are helping consumers make the most of their snacking moments.
We take a mainstream segment like tortilla chips and offer a product with higher quality including organic product credentials, highly relevant innovation and world-class marketing to better engage consumers, allowing them to trade up into a better snacking experience.
We have successfully applied this model to other brands as well, such as Kettle Brand chips and Snack Factory Pretzel Crisps, which also had double-digit dollar consumption growth in the quarter.
We also made significant progress on Goldfish in the quarter with both supply and service levels improving.
We have also redirected marketing aimed toward snacking options at home and restored promotional spending toward the end of the quarter.
This is resulting in improved consumption and share in the most recent periods.
We feel very good about our Snacks performance and the steady growth it delivers supported by a very healthy base business.
In addition, we continue to remain on-plan to deliver the value capture synergies that we initially outlined as part of our acquisition of Snyder's-Lance.
Our investment in capacity expansion in both Goldfish and our chips, demonstrates our conviction in the long-term growth potential of our brands.
We are still working through some supply constraints, including a challenge in cookies where the combination of demand and labor impacted by COVID-19 has had some negative impact on supply.
Despite these isolated challenges, we feel very confident in our ability to meet the long-term demand driven by the expected sustained growth of consumer snacking behavior.
Given the rapid growth of the e-commerce channel across foods, I want to touch on our enterprise performance in the quarter.
Our e-commerce in-market dollar consumption results were once again impressive, growing 85% over prior year.
Consumers' use of e-commerce, and particularly click-and-collect for groceries, has increased by a considerable amount these past several months and we believe this trend will continue.
Accordingly, we are investing to strengthen our capabilities and in our support of key partnerships to serve the millions of consumers who are shopping online.
Given our overall financial results and the actions we have taken to start the year, we are well-positioned across our entire portfolio heading into Q2 and the key soup and holiday season.
As Mark just shared, we had a strong start to fiscal 2021 with another quarter of strong sales growth, driven by elevated consumer demand, gross margin expansion, despite the COVID-19 cost headwinds, and robust adjusted EBIT and adjusted earnings per share growth ahead of expectations.
I'll now review our first quarter results in more detail and provide guidance for the second quarter.
For the first quarter, reported net sales increased 7% to $2.3 billion.
Organic net sales increased 8% in the quarter, which excludes the impact of the sale of the European chips business.
Adjusted EBIT increased 18% to $463 million, as higher sales volumes, improved adjusted gross margin performance and lower selling expenses were partially offset by increased marketing and slightly higher adjusted administrative expenses.
Adjusted earnings per share from continuing operations increased by 31%, or $0.24, to $1.02 per share, reflecting an increase in adjusted EBIT as well as a lower net interest expense.
Breaking down our net sales performance for the quarter, organic net sales increased 8% from the prior year.
This performance was driven by a 6 point gain in volume across the majority of our retail brands, offset partially by declines in foodservice.
Lower levels of promotional spending in both segments drove a 2 point gain.
The divestiture of the European chips business negatively impacted net sales in the quarter by a point, and the impact from currency translation in the quarter was neutral.
All-in, our reported net sales were up 7% from the prior year.
Our adjusted gross margin increased by 100 basis points in the quarter to 34.8%.
Favorable product mix, which drove a 30 basis point improvement in our adjusted gross margin, was largely driven by the increased contribution from our soup products within our Meals & Beverages segment.
Separately, we are estimating a 60 basis point gross margin improvement from better operating leverage within our supply chain network as we significantly increased our overall production, primarily within Meals & Beverages.
Net pricing drove a 120 basis point improvement, due to lower levels of promotional spending in the quarter.
Inflation and other factors had a negative impact of 270 basis points driven by cost inflation, as overall input prices on a rate basis increased approximately 2%, as well as other operational costs and continued COVID-19 related costs.
This was partially offset by our ongoing supply chain productivity program, which contributed a 150 basis point improvement, and includes, among others, initiatives within procurement and logistics optimization.
Our cost savings program, which is incremental to our ongoing supply chain productivity program, added 10 basis points to our gross margin expansion.
Moving on to other operating items.
Marketing and selling expenses increased 1% in the quarter to $208 million.
This increase was driven primarily by our planned increased investment in advertising and consumer promotion expenses, which is up 17% versus a year ago.
These investments primarily reflect higher levels of support behind soup, to continue to drive usage, inspire meal solutions, build brand awareness among younger households, and support innovation.
These investments were partially offset by the benefits of our cost savings initiatives, lower marketing overhead, and lower selling expenses.
Adjusted administrative expenses increased $11 million or 9% to $137 million, driven by higher benefit costs and general administrative costs, including incremental consulting charges related to supply chain optimization, as well as inflation, partially offset by the benefits from our cost savings initiatives.
Moving to the next slide, we have continued to successfully deliver against our multi-year enterprise cost savings initiatives.
This quarter, we achieved $15 million in incremental year-over-year savings, inclusive of Snyder's-Lance synergies.
To-date, that brings our savings for the overall program to $740 million.
We expect an additional $60 million to $70million in the balance of fiscal 2021 and we remain on-track to deliver our cumulative savings target of $850 million by the end of fiscal 2022.
To help tie this all together, we are providing an adjusted EBIT bridge to highlight the key drivers of performance this quarter.
As discussed, adjusted EBIT grew by 18%.
This was largely driven by the increase in demand for our products with sales gains contributing $53 million of EBIT growth.
The overall adjusted gross margin expansion of 100 basis points contributed $23 million of EBIT growth, which more than offset higher marketing and selling expenses of $2 million reflecting our investments in A&C, partially offset by lower selling expenses.
The remaining impact of all other items, consisting of adjusted administrative expenses, R&D and adjusted other income in aggregate was nominal.
Our adjusted EBIT margin increased year-over-year by 180 basis points to 19.8%.
The following chart breaks down our adjusted earnings per share growth between our operating performance and below the line items.
Adjusted earnings per share increased $0.24 from $0.78 in the prior-year quarter to $1.02 per share.
Adjusted EBIT had a positive $0.18 impact on adjusted EPS.
Net interest expense declined year-over-year by $25 million, delivering a $0.06 positive impact to adjusted EPS, as we have used proceeds from completed divestitures and our strong cash flow to reduce debt.
The impact from the adjusted tax rate was nominal, completing the bridge to $1.02 per share.
In Meals & Beverages, organic net sales increased 12% to $1.3 billion, reflecting double-digit increases across most of our US retail products, including gains in US soups, inclusive of Pacific Foods soups and broth, Prego pasta sauces, V8 beverages, Campbell's pasta, and Pace Mexican sauces, as well as gains in Canada, partially offset by declines in foodservice.
Volume was favorable in US retail and Canada, driven by increased demand of food purchases for at-home consumption, offset partially by the negative impact on foodservice as a result of shifts in consumer behavior and continued COVID-19 related restrictions.
Net sales of US soup, including Pacific, increased 21% compared to the prior year due to retailers rebuilding inventory for the upcoming soup season, in-market gains in condensed soups and broth and moderating promotional spending.
Operating earnings for Meals & Beverages increased 18% to $333 million.
The increase was primarily driven by sales volume growth and improved gross margin, offset partially by increased marketing investment.
The gross margin performance was impacted by the lower levels of promotional spending and favorable mix, as productivity improvements and improved operating leverage were offset by other operational costs, cost inflation and COVID-19 related costs.
Within Snacks, organic sales increased 4% driven primarily by lower levels of promotional spending as well as healthy velocity on the majority of the base business.
We saw volume gains in fresh bakery products, Late July snacks, Pop Secret popcorn, Pepperidge Farm cookies, Snack Factory Pretzel Crisps, as well as Kettle Brand potato chips, which partially offset declines in Lance sandwich crackers.
Sales of Goldfish crackers were relatively flat in the quarter, as increased demand for family size products were offset by reduced away-from-home consumption.
Operating earnings for Snacks increased 11% driven by lower selling expenses, lower marketing overhead, and sales volume gains, partly offset by higher administrative expenses.
Gross margin performance was consistent with prior year as lower levels of promotional spending were offset by higher net supply chain costs as productivity improvements, cost savings initiatives and improved operating leverage were more than offset by cost inflation and COVID-19 related costs.
I'll now turn to our cash flow and liquidity.
Cash flow from operations was $180 million, comparable to the prior year as changes in working capital were basically offset by higher cash earnings and lower other cash payments.
Cash from investing activities decreased by $341 million, driven by lapping the net proceeds from our divested businesses in the prior year.
The cash outlay for capital expenditures was $74 million, $24 million lower than the prior year driven by discontinued operations, and in line with our previously communicated full-year expectation.
Cash outflows for financing activities were $245 million compared to $453 million a year ago.
The reduced cash outflow reflects lower debt repayments.
Dividends paid in the amount of $108 million were comparable to the prior year, reflecting our current quarterly dividend of $0.35 per share.
We ended the quarter with cash and cash equivalents of $722 million.
I'll now turn to guidance.
As I've reviewed, the Company's strong first quarter fiscal 2021 results were impacted by increased demand stemming from the COVID-19 pandemic.
The impact of the continuing pandemic on the Company's fiscal 2021 results is uncertain and makes it difficult to provide a full year outlook at this time.
Based on our expectation of a continued elevated demand landscape and increased investment in our brands, we are providing the following guidance for the second quarter of fiscal 21.
We expect year-over-year growth in net sales of 5% to 7% as growth more closely aligns with consumption reflecting better inventory, strong programming and improving share positions.
We expect adjusted EBIT growth to be in line with year-over-year sales growth for the quarter as we invest to win the season and keep fueling the retention of new households behind key consumer trends.
We expect the combination of healthy EBIT growth and the benefit of significantly reduced interest expense year-over-year to result in adjusted earnings per share growth of 12% to 15%, or $0.81 to $0.83 per share.
While it remains very difficult to provide anymore direction for the balance of the year, as time has progressed our outlook does continue to strengthen.
In closing, our first-quarter results were a strong start to the year.
I am proud of the continued strong execution by our teams throughout the organization. | q1 adjusted earnings per share $1.02 from continuing operations.
increases quarterly dividend by 6% to $0.37 per share.
qtrly organic net sales increased 8%.
sees q2 2021 net sales up 5% to up 7%.
sees q2 2021 adjusted earnings per share $0.81 to $0.83.
remains on track to deliver annualized savings of $850 million by end of fiscal 2022. |
I'm Rebecca Gardy, Head of Investor Relations at Campbell Soup Company.
These statements rely on assumptions and estimates, which could be inaccurate and are subject to risk.
As stated in the release from this quarter onwards adjusted net earnings will exclude unrealized mark-to-market gains and losses on outstanding undesignated commodity hedges until such time that the related exposure impacts operating results.
Accordingly, fiscal 2021 adjusted results and guidance for adjusted EBIT and adjusted earnings per share growth rates reflect this change.
Also beginning this fiscal year, the foodservice and Canadian business formerly included in the Snacks segment is now managed as part of the Meals & Beverages segment.
Segment results have been adjusted retrospectively to reflect this change.
On Slide four, you'll see today's agenda.
Mark will share his overall thoughts on our first quarter performance, as well as in-market performance by division.
Mick will discuss the financial results of the quarter in more detail, and then review our guidance for the full-year fiscal 2022.
Organic net sales were down 4% for the quarter, driven by the expected lapping of prior year retailer inventory replenishment, as well as constrained supply in the current quarter.
We were however, up 5% versus fiscal 2020 and consumption was, up 2% versus prior year and up 9% versus two years ago, signaling strong persistent consumer demand.
This dynamic resulted in a 6 point difference in net sales versus consumption in measured channels, a relationship we do not expect to continue through the remainder of the year.
Like many of our competitors and customers, we faced supply chain pressures, particularly around labor constraints and transportation capacity and our net sales results reflect those pressures.
I'm very proud of how our teams navigated costs related to this volatility.
Their strong execution combined with effective pricing actions across both segments, led to adjusted EBIT and adjusted earnings per share results consistent with our expectations and in line or ahead of two years ago.
On Slide seven, with end-market demand remaining strong across both of our segments and the pricing actions we announced at the end of our prior fiscal year now reflected on shelf.
We feel confident about the outlook for the full fiscal year.
We recently announced additional inflation justified pricing actions to offset continuing increases in ingredient and packaging costs, logistics and labor.
This second round of pricing should be effective in January and evident on shelf in the third quarter.
This will result in some added pressure in Q2 as pricing catches up with more recent inflation, but moving into the second half we expect margin progress and earnings recovery as we use all of our available mitigation tools.
To address labor challenges in our network, we have taken specific actions and see early signs of improvement, such as increased on-boarding, lower absenteeism and improved retention.
We've seen a recent uptick in the volume produced across the plants and we expect to begin to rebuild our inventories in the second quarter, but not fully recover until the second half.
Our ingredient and packaging spend, we are now over 85% covered, thereby reducing the variability in the upcoming quarters, while we continue to deliver on our supply chain productivity improvements and our cost savings initiatives.
In addition, we've made selective supply related reductions in marketing and selling investments in the first quarter, which we expect to reverse and fully return to targeted levels as we move into the second half of the year.
Labor and supply challenges are impacting certain brands to a greater extent than others creating some short-term share and consumption pressure.
We expect this to be evident, particularly through the second quarter as we cycle through recovery on labor and supply.
With the strength of our brands in the share gains that have been so consistent and broaden our business over the last two years.
We remain very confident that share positions will improve, once we return to full capacity and investment in the second half of the fiscal year.
Turning to our Meals & Beverages division, I continue to be pleased by the underlying health of the portfolio and the performance of the brands.
Organic net sales were down 6% versus prior year, lapping 11% growth in the prior year and up 5% versus fiscal 2020.
Consumption though flat year-over-year was, up 9% versus two years ago, reflecting the strength of demand for our products.
Turning to Soup on Slide 10, our Win in Soup strategy continues to show positive results.
We retained households and held share in the quarter.
More people are participating and remaining in the soup category than pre-pandemic levels.
Household penetration on ready-to-serve condensed eating and Swanson broth are all ahead of the prior year.
Additionally, compared to prior year the dollar spent per buyer increased as our pricing actions took effect.
While volume per buyer remained flat reflecting the health, relevance and sustained momentum of our brands.
These compelling data points provide evidence that we are retaining our expanded consumer base, despite consumer mobility increasing, returning competition and our inflation driven higher price points.
US Soup consumption grew 2% over elevated levels in the prior year.
Bringing growth versus two years ago to 9%.
Repeat rates and household penetration remained ahead of two years ago on Pacific Foods, ready-to-serve, condensed and Swanson broth.
Condensed dollar share was down slightly in the quarter, however, we continue to be encouraged by evidence to quick-scratch cooking behavior continues.
And our consumer tracking studies, more than a third of the people surveyed indicated that they cook more compared to the prior month.
Additionally, we are seeing the need for quicker meal preparation as consumer shift to hybrid work arrangements, leading to the need for quicker lunches, while working from home and preparing dinners after returning from the workplace.
This is driving an overall increase in our eating share interestingly with our strongest growth in condensed eating coming from millennials.
As you may have noted in more recent periods, we are seeing some recovery of private label in the condensed segment.
This is not unexpected given the recovery from an extended period of supply constraints.
It's important to note, our two-year share gains remain very strong and we remain very confident in our overall competitive position versus private label as we move forward with continued strong support and programing.
Ready-to-serve increased share in the quarter, including over 3 points of share gains among millennials.
Within ready-to-serve Chunky had a very strong quarter, increasing consumption 8% on top of 2% growth in the prior year quarter and grew share by 0.6 points versus prior year.
This is despite elevated promotional levels from competition.
On Swanson broth, we also grew share by 1.6 points, representing the third consecutive quarter of growth as supply recovery continued.
Our Pacific Foods growth engine delivered its eighth consecutive quarter of holding or growing share, driven by sustained momentum on broth, despite remaining supply challenges due to labor pressures paired with high demand.
Turning to Sauces, Prego remain the number one share leader for 30 straight months.
However, short-term material availability is adding pressure on supply and creating more recent pressure on shares, which we expect to improve as we fully recover on inventory in the second half.
Pay share began to improve in Q1 and grew households, compared to prior year.
We see pace continuing to improve throughout the year.
I want to conclude my comments on Meals & Beverage by highlighting an important underlying trends.
Across the Meals & Beverage portfolio, we continued to show strong performance with younger households.
The percentage of buyers under the age of 35 has increased versus the prior year quarter on nearly all key brands.
Specifically on US Soup, the percentage of buyers under 35 increased almost 2 points this quarter and the average age of Campbell Soup consumers are getting younger.
The millennial cohort is the fastest growing segment in condensed eating, ready-to-serve and broth.
Importantly, as we look beyond the current short-term volatility and begin to assess the ability for Meals & Beverages to continue to contribute growth into the future.
This dynamic is a very important indicator and supports our efforts to increase relevance with a new generation of consumers.
Organic net sales were, down 1%, primarily due to labor-related supply constraints, but grew 4%, compared to fiscal 2020, in-market performance was strong growing 5% over the prior year quarter and 9% on a two-year basis.
This dynamic has resulted in low levels of retail inventory that we're working on and expect to recover through the second half of the fiscal year.
Our power brands continue to fuel performance with in-market consumption growth of 6% this fiscal year and 13% on a two-year basis, driven by double-digit consumption growth across the majority of our brands.
We are pleased to see repeat rates on all eight power brands ahead of the prior year and compared to fiscal 2020.
Goldfish performed very well in the quarter, increasing share by half a point and growing consumption high single-digits versus prior year behind strong marketing activation, improved performance in multi-packs and continued successful limited addition flavor innovations resulting in improved base velocities and increased household penetration.
We are winning with consumers, gaining share and driving significant consumption increases.
Innovation continue to be a key growth driver with limited addition Goldfish Jalapeno Popper being the Number One velocity new item launched in the cracker category in the quarter, marking the second quarter in a row, we achieved this metric with our limited edition flavor innovations.
We also continue to increase the relevance additional [Phonetic] kids audience with 60% of new buyers being households with our kids.
We continued to drive share growth on other brands as well, including Snack Factory pretzel crisps by 2.5 points, Kettle Brand potato chips by more than a point and Cape Cod potato chips 2.6 points.
However, as previously mentioned, labor availability on certain Snacks segments is putting pressure on share in several areas.
In particular, cookies Lance crackers, Late July and Snyder's of Hanover pretzels in the quarter.
We are making good progress on recovering, but do expect some of these headwinds to persist into Q2, more broadly recovering in the second half.
As I mentioned earlier, we continue to be pleased with the speed and progress we have made to address the executional pressures experienced last year.
Although, we will still lap a challenging Q2 as we deal with the [Technical Issues] half of the year with progress on margins and shares.
Given our solid first quarter results and their consistency with our expectation [Technical Issues] our full-year guidance.
As previously mentioned while we expect to still have a difficult comparison in Q2 as we lap year ago strength and begin to recover on labor and supply pressures.
We remain very confident in our expectations of positive second half performance and momentum exiting the year.
We look forward to sharing our strategy to unlock our longer-term full growth potential next week at our Investor Day.
Turning to Slide 17, as Rebecca mentioned at the start of the call from this quarter onwards we will exclude from adjusted net earnings, unrealized mark-to-market gains and losses on outstanding undesignated commodity hedges, until such time that the related exposure impacts operating results.
Our adjusted financial results and guidance reflect this change.
For the first quarter as we left 8% growth in the prior-year, organic net sales declined 4%, due to the anticipated cycling of year ago retailer inventory recovery and supply pressures.
The resulting year-over-year fall in [Phonetic] decline more than offset the favorable impact of net pricing in the quarter.
As Mark highlighted earlier consumer demand remains strong in [Technical Issues] basis were 5% higher, compared to two years ago or the first fiscal quarter of 2020.
Adjusted EBIT decreased 15%, compared to prior year, it was 1% higher on the two-year basis, despite the significant levels of inflation on ingredients, packaging, labor, warehousing and logistics.
Our adjusted EBIT margin was 17.4%, compared to 19.5% in the prior year and slightly down from fiscal 2020.
Adjusted earnings per share from continuing operations decreased $0.12 or 12% versus prior year to $0.89 per share, but remains well ahead of fiscal 2020.
On the next Slide, I'll break down our net sales performance for the first quarter.
As I mentioned, the impact of lapping the post-COVID search retailer inventory recovery and supply constraints largely related to industrywide labor challenges along with select material constraints, held back our ability to meet the continued elevated demand.
The operations team continue to execute well in a challenging environment.
Organic net sales decreased 4% during the quarter, driven by a 6 point volume headwind, which reflects lapping of the prior year retailer inventory recovery and the before mentioned supply constraints.
Favorable price and sales allowances drove a 4 point gain in the quarter, which was partially offset by a 2 point headwind due to some spend back on promotional spending in the quarter closer to pre-pandemic levels.
The impact of the sale of Plum subtracted 1 point.
All in our reported net sales declined 4% from the prior year.
Turning to Slide 19.
Our first quarter adjusted gross margin decreased by 200 basis points from 34.5% last year to 32.5% this year.
Mix had a negative impact of approximately 70 basis points on gross margin as we cycled last year's retail inventory recovery and favorable operating leverage.
Net price realization drove a 190 basis point improvement, due to the benefits of our recent pricing actions, partially offset by increased promotional spending.
Inflation and other factors had a negative impact of 470 basis points with the majority of the decline driven by cost inflation as overall input prices on a rate basis increased by approximately 6%.
Along with other industry participants, we experienced significant inflation across all input cost categories, including ingredients, packaging, labor, warehousing and logistics.
That said, our ongoing supply chain productivity program contributed 120 basis points to gross margin, partially offsetting these inflationary headwinds.
Our cost savings program, which is incremental to our ongoing supply chain productivity program added 30 basis points to our gross margin.
The previously described initiatives to mitigate inflation highlighted on the next page, include price increases and trade optimization, supply chain productivity improvements and cost saving initiatives and a continued focus on discretionary spending across the organization.
We remain focused on inflation mitigation as we continue to expect core inflation for the year to be high single-digits with a more pronounced impact in the second half of fiscal 2022.
As you saw on the previous page, the progress we made in the first quarter to mitigate these inflationary pressures reduced the impact to 130 basis points on our adjusted gross margin.
Moving to the next Slide.
We have achieved $15 million in incremental year-over-year savings and remain on track to deliver our cumulative savings target of $850 million by the end of fiscal year.
We are working toward expanding our plan to $1 billion and we'll share more details next week at our Investor Day.
Moving on to other operating items.
Marketing and selling expenses decreased $38 million or 18% in the quarter on a year-over-year basis.
This decrease was driven by lower advertising and consumer promotion expense or A&C and lower selling expenses.
Although, A&C declined 31% as investment was moderated to reflect supply pressure, we expect it to normalize as supply strengthened throughout the year.
Overall, our marketing and selling expenses represented 7.6% of net sales during the quarter and 130 basis point decrease, compared to last year.
Adjusted administrative expenses increased $17 million or 12% largely, due to expenses related to the settlement of certain legal claims as higher general administrative costs were largely offset by the benefits of cost savings initiatives.
Adjusted administrative expenses represented 6.9% of net sales [Technical Issues] to summarize the key drivers of performance this quarter.
As previously mentioned adjusted EBIT decline 15% as the net sales declined and the 200 basis points gross margin contraction, resulted in a $36 million and $44 million EBIT headwinds respectively, partially offsetting this was lower marketing and selling expenses, contributing 130 basis points to our adjusted EBIT margin.
This was a short-term action targeted in areas by supply constraints were most significant and we expect to fully return to targeted investment levels as soon as labor is in place and supply recovers.
Higher adjusted administrative and R&D expenses had a negative impact of 110 basis points and lower adjusted other income had a 30 basis point impact.
Overall, our adjusted EBIT margin decreased year-over-year by 210 basis points to 17.4%.
The following chart breaks down our adjusted earnings per share change between our operating performance and below the line items, a $0.17 impact of lower adjusted EBIT was partially offset by a $0.02 favorable impact from lower interest expense and a $0.04 impact of lower adjusted taxes, due to the favorable resolution of several tax matters in the quarter.
This resulted in better-than-expected adjusted earnings per share of $0.89, which was down $0.25 per share, compared to the prior year.
Turning to the segments, in Meals & Beverages organic net sales decreased 6%, as favorable price and sales allowances in the quarter were more than offset by volume declines across US retail products, including V8 beverages, Prego pasta sauces and US Soup, as well as in Canada.
Volume decreased primarily as a result of cycling the retailer inventory recovery in the prior year quarter and due to supply constraints, increased promotional spending relative to moderated levels in the prior year, partially offset the impact of recent price increases.
Sales of US Soup decreased 2%, cycling 21% increase in the prior year quarter.
Operating earnings for Meals & Beverages decreased 17% to $280 million, the decrease was primarily due to a lower gross margin and sales volume declines, partially offset by lower marketing selling expenses.
The lower gross margin resulted from higher cost inflation, higher levels of promotional spending, higher other supply chain costs and unfavorable product mix, partially offset by the benefits of recent pricing actions and supply chain productivity improvements.
Overall, within our Meals & Beverage division, the first quarter operating margin decreased year-over-year by 260 basis points to 22.1%.
Within Snacks, organic net sales decreased 1% to $1 billion, as favorable price and sales allowances were more than offset by volume declines and increased promotional spending, compared to moderated levels in the prior year quarter.
Declines in partner brands Pop Secret popcorn, driven by elevated prior year demand and Late July snacks due to supply pressures were partially offset by gains in Goldfish crackers and Pepperidge Farm cookies.
Sales of power brands increased 30%.
Operating earnings for Snacks decreased 5% for the quarter, driven by increased administrative expenses, due to the settlement of certain legal claims and a slightly lower gross margin, partially offset by lower marketing and selling expenses.
The slight decline in gross margin resulted from higher cost inflation, unfavorable product mix and higher level of promotional spending, largely offset by the benefits of recent pricing actions.
Supply chain productivity improvements and cost savings initiatives and lower other supply chain costs.
Overall within our Snacks division first quarter operating margin decreased year-over-year by 60 basis points to 13.2%.
I now turn to cash flow and liquidity.
Fiscal 2022 cash flow from operations increased from $180 million in the prior year to $288 million, primarily due to lower working capital related to outflows mostly from accounts payable and accrued liabilities, partially offset by lower cash earnings.
Our year-to-date cash outflows for investing activities were reflective of the cash outlay for capital expenditures of $69 million, which was comparable to prior year.
In light of the current operating environment, we are reducing our planned full-year capital expenditures from $330 million to approximately $300 million for fiscal 2022.
Our year-to-date cash outflows for financing activities were $220 million, the vast majority of which are $179 million, represented the return of capital to our shareholders, including a $160 million of dividends paid and $63 million of share repurchases during the quarter.
At the end of the first quarter we had approximately $475 million remaining under the current $500 million strategic share repurchase program.
We also have $250 million anti-dilutive share repurchase program, of which approximately $176 million is remain.
We ended the first quarter with cash and cash equivalents of $69 million.
Turning to Slide 28, as covered earlier, adjusted net earnings now excludes unrealized mark-to-market gains and losses on outstanding underestimated commodity hedges and the guidance for adjusted EBIT and adjusted earnings per share growth rates reflect this change.
We continue to expect full-year fiscal 2022 net sales, adjusted EBIT and adjusted earnings per share performance to be consistent with the guidance we provided during our fiscal year-end earnings call.
Overall, we expect accelerating inflationary pressures and higher labor-related costs to be partially mitigated with sustained in-market momentum, while at prior year results in the second quarter, we expect topline performance to improve sequentially year-over-year, as supply begins to recover.
However, with respect to margin, we expect continued pressure driven by additional core inflation across commodities and higher labor-related costs without the benefit of our second wave of pricing, which will not be in place until the end of the second quarter.
As we move into the second half of the year, we expect our inflation mitigation actions collectively along with the continuous recovery of labor to result in margin progress and earnings recovery through the year.
For the full-year, we expect organic net sales to be minus 1% to plus 1%.
Adjusted EBIT of minus 4.5% to minus 1.5% and adjusted earnings per share of minus 4% to flat versus the adjusted fiscal 2021 results.
The sale of Plum is estimated to have an impact of 1 percentage point of fiscal 2022 net sales.
I'm truly grateful for their continued dedication and commitment and look forward to sharing our strategy to unlock our full growth potential at our Investor Day next week. | q1 adjusted earnings per share $0.89 from continuing operations excluding items.
q1 adjusted earnings per share $0.89.
reaffirms full-year guidance which has been adjusted.
qtrly net sales as reported (gaap) $2,236 million, down 4%.
qtrly organic net sales decreased 4% cycling retailer inventory recovery in prior year.
second quarter top-line performance is expected to sequentially improve year-over-year.
also in the second quarter, with respect to margin, the company expects continued pressure.
remains on track to deliver annualized savings of $850 million by end of fiscal 2022. |
A transcript of this earnings conference call will be available within 24 hours at investor.
These statements rely on assumptions and estimates which could be inaccurate and are subject to risk.
On Slide 4, you will see our agenda.
With us on the call today are Mark Clouse, Campbell's President and CEO and our Chief Financial Officer, Mick Beekhuizen.
Mark will share his overall thoughts on our second quarter performance and end market performance by division.
Mick will discuss the financial results of the quarter in more detail and review our guidance for the full year fiscal 2021.
Mark will come back to share his perspective on our outlook beyond the pandemic, and we will close the call with an analyst Q&A.
We have now passed the one-year mark of working within this challenging COVID-19 environment and I'm very proud of their continued performance and dedication.
Campbell delivered strong second quarter results with growth in all three key financial metrics.
Organic net sales increased 5% with continued demand across both divisions, fueled by accelerating in-market results including positive share progress across most of the portfolio and a strong holiday period.
Net sales were tempered by continued Foodservice weakness following a resurgence of COVID-19 cases in December, which led to greater away from home restrictions as well as some supply constraints given these cases lead to increased absenteeism rate in our plants during the month.
The Foodservice weakness and supply constraints each created about a point of headwind in the quarter versus our expectations.
The labor situation has since improved significantly and we continue to make steady progress on supply going into the second half of the year.
We reacted quickly to these headwinds, appropriately shifting spending to reflect this pressure, but where supply was available, we executed our planned increased investment in advertising and consumer promotion on our core brands.
Taking everything into account, we had 8% adjusted EBIT growth and 17% adjusted earnings per share growth, leading to a very good quarter.
By segment, Meals & Beverages posted 6% net sales growth, punctuated by a very successful soup season and the continued strong performance of brands like V8 and Prego.
This was partially mitigated by declines in Foodservice.
The Snacks business delivered another solid quarter with sales growth of 4%, largely driven by our power brands in salty snacks including Kettle Brand potato chips, Late July snacks and Cape Cod potato chips as well as Pepperidge Farm Farmhouse bakery products.
Most notably, we achieved the primary objective we outlined in our Q1 earnings call, to return to share growth.
Nearly 75% of our portfolio held or increased share in the second quarter versus the prior year.
This included meaningful share improvement in key focus areas like ready-to-serve soup, Prego and Snyder's of Hanover pretzels, with continued momentum on condensed soup, V8, our salty snacks portfolio and Goldfish.
There were a few exceptions, such as Swanson broth where we knew we'd be challenged on supply.
We feel very good about how we are addressing the challenges on broth by expanding overall capacity and growing Pacific Foods, which was the fastest growing broth brand in measured channels in the second quarter.
E-commerce continued to be an important growth channel for us with in-market dollar consumption increasing 89% over the prior year.
With the click-and-collect fulfillment model representing slightly more than a third of our e-commerce retail sales, we are sharply focused on partnering with our customers to deliver value to our consumers, including bundling products for easy meal prep and inspiring creative snacking options.
Turning to Slide 7, within the Meals & Beverages division, we had another strong quarter with consumption growth of 9%, principally due to volume gains.
We delivered on our objective of share growth and saw positive in-market consumption growth in almost all categories led by condensed soups, Prego, V8 beverages, ready-to-serve soup and Pacific Foods soups and broth.
We continue to execute our plans and feel great about our progress against our Win in Soup strategy, led by a great start to soup season and a strong holiday period.
In fact, U.S. soup sales grew 10% with strength across all categories.
This was fueled by more than a third of the in-market consumption growth coming from new buyers.
The number of retained soup buyers in this quarter is the highest since the pandemic started almost a year ago.
Our condensed soups were, once again, the highlight of the quarter with double-digit net sales growth and continued share gains, especially among millennials.
With a 0.7 share increase, condensed had its 8th consecutive quarter of share gains, an amazing run that started well before the pandemic.
This performance was driven by our quality improvements, strong advertising, and the retention of new households.
Additionally, during the important holiday season, the number of buyers of condensed cooking soups grew double-digits and we continue to grow household penetration this quarter versus prior year.
Year-to-date, our condensed soups have the highest household retention rate within the entire Meals & Beverage division.
Within ready-to-serve, share improved this quarter driven by strong base velocity growth in Chunky and improved availability.
Chunky had an exceptional quarter with double-digit net sales gains and in-market consumption growth, outpacing competition and increasing share nearly 2 points with growth among all cohorts, including millennials.
Pacific Foods is now the fastest growing wet soup brands on a dollar share basis, outperforming against competitors on many fronts by delivering on-trend innovation and impactful advertising.
This important growth engine continues to perform above our expectations.
In the second quarter, Pacific Soup and Broth outperformed the category posting dollar consumption growth of 25%, the 5th consecutive quarter of share gains driven by brand strength and a meaningful increase in household penetration.
We are thrilled with the performance of Pacific Foods and are equally excited about our robust innovation pipeline that includes new canned offerings as well as additional plant-based products.
As I mentioned earlier, Swanson broth struggled on share, as we expected.
We continued to recover on supply throughout the quarter and we are making steady progress through a combination of expanding internal capacity and bringing on additional co-manufacturing.
In the most recent period, we are seeing both share and supply levels improve, a trend we expect to continue through the balance of the year.
Beyond soup, a stand out in the Meals & Beverages portfolio was Prego which maintained its Number 1 share position in the Italian sauce category for the 21st consecutive months and has widened the gap against competitors.
Prego sales growth came primarily from the gain of an additional 4 million new households across all demographic cohorts.
Our V8 beverages also performed very well this quarter, delivering its fourth straight quarter of both share and household gains.
Notably in Q2, these gains were across all sub-brands of the business and we saw new households coming into the V8 portfolio, driven by both V8 Original and V8 +Energy.
Overall Meals & Beverages delivered a strong quarter as it continued to drive relevance with its brands to a younger consumer base and delivered share gains in many of its key categories.
Let's turn to the Snacks segment, which represents about half of our total annual revenue.
Our performance was, again, fueled by our power brands, which grew dollar consumption by 8% over the previous year.
Within the power brands, our salty snacks brands grew dollar consumption by double-digits and realized share growth.
This was in part due to the implementation of our capacity expansion projects as well as increased A&C investments to support our media campaigns and innovation, including Snyder's of Hanover Pretzel Rounds and Twisted Sticks.
On the Snyder's of Hanover brand, the combination of successful innovation, fundamental execution and brand activation led to share growth, double-digit dollar consumption and nearly 5 million new households, turning around what had been a challenging share period.
Our Pepperidge Farm Farmhouse products also delivered exceptional results across bakery and cookies, growing dollar consumption by 41% and household penetration by 1.5 points.
On Goldfish, we improved our performance according to the plan we outlined last quarter, returning to growth in net sales and improved dollar consumption.
We adapted marketing content during the holidays with digital partnerships focused on new ways for the consumer to enjoy Goldfish such as movie night snack mixes or classic lunch combinations with Campbell's tomato soup, all leading to positive engagement metrics and increased purchase intent.
Additionally, we are launching new flavors within Flavor Blasted Goldfish which continued to grow consumption by double-digit.
As you'll see on Slide 9, the is only the beginning of what is arguably our strongest slate of innovation yet, which includes Twisted pretzel sticks and better for you options like Late July veggie tortilla chips.
We are very excited about the breadth of our Snacks pipeline in the second half of the fiscal year, which will complement what we have on deck later this year for Meals & Beverages.
Overall, we feel very good about our Snacks performance and the steady growth it delivered as we provide consumers with elevated snacking experiences through our unique and differentiated portfolio of power brands.
We also made significant steps on value capture, including the recent transition to SAP to streamline and improve capabilities.
Looking ahead, we believe we have additional runway to improve Snacks' profitability with further network optimization opportunities and we remain confident in our long-term strategy and our ability to deliver additional cost savings.
With the strong results in the second quarter and our overall first half performance, we are confident in the outlook for the full year.
Turning to Slide 11.
As Mark just shared, we, once again, delivered strong results with another quarter of sales growth, driven by continued elevated consumer demand as well as growth in adjusted EBIT and adjusted EPS.
Our top line growth of 5% reflected healthy in-market consumption of approximately 8% in the quarter, tempered by declines in Foodservice and some COVID-19 related supply challenges that Mark discussed.
Adjusted EBIT increased 8% as higher sales volumes were only partially offset by higher adjusted administrative expenses.
Adjusted earnings per share from continuing operations increased by 17% to $0.84 per share, reflecting an increase in adjusted EBIT as well as lower adjusted net interest expense.
Year-to-date, our organic net sales which excludes the impact from the sale of the European chips business increased 7% driven by strong end market consumption growth in both Meals & Beverages and Snacks.
Adjusted EBIT increased 13%, reflecting higher sales volume, improved adjusted gross margin performance, and higher adjusted other income, offset partially by increased adjusted administrative expenses.
Year-to-date, our adjusted EBIT margin increased year-over-year by 110 basis points to 18.5%.
Adjusted earnings per share from continuing operations increased 23% to $1.86 per share, reflecting the increase in adjusted EBIT and lower adjusted net interest expense.
I'll review in the next couple of slides our second quarter results in more detail and provide guidance for the full fiscal year 2021.
Breaking down our net sales performance for the quarter, reported and organic net sales increased 5% from the prior year.
This performance was largely driven by a 4 point gain in volume across the majority of our retail brands, partially offset by declines in foodservice and in partner brands within the Snyder's-Lance portfolio.
Additionally, we took a strategic approach to dining back promotional spending in both segments where we faced supply constraints.
And those actions, net of price and sales allowances, contributed 1 point to net sales growth.
Our adjusted gross margin decreased by 10 basis points in the quarter to 34.3%.
While product mix was slightly negative in the quarter we're estimating a 50 basis point gross margin improvement from better operating leverage within our supply chain network as we increased our overall production.
Net pricing drove a 90 basis point improvement due to lower levels of promotional spending in the quarter.
Inflation and other factors had a negative impact of 330 basis points, a little over half of the increase was driven by cost inflation as overall input prices, on a rate basis, increased approximately 3% which we expect to continue to be a headwind for the rest of the fiscal year.
The remainder was driven by increases in other operational costs and continued COVID-19 related costs.
Inflation in the quarter was partially offset by our ongoing supply chain productivity program which contributed a 140 basis point improvement and included initiatives, among others, within procurement and logistics optimization.
Our cost savings program, which is incremental to our ongoing supply chain productivity program, added 50 basis points to our gross margin.
Moving on to other operating items; adjusted marketing and selling expenses decreased $3 million or 1% in the quarter.
This decrease was driven primarily by the benefits of cost savings initiatives and lower marketing overhead cost, largely offset by an 8% increased investment in A&C.
These investments primarily reflect higher levels of media spend to support our salty snacks brands, including new product launches as well as our soup business as we continue to drive usage through new recipes, inspire meal solutions, and support our innovation.
Adjusted administrative expenses increased $17 million or 13%, driven primarily by higher benefits related costs and higher general administrative costs, partially offset by the benefits from our cost savings initiatives.
Overall, our adjusted marketing and selling expenses represented 10.2% of net sales during the quarter, a 70 basis point decrease compared to last year.
Adjusted administrative expenses represented 6.7% of net sales during the quarter, a 50 basis point increase compared to last year.
Moving to the next slide, we have continued to successfully deliver against our multi-year enterprise cost savings initiatives.
This quarter, we achieved just over $20 million in incremental year-over-year savings.
We expect an additional $40 million to $50 million evenly spread over the balance of fiscal 2021, on track to deliver $75 million to $85 million of cost savings for the fiscal year with the majority of the savings from the Snyder's-Lance integration.
We remain on track to deliver our cumulative savings target of $850 million by the end of fiscal 2022.
To help tie this all together, we are providing an adjusted EBIT bridge on Slide 16 to highlight the key drivers of performance this quarter.
As discussed, adjusted EBIT grew by 8%.
This was driven by the increase in demand for our products with sales gains contributing $40 million of EBIT growth, which was partially offset by the previously described adjusted gross margin decline.
In addition, the increase in adjusted administrative expenses was only partially offset by lower adjusted marketing and selling expenses, lower adjusted R&D expenses and higher adjusted other income.
Our adjusted EBIT margin increased year-over-year by 40 basis points to 17.2%.
The following chart breaks down our adjusted earnings per share growth between our operating performance and below the line items.
Adjusted earnings per share increased $0.12 from $0.72 in the prior year quarter to $0.84 per share.
Adjusted EBIT had a positive $0.07 impact on adjusted EPS.
Adjusted net interest expense declined year-over-year by $17 million delivering a $0.04 positive impact to adjusted EPS, as we have used proceeds from completed divestitures in fiscal 2020 and our strong cash flow to reduce debt.
The impact from the adjusted tax rate was nominal, completing the bridge to $0.84 per share.
In Meals & Beverages, net sales increased 6% to $1.3 billion, primarily reflecting strong volume growth, driven by in-market consumption for many of our U.S. retail products, including gains in U.S. Soups, V8 beverages, Prego pasta sauces, and Campbell's pasta; partially offset by declines in Foodservice driven by COVID-19 related restrictions.
Net sales of U.S. Soup, including Pacific Foods, increased 10% compared to the prior year, primarily due to volume gains in condensed soups and ready-to-serve soups.
Across the division, we moderated promotional activity in part due to supply constraints, particularly on broth.
Operating earnings for Meals & Beverages increased 7% to $258 million.
The increase was primarily driven by sales volume growth, offset partially by a lower gross margin and higher administrative expenses.
Within Snacks, net sales increased 4% driven by volume gains fueled by the majority of our power brands and lower levels of promotional spending on supply constrained brands.
The sales gains were driven by our salty snacks brands within the power brand portfolio namely Kettle Brand potato chips, Late July snacks, Cape Cod potato chips and Pop Secret popcorn as well as our fresh bakery products including Pepperidge Farm Farmhouse products.
Partially offsetting sales gains were declines in partner brands within the Snyder's-Lance portfolio as well as declines in Lance sandwich crackers, resulting from supply constraints in the quarter.
Operating earnings for Snacks increased 6% driven by sales volume gains and lower selling expenses, partially offset by higher marketing investment, administrative expenses and a lower gross margin.
I'll now turn to our cash flow and liquidity.
Fiscal year-to-date cash flow from operations decreased from $663 million in the prior year to $611 million, as changes in working capital were only partially offset by higher cash earnings.
Although we continued to make progress on working capital, we are lapping significant benefits in accounts payable in the prior year.
Our year-to-date cash from investing activities was largely reflective of the cash outlay for capital expenditures of $132 million, which was $35 million lower than the prior year, primarily driven by discontinued operations.
Our year-to-date cash outflows for financing activities were $405 million, reflecting cash outlays due to dividends paid of $215 million, which were comparable to the prior year, reflecting a quarterly dividend of $0.35 per share.
In December, we announced an increase in the quarterly dividend to $0.37 per share or an increase of 6%, which from a cash flow perspective, will be reflected in the third quarter.
Additionally, we reduced our debt by $176 million.
We ended the quarter with cash and cash equivalents of $946 million.
We expect to utilize the majority of this cash during the second half of the fiscal year for repayment of upcoming debt maturities of $721 million and $200 million in March and May respectively.
We expect net sales for fiscal 2021 to declined 3.5% to 2.5%.
Excluding the impact from the 53rd week in fiscal 2020 and impact of the European Chips divestiture, we expect organic net sales to decline 1.5% to 0.5%.
We expect adjusted EBIT of minus 1% to plus 1% as we will lap that initial COVID-19 demand surge in the second half of our fiscal year, combined with headwinds from increased promotional activity, partially offset by lower year-over-year COVID-19 related expenses and last year's one-time marketing investments.
We continue to expect net interest expense of $215 million to $220 million and an adjusted effective tax rate of approximately 24%.
As a result, we expect adjusted earnings per share of $3.03 to $3.11 per share, representing year-over-year growth of 3% to 5%.
The earnings per share impact of the 53rd week in fiscal 2020 was estimated to be $0.04 per share.
With respect to our guidance, let me add that we expect the third quarter to be somewhat more challenged from a net sales and EBIT perspective than Q4, as the before mentioned COVID-19 related demand surge was more pronounced in the third quarter of fiscal 2020 while the benefit from COVID-19 related costs and one-time marketing investments will disproportionately benefit our fourth quarter comparison.
Additionally, we expect our third quarter to be impacted by some isolated supply challenges as we navigate the recent winter storms.
In particular, we experienced about two weeks of disruption at our Paris, Texas plant, which produces Pace and Prego.
We expect improving momentum as we go forward.
Regarding capital expenditures; in light of the current operating environment with limited access to our factories, we now expect to spend 10% below the $350 million we had previously indicated for the full year, largely driven by the impacts from COVID-19 on the operating environment.
We delivered another strong quarter with a return to positive share growth in the majority of our portfolio and growth in all three key financial metrics, despite all the challenges of COVID-19.
Before we conclude, I want to share my perspective on the key factors underpinning our confidence in our outlook beyond the pandemic.
By now, I know you've heard a great deal about the stickiness of all new households gain throughout the pandemic from essentially all of our peers with a wide range of data and facts supporting that thesis.
We very much agree and we see similar trends in our own research and data.
I'd like to conclude today with three critical and differentiating points, key factors that served to underscore Campbell's advantage position going forward and will fuel our future growth trajectory.
Importantly, two of them have very little to do with COVID-19 or the stickiness of new households.
The first is our Snacks business which, as I mentioned earlier, consists of a unique and differentiated portfolio of brands that represent approximately 50% of the Company's annual revenues.
This business was growing before and a pandemic and we expect to sustain or exceed those historical growth rates going forward.
Snacks also includes a margin structure, which we believe still has significant opportunity for improvement versus the snacking peer group average, even after we deliver our current value capture.
We are finalizing our plans to unlock more value and we look forward to sharing more details with you as we move forward.
Second, no matter where you stand on the retention of new households gained during the pandemic, it is undisputable that Campbell's business, particularly our Meals & Beverages division and especially Soup is coming out of this period more advantaged and with renewed relevance.
Nearly 13 million new households purchased Campbell Soup since the initial peak of the pandemic, of which almost a third are millennials, outpacing both key competitors and the category average.
We have also seen macro behaviors like quick-scratch cooking take root and our research indicates more than 30% of the consumers are cooking more with Soup since the start of the pandemic.
Additionally, we believe increased at home lunches will endure as many people are expected to work from home more often post pandemic.
Beyond the role that our Meals & Beverages offerings play in the lunch occasion, snack-foods accompany nearly 30% of all lunches, which bodes well for our entire portfolio.
We've conducted extensive consumer research in an effort to determine sentiment, model consumer behavior exiting the pandemic, and sharpen our plans to ensure the sustainability of our recent gains.
The consumers who we've surveyed had an overall high level of satisfaction with Campbell's products in our Meals & Beverages and Snacks portfolio.
In fact, about four out of five new users surveyed said they were very or extremely satisfied with our brands.
As a result of this high satisfaction, those surveyed told us they'll continue to count on our brands going forward, turning to us for things like cooking solutions and quick lunches and meals.
This gives us every reason to believe consumers will continue to purchase our brands well after the pandemic.
Even more importantly, 70% of the consumers surveyed told us our brands better met their needs than competitive products.
These same consumers also told us that taste and convenience of our brands were the top drivers of overall satisfaction.
We feel this sets us up well for continued share progress going forward.
The research also has provided us with actionable insights in our opportunities to strengthen the retention of our consumers.
These include areas such as adding more convenient packaging options and sizes across our portfolio, developing new and inspiring recipes and satisfying consumer's need for permissible and more intense Snacks by providing a variety of flavors and healthier ingredients.
This specificity will focus our plans and innovation to target the areas with the highest probabilities of retaining these new consumers, particularly younger consumers for our brands.
For the third and final differentiating point that underscores our strong position going forward, we look to the strength of our balance sheet.
Given the cash generative nature of our business and our reduce leverage, which is now below 3 times, we are well positioned to generate significant cash flow, well above our ongoing commitment to base capital investments and dividends in the next three years.
This can and will be a source of opportunity that can be invested in high ROI initiatives or other actions to drive value creation.
So to wrap it up.
Our mission is clear.
Number one, sustain or accelerate our historical Snacks growth while improving margins; number 2, solidify our Meals & Beverages business as a steady and stable contributor behind recent transformational consumer trends and trial; and number 3, deploy what will be significant capital to fuel this growth and create differentiated value.
We look forward to sharing more in the months ahead about this next chapter as Campbell moves from turnaround to sustainable growth. | compname reports q2 adjusted earnings per share $0.84.
q2 adjusted earnings per share $0.84 from continuing operations excluding items.
q2 adjusted earnings per share $1.86 excluding items.
fiscal 2021 adjusted earnings per share guidance of $3.03 to $3.11.
qtrly net sales, both reported and organic, increased 5% to $2.28 billion.
sees fy2021 net sales from continuing operations down 3.5% to down 2.5%.
sees fy2021 organic net sales from continuing operations down 1.5% to down 0.5%.
campbell soup - qtrly growth driven by 4% increase in volume & mix as at-home food consumption remained elevated due to covid-19.
remains on track to deliver annualized savings of $850 million by end of fiscal 2022. |
Actual results could differ materially due to the factors noted on these slides and in our periodic SEC filings.
We'll also refer to some non-GAAP financial measures today, which we believe help to facilitate comparisons across periods and with our peers.
For any non-GAAP measures we reference, we provide a reconciliation to the nearest corresponding GAAP measure.
Let me start out by saying that the third quarter was a clear demonstration of us walking the talk.
Top-line production exceeded recently increased guidance with productivity gains from both new and existing wells in the Permian Basin.
This outperformance dropped directly to strong bottom-line free cash flow as operating expenses and capital continue to benefit from our focus on best practices and realized efficiencies.
Capital spending for the quarter came in at $115 million, below the bottom end of guidance, which was also lowered with the recent guidance update.
Our operations team made strides on numerous project fronts, lowering our overall LOE run rate while also reducing our environmental footprint.
Our near-term focus is simple: employ a scaled co-development model across a diversified portfolio of core investment opportunities to drive rapid deleveraging from leading cash margins.
This focus is best exemplified by an expected reduction in our net debt-to-EBITDA to under two and a half times by year-end.
This progress reflects a leverage improvement of two turns since the first quarter, which is among the best rates of change in the industry.
Importantly, through thoughtful co-development of our resource base, we maintain a life-of-field development view that preserves longer-term inventory quality and depth, supporting capital efficiency and free cash flow sustainability over time.
We recently completed a strategic consolidation transaction in the Delaware Basin, increasing our footprint to 110,000 net acres in the basin.
The acquisition of the Primexx assets, which we announced along with our second quarter earnings, closed at the beginning of October, and we are well on our way with the integration process.
We have been very pleased with recent results from the properties as activity resumed at the beginning of the year, targeting two primary zones with new generation completion designs and refined landing zones.
Early time productivity has been evident with average peak oil rates of over 1,200 barrels of oil per day across 19 wells in the Wolfcamp A and B, and longer-term performance has also been attractive with 180-day average cumulative oil production of approximately 120,000 barrels of oil, which represents over 72% of the hydrocarbon mix on a two-stream basis.
While we won't have the chance to incorporate Callon's completion designs into new wells until later this year, we've been able to use our more conservative flowback strategy on a recent three-well project in the area.
The combined well package is responding favorably to the modification with all three wells performing ahead of the project type curve through the first 20 days online.
In addition, we are currently transitioning development on the acquired assets to the Callon philosophy of scaled co-development.
This transition is currently focused on building an inventory of drilled wells to support larger average project sizes with our initial three projects in 2022 slated to average six wells a piece.
As we look a little deeper into 2022, the large majority of our development program will focus on both the Delaware and Midland Basins, with the Eagle Ford returning to more of a supporting role.
We've talked at length about the optionality that our diversified portfolio offers in terms of cash conversion cycles and returns on capital.
But we were unable to fully optimize investment in the Delaware Basin over the last two years as we focused on shorter cash conversion cycle projects.
The scale and scope of our Permian position and associated core inventory of over 1,100 locations in the Delaware alone enable us to establish a durable program that builds on substantial project-level returns on capital to support a robust free cash flow profile through mid-cycle commodity pricing.
Despite the significant uplift we have seen in the forward curve for oil, we intend to maintain our capital reinvestment framework based on more conservative planning prices that reflect a longer-term outlook and focus on continued simplification of the capital structure and deleveraging on both the net debt-to-EBITDA and absolute-debt basis.
Since the second quarter of 2020, we have laid out plans and consistently executed on strategic financial initiatives that have dramatically changed our outlook and allowed us to get back on our front foot.
As part of that execution, multiple noncore monetizations have produced cash proceeds of roughly $210 million in 2021.
We expect that these last few transactions announced since early October, including a smaller monetization of select water disposal assets, to close by year-end, which will put us near the top end of our guidance range of $125 million to $225 million of proceeds for the year.
These proceeds, combined with our 2021 free cash flow generation expectations have established a tangible path to bring leverage under two times by mid-2022 and subsequently drive to our next round of targets of debt-to-EBITDA below one and a half times and absolute leverage of under $2 billion.
Given this trajectory, in addition to our focus on sustainability and the importance of controlling critical operations in our core areas, we believe that retaining our larger portfolio of water gathering, recycling and disposal assets provides the greatest value proposition for our shareholders.
As such, we are not pursuing additional monetizations related to water assets at this time. | on november 1, 2021, callon completed fall redetermination for its senior secured credit facility. |
As always, we appreciate your interest in Central Pacific Financial Corp.
I'd like to start with an update on the COVID-19 pandemic response by the State of Hawaii and our company.
The infection rate in the State of Hawaii continues to remain very low with roughly 1,800 cases as of July 28.
Hawaii continues to have the lowest per capita infection rate in the nation.
Our residents are abiding by government orders including required quarantine, face mask usage and social distancing.
The state's local economy reopened in June and we will be reopening out of state tourism on September 1 through visitors that provide evidence of a negative COVID-19 test.
We believe this is a balanced way to reopen out of state tourism while managing COVID infections.
While the tourism reopening will be at a gradual process it will help to start bringing back the much-needed business to our local economy.
Travel bubbles between Hawaii and other countries of low infection rates continue to be discussed by our government leaders.
At Central Pacific we continue to prudently manage through the pandemic.
In the credit area we have thoroughly reviewed our loan portfolio.
Adjusted risk ratings were warranted and determined that our credit risk is manageable.
Our portfolio is conservative, well diversified and well collateralized.
We continue to proactively work with our customers to help them through the pandemic as demonstrated by our significant Paycheck Protection Program or PPP loan originations and loan payment deferral programs.
Overall, we remain committed to supporting the needs of our customers and community during this time while providing the excellent service that we are known for and maintaining a safe environment.
Our RISE2020 initiative are continuing and making good progress despite the COVID-19 pandemic.
The revitalization of our building headquarters is in full steam with major parts of the construction under way and on track for an opening date in January 2021.
In the area of digital, we are in the final stages of pilot testing our new online and mobile banking platforms and are excited for the public launch in late August.
Finally, we continue to rollout our newly upgraded ATMs throughout our branch network.
We continue to see a decline in branch transaction activity and our digital initiatives have been well timed to meet the changing needs of our customers.
Our pandemic preparedness plan continues to be in place and we have not had any disruption in our business.
We have recently reopened several of our branches that were temporarily closed and are implementing a gradual phase-in return-to-office plan that includes a portion of the workforce continuing with flexible remote work schedules.
Safety remains our utmost priority.
Therefore we have made appropriate changes to our branch and office setup to ensure proper social distancing and hygiene practices.
The actions that we've taken, we believe will continue to enable us to provide a safe environment for both our employees and customers.
The CBD Foundation continues to be active in helping the community with relevant and timely programs.
During the second quarter we ran a Mahalo Meals initiative that provided 1,500 meals to local first responders and frontline heroes.
Additionally, we recently launched a program called bricks to bites, which is helping local businesses through the crisis by providing free services to take their business online and more digital.
We also are continuing communication and engagement with visitors particularly from Japan to keep Hawaii top of mind and encourage their return to Hawaii once the pandemic end and recovery occurs.
Finally, we are continuing to work with government leaders to reopen the Hawaii economy safely with temperature screening and COVID contact tracing program.
The second quarter was highlighted by the company's successful PPP loan origination efforts as well as solid mortgage banking performance.
We originated over 7,200 PPP loans totaling over $550 million to both existing and new customers.
This was a tremendous effort that involved employees throughout the bank.
We were very pleased that our efforts not only supported our customers, but also the broader business community during these unprecedented times.
We are preparing to launch our PPP forgiveness portal and expect to begin the process of assisting our customers that are applying for forgiveness from the SBA in the near future.
Given the low business rate environment, residential mortgage demand was strong, which enabled the company to grow our residential mortgage portfolio by $25 million and generate $3.6 million of mortgage banking income during the second quarter.
Overall for the second quarter, the company grew total loans by $491 million or 10.9% sequential quarter.
This included $526 million in PPP loans and $25 million in residential mortgage as I mentioned earlier, partially offset by declines in other loan categories.
We're also able to grow core deposits by $719 million or 16.7% sequential quarter augmented by the PPP loan funds that were deposited with the bank.
Additionally, we believe part of the increase was a result of a fight to safety by our customers.
Given the volatility in the markets and the current operating environment we were successful in reducing the average cost of total deposits by 16 basis points to 20 basis points.
Our teams continue to be focused on expanding banking relationships with segments less impacted by COVID-19 and we continue to stay in close contact with our customers through increased find outreach efforts given the current operating environment.
Providing best-in-class digital technology remains a key priority for us.
We experienced increased customer usage of digital channels over the last several months due to COVID-19 pandemic with mobile deposit transactions up over 90% and mobile banking enrollments up nearly 15% on a year ago.
The increased digital channel activity creates strong momentum as we prepare to launch our new mobile and online platforms.
In addition, we rolled out new ATMs with enhanced functionality to half of our branches through June 30.
New ATMs at the remaining branches are scheduled to be installed before the end of the year.
During the second quarter we continued with our rigorous approach to reviewing our commercial loan portfolio and actively worked with our customers to determine ongoing financial impact, if any, as well as provided support and guidance through the ongoing uncertainty in the marketplace.
We proactively assisted many of our customers in providing loan payment deferrals, as well as in the application and approval of PPP.
The volume of loan payment deferrals printed peaked in May at $605 million in total loan balances and have since declined to $568 million or 12.7% of our total loan portfolio excluding PPP balances at June 30.
Our consumer loan payment deferrals totaled $66 million and residential loan payments forbearances totaled $177 million.
We continue to support our consumer and residential customers with a second 90-day loan payment deferral or forbearance as needed.
We expect that a majority of our consumer customers who took a first 90-day loan payment deferral has taken or planning to take a second 90-day deferral due to their continued unemployment status.
The majority of the residential mortgage forbearances were still in their initial 90-day forbearance period at June 30, but we are starting to see some borrowers resume payments and come off of forbearance with the total accounts dropping from a peak of 467 at May 31 down to 350 at June 30.
In our commercial and commercial real estate loan portfolio we provided loan payment deferrals of $318 million in total loan balances.
The highest amount was in the real estate and rental and leasing category of $167 million or 3.7% of the total loan portfolio, excluding PPP balances and comprised of 129 loans.
The majority of the loans in this category are investor commercial real estate loans supported by seasoned real estate investors and strong loan-to-value ratio.
We have not begun a second round of loan payment deferrals yet in the commercial and commercial real estate loan portfolio but expect to do so at a lower volume and on a case-by-case basis.
Additional details on our loan payment deferrals can be found on slides 13 and 14.
During the quarter special mention loans increased by $6.8 million sequential quarter to $116 million or 2.6% of the total loan portfolio excluding PPP balances.
The largest exposure is in the real estate and rental and leasing category, which totaled $59 million or 1.3% of the total loan portfolio excluding PPP balances.
The loans in this category were downgraded primarily due to the temporary closure of tenants in commercial properties.
However, we have strong sponsorship and seasoned investors with strong loan-to-value ratios and are confident these borrowers will be able to weather through the economic downturn.
Approximately 24% of special mentioned balances also received PPP loans.
Additional details on our special mention portfolio can be found on slide 15.
Classified loans increased approximately $21 million sequential quarter to $47 million or 1% of the total loan portfolio excluding PPP balances.
The increase during the quarter was due primarily to two loans that were experiencing challenges prior to COVID-19.
Approximately 10% of classified balances also received PPP loans.
We continue to feel very good about our residential home equity and commercial real estate loan portfolio.
The weighted average origination loan to values in these portfolios are 61%, 63% and 60% respectively.
These loans comprise of approximately $3.4 billion or 76% of our total loan portfolio excluding PPP balances.
Overall, we believe our disciplined approach to credit and our diversified loan portfolio will help us weather through these unprecedented times.
Net income for the second quarter of 2020 was $9.9 million or $0.35 per diluted share.
Return on average assets in the second quarter was 0.61% and return on average equity was 7.34%.
Our earnings continue to be impacted by higher provision for credit loss expense due to the current COVID-19 pandemic.
Our pre-tax pre-provision earnings for the second quarter was $23.5 million, which increased by $3 million or 15% sequential quarter.
Net interest income for the second quarter was $49.3 million, which increased by $1.4 million on a sequential quarter basis.
The increase includes $2.5 million in PPP net interest income and net loan fees.
The net interest margin decreased to 3.26% in the second quarter compared to 3.43% in the prior quarter.
The decrease was due to lower yielding PPP loans as well as the lower interest rate environment.
The second quarter NIM normalized for PPP was 3.31%.
Second quarter other operating income totaled $10.7 million compared to $8.9 million in the prior quarter.
The increase was primarily due to higher mortgage banking income of $3.2 million and higher BOLI income of $1.4 million.
This was partially offset by lower service charge and fee income.
Other operating expense for the second quarter was $36.4 million, which was relatively flat to the prior quarter.
In the current quarter PPP loan origination cost of $2.2 million was capitalized and deferred, which reduced salaries and benefits.
This was offset by higher commissions and bonuses, as well as higher deferred compensation expense due to stock market volatility.
Net charge-offs in the first quarter totaled -- in the second quarter totaled $2.9 million compared to net charge-offs of $1.2 million in the prior quarter.
The charge-offs primarily came from the Hawaii consumer loan portfolio and the C&I portfolio.
At June 30, our allowance for credit losses was $67.3 million or 1.35% of outstanding loans.
Excluding the PPP loan portfolio, which is guaranteed by the SBA, our allowance for credit losses was 1.50% of total loans.
The efficiency ratio improved to 60.8% in the second quarter compared to 63.9% in the previous quarter.
The decrease was primarily due to higher net interest income and other operating income.
The effective tax rate decreased to 23% in the second quarter due to higher tax exempt bank-owned life insurance income.
Going forward, we expect the effective tax rate to be in the 24% to 26% range.
Our liquidity and capital positions remained strong and we continue to perform robust stress testing.
Our Board declared a quarterly cash dividend of $0.23 per share, which will be payable on September 15 to shareholders of record at the close of business on August 31.
Finally, we decided to consolidate four branches on the Island of Oahu later this year into existing nearby branches.
This decision was driven by increased customer adoption of online and mobile banking and our RISE2020 commitment to best-in-class digital banking technology.
As a result of these consolidations we expect annual expense savings of approximately $1.8 million.
We also expect to incur one-time charges associated with the consolidations of approximately $0.3 million in the third quarter and $1.4 million in the fourth quarter.
In summary, Central Pacific continues to manage well through the COVID-19 pandemic.
We have a solid financial credit, liquidity, and capital position to enable us to weather the storm.
As the economic recovery gradually begins we remain committed to providing support to our employees, customers and the community.
At this time, we'll be happy to address any questions you may have. | central pacific financial corp q2 earnings per share $0.35.
q2 earnings per share $0.35.
net interest income for q2 of 2020 was $49.3 million, compared to $45.4 million in year-ago quarter. |
As always, we appreciate your interest in Central Pacific Financial Corp.
Let me start first with some positive updates on the Hawaii economic recovery.
Visitor arrivals from the U.S. Mainland to Hawaii have returned much quicker than anticipated, a good sign for economic recovery.
The daily arrival count have averaged about 30,000 per day since June, which is nearly at pre-pandemic level.
In early July, the state of Hawaii began allowing arriving passengers to skip pre-testing and quarantining with proof of full vaccination against COVID in the U.S. Although we are not immune to the spike caused by the Delta variant, Hawaii's COVID infection rates continue to be at very low level, with our infection rates currently at the lowest in the nation.
Nearly 60% of our state population is fully vaccinated as of July 21, 2021.
The state of Hawaii's unemployment rate declined to 7.7% in the month of June and is forecasted by the University of Hawaii Economic Research Organization to decline to 4.8% in 2022.
The housing market in Hawaii remains hot with the median single-family home price at $979,000 in the month of June.
Our financial results for the second quarter were very strong, with quarterly pre-tax income reaching a new record high.
With increased confidence in the Hawaii economic recovery and our continued solid asset quality, liquidity, and capital, we resumed share repurchases during the second quarter and continue to pay our quarterly cash dividend.
Against this backdrop, we are very optimistic about our future business profit.
Digital continues to be a key strategic priority for us.
Enhancements to our online and mobile banking platforms are being made on a continual basis.
Additionally, in the second quarter, we issued new contactless debit cards to all of our customers and increased mobile deposit adoption among our customer base.
Further, online chat is now available and online appointment schedule is coming soon to make banking easier and more convenient for our customers.
We continue to work diligently on our product and service development in the digital area.
First, I'd like to provide an update on the credit area.
We are pleased that our clients have weathered through the challenges of the pandemic.
Nearly all of the loans we granted, COVID-related payment deferrals have returned to pay status.
As of June 30, we have just $3.5 million in loans remaining on deferral, the majority of which are residential mortgages.
Additionally, our classified assets declined during the quarter to $42 million, and our nonperforming assets remain near historic lows at just nine basis points of assets.
I'd also like to share about a recent developments in the environmental, social, and governance or ESG area.
In the second quarter, we were pleased to publish our first annual 2020 ESG report.
We continue to develop our ESG reporting and look forward to providing further updates in the future.
CPB's legacy in helping the small business community is one of the pillars of our ESG program and remains a key priority for us.
Last week, we were pleased to announce the new program run by our CPB foundation call We, that is W-E By Rising Tide.
This program supports women entrepreneurs as we believe they are key to building a strong and resilient economy.
As part of this program, we selected our first cohort of 20 women entrepreneurs from seven different business sectors that will participate in a 10-week series of workshop on financial management, marketing, and leadership and receive free advertising and networking benefits.
Support of our employees is another color of our ESG program.
We believe that investing in our employees is critical to our success.
During the second quarter, we had our annual merit increases and we made a few key strategic new hires.
We also continue to prioritize the health and well-being of our employees and therefore, continue to allow flexible work schedule while developing our hybrid return-to-office plan.
Finally, we are pleased that the second and final phase of our Central Pacific Plaza revitalization was completed last month.
We expect smaller office projects to continue as we create collaborative, refreshed, and sustainable workplaces for our employees.
We also continue to refresh our branches and evaluate our branch network to meet the changing needs of our customers.
In the second quarter, our core loan portfolio decreased by $103 million or 2.3% sequential quarter, which was offset by PPP paydown of $163 million.
Year-over-year, our core loan portfolio increased by 3.7%.
The core loan growth was broad-based across all loan categories, except C&I, which as everyone knows, was because Customer segment most impacted by the pandemic and now in recovery.
Our residential mortgage production continues to be very strong, with total production in the second quarter of nearly $280 million and total net portfolio growth in residential mortgage and home equity of $48 million from the previous quarter.
We ramped up 2021 new PPP originations during the second quarter with over 4,600 loans totaling more than $321 million.
I am proud of our team for maintaining a leadership role in supporting our small business customers and the broader business community.
PPP forgiveness is also progressing well with 70% of the loans originated in 2020 already forgiven and paid down through June 30.
Assisting our customers with the forgiveness process has been a key priority for the bank as the local economy begins to recover and our business customers begin to pivot from surviving to thriving in.
During the second quarter, with confidence that the national economic recovery was gaining strength and the local economy was on its way to recovery, we resumed our consumer lending programs on the Mainland and in Hawaii.
During the quarter, we purchased an auto loan portfolio from one of our established partners and also restarted other consumer programs on an ongoing full basis for consumer direct and indirect loans on the Mainland and in Hawaii.
While it was a prudent process to span our consumer programs last year despite what we experienced in the economic downturn, both our Mainland and Hawaii consumer portfolios performed well, augmented by the support from federal stimulus programs.
With Hawaii's economic recovery expected to take traction, combined with our healthy loan pipeline, we anticipate strong loan growth for the second half of the year.
On the deposit front, we saw a strong inflow of deposits with total core deposits increasing by $279 million or about 5% sequential quarter growth.
On a year-over-year basis, total core deposits increased by $705 million or 13.8%.
Additionally, our average cost of total deposits outweigh the second quarter by just six basis points.
Finally, I want to mention that the Hawaii economy is recovering and consumer confidence is increasing.
We are seeing positive trends in transactional fee income recovery, including investment services fees.
Net income for the second quarter was $18.7 million or $0.66 per diluted share.
Return on average assets was 1.06% and return on average equity was 13.56%.
Net interest income for the second quarter was $52.1 million, which increased from the prior quarter, primarily due to greater recognition of PPP fee income due to higher forgiveness.
Net interest income included $7.9 million in PPP net interest income and net loan fees compared to $5.2 million in the prior quarter.
At June 30, unearned net PPP fees was $15.9 million.
Net interest margin decreased to 3.16% compared to 3.19% in the prior quarter.
The net interest margin normalized for PPP was 2.93% compared to 3.12% in the previous quarter.
The normalized NIM decrease was due to an acceleration of MBS premium amortization, excess balance sheet liquidity, and lower investment and loan yields.
Investment MBS premium amortization increased by $900,000 sequential quarter due to an acceleration of prepayments in the second quarter.
To mitigate the prepayment risk going forward, we executed a sovereign coupon MBS bond swap totaling $175 million.
We continue to deploy excess liquidity to the loan and investment portfolios to further support our net interest margin.
Second quarter other operating income remained relatively flat at $10.5 million.
During the quarter, there was a decrease in mortgage banking income, which was offset by higher service charges and fees and bank-owned life insurance income.
Other operating expense for the second quarter was $41.4 million compared to $37.8 million in the prior quarter, with much of the increase in the salaries and benefits line.
The current quarter increase in salaries and benefits was primarily due to $1.2 million in nonrecurring reductions in the prior quarter and $2.8 million in higher incentive compensation and commission accruals, strategic hires to drive forward performance, and annual merit increase.
The efficiency ratio increased to 66.2% in the second quarter due to higher other operating expenses.
We expect the efficiency ratio to moderate and improve over time as we drive positive operating leverage based on our strategic investments.
Net charge-offs in the second quarter totaled $0.8 million, with the majority of charge-offs coming from the consumer loan portfolio.
At June 30, our allowance for credit losses was $77.8 million or 1.68% of outstanding loans, excluding the PPP loans.
In the second quarter, we recorded a $3.4 million credit to the provision for credit losses due to improvements in the economic forecast and our known portfolio.
The effective tax rate was 23.9% in the second quarter and going forward, we expect the effective tax rate to be in the 24% to 26% range.
Our capital position remains strong and as Paul noted earlier, we resumed share repurchases this quarter with repurchases of 156,600 shares at a total cost of $4.3 million.
We've also repurchased an additional 78,000 shares of common stock month-to-date through July 20 at an average cost of $24.93.
Finally, our Board of Directors declared a quarterly cash dividend of $0.24 per share, which was consistent with the prior quarter.
In summary, Central Pacific has a solid financial credit, liquidity, and capital position, and we continue to make positive forward progress on our core business strategy.
Further, we remain committed to providing support to our employees, customers, and the community as we continue to progress through the economic recovery.
At this time, we'll be happy to address any questions you may have.
Back to you, Andrew. | compname reports increase in second quarter earnings to $18.7 million.
compname reports increase in second quarter earnings to $18.7 million.
q2 earnings per share $0.66.
net interest income for q2 of 2021 was $52.1 million. |
As always, we appreciate your interest in Central Pacific Financial Corp.
The state of Hawaii, as well as our company, continues to manage well through the COVID-19 pandemic.
While the state of Hawaii experienced an uptick in infections in the late summer, which led to a second government mandated shutdown, the infection rate has recently dropped with the latest seven-day average number of infection and positivity rate of 54 and 2.2%, respectively as of October 26.
After several delays to initial targeted days, the state of Hawaii reopened out-of-state tourism on October 15 for visitors that provide evidence of a negative COVID-19 test.
This is a key step in the process of Hawaii's economic recovery.
In the first week after reopening, we've been pleasantly surprised by the daily air arrival numbers, which have been in the 5,000 to 8,000 range per day compared to less than 2000 per day since March and 30,000 per day pre-pandemic.
Additionally, on October 22, Oahu made progress by moving the Tier 2 of its recovery plan as it met the requirement of having the seven-day average COVID cases at less than 100 and positivity rate of less than 5%.
Tier 2 allows Oahu to further reopen certain parts of the economy.
At Central Pacific, we continue to push forward with our key RISE2020 strategy, while at the same time prudently managing through the pandemic.
In August, we launched our new online and mobile banking platforms, which includes many industry-leading features and functionality.
The new digital platforms have been very well received by the market with an Apple mobile app rating of 4.8 out of 5.
Additionally, we continue to replace our entire ATM network and full function machines and implemented this quarter an ATM Hawaii Time cut-off for same-day ATM deposit processing, the latest cut-off time of all banks in the state.
The revitalization of our building headquarters is progressing well and is on track for an opening date in January 2021.
We continue to thoroughly review and regularly monitor our loan portfolio to appropriately manage the credit risk in the pandemic environment.
During the third quarter, our total balance of loans on payment deferral decreased by nearly 50% as a significant portion resumed payment.
At the end of the quarter, our loans on deferral was down to only 6% of total loans, excluding PPP loans.
Last week, we announced that we successfully completed a $55 million private placement subordinated note offering.
We believe this will also -- excuse me, we believe this will allow the bank to continue to support our customers and community, while also providing future capital flexibility.
Our pandemic preparedness plan continues to be in place and we have not had any disruption in our business and we have 28 branches open to fully serve our customers.
Four more branches remain temporarily closed due to the pandemic.
During the third quarter, we consolidated three in-supermarket branches into our larger neighboring branches as the end market branches were too small to allow for adequate social distance.
We are on track for consolidating the fourth previously disclosed branch in the fourth quarter.
Much of our back office teams continue to work flexible remote schedules and all employees are required to complete a daily online health questionnaire prior to starting each workday.
We believe the actions taken will continue to enable us to provide a safe environment for both our employees and customers.
The CPB Foundation continues to be active in helping the community with relevant and timely program.
Third quarter, our foundation was one of the two presenting sponsors of the Made in Hawaii festival, featuring more than 200 Hawaii small businesses and 10,000 products.
The festival, previously held at our local Honolulu arena, pivoted quickly to become an online marketplace this year, attracting over 100,000 unique visitors over the three-day launch weekend, contrast to the 60,000 attendees for the festival in person that recorded in earlier years.
The online festival enables struggling small businesses to sell their Hawaii-made products year round to a wide base of local, national and international shoppers, bringing in much needed revenue during the current challenging environment, and is a good step forward to economic diversification through exporting.
We are glad that our foundation was able to provide support toward this successful initiative.
In the third quarter, we were able to grow our loan portfolio by $27 million despite the tough operating environment.
Growth was broad-based, including residential mortgage, home equity, commercial mortgage and construction loans.
Growth in these loan categories was partially offset by declines in our consumer and C&I loan portfolio.
Driven by a record low interest rate environment, our residential lending team continue to outperform with record levels of production, resulting in $4.3 million in mortgage banking income for the quarter with more than double the income from the same quarter a year ago.
During Q3, our bankers continue to engage our business customers that we assisted through the Paycheck Protection Program.
Most importantly, we continue to advocate for the broader business community impacted by COVID-19.
We recently launched our PPP forgiveness portal and have begun the process of assisting our customers applying for forgiveness from the FDA.
As expected, as businesses spent their PPP funding, we saw a quarter-over-quarter decline in our core deposit balances of $109 million.
Despite that, our core deposit balances remain up over $650 million year-to-date.
Additionally, our cost of total deposits declined by 7 basis points to 13 basis points.
Providing best-in-class digital technology remains a key priority for us.
In Q3, we launched our new consumer mobile platform and are nearly complete with the rollout of our new ATM fee, as Paul mentioned earlier.
We are seeing strong adoption and utilization of both digital channels.
Our ATM deposit volume has substantially increased from a year earlier due primarily to the enhanced deposit functionality now available through our ATMs, and deposit volume has also increased for our new consumer mobile platform from a year earlier.
As we move into the fourth quarter, our bankers will continue to remain vigilant, given the tough operating environment but laser focused to support our customers by exploring and engaging new opportunities to expand our customer base during this unprecedented time.
At September 30, the loan portfolio totaled $5.03 billion with 54% consumer and 46% commercial.
During the quarter, we continued monitoring the loan portfolio and provided support to our customers as they navigated through the uncertainty in the marketplace.
We assisted our customers in providing a second loan payment deferral if needed, and we were pleased to see a significant number of borrowers resume their monthly payment.
At quarter end, the total balance of loans on payment deferrals declined to $291 million or 6.5% of our total loan portfolio, excluding PPP balances.
Our redeferral rate was 31% and was primarily driven by consumer, small business and residential loans.
These loans were initially granted a three-months deferral followed by a second three-months deferrals.
While a significant number of customers have returned to making loan payments, we expect some consumer customers will require a loan payment modifications due to the continued elevated unemployment rate.
In the commercial and commercial real estate loan portfolio, we provided loan payment deferral for $133 million in total loan balances.
The two highest exposures by industry is real estate and rental and leasing, totaling $47 million or 1% of the total loan portfolio, excluding PPP balances, and foodservice totaling $46 million or 1% of the total loan portfolio, excluding PPP balances.
The majority of the loans in the real estate category are supported by low loan-to-value ratios and in the foodservice category are supported by owner with good liquidity and access to capital.
We expect some of our borrowers will need a loan modification at the end of their second loan payment deferral, which will be evaluated on a case-by-case basis.
Loan payment deferral for our high-risk industries totaled $66 million or 1.5% of the total loan portfolio, excluding PPP balances.
Additional details on our loan payment deferrals can be found on Slides 20 and 21.
During the quarter, criticized loans increased by $34 million sequential quarter to $197 million or 4.4% of the total loan portfolio, excluding PPP balances.
Special mentioned loans increased by $33 million to $149 million or 3.3% of the total loan portfolio, excluding PPP balances.
And classified loans increased by $1.5 million to $48 million or 1.1% of the total loan portfolio, excluding PPP balances.
Loan downgrades were the result of our continued assessment of borrower risk, based on the borrower's near-term strategy and outlook, management strength and actions they've taken, overall financial condition, and external funding and [Technical Issues].
Approximately 12% of special mentioned balances and 5% of classified balances also received PPP loans.
Additional details on loans rated special mention and classified can be found on Slide 22 and 23.
Overall, we continue to believe our proactive and disciplined approach to credit and our diversified loan portfolio will allow us to remain strong through these unprecedented times.
Net income for the third quarter of 2020 was $6.9 million or $0.24 per diluted share.
Return on average assets in the third quarter was 0.42% and return on average equity was 4.99%.
Our earnings continue to be impacted by higher provision for credit loss expense due to the current COVID-19 pandemic.
Importantly, the third quarter increase in our provision was largely driven by the economic forecasts and not an increase in actual loan losses.
Additionally, our pre-tax, pre-provision earnings for the third quarter was $23.7 million, which increased slightly from the prior quarter.
Net interest income for the third quarter was $49.1 million, which remained relatively flat on a sequential quarter basis.
Net interest income included $3.4 million in PPP net interest income and net loan fees.
The net interest margin decreased to 3.19% in the third quarter compared to 3.26% in the prior quarter.
The decrease was due to lower yielding PPP loans, as well as the lower interest rate environment.
The net interest margin normalized for PPP was 3.26% in the third quarter compared to 3.31% in the prior quarter.
Third quarter other operating income totaled $11.6 million compared to $10.7 million in the prior quarter.
The increase was primarily due to higher mortgage banking income of $0.8 million.
Additionally, in the current quarter, we reinstated certain service charges that were temporarily suspended due to the pandemic.
This resulted in an increase in service charges on deposit accounts and other service charges and fees.
Other operating expense for the third quarter was $37.0 million which was an increase of $0.5 million compared to the prior quarter.
The increase was driven by increases in several expense line items and also included branch consolidation costs of $0.3 million related to the three in-store branch closures, previously noted.
Net charge-offs in the third quarter totaled $1.3 million compared to net charge-offs of $2.9 million in the prior quarter.
The charge-offs primarily came from the consumer loan portfolio and the C&I portfolio.
At September 30, our allowance for credit losses was $80.5 million or 1.79% of outstanding loans, excluding PPP loans.
This compares to 1.50% as of the prior quarter end.
The efficiency ratio remained relatively steady at 60.9% in the third quarter compared to 60.8% in the prior quarter.
The effective tax rate increased to 24.3% in the third quarter due to lower tax-exempt bank-owned life insurance income.
Going forward, we expect the effective tax rate to continue to be in the 24% to 26% range.
Our liquidity and capital position remains strong and we continue to perform robust stress testing.
The recently completed subordinated note offering strengthens our capital ratios, which further allows us to support our customers and the communities during the pandemic, and positions the company well for the future.
The subordinated notes are considered Tier 2 capital and is anticipated to increase our CPF total risk-based capital ratio by approximately 120 basis points.
Our Board declared a quarterly cash dividend of $0.23 per share, which will be payable on December 15 to shareholders of record at the close of business on November 30th.
In summary, Central Pacific continues to make positive forward progress on our strategies, while at the same time manage well through the COVID-19 pandemic.
We have a solid financial credit, liquidity and capital position that enable us to weather the storm.
As the economic recovery gradually begins, we remain committed to providing support to our employees, customers and the community.
At this time, we will be happy to address any questions you may have. | compname reports q3 earnings per share $0.24.
q3 earnings per share $0.24. |
As always, we appreciate your interest in Central Pacific Financial Corp.
I'd like to comment on some exciting news we sent out yesterday regarding some key executive management promotions to be effective January 1, 2022.
They are as follows: Catherine Ngo, currently President of CPF and President and CEO of CPB, will become Executive Vice-Chair of the bank and the holding company.
Arnold Martinez, currently EVP and Chief Banking Officer, will be promoted to President and Chief Operating Officer of the Bank and the holding company.
David Morimoto, currently Executive Vice President and CFO, will be promoted to Senior Executive Vice President and CFO of the Bank and the holding company.
And Kevin Dahlstrom, currently EVP and Chief Marketing Officer, will become EVP and Chief Strategy Officer of the Bank and the holding company.
Catherine will continue to serve on the CPB Executive Committee responsible for the management of the bank.
Working collaboratively with Catherine and myself, all three of the individuals promoted have played a key role in our financial success the past several years, and I am pleased that they will continue to be part of the team.
Our focus on our four key business pillars will continue as before.
These include residential lending, small business, Japan market development and digital expansion.
We will also continue to be active in the commercial real estate, C&I and consumer segments, with a focus on driving digital solutions to provide an exceptional customer experience.
Our transformation to become a digital first bank is underscored with the upcoming launch of Shaka Checking, Hawaii's first and only digital bank account from a local financial institution.
We are proceeding the November 8th launch with the state's largest ever social media influencer marketing campaign.
We have over 2,000 people on the wait list who are looking to be the first to sign up for Shaka.
Product benefits include the opportunity to get your paycheck up to two days early, a reimbursement of ATM fees up to $20 a month and a higher than average return on funds in the account.
We feel this product and other digital products like it will help to galvanize our position as the digital banking leader in Hawaii.
We will, however, continue to leverage our branch network, updating and modernizing our facility and investing in the talent required to deliver these products to market with the strong customer service we are known for.
Like the rest of the country, the state of Hawaii experienced the spike in COVID case counts in August and September related to the Delta variant.
To address this, our state put in place certain measures to curb further spread of the virus and we are pleased the state has been able to get the Delta variant under control, as we have seen a rapid decline in case counts in recent weeks.
Given this positive trend, earlier this month, the Governor implemented the easing of restrictions on gatherings and events on Oahu.
And last week, the Governor announced welcoming back fully vaccinated domestic travelers for business or pleasure, starting November 1st.
Our statewide vaccination rate has risen to over 70%, as many employers in the state have mandated vaccinations to protect their employees, their customers and the community in general.
With these positive developments, local economists are projecting that visitor numbers will once again continue to rise and Hawaii will have a strong holiday travel season.
The state of Hawaii unemployment rate declined to 6.6% in the month of September and is forecasted by the Department of Business Economic Development and Tourism to decline further to 6.4% in 2022.
The housing market in Hawaii remained very hot with our median single-family home price surpassing the $1 million mark this past quarter.
Overall, the Hawaii economy remains on track for recovery.
Our financial results for the third quarter were very strong with quarterly pre-tax income again reaching a new record high.
Our core loan growth picked up as anticipated and we are on track for a strong second half of the year.
Our successful PPP effort continues to deliver strong fee income as forgiveness continues.
Our asset quality continues to be strong with non-performing assets at just 10 basis points of total assets as of September 30th.
Additionally, total classified assets were less than 1% of total loans.
Nearly all of the loans we granted, COVID related payment deferrals have returned to pay status.
As of September 30th, we have just $1.3 million in loans remaining on deferral.
Finally, net charge-offs declined to just $0.2 million in the third quarter.
Shifting to our employees, we are very pleased that 95% of our employees are now fully vaccinated against COVID-19.
To protect our employees and customers, we started weekly COVID testing in September with a small group of un-vaccinated employees.
We also offered a $500 cash incentive for un-vaccinated employees who got vaccinated after September 1st.
In the third quarter, our loan portfolio increased by $184 million or 4% sequential quarter, which was offset by PPP forgiveness paydowns of $216 million.
Year-over-year, our core loan portfolio increased by 7%.
The core loan growth was broad-based across all loan categories except construction.
Approximately $58 million or 32% of the quarter's loan growth came from Mainland consumer loans.
Our residential mortgage production continue to be very strong with total production in the third quarter of nearly $245 million and total net portfolio growth in residential mortgage and home equity of $72 million from the previous quarter.
PPP forgiveness continues to progress well with 93% of the loan balances originated in 2020 and 40% of the balances originated in 2021, already forgiven and paid down through September 30th.
During the third quarter, we purchased an auto loan portfolio for about $20 million from one of our Mainland auto loan origination partners, and we continued consumer unsecured purchases on an ongoing flow basis based on our established credit guidelines.
The purchase during the quarter had a weighted average FICO score of 750.
As of September 30th, total mainland consumer, unsecured and auto purchase loans were approximately 5% of total loans.
Both our Mainland and Hawaii consumer portfolios continue to perform well.
Our target range for total Mainland loans, including commercial and consumer is around 15% of total loans.
With Hawaii's steady economic recovery, we continue to see a healthy loan pipeline in all loan product categories.
As such, we anticipate ending the year with strong loan growth.
On the deposit front, we continue to see strong inflow of deposits with total core deposits increasing by $267 million or 4.6% sequential growth.
On a year-over-year basis, total core deposits increased by $1.1 billion or 21.6%.
Additionally, our average cost of total deposits dropped in the third quarter to just 5 basis points.
Finally, as the Hawaii economy continues to recover and investment activity increases, we are focused and prepared to help our customers meet their financial objectives.
Net income for the third quarter was $20.8 million or $0.74 per diluted share, an increase of $2.1 million or $0.08 per diluted share from the prior quarter.
Return on average assets in the third quarter was 1.15%, and return on average equity was 14.83%.
Net interest income for the third quarter was $56.1 million, which increased by $4 million from the prior quarter due to core loan and investment portfolio growth, loan and investment yield improvements and slightly higher PPP fee recognition.
Net interest income included $8.6 million in PPP net interest income and net loan fees compared to $7.9 million in the prior quarter.
At September 30th, unearned net PPP fees was $7.9 million.
The net interest margin increased to 3.31% in the third quarter compared to 3.16% in the previous quarter.
The NIM normalized for PPP was 2.96% in the third quarter compared to 2.93% in the prior quarter.
The normalized NIM increase was driven by the increase in the investment portfolio yield, partially offset by an increase in excess balance sheet liquidity.
Third quarter other operating income remained relatively flat at $10.3 million.
During the quarter, there was a decrease in bank-owned life insurance income of $0.7 million driven by market fluctuations.
This was offset by higher service charges and fees.
Other operating expense for the third quarter was $41.3 million, which was in line with the prior quarter.
The efficiency ratio decreased to 62.3% in the third quarter due to higher net interest income.
We remain focused on driving positive operating leverage with our strategic investments to continue to improve our efficiency.
As part of our ongoing efficiency initiatives, we recently announced the consolidation of our Kapiolani [Phonetic] branch into a nearby branch in Honolulu at the end of this year.
We expect annual future savings of approximately $800,000 from this consolidation.
With the continued migration of transactions to digital channels, we will continue to evaluate our branch network and consider both consolidation as well as expansion opportunities in 2022.
At September 30th, our allowance for credit losses was $74.6 million or 1.55% of outstanding loans, excluding PPP loans.
In the third quarter, we recorded a $2.6 million credit to the provision for credit losses due to improvements in the economic forecasts and our loan portfolio.
The effective tax rate was 24.7% in the third quarter.
Going forward, we continue to expect the effective tax rate to be in the 24% to 26% range.
Our capital position remains strong and during the third quarter we repurchased 234,700 shares at a total cost of $5.9 million or an average cost per share of $25.12.
Finally, on October 26, our Board of Directors declared a quarterly cash dividend of $0.25 per share, which was an increase of $0.01 or 4.2% from the previous quarter.
In summary, Central Pacific had a solid third quarter and we will continue to leverage our investments and innovate to progress toward our strategic targets, at the same time we maintained our strong credit, liquidity and capital position.
Further, we remain committed to providing support to our employees, customers and the community as we continue to progress through the economic recovery.
Finally and perhaps more importantly, we approach the future with a highly motivated management team with optimism and a sense of purpose.
This team worked together to lead the implementation of RISE2020, a multi-faceted initiative designed to strengthen our position in the market by investing in our branches, ATM and our digital product offerings as well as continued focus on our four primary lines of business.
The results of these efforts are becoming increasingly apparent.
With this team, we are well positioned to build on our past accomplishments and success as we continue to focus on service and value to customers, employees and shareholders.
At this time, we'll be happy to address any questions you may have.
Over to you, Betsy. | compname reports q3 earnings per share of $0.74.
compname reports $20.8 million third quarter earnings and increases cash dividend.
q3 earnings per share $0.74.
net interest income for q3 of 2021 was $56.1 million versus $49.1 million. |
As always, we appreciate your interest in Central Pacific Financial Corp
We are beginning the 2022 year with much excitement and optimism.
Our financial results for 2021 are among our best ever.
In fact, this is the best earnings report since before The Great Recession.
Our recently announced executive leadership promotions went into effect starting January 1 and our teams are energized and ready to continue our digital transformation.
After an in-depth evaluation of the banking-as-a-service market, we identified an opportunity to enter this fast-growing market in a way that leverages our strength to maximize our impact as a banking-as-a-service provider, we will focus on partnering with select fintech companies to create strategic customized programs resulting a new differentiated financial products.
There is strong demand for this type of banking-as-a-service offering in the market today.
We believe this creates a great opportunity for us to expand our reach beyond Hawaii and will drive future revenue generation to increase the value of the CPF franchise.
Last quarter, we announced the launch of our new product, Shaka Checking.
It is Hawaii's first and only digital bank account from a local financial institution.
Shaka allowed us to test the product development and launch strategies that we will leverage in our future Mainland banking-as-a-service programs.
The Shaka account demand has far surpassed our initial expectations.
We opened over 3,300 Shaka accounts since its launch in early November.
It's obvious Shaka is serving a key need with a younger tech-savvy audience in Hawaii.
It has a strong value proposition that includes getting your paycheck up to two days early, no ATM fees and 24/7 digital convenience, among other benefits.
As part of our banking-as-a-service initiative to drive additional growth beyond Hawaii, we are also pleased to announce that we will be making an equity investment and bank sponsorship of Swell, a new fintech company that we played a major role in developing.
Swell is scheduled to launch in mid-2022 and we believe will provide a differentiated product offering that the market needs today.
Swell's mission is to provide retail banking services to people via one integrated app that includes the digital checking account with a line of credit.
Elevate is another equity investor in Swell and will be providing the systems and servicing for the Swell line of credit.
There is a revenue-sharing agreement in place between Swell, Elevate and CPF.
And Elevate is also providing a credit enhancement structure to us.
We are currently evaluating additional banking-as-a-service partnerships to create even more value for CPF and plan to announce further developments later in 2022.
Finally, we are announcing the exciting new banking-as-a-service initiative.
We remain committed to Hawaii and are continuing to build a successful and profitable franchise here.
Here to talk about the Hawaii economy and our strong position here is Catherine Ngo, our executive vice chair.
I'll start by giving an update on the Hawaii environment.
We were pleased to have a strong visitor holiday travel season with the daily average air arrivals over 25,000 in November through December.
Our statewide unemployment rate continued to decline and was at 6% in November 2021.
And while we were not immune to the COVID case spike related to the Omicron variant, our state has been able to manage through it, particularly as our vaccination rate is strong at approximately 75%.
We have also not seen any significant slowdown in Hawaii business activity or investment due to Omicron.
The housing market in Hawaii remains very hot with our median single-family home price holding at just over $1 million.
Overall, the Hawaii economy remains on track for recovery.
Our asset quality continues to be very strong with nonperforming assets at just 8 basis points of total assets as of December 31.
Additionally, total criticized loans were at about one and a half of total loans.
Finally, during the quarter, we had net recoveries of $900,000.
In the fourth quarter, our core loan portfolio increased by $183 million or 4% sequential quarter, which was offset by PPP forgiveness paydowns of $127 million.
Year over year, our core loan portfolio increased by 10%.
The core loan growth was broad-based across almost all loan categories.
Our residential mortgage production continued to be very strong, with total production in the fourth quarter of $354 million as several large condominium projects in Honolulu were completed during the quarter, with CPB leading the takeout financing for the homeowners.
Total net portfolio growth in residential mortgage and home equity was $146 million in the fourth quarter.
For all of 2021, we once again had record residential mortgage production, totaling $1.2 billion, putting us near to top of all residential mortgage lenders in Hawaii.
PPP forgiveness continues to progress well with 99% of the loan balances originated in 2020 and 73% of the balances originated in 2021 forgiven and paid down through December 31.
During the fourth quarter, we continued consumer unsecured purchases with our established vendors on an ongoing flow basis.
The purchases during the quarter all were within our established credit limits and had a weighted average FICO score of 750.
As of December 31, total Mainland consumer unsecured and auto purchase loans were approximately 5.7% of total loans.
Both our Mainland and Hawaii consumer portfolios continue to perform well.
Our target range for total Mainland loans, including commercial and consumer is around 15% of total loans.
With Hawaii's steady economic recovery, we have a healthy loan pipeline in all loan product categories and we are expecting our favorable loan growth trends to continue in 2022.
On the deposit front, we continue to see strong inflow deposits with total core deposits increasing by $66 million or 1% sequential quarter growth.
On a year-over-year basis total core deposits increased by $1 billion or 20%.
Additionally, our average cost of total deposits in the fourth quarter was just 6 basis points.
Finally, we plan to build upon our early success with our Shaka digital checking product going into 2022.
With this differentiated product and its strong market acceptance, we expect our comp growth to continue.
We will be expanding our relationships with the new-to-CPB Shaka account holders, which represented over 50% of the new accounts and explore further complementary product offerings using the Shaka brand.
Net income for the fourth quarter was $22.3 million or $0.80 per diluted share, an increase of $1.5 million or $0.06 per diluted share from the prior quarter.
Return on average assets in the fourth quarter was 1.22% and return on average equity was 16.05%.
For the full 2021 year, net income was $79.9 million or $2.83 per diluted share.
This compares to $37.3 million or $1.32 per diluted share in 2020.
Net interest income for the fourth quarter was $53.1 million, which decreased by $3 million from the prior quarter due to less PPP fee income as the forgiveness process winds down.
Net interest income included $4.7 million in PPP net interest income and net loan fees compared to $8.6 million in the prior quarter.
At December 31, unearned net PPP fees was $3.5 million.
The net interest margin decreased to 3.08% in the fourth quarter compared to 3.31% in the prior quarter.
The NIM normalized for PPP was 2.87% in the third quarter compared -- I'm sorry, in the fourth quarter compared to 2.96% in the prior quarter.
The normalized NIM decrease was driven by lower loan yields due to market pricing competition.
While we expect market pricing for loans to remain competitive, our new loan origination yield in the fourth quarter approximated our overall loan portfolio yield and our balance sheet is slightly asset-sensitive.
Fourth quarter other operating income increased to $11.6 million from $10.3 million in the prior quarter.
The increase was driven by higher mortgage banking income and higher bank-owned life insurance income.
Other operating expense for the fourth quarter was $42.2 million, which included nonrecurring expenses of $1.1 million of severance payments, $0.4 million branch consolidation costs and $0.3 million in promotion expenses related to our Shaka digital checking launch.
At the end of 2021, we consolidated one of our Honolulu branches into a nearby branch.
We anticipate $0.8 million in annualized savings from this consolidation.
With the continued successful customer migration to digital banking services, we plan to consolidate three additional branches in 2022.
At the same time, we are continuing to invest in select strategic branch locations including acquiring real estate and fee and developing fully modernized branches.
The efficiency ratio increased to 65.6% in the fourth quarter due to lower net interest income and nonrecurring expenses.
We remain focused on driving positive operating leverage with our strategic initiatives to continue to improve efficiency.
At December 31, our allowance for credit losses was $68.1 million or 1.36% of outstanding loans excluding PPP loans.
In the fourth quarter, we recorded a $7.4 million credit to the provision for credit losses due to continued improvements in the economic forecast and our loan portfolio as well as net recoveries during the quarter of $0.9 million.
The effective tax rate was 25.4% in the fourth quarter.
And going forward, we continue to expect an effective tax rate to be in the 24% to 26% range.
Our capital position remained strong.
And during the fourth quarter, we repurchased 305,000 shares at a total cost of $8.4 million or an average cost per share of $27.64.
Yesterday, our board of directors approved a new share repurchase authorization of up to $30 million.
Finally, our board of directors also declared a quarterly cash dividend of $0.26 per share, which was an increase of $0.01 or 4% from the prior quarter.
Central Pacific had a solid fourth quarter and 2021 year.
Looking forward, we are very excited about the key items we announced today, which we believe will position us extremely well and enable us to deliver greater shareholder value in the near and long term.
In summary, we had record 2021 earnings.
We increased our quarterly cash dividend by 4%.
We will continue share repurchases under our new $30 million board-approved authorization.
We launched our banking-as-a-service strategy, which started with our successful Shaka digital checking launch in Hawaii.
And upcoming soon, we will expand the Mainland with our Swell fintech investment as well as other selected partners.
Further, we remain committed to providing support to our employees, customers and the community as we continue to progress through the economic recovery.
At this time, we will be happy to address any questions you may have.
Back to you, Charlie. | quarterly earnings per share $0.80.
net interest income for q4 of 2021 was $53.1 million, compared to $51.5 million in year-ago quarter.
on jan 25, board authorized repurchase of up to $30 million of its common stock from time to time.
on jan 25, board declared quarterly cash dividend of $0.26 per share on outstanding common shares. |
The theme for our on-hold music today was Strange Days.
It's one of the most common ways I've heard people describe life during this pandemic, strange days indeed.
It's common for some to refer to the current state of affairs as unprecedented.
I've concluded that while almost all agree that these are strange days, whether or not people believe these strange days are unprecedented is definitely age related.
Younger people are more likely to view our current situation as unprecedented.
People my age or older are far less likely to see these current strange days as unprecedented.
In 1967, when I was 13 years old and a rock band name The Doors released the song titled Strange days.
Clearly, I have a background from that.
This is the first versus of the song, "Strange days have found us.
Strange days have tracked us down.
They're going to destroy our casual joy.
We shall go on playing or find a new town".
The Doors were way ahead of their time, both musically and culturally.
And indeed, the next few years after 1967 would bring an extended period of strange days and civil unrest that were orders of magnitude stranger than we've seen thus far during the COVID storm.
I'm naturally optimistic, and I promise you this too shall pass.
Since we're all in this together, we will continue to encourage our Camden team to stay true to Camden's why, our purpose for being, that is to improve lives of our team members, residents and shareholders, one experience at a time.
Apartment demand is stronger in the market than we expected given the nearly 40 million Americans that have filed for unemployment benefits with an official employment unemployment rate of 11.1%.
Camden's geographic and product diversification has continued to lower the volatility of our rents and occupancy.
Camden's Sunbelt markets have fewer job losses than coastal markets in the U.S. overall.
Our product mix that offers varying price points in urban and suburban locations continues to work for us.
Camden was prepared for the pandemic.
We have a great culture and a flexible workplace and amazing employees that have adapted very, very well to the current work environment.
Our investments in technology, moving to the cloud-based operating systems and our Chirp Access systems have allowed us to not miss a beat when it comes to leasing or operating our portfolio or making payroll and basic things like that.
We have the best balance sheet in the sector and one of the best in REIT land overall.
We were prepared and continue to be prepared to do as well as we can in this environment, and I think we'll do well long term.
I want to give a shout out to our amazing Camden teammates for all that they do for our residents and taking care of each other every single day.
We want to make sure that we're providing you with the information that you find most useful to your ability to understand the current state of affairs in Camden's markets.
At the outset of the COVID storm, we held an all-Camden conference call during which we told our Camden team that our highest priorities were: number one, taking care of our Camden family; and two, taking care of our residents.
During the second quarter, we made good on that promise.
We undertook various initiatives, including a frontline bonus paid to our 1,400 on-site team members, and we provided grants to almost 400 Camden associates from our long-established Camden employee emergency relief fund.
We also established a Camden resident relief fund from which we were able to provide grants to 8,200 residents at a time of maximum financial uncertainty in their lives.
We were pleased to be able to provide this level of assistance to the people who were financially impacted during the early stages of the COVID crisis.
On our first quarter conference call, we were asked when we thought we could reintroduce guidance.
And we said that when we felt like we had reasonable visibility into the next quarter, we would do so.
At that time, based on the confidence level that we had from our operations and finance teams regarding our projected May and June results, on a scale of one to 10, it was probably a two, not good.
As we sit here today, while our confidence level is less than it would be in normal times, we do feel it is sufficiently high to provide guidance for the third quarter, and we've done so.
It's been incredible to behold.
Keep up the great work, and with a little good fortune, for which we are long overdue, we'll see you soon.
For the second quarter of 2020, effective new leases were down 2.1% and effective renewals were up 2.3% for a blended growth rate of 0.3%.
Our July effective lease results indicate a 2% decline for new leases and a 0.2% growth for renewals for a blended decrease of 0.9%.
Occupancy averaged 95.2% during the second quarter of 2020 compared to 96.1% in the second quarter of 2019.
Today, our occupancy has improved to 95.5%.
We continue to have great success in conducting alternative method property tours for prospective residents and retaining many of our existing residents, with only a slight deceleration in total leasing activity year-over-year.
In the second quarter, we averaged 3,855 signed leases monthly in our same property portfolio as compared to the second quarter of 2019 when we averaged 4,016 signed leases.
July 2020 total signed leasing activity is in line with July of 2019.
For the second quarter of 2020, we collected 97.7% of our scheduled rents, with 1.1% of our rents in a current deferred rent arrangement and 1.2% delinquent.
This compares to the second quarter of 2019 when we collected 98.6% of our scheduled rents, but with a slightly higher 1.4% delinquency.
The third quarter is off to a strong start with 98.7% of our July 2020 scheduled rents collected, ahead of our collections of 98.4% in July of 2019.
Last night, we reported funds from operations for the second quarter of 2020 of $110.4 million or $1.09 per share, representing a $0.26 per share sequential decrease in FFO from the first quarter of 2020.
As outlined in last night's release, included in this $0.26 sequential quarterly decrease is $0.142 of direct COVID-19-related charges included incurred during the quarter.
After excluding the impact of this aggregate $0.142 per share, sequential FFO decreased $0.12 in the second quarter, resulting primarily from: approximately $0.05 per share in lower same-store net operating income, resulting from a $0.02 per share decrease in revenue from our 90 basis point sequential occupancy decline; a $0.025 per share decrease in revenue, resulting from an increase in bad debt reserves from approximately 45 basis points in the first quarter to approximately 180 basis points in the second quarter; and an approximate $0.005 per share sequential increase in expenses; approximately $0.025 in lower non-same-store development and retail NOI, also resulting from a combination of lower occupancy and higher bad debt reserves; and approximately $0.04 per share in higher interest expense resulting from our April 20 $750 million bond issuance.
Turning to bad debt.
In accordance with GAAP, certain uncollected rent is recognized by us as income in the current month.
We then evaluate this uncollected rent and establish what we believe to be an appropriate bad debt reserve, which serves as a corresponding offset to property revenues in the same period.
As previously mentioned, for same-store, our bad debt as a percentage of rental income increased from approximately 45 basis points in the first quarter to approximately 180 basis points in the second quarter.
During the second quarter, we reserved effectively all of the 1.2% of delinquent rents as bad debt.
Also in the second quarter, we reserved effectively half of the 1.1% of deferred rent arrangements as bad debt.
When a resident moves out owing us money, we have already reserved 100% of the amounts owned as bad debt and there will be no future impact to the income statement.
We reevaluate our bad debt reserves monthly for collectibility.
In the second quarter, for retail, which is not part of same-store, we reserved 100% of all amounts uncollected and not deferred, which totaled approximately $800,000.
Last night, based upon our recent trends, we issued FFO and same-store guidance for the third quarter.
However, given the continued uncertainty surrounding the social and economic impacts from COVID-19, at this time, we will not provide an update to our financial outlook for the full year.
For the third quarter of 2020 as compared to the third quarter of 2019, at the midpoint, we expect same-store revenues to decline by 1.6%, driven primarily by lower occupancy, higher bad debt and lower miscellaneous fee income.
We expect expenses to increase by 4.5%, driven primarily by higher property insurance, higher property tax assessments and large property tax refunds received in Atlanta and Houston in the third quarter of 2019.
As a result, we expect NOI at the midpoint to decline by 5%.
We expect FFO per share for the third quarter to be within the range of $1.14 to $1.20.
The midpoint of $1.17 is $0.08 per share better than the $1.09 we reported in the second quarter.
However, after adjusting our second quarter results for the previously discussed $0.14 of COVID-related charges, our $1.17 midpoint for the third quarter is a $0.06 per share sequential decrease, resulting primarily from: a $0.045 per share sequential decline in same-store NOI as a result of a $0.005 per share decrease in revenue, resulting primarily from lower net market rents; and a $0.04 per share increase in sequential expenses, resulting primarily from the typical seasonality of our operating expenses, the timing of certain R&M costs and the timing of certain property tax refunds and assessments; an approximate $0.005 per share decline in non same-store NOI, resulting primarily from the same reasons; and an approximate $0.005 per share increase in sequential interest expense, resulting from our April 20 bond issuance.
As of today, we have approximately $1.4 billion of liquidity comprised of just over $500 million in cash and cash equivalents and no amounts outstanding on our $900 million unsecured credit facility.
At quarter end, we had $185 million left to spend over the next two and half years under our existing development pipeline, and we have no scheduled debt maturities until 2022.
Our current excess cash is invested with various banks, earning approximately 30 basis points.
And finally, a quick update on technology.
As I discussed, our on-site teams are having great success with virtual leasing, and we just completed our second virtual quarterly close, a task that would have been so much harder, if not nearly impossible, without our investment in a cloud-based financial system.
As mentioned yesterday in the Wall Street Journal, we are continuing our pilot of Chirp, our smart access solution, with great success.
And we are finding even more ways to utilize the Chirp technology.
At our pilot communities for self-guided tours, our leasing teams can use the Chirp Access application to grant a prospect limited access to tour both the community and specific available apartment homes in a completely touchless exchange.
There is no need for the prospect to pick up physical keys or FOBs or ever even enter the leasing office.
Our leasing teams create the prospect a Chirp account, grant them access to the best apartments chosen per their unique wants and needs and then determine when the prospects access will expire.
Additionally, we can utilize Chirp to quickly and automatically control the number of residents to have access to an amenity space, such as a fitness center, at any given time.
Amenity spaces deemed as reservation only will require residents to use the chirp access application to reserve a specific time slot.
Only those residents with confirmed reservations will have access to open the door of the amenity space for the allotted time.
When the reservation expires, so does access to the amenity.
Clearly, in this COVID-19 environment, our Chirp initiative takes on even more importance. | qtrly ffo $1.09 per share.
sees q3 ffo $1.14 - $1.20 per share. |
The theme for our on-hold music today was coping with the chaos.
Last year when the pandemic began, we held a companywide conference call to share some of the lessons learned from the great financial crisis.
I started the call with the first line of the famous retro kicking palm if looks like this.
If you can keep your head when all about you are losing theirs and blaming it on you.
We went on to lay on a list of suggestions to help cope with the chaos that we knew it was headed our way.
Among other ideas, a few suggestions were included in our on-hold music today.
We knew that Queen and David Boy and our teams are going to find themselves under pressure.
And we new when that happened, we told them just to take the advice from the Eagles and take it easy.
We encourage them to embrace innovation, tail path, and as Boston reminds us, don't look back.
We said we rely on Camden's values and culture and do things our way because like Bon Jove, we were born follow.
And finally, we encourage them to get on board the REO speed wagon and roll with the changes.
At the end of the call, we showed a video that was produced by our Dallas Texas operations group during the great financial crisis.
That seem just as appropriate for what we faced at the beginning of the pandemic.
We thought you might find that interesting today.
So go ahead and roll the video.
When we held our first quarter earnings call, we are beginning to see an acceleration in both occupancy and pricing power across our markets.
The actual rate of acceleration that occurred since the call, which far exceeded our estimates and resulted in the improved earnings guidance we released last night.
Across the board, we are seeing a very strong performance and continued improvements in our operating fundamentals.
And in almost all cases where current rental rates exceed the pandemic levels.
The outlook from our third-party economists and data providers is also quite positive.
And they expect the apartment business will continue to thrive as we move into the second half of 2021 and into 2022.
Despite the ongoing levels of high supply in many markets, demand has been greater than anticipated, allowing positive absorption of newly delivered apartment homes.
Our occupation is currently 97%, leasing activity is strong, and turnover remains low.
So overall, I would say our outlook for Camden in the multifamily industry is very good.
We are excited to have entered the national market with the acquisition of two high-quality apartment properties.
Our acquisition and development teams continue to work hard and smart to find opportunities in a very competitive environment.
I want to give a shout out to our amazing Camden team members for doing a great job in taking advantage of this strong market.
Great customer service and sales acum is very important in a market like this.
We must deliver great customer service and support the Camden value proposition when asking for and getting double-digit rental increases from our customers.
Next up is our co-founder, Keith Oden.
Now for a few details on our second quarter operating results.
Same-property revenue growth was 4.1% for the quarter and was positive in all markets, both year-over-year and sequentially.
We have remarkable growth in Phoenix and Tampa both at 9.1%, Southeast Florida at 8.6%, Atlanta at 5.7% and Raleigh at 4.6%.
We thought the April new lease and renewal numbers we reported on last quarter's call were pretty good at nearly 5%.
But as Ric mentioned, pricing power continues to accelerate.
For the second quarter of '21, signed new leases were 9.3% and renewals were 6.7% for a blended rate of 8%.
For leases which were signed earlier and became effective during the end -- during the second quarter, new lease growth was 5.4% with renewals at 4% for a blended rate of 4.7%.
July 2021 looks to be one of the best months we've ever had with new signed -- signed new leases trending at 18.7%, renewals at 10.5% and a blended rate of 14.6%.
Renewal offers for August and September were sent out with an average increase of around 11%.
Occupancy has also continued to improve, going from 96% in the first quarter this year to 96.9% in the second quarter and is currently at 97.1% for July.
Net turnover ticked up slightly in the second quarter to 45% versus 41% last year due to the aggressive pricing increases we instituted, but it remains well below long-term historical levels.
Move-outs to home purchases also ticked up slightly from 16.9% in the first quarter this year to 17.7% in the second quarter, which reflects normal seasonal patterns in our markets.
So despite the constant headlines regarding increased number of single-family home sales, it really has not had an effect on our portfolio performance as the move-outs to purchase homes are still slightly below our long-term average of about 18%.
It's something we discuss internally often.
Our purpose or why is to improve the lives of our teammates, customers and shareholders, one experience at a time.
In our companywide meeting at the beginning of the pandemic, we shared the Star Wars video, and we emphasize that the chaotic months ahead would provide an extraordinary number of opportunities to improve lives one experience at a time.
We focused our efforts on improving our teammates lives who likewise focus their attention on improving our residents' lives.
The results have been truly amazing, and we could not be more proud of how Team Camden has performed throughout the COVID months.
Improving the lives of our team and customers has in turn improved the lives of shareholders, including the approximately 500 Camden employees who participated in the employee share purchase plan this year.
Before I move on to our financial results and guidance, a brief update on our recent real estate activities.
During the second quarter of 2021, as previously mentioned, we entered the Nashville market with a $186 million purchase of Camden Music Row, a recently constructed, 430-unit, 18-story community and the $105 million purchase of Camden Franklin Park, a recently constructed 328-unit, 5-story community.
Both assets were purchased at just under a 4% yield.
Also, during the quarter, we stabilized both Camden RiNo, a 233-unit $7 million new development in Denver, generating an approximate 6% yield in Camden Cypress Creek II, a 234-unit joint venture in Houston, Texas, generating an approximate 7.75% yield.
Clearly, our development program continues to create significant value for our shareholders.
Additionally, during the quarter, we began leasing at Camden Hillcrest, a 132-unit, $95 million new development in San Diego.
On the financing side, during the quarter, we issued approximately $360 million of shares under our existing ATM program.
We used the proceeds of the issuance to fund our entrance into Nashville.
Our existing ATM program is now fully utilized.
And in line with best corporate practices, we will file a new ATM program next week.
In the quarter, we collected 98.7% of our scheduled rents with only 1.3% delinquent.
Turning to bad debt.
In accordance with GAAP, certain uncollected revenue is recognized by us as income in the current month.
We then evaluate this uncollected revenue and establish what we believe to be an appropriate reserve, which serves as a corresponding offset to property revenues in the same period.
When a resident moves out OMS money, we typically have previously reserved all past due amounts, and there will be no future impact to the income statement.
We reevaluate our reserves monthly for collectibility.
For multifamily residents, we have currently reserved $11 million as uncollectible revenue against a receivable of $12 million.
Turning to financial results.
What a difference a year or a quarter can make.
Last night, we reported funds from operations for the second quarter of 2021 of $131.2 million or $1.28 per share, exceeding the midpoint of our guidance range by $0.03 per share.
This $0.03 per share outperformance for the second quarter resulted primarily from approximately $0.03 in higher same-store NOI, resulting from $0.025 of higher revenue, driven by higher rental rates, higher occupancy and lower bad debt and $0.05 of lower operating expenses driven by a combination of lower water expense and lower salaries due to open positions on site and approximately $0.02 in better-than-anticipated results from our non-same-store and development communities.
This $0.05 aggregate outperformance was partially offset by $0.01 of higher overhead costs, primarily associated with our employee stock purchase plan, combined with a $0.01 impact from our higher share count resulting from our recent ATM activity.
Last night, based upon our year-to-date operating performance and our expectations for the remainder of the year, we also updated and revised our 2021 full year same-store guidance.
Taking into consideration the previously mentioned significant improvement in new leases, renewals and occupancy, and our resulting expectations for the remainder of the year, we have increased the midpoint of our full year revenue growth from 1.6% to 3.75%.
Additionally, as a result of our slightly better-than-expected second quarter same-store expense performance and our anticipation of the trend continuing throughout the year, we decreased the midpoint of our full year expense growth from 3.9% to 3.75%.
The result of both of these changes is a 350 basis point increase to the midpoint of our 2021 same-store NOI guidance from 0.25% to 3.75%.
Our 3.75% same-store revenue growth assumptions are based upon occupancy averaging approximately 97% for the remainder of the year, with the blend of new lease and renewals averaging approximately 11%.
Last night, we also increased the midpoint of our full year 2021 FFO guidance by $0.18 per share.
Our new 2021 FFO guidance is $5.17 to $5.37 with a midpoint of $5.27 per share.
This $0.18 per share increase results from our anticipated 350 basis points or $0.21 increase in 2021 same-store operating results, $0.03 of this increase occurred in the second quarter, with the remainder anticipated over the third and fourth quarters and an approximate $0.06 increase from our non-same-store and development communities.
This $0.27 aggregate increase in FFO is partially offset by an approximate $0.09 impact from our second quarter ATM activity.
We have made no changes to our full year guidance of $450 million of acquisitions and $450 million of dispositions.
Last night, we also provided earnings guidance for the third quarter of 2021.
We expect FFO per share for the third quarter to be within the range of $1.30 to $1.36.
The midpoint of $1.33 represents a $0.05 per share improvement from the second quarter, which is anticipated to result from a $0.04 per share or approximate 2.5% expected sequential increase in same-store NOI, driven primarily by higher rental rates, partially offset by our normal second to third quarter seasonal increase in utility, repair and maintenance, unit turnover and personnel expenses.
A $0.015 per share increase in NOI from our development communities in lease-up, our other nonsame-store communities and the incremental contributions from our joint venture communities.
And a $0.02 per share increase in FFO resulting from the full quarter contributions of our recent acquisitions.
This aggregate $0.075 increase is partially offset by $0.025 incremental impact from our second quarter ATM activity.
Our balance sheet remains strong with net debt-to-EBITDA at 4.6 times and a total fixed charge coverage ratio at 5.4 times.
As of today, we have approximately $1.2 billion of liquidity, comprised of approximately $300 million in cash and cash equivalents and no amounts outstanding under our $900 million unsecured facility.
At quarter-end, we had $302 million left to spend over the next three years under our existing development pipeline, and we have no scheduled debt maturities until 2022.
Our current excess cash is invested with various banks, earning approximately 25 basis points. | qtrly ffo per share $1.28.
sees q3 ffo per share $1.30 - $1.36.
sees 2021 ffo per share $5.17 - $5.37. |
Further information about these risks can be found in our filings with the SEC, and we encourage you to review them.
We will attempt to complete our call within one hour.
As we know, another multi-family company is holding their call right after us.
We already have 15 analysts in the queue right now.
If we are unable to speak with everyone in the queue today, we'd be happy to respond to additional questions by phone or email after the call concludes.
Our on-hold music today was attributed to team Camden.
We wanted to celebrate the incredible results of our onsite team supported by our regional and corporate staffs that they have achieved throughout the COVID storm.
Despite all the turmoil, team Camden never stopped taking care of business.
That's what you can expect from a team of all-stars.
Instead of 1,000-yard stare, team Camden showed up every day with the eye of the tiger, reminding us of what we know is true, you're simply the best.
So this evening we will join you in spirit, as you all raise your glass to celebrate your remarkable performance.
Our performance for the third quarter was driven by our team, but was also aided by our Camden brand equity and our capital allocation and market selection.
We've always believed that geographic and product diversification would lower the volatility of our earnings.
We're in markets that are pro-business, have an educated workforce, low cost of housing and high quality of life scores.
These attributes drive population and employment growth, which drives housing demand.
The only exception to this market generalization for us is Southern California.
Compared to most other parts of California, however, our properties are in the most business friendly cities and areas in the state.
Our markets have lost fewer high paying jobs than other markets in the U.S. As a matter of fact, it's 5% losses for Camden markets versus 15% for the U.S. Overall, year-over-year employment losses through September have been less in our markets.
Job losses in most of our markets have been in the range of down 2.5% to down 5%, the best being Austin, Dallas, Phoenix, Tampa, Atlanta and Houston.
Toughest markets have been Orlando, Los Angeles and Orange County with job losses between 9.5% and 9.7%.
Another key employment trend our other key employment trends are that are supporting our residents' ability to stay in their apartments and pay rent is that when you think about the job losses that we lost at the beginning of the pandemic, there were 22 million jobs lost, 11 million had been added back.
Of the jobs that have not been added back, 5.8 million are low-income workers making less than $46,000 a year.
And another group 4.1 million folks have not been added back that make between $46,000 and $71,000 a year.
So the lion's share of the 11 million jobs that haven't been that have not been added back are really not our residents.
There are lower income workers that do not live at Camden.
Most of our residents have higher income than that.
And it's unfortunate that we have that many job losses, and we obviously need to add those jobs back as soon as possible, but they aren't negatively impacting Camden's resident base.
Obviously, we're more than pleased with our results for the quarter.
This is certainly the kind of performance that is worthy of celebration by team Camden.
Overall, things seem like they're getting back to something closer to normal, and that's quite a contrast to where we were in April and May of this year.
A few signs that conditions of stabilizing our markets, occupancy for the third quarter was 95.6%, up from 95.2% in the second quarter.
Several of our communities are actually exceeding their original budget for occupancy.
Turnover continues to be a tailwind at 48% for the third quarter and only 42% year-to-date.
There continues to be a lot of anecdotal evidence that home sales are spiking.
In our portfolio, we had 13.8% move-outs to purchase homes in the first quarter of this year that moved up to 14.7% in the second quarter.
And in the third quarter, it moved up again to 15.8%.
But if you take the average, the average year-to-date move-outs to purchase homes, it was 14.8% versus a full year 2019 of 14.6%.
So really very little change year-over-year.
We did see a little uptick in October to 18%, but Q4 is always a little bit elevated.
Clearly, this is a stat that bears some watching to see if the anecdotal evidence starts showing up in the stats.
Before I move on to our financial results and guidance and brief update on our recent real estate activities.
During the third quarter of 2020, we stabilized Camden North End I, a 441 unit $99 million new development in Phoenix, Arizona, generating over a 7% stabilized yield.
We completed construction on Camden Downtown, a 271 unit $131 million new development in Houston.
We recommenced construction on Camden Atlantic, a 269 unit $100 million new development in Plantation, Florida.
And we began construction on both Camden Tempe II, a 397 unit $115 million new development in Tempe, Arizona, and Camden NoDa, a 387 unit $105 million new development in Charlotte.
For the third quarter of 2020 effective new leases were down 2.4% and effective renewals were up 0.6% for a blended decline of 0.9%.
Our October effective lease results indicate a 3.5% decline for new leases and a 2.1% growth for renewals for a blended decrease of 1%.
Occupancy averaged 95.6% during the third quarter of 2020 and this was up from the 95.2% where both experienced in the second quarter of 2020 and that we anticipated for the third quarter of 2020 leading in part to our third quarter operating outperformance, which I will discuss later.
We continue to have great success in conducting alternative method property tours for prospective residents and retaining many of our existing residents, with actually a slight acceleration in total leasing activity year-over-year.
In the third quarter, we averaged 3,227 signed leases monthly in our same property portfolio, slightly ahead of the third quarter of 2019 where we averaged 3,104 signed leases.
To-date, October, 2020 total signed leasing activity is on pace with October, 2019.
Our third quarter collections far exceeded our expectations.
As we collected 99.4% of our scheduled rents with only 0.6% delinquent.
This compares favorably to both the third quarter of 2019, when we collected 98.3% of our scheduled rents with a higher 1.7% delinquency and in the second quarter of 2020, when we collected 97.7% of our scheduled rents with 1.1% of our residents in a deferred rent arrangement and 1.2% delinquent.
The fourth quarter is off to a good start with 98.1% of our October, 2020 scheduled rents collected.
Turning to bad debt, in accordance with GAAP, certain uncollected rent is recognized by us as income in the current month.
We then evaluate this uncollected rent and establish what we believe to be inappropriate bad debt reserve, which serves as a corresponding offset to property revenues in the same period.
When a resident moves out owing us money, we typically have previously reserved 100% of the amount owed as bad debt and there'll be no future impacts to the income statement.
We reevaluate our bad debt reserves monthly for collectability.
Turning to financial results.
Last night, we reported funds from operations for the third quarter of 2020 of $126.6 million or $1.25 per share, exceeding the midpoint of our prior guidance range by $0.08 per share.
This $0.08 per share outperformance for the third quarter resulted primarily from approximately $0.055 in higher same store revenue comprised of $0.025 from lower than anticipated net bad debt due to the previously mentioned higher than anticipated collection levels and higher net reletting income, $0.01 from the higher than anticipated levels of occupancy and $0.02 from higher than anticipated other income driven primarily from our higher than anticipated levels of leasing activity.
Approximately $0.005 in better than anticipated revenue results from our non-same store and development communities.
Approximately $0.005 in lower overhead due to general cost control measures and an approximately $0.015 gain related to the sale of our Chirp technology investment to a third-party, this gain is recorded in other incomes.
We have updated our 2020 full year same store revenue, expense, and net operating income guidance based upon our year-to-date operating performance and our expectations for the fourth quarter.
At the midpoint, we now anticipate full year 2020 same-store revenue to increase 1% and expenses to increase 3.4% resulting in an anticipated 2020 same store net operating income decline of 0.3%.
The difference between our anticipated 3.4% full year total expense growth and our year-to-date total expense growth of 2.4% is primarily driven by the timing of current and prior year tax refunds and accruals.
The increase to our original full year expense growth assumption of 3% is almost entirely driven by higher than anticipated property tax valuations in Houston.
We now anticipate total same-store property taxes will increase by 4.7% in 2020 as compared to our original budget of 3%.
Last night, we also provided earnings guidance for the fourth quarter of 2020.
We expect FFO per share for the fourth quarter to be within the range of a $1.21 to $1.27.
The midpoint of $1.24 is in line with our third quarter results after excluding the previously mentioned third quarter gain on sale of technology.
Our normal third to fourth quarter seasonal declines in utility, repair and maintenance, unit turnover and personnel expenses are anticipated to be entirely offset by the timing of property tax refunds, lower net market rents and our normal seasonal reduction in occupancy and corresponding other income.
As of today, we have just under $1.4 billion of liquidity comprised of approximately $450 million in cash and cash equivalents.
And no amounts outstanding underneath our $900 million unsecured credit facility.
At quarter end, we had $384 million left to spend over the next three years under our existing development pipeline.
And we have no scheduled debt maturities until 2022.
Our current excess cash is invested with various banks earning approximately 30 basis points.
At this time, we'll open the call up to questions. | qtrly ffo $1.25. |
Further information about these risks can be found in our filings with the SEC, and we encourage you to review them.
We will attempt to complete our call within one hour, seriously, as we know that another multi-family company is holding their call right after us.
If we are unable to speak with everyone in the queue today, we'd be happy to respond to additional questions by phone or email after the call concludes.
The COVID pandemic has brought with it sweeping changes in the lives of every American including how they work, where they work and whether they can even work.
Every business has had to change and adapt to this unprecedented pandemic.
And thinking about the scope of these changes, I recall that quote from Jack Welch that I heard years ago which is, change before you have to.
With only five words, Jack perfectly captured what has separated many companies' abilities to successfully navigate through the past year.
Throughout our history, we have grown and maintained a culture that encourages and rewards efforts by team Camden to change before we have to.
Examples include, migrating to cloud based financial systems over 18 months ago, making work-from-home seamless for most of our employees, creating a technology package for Camden communities that provides discounted high-speed Internet, creating a more robust work-from-home experience for our residents, implementing a resident package delivery program that requires packages to be delivered directly to each resident's front door, creating the same flexibility and convenience enjoyed by most single-family homeowners and developing Chirp, a mobile access solution, which we sold to RealPage last fall.
When fully rolled out in 2021, this product will enhance our on-demand virtual leasing and self-guided tours while enabling unassisted tours and leasing outside of our normal office hours.
Residents will also be able to schedule package and grocery deliveries directly to their apartments when they're away from home.
We will continue to find ways to change before we have to in everything we do.
For the past year, we have utilized virtual meeting platforms like Zoom and Microsoft Teams for investor and analyst meetings and industry conferences and internal Camden meetings.
Beginning next quarter, we hope to offer our quarterly earnings calls on a more interactive virtual platform as well.
As we start 2021, our outlook is optimistic.
Our assumptions are based on the first half of the year and during a continued battle against the COVID virus with ongoing difficulties for many businesses and workers until the country's vaccination rates accelerate.
We hope that the second half of the year will show improvement as more businesses reopen and more people ultimately get back to work.
Fortunately, in many of our Sunbelt markets in which we operate have already reopen businesses and added back many of the jobs that were lost early in the pandemic, setting the stage for recovery in the second half of 2021 and beyond.
While the operating environment we faced was one of the toughest ever, you had made sure that we improved the lives of our teammates, customers and stakeholders, one experience at a time.
Keith, your chance for change.
And on the idea of change before you have to, I think Henry Ford was on to something when he said, if I had asked my customers, what they wanted, they would have said faster horses.
I'll address the markets in the order of best to worst by assigning a letter grade to each one and as well as our view on whether we believe that market is likely to be improving, stable or declining in the year ahead.
Following the market overview, I'll provide additional details on our fourth quarter operations and 2021 same-property guidance.
We anticipate overall same-property revenue growth this year in the range of down 25 basis points to up 1.75% for our portfolio with the majority of our markets falling within that range.
The outliers on the positive side would be Phoenix, San Diego, Inland Empire and Tampa, which should produce revenue growth in the 3% to 4% range.
At the low end of that range would be Houston, which is likely to remain in the down 2% range.
Expected same-property revenue growth for 2021 is 75 basis points at the midpoint of our guidance range and all markets received a grade of C or higher with an average rating of B for the overall portfolio.
Our outlook for supply and demand in 2021 is based on multiple third party economic forecasts and in general, most firms project a recovery in job growth in Camden's markets along with a steady amount of new supply.
Other economists have projected up to 1.9 million jobs and 175,000 completions.
So the outlook seems to be manageable regardless of which estimates prove to be correct.
For 2021, our top ranking once again goes to Phoenix with an average of 5% revenue growth over the past three years and expected revenue growth of 3% to 4% this year.
We give this market an A rating with a stable outlook.
Supply and demand metrics for 2021 looks strong in Phoenix with estimates calling for over 90,000 new jobs and roughly 9,000 new units coming online this year.
Up next are San Diego Inland Empire and Tampa, both earning A minus ratings and improving outlooks with 2021 revenue growth also projected in a 3% to 4% range and both markets produced 1% to 2% revenue growth last year but are budgeted to accelerate in 2021 given recent trends.
Similar to Phoenix, the San Diego Inland Empire market projects nearly 100,000 new jobs in 2021 with new supply of only around 7,000 apartments.
Tampa should deliver around 7,000 new units with roughly 50,000 new jobs being created, providing a good balance of supply and demand in both of those markets.
Atlanta and Raleigh round out our Top 5 with budgeted revenue growth of around 2% for 2021 and ratings of A minus and stable.
In Atlanta job growth is expected to rebound to over 100,000 with only 7,000 new apartment completions and Raleigh projections call for 40,000 additional jobs with completions in the 4,000 to 5,000 unit range.
Denver, DC Metro, and Austin, all received a B plus rating but with declining outlooks.
All of these markets have been strong performers for us over the past several years, averaging nearly 3% annual property revenue growth over the last three years and 2% last year, but we do expect market conditions to moderate over the course of 2021, given steady levels of new supply and increasing competition for new renters.
Supply demand ratios in Denver and DC remained steady with 65,000 and 90,000 new jobs anticipated respectively during 2021 with new supply coming in at roughly 8,000 and 12,000 new units respectively scheduled for delivery this year.
In Austin, new supply has been coming online steadily for several years with over 15,000 new units expected this year offset by roughly 60,000 new jobs.
In Southeast Florida, market conditions rate a B, an improving outlook after ranking at a B minus, C plus for the past two years, we're starting to see some improvement on the horizon and prospects for positive growth in 2021.
New supply has remained steady over the past few years at roughly 10,000 new units.
The 2021 estimates call for 70,000 new jobs in that market this year.
Competition from for sale and rental condominiums is still an issue in that market, but we expect slightly better operating conditions in 2021 and an improvement from the down 0.4% same-property revenue growth achieved last year.
Orlando earns a B rating with a stable outlook.
Job growth has moderated in Orlando, given their exposure to travel and hospitality industries and that trend should continue in 2021.
New development activity remains strong, so the level of supply should be steady this year with roughly 8,000 to 10,000 completions versus 25,000 to 30,000 new jobs.
Charlotte and Dallas, both received B minus grade with a stable outlook.
Our 2020 performance in Charlotte was slightly better than average for our portfolio but the ongoing high levels of supply, particularly in the downtown and in-town submarkets will challenge our pricing power in 2021.
Approximately 7,500 new units are anticipated this year versus roughly 8,000 that came online last year and the city should add over 50,000 new jobs.
Conditions in Dallas are similar with 17,000 new deliveries expected this year but job growth estimates are much stronger with over 110,000 new jobs expected.
A healthy economy in 2021 should help Dallas absorb the over 20,000 units it's delivered in each of the past few years.
But once again, competition will be strong and pricing power are likely to be limited.
We gave LA Orange County a C plus rating with an improving outlook.
Our portfolio in LA County saw higher delinquencies in bad debt in 2020 than most of our other markets.
But we're hopeful that conditions will begin to improve, particularly in the back half of 2021.
Orange County should perform slightly better, but still not as well as our Southern California markets including San Diego and Inland Empire.
LA Orange County faces healthy operating conditions without supply and demand metrics, job growth should be around 130,000 new jobs with completions of roughly 18,000 apartments expected this year.
Houston received a C rating this year with a stable outlook as we expect to see negative rent growth again this year.
Estimates for new supply are once again over 20,000 apartments coming online this year.
So we do expect Houston will continue to struggle with many new lease-ups getting high levels of concessions.
However, Houston's job growth may post decent recovery this year with nearly 100,000 new jobs expected which would certainly help absorb some of the inventory in our market.
Overall, our portfolio rating this year is a B with most of our markets expected to moderate slightly in revenue growth for 2021 compared to 2020.
As I mentioned earlier, all of our markets should achieve between a minus 2% and a plus 4% revenue growth this year and we expect our 2021 total portfolio same property revenue growth to be 0.75% at the midpoint of our guidance range.
Now a few details of our 2020 operating results.
Same-property revenue growth was one 0.1% for the fourth quarter and 1.1% for the full year of 2020.
Our top performers for the quarter were Phoenix at 5.7%, Tampa at 2.9%, Raleigh at 1.5% and Atlanta at 1.3% growth.
Rental rate trends for the fourth quarter were as expected with both signed and effective leases down around 4%, renewals in the mid-to-high 2% range for a blended rate of roughly down 1%.
Our preliminary January results indicate a slight improvement across the board for new leases, renewals and blended growth.
February and March renewal offerings are being sent out on an average of roughly 3% increase.
Occupancy averaged 95.5% during the fourth quarter compared 95.6% last quarter and 96.2% in the fourth quarter of 2019.
January 2021 occupancy has averaged 95.7% compared to 96.2% last January and is slightly up from 4Q20 levels.
Annual net turnover for 2020 was 200 basis points lower than 2019 at 41% versus 43% and as expected, move-outs to purchase homes rose seasonally for the quarter to about 19% but we're still at about 15% for the full year of 2020, which compares to an average full year move-out rate of about 15% over the last four years.
And before I move on to our financial results and guidance, a brief update on our recent real estate activities.
During the fourth quarter of 2020, we completed construction on both Camden Rhino, a 233 unit, $79 million new development in Denver and Camden Cypress Creek II, a 234 unit, $32 million joint venture new development in Houston.
Also during the quarter, we began leasing at Camden North End Phase II, a 343 unit $90 million new development in Phoenix and we acquired 4 acres of land in Downtown Durham, North Carolina for the future development of approximately 354 apartment homes.
In the quarter, we collected 98.6% of our scheduled rents with only 1.4% delinquent.
Once again, this compares favorably to the fourth quarter of 2019 when we collected 97.9% of our scheduled rents with an actually higher 2.1% delinquency.
We do typically see a slight seasonal uptick in delinquency.
Turning to bad debt.
In accordance with GAAP, certain uncollected rent is recognized by us as income in the current month.
We then evaluate this uncollected rent and establish what we believe to be an appropriate bad debt reserve, which serves as a corresponding offset to property revenues in the same period.
When a resident moves out owing us money, we typically have previously reserved 100% of the amounts owed as bad debt and there will be no future impact to the income statement.
We reevaluate our bad debt reserves monthly for collectability.
Last night, we reported funds from operations for the fourth quarter of 2020 of $122.4 million or $1.21 per share, $0.03 below the midpoint of our prior guidance range of $1.21 to $1.27.
This $0.03 per share variance of the midpoint resulted entirely from an approximate $0.035 or $3.5 million non-cash adjustment to retail straight-line rent receivables during the fourth quarter.
This adjustment represents retail revenue which under straight-line accounting, we had previously recognized but not yet received and its ultimate collectability is now uncertain.
Over 95% of this amount is from one retail tenant.
We had been in negotiations with since the summer.
As a fourth quarter progressed, it became apparent that significant lease restructuring might be necessary and we made the appropriate accounting adjustments.
Same-store net operating income was in line with the expectations for the fourth quarter as a slight outperformance in occupancy was offset by the timing of repair and maintenance expenses, higher property tax rates in Houston and the timing of certain property tax refunds in Washington DC.
For 2020, we delivered full year same-store revenue growth of 1.1%, expense growth of 3.8% and an NOI decline of 0.4%.
The midpoint of our 2021 FFO and same-store guidance is predicated upon a return to a more normal operating environment by mid-2021.
You can refer to Page 28 of our fourth quarter supplemental package for details on the key assumptions driving our financial outlook.
We expect our 2021 FFO per diluted share to be in the range of $4.80 to $5.20 with the midpoint of $5 representing a $0.10 per share increase from our 2020 results.
After adjusting for the fourth quarter 2020 $0.035 write-off of retail straight-line rent receivables and the 2020 full year $0.15 of COVID-19 related impact, which included approximately $0.095 of resident relief funds, $0.03 of frontline bonuses and $0.02 of other directly related COVID expenses, the midpoint of our 2021 guidance represents an $0.08 per share core year-over-year FFO decrease, which results primarily from an approximate $0.08 per share decrease in FFO due to higher net interest expense, which results primarily from the full-year impact of our April 2020 bond offering and actual and projected 2020 and 2021 net acquisition and development activity.
An approximate $0.06 per share decrease in FFO resulting primarily from the combination of higher general and administrative, property management and fee and asset management expenses combined with lower interest income resulting from lower cash balances and rates, an approximate $0.055 per share decrease in FFO related to the performance of our same-store portfolio.
At the midpoint, we are expecting a same-store net operating income decline of 0.85% driven by revenue growth of 0.75% and expense growth of 3.5%.
Each 1% change in same-store NOI is approximately $0.06 per share in FFO.
An approximate $0.04 per share decrease in FFO from an assumed $450 million of pro forma dispositions toward the end of 2021, an approximate $0.02 per share decrease in FFO from our retail portfolio, an approximate $0.015 decrease in FFO due to the non-recurrence of our third quarter 2020 gain on sale of our Chirp technology investment and an approximate $0.01 per share decrease in FFO from lower fee and asset management income.
This $0.28 cumulative decrease in an anticipated FFO per share is partially offset by an approximate $0.11 per share net increase in FFO related to operating income from our non-same-store properties resulting primarily from the incremental contribution of our six development communities in lease-up during either 2020 and/or 2021 and finally, an approximate $0.09 per share increase in FFO due to an assumed $450 million of pro forma acquisitions mid-year.
Our 3.5% budgeted expense growth at the midpoint assumes insurance expense will increase by approximately 30% due to the continued unfavorable insurance market.
Property insurance comprises approximately 4% of our total operating expenses.
The remainder of our property-level expense categories are anticipated to grow at approximately 2.5% in the aggregate.
Page 28 of our supplemental package also details other assumptions, including the plan for $120 million to $320 million of on-balance sheet development starts spread throughout the year.
We expect FFO per share for the first quarter of 2021 to be within the range of $1.20 to $1.26.
After excluding the $0.035 per share fourth quarter 2020 write-off of retail straight-line receivables, the midpoint of $1.23 for the first quarter represents a $0.015 per share decrease from the fourth quarter of 2020 which is primarily the result of a combination of lower fee and asset management income and higher overhead expenses attributable in part to the timing of our annual salary increases.
We anticipate sequential quarterly same-store NOI growth will be flat as the reset of our annual property tax accrual on January 1 of each year and the typical seasonal trends of other expenses, including the timing of on-site salary increases will be offset by anticipated property tax refunds in Washington DC and Atlanta.
As of today, we have just over $1.2 billion of liquidity, comprised of approximately $320 million in cash and cash equivalents and no amounts outstanding on our $900 million unsecured credit facility.
At quarter-end, we had $325 million left to spend over the next three years under our existing development pipeline and we have no scheduled debt maturities until 2022.
Our current excess cash is invested with various banks, earning approximately 30 basis points.
And finally, as I have discussed on prior calls, in 2019 and 2020, we set in play important technological advancements.
2021 will be the transition year that will lead to realized efficiencies in 2022, 2023 and beyond.
From cloud-based financial systems to virtual leasing to mobile access to AI technologies that allow us to meet residents on their schedule, we are poised very well for the recovery.
At this time, we will open the call up to questions. | compname reports qtrly ffo per diluted share of $1.21.
qtrly ffo per diluted share $1.21.
sees 1q21 ffo per diluted share of $1.20 - $1.26.
sees 2021 ffo per diluted share of $4.80 - $5.20. |
Earlier today, we reported record levels of sales and earnings in our second quarter.
We continue to see a good recovery from the pandemic-related disruption last year, with strong double-digit growth in each of our retail, wholesale and International segments.
Profitability is meaningfully higher than last year and significantly better than our pre-pandemic performance.
Earnings in the second quarter were up over 70% compared to our second quarter 2019 earnings.
Over the past year, we made structural changes in our business to help us weather the pandemic and emerge stronger from it.
We focused our product offerings on fewer and better choices.
We dropped low-margin styles and reduced product choices by over 20%.
We then increased the mix of higher margin, longer life cycle product choices, including our new sustainable Little Planet brand and Bold Basics product offering.
We ran leaner on inventories and reduced low-margin clearance and off-price sales.
With a better mix of inventory, our marketing focused more on brand building and less on promotions.
We strengthened our e-commerce capabilities during the pandemic last year to improve the experience for our high-margin online customers, including curbside pickup, same-day pickup and ship-from-store capabilities.
We launched a new mobile app and invested in RFID capabilities that we believe will improve inventory accuracy, sell-throughs and margins.
And we doubled our store closure plan to edit out lower-margin stores that have a low penetration of omni-channel sales.
The collective benefit of fewer better product choices, fewer better higher-margin stores, a better mix of high-margin e-commerce customers, leaner inventories and fewer and better promotions drove a meaningful improvement in price realization and profitability in the second quarter and first half this year.
Given our strong first half performance and expected continued benefit of structural changes to our business, we have raised our sales and earnings forecast for 2021.
In the second half, we expect sales and gross profit will be higher than previously planned.
Given the positive trends in our business, we're planning higher levels of spending in the second half to expedite deliveries from Asia, to support higher demand for our brands and to overcome pandemic-related delays in production.
We're also increasing our investments in eCommerce capabilities, brand marketing and employee compensation, which was curtailed during -- last year during the height of the pandemic.
These investments are expected to enable a strong finish to this year, and more importantly, get us off to a good start in 2022.
If we're successful with our balance of year plan, we will achieve a record level of profitability this year and build a stronger foundation to grow on in the years ahead.
In terms of sales trends, the second quarter got off to a good start as warmer weather arrived in more parts of the country, and consumers began to update their children's spring and summer outfits.
We saw better-than-expected demand in each month of the quarter.
The third quarter has also gotten off to a good start.
Our Retail segment was the largest contributor to our second quarter sales and earnings.
The collective benefit of a stronger product offering, higher margin e-commerce sales and fewer low-margin stores enabled us to achieve the highest second quarter retail operating margin in over 10 years.
eCommerce continued to be our highest margin business in the quarter with penetration growing to 38% of our retail sales, up from 27% prior to the pandemic.
Our store sales and earnings meaningfully outperformed our expectations in the quarter driven by higher units and better price realization.
Comparisons to our 2020 results are less meaningful given the COVID-related store closures last year.
Compared to the second quarter of 2019, retail sales were higher despite nearly 60 fewer stores.
We're on track to close over 100 low margin stores this year.
We estimate that the store closures will reduce our retail sales by nearly $90 million this year compared to 2019 but will improve profitability by over $5 million.
We continue to see a meaningful lift in the profitability of our stores located in markets adjacent to the stores that we closed.
Those transferred sales flow through a very high margin given the fixed cost structure of our store model.
We paused our store opening plan during the pandemic and are only opening one store this year.
Our real estate team is evaluating new store opportunities in the top 20 U.S. markets.
We expect to resume opening stores beginning next year.
We'll share those plans with you after they're firmed up later this year.
We continue to see more customers taking advantage of our omni-channel capabilities.
90% of our stores are located in outdoor shopping centers, which makes it more convenient for consumers to shop online and pick up their purchases at our stores.
Over 30% of our online orders in the quarter were supported by our stores compared to less than 12% last year.
We're focused on providing a higher service level to our omni-channel customers because they are our highest value customers.
They shop more frequently and spend nearly three times more than our single-channel customers.
Our retail and marketing teams are focused on the upcoming back-to-school shopping season.
We recently launched a highly creative OshKosh brand campaign focused on back-to-school outfitting.
We expect to see a very good recovery in our back-to-school sales this year.
We saw good growth in our wholesale segment in the second quarter driven by our flagship Carter's brand.
Collectively, our exclusive brands had good growth on top of the surge in demand last year during COVID-related store closures.
Our exclusive brands contributed nearly 50% of our second quarter wholesale sales.
We also saw good growth with our OshKosh and Skip Hop brands.
Many of our wholesale customers are also seeing the benefits that we are seeing by running leaner on inventory commitments, driving higher sell-throughs with less end-of-season clearance sales and better margins.
For the year, we're expecting good double-digit growth in wholesale sales and earnings, and growth with nine of our top 10 customers.
Together with our wholesale customers, our global eCommerce sales grew to over $0.5 billion in the first half this year, up over 60% compared to 2019.
No other company in children's apparel has the breadth and depth of eCommerce distribution that Carter's has, working with the largest online retailers in the United States.
We were recently honored by Target as their vendor of the year, recognizing Carter's for its performance during the pandemic.
We launched our exclusive brand with Target 20 years ago.
It has been a significant source of growth for us.
It provided a good model to launch our exclusive brands for Walmart and Amazon and enabled us to extend the reach of our brands to three of the most successful retailers in the world.
Together with our wholesale customers, we saw growth in each of our age segments from a newborn to a 10-year-old child.
A high percentage of our sales through our wholesale customers are Baby apparel.
Our Carter's brand is a traffic driver for the national retailers.
It's the brand consumers expect to see when shopping for their new baby.
Carter's is the best-selling brand in children's apparel.
It's the most recommended brand by moms for moms and has the highest level of social media engagement in kids apparel.
The latest U.S. market data suggests Carter's was the fastest-growing brand in young children's apparel in the second quarter.
Our sales growth in the second quarter was driven by Baby apparel with sales up over 30%.
Earlier estimates had suggested 300,000 to 500,000 fewer children would be born this year in the United States due to the pandemic.
First, we're estimated to decrease as much as 8% to 14% versus 2020.
The latest data from the CDC reflects first this year are down only 5%.
With the continued benefit of government stimulus, including the enhanced child tax credit, we may see a moderation in the decline in birth that would be good for our country and our company.
We also saw good growth in our toddler and kid size apparel.
The early read on back-to-school products like graphic tees, denim, uniforms is good.
Casual and comfortable styling continues to outperform special occasional fitting.
That said, with more people traveling, even the fancier outfits are picking up as parents are reconnecting with family and friends.
Our International segment was also a good contributor to our growth in the quarter.
International sales nearly doubled, recovering nicely from the pandemic-related disruption last year.
Our operations in Canada and Mexico had good growth despite COVID-related store closures.
More than half of our stores in Canada were closed for most of the second quarter due to government mandates.
We also saw good growth with our international wholesale partners, including Amazon.
eCommerce sales through our international segment grew by nearly 70% in the first half of this year driven by Canada and Amazon.
The drivers of our growth in international markets include new omni-channel capabilities launched in Canada earlier this year.
Consumers in Canada are responding very positively to the convenience of shopping online and picking up their purchases in our stores.
We are the largest specialty retailer of children's apparel in Canada with more than three times the share of our nearest competitor.
In Mexico, we plan to replicate the success we've achieved through our co-branded store model in the United States and Canada.
Over the next five years, we plan to convert all of our stores in Mexico to the co-branded model.
Mexico also launched eCommerce capabilities last year, and it's off to a good start, better than we had planned.
Our Simple Joys brand sold internationally through Amazon, is expected to be a meaningful source of growth for us in the years ahead.
Our wholesale relationships with retailers in Brazil and the Middle East are also expected to be good contributors to our growth.
With respect to our supply chain, we continue to be challenged by two to three week delays in the receipt of product from Asia.
This is a macro challenge affecting many retailers.
Transportation-related delays have improved relative to the first quarter, but COVID-related factory delays have continued to impact deliveries as infections from the virus appear to be outpacing access to vaccines in Asia.
We expect late deliveries will continue in the balance of the year, and we've reflected that risk in our forecasts.
To mitigate that exposure, we are expediting deliveries at a higher cost.
To the extent possible, we are also moving production schedules up to mitigate pandemic-related delays in Asia and the West Coast ports.
To date, we have not seen any meaningful order cancellations due to late deliveries to higher risk than usual.
Our freight costs will be higher this year, but they are being offset by better sell-throughs of our product offerings, fewer promotions, better price realization and higher margins.
We've had the benefit of lower product costs this year, but our suppliers are seeing inflation in cotton and polyester prices, which will impact our product costs beginning with our spring 2022 product offerings.
We have raised our prices for spring 2022 to maintain product margins next year.
Those price increases have been agreed to by our wholesale customers given the macro environment.
It is our intention to continue improving margins through SKU productivity, marketing effectiveness, store rationalization and better price realization.
In summary, we've had a good first half, and we are now projecting a much stronger-than-expected recovery from the pandemic.
Carter's continues to lead the market because of the strength of our brands, unparalleled market distribution and over 19,000 store locations and nearly 20,000 employees worldwide working to provide the very best value and experience in young children's apparel.
I'll begin on page two with our GAAP income statement for the second quarter.
Net sales were $746 million, up 45% from last year.
Reported operating income was $108 million compared to $21 million last year, and reported earnings per share was $1.62 compared to $0.19 a year ago.
Last year's second quarter results were heavily affected in the early days of the pandemic by store closures, which began in mid-March and continued through the balance of the second quarter, and the suspension of shipments to many of our wholesale customers.
Our second quarter results for 2021 and 2020 included unusual items, which are summarized on page three.
We've treated these items as non-GAAP adjustments to our reported results to enable greater comparability and provide insight into the underlying performance of the business.
My remarks today will speak to our results on an adjusted basis, which excludes these unusual items.
On page four, we summarize some highlights of our second quarter performance over the past three years.
Given the significant disruption to our business and the broader marketplace in last year's second quarter, we expected to post good growth over 2020, which we delivered.
As the chart indicates, we also delivered growth over our 2019 performance, especially in profitability.
Certainly, the recovery from the pandemic has been a significant contributor to our performance, but we've also made some fundamental improvements to our business, many of which Mike just enumerated.
We believe these factors will continue to drive our business going forward.
Moving to page five and our adjusted P&L for the second quarter.
Building on the 45% increase in net sales, gross profit grew at an even greater rate 57%, to $369 million.
Gross margin improved 370 basis points to 49.4%, a fifth consecutive quarterly record for us.
For reference, this year's second quarter gross margin was 540 basis points over what we achieved in 2019.
The expansion in our gross margin over last year was driven by strong product performance and strong wholesale customer and retail consumer demand.
We were less promotional in our U.S. retail business.
And saw a good recovery in demand for our core Carter's brand in the wholesale channel.
Product margins in the quarter were also helped by lower product costs.
These benefits were offset somewhat by higher transportation costs incurred in response to the supply chain disruptions that many companies are experiencing currently.
Royalty income nearly doubled to $7 million, driven by recovery in demand across our domestic and international licensees.
Adjusted SG&A increased 34% to $265 million, reflecting higher store payroll expenses given store closures a year ago, the restoration of compensation provisions, which were curtailed a year ago, and higher marketing spend.
Spending was lighter than we had planned, some portion of which was due to timing and will shift into the second half of the year.
Given the strong growth in net sales, SG&A leveraged 300 basis points to 35.5% of sales.
Adjusted operating income nearly tripled from $41 million to $110 million, and adjusted operating margin improved 680 basis points to 14.8%, reflecting our gross margin expansion and expense leverage.
On the bottom line, adjusted earnings per share was $1.67, up meaningfully from $0.54 in last year's second quarter.
Moving to page six.
Our balance sheet continues to be in great shape.
Our liquidity remains strong.
We ended the quarter with over $1 billion in cash on hand, and our total liquidity was nearly $2 billion when considering the availability under our credit facility.
Accounts receivable were fairly consistent year-over-year.
As expected, we saw a significant growth in wholesale sales.
Most of our customers have returned to their pre-pandemic terms.
And we've had good payment trends.
Quarter-end net inventories declined 8% to $620 million.
The quality of our inventory is very good, given strong demand and meaningfully lower excess inventory versus this time last year.
We're projecting that inventory will grow year-over-year through the balance of the year, in part because of how constrained second half inventory was a year ago.
And also, we're trying to bring in inventory earlier where we can, given the disruptions we've experienced in the supply chain.
We're expecting year-end net inventory to be up in the high single digits over the end of last year due to our efforts to accelerate product receipts and to support good planned demand in the first part of next year.
Our long-term debt is down over $240 million versus last year when we were partially drawn on our revolver.
Those borrowings were repaid in the second half of last year.
Given our strong first half performance, cash flow from operations was $50 million.
This was down from last year when our working capital initiatives in response to the pandemic yielded unusually strong cash flow, particularly for the first part of the year.
As we announced on our last call, our Board of Directors approved the resumption of our quarterly dividend, which was paid at $0.40 per share in the second quarter.
Given our strong liquidity and our improving outlook for the business, we continue to evaluate additional opportunities to return capital, including share repurchases over time.
Turning to page eight with a summary of our business segment performance in the second quarter.
Each of our segments grew net sales and profit dollars, and we saw substantial operating margin expansion in both the U.S. Retail and International segments.
In U.S. Wholesale, we saw improved profitability in several aspects of the business, including improved product margins and favorable mix with strong sales of the Carter's brand.
These gains were offset by higher transportation costs to expedite delayed product from Asia.
Corporate expenses as a percentage of net sales increased slightly to 3.8%, reflecting higher compensation provisions and consulting fees in support of our productivity initiatives.
Overall, our consolidated adjusted operating margin expanded to 14.8%.
Now for some additional information on each of our segment's performance in the second quarter, beginning with U.S. Retail on page nine.
We posted strong sales in our Retail segment above our expectations.
Our outperformance was driven by our stores and improved price realization.
As expected, eCommerce sales were down versus last year, given the surge in online consumer demand, especially in the early part of the pandemic.
As Mike noted, we have continued to make progress in improving the quality of our store portfolio and have closed nearly 90 stores year-to-date.
Profitability in the Retail segment improved substantially.
Gross margin and operating margin expanded due to the improvements in how we've been managing the business, including improved inventory management and lower promotional activity.
Now turning to page 10.
An important event in the quarter was the refresh of our core Baby assortment.
Previously, these products had carried the Little Baby Basics names.
This year, we've rebranded these offerings as My First Love in order to better capture the joy and emotion, which accompany the arrival of a new child.
These products are made with 100% Oeko-Tex certified cotton, which certifies that the manufacturing processes for our products eliminate exposure to potentially harmful chemicals.
We launched the My First love collection in June with a first of its kind live digital shopping event on carters.com, featuring styles curated by Bachelor Alum and Mom, Jade Roper Tolbert.
We're seeing strong consumer response to this year's launch in all of our channels.
Turning to page 11.
One of the most significant contributors to retail growth over the past several years has been our Age Up strategy.
The extension of our age and size ranges under the Carter's brand has been very well received by consumers and has allowed us to extend the length of our customer relationships and increase their lifetime value to us.
As shown on the slide, our Age Up product offering is comprised of differentiated and complementary assortments, including Carter's and OshKosh branded product.
Turning to page 12.
In addition to Carter's, the other great children's apparel brand in our portfolio is OshKosh B'gosh.
We acquired OshKosh in 2005 as a strategic and complementary brand, given its focus on playwear with its sweet spot in the toddler age range.
Since then, we have integrated the brand in all of our channels, stores, online and wholesale in the U.S., Canada and Mexico.
This iconic brand has over 125 years of rich history with a well-deserved reputation for quality and value.
We have photos in our archives of John F. Kennedy and Ronald Dragon visiting OshKosh facilities.
This is a brand whose history is intertwined with that of our country.
Over the past few years, we've made some significant changes to OshKosh, improving the focus and productivity of its assortments and updating the aesthetic to be even more unique and differentiated in the market.
We're currently on track to achieve the best year yet in OshKosh profitability.
Today, consumers rank OshKosh as one of the most recommended and durable children's wear brands, and one which they are proud to give as a gift.
Turning to page 13.
Building on this iconic heritage, our marketing team has developed a very creative new brand campaign for OshKosh.
The Today is someday campaign, Spotlights notable Trailblazers as children.
In the first series of ads, young versions of Mariah Carey, Mohammad Ali and Outcast all share messages of confidence and determination and encouraging the next generation to dream boldly about who they will become someday, all while wearing their OshKosh outfits.
The campaign is off to a strong start, generating outstanding impressions and consumer touch points since its launch.
Moving to page 14.
As we told you on our last call, we recently launched Little Planet by Carter's.
This brand has an overall emphasis on organic materials and sustainability, both of which are increasingly important to today's consumers.
Little Planet is also available in over 400 target stores nationwide, and we're planning to launch the brand on Amazon in spring 2022.
Our data suggests that Little Planet is attracting a largely new customer to Carter's.
And in the second half, we've allocated additional marketing spend to support Little Planet's continued growth and introduction to new customers.
page 15 highlights another important investment that we're making in our retail business.
We're currently implementing an RFID technology solution in our U.S. stores.
This technology is intended to improve our in-store inventory accuracy and support our growing omni-channel demand by making a broader range of in-store inventory available to consumers shopping online and opting for in-store pickup.
Additionally, it's expected to increase efficiency across numerous tasks in the store, better leveraging store labor and freeing up our associates to spend more time interacting with customers.
Ultimately, we believe RFID will be an important tool in our objective to run a higher-margin retail business through better inventory management.
We expect to complete the RFID rollout this fall, realizing some benefits beginning in the fourth quarter and more meaningful contributions in 2022 and beyond.
Moving to page 16, and our U.S. Wholesale business.
As expected, we posted strong sales growth in this part of our business in the second quarter.
A year ago, many of our wholesale customers canceled or deferred their orders as their stores closed in response to the pandemic.
While sales were strong across wholesale, the largest contributor to growth was increased demand for our core margin-rich Carter's brand.
Our My First Love assortment launched at wholesale in June, and we're seeing good performance and strong replenishment demand in this channel.
Overall segment profit increased to $41 million in the quarter, albeit at a lower margin rate as transportation costs were elevated and given favorable changes in inventory reserves, which occurred in last year's second quarter.
On page 17, our Simple Joys brand sold on Amazon continues to be an important presence for Carter's online.
Amazon shifted its meaningful Prime Day event back into the summer months this year, Simple Joys was featured prominently on the Amazon Prime Day banner page, along with other leading brands such as Keurig and Levi's.
Over the two day June prime event, sales of Simple Joys increased 70% over last year.
Page 18 features some of our recent marketing efforts with Kohl's, one of our most significant customers of the core Carter's brand in the wholesale channel.
This year, our marketing focused on launching the My First Love collection as part of Kohl's Baby sale in June.
Turning to page 19, and second quarter results for our International segment.
We saw strong growth in our International business in the second quarter, where sales nearly doubled to $91 million.
Canada was the largest contributor to our growth as sales in this market increased 75% over last year.
A good portion of our store base in Canada was closed for much of the second quarter due to the reimposition of government safety mandates.
Despite this, our stores outperformed our expectations, driven by strong consumer demand and improved price realization.
eCommerce was also strong in Canada with strong demand while the stores were closed as well as increasing utilization of the new omni-channel capabilities now in place in this market.
Business in Mexico and with our international partners also performed well in the second quarter.
Profitability in the International segment increased significantly over the loss posted last year driven by strong sales growth, improved product margin and expense leverage.
On page 20, our partnership with Riachuelo in Brazil continues to expand.
This new store recently opened in Rio de Janeiro.
Riachuelo currently distributes the Carter's brand in 260 of its own department stores and has opened seven stand-alone Carter's stores in Brazil.
Riachuelo is planning on having approximately 25 Carter's stores in Brazil by the end of 2021.
Riachuelo is also planning to develop the eCommerce channel later this year.
Despite the significant cover disruptions in Brazil, demand for the Carter's brand in this important market has been very strong.
On page 21, one of our most important international markets is the Middle East.
This region has been particularly hard hit in the past couple of years with lower oil prices and also by the impact of COVID.
But now with the price of oil having increased and the world beginning to open up, the outlook in this part of the world is improving.
Our partner recently opened this beautiful new Carter's store in the United Arab Emirates.
Our partner has nearly 40 stores in the Middle East, and the UAE is home to the largest freestanding Carter's store outside of North America.
Many stores in this market are some of the most productive Carter's stores in the world.
As we've mentioned on past calls, we've stepped up our focus on all things ESG.
And in this inaugural report, we provide a good overview of our commitments across a number of areas, including our sourcing activities, stewardship of the environment and workforce diversity.
On page s 23 and 24, we summarized our adjusted results for the first half of the year.
It's been a great start to 2021 with sales in the first six months, up 31% and significant gross margin expansion and SG&A leverage.
Our first half adjusted operating margin was 15.6% compared to low single-digits last year.
I'll note that our first half 2021 sales and earnings performance exceeded what we achieved prior to the pandemic in 2019.
It's also worth noting the strong improvement in our adjusted EBITDA in the first half of the year.
This performance obviously reflects the broader recovery in the marketplace after the historic disruptions of a year ago, but also the fundamental changes and improvements to how we run the business as we've been sharing with you.
Now turning to our outlook for the balance of the year, beginning on page 26.
On balance, we're optimistic about our prospects for the second half of the year.
We've raised our forecast for second half demand, even though there remains a good deal of uncertainty and risk in the marketplace.
We believe a number of factors will drive our second half, and we've summarized some of them on this slide.
As we've been discussing, we believe we've made some fundamental changes to how we run the business, and we intend to continue these disciplines going forward in areas such as assortment and SKU productivity, marketing efficiency and inventory management.
These changes have enabled the very strong gross margin performance we have posted the last number of quarters.
There are a number of issues, though, many outside of our control that we continue to monitor closely.
In recent days and weeks, the Delta COVID variant has emerged as a significant threat to the ongoing recovery of the country and world from the pandemic.
Infections and hospitalizations have been rising.
The impact on key aspects of our business is unknown, such as kids returning to school, which we expect will contribute to a very good back-to-school -- to very good back-to-school apparel sales.
We've mentioned factory and transportation delays, and we expect these issues may persist through the second half.
We've already incurred significant and unusual expense to expedite delivery of our product to the United States.
As we've demonstrated over the last 18 months or so, we intend to continue to actively manage through whatever the situation turns out to be, and we're well positioned to do so.
Turning to page 27.
We're fortunate, given our very strong first half performance, to be able to continue to invest in the business, especially when our senses, many others are retrenching.
While our demand forecast for the second half has increased, we will have higher spending relative to our previous expectations.
Some of the spending represents investments for the long term, including on technologies such as continuing to enhance our eCommerce and digital capabilities, upgrading our point-of-sale system in stores and adding new capabilities around pricing, data and analytics and RFID.
We will also spend more on marketing in the second half, some spend related to the OshKosh brand campaign, and higher spend on digital marketing, which has proven very effective for us.
We're also increasing our provisions for performance and other compensation for our employees, which were curtailed a year ago in response to the pandemic.
It's a competitive market out there, and this is one element of retaining and motivating our outstanding team.
Other spending is related to business continuity.
We will spend much more than typical on transportation costs.
Market rates have increased substantially through COVID, and we're spending extraordinary amounts on expediting delayed product.
This additional spending and some differences in the timing of revenue will affect the comparability of this year's second half to 2020.
It's important to look at the year in total, given these comparability issues, and we expect 2021 will turn out to represent extraordinary performance for Carter's.
Moving to page 28, and our specific thoughts on the outlook for the third quarter and full year.
For the third quarter, we're expecting net sales of approximately $960 million, adjusted operating income of approximately $110 million and adjusted earnings per share of approximately $1.60.
Today, we're raising our sales and earnings outlook for the full year.
We're now projecting net sales growth of approximately 15%, up from our previous view of 10%.
We've meaningfully increased our expectation for earnings growth.
Adjusted operating income is now expected to be approximately $475 million, up from our previous view of about $400 million.
If we achieve our forecast, this would represent record operating income and a very strong operating margin of about 13.5%.
Adjusted earnings per share is expected to grow approximately 75%, up from our prior view of plus 40%.
So finally, on page 29, here's a graphical depiction of our expected performance, dropping in our guidance for full year 2021.
We're not forecasting that we will get fully back to 2019's level of net sales, and that's all right with us.
With our focus on profitability, we're not repeating low margin sales from last year through the off-price channel or from low-margin stores, which are being closed.
Achievement of this forecast would represent a terrific year for us, and we're focused on executing a very strong second half of the year. | carter's q2 earnings per share $1.62.
q2 earnings per share $1.62.
q2 sales $746 million versus refinitiv ibes estimate of $715.5 million.
q2 adjusted non-gaap earnings per share $1.67.
sees q3 sales about $960 million.
company raises full year fiscal 2021 outlook.
quarterly dividend resumed in q2 at $0.40 per share.
sees q3 adjusted earnings per share about $1.60.
for fiscal 2021, projects net sales will increase approximately 15%, adjusted operating income will be approximately $475 million.
sees 2021 adjusted diluted earnings per share to increase approximately 75%. |
We're in the final weeks of a much stronger year and recovery than we had forecasted earlier this year.
Our fourth quarter is off to a good start.
Weather is turning cooler, Christmas shopping is underway, and we're seeing strong demand for our brands across all channels of distribution.
For the past 20 months, we've worked our way through, hopefully, once-in-a-lifetime global pandemic.
We were faced with store closures and school closures, travel restrictions and lockdowns, high unemployment and shipping delays.
So like other challenges in years past, the financial crisis back in 2008, the Great Recession that followed, and the cotton crisis in 2011.
Carter's employees use these periods of disruption to strengthen our company and emerge stronger from them.
We're forecasting sales this year at about 98% of the pre-pandemic level in 2019.
Over the past two years, we've intentionally edited out lower margin sales.
We focused our product offerings on fewer, better and higher margin choices, and reduced SKUs by about 20%.
We then increased the mix of higher-margin, longer life cycle products, including our new organic brand, Little Planet, and our Bold Basics product offering.
We ran leaner on inventories and reduced low-margin clearance and off-price sales.
Relative to 2019, our sales forecast this year reflects the closure of over 100 low-margin retail stores, a $50 million reduction in clearance sales, a nearly 50% reduction in low-margin off-price sales and lower demand from international guests, who historically were drawn to our low-margin clearance sales.
By focusing on higher-margin products, closing low-margin stores, running leaner on inventories, and focusing our marketing investments on brand building versus promotions.
We significantly improved price realization and margins this year.
We believe the fundamental changes made to our business are producing earnings and margins, which are sustainable.
Earlier this year, we shared our longer-term growth objectives with you.
Those projections are now being revised based on the progress we've made this year.
We'll firm up our revised growth objectives in the balance of the year, and share them with you early next year.
Those projections will reflect the benefits from improvements in our business and emerging macro factors that may be helpful to us.
There are multiple signs of a robust recovery in the post-pandemic period.
Americans at all income levels have more savings than the pre-pandemic period.
Wages are rising, not from government mandates but through supply and demand.
There are more job openings today than people seeking jobs, and Carter's is seeing a favorable trend in job applications.
The latest CDC data reflects an increase in births in the second quarter.
Birth trends are far better than projected this year.
And weddings, many postponed during the pandemic, are projected to increase to a near 40-year high next year.
It is expected that some portion of the spending plan proposed by Congress will be approved.
A meaningful portion of that proposed legislation is focused on helping lower and middle-income families, including enhanced child tax credits, child care and Universal pre-k for three- and four-year-old children.
This proposed legislation is focused on reversing a 13-year decline in U.S. birth, which would be good for our country and our company.
An improvement in birth trends could be a catalyst for Carter's.
Like every year, there are challenges, we will continue to work our way through.
We expect to be challenged by the lingering effects of the pandemic in the months ahead, including supply chain disruption and inflation.
Production and transportation delays have increased since we updated you in July.
In recent years, we reduced our exposure to China due to tariffs and other rising costs.
We shifted production to Cambodia and Vietnam, given their higher capacity for growth and lower costs.
Cambodia and Vietnam now produce over 50% of our unit volume.
By comparison, we source less than 10% of our products from China.
We believe that this shift in production will serve us well in the years ahead.
That said, Cambodia and Vietnam have lagged China in terms of vaccination rates and on-time production.
With broader access to vaccines in the months ahead, we expect on-time performance to improve next year.
Transportation delays have weighed on the growth that was otherwise possible this year.
Bottlenecks in the U.S. ports affected our third quarter sales, and have increased the risk of wholesale order cancellations in the balance of this year.
We've reflected that risk in our fourth quarter forecast.
To put the current challenge in perspective, we've seen up to 20-day delays getting our products through the West Coast ports.
There's been a 30% increase in shipping container volume this year.
By comparison, trucking capacity is up only 8%.
In recent months, we've invested an unprecedented level of air freight to expedite the receipt of essential core products to serve the needs of families with young children.
We focus that effort on product offerings for our largest wholesale customers who supported our brands during the most challenging periods of the pandemic.
With only eight weeks to go before Christmas, the selling windows are shortening.
We are proactively engaging our wholesale customers and together deciding what products to ship in the balance of the year, which product should be packed and held over to next year, and what orders should be canceled.
Transportation delays may moderate in the months ahead.
Historically, the peak shipping volume is from July to October.
The post-holiday shipping period may give the dock workers and truck drivers time to catch up as we head into the spring season next year.
Transportation rates will be higher heading into 2022.
We have negotiated and locked in higher, but very favorable freight rates with our suppliers and have largely avoided the abnormally high spot market rates for ocean containers.
Inflation will impact our product costs next year.
Our suppliers are raising their prices to help offset higher cotton and polyester prices.
We're planning a mid-single-digit percentage cost increase for our spring and summer product offerings.
We've raised our prices by a similar percentage, and our wholesale customers have agreed to those increases.
To put it in perspective, a mid-single-digit wholesale price increase is about $0.30 per unit.
Based on our market analysis, we believe we will be competitive on pricing next year, and we'll continue to offer a compelling value to families with young children.
For the year, we expect our retail business will drive nearly half the growth in our total sales.
Our stores are expected to be the highest contributor to our annual revenue this year with store sales projected to exceed $1.1 billion.
We saw a very strong recovery in back-to-school sales, and good demand for our older age segment product offerings.
The profitability of our stores is forecasted to grow by over 30% relative to 2019 on nearly $150 million less revenue driven by our reduction in SKUs and closure of low-margin stores, leaner inventories, fewer clearance sales and improved price realization.
Carter's has the largest eCommerce platform focused exclusively on young children's apparel.
Our U.S. eCommerce penetration is forecasted to be nearly 40% this year, up from less than 32% in 2019.
Relative to 2019, our eCommerce business has been our fastest-growing and highest-margin business.
We've invested significantly in technology in recent years that has provided consumers with the convenience of shopping online the ease of same-day pickup of those orders in our stores and access to the full scope of our product offerings with easy online shopping in our stores.
With our investment in RFID capabilities, we're expecting higher productivity of inventory and faster shipping by leveraging over 70% of our stores to fulfill online orders.
Increasingly, our stores are providing a higher service level to our margin-rich online customers.
Year-to-date, nearly 30% of our online orders were fulfilled by our stores.
Consumers who shop both online with us and in our stores are our highest value customers.
They spend nearly 3 times more a year than our single-channel customers.
Carter's is a traffic driver for shopping centers.
Given the consumer staple nature of our business, with children rapidly outgrowing their outfits in the early years of life, our brands drive frequent visits by families with young children.
We've seen the benefit of a more favorable rental market in our lease negotiations this past year.
Our average remaining lease term is less than 2.5 years, which gives us the flexibility to negotiate better rates or exit the site.
We renegotiated over 25% of our leases this year, and over 70% of those renewals were at a lower cost.
Given the more favorable rental market, our real estate team is pursuing opportunities to open more stores than previously planned.
Our focus will continue to be exiting low-margin stores upon lease expiration and opening higher-margin stores in centers located in densely populated areas with good co-tenancy, a high return on investment and the flexibility to exit if our investment objectives are not met.
We'll firm up our store opening plan in the balance of this year and share the revised growth plan with you in February.
Our Wholesale business is forecasted to be the second largest contributor to the sales -- to our sales this year.
The largest component of our wholesale sales and earnings growth is expected from our flagship Carter's brand, which was affected by store closures last year.
Demand from our wholesale customers this year exceeded our ability to support that demand because of supply chain delays.
That said, we believe we'll have the inventory needed to support our growth objectives this year.
Our total wholesale sales this year are not expected to be back to the 2019 level.
Some of our wholesale customers were more conservative with inventory commitments due to pandemic-related uncertainties.
That said, with leaner inventories, these retailers are experiencing higher sell-throughs and margins this year.
Relative to 2020, we're forecasting higher wholesale margins and nearly 20% earnings growth for our Wholesale segment this year.
Our wholesale margins will be affected by higher air freight costs in the second half.
Going forward, our annual freight costs are expected to be a fraction of the nearly $40 million investment we're planning this year.
We are the largest supplier to the largest and most successful retailers in North America.
No other company in children's apparel has the scope of distribution we've built over the past 20 years with our brands sold in over 19,000 store locations, and on the largest, most successful online platforms.
Together with our wholesale customers, the online sales of our brands this year have exceeded $1 billion, up over 50% compared to 2019.
We're also seeing a strong recovery in our international sales and profitability.
International sales are projected to exceed 13% of our annual sales this year, which would be a record level of sales and profitability.
Our operations in Canada are expected to contribute the largest component of our international sales and earnings.
We have the largest share of the children's apparel market in Canada, more than twice the share of our nearest competitor.
Despite extensive COVID-related store closures in the first half, our sales in Canada are projected up 16% this year, including over 10% growth in store sales and nearly 30% growth in e-commerce sales.
In Mexico, we are executing the same strategy that served us well in Canada and the United States.
We are converting all of our stores in Mexico to the more productive and more profitable co-branded model with the very best of our Carter's, OshKosh and Skip Hop brands.
Like Canada, we built a multichannel model in Mexico with eCommerce and wholesale distribution capabilities.
Wholesale distribution is an important component of our international growth strategy.
Our brands are sold in over 90 countries through wholesale relationships, including Amazon, Walmart and Costco.
We expect our international eCommerce sales to exceed $100 million this year, more than double the pre-pandemic period.
In summary, we're emerging from the pandemic, a stronger and more profitable company.
We've made substantive and sustainable structural changes to our business, which we believe will enable us to build off a higher level of profitability in the years ahead.
Carter's is the best-in-class in young children's apparel.
Our brands have withstood the test of time in many market disruptions over the past 100 years.
We've served the needs of multiple generations of families with young children and believe we're well positioned to benefit from the post-pandemic market recovery.
I'll begin on Page two with our GAAP income statement for the third quarter.
Net sales were $891 million, up 3% from last year.
Reported operating income was $124 million, up 9%, and reported earnings per share was $1.93, up 4% compared to $1.85 a year ago.
Our third quarter results for 2021 and 2020 included unusual items, which we summarized on Page three.
We've treated these items as non-GAAP adjustments to our reported results to enable greater comparability and insight into the underlying performance of the business.
The adjustments were not meaningful in this year's third quarter.
Last year's adjustments totaled $6 million in pre-tax expenses.
As I speak to our results on an adjusted basis today, these unusual items are excluded.
Page four summarizes our third quarter performance over the past three years.
As Mike noted, while we saw strong demand for our brands in the third quarter, top line sales performance was constrained by delays across the global supply chain.
These delays had particular impact on our U.S. wholesale business where we've estimated we achieved about $70 million less in sales than we had planned.
Despite this challenge, better-than-planned gross margin and expense management enabled us to exceed our earnings objectives.
For the third quarter, we posted record gross margin rate and gross profit dollars.
Our adjusted operating margin was also strong at nearly 14%.
As shown in the chart, despite lower revenue, we exceeded our 2019 pre-pandemic profit performance in 2021.
Given our strong liquidity and improved profitability, we resumed share repurchases in the third quarter.
When including dividends paid, our cumulative return of capital to shareholders through the third quarter was $145 million.
Moving to Page five, and our adjusted P&L for the third quarter.
Building on the 3% growth in net sales, gross profit grew 7% to $409 million, and gross margin improved 150 basis points to 45.9%, both records, as I've mentioned, our gross margin expansion was driven by strong consumer demand and less promotional activity, which resulted in improved price realization.
These benefits were partly offset by higher freight charges, particularly air freight, and the unfavorable comparison to last year's third quarter release of inventory reserves.
Royalty income was down about $1 million.
Last year's third quarter was particularly strong as shipments of licensed products surged as stores reopened.
On a year-to-date basis, royalty income has grown by 13%.
Adjusted SG&A increased 7% to $293 million, compensation provisions, which were significantly curtailed a year ago in response to the pandemic, were higher as was spending on brand marketing and technology initiatives.
Spending was lower than we had planned, and was well controlled.
The organization did a good job cutting back and deferring spending where possible, especially if the outlook for delays and the receipt of inventory became more pronounced.
Adjusted operating income was $124 million, up 4% compared to last year, and adjusted operating margin improved 10 basis points to 13.9%.
Below the line, there were a couple of factors which reduced the flow-through of year-over-year growth in operating income.
First, we had a modest FX-related loss in the quarter compared to an FX gain a year ago.
Second, our effective tax rate was higher than last year, 21.6% compared to 19% in last year's third quarter.
This increase reflects a greater mix of U.S.-based income and higher nondeductible compensation expense relative to last year.
For the full year, we're forecasting an effective tax rate of approximately 23% versus around 19% last year.
Our average share count was consistent year-over-year, while we executed meaningful share repurchases in the quarter.
It takes some time for that benefit to be reflected in the average share count used in calculating EPS.
So on the bottom line, adjusted earnings per share were $1.93 compared to $1.96 in last year's third quarter.
Moving to Page six with a recap of our balance sheet and cash flow.
Our balance sheet and liquidity remained very strong.
We ended the quarter with nearly $950 million in cash, and total liquidity of $1.7 billion when including available borrowing capacity under our credit facility.
Quarter end net inventories were 12% higher than last year.
At quarter end, we had $272 million of in-transit inventory, an increase of over 100% versus a year ago.
As we've said, production and transportation delays in the supply chain have been extensive in our business as they have been for many others as well.
We believe our inventory quality is very good, and we're well reserved for known issues.
We're projecting that year-end inventories will also be up low double digits, reflecting plans to bring in product earlier to offset potential transportation delays, and given good demand planned in the first half of next year.
Year-to-date cash flow from operations was $7 million compared to $319 million last year.
Last year was a very unusual year given the significant extension of vendor payment terms and rent deferrals.
This year's cash flow is benefiting from our growth in earnings, but the changes in working capital, including higher inventory, are working against us.
As the business continues to recover from the pandemic, we expect to return closer to our historical profile of generating significant operating and free cash flow.
As a reminder, our operating cash flow in 2019 was nearly $400 million.
We resumed share repurchases in Q3, buying back $110 million of our stock.
Share repurchases under our current trading plan have continued in the fourth quarter, bringing cumulative repurchases in 2021 to just over $190 million.
This brings our cumulative return of capital year-to-date, including dividends, to over $200 million.
Turning to Page eight with a summary of our business segment performance in the third quarter.
Our U.S. Retail and International segments delivered top line growth and good margin expansion, particularly our U.S. retail business.
Our U.S. wholesale business was disproportionately affected by the late receipt of product and higher freight costs, both of which weighed on sales, and a specialty segment operating income.
The increase in corporate expenses is largely attributable to higher compensation expense given our strong performance this year and the comparison to last year when many aspects of compensation had been curtailed.
All in, our consolidated adjusted operating margin improved to 13.9%.
Our year-to-date performance is summarized on Page nine.
We've had very strong growth in both sales and earnings in 2021 as the business has rebounded.
Year-to-date sales were up 19%, and our profitability is up significantly with adjusted operating income growth of 171%, and our adjusted operating margin expanding to 15%.
Year-to-date profitability in all of our business segments is up meaningfully.
Now moving to some individual business segment highlights for the quarter, beginning in U.S. retail on Page 10.
Our retail team did a great job managing through the quarter, delivering sales growth and even more significant profit improvement.
Delays in inventory receipts also affected our retail business.
Net sales in our U.S. retail segment grew 4%, with comparable sales growing nearly 6%.
The schools resuming in-class instruction this year, we saw a nice recovery in back-to-school demand.
We achieved a double-digit comp over the Labor Day selling period, with strong growth in our big kid sizes and playwear product categories.
U.S. retail profitability improved meaningfully in the third quarter.
Our retail team continued to make good progress in expanding gross margin through more effective pricing, promotion and inventory management.
Additionally, the strong retail comp sales performance in the quarter allowed us to leverage the fixed cost of the business.
Regarding fixed costs, our store optimization program has allowed us to eliminate about $30 million of annual costs related to low-margin stores, which we've now closed.
On Page 11, we have several significant technology initiatives underway in retail currently, two of which we've summarized here.
First, we're in the process of replacing our point-of-sale system in the stores.
This initiative includes both new software and the replacement of legacy hardware in the stores.
This new POS is expected to drive a number of benefits, including a significant reduction in checkout times.
Our initial experience has indicated it is as much as 50% faster.
The new POS will also better integrate the store and eCommerce experiences for consumers, and ultimately enable some of the innovative initiatives we're planning in marketing, including personalization.
These marketing personalization capabilities are intended to drive stronger, more enduring and more profitable relationships with our customers.
On our last call, we told you about our RFID initiative.
We've completed the initial deployment of RFID-tagged inventory to our stores, and have conducted extensive training with our retail team.
It will take into next year for all of our store inventory to be tagged, but we will start to realize some of the benefits of this technology right away, including improved visibility to store-level inventory, which will enable greater store fulfillment of online orders.
Our retail field team is very excited about this new technology, and what it will mean in terms of better serving customers in addition to the numerous operational and profitability benefits, we believe it will drive over time.
Now turning to Page 12, and some of our Carter's marketing in the third quarter.
One of our core strategies is to win in Baby.
Baby is the core of the Carter's brand, and we enjoy significant credibility with consumers, having served generations of families with young children, especially those with new babies.
We understand the challenges which come with welcoming a new baby.
Our research has told us that most new parents are looking for reassurance that they're on the right track.
Our marketing team recently created the "Made for This" Carter's brand campaign.
This highly emotional spot features a mother, now a grandmother, speaking to her daughter who has just had her first child.
We've received great feedback and engagement from consumers so far.
We've included the link to the video and encourage you to watch it.
Our marketing team recommends that you have some tissues nearby when you do.
Our Carter's marketing also increasingly speaks to consumers shopping for older children.
Our objective with Age up is to meet the needs of parents shopping for up to about a 10-year-old child and to increase the lifetime connection and value of our customer relationships.
Sales of these older age range products have driven meaningful sales growth in our retail business in recent quarters, and were our fastest-growing product segments in the third quarter.
Turning to Page 13, and the OshKosh brand.
Back-to-school is a key selling period for OshKosh.
As expected, with the return of in-person learning in most of the country, we had planned for a good back-to-school season, and that's what we delivered, especially with OshKosh.
As we told you on our last call, we kicked off back-to-school with a new OshKosh brand campaign, Someday is Today, featuring icons Mariah Carey, Muhammad Ali and Outkast.
This campaign resulted in $2.5 billion earned media impressions and a strong lift across all key brand metrics.
As a fast follow-up to the campaign, we partnered with leading fashion house Kith to present its first-ever kids brand collaboration.
Capsule Collection paired Oshkosh's iconic heritage and timelessness with kid's modern aesthetic and edge and pop culture to reintroduce the brand to parents in a whole new life.
Turning to Page 14.
Holiday selling is underway, and we're pleased with early demand so far.
Given the challenges of last year, including the COVID surge late in the year, which kept many families apart for the holidays, we think consumers are in a celebratory mode this year, and our holiday messaging this year will emphasize families celebrating together.
In the spirit on Page 15, in addition to beautiful holiday products, we're continuing to develop new and innovative ways to drive consumers to our stores and to our award-winning website throughout the holiday season with exclusive giveaways and child and parent-focused experiences.
First up is one of its kind collaboration with Vistaprint, where customers can order their annual holiday cards with a backdrop showcasing Carter's signature PJ prints.
Family dressing, especially in Carter's iconic Christmas Pajamas, has been a very strong trend in our business for the last several years, and this Vistaprint collaboration is a new way to extend and enhance this touch point with consumers.
On Page 16, we're continuing to leverage social media as a key way to connect with parents.
We've recently expanded into new social channels such as TikTok, and we've increased our video content as we continue to increase our relevance to in connection with today's parents, especially those from Gen Z. This strategy continues to pay dividends as we captured over 70% of kids apparel social engagement on Instagram in Q3, and continue to grow our community of parents.
Moving to Page 17, and our U.S. wholesale business.
Wholesale segment sales were $294 million compared to $302 million in last year's third quarter, a decline of 3%.
We've talked a lot about late inventory receipts, and wholesale was our most affected business in this regard.
The Baby category is heavily penetrated in our wholesale business, and much of this product is manufactured in Cambodia and Vietnam.
Two countries heavily affected by COVID.
As such, inventory availability was particularly acute in this part of our business.
Because of these inventory issues, we realized about $70 million less in wholesale sales in the third quarter than we had planned, with these orders rolling from Q3 into the fourth quarter.
Fortunately, the majority of this $70 million has now shipped.
Our customers remain hungry for inventory.
And to date, we've not seen any meaningful customer order cancellations.
The risk of order cancellations remains elevated though, particularly if delays of fall, winter and holiday product persist or worsen as we move deeper into the fourth quarter.
Relative to our previous forecast, we have increased our estimate of shipments previously planned to occur in the fourth quarter, which will be affected by late arriving product.
We're expecting fourth quarter wholesale sales will be up mid- to high single digits over last year.
Our supply chain and wholesale teams have worked around the clock for many months now under very adverse circumstances in order to serve our customers in the most complete and efficient manner possible.
Bright spots in the third quarter included good overall sales growth with our exclusive brands, and strong replenishment demand for our core My First Love Baby products under the Carter's brand and the replenishment components of the exclusive brands businesses.
Adjusted segment income was $40 million compared to $67 million in last year's quarter.
Segment margin was 13.7%, down from 22.3% last year.
This lower profitability is due to a number of factors as summarized on this page.
One very notable driver has been the very significant expenditures for air freight in the wholesale segment, which were about $15 million in the third quarter.
As Mike mentioned, this is a significant multiple of what we've spend in any given year.
As I mentioned, year-to-date performance of all of our business segments, including wholesale, has been strong.
Year-to-date wholesale margins are up 360 basis points over last year.
And for the full year, we're forecasting higher earnings and margin expansion in the U.S. Wholesale segment.
Moving to Pages 18 and 19.
Our strong wholesale business is a unique strength of Carter's business model.
Our wholesale partners provide 19,000 points of distribution across North America.
Throughout the pandemic, we've leaned into marketing support for our wholesale customers, especially Kohl's, Macy's, Target, Walmart and Amazon, which have been such important destinations for consumers seeking our brands during the pandemic.
Our wholesale customers recognize the importance to consumers of having Carter's and OshKosh as the market-leading brands on their sales floors and websites.
This marketing highlights our Fall and Holiday product and utilizes our iconic photography and branding, which consumers have come to know so well.
As the world continues to recover from the pandemic, many of our wholesale customers have strengthened their market positions with consumers and as such, remain very important destinations for our products.
On Page 19, we show some of the rich holiday marketing planned by Kohl's and Macy's, which will prominently feature the Carter's brand.
Turning to Page 20, and International segment results.
Reported segment sales grew 15% in the third quarter.
On a constant currency basis, segment sales grew 10%.
International wholesale in Canada drove the strong growth.
Sales in Canada grew 5%, reflecting growth in both eCommerce and stores since launching omni-channel capabilities.
Earlier this year, Canada's omni-channel demand has ramped nicely, with stores supporting over 25% of online orders.
Sales to international wholesale customers grew 70% over last year, principally driven by demand from our partner in Brazil and Amazon outside the United States.
Profitability in the International segment increased meaningfully over last year, with adjusted operating margin increasing 17.4%.
This performance reflects strong sales growth and improved gross margin.
On Page 21, we continue to make good progress holding our business in Mexico despite significant COVID-related disruption in this market over the past 20 months.
We've opened three new co-branded stores in Mexico this year, including this one in Monterrey, which has quickly jumped to be one of our highest performing locations.
Turning to an update on our supply chain on Page 23.
As we've been discussing, there are a number of supply chain related challenges we're managing through right now.
These issues are not unique to Carter's.
Fortunately, we've taken strong steps to address these issues.
First, as it relates to delayed product, we've managed the situation over the past number of months in close collaboration with our wholesale customers and our suppliers.
Where necessary, we canceled production in order to avoid order cancellation, and the creation of excess inventory and related liabilities.
Our mindset has been to maximize the return on investment on our inventory rather than default to heavy clearance activity or overreliance on the off-price channel.
We've developed new strategies to pack-and-hold inventory for future seasons and to make greater use of our own retail channel to sell through excess inventory.
In certain cases, we've spent to expedite product from Asia to the United States.
While we certainly don't relish spending so much on air freight.
We're fortunate to have the financial strength to be able to do so.
Many other companies do not have this same ability.
Second, transportation delays and higher transportation costs have been well documented issues in the marketplace.
Our teams have responded well by reducing our reliance on the heavily congested West Coast ports.
And we've renegotiated our ocean freight agreements in order to improve speed and service, and lock in rates below where spot market prices have trended.
Third, cotton and oil costs are up.
These higher input costs will affect our 2022 product costs.
Fortunately, our global sourcing teams have locked in product costs for the first half of next year, which are only up modestly and within our ability to cover with higher pricing.
As a point of reference, we've estimated that raw cotton represents about 16% of the cost of a finished good.
So movements in that particular input are usually very manageable.
We've always considered our supply chain capabilities to be a competitive and strategic asset for Carter's.
This perspective has been validated over the last year as our teams have responded so admirably to the various challenges that the pandemic has presented.
Now for our outlook for the balance of the year, beginning on Page 25.
For the fourth quarter, our outlook for sales in total has improved relative to our previous forecast.
This is driven in part by the movement into Q4 of wholesale shipments previously planned to occur in the third quarter, and higher forecasted international demand.
As we indicated on our last call, there are several factors affecting comparability to last year's fourth quarter, and these factors are listed here.
We're expecting to post sales of over $1 billion in the fourth quarter with adjusted operating income of $127 million and adjusted earnings per share of approximately $2 per share.
For the full year then, on Page 26, we were encouraged by our profit performance in Q3, a combination of improved gross margin despite incurring extraordinary transportation costs and overall effective management of other spending across the business.
Our updated forecast essentially flows through the profit upside realized in the third quarter to the full year.
So on somewhat lower full year projected net sales, we've increased our profitability forecast.
If we're successful in achieving our forecast, 2021 would represent record profitability for the business, and grow far greater than we thought possible this year.
The charts on Page 26, show our performance for 2019 and 2020, in addition to our current outlook for 2021's full year results.
We're now targeting full year net sales of approximately $3.450 billion.
Adjusted operating income of $490 million, up from our previous forecast of $475 million, and adjusted earnings per share of $7.57, up from our previous guidance of $7.28.
We're focused on delivering a very strong fourth quarter to conclude what's been a very good year for Carter's. | compname reports q3 earnings per share of $1.93.
q3 earnings per share $1.93 .
q3 adjusted non-gaap earnings per share $1.93.
sees fy adjusted earnings per share about $7.57.
compname reports q3 adjusted non-gaap earnings per share of $1.93. |
It was a year ago this week that we reported our 31st consecutive year of sales growth.
In 2019, we achieved record levels of sales, earnings per share and cash flow.
As you may recall 2020 got off to a good start for us with mid-single-digit growth in sales through February 2020 was forecasted to be another good year of sales and earnings growth.
By mid-March a global pandemic and national emergency had been declared and the lives of people throughout the world were disrupted.
In the months that followed we worked to keep our employees and our store customers safe from the virus.
We reduced spending, negotiated lower product costs and improved liquidity.
We significantly reduced our exposure to excess inventories caused by temporary store closures.
And by curtailing inventory commitments, we were able to improved price realization and margins last year.
When the pandemic hit, we accelerated the execution of new capabilities to support the same-day pickup of eCommerce orders in our stores, curbside pickup and the direct shipment of eCommerce orders from our stores.
We engaged remotely with our wholesale customers, leveraged our investments in digital product imagery and secured higher bookings for our product offerings this year.
We also engaged more deeply and effectively with consumers through social media, building a virtual community of families with young children.
During the pandemic, we added over 2 million new eCommerce customers and with the support of our wholesale customers, the online sales of our brands exceeded $1 billion last year.
The pandemic was a challenging experience for all of us, but it also enabled us to find new ways to improve our business.
We believe the foundation of our company is now stronger because of the pandemic and we are better positioned to weather future storms that may occur.
It was the strongest quarter of the year in terms of sales and earnings contribution and the performance was in line with what we had planned.
We reporting a record gross profit margin in the fourth quarter enabled by a stronger product offering, leaner inventories and more effective marketing.
As planned, spending grew in the quarter, driven by investments in eCommerce, better staffing and retention in our distribution centers and the partial restoration of compensation for all of our employees.
Compensation was curtailed for several months earlier in the year.
With respect to sales trends, the fourth quarter got off to a strong start with October sales at 95% of prior year sales, consistent with the very strong demand we saw in September.
On a comparable basis, normalizing a holiday calendar shift and excluding the 53rd week.
November and December sales were 84% of prior year sales.
Our best analysis of the deceleration in demand relative to September and October reflects lower store traffic due to the resurgence of the virus heading into the final months of the year.
And we're lean on inventories heading into the holidays and less promotional than last year.
Sales trends improved meaningfully at the end of December and continued into January.
We saw growth in January sales and are expecting first quarter sales to be comparable to last year.
March is expected to be the largest month of sales and earnings contribution in the first half this year.
March sales have historically been driven by Easter holiday shopping and the arrival of spring like weather in more parts of the country.
We're expecting very good growth in the first half of this year as we comp up against temporary store closures last year.
And for the year, we're also expecting good growth in sales and profitability despite the lingering effects of the pandemic.
Our Retail segment was the largest contributor to our fourth quarter sales and profitability.
All of our U.S. stores remained open for the quarter though we did curtail hours 13% based on lower traffic.
COVID continues to have a material impact on store traffic.
Our border and tourist stores have been most affected by the pandemic.
Our border and tourist stores represent 10% of our U.S. stores that contributed over 20% of the decline in comparable sales.
This past year, we saw a fewer international guests in our stores and fewer shopping with us online.
In part, we attribute the decline in online demand from international customers to a significant reduction in our promotions this past year.
Those who came into our stores in the fourth quarter came to buy.
Our store conversion rate grew 5% in the quarter.
The average transaction value grew 9%, driven by higher units per transaction and better price realization.
We ran much leaner in store inventories in the fourth quarter, recall that we curtailed fall and winter inventory commitments when the risks of the pandemic became clear to us in March.
With leaner inventories, we focused our marketing less on promotions and more on the beauty of our product offerings.
In the fourth quarter 94% of our comparable stores were cash flow positive.
Our mall stores saw the largest decrease in comparable sales.
90% of our stores are in open-air shopping centers and these stores outperformed the chain.
As we shared with you last year, we plan to close about 25% of our 2019 store portfolio upon lease expiration.
About 60% of those closures are planned this year, 80% of the closures are planned by the end of next year.
These stores collectively contributed over $140 million in sales in 2020 with an EBITDA margin of less than 3%.
By comparison, the balance of our stores had an EBITDA margin of nearly 18%.
Our focus is on fewer better higher margin stores located in more densely populated areas to provide a higher level of convenience to in-store and online customers.
Our store closure plan is expected to be accretive to earnings in 2021 and provide a $10 million cumulative earnings benefit by 2025.
ECommerce continues to be our fastest growing and highest margin business.
ECommerce penetration grew to 45% of our retail sales, up from 38% in the third quarter.
Increasingly, we are seeing customers enjoy the convenience of picking up their online purchases at our stores located closer to their homes.
Omni-channel sales grew to 24% of our eCommerce orders in the fourth quarter, up from 12% last year.
Last year, we leveraged our stores from Maine to Hawaii to ship online purchases from over 600 stores.
As a result, we improve the speed of delivering online purchases and improve the profitability of our eCommerce business.
We expect the mix of omni-channel sales to grow to nearly 40% of online orders by 2025.
Our Wholesale segment was the second largest contributor to our fourth quarter sales and profitability.
Collectively, we continue to see double-digit growth with our exclusive brands which were margin accretive in the quarter.
ECommerce sales of our brands through our wholesale customers grew over 30% in the fourth quarter and up over 50% for the year.
Sales of our flagship Carter's brand were lower in the fourth quarter, reflecting our decision to curtail fall and winter inventory commitments.
Off-price sales were also lower in the quarter.
The excess inventories created by temporary store closures and related cancellations due to the pandemic were largely sold through our own stores at higher margins.
Going forward, we will continue to use our own stores to move through a higher percentage of excess inventories rather than selling to the off-price channel.
Spring selling is off to a good start with our wholesale customers.
They too are leaner on inventory, have a lower mix of prior season goods and are seeing better price realization and margins.
We're projecting very good growth in wholesale this year, especially in the first half, assuming all stores remain open.
Our International segment contributed over 11% of our fourth quarter sales.
Canada and Mexico contributed nearly 90% of our international sales.
Our eCommerce sales in those markets grew over 60% in the fourth quarter and grew to 30% of our international retail sales from 18% last year.
Both businesses performed remarkably well despite COVID-related store closures in the fourth quarter.
In Canada and Mexico, many of our stores were closed in the weeks leading up to Christmas.
Some of those closures continued through February.
The strength in our international wholesale sales was our Simple Joys brand sold exclusively through Amazon.
That business nearly doubled in the fourth quarter with Amazon's expansion of our brand into Europe and Japan.
Most challenging component of our International segment is with smaller retailers, representing our brands in over 90 countries.
Though individually small, collectively they contributed about 15% of our international sales in 2019 and were margin accretive.
Wholesale sales to these retailers were down over 50% in the fourth quarter.
Based on bookings from these wholesale customers, we're projecting a good recovery in this component of our business this year.
Our supply chains did an excellent job, supporting the continued acceleration in eCommerce demand in the fourth quarter.
The speed of delivering online purchases was meaningfully better than last year and we saw a related improvement in our customer satisfaction ratings.
In 2020, we invested to ensure the safety of our distribution center employees, raised their wages to improve staffing and retention, and invested in technology to improve the speed of delivery.
Our supply chain team also negotiated lower product costs for 2021, which may enable us to further improve our gross profit margin this year.
In the fourth quarter, we began to see delays in the receipt of products from Asia.
Our suppliers were running on average 10 days late due to COVID-related challenges and precautions and transportation delays.
Since the reopening of stores last summer, there's been a surge of imports into the United States.
As a result, there is an unusual shortage of cargo containers in Asia, further delaying the shipment of our products to the United States.
Given the imbalance in the supply and demand for cargo containers, the cost per container has risen significantly in recent months.
This is a macro issue.
Our best information suggests we'll see delays and higher transportation rates for most of the first half.
The surge in imports has also caused congestion at the West Coast ports in California, adding additional time to the receipt of goods.
Our wholesale customers are challenged by the same delays.
The late arrivals of our warm weather products and there is plenty of warm weather ahead of us.
To date, we have not experienced any meaningful order cancellations, but that's a higher risk than usual given the abnormal delays in deliveries from Asia.
Since our last call with you, we have revisited the longer term potential of our brands.
By 2025, we expect sales to grow to nearly $3.7 billion with an expansion of our operating margin to 13%.
Our growth strategies are focused on leading in eCommerce, winning in baby, aging up our brands and expanding globally.
Our Carter's brands have the largest share of the eCommerce children's apparel market in the United States.
In the fourth quarter, Carter's online experience was rated as one of the top user experiences among the largest U.S. and European eCommerce websites.
We also have unparalleled relationships with the leading retailers of young children's apparel, including Amazon, Target, Walmart, Kohl's and Macy's.
Carter's is the number one brand in baby apparel with over 4 times this year of our nearest competitor.
It's been the best-selling brand in young children's apparel for generations of consumers.
It's possible that we may see fewer births near-term due to the pandemic.
We've seen births decline almost every year since the Great Recession began in 2007.
And since 2007, our sales and earnings have more than doubled.
With the promise of vaccines more broadly available this year, government stimulus helping families with young children, historically low interest rates, strong housing market and an improving economy, we view the risk of fewer births as a potential short-term challenge, but not a longer term obstacle to our growth.
We have the number one market share in the baby and toddler apparel markets.
The largest growth in our sales before the pandemic, both in percentage and absolute dollars, was driven by our product offerings focused on 10 -- 5 to 10-year-old children.
With the continued success of our age-up initiative and the reopening of schools this year, we expect that our age-up strategy will be a good source of growth for us in the years ahead.
We plan to extend the reach of our brands globally and profitably.
International sales contributed about 12% of our consolidated sales in 2020 and are expected to grow to 15% of sales by 2025.
Over the next five years, over 60% of our international sales growth is forecasted to be driven by our multichannel operations in Canada and Mexico.
Our brands are also sold through Amazon, Walmart and Costco on a global basis.
We expect good growth from these multinational retailers and other retailers who are extending the reach of our brands to families with young children throughout the world.
In summary, we strengthened our business this past year and we're expecting a good multi-year recovery from the pandemic.
We have built a unique multi-brand multi-channel model, which we believe is well positioned to grow and gain market share.
We're committed to strengthen our business and provide good returns to our shareholders in the years ahead.
I'll begin on Page 2 with our GAAP income statement for the fourth quarter.
Net sales in the quarter were $990 million, down 10% from the prior year.
This year's fiscal year included a 53rd week, so the fourth quarter consisted of 14 weeks versus 13 weeks last year.
This extra week represented $32 million in additional net sales in 2020 and contributed roughly $1 million of operating income.
Reported operating income was $134 million, a decrease of 18% and reported earnings per share for the fourth quarter was $2.26, down 20% compared to $2.82 a year ago.
On Page 3 is our GAAP income statement for the full year.
Obviously, sales and earnings this past year were meaningfully affected by the global pandemic.
Net sales for the year were just over $3 billion, a decline of 14%.
Reported operating income was $190 million, down nearly 50% and reported earnings per share for the year was $2.50, down 57% from $5.85 in 2019.
Our fourth quarter and full year results for both 2020 and 2019 contained unusual items which are summarized on Page 4.
We've treated these items as non-GAAP adjustments to our reported results to enable greater comparability and to provide what we believe is a clear view into the underlying performance of the business.
My remarks today will speak to our results on an adjusted basis which excludes these unusual items.
On Page 5, we've summarized some highlights of the fourth quarter.
It was a strong finish to what's obviously been an eventful and challenging year.
We met our expectations overall for our financial performance in the quarter.
We saw good continued momentum in several important parts of our business.
ECommerce comparable sales were strong, up 16% in the U.S. and up 47% in Canada.
Our store sales in the U.S. were stronger than we had forecasted in part due to a slight improvement in the store traffic trend in December.
A real headline and driver of our fourth quarter performance was gross margin, which expanded significantly over last year; this was an acceleration over the gross margin expansion which we achieved in the third quarter.
Despite lower earnings, our cash flow was very strong in the year, reflecting our working capital initiatives implemented in response to the pandemic.
And our balance sheet and liquidity both were in great shape at the end of the year.
Turning to Page 6 for a summary of net sales for the fourth quarter; reported net sales declined 10% to $990 million.
On a comparable 13-week basis, net sales declined 13% year-over-year.
I'll cover our business segment results in some more detail in a moment.
But as we had expected, sales were lower year-over-year across the business.
Sales were negatively affected certainly by the ongoing disruptions of the pandemic, but also in part due to some of our decisions earlier in 2020 to curtail our fall and inventory commitments.
In recent weeks, we have also been further challenged by delays in the planned receipt of inventory.
This is an industrywide issue with many companies experiencing delays in the scheduled arrival of product from Asia.
We've estimated that the impact of late arriving product negatively affected sales by about $30 million in the fourth quarter.
Turning to Page 7 and our adjusted P&L for the fourth quarter; while sales were down versus last year, as I mentioned, the profitability of our sales increased significantly with our gross margin increasing by 460 basis points to 47.1%.
This represented record quarterly gross margin performance.
So despite sales decreasing over $100 million, gross profit dollars were roughly comparable with a year ago.
This increased gross margin rate was driven by the strength of our product offering, improved price realization, which was a result of more effective marketing and promotion, and our focus on inventory management, including good progress in reducing excess inventory.
Royalty income declined about $1 million versus last year, largely due to the timing of shipments of spring seasonal goods which shifted from the fourth quarter last year into first quarter 2021 and late arriving product.
Adjusted SG&A increased 5% to $327 million.
We partially restored certain compensation provisions, which had been suspended earlier in the year.
So the fourth quarter reflected some element of catch up for these expenses.
Our employees did great work this past year managing through very difficult circumstances.
As we rationalized our promotional activity in Q4, we reinvested some of those savings into marketing, specifically digital media, which delivered good returns.
We also made several investments to strengthen our eCommerce and omni-channel capabilities, including the launch of a new mobile app, enhancing our websites and continued investment in improving the speed and efficiency of our distribution center which supports eCommerce.
We believe these investments will strengthen our capabilities long-term and help us as the business recovers from the pandemic.
Adjusted operating income was $145 million compared to $162 million in the fourth quarter of 2019 and adjusted operating margin was 14.7%, comparable to last year.
Below the line, net interest expense was $15 million, up from $9 million in the prior period due to the $500 million in new senior notes we issued in the second quarter.
We had a $2 million foreign currency gain in the fourth quarter and our effective tax rate was approximately 18%, down from about 19% last year.
On the bottom line, adjusted earnings per share was $2.46, down 12% compared to $2.81 in 2019.
Moving to Page 8 with some balance sheet and cash flow highlights.
Our balance sheet and liquidity remained very strong.
Total liquidity at the end of the fourth quarter was approximately $1.8 billion with $1.1 billion of cash on hand and virtually all of the borrowing capacity under our $750 million credit facility available to us.
Quarter-end net inventories were up 1% to $599 million.
While largely comparable to last year in total of the composition of our inventory was very different because of our decisions to proactively curtail inventory earlier in the year, our inventory levels in our stores and for the core Carter's brand at wholesale were meaningfully lower than a year ago.
Our exclusive brand inventories were generally higher at year-end.
Total year-end inventories were down year-over-year when considering the inventory from summer 2020, which we pack and hold earlier in the year as the pandemic unfolded.
We made good progress selling through this pack and hold inventory during the year and expect to sell the remaining balance as we move through the first half of 2021.
We also made good progress reducing our overall level of excess inventory during the fourth quarter.
Our Q4 accounts receivable balance declined 26% compared to the prior year, principally due to lower wholesale sales.
Accounts payable increased by $290 million to $472 million, which reflects the extension of payment terms and rent deferrals.
Long-term debt was nearly $1 billion, up from roughly $600 million at the end of last year.
This increase reflects our successful senior notes issuance this past May and full repayment of outstanding revolver borrowings in the third quarter.
Operating cash flow in 2020 increased by about $200 million to $590 million.
Our strong focus on working capital and management of spending enabled us to achieve this record performance despite lower earnings in 2020.
Note that while we're planning higher earnings in 2021, operating cash flow is expected to be lower this year due to the repayment of deferred rent and adjustments to some vendor payment terms.
Moving to Page 9 with a summary of our adjusted full year performance; while 2020 sales and earnings were of course meaningfully affected by the pandemic, the combination of our strong product offering, marketing, inventory management and productivity initiatives enabled us to minimize the overall profit impact of lower sales.
With demand so uncertain we made the choice early on in 2020 to focus more on profitability than on sales.
The effectiveness of our initiatives is most evident and looking at the difference in our performance between the first and second halves of the year, which we've summarized on Page 10.
First half sales were significantly affected when our retail stores were closed for much of the second quarter and shipments to many of our wholesale customers were suspended, while their own stores were closed.
Gross margin performance was starkly different between the first and second half.
In the first half our gross margin declined by 350 basis points in part due to taking higher provisions for excess inventory.
In the second half, we achieved record gross margin as a result of improving our realized pricing and making good progress on clearing through that excess inventory.
Profitability followed this gross margin performance with a much smaller decline in adjusted operating income in the second half with an expansion of our adjusted operating margin versus a decline in the first half.
Turning to Page 12 with a summary of our business segment performance in the fourth quarter.
In the largest part of our business, U.S. retail, we improved profitability significantly despite the decline in total sales driven by improved product margin and good growth in our high margin eCommerce business.
Profitability in U.S. wholesale and International declined with sales lower it was more difficult to leverage costs in these businesses.
The increase in corporate expenses was largely due to the additional provisions for compensation and to a lesser extent some spending on external consulting in the quarter.
Now, turning to Page 13 with some detail on U.S. retail performance in the fourth quarter.
Total segment sales declined 6% compared to last year.
Total comparable sales declined 9%, reflecting strong eCommerce growth and lower store sales.
Q4 traffic while down meaningfully versus a year ago came in ahead of our expectations and was better than the apparel industry benchmark which we follow.
The adjusted operating margin of our U.S. Retail segment improved by 280 basis points to 19.1%, driven by higher product margins as a result of improved price realization, lower product costs and lower inventory provisions.
These gains were partially offset by investments to strengthen our eCommerce business and the timing of compensation provisions.
Moving to Page 14 with an update on our omni-channel initiatives; our investments in recent years to build our omni-channel capabilities are clearly paying off.
The ability to pair our leading eCommerce website with our nationwide network of stores is a strong competitive advantage.
As shown in the chart here, we saw strong year-over-year growth in omni-channel demand in the fourth quarter.
We believe these capabilities provide a better experience for our customers in terms of convenience, flexibility and shorter click to consumer times.
Our store-based fulfillment options also generally provide better economics compared to traditional fulfillment from our distribution center.
Lastly, our ship-to-store and pickup in-store options have driven significant traffic to our stores accounting for 1.7 million store visits in 2020.
About 25% of the time customers picking up their online orders made incremental purchases while in the store.
Moving to Page 15 to some of our recent marketing; fourth quarter marked the arrival of the first babies conceived during COVID.
While 2020 certainly provided its share of stress and negative news, there is no happier occasion than the arrival of a new baby.
Campaign featured real families and their babies born in 2020.
Campaign has generated an overwhelmingly positive response, which drove gains in brand awareness, brand favorability and future purchase intent with customers, while introducing Carter's the number one most trusted baby brand to a new audience of parents.
On Page 16 we continued to innovate in our marketing in the fourth quarter and lean into emotionally driven digital experiences for families such as our virtual visits with Santa and virtual PJ parties with Leslie Odom Jr., the star of Hamilton.
These millennial parents have responded well to these digital offers.
As Mike said, we added 1 million new online customers in 2020.
These brand's storytelling and customer engagement efforts resulted in a record 8 billion media impressions across the year, a significant increase over 2019.
Overall, Carter's continues to enjoy the highest level of engagement on social media among all the other major players in the young children's apparel market.
Turning to Page 17; we continue our efforts to expand the reach of our brands to more diverse consumers, which reflects our company's broader focus on diversity and inclusion.
To celebrate the wonderful legacies of historically black colleges and universities and to inspire the next generation, we recently launched an HBCU apparel collection partnering with a series of HBCU alumni influencers.
We also partnered with Sisters Uptown Bookstore in New York City on a Black History Month reading series, highlighting historical black figures and their notable contributions to our country and society.
Moving to Page 18 and with a recap of the U.S. wholesale results for the fourth quarter; net sales were $290 million compared to $349 million a year ago.
Despite late arriving product, we've largely achieved our sales forecast in wholesale for the quarter.
Sales of the Carter's brand and sales in the off-price channel were each down about 40%, tracking with our reduced inventory positions in these parts of the business.
We are planning for good growth of sales in the core Carter's brand in 2021.
With regard to the off-price channel sales, we made much greater use of our own retail stores in the past year to clear excess inventory at higher recovery rates than we've historically achieved in the off-price channel.
Online demand for our brands through our wholesale customers was strong in the fourth quarter with growth of 36% over the prior year.
U.S. wholesale adjusted segment income was $54 million in the fourth quarter compared to $67 million a year ago.
Adjusted segment margin declined 60 basis points, reflecting higher compensation and marketing expenses that were offset in part by lower inventory-related charges and lower bad debt expense.
On Page 19, we've included a photo from Kohl's, which is one of our largest and longest tenured wholesale customers.
Our Carter's baby shops at Kohl's continue to provide a competitive advantage, which elevates the presence of our brand and the customer shopping experience.
Our Little Baby Basics assortment drove strong sales increases all season as customers stocked up on these must-have basics.
This product is shown here in the front isle of this Carter's shop.
On Pages 20 through 22, we've included a few slides that highlight our exclusive brands which are available at Target, Walmart and on Amazon.
These brands had a terrific 2020 and that momentum continued into the fourth quarter where collectively sales of the exclusive brands increased 13% over 2019.
On Page 21, we've depicted some of the beautiful Child of Mine product carried at Walmart.
We've seen a significant -- we've seen significant growth of the Child of Mine brand online with Walmart over the past year.
On the next page, Simple Joys on Amazon continues to be a good source of growth for us.
In 2020, we expanded our product offering in key categories and added incremental categories such as outerwear, robes and sleep bags.
Pictured here is our latest brand store featuring a range of products, including our 2-Way Zip Sleep & Play swimwear and play wear for newborns to toddlers.
Moving to Page 23 and our fourth quarter results for our International segment; international net sales declined 13% to $114 million.
We saw significant disruption in our Canadian and Mexico stores in the fourth quarter as many stores were closed due to the pandemic in these markets.
Online demand in Canada was very strong with eCommerce comps up nearly 50%.
As Mike mentioned, the disruption in our international partners business continued in the fourth quarter, but we're planning for a rebound in this part of our business in 2021.
International adjusted operating margin was 13.3% compared to 16.2% a year ago.
This decline reflects deleverage of store expenses due to lower store sales, eCommerce investments, and the catch-up compensation provisions, offset by lower inventory costs.
On the next few pages, beginning on Page 25, we've summarized some of our thoughts on our strategic positioning in the industry and the growth we're targeting over the next few years.
We believe the company has a number of strategic advantages in the marketplace.
You've heard us speak about many of these over the years.
Our brand portfolio contains the most established and trusted brands in which multiple generations have clothed their children.
We are unique in our multi-channel business model that broadly distributes our brands, including through a growing and vibrant direct-to-consumer business.
We've had a long record of strong operating performance and returns, including significant cash generation.
On Page 26, we've summarized our mission and vision.
Clearly, our objective is to continue to lead the marketplace with special emphasis on the strategic pillars listed here, leading in eCommerce, continuing to win in baby, aging-up and expanding globally.
We've recently refreshed our multi-year financial forecast.
It is difficult to predict the future right now with a lot of precision, but we believe good growth is possible over the next several years.
We believe we can generate mid-single-digit growth overall in net sales comprised of low single-digit growth in U.S. retail, mid-single-digit growth in U.S. wholesale and high single-digit growth in our International segment.
We believe profitability can grow faster than sales as we continue to pursue our transformation and productivity agenda.
So our target for operating income is in the low double-digit growth range.
We believe our anticipated significant cash generation provides us an opportunity to augment operating income growth through debt pay down and the resumption of share repurchases and thereby target earnings per share growth in the mid-teens.
Our forecasts indicates we will generate substantial cash in the coming years, which provides us significant flexibility to reinvest in the business and pursue alternatives, which includes evaluating M&A opportunities where appropriate, paying down debt and returning capital to shareholders.
On Page 27, there are a number of elements which we believe will contribute to our planned growth in sales and earnings over the coming years.
We've summarized some of these here for you.
I won't read this list, but the good news is the number of factors listed.
We have multiple meaningful ways to drive growth in our business.
Turning to Page 29 and our outlook for 2021; while there remains significant uncertainty regarding the ongoing impact of COVID-19, we believe we will have good growth in both sales and earnings in 2021.
We're expecting all of our business segments will deliver growth in net sales with our consolidated net sales growing about 5%.
We're planning for good growth in operating income and operating margin expansion in 2021.
Adjusted earnings per share is expected to grow about 10%, a bit less than what we are planning for operating income growth because of the higher interest costs from the senior notes we issued last year and an assumption of a higher tax rate with more of our income expected to be generated in the United States this year versus overseas.
We expect the first half of the year will be the more meaningful period of sales and earnings growth for a number of reasons, including the comparison to the first half of last year with the initial pandemic disruptions as well as various timing differences between the years and wholesale shipments and spending.
We won't match 2020's record year of cash generation as we repay deferred rent and have other changes in working capital.
We'd expect 2022 to be a more normal year of significant operating and free cash flow generation.
We're cautious and conservative in our planning assumptions given the continued uncertainty which exists, this posture has served us well overtime.
In terms of the first quarter, we expect sales will be comparable to last year.
We do expect first quarter profitability will increase significantly with operating income in the neighborhood of $30 million and adjusted earnings per share of approximately $0.25 compared to losses a year ago.
In terms of key risks, we continue to monitor the status of later arriving product across our various channels and the potential impact these delays may have on the sales of spring product.
Also, we're seeing an ongoing escalation of transportation costs in the marketplace, which may result in additional expense above what we have planned in this year. | q4 adjusted non-gaap earnings per share $2.46.
q4 earnings per share $2.26.
sees fy 2021 sales up about 5 percent.
qtrly u.s. ecommerce comparable sales increased 16%.
sees 2021 adjusted diluted earnings per share growth of approximately 10%.
carter's - for q1 2021, projects net sales to be comparable to q1 2020 & adjusted diluted earnings per share will be about $0.25. |
On behalf of the, say, 204 or 205 Comstock employees and the board of directors, I'll make a few opening comments, and then we'll go to the results.
First, Comstock's shift, I think as Ron Mills has talked about to the analysts, I think Comstock's shift to longer laterals, the 10,500-foot laterals in 2022 versus the 8,800-foot laterals in 2021, you should all know that it's expected to create a great value on a per well basis going forward.
We have better cost efficiencies.
We should have a lower decline curve, thus an increase in well performance.
The higher capital efficiencies associated with the longer laterals did allow us to more than offset the impact of higher service costs in the fourth quarter of 2021.
You can see that in the numbers.
And we have seen higher service costs.
We will use commitment from the board and from management.
We'll use the free cash flow to pay off the revolver and redeem the remaining $244 million of the 2025 bonds.
We do have a target, continue to have this leverage ratio at 1.5 or less.
We think we can get there in the second half of 2022.
And that does open discussions up on returning capital to shareholders.
I know we may have that question.
Our drilling inventory, which is the holy grail of E&P companies, I think that's why you have a lot of M&As in the last year or two years.
But our drilling inventory has never been more valuable or stronger.
Because in 2021, we made great strides in extending our lateral length per location by 25% from our average lateral length at the end of 2020 it was 6,840 feet, and today, it's about 8,520 feet.
If you look at that, 25 years' worth of drilling inventory based upon our 2022 activity, we've got 1,633 net locations.
53% of those were Haynesville, 47% were Bossier.
And just think, I mean 902 net locations with lateral lengths 8,000 feet or longer.
On the operational front, which is I think that's the nucleus of this company, on that front we increased our drilling footage per day by 25%.
We went from 800 feet to 1,001 feet per day, and that's how you make money.
Our average lateral length at the wells in the fourth quarter, 11,443 feet.
And the reason is we drilled four 15,000-foot lateral wells, two Haynesville, two Bossier.
Again, in spite of higher service costs, we're able to lower our drilling and completion costs due to improved operational performance and improved capital efficiencies associated with the longer laterals drilled in the fourth quarter of 2021, which that will be carried over into 2022.
We have a few slides to take you back to 2018 and be accountable for our performance.
That was kind of a turnaround year.
That's the year that Jerry Jones and his family invested in Comstock.
And since that time, Comstock has surfaced as the only pure-play Haynesville producer.
I'm Jay Allison, chief executive officer of Comstock.
With me is Roland Burns, our president and chief financial officer; Dan Harrison, our chief operating officer; and Ron Mills, our VP of finance and investor relations.
While we believe the expectations and such statements will be reasonable, there could be no assurance that such expectations will prove to be correct.
Our fourth quarter 2021 highlights, Slide 3.
We cover the highlights on the fourth quarter on Slide 3.
In the fourth quarter, we generated $105 million of free cash flow from operating activities, increasing our total free cash flow generation for 2021 to $262 million.
Including the impact of our acquisition and divestiture activity, our total free cash flow for the year was $343 million.
For the quarter, we reported adjusted net income of $99 million or $0.37 per diluted share.
Our operating cash flow for the quarter was $250 million or $0.90 per diluted share.
Our revenues, including our realized hedging losses, increased 37% to $380 million.
Our adjusted EBITDAX in the fourth quarter was $297 million, 41% higher than the fourth quarter of last year.
Our production increased 12% in the quarter to 1.348 Bcf a day.
In the fourth quarter, we completed two 15,000-foot Haynesville wells, which had IP rates of 48 million and 41 million cubic feet equivalent per day, both of which are new corporate records that Dan Harrison will review in a moment.
During the quarter, we also closed on the sale of our Bakken properties and closed a bolt-on acquisition for $35 million.
If you'll flip over to Slide 4, we'll go over some of the major accomplishments in 2021.
We significantly reduced our cost of capital by refinancing $2 billion of our senior notes in March and June, which saved us $48 million in cash interest expense and extended our average maturity from 4.7 years to 7.1 years.
We also reduced the amount outstanding under our bank credit facility by $265 million with our free cash flow and asset sale proceeds and improved our leverage ratio to 2.2 times as compared to 3.8 times in 2020.
With another successful year in our Haynesville Shale drilling program, we drilled 64 gross or 51.9 net wells, including four 15,000-foot laterals.
On the wells we put to sales at an average IP rate of 23 million cubic feet equivalent per day, we grew our SEC proved reserves by 9% to 6.1 Tcfe with a PV-10 value of $6.8 billion.
We replaced 199% of our production at a low all-in finding cost of $0.60 per Mcfe.
Highlighting our attractive cost structure, we achieved a 78% EBITDAX margin, one of the highest in the industry.
In addition, we achieved a 12% return on average capital employed and a 27% return on average equity.
In 2021, we added 49,000 net acres to our acreage position prospective for the Haynesville and Bossier through a leasing program and acquisitions totaling $57.7 million or $1,178 per acre.
We took several big steps in 2021 on the environmental front.
Early in 2021, we partnered with BJ Energy Solutions to deploy its next-generation natural gas-powered Titan Frac Fleet, which is expected to be put in service in April.
The most significant step we took was to partner with MiQ to certify our natural gas production under the MiQ methane standard.
Flip over to Slide 5 and we recap the bolt-on acquisition in East Texas that we did close late December for a purchase price of $35 million.
The acquisition included 18.1 net producing wells and 17,331 net acres in Harrison Leon, Panola, Robertson and Rust counties.
With the acquisition, we added 57.9 net drilling locations which represents approximately one year's worth of our drilling inventory.
The acreage is 94% held by production, but the acquisition also added the lateral lengths on 44 of our existing drilling locations to be increased.
Our production increased 12% to 1.35 Bcfe a day.
Adjusted EBITDAX grew 41% to $297 million.
We generated $250 million of discretionary cash flow during the quarter, 62% higher than 2020's fourth quarter.
And our adjusted net income totaled $99 million during the quarter, a 186% increase from the fourth quarter of 2020.
We generated $105 million of free cash flow from operations in the quarter or $204 million if you include the impact of the acquisition and divestiture activity, which most of that occurred in the fourth quarter.
This free cash flow contributed to an improvement in our leverage ratio, which improved to 2.2 times, down from 3.2 times at the end of 2020.
Our cash flow per share during the quarter was $0.90 per share, up from $0.56 in the fourth quarter of 2020, and adjusted earnings per share was $0.37 per share as compared to $0.14 in the fourth quarter of 2020.
On Slide 7, we show how much Comstock has changed since 2018 when Jerry Jones and his family invested in the company.
Production growth has averaged 117% over the last three years.
EBITDAX has gone from $287 million to $1.1 billion at a compounded annual growth rate of 97%.
Cash flow has grown from $206 million back in 2018 to $908 million this year in 2021, averaging 114% over the last three years.
Adjusted net income has grown from $29 million to $303 million at a compounded annual growth rate of 319% and free cash flow from operations has grown to $262 million, and our leverage ratio has improved from four and a half times to 2.4 times.
On a per share basis, cash flow has gone from $1.96 to $3.29 and earnings has gone from $0.27 to $1.16.
On Slide 8, we provide a breakdown of our natural gas price realizations.
And this is an important slide to understand the quarterly results as we've had a very volatile NYMEX contract during the fourth quarter which has continued into the first quarter of this year.
On this slide, we show how the NYMEX contract settlement price, and we show the average NYMEX spot price for each quarter.
During the fourth quarter, there was a very significant difference between the quarter's NYMEX settlement price of $5.83 and the average Henry Hub spot price of $4.74.
During the quarter, we nominated 67% of our gas to be sold at index prices, which are more tied to the contract settlement price or the final price that the contract comes off the market at.
And then we also sold 33% of our gas in the daily spot market.
If you use those percentages, the approximate NYMEX reference price for looking at our activity in the fourth quarter would have been $5.47, not $5.83.
Our realized pricing from the fourth quarter averaged $5.22, which reflects a $0.25 differential from that reference price, which is fairly in line with our historical results.
In the fourth quarter we were also 72% hedged, so that reduced our final realized gas price to $3 per Mcf.
On Slide 9, we detailed our operating cost per Mcfe and the EBITDAX margin.
Operating costs per Mcfe averaged $0.67 in the fourth quarter.
That was $0.02 higher than the third quarter rate.
Our lifting cost and gathering costs were both up by $0.01, but production taxes were down by $0.03.
Higher G&A costs of $0.08 was also higher in the quarter, and that's primarily related to year-end adjustments for bonuses.
We do expect our G&A to go back to average somewhere between $0.06 to $0.07 per Mcfe in 2022.
Our EBITDAX margin including hedging came in at 78% in the fourth quarter, unchanged from our third quarter margin.
On Slide 10, we recap our fourth quarter and full year 2021 drilling and completion costs.
In the fourth quarter, we spent $140 million on development activities, $114 million of that related to our operated Haynesville and Bossier Shale properties.
We also spent $8 million on non-operated wells, and we had $15 million that we spent on other development activity in the Haynesville, in our Haynesville operations.
We spent an additional $3 million for our properties outside of the Haynesville.
For the full year, we spent $628 million on development activities.
$554 million was related to our operated Haynesville and Bossier Shale properties.
We also spent $74 million on non-operated activity and for other development activity outside of just drilling and completion.
We drilled 51.9 net operated Haynesville horizontal wells, and we turned 54.2 net wells to sales in 2021.
We also had an additional 2.2 net wells from our non-operated activity.
In addition to funding our development program, we also spent $58 million on acquisitions.
Most of those acquisitions related by an undrilled Haynesville shale acreage.
Slide 11 covers our proved reserves at the end of 2021.
We grew our SEC proved reserves from 5.6 Tcfe to 6.1 Tcfe in 2021, and we replaced 199% of our production.
Our 2021 drilling activity added 797 Bcfe to proved reserves, and we had about 89 Bcfe of positive price-related revisions.
We also added 203 Bcfe of proved reserves through our acquisition activity.
The reserve additions were offset by a divestiture of 100 Bcfe, which is primarily our Bakken shale properties.
Our all-in finding costs for 2021 came in at a very attractive $0.60 per Mcfe.
Our drill pit finding costs for '21 came in at $0.71 per Mcfe.
Our reserves are almost 100% natural gas following the sale of our Bakken properties.
The PV 10 value of our proved reserves at SEC pricing was $6.8 billion at the end of last year.
In addition to the 6.1 Tcfe of SEC proved reserves, we have an additional 2.4 Tcfe of proved undeveloped reserves which are not included in that number as they are not expected to be drilled within the five-year window required by the SEC rules.
We also have another 4.4 Tcfe of 2P or probable reserves, and we have 7.2 Tcfe of 3P or possible reserves for a total overall reserve base of 20.1 Tcfe on a P3 basis.
Slide 12 shows our balance sheet at the end of 2021.
We had $235 million drawn on our revolving credit facility at the end of the year after repaying $265 million during 2021.
The reduction in our debt and the growth of our EBITDAX drove a substantial improvement to our leverage ratio, which was down to 2.2 times in the fourth quarter on a stand-alone basis as compared to 3.8 times in 2020.
We plan on retiring $479 million of debt in 2022.
That would include redeeming our 2025 senior notes.
We are targeting to be below 1.5 times levered in 2022, and we ended 2021 with financial liquidity of almost $1.2 billion.
Flip over on Slide 13.
This is where we show our average lateral length we drilled by year going back to 2017 along with our estimated average lateral length for this year and also our record longest lateral that we've completed to date.
In 2017, our average lateral length was 6,233 feet as we were drilling primarily a mix of 4,500-foot and 7,500-foot laterals, and we had just started drilling our first 10,000-foot laterals.
In subsequent years through 2020, we slowly increased the number of 10,000-foot laterals that we were drilling, which allowed us to gradually increase the average lateral length.
In late 2020, we successfully drilled and completed our first lateral exceeding 12,500 feet, and our average lateral length in 2020 had increased to 8,751 feet.
Now, through the end of 2021, we have successfully drilled and completed four 15,000-foot laterals with two drilled to the Haynesville and two drilled into the Bossier.
In 2021, our average lateral length increased to 8,800 feet.
Our record longest lateral to date is 15,155 feet and was drilled and completed in the Haynesville in late 2021.
Building on the success of our 15,000-foot laterals, we now anticipate our average lateral length to increase by 19% in 2022 up to 10,484 feet.
In 2022, we anticipate drilling approximately 21 wells with laterals longer than 11,000 feet and nine of these being 15,000-foot laterals.
By continuing to execute our long lateral strategy, we'll be better able to maintain our low-cost structure into the higher price environment.
On Slide 14, we highlight the improvement in our drilling performance, which is based on the total footage drilled divided by the number of days from spud to TD.
Our drilling performance was relatively stable from 2017 through 2019 in the 700-foot per day range.
In 2020, our drilling performance improved 15% to 800 feet a day.
And in 2021, our drilling performance improved an additional 25% to just over 1,000 feet per day, while our record fastest well to date was drilled last year at an average rate of 1,461 feet a day.
The performance improvements have been achieved via drilling the longer laterals combined with sound drilling practices, improved tool reliability and execution at the field level.
With our goal of drilling longer laterals in future years, we expect to maintain our drilling performance at a very high level.
On Slide 15 is our updated D&C cost trend for our Bismarck long lateral wells.
These are wells with an average lateral length greater than -- with a lateral greater than 8,000 feet.
Our D&C cost averaged $1,027 a foot in the fourth quarter, which is a 2% decrease compared to the third quarter and flat compared to our full year 2020 D&C costs.
Breaking this down, our drilling costs remained essentially unchanged for the quarter at $413 a foot, while our completion costs were down 4% quarter over quarter to $615 a foot.
In spite of the higher service costs we began to experience during the last quarter, we were still able to achieve the slightly lower D&C cost due to improved operational performance and improved capital efficiency associated with the longer average lateral length that we drilled during the quarter.
Our average lateral length for the quarter was 11,443 feet.
This is the longest quarterly average lateral length we've achieved to date and was accomplished primarily due to the completion of our first two 15,000-foot laterals that were turned to sales during the fourth quarter.
The higher capital efficiencies associated with the longer laterals allowed us to offset the impact of the higher service costs during the quarter.
While we do continue to see service costs further increase into this year, our ability to execute on the longer laterals with the more robust economics will help cushion and partially offset the negative effects of the higher service costs.
On Slide 16 is a map outlining our fourth quarter well activity.
Since the last call, we have completed and turned 16 new wells to sales.
The wells were drilled with lateral lengths ranging from 8,504 feet to 15,155 feet with an average lateral of 10,508 feet.
The wells were tested at IP rates that range from 12 million up to 48 million a day with a 23 million cubic feet per day average IP.
The results this quarter include our first two planned 15,000-foot Haynesville laterals, the Talley 32-29-20 HC number one and number two wells.
These wells were completed with laterals of 14,685 feet and 15,155 feet and tested at rates of 41 million and 48 million cubic feet a day.
The seven wells with the lower IP rates are in Panola County in the liquids rich area of the Haynesville.
The high BTU gas in this area will generate a yield of 25 to 40 barrels of plant products, which will enhance the economics from a dry gas well with similar production by 20% to 30%.
Also during the quarter, we successfully drilled two additional 15,000-foot laterals into the Bossier as mentioned earlier.
These two wells were turned to sales late last night, and we'll be reporting on those on the next call.
Regarding activity levels, we did finish out 2021 running five rigs and three frac crews.
We're in the process now of adding two rigs, increasing our rig count to seven and will remain at the seven-rig count throughout the remainder of this year.
We plan to continue running three full-time frac crews throughout the rest of the year.
On Slide 17, this is the detail of the 2021 drilling inventory.
The drilling inventory is split between the Haynesville and Bossier locations.
It is divided into four categories.
We've got our short laterals up to 5,000 feet, median laterals at 5,000 to 8,000 feet, our long laterals at 8,000 to 11,000 feet, and we've got a new extra-long category now for the wells beyond 11,000 feet.
Our total operated inventory currently stands at 1,984 gross locations, 1,420 net locations, which represents a 72% average working interest across the operated inventory.
Based on -- our non-operated inventory currently stands at 1,425 gross locations and 213 net locations and this represents a 15% average working interest across the non-operated inventory.
Based on the recent success of our new extra-long lateral wells, we've modified the drilling inventory to take advantage of our acreage position, and where possible, we have extended our future laterals out further to the 10,000 to 15,000-foot range.
In our new extra-long lateral bucket, we capture all our wells that now extend beyond 11,000 feet long, and in this bucket, we currently have 397 gross operated locations and 287 net operated locations.
These are split 50-50 between the Haynesville and the Bossier.
To recap our total gross inventory, we have 436 short laterals, 392 medium laterals, 759 long laterals, and now 397 extra-long laterals.
The total gross operated inventory is split 53% in the Haynesville and 47% in the Bossier.
Also, by extending our laterals, we have increased the average lateral length in the inventory from 6,840 feet now up to 8,520 feet, which is a 25% increase.
And in addition to the uplift in our economics, the longer laterals will help to reduce our surface footprint on future activity and also further reduce our greenhouse gas and methane intensity levels.
In summary, our current inventory provides us with over 25 years of future drilling locations based on our planned 2022 activity levels.
With our ability to execute on the new ultra-long laterals, our drilling economics are more robust and it enhances the value of our acreage position.
I'm going to turn it now back over to Jay to summarize the outlook for 2022.
Well, like we said earlier, our drilling inventory, which Dan just said, it is the holy grail of E&P companies.
It's never been more valuable or stronger than it is today.
If you go to Slide 18, I'd direct you to kind of the summary of our outlook for 2022.
We expect our 2022 drilling program to generate 4% to 5% production growth year over year, and we would expect to generate in excess of $500 million of free cash flow at current commodity prices.
In 2022, the lateral length of the wells in this year's program is expected to be 19% longer than the 2021 wells.
The additional investment we are making this year in our drilling program will pay off in the future years as our lateral length per well will have a lower decline rate than the shorter laterals.
In 2022, our operating plan is focused on repaying $479 million of debt, including redeeming our 2025 senior notes.
We continue to have an industry-leading low-cost structure, which gives us best-in-class drilling returns.
We are working on the certification of our natural gas production as responsibly sourced gas under the MiQ standard.
At the end of 2021, we had financial liquidity of almost $1.2 billion, which is expected to increase further in 2022 as we repay the remaining borrowings outstanding on our bank facility.
On Slide 19, we provide the financial guidance.
As shown on the slide, first quarter production guidance of 1.24 to 1.29 Bcf a day, and the full year guidance is 1.39 to 1.45 Bcf a day.
During the first quarter, we only plan to turn to sales about 15% of the planned wells to be turned to sales for the year.
And those wells have a little bit lower working interest than the wells later in the year.
As a result, the majority of our wells turned to sales and production growth are expected to occur during the second and third quarters of this year.
Development capex guidance is $750 million to $800 million, which is based on a similar number of turned to sales wells as last year, and incorporates an expected 10% increase in service costs and the impact of our average lateral lengths being 19% longer this year.
As a result, if you factor in the 10% inflation and the 19% longer laterals, the midpoint of our guidance would actually represent about 3% to 5% of an improvement in efficiencies, mostly related to the longer laterals.
We've also budgeted for $8 million to $12 million of additional leasing costs.
Our LOE expected to average $0.20 to $0.25 in the first quarter and $0.18 to $0.22 for the full year, while our gathering and transportation costs are expected to average $0.23 to $0.27 in the first quarter and $0.24 to $0.28 for the year.
Production and ad valorem taxes expected to average $0.10 to $0.14 a year based on current price outlook.
Our DD&A rate is expected to average $0.90 to $0.96 per Mcfe.
Cash G&A is expected to total $7 million to $8 million in the first quarter and $29 million to $32 million in 2022, with noncash G&A expected to average almost $2 million a quarter.
Cash interest is expected to come in around $38 million to $45 million in the first quarter and $152 million to $162 million -- $160 million in 2022, and that incorporates the planned redemption of our 2025 notes later this year.
From a tax standpoint, the effective tax rate of guidance of 22% to 27% is in line with what we've been reporting.
And going forward, we expect to defer 90% to 95% of the taxes with the cash taxes being related to state taxes. | compname reports q4 adjusted earnings per share of $0.37.
q4 adjusted earnings per share $0.37.
qtrly revenues, after realized hedging losses, were $380 million, 37% higher than 2020's q4. |
Actual results may differ materially from those indicated.
The non-GAAP financial measures are not meant to be considered superior to or a substitute for results from operations prepared in accordance with GAAP.
In accordance with Regulation G, you can find the comparable GAAP measures and reconciliations on the Investor Relations section of our website.
I'm very pleased to speak with you today about another exceptional quarter at Charles River.
Our robust first quarter financial performance, highlighted by 13% organic revenue growth and 170 basis points of year-over-year operating margin improvement demonstrates the strength of the biopharmaceutical market environment and the power of our unique portfolio, both of which we believe are as strong as they have ever been.
We believe clients are increasingly choosing to partner with us for our flexible and efficient outsourcing solutions, with scientific depth and breadth of our portfolio and our unwavering focus on seamlessly serving their diverse needs.
Clients are opting to work with a smaller number of CROs who offer broader scientific capabilities which enables them to drive greater efficiency and accelerate the speed of the research, nonclinical development and manufacturing programs.
The complexity of scientific research is also increasing our clients' reliance on a high-science outsourcing partner like Charles River.
To further differentiate ourselves from the competition, we are strategically expanding our portfolio in areas that deliver the greatest value to clients and offers significant growth potential.
Already this year, we have enhanced our scientific capabilities for advanced drug modalities through the acquisitions of Distributed Bio, Cognate BioServices and Retrogenix.
Distributed Bio and Retrogenix strengthen our discovery portfolio.
And the acquisition of Cognate, which was completed on March 29, provides an excellent growth opportunity by allowing us to offer CDMO services in the high-growth, high-science cell and gene therapy sector.
We believe the strength of our portfolio and robust industry fundamentals are leading to unprecedented client demand across most of our businesses.
In the first quarter, we experienced a continuation of the robust demand from the end of last year, including new record booking and proposal levels in the Safety Assessment business.
Organic revenue was about 10% for a second consecutive quarter, even after normalizing for last year's COVID-19 impact.
Overall, we believe our robust first quarter performance and solid business trends support our improved outlook for the year.
I will now provide highlights of our first quarter performance.
Quarterly revenue surpassed $800 million for the first time and an $824.6 million for the first quarter of 2021 represented a 16.6% increase over last year.
Organic revenue growth of 13% was driven by double-digit growth across all three segments.
The year-over-year comparison to last year's COVID-related revenue impact, which primarily affected the RMS segment, contributed approximately 140 basis points to the revenue growth rate this quarter.
We experienced broad-based growth across all client segments, with biotech clients leading the way as they continue to benefit from a robust funding environment.
The operating margin was 20.7%, an increase of 170 basis points year-over-year.
The improvement was driven by RMS and DSA segments and reflected operating leverage and the robust revenue growth as well as our continued efforts to drive efficiency.
We expect the same factors will drive margin improvement for the year and believe the operating margin will approach 21%, above our prior target.
Earnings per share were $2.53 in the first quarter, an increase of 37.5% from $1.84 in the first quarter of last year.
This outstanding earnings growth principally reflected the double-digit revenue growth and meaningful operating margin improvement.
Based on the first quarter performance and our positive outlook for the remainder of the year, we are meaningfully increasing our revenue growth and non-GAAP earnings per share guidance for 2021.
We now expect organic revenue growth in a range of 12% to 14%, a 300 basis point increase from our prior range.
Normalized for last year's COVID-19 impact, we would still expect low double-digit organic revenue growth this year.
Non-GAAP earnings per share are expected to be $9.75 to $10, which represents 20% to 23% year-over-year growth and an increase of $0.75 at the midpoint from our prior outlook.
I'd like to provide you with details on the first quarter segment performance, beginning with the DSA segment.
Revenue was $501.2 million in the first quarter, an 11.6% increase on an organic basis over the first quarter 2020 driven by broad-based demand for both Discovery and Safety Assessment.
Safety Assessment business continued to perform exceptionally well, reflecting robust demand from both biotech and global biopharma clients and price increases.
Bookings and proposal volume reached record highs in the first quarter, with strength across all regions and major service areas.
Bookings increased substantially more than our target.
Clients are expanding our preclinical pipeline and intensifying their focus on complex biologics.
And we believe they are securing space with us further in advance to ensure they do not delay the research, which in turn provides us with greater visibility.
We believe this positions the Safety Assessment business extremely well and supports low double-digit organic revenue growth in the DSA segment this year, which is higher than our prior outlook.
We are pleased with the extensive depth and breadth of our Safety Assessment portfolio and remain intently focused on continuing to enhance the value we provide to our clients.
The Discovery business had another exceptional quarter, led by broad-based demand for oncology, early discovery and CNS services.
Our efforts to broaden and strengthen our discovery capabilities and enhance our scientific expertise are enabling us to expand the support we provide for our clients' discovery research, and clients increasingly view Charles River as a premier scientific partner who can support their efforts to identify new drug targets and discover novel therapeutics.
We intend to build our Discovery portfolio so that clients can outsource complex discovery projects to us, including for advanced modalities.
Our recent acquisitions Distributed Bio and Retrogenix enhance our large molecule discovery capabilities.
Retrogenix through its proprietary cell microarray technology offers target receptor identification and off-target screening services, which will enhance our clients' early discovery efforts and also enable them to explore potential preclinical safety liabilities.
Combination of Distributed Bio, our large molecule discovery platform, and Retrogenix capabilities will further strengthen our integrated end-to-end solution to therapeutic antibody and cell and gene therapy discovery and development.
We are also continuing to add cutting-edge technologies through our strategic partnership strategy, most recently with the new artificial intelligence or AI drug discovery partner, Valence Discovery.
The DSA operating margin increased by 180 basis points to 23.8% in the first quarter.
Leverage from the robust DSA revenue growth was the primary driver of margin improvement, and we expect this trend will continue to propel the DSA margin into the mid-20% range for the year.
RMS revenue was $176.9 million, an increase of 14.8% on an organic basis over the first quarter of 2020.
Robust demand for research models in China was the primary driver of first quarter RMS revenue growth, and higher revenue for research model services, including GEMS and our CRADL initiative, also contributed.
Approximately 620 basis points of the increase was attributable to the comparison to last year's COVID-related revenue impact from client site closures and disruption.
Demand trends for the research models were largely consistent with those prior to the pandemic, with growth in China widely outpacing mature markets.
Research models business in China had an exceptional quarter even after normalizing for last year's COVID-19 impact, driven by a resurgence in demand across all segments.
Biomedical research in China has returned to pre-COVID levels, and in some areas, even greater levels.
In the U.S. and Europe, client order activity has also rebounded.
Research Model Services also continued to perform well.
GEMS is benefiting from renewed outsourcing demand as our clients seek greater flexibility and efficiency afforded to them when we manage their proprietary model colonies, as we did for many clients during the COVID-19 pandemic.
In addition, complex research models will play an increasingly critical role as drug research continues to shift to oncology, rare disease and cell and gene therapies, which reinforces the value proposition for the GEMS business.
We are also continuing to generate substantial client interest for our CRADL initiative or Charles River accelerator and development labs, as both small and large biopharmaceutical clients increasingly seek turnkey research capacity, which allows them to invest in people and research instead of infrastructure.
We have CRADL sites in the Boston, Cambridge, Massachusetts area and South San Francisco biohubs and are actively expanding in these regions to accommodate client demand.
Utilizing CRADL also provides clients with collaborative opportunities to seamlessly access other Charles River services from Discovery to GEMS, which further enhances the speed and efficiency of their research programs.
Revenue growth for our cell supply businesses, HemaCare and Cellero, remained below the targeted level in the first quarter due to some limitations on donor access.
We believe cell supply revenue will increase during the year as donor availability continues to improve.
We are also continuing to work diligently to expand our donor base in the U.S. and add more comprehensive capabilities at all of our sites to accommodate the robust demand in the broader cell therapy market.
We believe that the acquisition of Cognate is particularly timing -- timely because it creates new business opportunities for HemaCare and Cellero in the cell and gene therapy development area.
Our expanded capabilities are expanding -- are establishing Charles River as a trusted partner, who can move clients programs forward using the same cellular products through each step of research and early stage development phases and into CGMP production.
In the first quarter, the RMS operating margin increased 570 basis points to 28.7%.
This significant improvement is due to two factors.
First, last year's 23% margin was depressed by the onset of COVID-related client disruptions and the resulting impact on the research model order activity.
In addition, this year's performance reflects the operating leverage attributable to the robust revenue growth, particularly for research models in China.
Revenue for the Manufacturing segment was $146.5 million, a 15.6% increase on an organic basis over the first quarter of last year.
The increase was driven by double-digit revenue growth in both the Biologics Testing Solutions and Microbial Solutions businesses.
The Manufacturing segment's first quarter operating margin was stable at 35.5%.
This is consistent with the historical trend in the first quarter and in line with our revised expectations in 2021 for a mid-30% operating margin when factoring in the Cognate acquisition.
Microbial Solutions growth rate rebounded above the 10% level in the first quarter, reflecting strong demand for our Endosafe endotoxin testing systems, cartridges and core reagents for all geographic regions.
We continue to work through the delayed instrument installations that resulted from COVID-19 restrictions and are gaining access to more client sites.
We are pleased with the strength of the underlying demand for our endotoxin testing platform, which performs FDA-mandated lot-release testing for our clients' critical quality control testing needs.
Clients prefer our comprehensive and efficient microbial testing solutions because of the quality, speed and accuracy of our testing platform.
The Biologics business reported another exceptional quarter of strong double-digit revenue growth, principally driven by robust market demand for testing cell and gene therapies and COVID-19 therapeutics.
We believe cell and gene therapies will continue to be significant growth drivers for the years to come.
And demand for COVID-19 vaccine testing is intensifying as these therapies move on to the commercial production phase even as some of the early stage testing activity subsides.
Given the strength of the demand environment, we are continuing to build our extensive portfolio of services to support the safe manufacture of Biologics to ensure we have available capacity to accommodate client demand.
We believe the acquisition of Cognate will be highly complementary to our Biologics business and our portfolio as a whole.
The acquisition establishes Charles River as a premier scientific partner to cell and gene therapy development, testing and manufacturing.
Our broader services will provide clients with an integrated solution from basic research through CGMP production, enabling them to outsource CGMP cell therapy production and the required analytical testing to one scientific partner, reducing the bottlenecks and efficiencies of utilizing multiple outsourced providers.
Because we already were a provider of extensive nonclinical services for cell and gene therapies, our integration process, which is proceeding smoothly, is particularly focused on unlocking new business opportunities across our portfolio.
The acquisition of Cognate is part of our ongoing strategy to broaden our unique portfolio and scientific expertise in order to support new paradigms in therapeutic areas of research.
As biopharmaceutical clients seek to drive greater efficiency and leverage scientific benefits by working with fewer trusted partners who have broad integrated capabilities, we have transformed our business over the last decade to accommodate their needs through M&A, scientific partnerships, internal investment and by promoting a culture of continuous improvement in everything that we do.
We built the leading safety assessment franchise in the world and established an integrated end-to-end discovery offering for both small and large molecules.
So given the emerging importance of complex biologics and cell and gene therapies, adding CDMO capabilities is a logical extension for our portfolio.
We will continue to move our growth strategy forward.
Disciplined M&A and strategic partnerships remain vital components of our strategy as we endeavor to further enhance the scientific expertise, global reach and innovative technologies that we can offer clients across all three of our business segments.
Investing in our scientific capabilities as well as internally in the necessary staff and resources will help us ensure that we can meet the needs of our clients and support the robust growth in our markets.
The biotech funding environment has never been stronger.
Clients are investing more in research and development, and it is incumbent upon us to be the scientific partner who can help them move their programs forward, from concept to nonclinical development, to the safe manufacture of their life segment therapeutics.
We look forward to discussing our strategy with you and where we think that we can take the company over the next several years at our upcoming virtual Investor Day on May 27.
Now David Smith will give you additional details on our first quarter results and 2021 guidance.
Before I begin, may I remind you that I'll be speaking primarily to non-GAAP results, which exclude amortization and other acquisition-related charges, costs related primarily to our global efficiency initiatives, our venture capital and other strategic investment performance and certain other items.
Many of my comments will also refer to organic revenue growth, which excludes the impact of acquisitions and foreign currency translation.
We're very pleased with our accomplishments in the first quarter, which widely outperformed our outlook.
We delivered strong revenue growth, well above the 10% level on an organic basis and significant operating margin expansion of 170 basis points, which drove earnings-per-share growth of 37.5% to $2.53.
The operating margin performance was particularly encouraging as the consistent margin improvement reflects our efforts to build a more scalable and efficient infrastructure and leverage the robust growth in our end market.
As Jim mentioned, we have increased this year's financial guidance to reflect the enhanced growth profile for the full year, including the strong performance for the first quarter and the addition of Cognate and other acquisitions that we have completed.
We now expect to deliver reported revenue growth of 19% to 21% and organic revenue growth in a range of 12% to 14% for the full year.
Given the robust top line performance, we expect to drive meaningful operating margin improvement this year with the full year margin approaching 21%.
This is expected to drive better-than-expected earnings per share in a range of $9.25 to $10, which represents year-over-year growth above 20%.
By segment, our outlook for 2021 continues to reflect the strong business environment and the differentiated capabilities we provide to support our clients' needs.
RMS organic revenue growth guidance for the year is unchanged from our initial high-teens outlook, reflecting recovery from the impact of the COVID-19 pandemic last year, exceptional growth in China and the expectation of our cell supply revenue growth will improve during the year.
The DSA segment is now expected to deliver low double-digit growth for the full year, reflecting the strong first quarter performance and intensified early stage research activity.
For the Manufacturing segment, we now expect to achieve mid-teens organic revenue growth, with both the Biologics and Microbial Solution businesses contributing.
Including the acquisition of Cognate, Manufacturing's reported revenue growth rate is expected to be in the high-30% range.
With regard to operating margin, RMS will continue to be a primary contributor to the overall improvement for the year, with the segment margin meaningfully above 25%.
We also expect the DSA segment operating margin to increase over the prior year into the mid-20% range.
When factoring in Cognite, the Manufacturing segment's operating margin is expected to be in the mid-30% range this year or moderately below its 2020 level.
Unallocated corporate costs was slightly higher than our expectations, totaling 6.2% of total revenue or $51.2 million in the first quarter compared to 5.6% of revenue in the first quarter of last year.
The increase was primarily the result of continued investments to support the growth of our businesses and higher performance-based compensation costs due in part to the first quarter operating outperformance.
Despite the higher expenses in the first quarter, we continue to expect unallocated corporate costs to be in the mid-5% range as a percentage of revenue for the full year.
The first quarter tax rate was 14.5%, a 20 basis point increase year-over-year and consistent with our outlook in February, which calls for a tax rate in the mid-teens due to the gating of the excess tax benefit from stock-based compensation.
We continue to expect our full year tax rate will be in the low-20% range on a non-GAAP basis, which is unchanged from our outlook provided in February.
Total adjusted net interest expense for the first quarter was $17.1 million, which was essentially flat sequentially and a decrease of nearly $2 million year-over-year due to lower average debt levels, which resulted in interest rate savings based on our leverage ratio.
At the end of the first quarter, we had $2.2 billion of outstanding debt, representing a gross leverage ratio of 2.3 times and a net leverage ratio of 1.9 times.
In March, we issued $1 billion of senior notes to further optimize our capital structure and take advantage of the attractive interest rate environment.
The proceeds of this bond offering we used to redeem a previously issued higher-rate $500 million bond to pay down the existing term loan and a portion of the revolving credit facility and to finance a portion of the Cognate acquisition.
In April, we also amended our existing credit agreement to establish a new revolver with borrowing capacity of up to $3 billion.
The net result of these actions will reduce our average interest rate on debt by approximately 50 basis points to 2.65%.
An overview of our current capital structure is provided on slide 36.
On a pro forma basis, including the Cognate and Retrogenix acquisitions, our gross leverage ratio was just under three times, and we had total debt outstanding of slightly below $3 billion.
For the year, the higher debt balances due primarily to Cognate acquisition will be partially offset by the lower average interest rate from these refinancing activities, which is expected to result in total adjusted net interest expense of $83 million to $86 million.
Free cash flow was $142.2 million in the first quarter, a significant increase compared to $42.9 million last year.
The primary reason for the improvement was the strong first quarter operating performance, along with our continued focus on working capital management.
Capital expenditures were $28 million in the first quarter compared to $25.7 million last year.
Looking ahead, we are increasing our capex guidance for 2021 by $40 million to approximately $220 million.
The increase primarily reflects the investments we are making in Cognate to support its high-growth business.
Even with the additional capital, we expect capex will remain below 7% of our total revenue this year, which is consistent with the target that we provided at our last Investor Day in 2019.
For the full year, we are updating our free cash flow guidance to the upper end of the prior range and now expect free cash flow of approximately $435 million for the full year.
We are pleased to be able to increase free cash flow due primarily to the strong first quarter operating performance, even after incorporating the transaction costs and capital needs of Cognate.
A summary of our revised financial guidance for the full year, including Cognate, can be found on slide 38.
For the second quarter, our updated outlook reflects a continuation of the strong demand environment.
We now expect second quarter reported revenue growth at or near the 30% level, including the contribution of Cognate.
On an organic basis, we expect second quarter growth rate to be at or near 20%.
This reflects the prior year comparison to the COVID-related revenue impact, which will contribute approximately 700 basis points to the second quarter revenue growth.
As a result of the impact of COVID-19 on the second quarter of last year, we expect this year's second quarter non-GAAP operating margin and earnings per share to increase significantly versus the prior year.
Our expectation for non-GAAP earnings per share is a growth rate of more than 50% year-over-year.
In conclusion, we are very pleased with our strong first quarter performance, which included robust revenue aims and free cash flow growth.
We remain confident about our prospects for the year and our ability to consistently grow the top line, bottom line and cash generation, and as such, believe this is reflected in the substantial improvement in our outlook.
We look forward to hosting our upcoming virtual Investor Day in a few weeks.
At that time, we plan to update our longer-term financial targets, which we believe will reflect the strong demand environment. | compname reports q1 non gaap earnings per share of $2.53.
q1 non-gaap earnings per share $2.53.
q1 revenue rose 16.6 percent to $824.6 million.
updates 2021 guidance.
sees 2021 reported revenue growth of 19% - 21%.
sees 2021 organic revenue growth of 12% - 14%.
2021 gaap earnings per share estimate of $5.95 - $6.20.2021 non-gaap earnings per share estimate of $9.75 - $10.00. |
Actual results may differ materially from those indicated.
The non-GAAP financial measures are not meant to be considered superior to or a substitute for results from operations prepared in accordance with GAAP.
In accordance with Regulation G, you can find the comparable GAAP measures and reconciliations on the Investor Relations section of our website.
The strength of our leading non-clinical portfolio was clearly demonstrated in our second quarter financial performance.
Robust industry fundamentals are leading to unprecedented client demand across most of our businesses, and we're extremely well-positioned to succeed in this environment.
Second quarter organic growth-revenue growth was in the mid-teens, even after normalizing for last year's COVID-19 impact and exceeded the long-term low double-digit target that we recently provided at our Investor Day in May.
Clients are increasingly choosing to partner with us for our flexible and efficient outsourcing solutions, the scientific depth and breadth of our portfolio, and our unwavering focus on flawlessly serving the diverse needs.
Utilizing our capabilities enables them to drive greater efficiency and accelerate the speed of their research, non-clinical development and manufacturing programs.
We believe that the efforts we have made and continue to make to differentiate ourselves from the competition now critical as clients choose to work with a smaller number of CROs who offer broader scientific capabilities.
Due to the sustained demand, we are keenly focused on the execution of our strategy.
We are strengthening our portfolio as we did through the acquisition of gene therapy CDMO, Vigene Biosciences in late June, strategically adding staff and capacity to accommodate the robust demand and support our clients and enhancing our digital enterprise to provide greater connectivity and exceptional service to them.
We believe we will make these investments and remain well-positioned to achieve our operating margin target of 22.5% in 2024.
We believe the success of our strategy is reflected in our second quarter performance.
So let me provide some of the highlights.
Quarterly revenue surpassed $900 million for the first time and a $914.6 million in the second quarter of 2021, represented a 34% increase over last year.
Organic revenue growth of 24.1% was increased by approximately 8%, when compared to last year's COVID-19 impact in the second quarter of 2020, with the greatest impact in the Research Models and Services segment.
Even after normalizing for the COVID impact, we reported mid-teens organic growth, with double-digit increases across all three business segments.
The operating margin was 20.8%, an increase of 350 basis points year-over-year.
The improvement was principally driven by the RMS segment, reflecting operating leverage from significantly higher sales volume for Research Models, due in part to the comparison to last year's COVID-19 impact.
Notwithstanding this favorable year-over-year comparison, we were pleased with the margin progression in the first half of the year and are on track to achieve a full year operating margin of approximately 21% or 100 basis points higher than last year.
Earnings per share were $2.61 in the second quarter, an increase of 65.2% from $1.58 in the second quarter of last year.
This result widely exceeded our prior outlook of more than 50% earnings growth for the quarter, primarily as a result of the exceptional demand environment.
Based on the second quarter performance and our expectation for sustained demand through the remainder of the year, we are increasing our revenue growth and non-GAAP earnings per share guidance for 2021.
We now expect organic revenue growth in a range of 13% to 15%, 100 basis point increase from our prior range.
Non-GAAP earnings per share are expected to be in the range from $10.10 to $10.35, which represents 24% to 27% year-over-year growth and an increase of $0.35 at midpoint from our prior outlook.
We attribute this exceptional performance and outlook to the success of our ongoing efforts to enhance our position as the leading non-clinical contract research and manufacturing organization, as well as the pace of scientific innovation that's fueling a significant increase in biotech funding and FDA approvals, both of which are tracking to near record levels through the first half of the year.
I'd like to provide you with details on the second quarter segment performance, beginning with the DSA segment.
Revenue was $540.1 million in the second quarter, an 18.1% increase on an organic basis over the second quarter of 2020, driven by broad-based demand for both Discovery and Safety Assessment Services.
COVID only had a small impact on the DSA segment last year, so it wasn't a meaningful driver of the year-over-year growth.
Safety Assessment business continued to perform exceptionally well, reflecting robust demand from both biotech and global biopharma, clients and price increases.
Bookings and proposal volume continued to achieve record highs in the second quarter, with strength across all regions and major service areas.
The strength of biotech funding is enabling clients to meaningfully invest in early stage programs.
And due to the unprecedented demand, we are now booking work into next year.
As I mentioned last quarter, clients are expanding their preclinical pipelines and intensifying their focus on complex biologics to ensure they do not delay their research, we believe clients are securing space with us further in advance, which, in turn, provides us with greater visibility.
To support our clients, we are continuing to add staff, capacity and the resources necessary to effectively manage the current demand environment and provide our clients with a timely, efficient and high-quality service that they have come to expect from Charles River.
We believe these investments position Safety Assessment business well and will support low double-digit organic revenue growth in the DSA segment this year.
We believe the combination of the robust funding environment as well as our deep scientific expertise and willingness to forge flexible relationships with our clients led to another exceptional quarter for the Discovery business.
Our comprehensive portfolio of oncology, CNS, early discovery and antibody discovery capabilities, which we recently enhanced through the Distributed Bio and Retrogenix acquisitions, is resonating with clients, and clients are increasingly choosing to outsource -- to integrated Discovery partners like Charles River.
Despite the robust funding, biotech clients continue to maintain limited or no internal infrastructure, opting instead to invest in their pipelines and utilize our services to move their programs forward.
To support the robust demand from biotech and global biopharmaceutical clients, we will continue to strengthen our portfolio by expanding our scale, our science and our innovative technologies through a combination of internal investment, M&A and our strategic partnership strategy.
By doing so, we are enabling our clients to remain with one scientific partner from Target ID through IND filing and beyond and solidifying our position as the leading nonclinical CRO.
The DSA operating margin increased by 30 basis points to 23.5% in the second quarter.
Leverage from the robust DSA revenue growth was the primary driver of the margin improvement.
Foreign exchange reduced the DSA operating margin by 150 basis points in the quarter as revenue and costs are not naturally hedged at certain DSA sites, including our Safety Assessment operations in Canada.
We continue to expect the DSA margin will be in the mid-20% range for the year.
RMS revenue was $176.7 million, an increase of 44.5% on an organic basis over the second quarter of 2020.
Approximately 33.4% of this growth was attributable to the comparison to last year's COVID-related revenue impact from client site closures and disruptions, which reduced research model order activity.
Adjusted for the COVID impact, the RMS growth rate was above 10% as strong research activity across biopharmaceutical academic and government clients led most RMS businesses to grow above their targeted growth rates.
Robust demand for research models in China continued to be the primary driver of RMS revenue growth.
There has been a resurgence of research activity this year, and model volumes far exceed pre-COVID levels.
Several other western markets, the client base in China has transitioned from one dominated by academic and government accounts to a vibrant mid-tier biotech and CRO client base, which now represents the majority of our clients in China.
We believe the expansion of our client base is fueling increased demand.
And to accommodate the growth, we are continuing to expand our model and services offering and our geographic and our geographic footprint in Western and Southern China.
We are currently experiencing strong double-digit revenue growth in China.
Demand for Research Models outside of China was also quite strong.
We believe this correlates with the increased level of non-clinical research that's being conducted by biopharmaceutical and academic clients in Western markets.
Research investments have led to biomedical breakthroughs and new drug modalities, and we believe the global focus on scientific innovation is sustainable.
We also continue to win new academic clients in the second quarter, resulting from the COVID-19-related client shutdowns last year and more recently from digital engagements targeting the academic client base.
Research Model Services also performed very well.
GEMS is benefiting from strong outsourcing demand as our clients seek the greater flexibility and efficiency they gain when we manage their proprietary model colonies.
The greater complexity of scientific research and the proprietary models that our clients are creating further reinforce the value proposition for the GEMS business.
Clients need for greater flexibility and efficiency is also driving demand for our Insourcing Solutions, or IS business, particularly for our CRADL initiative, which provides both small and large biopharmaceutical clients with turnkey research capacity at Charles River sites.
In addition to expanding our existing CRADL presence and adding clients in the Boston, Cambridge and South San Francisco biohubs, we're also looking to expand into other regions to provide a flexible capacity solution for our clients in emerging biohubs.
Utilizing CRADL also provides clients with collaborative opportunities to seamlessly access other Charles River services, which further enhances the speed and efficiency of their research programs.
The revenue growth rate for our self-supply businesses, HemaCare and Cellero, improved in the second quarter, but remain below the targeted level due to continued limitations on donor access.
We believe cell supply revenue will increase during the second half of the year as donor availability and capacity improved.
We have expanded capabilities, including donor capacity at our cell supply sites in Massachusetts and Washington State, which we believe will enable us to further expand our donor base in the US and accommodate the robust demand in the broader cell therapy market.
We expect HemaCare and Cellero will provide the critical tools for our new cell and gene therapy CDMO business, Cognate and Vigene.
We believe this will be highly synergistic for both Charles River and our clients because it will enable us to move client cell therapy programs forward using the same cellular products from research to CGMP production.
The RMS operating margin increased to 27.4% from 9.1% in the second quarter of last year.
The significant improvement was primarily due to the comparison to last year's depressed margin associated with COVID-related client disruptions and the corresponding reduction in Research Model order activity.
Revenue for the Manufacturing segment was $197.8 million, a 26.6% increase on an organic basis over the second quarter of last year.
The increase was driven by strong double-digit revenue growth in both the Biologics Testing Solutions and Microbial Solutions businesses.
COVID-19 did not have a meaningful impact on the segment's revenue last year, but testing on COVID vaccine -- COVID-19 vaccines has helped accelerate Biologics revenue growth rate this year.
Consistent with the first quarter, Microbial Solutions growth rate in the second quarter was well above the 10% level, reflecting strong demand for our Endosafe Endotoxin testing systems, cartridges, and core reagents in all geographic regions, as well as Accugenix microbial identification services.
With COVID related client access restrictions effectively behind us, we were pleased with the strength of the underlying demand for our endotoxin testing platform, which reforms FDA mandated lot release testing for our clients' critical quality control testing needs.
The advantages of our comprehensive portfolio continue to resonate with clients, and we believe that our ability to provide a total microbial testing solution will enable Microbial Solutions to deliver at least low double-digit organic revenue growth this year and beyond, which is consistent with the historical trend pre-COVID.
The Biologics Testing business reported another exceptional quarter of strong revenue growth that was well above the 20% growth target for this business.
Robust demand for cell and gene therapy testing services continue to be the primary growth driver.
There has been a rapid increase in the number of cell and gene therapy programs in development to approximately 3,000 programs now in the pipeline, with approximately two-thirds in the preclinical phase, which is expected to continue to fuel the strong growth.
COVID-19 vaccine work was also a meaningful driver of Biologics second quarter growth, but the underlying Biologics growth trends remained above the 20% level, even without the incremental COVID-19 testing revenue.
We believe cell and gene therapies will continue to be significant growth drivers over the long-term, and demand for COVID-19 vaccine testing is showing no signs of abating.
We believe the commercial production of COVID vaccines will continue for many years to come, supporting the demand for our services.
These factors are contributing to the strength of the demand environment, and we continue to build our extensive portfolio of manufacturing services to ensure we have available capacity to accommodate client demand.
The Manufacturing segment second quarter operating margin declined by 420 basis points to 33.2%.
The primary driver of the decline primary driver of the decline was the addition of Cognate's CDMO business as well as higher production costs in the Microbial business.
Cognate is a profitable business with a solid operating margin, but its margin is below the Manufacturing segment.
Coupled with the addition of Vigene in the third quarter, we expect a full year Manufacturing margin slightly below the mid-30% range.
However, beyond 2021, we expect this headwind to gradually dissipate as we drive efficiency and as the significant growth we anticipate generates greater economies of scale and optimizes throughout our CDMO sites.
Early in the second quarter, Cognate BioServices officially joined Charles River, followed by Vigene Biosciences in late June.
Aligned with HemaCare and Cellero, these businesses form the core of our cell and gene therapy offering, and we believe they will be highly complementary to our Biologics business and our portfolio as a whole.
We are pleased with the initial progress on the integrations and the addition of the cell and gene therapy CDMO services to a comprehensive portfolio, which is resonating with clients.
Our clients are beginning to explore opportunities to streamline their biologics development workflows by using Cognate's and Vigene's services, and their legacy clients are already looking to utilize other products and services within the Charles River portfolio to drive greater efficiency in their development and manufacturing activities.
We believe the acquisition of Vigene Biosciences with its viral vector-based gene delivery solutions, fulfills our objective to create a comprehensive cell and gene therapy portfolio, which spans each of the major CDMO platforms.
Gene-modified cell therapy, viral vector and plasmid DNA production.
In combination with Cognate's Memphis-based operations, we have established an end-to-end gene-modified cell therapy solution in the US, which we believe is critical to support our clients more seamlessly.
Our goal is to enable clients to conduct analytical testing, process development and manufacturing for these advanced modalities, with the same scientific partner, enabling them to achieve their goal of driving greater efficiency and accelerating the speed to market.
As a result of the successful execution of our strategy to date, we believe that our portfolio is the strongest it has ever been.
Our efforts to enhance our scientific capabilities, deliver flexible outsourcing solutions and provide greater value to our clients have made Charles River an important partner for our clients.
With the biopharmaceutical industry benefiting from record funding levels, we are experiencing robust demand for our essential products and services.
To support this demand and to continue to enhance the value we provide to clients, we will continue to move our growth strategy forward.
Acquisitions and strategic partnerships remain vital components of our strategy, as we endeavor to expand the scientific expertise, global reach and innovative technologies that we can offer clients across all three of our business segments.
Investing in our scientific capabilities as well as internally on the necessary staff resources in our digital enterprise will help us ensure that we can meet the needs of our clients.
The successful execution of our strategy will not only enable us to enhance our position as our clients' partner of choice from concept to nonclinical development to the safe manufacture of their life-saving therapeutics.
It will also allow us to achieve our longer-term financial targets of low double-digit organic revenue growth and an average of approximately 50 basis points of operating margin improvement beyond 2021.
And now, I'll ask David to give you additional details on our second quarter results and updated 2021 guidance.
Before I begin, may I remind you that I'll be speaking primarily to non-GAAP results, which exclude amortization and other acquisition-related charges, costs related primarily to our global efficiency initiative, our venture capital and other strategic investment performance and certain advances.
Many of our comments will also refer to organic revenue growth, which excludes the impact of acquisitions and foreign currency translation.
Once again, we are very pleased with another strong performance in the second quarter.
Robust revenue and earnings-per-share growth outperformed our prior outlook.
Organic revenue growth of 24.1%, including 8% related to last year's COVID-19 impact and operating margin expansion of 350 basis points, were the primary drivers behind earnings-per-share growth share growth of 65.2% to $2.61.
These results also reflect a favorable comparison to the second quarter of last year in which we experienced the peak of the COVID-related impact and client disruptions.
Based on our strong second quarter results and expectations for the underlying strength of demand to continue, we have increased our full year financial guidance and now expect to deliver organic revenue growth in a range of 13% to 15% for the full year.
Primarily as a result of the enhanced growth prospects this year, and to a lesser extent, a favorable tax rate, we raised our earnings per share guidance by $0.35 to a range of $10.10 to $10.35, which represents year-over-year growth of 24% to 27%.
By segment, our updated outlook for 2021 reflects the strong business environment.
For RMS, we continue to expect organic revenue growth in the high teens, driven by the Recovery in Research Model order activity from the impact of the COVID-19 pandemic last year, as well as exceptional growth in China.
Our outlook for DSA is unchanged, with low double-digit organic revenue growth for the full year, reflecting continued strength in early stage research activity.
For the Manufacturing segment, we now expect to achieve high-teens organic revenue growth.
Our revised outlook is based on exceptionally strong demand in Biologics, driven primarily by cell and gene therapy programs and an increase in contribution from the Microbial Solutions business, which is expected to return to at least low double-digit growth for the full year.
Including the acquisitions of Cognate and, more recently, Vigene Biosciences, Manufacturing's reported revenue growth rate is expected to be in the low to mid-40% range.
With regard to operating margin, our expectations for segment contributions remain mostly unchanged from our prior outlook, with the RMS operating margin meaningfully above 25% for the full year, DSA in the mid-20% range and Manufacturing slightly below the prior mid-30% outlook, principally reflecting the addition of Vigene in late June.
Lower unallocated corporate costs contributed to the second quarter margin expansion, totaling 5.6% of revenue or $51.2 million in the second quarter, compared to 6.1% of revenue last year.
Our scalable infrastructure enables us to drive greater efficiencies even as we continue to make investments to support the growth of our businesses and meet the needs of our clients.
We continue to expect unallocated corporate costs to be in the mid-5% range as a percentage of revenue for the full year.
The second quarter non-GAAP tax rate was 20.4%, representing a 60 basis point decline from 21% in the second quarter of last year.
The decrease was due to a favorable excess tax benefit associated with stock-based compensation, which resulted from increased equity exercise and award activity at higher stock price levels during the quarter.
This benefit was partially offset by higher tax expense associated with the UK tax law change.
or the full year, we are reducing our tax rate outlook to a range of 19.5% to 20.5% from our prior outlook of a tax rate in the low 20% range, principally driven by a higher benefit from stock-based compensation.
Total adjusted net interest expense for the second quarter was $20.8 million, an increase of $3.7 million sequentially and $1.7 million year-over-year, due to higher debt balances primarily to fund the Cognate acquisition.
At the end of the second quarter, we had an outstanding debt balance of $2.7 billion, representing gross and net leverage ratios of about 2.5 times.
Subsequent to the end of the second quarter, we completed the acquisition of Vigene on June 28.
On a pro forma basis, including Vigene, our gross leverage ratio remained below three times, which we attribute to our robust free cash flow generation that has enabled us to repay debt ahead of our expectations.
For the full year, we now expect total adjusted net interest expense to be slightly below our prior outlook in a range of $82 million to $85 million, primarily reflecting the accelerated debt repayment.
Free cash flow was $140.2 million in the second quarter, an increase of 3.5% over the $135.5 million for the same period last year.
The primary drivers of the increase were our strong second quarter operating performance and distributions from our VC investments, partially offset by higher capital expenditures.
In view of our robust results in the first half of the year, we have increased our free cash flow outlook by $65 million and now expect free cash flow of approximately $500 million for the full year.
capex was $46.4 million in the second quarter last year, compared to $26.8 million last year.
The increase was due primarily to the timing of projects.
Some investments, which were slowed or deferred during the COVID-19 disruptions last year are now back on track.
We continue to expect capex to be approximately $220 million for the full year.
A summary of our revised financial guidance for the full year, including all recent acquisitions, can be found on slide 39.
For the third quarter, our outlook reflects a continuation of the strong demand environment.
We do expect that growth rates will normalize from the second quarter levels, because we have anniversarized the peak of the COVID-19-related revenue loss last year.
Accordingly, we expect organic revenue growth in the low to mid-teens range and reported revenue growth in the low 20% range.
You should note that we are not forecasting a meaningful difference between the first half and second half organic growth rate after normalizing last year's COVID impact, which is not surprising as we believe the robust demand environment is showing no signs of abating.
We expect low double-digit earnings-per-share growth when compared to last year's third quarter level of $2.33.
I will remind you that the DSA operating margin in the third quarter of last year included a 50 basis point benefit from a discovery milestone payment, which will impact the year-over-year comparison.
In closing, we are very pleased with our second quarter results, which included another quarter of robust revenue, earnings and free cash flow growth.
We continue to be focused on the continued execution of our strategy and achieving our financial and operational targets, which will move us forward toward our longer-term targets for 2024. | q2 revenue $914.6 million versus refinitiv ibes estimate of $880.4 million.
q2 non-gaap earnings per share $2.61.
increases 2021 guidance.
sees fy revenue growth, organic 13% - 15%.
sees fy non-gaap earnings per share estimate $10.10 - $10.35. |
I'm Evan Goldstein, senior vice president of investor relations.
With me on the call today is Marc Benioff, chair and CEO; Amy Weaver, chief financial officer; Bret Taylor, chief operating officer; and Gavin Patterson, chief revenue officer.
As a reminder, our commentary today will primarily be in non-GAAP terms.
In particular, our expectations around the impact of COVID-19 pandemic on our business, acquisition, results of operations and financial condition, and that of our customers and partners are uncertain and subject to change.
A description of these risks, uncertainties, and assumptions, and other factors that could affect our financial results is included in our SEC filings, including our most recent report on Form 10-K.
With that, let me hand the call to Marc.
I am actually here in Geneva, Switzerland with Gavin Patterson, our chief revenue officer.
And I'm attending the World Economic Forum's IBC meeting and board of trustees meeting, and it's been a great experience being here in Geneva.
Very much the world is open for business here, and it's great to be meeting with our customers face-to-face and in-person and discussing our business with them and talking about their businesses and how their businesses are doing in this new normal.
And we're learning quite a bit about how different the U.S. is from Europe right now and also how much has really changed, which is quite a bit.
So, I'm absolutely excited to be here, but I'm also extremely excited to share our phenomenal second-quarter results with you.
You can really see we had a phenomenal second quarter.
We just had a phenomenal second half.
You're about to hear we're about to have a phenomenal first half as well.
And we're also going to have a good chat about what we're doing with Slack, a very exciting acquisition that's now closed.
And you are going to hear about No.
1 CRM just got better.
And it's incredible what's going on with Slack, and looking forward to addressing all that with the -- in the script with you.
So look, we are in a new world.
There's no doubt about that.
I'm sure that all of us realize that, and we are delivering success from anywhere as well for Salesforce.
We've gone through a tremendous transformation, and we're now delivering this new world for our stakeholders.
And from a business perspective, well, I'd say it's been an absolutely extraordinary 18 months for Salesforce, I know for all of you and certainly for all the CEOs I met with today.
We're navigating this global pandemic.
We have been guided by our core values of trust, of customer success, of innovation, of quality.
But through all this and through our perseverance and through our, I think, dedication to our customers, we've been able to deliver record financial results.
And with these results, we've now -- can say -- and looking over this, we've now had five outstanding quarters in a row really delivering the success of our vision.
So, let's take a look now at the second quarter because the numbers are incredible.
And you can see we delivered our first $6-billion-quarter, about $6.3 billion, and continue to maintain our very strong growth rate, our profitability, our cash flow, our margin growth, continue to execute our new operating margin model.
And you can see right now, revenue and the growth in the quarter, you can see $6.34 billion, up 23% year over year.
Pretty awesome and above where we thought we were going to be, considerably above.
And I guess I'm -- as excited as I am about the revenue, I'm also very excited that as we're executing this new operating margin model, we can see the margin in the quarter was also a very healthy, 20.4%, up 20 basis points year over year, and also delivered $386 million in operating cash flow.
For fiscal year '22, we are raising again our guide to $26.3 billion, which is now at the high end of our range.
It's a raise of $300 million, and it's going to represent about 24% projected growth year over year and just really reflects, I think, how well the company is doing in its core, not just through the Slack acquisition, but you can see organically, especially when you look at the numbers over the last five quarters.
And we're raising our operating margin to 18.5%, up 80 basis points year over year.
Again, based on just the outstanding performance of the company, we're able to do some amazing things here with the operating margin.
I don't think Salesforce has really ever been -- you know, had better execution, better management team, greater momentum.
And as I have spoken to so many customers today, I don't think we've ever been more well-positioned for them.
And I'll say that in two areas.
One is in our core products, our focus on customer success, the Customer 360 now with the Slack user interface and everything being Slack first, but also our core values.
So, many of our customers are attracted to us because, in many cases, they're going through an amazing values transformation and in the areas of -- that we've pioneered.
And now especially in regards to sustainability, which we'll talk about because, as you know, Salesforce has been a net zero company, but now we're fully renewable as well.
And as we start to head toward the Fortune 100, I think that -- a lot of the companies that I met with today were mostly Fortune 100 CEOs.
They crave to have that same net zero and renewable profile, which is very exciting to see the world having this kind of sustainability focus.
So, I'm absolutely thrilled to see how the core business grew in the first half of the year.
And I am excited about the outlook.
I'm excited about our positioning with our customers.
And I'll tell you, I'm very excited that five out of the last five quarters that we've had that 20% or greater revenue growth.
And three out of the last five quarters, we're having greater than 20% operating margin.
I don't think we could have said either of those things five quarters ago.
So, my hat is really off to the management team and to the employees for making this happen.
And we're raising our guidance for the fourth time in a row as we see increased opportunities for additional revenue growth and additional operating margin capability this year.
And look, we're the fastest-growing enterprise software company ever.
You see where the numbers are going.
You can see what the trajectory is, the velocity of the company, both in revenue and margin.
And now you can also see that no other software company of our size and scale is really performing at this level.
So, we are really quite confident and remain on our path to generate $50 billion in revenue by fiscal year '26, which doesn't seem very far away from right now.
And when we first gave that number, it didn't seem as -- it didn't -- it seems like it was so far away.
Now it seems like, wow, this is going to happen. | q2 revenue $6.34 billion versus refinitiv ibes estimate of $6.24 billion.
sees fy revenue $26.2 billion to $26.3 billion.
raises fy22 gaap operating margin guidance to approximately 1.8% and non-gaap operating margin guidance to approximately 18.5%. |
I'm Jason Feldman, Vice President of Investor Relations.
craneco.com in the Investor Relations section.
Please also mark your calendars for our May 26 Virtual Aerospace & Electronics Investor Day.
Well, what a solid quarter on so many levels.
I told you all that our February Investor Day that Crane was at an inflection point for accelerating growth after years of organic investments.
In the first quarter, you saw substantial evidence of that inflection and the related themes from Investor Day reading through.
We are well positioned for accelerating organic growth as our end markets continue to recover.
In addition, we are outgrowing our end markets because of our consistent and ongoing investment in technology, new product development, and commercial excellence.
Solid execution continues to leverage that growth into earnings and strong free cash generation, which creates substantial flexibility for capital deployment, and continued evidence of the value we create through acquisitions with stellar performance at Crane Currency, Cummins Allison and I&S.
As we announced last night, first quarter adjusted earnings per share was $1.66, a 44% increase from the prior year.
All three of our strategic global growth platforms performed better than we forecast, led by Crane Currency and with demand ahead of expectations across all businesses, most substantially at Fluid Handling.
In addition to market growth, the outperformance was driven by extremely strong fundamental execution at all levels across the business, from productivity, price actions, growth initiatives driving market outgrowth and new product development, all driven by our rigorous cadence and disciplined approach to managing our business.
Regarding market outgrowth, we will spend dedicated time on Aerospace & Electronics at our May 26 Investor Day, but I would like to highlight a handful of notable accomplishments this quarter in our other businesses.
At Fluid Handling, starting with our water and wastewater business.
We continue to make progress with the new products that Alex discussed in February.
Our new high-efficiency non-clog pump remains on track to launch in July.
And we are already seeing significant interest in the product with substantial momentum in quoting activity.
When launched, this will be the most efficient pump in the market with the proprietary cooling system that allows the motor operate with far less resistance, improving efficiency.
Our chopper pump introduced in 2018 has been proven to reduce maintenance costs by 75%.
A little over two years after launch, we continued to gain share, and we just had our best-ever sales month for this product in March.
Together, these two products are on track to drive $30 million of incremental sales by 2025.
For the core process part of the business, we continue to drive new product vitality to new levels in this business.
We've always had a strong process business known for its quality, reliability and differentiated designs but we've improved upon that solid position with a product development process that continues to drive greater innovation and speed to market.
In February, we presented, in addition to our triple offset valve line, the FK Tri-X product that is true breakthrough focused on replacing other valve technologies and expanding our addressable market by another $500 million for this product line.
This valve is completely new in the industry and delivers four to 6 times better flow than the competition, while maintaining the superior sealing technology of a triple offset valve, and therefore, reducing the total cost of ownership by 50%.
During the quarter, the team completed its fugitive emissions certification process and year-to-date is already more than double our original target.
We also continue to make progress with our large lined diameter pipe product that we presented in our February 2020 Investor Day event.
This product provides more resistance to delamination and corrosion and lasts over 10 times longer than competing products.
We just exited our best quoting month ever for this product, which was introduced in 2019, and we are on track to deliver sales approximately 4 times last year's levels.
Continued progress on new products as well as commercial excellence, driving share gains in above-market growth across the Fluid Handling business.
At our Crane Payment Innovations business, we continue to capture exciting opportunities across our various vertical markets with innovative and new to the market solutions.
In February, Kurt discussed the growth we are seeing in alternative self-checkout solutions that are smaller and more versatile than the traditional self-checkout lane to grocery stores.
Our new products in this area include our Pay Station and Paypod solutions for smaller retailers, convenience stores and quick service restaurants, which continue to gain traction with customer field trials and rollouts in midsized franchises.
We are also working with an increasing number of customers on localized retail solutions, particularly with large retailers, who want a fully custom self-checkout solution optimized for their footprint and needs.
Further, retail is seeing strong demand for various self-service kiosks for bill payment applications, sale of gift cards and even the purchase and exchange of cryptocurrencies.
Gaming is the other area where we're seeing a strong rebound in market demand, paired with increasing opportunities from the innovative solutions we're offering, from cashless solutions that are compliant with the stringent regulations governing casinos to our latest simplified software and connectivity suite for both front and back-office cash management.
CPI provides an unparalleled breadth of capabilities and a successfully increasing penetration and gaining share in gaming.
At Crane Currency, this quarter's results speak for themselves.
We are clearly outgrowing the international market with our portfolio of best-in-class anti-counterfeit security solutions and banknote printing capabilities.
While aided somewhat by demand positively in this COVID environment, the currency team continues to innovate and introduce a steady flow of new best-in-class security products.
To date, 147 denominations of specified Crane Currency's technology and 10 new denominations over the last 12 months, including the first for our new BREEZE product introduction.
The commercial focus in execution has also been outstanding from strategic account management, customer segmentation and holistic value selling and product management.
As planned when we initially acquired Crane Currency, we have driven substantial improvement in international margins over the last four years through consistent application of CBS, which continues to drive improvements in quality and efficiency.
For example, paper yields in our Swedish substrate operation are up 8% over the last 12 months, a material improvement that directly improves profitability.
When we announced this acquisition in late 2017, we targeted $1 of earnings per share accretion by 2021.
Based on where we ended the quarter, I am very confident we will exceed that $1.
In addition to outgrowing our markets, there was solid execution in the quarter.
We delivered these strong results in an environment with some supply challenges and continued uncertainty related to COVID, both which will continue through the balance of the year.
Similar to what many others are experiencing globally, we continue to manage through various supply chain disruptions.
No single major issue, but our teams continue to manage through various shipping delays and random supplier constraints whether due to COVID, lockdowns or short-term material availability.
We have also done an excellent job fully offsetting the material cost increases we are seeing across many of our businesses.
That pressure was most notable in Engineered Materials, where resin prices increased rapidly, partly because of shortages and outages following the storms earlier this year in Texas that disrupted production at some of our suppliers.
However, that team managed both the sharp increase in demand from RV customers as well as the immediate higher material costs extremely well.
This is an experienced and seasoned team that responded quickly, ramped up production, and implemented price surcharges, and this was all done in a manner that treated our customers fairly, met our customers' needs and will result in full price recovery and margin protection for our business on a full year basis.
Excellent performance by the team and excellent results in the environment.
We also had continued strong performance from our recent acquisitions.
Cummins Allison and I&S are on track to exceed our original full year expectations for 2021.
And remember that Cummins Allison delivered 2020 results ahead of its original plan despite the impacts of COVID.
And we have growing capacity for further acquisitions giving our strong balance sheet and strong free cash flow generation.
An excellent quarter and an outlook that is just as impressive.
We are trending ahead of our expectations on execution, free cash flow and margins and also on sales and orders, given improving trends across nearly all of our end markets.
The pace of that improvement varies across our businesses.
Some were not really impacted negatively by the pandemic, most notably Crane Currency, the military side of our Aerospace & Electronics business and our nuclear service business.
Some, like the recreational vehicle market and Engineered Materials and our shorter-cycle commercial Fluid Handling businesses are already seeing strong sales growth.
They should be followed over the next quarter or two by a sales inflection at our Crane Payment Innovations business and then by the longer cycle process side of our Fluid Handling business.
For commercial aerospace, we are already seeing very favorable leading indicators, but we don't expect positive year-over-year sales growth until the latter part of this year.
Based on what we can see, it feels like a solid phased improvement across all segments well into 2022.
However, while our markets are improving, our optimism is tempered somewhat by the ongoing uncertainty about how the rest of the year will unfold.
There are still COVID-related lockdowns throughout parts of Europe, a worsening situation in India, ongoing travel restrictions in many parts of the world and risks related to new COVID variants.
Balancing these factors, we are raising our adjusted earnings per share guidance by $0.65 to range of $5.65 to $5.85.
At the midpoint, that reflects 50% adjusted earnings per share growth.
We are raising our core sales growth forecast by two points to a range of 4% to 6%.
Inflection, we have clear momentum with increasing traction from our growth initiatives.
And I'm confident that we are on a path to generate substantial and sustainable value for all of our stakeholders.
Starting with Fluid Handling.
Sales of $288 million increased 12% driven by a 6% increase in core sales, a 5% benefit from favorable foreign exchange and modest acquisition benefit.
Fluid Handling operating profit increased by 24% to $39 million.
Adjusted operating margins increased 120 basis points to 13.4%, reflecting strong execution on productivity, benefits from last year's cost actions and the higher volumes.
Sequentially, trends in Fluid Handling improved across the board with foreign exchange neutral backlog up 4% and foreign exchange neutral orders up 15%.
Compared to the prior year, backlog increased 5% and orders increased 2%.
Throughout the quarter, the order growth was strongest in our shorter-cycle businesses.
Orders at our core process business inflected positive on a year-over-year basis in March, and we expect that trend to continue through the second quarter.
It is possible a portion of the strength in process orders is related to distributor restocking, but we are also seeing clear evidence of improving end demand, and in some cases, the start of released pent-up demand.
We expect the recovery to be led by the chemical and pharmaceutical end markets, both of which are continuing to show signs of strengthening.
For chemicals, leading indicators, including chemical production, are improving.
And for pharma, our project funnel continues to grow.
General industrial leading indicators are also turning even more favorable.
And given the long lead times for certain products in this vertical, we continue to build some inventory in advance of the eventual recovery.
Regionally, we still expect the recovery to be led by North America and China, with Europe lagging.
We had positive year-over-year sales growth across all parts of our commercial business with particular strength in Canada.
For Fluid Handling overall, we expect to do better than our original 2021 segment guidance.
In February, we guided to core growth of 0.5%, which is now expected to be in the mid-single-digit range.
Our original guidance for favorable foreign exchange of 2% is now running closer to 4%, and we still expect an incremental acquisition benefit of approximately $5 million this year from I&S.
Margins should also exceed our original 12.5% guidance.
However, remember, we told you last quarter that while we expect really solid operating leverage this year, the strongest leverage won't occur until our longer and later cycle process business picks up a few quarters from now.
Leverage is also temporarily muted by positive FX movements that we saw in the quarter.
At Payment & Merchandising Technologies, sales of $338 million in the quarter increased 13% compared to the prior year, driven by 8% core sales growth and a 4% benefit from favorable foreign exchange.
Segment operating profit increased 176% to $85 million.
Adjusted operating margins increased 1,500 basis points to 25.3%.
And while currency core sales increased 52%, our high-margin Payment business core sales declined 12% and is still several quarters away from a full recovery.
We do believe the first quarter will be the best of the year for the segment and for Crane Currency, and volume and mix certainly did help margins somewhat in the quarter.
However, I think it is also really important to remember several other factors here.
First, we have more than doubled international margins at Crane Currency, even after the significant intangible amortization that comes with purchase accounting.
And while volume helped, the execution at Crane Currency has consistently and steadily improved over the last four years.
Quality, delivery and cost metrics are in a completely different range than they were pre-acquisition and we continue to see improvements every day.
And while broad-based, I would highlight particularly notable improvement in our international operations.
The volume we saw in the quarter was also broad-based across the U.S., the international markets as well as across security, substrate and banknote printing.
And lastly, we are meeting our customers' needs better than ever before, and we are being paid for the value that we are providing.
And that's where we will remain focused, providing our customers a level of service and quality of products that they can't obtain anywhere else.
At Crane Payment Innovations, we continue to see improving trends across the business.
We continue to expect the greatest medium-term growth in the retail -- in retail, driven by self-checkouts, strong return on investment as well as the hygiene and health benefits of eliminating direct human interaction in the checkout process.
Transportation started the year strong.
And at gaming, we continue to gain traction with our connectivity solutions and cashless payment options.
Vending still remains our softest vertical given the number of offices and schools that are still operating remotely, but we have already seen a clear inflection in leading indicators with machines in public locations like airports on a clearer path to recovery.
Given all those favorable trends for 2021, core sales growth is likely to reach the high single digits this year, somewhat better than the 6% we originally guided to, with favorable foreign exchange now, a little above 3% benefit for the year.
The core sales growth reflects solid growth across both CPI and Crane Currency.
Margins are now likely to be above 20% on a full year basis, but we certainly expect margins to moderate somewhat as the year progresses.
At Aerospace & Electronics, sales declined 20% to $154 million with segment margins of 16.9%.
In the quarter, total aftermarket sales declined 29%, driven by a 43% decline in the commercial aftermarket and a 5% decline in military aftermarket sales.
Commercial OE sales declined 32%, but the defense OE business remained solid with sales up 4%.
We continue to believe that the fourth quarter of last year marked the trough for both sales and margins, and we will see improvement over the course of 2021.
We are gaining better line of sight to improvement with leading indicators like airline schedules and flight hours trending favorably.
However, we will have at least another quarter of year-over-year sales declines before sales growth inflects given the long and late cycle nature of this business.
On a full year basis, the core sales decline should be a couple of points better than the 8% decline we guided to earlier this year.
We still expect segment margins to recover back to north of 20% fairly quickly after 2021 as the commercial markets continue to recover on a substantially lower cost base.
For this year, we expect margins modestly better than the 15% that we guided to in January.
Engineered Materials sales increased 6% in the quarter to $54 million with 11.8% margins.
Sales strength was led by recreational vehicle demand, and we have good indications that building products demand is poised for a strong recovery in the coming quarters.
Margins in the quarter were impacted by rising resin prices.
The cost pressure on resin was exasperated by the storms in Texas that disrupted operations for several of our suppliers.
The resin supply is recovering quickly and we expect that to result in resin costs reverting to more normal levels in the next several months.
We have quickly implemented surcharges on our customer base and on a full year basis, we will fully offset the higher input costs with pricing.
Consequently, we are on track to meet or exceed our original 2021 guidance for this segment.
Turning now to more detail on our total company results and guidance.
We had very strong cash flow performance in the quarter, generating $45 million in free cash flow compared to negative $43 million in the first quarter of last year.
During the quarter, we also received $15 million from the sale of a property in Long Beach, California that is excluded from free cash flow given required classification of an investing activity.
However, this sale was directly enabled by our ongoing restructuring efforts as we moved operations from this facility to other locations.
Since 2017, we have received proceeds from real estate and other asset sales made possible by restructuring activities of approximately $47 million, which means that much of our restructuring has actually been self-funded.
We also continue to further improve our strong balance sheet.
Subsequent to the quarter end, on April 15, we repaid the term loan originated in April of 2020 in full using cash on hand and some commercial paper.
At Investor Day in February, I told you that we had very limited acquisition capacity today growing to about $750 million by the end of this year.
Given our revised outlook, that number is going to be somewhat higher.
We will remain disciplined, but I am confident we will continue to find attractive transactions where we can deploy our capital to create value for shareholders.
The adjusted tax rate in the quarter was 22.2%.
For the full year, we now expect an adjusted tax rate of 21% rather than the 21.5% prior guidance with the fourth quarter tax rate likely the lowest of the year.
As Max explained, we are raising our adjusted earnings per share guidance by $0.65 to a range of $5.65 to $5.85, reflecting the strong first quarter performance and our expectation that end markets and execution will be ahead of where we forecast them earlier this year.
That said, there is still some uncertainty in many of our markets as well as challenges in certain areas of the supply chain.
But again, this guidance appropriately balances our performance and the market environment.
For core sales, we now expect core growth of 4% to 6%, up two points from our prior guidance.
Foreign exchange has also become more favorable over the last several weeks, and we now expect favorable foreign exchange translation of 2.5%, up from 1.5% in our prior guidance.
Free cash flow guidance was increased to $300 million to $330 million, up $35 million from prior guidance, reflecting higher earnings.
Corporate expense is now expected to be $77 million, up $12 million compared to the prior guidance, reflecting a number of changes, including some timing items, some legal fees and higher bonus accruals.
Regarding the cadence of our earnings through the year.
Remember, last quarter, we discussed about $0.06 of earnings that we shifted from the end of last year into our first quarter given timing and logistics issues.
We also had some favorable timing and mix in the first quarter.
We expect a step-down in earnings per share next quarter with the second and third quarter and earnings per share levels similar to each other, and then fourth quarter will follow its usual pattern as the seasonally weakest quarter across most of our businesses.
Operator, we are now ready to take our first question. | q1 non-gaap earnings per share $1.66 excluding items.
raises fy earnings per share view to $5.65 to $5.85 excluding items.
q1 sales rose 5 percent to $834 million. |
I am Jason Feldman, Vice President of Investor Relations.
After which, we will respond to questions.
craneco.com in the Investor Relations section.
We finished the second quarter with record adjusted earnings per share from continuing operations of $1.83, up 205% compared to last year and record adjusted operating margins of 17.6%.
We delivered core sales growth of 19% with a number of strong leading indicators reflected in core order growth of 45% and core backlog growth of 7% compared to last year.
Based on this performance, we are raising our adjusted earnings per share from continuing operations guidance by $0.30 to a range of $5.95 to $6.15, which is effectively our fourth guidance increase so far this year.
Please allow me to take a moment to put this in perspective.
The midpoint of the updated guidance at $6.05 is above our prior peak pre-COVID adjusted earnings per share of $6.02 in 2019.
While we expect to exceed that $6.02 prior peak this year, there are some notable differences this year compared to 2019.
In particular, the $6.02 in 2019 included earnings from Engineered Materials, which is now classified as discontinued operations and excluded from our 2021 guidance.
As we have mentioned previously, this is about $0.44 of earnings per share now excluded in discontinued ops.
Further, most of our end markets are still in the very early stages of recovery and remained well below their pre-COVID peak levels.
The only real exceptions to this are Crane Currency and our defense business.
And thinking about 2022 and beyond, it is worth noting that the commercial side of our Aerospace & Electronics business will still be almost $200 million below 2019 levels this year and a recovery to pre-COVID levels in this business alone would add more than $1 per share to EPS.
At Payment & Merchandising Technologies, the core non-currency business will be slightly more than $200 million below pre-COVID levels, with more than half of that amount in our very high margin core Payment Solutions business.
Throughout the recovery and beyond, this business will continue to benefit from very favorable long-term macro drivers, helping our customers drive productivity and security by automating the payment and transaction process, with many of those trends strengthening with ongoing labor shortages and wage inflation.
And in Process Flow Technologies, we are just beginning to see an inflection to positive core growth on the process side of the business over the last month or two.
And while sales growth has just barely inflected positive, we haven't had a backlog in our process valve business this high since 2014 and sales will certainly follow.
So, how are we driving earnings above 2019 levels without a full market recovery yet?
Message is the same, execution on our growth initiatives, together with the consistent cadence and discipline of the Crane Business System to drive growth, productivity and cost savings.
And as mentioned many times before, we have delivered on margins and free cash flow while maintaining 100% of our investments in strategic growth initiatives throughout the entirety of the pandemic, because of their importance in our ability to sustainably drive long-term, profitable growth.
These initiatives will continue to drive above market growth.
Paired with the market recovery and our consistent execution, we are very excited about our growth prospects, strong top line growth, solid operating leverage driving substantial growth in free cash flow, credibly delivering on expectations.
I discussed at our February Investor Day event how Crane was at an inflection point for accelerating growth after years of organic investments and consistently excellent execution.
In the first quarter, you saw substantial evidence of that inflection and the related themes from Investor Day reading through.
At our May Aerospace & Electronics investor event, we showed you numerous examples of how we continue to effectively drive above-market growth, expecting 7% to 9% compound average growth over the next 10 years.
Also in May, we announced the sale of Engineered Materials as part of our strategic portfolio management process to increase our overall growth profile while continuing our simplification journey.
And today, you can see even more evidence of that inflection in our core sales growth as well as in our leading indicators, including orders and backlog.
Consistently executing on our investor thesis, that is, we are well positioned for accelerating organic growth as our end-markets continue to recover.
We are outgrowing our end-markets because of our consistent and ongoing investment in technology, new product development and commercial excellence.
Solid execution continues to leverage that growth into earnings and strong free cash generation, which creates substantial flexibility for capital deployment and continued evidence of the value we create through acquisitions with stellar performance at Crane Currency, Cummins Allison and I&S.
Inflection, we have clear momentum with increasing traction from our growth initiatives.
We will continue to generate substantial and sustainable value for all our stakeholders.
At Aerospace & Electronics, sales of $158 million were flat with the prior year.
Adjusted segment margins, however, improved 420 basis points to 19.6%.
In the quarter, total aftermarket sales turned positive, growing 3% after a 29% decline in aftermarket sales last quarter.
Commercial OE sales increased 4% in the quarter after a 32% decline last quarter.
Defense OE sales declined 4% in the quarter and are flat on a year-to-date basis.
We continue to believe that the fourth quarter of last year marked the trough for both sales and margins at Aerospace & Electronics.
We expect sales to continue to improve slightly on a sequential basis throughout the rest of this year as the pace of the recovery continues to improve and our expected timing of a recovery to pre-COVID levels continues to get pulled forward.
More specifically, we are seeing North American airlines bring a substantial number of aircraft back into service to meet expected domestic demand levels, with the in-service fleet now at about 90% of mid-2019 levels.
On the international side, traffic continues to improve, albeit a little more slowly, with substantial room for recovery-further recovery as global ASKs are now a little better than 50% of 2019 levels.
In general, pent-up demand will drive recovery faster than expected as COVID restrictions continue to ease.
And our confidence in our outlook for this business is about more than just a market recovery.
We are seeing accelerating growth resulting from consistent and continued investment in technology.
Our growth investments over the last decade have not wavered and we are seeing the benefits of those investments today.
These investments also continue to expand our addressable market and align our business with accelerating secular trends, most notably electrification.
And we are delivering on truly breakthrough innovations that are critical enablers to our customers' growth strategies and that are transforming the growth trajectory of our business, really exciting opportunities in our power conversion business, sensing and fluid and thermal management.
Taken together, and as we explained at our Aerospace Investor Day in May, we expect a long-term overall compound annual growth rate of 7% to 9% through 2030.
Process Flow Technologies sales of $311 million increased 30% driven by a 22% increase in core sales and an 8% benefit from favorable foreign exchange.
Process Flow Technologies operating profit increased by 83% to $49 million.
Adjusted operating margins increased 450 basis points to 15.7%, reflecting the higher volumes, strong execution and benefits from last year's cost actions.
Sequentially, trends improved across the board with FX-neutral backlog up 5% and FX-neutral orders up 8%.
Compared to last year, FX-neutral backlog increased 11% and FX-neutral core orders increased 28%.
During the first quarter, order growth was strongest in our short-cycle commercial business.
However, orders at our core process business inflected positive on a year-over-year basis in March and that trend continued throughout the second quarter.
We are also seeing clear evidence of improving end demand and in some cases, the start of released pent-up demand.
We expect the recovery to be led heavily by the chemical end market, which is continuing to show signs of strengthening around the world.
And remember that the chemical market is our most important market, where we have the strongest position and the most differentiated offering, and generated more than 35% of sales on the process side of this business.
We are seeing continued strength in MRO sales, and project activity is clearly picking up for necessary debottlenecking activities as well as larger capacity expansions, particularly for specialty chemical applications.
We are seeing this most significantly right now in the United States and China with Europe projects likely to pick up next year.
General industrial activity has also strengthened but primarily in the United States.
Conventional power and oil and gas markets remain fairly sluggish.
However, remember that collectively, upstream oil and gas and conventional power are a small part of this business and less than 10% of segment sales.
As orders convert to sales in these core process markets later this year and into 2022, we expect very strong operating leverage.
For the shorter-cycle non-residential and municipal end markets, we are seeing a continuation of the strength that we saw during the first quarter.
For Process Flow Technologies overall, our outlook continues to improve.
We now expect high single-digit core sales growth, with approximately 5% of favorable foreign exchange on a full year basis.
Full year margins should be somewhere between where they were in the first and second quarters.
At Payment & Merchandising Technologies, sales of $328 million in the quarter increased 31% compared to the prior year driven by 26% core sales growth and a 5% benefit from favorable foreign exchange.
Our Currency business core sales increased in the mid-teens range with the Crane Payment Innovations business inflecting to a positive 34% of core growth, but still well below pre-COVID levels.
Segment operating profit increased 285% to $78 million.
Adjusted operating margins increased 1,500 basis points to 23.7%.
Really impressive performance again in the quarter, as expected, and now with our legacy payment business beginning to contribute meaningfully, paired with the ongoing superior performance at Crane Currency.
For the payment business, with the phased economic reopening, we continued to see very strong growth in the gaming and retail end markets.
And during the second quarter, vending started to recover as well.
Transportation, particularly parking, remained softer, although we have seen some substantial fare collection project activity during the quarter.
At Crane Currency, we continue to see strength in both the domestic and international markets, and we continue to gain share both with our technology and bank note offerings.
As we explained last quarter, we do expect margins to moderate further over the course of the year given timing and mix, with full year margins likely toward the high-end of our long-term target of 18% to 22%, with core sales growth this year now approaching mid-teens with a 4% favorable foreign exchange benefit.
And like our high-margin Aerospace business, the recovery has just begun at payment-Crane Payment Innovations.
Turning now to more detail on our total company results and guidance, we had extremely strong cash flow performance in the quarter, generating $141 million in free cash flow compared to $102 million in the second quarter of last year.
Year-to-date, free cash flow was $184 million compared to $62 million last year.
During the second quarter, we also received approximately $9 million from the sale of a property in Arizona following receipt of $15 million last quarter from the sale of another property.
These proceeds are excluded from free cash flow given required classification as an investing activity.
However, one of these sales was directly enabled by our ongoing restructuring efforts as we moved operations from this facility to other locations.
And the other reflects our proactive approach to identify underutilized assets.
Since 2017, we have received proceeds from real estate and other asset sales made possible by restructuring activities of approximately $56 million, which means that much of our restructuring has been self-funded.
As a reminder, on May 24, we announced that we had signed an agreement to sell our Engineered Materials segment for $360 million.
That process is ongoing, and we continue to work on obtaining regulatory approvals.
When the transaction closes, we expect proceeds, net of tax, to be approximately $320 million.
Our balance sheet is in extremely good shape.
During the second quarter, we repaid the term loan originated in April of 2020 in full using cash on hand and some commercial paper.
As we discussed in May, we believe we will have approximately $1 billion of M&A capacity by the end of this year.
Valuations today are quite lofty, and we will remain disciplined.
But I am confident that over time, we will continue to find attractive transactions where we can deploy our capital to create value for shareholders.
We will also maintain discipline about our balance sheet efficiency.
During periods where acquisitions are less actionable, we will consider returning excess cash to shareholders rather than maintaining an efficient-inefficient balance sheet.
However, over the long term, we continue to believe that we will be able to add the most value through acquisitions.
The adjusted tax rate in the quarter was 18.4%, which included an excess tax benefit of approximately $4 million or $0.07 per share related to stock options exercised during the quarter.
For the full year, we now expect an adjusted tax rate of 20.5% rather than the previous 21% guidance.
As Max explained, we are raising our adjusted earnings per share guidance by $0.30 to a range of $5.95 to $6.15, reflecting the strong second quarter performance and our expectation that end markets and execution will be ahead of where we forecasted them earlier this year.
Remember that our original guidance for 2021 was $4.90 to $5.10, and that guidance included $0.44 of earnings contribution from Engineered Materials.
That means we have effectively raised guidance about $1.50 on an operational basis since the beginning of the year.
While uncertainty remains related to COVID variants and sporadic supply chain constraints, overall we have a high level of confidence in our revised guidance based on our team's outstanding performance, driving incremental price and proactively and effectively managing inflation and their supply chain.
Our revised guidance also reflects the same cadence of earnings progression we have discussed since the beginning of the year.
Specifically, we continue to expect a step-down in earnings per share next quarter given timing and with fourth quarter following its usual pattern as the seasonally weakest quarter across most of our businesses.
Our revised guidance assumes core sales growth of 7% to 9%, which is 200 basis points higher than our prior May 24 guidance.
Favorable foreign exchange is also now expected to contribute 3.5%, up 100 basis points from late May.
Free cash flow guidance was increased to $320 million to $350 million, up $20 million from prior guidance, reflecting higher earnings and slightly lower capex at $70 million.
Corporate expense is now expected to be $80 million, up $3 million compared to prior guidance.
Overall, an excellent year continuing to unfold with outstanding execution from all of our teams driving exceptional results, growth, margins, free cash flow and we remain excited about continued tailwinds in 2022 and 2023 as end markets continue to recover.
Operator, we are now ready to take our first question. | crane co raises 2021 earnings per share guidance.
q2 earnings per share $1.83 from continuing operations excluding items.
raises fy earnings per share view to $5.95 to $6.15 from continuing operations excluding items.
raises fy gaap earnings per share view to $6.05 to $6.25 from continuing operations.
revised fy guidance assumes core sales growth of +7% to +9%. |
I'm Jason Feldman, Vice President of Investor Relations.
craneco.com in the Investor Relations section.
Another exceptional quarter with solid results across the board.
Even in this environment of persistent inflationary pressures, random supply and logistics issues and continued various COVID recovery conditions globally.
We finished the third quarter with record adjusted earnings per share from continuing operations of $1.89 up 103% compared to last year along with extremely strong adjusted operating margins of 16.8%.
We delivered adjusted core sales growth of 19% with a number of strong leading indicators reflected in core order growth of 31% and core backlog growth of 13% compared to last year.
Based on this performance, we are raising our adjusted earnings per share from continuing operations guidance by $0.35 to a range of $6.35 to $6.45, which is effectively our 5th guidance increase this year.
Remember that our original guidance for 2021 was $4.90 to $5.10 and that guidance included $0.44 of earnings contribution from Engineered Materials.
That means we have effectively raised guidance more than $1.80 on a comparable basis since January.
Compared to 2020 on a like-for-like basis excluding Engineered Materials in both periods, our current guidance midpoint of $6.40 compares to 2020 earnings per share of approximately $3.52 reflecting more than 80% year-over-year earnings per share growth.
Absolutely stellar performance by any measure.
While uncertainty will continue related to COVID variance, sporadic supply chain constraints, inflation and overall global resource challenges, we have a high level of confidence in our revised guidance based on our team's outstanding performance driving customer satisfaction and proactively and effectively managing inflation and the supply chain.
For context, we were approximately price cost neutral in the third quarter.
Let me put our performance in perspective another way.
The midpoint of the updated guidance at $6.40 is well above our prior peak pre-COVID adjusted earnings per share of $6.02 in 2019, but with some notable differences this year compared to 2019.
Again, the $6.02 in 2019 included earnings contribution from Engineered Materials, which is now classified as discontinued operations and excluded from our '21 guidance.
Second, many of our end markets are also still in the early stages of recovery and still remain well below the pre-COVID peak levels with the exception of Crane Currency and our defense business.
And thinking about 2022 and beyond, it is worth noting that the commercial side of our Aerospace Electronics business in 2021 will still be approximately $150 million in sales and approximately $80 million in operating profit below 2019 levels this year, and the recovery to pre-COVID levels in this business alone will add about $1 per share to EPS.
At Payment & Merchandising Technologies, Crane Payment Innovations will be $200 million below pre-COVID levels in 2021 with more than half of that amount in our very high margin Payment Solutions business.
This business continues to benefit from very favorable long-term macro drivers that are accelerating given Global Human Resource and constraints, labor shortages, and wage inflation helping our customers drive productivity and security by automating their payment and transaction processes.
In the Process Flow Technologies, we saw the inflection to positive core growth in the second quarter on the process side of the business with sustainable and improving demand across our strongest end-markets including chemical.
So let me reiterate the message that we have been consistently communicating.
We are innovating and developing new products and solutions to provide value for our customers.
We are executing on numerous growth initiatives across our businesses and we operate with a consistent cadence and discipline of the Crane Business System to drive growth, productivity, and cost savings.
We have demonstrated an ability to balance those objectives extremely well, delivering on margins and free cash flow while maintaining 100% of our investments in strategic growth initiatives throughout the entirety of the pandemic.
We are and we will continue to drive above market growth.
Paired with the market recovery in our consistent execution, we're very excited about our growth prospects, strong top line growth and solid operating leverage driving substantial growth in free cash flow incredibly delivering on expectations.
I discussed at our February Investor Day event how Crane was at an inflection point for accelerating growth after years of organic investments and consistently excellent execution.
In the first quarter you saw substantial evidence of that inflection and the related themes from Investor Day reading through.
At our May Aerospace & Electronics Investor Event we showed you numerous examples of how we continue to effectively drive above market growth and our expectation of a 7% to 9% sales compound average growth rate over the next ten years.
Also in May, we announced the sale of Engineered Materials as part of our strategic portfolio management process to improve our overall growth profile while continuing our simplification journey, and today you can see even more evidence of that inflection in our core sales growth as well as in our orders and backlog.
Consistently executing on our investor thesis, that being we are well positioned for accelerating organic growth as our end markets continue to recover.
We are outgrowing our end markets because of our consistent and ongoing investment in technology, new product development, and commercial excellence.
Solid execution continues to leverage that growth into earnings and strong free cash generation, which creates substantial flexibility for capital deployment.
A continued evidence of the value we create through acquisitions with stellar performance at Crane Currency, Cummins Allison, and instrumentation and sampling.
Inflection, we have clear momentum with increasing traction from our growth initiatives.
We will continue to generate substantial and sustainable value for all of our stakeholders.
Despite our impressive track record of the results, we believe there is unrecognized value in our stock and the strength of our medium and long-term outlook.
And that was one of the key factors behind our newly announced $300 million share repurchase authorization.
You should view this as both a return of cash to shareholders following consistently outstanding operational performance and strong free cash generation, as well as a sign of management and the Board's conviction that we have a lot of runway for growth ahead of us.
I have an easy job today because I think our results speak for themselves.
Even in these challenging times, we have continued to execute.
At Aerospace & Electronics, sales of $169 million increased 7% compared to last year.
Segment margins improved 370 basis points to 19.3%.
In the quarter, total aftermarket sales continued to gain momentum and increased 24% compared to last year after 3% of growth last quarter.
The strength was driven by commercial aftermarket with spares, repair, and modernization and upgrade sales all up substantially.
On the military side, spares and repair both improved in the 10% range but military modernization and upgrade sales were lower.
Commercial OE sales increased 31% in the quarter following 4% growth last quarter.
As expected, defense OE sales declined in the teens.
On a year-to-date basis, defense OE sales are down 6% after three years of double-digit growth.
Given our strong position in major project -- projects that we have already won that will be ramping up over the next few years we remain confident in our ability to grow our defense business at a high single-digit CAGR from 2021 through 2030.
The fourth quarter of last year marked the trough for both sales and margins at Aerospace & Electronics.
While the delta variant had some short-term impact on demand, the overall momentum in the industry continues.
Specifically, we expect near-term relaxation of international air travel rules and rising global vaccination rates to drive higher levels of air travel in the months and quarters ahead.
Looking ahead to next quarter we expect segment sales to be similar to the third quarter with margins in the low teens.
The sequential margin decline in the fourth quarter is primarily related to shipment timing and mix with very high commercial aftermarket sales in the third quarter relative to the fourth quarter.
On a full-year basis at Aerospace & Electronics, we should close the year with sales just down very slightly compared to last year and with margins above 7.16% both well ahead of our original guidance for this year.
As we enter 2022, we expect sales will continue to improve as air travel recovery progresses and the expected timing of a recovery to pre-COVID levels continues to get pulled forward.
And remember that our confidence in our outlook for this business is about more than just a market recovery.
We are seeing continued accelerating growth resulting from years of consistent investment in technology.
For example, during the third quarter we were selected for a $60 million program over a 15 year life with our advanced high accuracy, high performance, pressure sensing technology for a newly targeted adjacent multiplatform turbofan engine application.
In this particular case, we replaced an incumbent supplier who had the business for many years.
Another example of winning because of the strength of our technology and capabilities, just as we described at our May Aerospace & Electronics Investor Day, which by the way, that is still available to stream on our website today.
This is a new targeted application of our historic Sensing technology, a huge win for our team, and just the beginning.
And our investments will continue to take us beyond our historical core markets, expanding our addressable market and aligning our business with accelerating secular trends.
For example, within the last month we were awarded a $20 million contract for a low Earth orbit satellite constellation using a version of our multi-mix microwave technology with most production sales expected in 2023.
We also remain extremely excited about our positioning in investments related to the long-term trends in this industry, most notably electrification.
That gave us the confidence to share our 7% to 9% sales CAGR target at last May's Investor Day event.
We continue to make substantial progress advancing the technology that will be the critical enabler for a more electric world for more electric and hybrid electric military ground vehicles to electric propulsion aircraft, electric urban air mobility vehicles, and advanced radar and guidance systems.
All of these applications require greater levels of electrification and a greater need for integration of power conversion, sensing, and thermal management systems, all that are core technology competencies in our business.
We continue to work closely with nearly every major participant in this emerging space and have already been selected for numerous prototyping demonstrator programs.
We are seeing the tangible benefit from our investments materialize in these awards.
Process Flow Technologies, sales of $299 million increased 19% driven by a 16% increase in core sales and a 3% benefit from favorable foreign exchange.
Process Flow Technologies operating profit increased by 60% to $46 million.
Operating margins increased 410 basis points to $15.5%, primarily reflecting higher volumes, favorable price cost dynamics and strong execution and productivity.
Sequentially, FX-neutral backlog increased 3% and with FX-neutral orders down 5%.
Compared to the prior year, FX-neutral backlog increased 14% and FX-neutral core orders increased 20%.
During the first quarter, order growth was strongest in our shorter cycle commercial business.
Then in March, orders at our core process business inflected positive on a year-over-year basis, and that trend has continued for the last six months.
We continue to see clear evidence of improving end demand and in some cases ongoing release of pent-up demand.
Through the third quarter, order growth is still a little stronger in our commercial business, but process orders are not far behind with growth in the mid-teens range.
As orders convert to sales in these core process markets later into 2022, we continue to expect strong operating leverage.
Trends in activity in the process markets are similar to last quarter.
Broadly, we are seeing signs of new capital projects moving through the pipeline and we expect to see more projects converting to orders in 2022.
By vertical, chemical remains strong driven heavily by continued consumer demand, and general industrial markets also improved further along with industrial activity and production.
For pharmaceuticals we are seeing a number of projects we started after being put on hold, given the intense focus on vaccine production over the last 18 months.
Many of these restarted projects are related to diabetes treatment, oncology drugs and biologics.
Refinery and power markets remain fairly flat.
From a geographic perspective, year-to-date orders have been strongest in North America.
MRO orders are stable at approximately pre-COVID levels.
Project related orders are up substantially compared to last year, and based on our project funnel we expect further pickup next year.
In Europe, MRO activity slowed in the third quarter consistent with normal seasonality and summer shutdowns.
Adjusted for seasonality, MRO activity is close to normal pre-COVID levels and project activity has progressively improved over the last several months with project orders above 2019 levels.
In China, we are seeing some new project delays related to government requirements for new energy assessment approvals.
No cancellations, but project progress has slowed given these new requirements.
While the markets continue to improve, we are also very excited about progress with our growth initiatives in Process Flow Technologies.
In February we discussed a breakthrough innovation to our triple offset valve line, the FK-TrieX.
This product just launched a few months ago, but we are already seeing great momentum with chemical and petrochemical customers that quickly recognize the value this new valve design offers.
Bidirectional shut off, superior fugitive emissions control, high flow, a self-cleaning design and lower weight.
We installed our first valve during the third quarter at a US chemical plant in a polymer application.
Typically it takes years after launch to get customer approvals for a new valve design, but we believe we are on track for $5 million of sales next year, growing to $30 million within five years.
Also on the process side, our tough seat metal seated ball valve launched earlier this year focused on slurry and high cycle applications with a superior design that gives a valve a 50% longer life.
We are on track for about $3 million of sales this year, which should double in 2022.
We also have exciting developments in our municipal pump business, our chopper pump which we introduced in 2018 reduces clogging and cut -- cuts maintenance costs by 75%.
That value proposition is driving 30% growth this year, and we are adding about 10 new customers each month to our existing base of approximately 250 municipalities.
Taken together, these growth initiatives and many others across the segment are driving above market growth.
For Process Flow Technologies overall, our full year outlook continues to improve with full-year margins in the mid 14% range, full year core sales growth in the low double digits, a 4% FX benefit, and the $5 million of contribution from acquisitions that we saw in the first quarter.
For the fourth quarter, that implies a modest sequential decline in sales and margins given typical and expected seasonality and associated mix.
At Payment & Merchandising Technologies, sales of $366 million in the quarter increased 31% compared to the prior year, driven by 29% core sales growth and a 2% benefit from favorable foreign exchange.
Sales increased substantially across both Crane Currency and Crane Payment Innovations, although Payment Innovation sales are still well below pre-COVID run rates.
Segment operating profit increased 87% to $83 million.
Operating margins increased 680 basis points to 2.26%.
Continued impressive performance again at Crane Currency and with Crane Payment Innovations now recovering and contributing meaningfully.
For Crane Payment Innovations, similar trends to the last quarter and across the business we are seeing accelerating results from growth initiatives.
Starting with retail, our solutions provide productivity through automation, security and hygiene, and that value proposition is resonating now more than ever.
Retailers in the service industry in general are struggling with labor availability and inflationary wage pressure and they are investing in productivity.
Our solutions provide immediate value and have high proven ROIs and those returns are even more attractive in the current environment.
We continue to see broad based strength across the space including traditional self checkout systems from the large OEMs and we are also seeing momentum with some retailers partnering directly with us on customized self checkout and kiosk based solutions.
For customized self checkout solutions, our current funnel of opportunities is now approximately $185 million, double the size it was at the end of 2020.
Our semi-attended system solutions like Paypod and Pay Tower are also getting traction with an increasingly wide range of retailers including categories that have not historically been active with automation such as convenience stores.
To put this higher demand into perspective, our funnel of Paypod opportunities today is approximately $13 million, more than four times the size it was at the end of 2019 and more than twice the size it was at the end of last year.
In gaming, the North American and Australian Casino markets are nearly back to pre-COVID levels of activity.
We are now seeing the European and Latin American casinos beginning to recover lagging about 9 to 12 months behind North America.
This is good news for 2022.
We continue to gain share in this market given the strength of our technology as customers realize the benefits of our easy tracks connectivity solution.
The combination of our traditional bill and coin products along with easy tracks and now with the back office and service offerings from the Cummins Allison acquisition give us the most comprehensive cash management solution in the gaming world.
This combination of products and services is also helping our customers substantially improve efficiency and driving incremental revenue by enhancing communication and coordination between the back office and front of the house environments.
The Cummins Allison business has also benefited from customer labor shortages as CITs, casinos and retailers continue to invest in advanced larger scale back office coin and bill counting and sorting units.
Cummins Allison has products with differentiated technology as well as a service offering, which most of our competitors in North America do not have.
At Crane Currency, we continue to see strength in both domestic and international markets and we continue to gain share both with our technology and banknote offerings.
In the United States, we expect continued elevated levels of demand for currency for another few years and we continue working to secure our position on the new series of banknotes that will be rolled out over the next several years.
In our international business, our expanding portfolio of micro optic security products has helped us double the rate of new denominations secured compared to prior years with 15 new denominations won to date this year from a wide range of countries across the Caribbean, Northern and Eastern Europe, Asia, Africa and the Middle East.
When our technology is specified in a new denomination it typically drives recurring revenue from reprints from more than ten years.
We are winning as central banks realize that our technology is more secure and difficult to counterfeit and because it is completely customizable and can be integrated into innovative and stunning banknote designs, such as the new Bahamas $100 banknote.
With our latest products, we also have successfully demonstrated that our technology can be used on any substrate including polymer expanding our addressable market.
We are also very excited about the progress we have made with our Product Authentication and brand protection business.
We believe that our micro-optic technology is the best solution for a high-end authentication applications and far superior to the foils and holograms typically used to prevent counterfeiting for consumer goods.
We recently signed a long-term agreement with Octane5, one of the leaders in the high growth brand licensing management software and security solutions market.
Today, Octane5 supplies some of the world's most iconic and valuable brands with product security and licensing solutions, and with our partnership we have already won a few blue-chip customers with well-known global consumer brands that we hope to share with you more next year.
This is an extremely exciting potential opportunity that opens a new $800 million addressable market to us.
As we have explained all year, we do expect margins to moderate further in the fourth quarter for Payment & Merchandising Technologies given both timing and mix.
We now expect full year margins in the 22% range at or above the high end of our long-term target range of 18% to 22%.
Full year core sales growth is now expected to be in the high teens with a 3% favorable FX benefit.
For the fourth quarter sales should still increase on a year-over-year basis in the mid-single digit range on tough comparisons, but with a substantial sequential decline given the currency shipment timing that we have discussed and explained consistently over the last several quarters.
No surprises here, fully expected.
Given the sequential decline in sales, margins are likely to moderate to the high-teens range in the fourth quarter before rebounding to the 20s again next year.
Turning now to more detail on our total company results and guidance.
We have had extremely strong cash flow performance year-to-date with free cash flow of $286 million compared to $177 million last year.
As a reminder, on May 24th we announced that we had signed an agreement to sell our Engineered Materials segment for $360 million.
That process is ongoing and we continue to work on obtaining regulatory approvals.
When the transaction closes we expect proceeds net of tax to be approximately $320 million.
Our balance sheet is in extremely good shape.
We currently have no short-term or pre-payable debt remaining.
And at the end of the third quarter, we had approximately $450 million of cash on hand.
By the end of the year we expect adjusted gross leverage toward the bottom end of the two to three times range target for our current credit rating, and we estimate that by year-end we will have approximately $1 billion of additional capacity.
While we continue to be active in pursuit of acquisitions across both Process Flow Technologies in Aerospace & Electronics as all -- you all know, valuations today are quite lofty and we will remain both financially and strategically disciplined.
Over the long term, we continue to believe that we will be able to add the most value through acquisitions.
However, we will also maintain discipline about our balance sheet efficiency.
As I mentioned last quarter, during periods where our acquisition capacity exceeds the size of our likely an actionable M&A pipeline, we will consider returning excess cash to shareholders rather than maintaining an inefficient balance sheet.
As Max mentioned, we announced Board authorization for $300 million share repurchase program.
We believe this program properly balances two objectives, maintaining balance sheet efficiency while preserving ample financial flexibility for the volume of M&A activity we believe is actionable, while also providing an attractive return of cash to shareholders.
We believe that share repurchases are advantageous at this time given our very high confidence in our medium and long-term outlook, paired with our current stocks -- current discount to both trading peers and fully synergized acquisition multiples.
We will continue to evaluate all capital deployment and strategic portfolio options to drive shareholder return with strict financial discipline and a focus on long-term sustainable value creation.
Turning to guidance, as Max explained we are raising our adjusted earnings per share guidance by $0.35 to a range of $6.35 to $6.45 reflecting continued excellent execution and stronger end markets.
There are four major moving pieces in the higher and narrower guidance range.
First, we now expect a tax rate of approximately 17.5% compared to our prior guidance of 20.5%.
The lower tax rate is a roughly 23% -- $0.23 per share benefit compared to prior guidance.
The lower tax rate primarily reflects discrete items related to the expiration of the statute of limitations on audits in certain jurisdictions.
We continue to expect a tax rate of approximately 21% on a normalized basis.
Second, we now expect corporate cost of approximately $90 million, $10 million or $0.13 per share higher than our prior guidance.
The higher corporate costs reflect a number of factors including a charge related to a foreign pension plan that we are restructuring and a higher professional service cost level particularly legal costs related to M&A due diligence and other matters.
Third, the core operational improvement reflected in the guidance is approximately $0.25 per share compared to the prior guidance.
This improvement reflects strong leverage on sales now forecast at $50 million higher, with full year core sales guidance up 300 basis points to a range of 10% to 12%, partially offset by FX translation down 100 basis points to an approximate 2.5% benefit.
Fourth, in addition to raising the midpoint of our guidance range we narrowed the range from $0.20 per share to $0.10 per share, reflecting both how close we are to the end of the year as well as ongoing supply constraints that are likely to cap further upside this year.
Our revised guidance continues to reflect the same cadence of earnings progression that we have discussed since the beginning of the year.
Specifically, we continue to expect a step down on earnings per share next quarter given order and shipment timing particularly at currency and with the fourth quarter following its usual pattern of seasonality -- seasonally weakest quarter across most of our businesses.
Overall, there is little change to our fourth quarter expectations after adjusting for the changes in assumptions related to corporate expense and our tax rate, but the third quarter was certainly better than we expected given extremely strong operational performance and robust demand.
We also increased free cash flow guidance to a range of $340 million to $365 million, up 17.5 million from prior guidance at the midpoint, reflecting higher earnings and lower capex now forecast at $60 million.
Overall, an excellent year continuing to unfold with outstanding execution from all of our teams driving exceptional results, growth margins, free cash flow, and we remain excited about continued tailwinds in 2022 and 2023 as end markets continue to recover.
Before we turn to Q&A, a quick note about our 2022 Investor Day.
We typically host our Annual Investor Day event the last week of February.
For 2022 we are moving this event given certain scheduling issues and our desire to maximize the likelihood that we can host the event in person.
We are targeting the week of March 28, and we will provide more details as our plans solidify over the next few months.
Operator, we are now ready to take our first question. | compname reports q3 non-gaap earnings per share of $1.89 from continuing operations excluding items.
compname reports third quarter 2021 results; raises and narrows 2021 earnings per share guidance; announces new $300 million share repurchase authorization.
q3 non-gaap earnings per share $1.89 from continuing operations excluding items.
raises fy earnings per share view to $6.35 to $6.45 from continuing operations excluding items.
q3 sales rose 21 percent to $834 million.
announced new $300 million share repurchase authorization. |
Today's call will begin with Chris discussing business trends experienced during the second quarter of 2021, views of what's to come and context around our continued progress toward and unwavering commitment to achieving Vision 2025.
Bob will discuss the financial details of Carlisle's second quarter performance and current financial position.
Those considering investing in Carlisle should read these statements carefully and review the reports we file with the SEC before making an investment decision.
With that, I introduce Chris Koch, Chairman, President and CEO of Carlisle.
While we recognize that there are still many people suffering from the continued effects of the pandemic globally and an uneven recovery, we hope all of you, your families, coworkers and friends are healthy, and you're reengaging as global economy is open.
I'm also pleased to report Carlisle's COVID-19 infection rates approach zero in the second quarter, which wouldn't have happened without our team's strict adherence to our safety protocols and commitment to each other across our global footprint.
I'm also very pleased that Carlisle's performance continues to strengthen, as we further accelerate into the economic recovery.
Vision 2025 has provided the clarity and consistency of direction that proved to be essential in guiding our efforts during the depths of the pandemic last year.
It continues to guide us today, as we seek to leverage improving demand across our end markets in 2021 and beyond.
Vision 2025 provides Carlisle and our stakeholders a clear and direct vision that unites us in a collective goal, which in turn drives our priorities and everyday actions.
We are very much on track to exceed the $15 of earnings per share targeted in Vision 2025.
Our performance in the second quarter of 2021 illustrates our continued solid execution toward our stated goals.
Several highlights of this continued progress include: CCM's continued rebound in sales from the bottom of the pandemic in the second quarter of 2020.
As a reminder, CCM sales were down approximately 20% in the second quarter of last year.
As we entered the third quarter of last year, we had already begun to see improvement, sooner than many industries, and that has continued sequentially through today.
That positive momentum drove 28% organic growth year-over-year at CCM in the second quarter of this year and added to a significant and growing backlog.
The rapid recovery from the lows of 2020 reinforced our confidence in this business.
As we commented on in the fourth quarter 2020 earnings call, we envision 2021 being a year of challenges as pent-up reroofing demand returned rapidly, and supply chains, distribution channels, contractors and labor markets came under increasing pressure to deliver their services and meet customer expectations.
Our conviction in the late fall of last year that all of the fundamental drivers of growth we saw prior to the pandemic were still in place, led us to take significant action on securing raw materials, ensuring production facilities were fully capable and putting in place pricing actions to offset what we anticipated to be significant raw material headwinds in the year.
Looking at the future, we continue to believe that the multi-decade trends in reroofing demand, increased emphasis on energy efficiency and tight labor markets will drive solid growth in our CCM business.
As a result, we will continue to invest significant capital into our building products businesses.
A few recently announced examples of our steadfast commitment to CCM's future include our plans to invest more than $60 million to build a state-of-the-art facility in Sikeston, Missouri where we will manufacture energy-efficient polyiso insulation; we're also constructing our sixth TPO manufacturing line in Carlisle, PA, which will produce the commercial roofing industry's first 16-foot wide TPO membranes.
We're breaking ground on Phase two of the EUR8 million expansion of our CCM Waltershausen Germany facility, which as a reminder, produces our unique EPDM-based Restorix product.
And lastly, a significant investment in our R&D capabilities and manufacturing capacity in our Cartersville, Georgia spray foam insulation business.
Shifting gears to other parts of Carlisle.
We continue to leverage the Carlisle Operating System to drive efficiencies across our platforms and geographies.
And in the second quarter, COS delivered 1% savings as a percent of sales and continued to further its role as a culturally unifying continuous improvement foundation for Carlisle employees globally.
In seeking to raise the return profile of Carlisle Companies, we continue to focus on optimizing our business portfolio.
During the quarter, we announced the divestiture of CBF, and earlier this week, we announced an agreement to acquire Henry Company which we will talk about later.
Both changes to our portfolio will enhance long-term value creation for our shareholders.
We continue to be a consistent and meaningful return of capital to our shareholders.
Since 2016, we have returned over $1.8 billion in share repurchases alone.
Bob will provide more details later, but we continue to be active in the capital markets opportunistically repurchasing shares when appropriate.
We also anticipate continuing our long history of consistently raising our dividend.
And when completed in August will be our 45th consecutive year.
We're very proud of this symbolic act in the nature of nearly half a century of stability of our business model, financial profile and commitment to our shareholders.
Moving to slide four.
Driven by the growing strength in our CCM business and momentum building at CFT, our revenue increased 22% year-over-year.
CCM had outstanding performance, growing revenue 28% year-over-year.
CFT continues to drive new product innovation and operational efficiencies to better leverage improving dynamics in its global end markets.
Partially offsetting this growth was commercial aerospace, which continues to weigh on CIT with revenues declining 8% year-over-year in the quarter.
That said, aerospace orders have stabilized, and we have line of sight to continued sequential revenue improvement in 2021.
While aerospace markets have been depressed, our team at CIT has remained focused on innovation and continuing our long-term commitment to our customers, and most importantly, preparing for the inevitable recovery.
Carlisle Construction Materials segment continues to demonstrate its extremely durable business model and to execute very well in the face of numerous challenges.
CCM volumes in 2021 are benefiting from work postponed in 2020 due to the COVID-19 pandemic.
And given both material and labor constraints, we believe even more deferrals experienced in the first half of this year will only add to the pipeline of roofing contractors workload in the second half of 2021.
We maintain our strong conviction in the sustainability of reroofing demand in the U.S. where we continue to expect the market to grow from $6 billion to $8 billion in the next decade.
We continue to be very proud of the CCM team's ability to keep the Carlisle experience intact, managing a record level of incoming orders, ensuring we keep our contractors working and maintaining our commitment to being the best partner in the industry.
And as a reminder, by the Carlisle Experience, we mean ensuring delivery of the right product at the right place at the right time.
We do this by deploying industry-leading investment in production and R&D capabilities.
These investments have totaled over $300 million in the past five years.
We also continue to invest in best-in-class education for our channel partners on the latest roofing products and installation best practices, including over 20,000 hours of virtual learning courses during the pandemic.
I mentioned our world-class customer service team that processed over 65,000 orders in the second quarter, a remarkable feat at nearly 2 times the normal quarter's activity.
We continue to innovate and provide value-added products that ensure quicker, more efficient and safer installation of our building envelope systems and solutions in an increasingly labor and material-constrained environment.
Finally and importantly, we continue to focus on producing products that contribute to a better environment for all stakeholders.
A few comments on our other businesses.
CIT's second quarter results were in line with subdued expectations given the ongoing disruption in the commercial aerospace market.
Despite a difficult past 18 months, the CIT team is taking significant actions to position CIT to be stronger when the market rebounds.
We acted to create more -- a more rational footprint in 2020 and 2021, closing three of our facilities.
And while these decisions are not taken lightly, they were necessary to position CIT to return to and exceed our legacy profitability levels when demand returns.
Also during this time, we have continued to invest in R&D in order to build our new product pipeline and support our customers.
We continue to see some light at the end of the tunnel evidenced by improving leading indicators for commercial aerospace, including the expanding vaccine rollout, numbers of TSA daily screenings increasing from a low of 20% of normal last year to over 80% in July; growing activity at our aircraft manufacturers; and corresponding improvements in CIT's order books.
All of this gives us confidence that CIT is positioned for sequential improvement going forward.
CFT delivered improved revenue and profitability performance in the second quarter, driven by its reenergized commitment to new product introductions, improved operational efficiencies, price realization from earning the value that comes with innovation and an improved customer experience.
I'm very heartened by the progress the team has made over the last year in improving our sales and profitability, putting us back on track to achieve our expectations for this business.
We expect the team to continue executing on its Vision 2025 growth strategy, and to deliver continued improvement moving into the second half of 2021.
Turning to slide six.
Hopefully, everyone had the opportunity to listen to our call on Monday during which we introduced our agreement to acquire Henry Company, a best-in-class provider of building envelope systems that control the flow of water, vapor, air and energy and a building to optimize building sustainability.
Henry delivered revenues of $511 million and adjusted EBITDA of $119 million or 23% margin in the last 12 months ended May 31, 2021.
Bob will review more of the financial details related to Henry later in the call, but we expect Henry to add more than $1.25 of adjusted earnings per share in 2022.
All of us at Carlisle are very excited to work with the Henry team, which has a proven track record of growth, a very strong brand and a long history of new product innovation.
The announced agreement to acquire Henry is another clear example of how we are executing on our Vision 2025 strategy to optimize our portfolio, which includes our efforts to expand further into the building envelope.
For those of you new to Henry, let me give you a few examples of how, in practice Henry complements CCM.
Henry's large direct sales force who have been focused on helping architect specify waterproofing and air and vapor barriers can now assist in specifying CCM single-ply roofing solutions on the same buildings.
Additionally, Henry has a presence in the residential and big box marketplaces, markets not previously a substantial part of CCM's business.
Moving to slide seven, our ESG efforts also continue to gain momentum.
In April, we published our 2020 sustainability report, which built on the foundations of our first report in 2019.
And for the first time, the 2020 report disclosed in detail how Carlisle was tracking on the global reporting initiative, or GRI standards.
We're also in the process of establishing achievable water, energy and emission reduction targets based on detailed audits of our global facilities.
During the course of April, Carlisle employees participated in the CEO Action for Diversity & Inclusion Day of Understanding.
The Day of Understanding created a singular focal point in our year and is an opportunity for leaders to guide open dialogue about diversity in their workspace.
Carlisle has been a member of the PwC-led CEO Action for Diversity & Inclusion since 2018 and an organization that now includes over 2,000 CEO signatories.
In order for Carlisle employees to participate in our ongoing success, we issued a special stock option grant or equity equivalent of 100 shares to employees on May 2, 2018.
Those shares vested in the second quarter of 2021 having appreciated almost 80%.
For each participating employee, this meant a gain of over $8,000.
I'm very pleased the share has performed so well for our employees, because Carlisle's success wouldn't be possible without their efforts.
Finally, one area where we have made significant improvement is in our industry-leading safety record.
Our incident rate of approximately one quarter of the industry average demonstrates the work that has been done by all employees to ensure a safe workplace.
While staying ahead of the industry is important, in the past six years, our incident rate has fallen 52%.
Of all of our tracked metrics, this is especially meaningful because reducing employee injuries by 50% has had a tangible benefit and meaningful impact on people's lives.
To continue to drive the importance of safety in our operations in early 2020, we announced Path to Zero, which represents our commitment to creating the safest possible work environment and features the goal of zero accidents and zero industries.
This program was launched globally in the second quarter of this year.
And now Bob will provide operational and financial detail about the second quarter, review our balance sheet, and cash flow.
As Chris mentioned earlier, we had a very solid second quarter.
I'm especially pleased about the margin expansion at CCM, CIT coming off market lows and positioned to deliver sequential growth for the next few quarters; CFT's order book improving; our disciplined approach to capital deployment in the form of share repurchase and dividends; continued investment in our high ROIC businesses to drive organic growth; and our portfolio optimization actions, including divesting CBF and the announced agreement to acquire Henry Company.
Revenue was up 22% in the second quarter driven by CCM and CFT, offset by the well documented commercial aerospace declines at CIT.
Organic revenue was up 20.7%.
CCM and CFT each delivered greater than 25% organic growth in the quarter.
Acquisitions contributed 0.4% of sales growth for the quarter, and FX was a 90 basis point tailwind.
On slide nine, we have provided an adjusted earnings per share bridge, where you can see second quarter adjusted earnings per share was $2.16, which compares to $1.95 last year.
Volume, price and mix combined were $1.30 year-over-year increase.
Raw material, freight, and labor costs were a $0.95 headwind.
Interest and tax together were a $0.01 headwind.
Share repurchases contributed $0.07, and COS contributed an additional $0.12.
Higher OpEx was a $0.32 headwind year-over-year, half of which is related to the May vesting and cash settlement of stock appreciation rights granted to all Carlisle employees outside the US in 2018, with the remainder reflecting the resumption of more normalized expense level versus last year's cost containment measures taken in the depths of the pandemic.
At CCM, the team again delivered outstanding results with revenues increasing 27.5% driven by volume and price, along with 70 basis points of foreign currency translation tailwind.
All of CCM's product lines delivered 20% growth with particular strength in architectural metals and spray foam insulation.
CCM effectively managed raw material inflation headwinds experienced in the quarter with disciplined pricing, proactive sourcing and allocating products to strategic customers.
Adjusted EBITDA margin at CCM was 21.5% in the second quarter, a 60 basis point decline from last year driven by higher raw material prices, partially offset by volumes, price, and COS savings.
Despite raw materials being a headwind in the second quarter, we continue to anticipate net neutral price raws for the full year.
Adjusted EBITDA grew 24% to $201.2 million, again, demonstrating the earnings power of our CCM business.
CIT revenue declined 8.2% in the second quarter.
As has been well publicized, this decline was driven by the pandemic's continued impact on commercial aerospace markets.
We still anticipate a prolonged recovery in aerospace, but are optimistic there will be resumption in growth as we enter the second half of the year.
CIT's medical platform continues to build a robust pipeline of projects with an increasing backlog.
We continue to expect sequential improvement from pent-up demand as the impacts of COVID hospital capex and postponed elective surgeries ease.
CIT's adjusted EBITDA margins declined year-over-year to 8%, driven by commercial aerospace volumes, partially offset by price, COS and lower expenses.
Given the positive indicators, we are optimistic that CIT will deliver sequentially improving financial performance into the second half of 2021.
Turning now to slide 12.
CFT's sales grew 54% year-over-year.
Organic revenue improved 44.3% and acquisitions added 3.6% in the quarter.
CFT is well positioned to accelerate through the recovery due to continued stabilization in key end markets driven by an improved industrial capital spending outlook in 2021, coupled with new product introductions, would have included $4.1 million of incremental new product sales in 2021 year-to-date, along with our continued pricing results.
Adjusted EBITDA margins of 15.9% or over 100 basis point improvement from last year.
This improvement primarily reflects volume, price and mix.
On slide 13 and 14, we show selected balance sheet metrics.
Our balance sheet remains strong.
We ended the quarter with $713 million of cash on hand and $1 billion of availability under our revolving credit facility.
We continue to approach capital deployment in a balanced and disciplined manner, investing in organic growth through capital expenditures and opportunistically repurchasing shares, while also actively seeking strategic and synergistic acquisitions.
In the quarter, we repurchased 643,000 shares for $116 million bringing our 2021 year-to-date total to 1.6 million shares for $266 million.
We paid $28 million of dividends in the second quarter, bringing our 221 total to $56 million.
We invested $32 million of capex into our high-returning businesses to drive organic growth, bringing our 2021 total to $55 million.
A few examples of these investments include our new Missouri Polyiso facility, expansion of our TPO line Carlisle, PA, and investment in our spray foam capabilities in Cartersville, Georgia.
In addition, as has been noted, we announced an agreement to purchase Henry Company for $1.75 billion.
Henry generated revenue of $511 million and adjusted EBITDA of $119 million, representing a 23% EBITDA.
Additionally, Henry was expected to deliver $100 million of free cash flow in our first year of ownership.
We also expect meaningful cost synergies of $30 million by 2025.
Finally, we expect Henry to be immediately accretive to Carlisle's EBITDA margin, adding over $1.25 of adjusted earnings per share in 2022.
Free cash flow for the quarter was $64.6 million, a 54% decline year-over-year due to increased working capital usage related to our high sales growth of 22%.
Turning to slide 15, you can see the outlook for 2021 in corporate items.
Corporate expense is now expected to be approximately $125 million, up from the previous estimate of $120 million.
The increase is wholly related to the vesting and cash settlement of our stock appreciation rights discussed earlier.
We expect depreciation and amortization expense to be approximately $210 million.
We still expect free cash flow conversion of approximately 120%.
For the full year, we continue to invest in our business and expect capital expenditures of approximately $150 million.
Net interest expense is still expected to be approximately $75 million for the year, and we still expect our tax rate to be approximately 25%.
Finally, restructuring is expected in 2021 to be approximately $20 million.
Entering the third quarter, we continue to be very optimistic about the remainder of 2021 from record backlogs at CCM to supportive trends in CIT aerospace markets to growing strength at CFT, coupled with excellent sourcing and price discipline and significant traction on our ESG journey, we are confident in our ability to deliver solid results for all Carlisle stakeholders.
For full year 2021, we anticipate the following: At CCM, as previously mentioned, the trends that began in Q3 2020 gain momentum as we moved into 2021.
We anticipate this momentum to carry over in the third and fourth quarters of 2021.
Considering this momentum, coupled with record backlogs stemming from project deferrals that occurred in 2020, positive momentum in our newer businesses of architectural metals and spray foam and expansion of our European business, we are increasing our anticipated revenue growth to high teens in 2021.
At CIT, we are encouraged by leading indicators trending positive, but it remains difficult to gauge when a complete recovery in commercial aerospace will occur.
Given a very difficult year-over-year comparison in the first and second quarters, we continue to expect CIT revenue will decline in the mid- to high single-digit range in full year 2021.
At CFT, with end market strengthening and improvements in the team's execution of our key strategies, we now expect mid-teens revenue growth in 2021.
And finally, for Carlisle as a whole, we are now increasing our expectations to mid-teens revenue growth in 2021.
As we pass the midpoint of 2021, we are tracking to deliver our Vision 2025 goals of $8 billion in revenues, 20% operating income and 15% ROIC, all driving to exceed $15 of earnings per share by 2025.
Despite lingering uncertainties around COVID, supply chain constraints, and what we perceive as near-term raw material inflation, Carlisle's employees across the globe remain focused on the execution of the strategies and key actions that support Vision 2025.
Our team continues to embody a positive and entrepreneurial spirit, a commitment to continuous improvement and a focus on delivering results for the Carlisle shareholder.
Given our 100-year-plus history and the resilience this company has shown in times of adversity and uncertainty, we remain confident in Carlisle's outlook, our strong financial foundation, cash-generating capabilities, unwavering commitment to our Vision 2025 strategic plan and to providing products and services essential to the world's needs.
This concludes our formal comments. | q2 adjusted earnings per share $2.16.
compname says q2 adj earnings per share $2.16. |
Today's call will begin with a business update from Chris, highlighting third quarter results, current trends and context around our continued progress toward achieving our strategic plan, Vision 2025.
Bob will discuss the financial details of Carlisle's third quarter performance and current financial position.
Those considering investing in Carlisle should read these statements carefully and review reports we file with the SEC before making an investment decision.
With that, I introduce Chris Koch, Chairman, President and CEO of Carlisle.
I can start by saying I hope all of you, your families, coworkers and friends are returning to some semblance of your pre-pandemic lives while remaining safe and healthy.
As you all know very well, the challenging and uncertain environment that we have experienced since the pandemic began in early 2020 continued through the third quarter of 2021.
This year has truly been a story of two halves.
When we entered 2021, global prospects remained highly uncertain, new virus mutations were occurring, and we were slowly and unevenly emerging from lockdowns.
Entering the second quarter, the rollout of vaccine started to gain momentum as access to vaccines became widespread and the extraordinary stimulus being injected into the global markets took hold.
We began to turn a corner and slowly return to our pre-pandemic activity, which in turn drove increased economic growth in the world that was woefully unprepared to absorb the rates of gain.
And during factory shutdowns, stressed labor markets and lack of supply manifested themselves in increased inflation, the major challenges to normal business operations.
These dynamics, coupled with the Delta variant spiking in the summer months and effects of Hurricane Ida made the third quarter even more challenging.
Carlisle's team leveraged our continuous improvement culture, exhibiting grit and determination to deliver on the Carlisle Experience, which I'm happy to report drove outstanding performance, including record third quarter revenue.
Simply put, we have asked a lot of our employees over the past 1.5 years, and the team has risen to the occasion every time, especially in the third quarter.
There's no doubt, everyone at Carlisle is working on solutions and innovative approaches to help alleviate the pressures and deliver for our stakeholders as strong order trends across our businesses suggest demand will remain strong as we close out 2021 and continue through 2022.
That said, we do expect supply chain issues to ease slightly in the fourth quarter and gain more traction early next year, with a better balance being achieved perhaps by mid-2022.
Over the last several years and in particular through the pandemic, Vision 2025 has ensured clarity of mission and consistent direction for our entire organization.
In the third quarter, we successfully delivered on our key pillars of Vision 2025, including driving organic growth in excess of 5%.
In the third quarter, we delivered over 19% organic growth for the company.
As we rebound off the COVID-induced lows in last year and look forward to the prospects for growth across our business segments, we remain very confident in our ability to generate targeted mid-single-digit organic growth CAGR through 2025.
An important component of organic growth is demonstrated price leadership.
We've always focused on earning price in the marketplace by delivering on the Carlisle Experience, which means providing our distributors, contractors and other channel partners with innovative products of the best quality at the right place, at the right time and as efficiently as possible.
We couldn't do that without diligent planning and collaboration with our suppliers to ensure a steady flow of our necessary inputs.
And while extremely challenging in the third quarter, this collaboration proved particularly valuable in this uncertain environment.
Our ability to anticipate these challenges, especially this year, and maintain a proactive posture on pricing has enabled us to provide a high level of service to our channel and to our end user contractor base.
Through a disciplined and proactive approach, we are successfully navigating the current inflationary environment.
In the third quarter, we more than offset the significant raw material and freight cost increases experienced in CCM with pricing and notably are on track to be price-cost neutral for the full calendar year 2021.
Another important pillar of Vision 2025 is to build scale in our higher-returning businesses through acquisitions.
Since the inception of Vision 2025, we've expanded into polyurethanes with the 2017 acquisition of Accella.
We've moved into Architectural Metals with the 2018 and 2019 acquisitions of Drexel and Petersen, respectively.
And most recently, expanded into weather, vapor, air and energy barrier systems with the acquisition of Henry Company in the third quarter.
Henry not only clearly demonstrates our strategy of expanding further into the Building Envelope, but also highlights our drive to increase the content of energy-efficient products in our portfolio.
As a reminder, buildings account for approximately 30% to 40% of annual global greenhouse gas emissions.
Henry's weather, vapor, air and energy barrier systems contribute to the reduction of these emissions.
One example of this is Henry's Air and Vapor barrier product called Blueskin.
Blueskin prevents uncontrolled air leakage and can yield up to 30% savings on heating and cooling costs.
With accelerating demand for energy-efficient products made for more sustainable buildings in the future, we will continue to emphasize the development of products that help reduce the carbon emissions of buildings, positively impacting the environment.
Finally, in the third quarter, we also continued to execute on our Vision 2025 capital deployment strategy.
Despite closing on Henry, which was the largest acquisition in Carlisle's history, we continue to repurchase shares, spending $25 million during the third quarter and bringing our total repurchases year-to-date to $291 million.
As a reminder, since 2016, we have had over $1.8 billion in share repurchases.
We also anticipate continuing our long history of consistently raising our dividend, which we did again in August, marking the 45th consecutive year of increases.
We are very proud of the near half century of stability in our business model that affords us the ability to consistently return capital to shareholders.
Turning to slide four and transitioning to our ESG efforts.
As we close out 2021, we continue to make steady progress and are performing audits to establish baseline data at our manufacturing facilities, identify opportunities for energy, waste, water and greenhouse gas reduction and establish achievable reduction targets for the future based on real, measurable and impactful actions.
With the Carlisle Operating System core to our culture is a key driver of our success, continuous improvement applies to our ESG efforts as well.
We're utilizing the Carlisle Operating System toolkit and processes to establish ESG goals and targets, which among many benefits will result in meaningful reductions in our emissions and energy consumption.
We will set and publish these targets in the coming year.
Citing a few notable ESG projects with impactful results that progressed in the third quarter.
We started recycling production materials made of paper such as facer, cardboard, office wastepaper from our Carlisle, Pennsylvania campus back into our polyiso insulation products in mid-2020.
Throughout 2021, we've expanded this program to three more CCM manufacturing sites around the U.S. And through the third quarter, we have recycled nearly one million pounds of what would have been waste back into our insulation products.
Another effort has been to upgrade our factories with more efficient LED lighting.
Throughout 2021, we have added LEDs and motion controls at many factories, saving more than 3.5 million kilowatt-hours of electricity, which translates into a reduction of close to 1,300 metric tons of greenhouse gases.
In an exciting new program, we plan to upgrade our expanded polystyrene facility in Dixon, California, to enable production using 100% recycled materials by the end of next year.
We'll have the ability to recycle as much as 150 tons of our production and customer scrap annually, which avoids significant waste from entering landfills.
Subsequent expansion of the facility will provide for the recycle of any earnings per share product away from any source.
I was in Dixon this fall -- or at the beginning of this fall, and I was really pleased with what the team was doing and the fact that this initiative was driven by the folks in the facility there.
And we're proud to see ESG moving through our entire company with such momentum.
Turning to slide five.
Our performance in the third quarter of 2021 evidence is solid execution.
Revenue increased 25% year-over-year with organic revenue up over 19%.
All segments contributed to this growth.
Adjusted earnings per share increased 27% year-over-year to $2.99 as higher volumes and price and cost discipline more than offset inflation during the quarter.
And let me provide some additional divisional highlights, starting with CCM.
Our Construction Materials business delivered an outstanding quarter despite the severe challenges across its supply chain.
CCM's organic growth in the third quarter was over 23% year-over-year.
And notably, organic sales were close to 14% higher than the third quarter of 2019.
CCM continues to benefit from a growing backlog fueled by the strong reroofing cycle in the U.S., which we estimate will grow from a market size of $6 billion to $8 billion in the next decade and with an ever-increasing emphasis on the energy efficiency of buildings, our proactive pricing actions and our investments in expanding our presence in the Building Envelope.
We believe CCM's third quarter results on top of their performance through the pandemic support our view that replacing a roof can only be postponed for so long, ensuring that the underlying demand trends are very much intact.
On slide six, you can see how we're continuing into and expanding the Building Envelope, providing solutions from the ground-up.
Our increasing focus on the Building Envelope is exemplified by our recent acquisition of Henry, which delivered excellent results in its first month with Carlisle, and the integration thus far has been very smooth.
As the integration has progressed, we've really become more appreciative of Henry's seasoned management team, which is executing all fronts -- on all fronts and already proving to be a great addition to Carlisle.
With similar cultures around innovation, pricing to value, focus on customers and continuous improvement and strong results out of the gate, we are increasingly confident in Henry's ability to exceed our preliminary forecast of $1.25 in adjusted earnings per share accretion in 2022.
We're also pleased with our other growing platforms that represent our initial expansion efforts into the Building Envelope.
Architectural Metals and polyurethanes were both up over 35% in the quarter and continue to progress well on profitability improvements.
And regarding our presence and our expansion geographically, our new CCM European leadership team continues to make really good progress growing the core business, improving their profitability and driving new energy-efficient product introductions.
And our recent investments to expand our capacity in our Waltershausen, Germany facility will only serve to support that growth.
Lastly, on CCM drivers, given our history of price leadership, proactive approach to pricing coming into 2021 and actions taken year-to-date, we're very pleased that pricing more than offset raw material and freight cost inflation in the quarter.
Our multiyear focus on price began in 2016, gained traction in 2017 and continued to evolve.
This evolution has resulted in a more robust and comprehensive pricing management philosophy and execution at CCM, which demonstrated its power during the inflationary environment in 2021.
And finally, I'd like to take a moment to note that our results could not have been generated without the stellar work of our sourcing team at CCM.
They're doing an excellent job ensuring CCM is able to produce all it can, especially as demand across product lines is showing no signs of slowing.
Ultimately, their hard work contributes significantly to our ability to deliver the Carlisle Experience.
Moving to slide eight.
At CIT, third quarter revenue grew 6% year-over-year, evidence of continued progress in both CIT's Commercial Aerospace and Medical Technology platforms.
The Commercial Aerospace backlog has now reached levels not seen since May of 2020, which is a significant milestone.
We're encouraged by the growing demand related to narrow-body production, driven by a steady rebound in air travel domestically.
And longer term, when demand for wide-body production returns, CIT is well positioned to capture and leverage that growth.
Over the last several quarters, CIT has taken significant restructuring actions such as closing our facility in Kent, Washington to drive improved profitability.
The impact of these actions has shown over the past several quarters, driving CIT's profitability on an adjusted EBIT basis to swing positive during the quarter.
Now on the Medical side, record revenues supported CIT's sequential and year-over-year revenue growth as hospital capital spending has resumed.
Longer term, as our Medical business gains momentum and adds to its record backlog, we believe the platform is well positioned to drive and leverage mid- to high single-digit annual growth going forward.
On CFT, given its reenergized commitment to new products, improved operational efficiencies, price realization from earning the value of innovation and an improved customer experience, CFT generated revenue growth of 9% year-over-year and adjusted EBIT growth of 16% year-over-year in the third quarter.
CFT is benefiting from increasing industrial capital expenditures across its end markets despite supply chain issues in the automotive markets.
It's also making solid progress integrating and growing its newer platforms of Sealants & Adhesives, Foam and Powder.
With the focus on innovation, a leader cost structure and a push into automation, we are optimistic about CFT's ability to generate sustainable value creation by driving and leveraging solid growth and healthy incremental margins.
We expect the team to continue executing on its Vision 2025 growth strategy and to deliver continued improvement in the fourth quarter and certainly next year and beyond.
As Chris mentioned earlier, we had a strong third quarter.
There are some items -- several items that I'm especially pleased with: CCM's ability to offset challenging operating cost conditions by focusing on delivering Carlisle Experience, the growing backlog at CIT and CFT, our successful senior notes issuance, our disciplined approach to capital deployment in the form of share repurchases and dividends, continued investment in our high ROIC businesses to drive organic growth, and finally, our portfolio optimization actions, including divesting CBF and the acquisition of Henry Company.
Revenue was up 25% in the third quarter, driven by volume growth at all of our businesses, price and the acquisition of Henry.
Organic revenue was up 19%, driven by CCM, which delivered 23.3% organic growth.
Acquisitions contributed 4.8% of sales growth for the quarter, and FX was a 30 basis point tailwind.
On slide 10, we have provided an adjusted earnings per share bridge.
We can see third quarter adjusted earnings per share was $2.99, which compares to $2.35 last year.
Volume, price and mix combined accounted for $2.15 of the year-over-year increase.
Raw material, freight and labor costs were a $1.75 year-over-year headwind.
Interest and tax together were a $0.05 tailwind.
Share repurchases contributed $0.06.
And higher opex was an $0.11 headwind year-over-year.
At CCM, the team again delivered outstanding results, with revenues increasing 29%, driven by volume, price, contributions from Henry, along with a 10 basis point foreign currency translation tailwind.
All of CCM's product lines delivered double-digit percentage growth.
CCM effectively managed raw material inflation headwinds experienced in the quarter with disciplined pricing, proactive sourcing and allocating products to the strategic customers.
Adjusted EBITDA margin at CCM was 22.6% in the third quarter, a 240 basis point decline from last year, driven by higher raw material prices, labor inflation and a return to more normalized SG&A spending, partially offset by volume, price and COS savings.
We continue to anticipate net neutral price cost for the full year.
Adjusted EBITDA grew 16.6% to $240.5 million, again demonstrating the earnings power of our CCM business.
CIT revenue increased 6.1% in the third quarter.
As we expected, CIT returned to growth and promisingly returned to profitability on an adjusted basis.
CIT's Commercial Aerospace backlog has consistently grown in 2021 and has now surpassed second quarter 2020 levels.
CIT's Medical platform continues to build a robust pipeline of revenue-generating products with increasing backlog.
The team delivered record sales in this business in the third quarter, and we continue to expect sequential improvement from pent-up demand as the impacts of COVID on hospital capex and postponed elective surgeries ease.
CIT's adjusted EBITDA margin improved year-over-year 13%, driven by Commercial Aerospace and Medical volume recovery, along with COS, partially offset by raw material and labor inflation.
Given the positive indicators and actions undertaken in 2020 and 2021 to rightsize the business, we are optimistic that CIT is positioned to leverage a return to growth over the coming quarters and years.
While mix influences and timing of channel inventory depletion are our biggest watch items, we remain confident in CIT's ability to manage through these, ensuring greater leverage to the recovery in the coming quarters and years, with the line of sight to profitability exceeding pre-pandemic levels as demand returns.
Turning to slide 13.
CFT's sales grew 9.4% year-over-year.
Organic revenue improved 6.3%.
Additionally, acquisitions added 0.9% in the quarter, and FX contributed 2.2%.
CFT is well positioned to accelerate through the recovery due to continued stabilization in end markets, driven by an improved industrial capital spending outlook, coupled with new product introductions, which have included $12.4 million of incremental new product sales in 2021 year-to-date, along with pricing results.
Adjusted EBITDA margins of 15.3% or 40 basis point decline year-over-year.
This decline was driven by labor inflation and higher operating costs, partially offset by volume, price and mix.
On slide s 14 and 15, we show selected balance sheet metrics.
Our balance sheet remains strong.
We ended the quarter with $296 million of cash on hand and $1 billion of availability under our revolving credit facility.
We continue to approach capital deployment in a balanced and disciplined manner, investing in organic growth through capital expenditures and opportunistically repurchasing shares, while also actively seeking strategic and synergistic acquisitions.
In the quarter, we repurchased 124,000 shares for $25 million, bringing our 2021 year-to-date total to 1.7 million shares for $291 million.
We paid $28 million in dividends in the third quarter, bringing our '21 total to $84 million.
We invested $34 million of capex into our high-returning businesses to drive organic growth, bringing our 2021 total to $89 million.
Finally, we had a successful debt issuance of $850 million of senior notes at a weighted average coupon of 1.6%, which lowered Carlisle's cost of debt from 3.35% to 2.85%.
In addition, as has been noted, we completed the purchase of Henry Company for $1.575 billion.
Henry is expected to deliver approximately $100 million in free cash flow on our first full year of ownership.
We expect meaningful cost synergies of $30 million annually by 2025.
Finally, we expect Henry to be immediately accretive to Carlisle's EBITDA margin, adding over $1.25 of earnings per share in 2022.
Free cash flow for the quarter was $82 million, a 55% decline year-over-year due to increased working capital usage related to our 25% revenue growth in the quarter.
Turning to slide 16.
You can see the outlook for 2021 and corporate items.
Corporate expense is now expected to be approximately in the $120 million to $122 million range, slightly lower than our previous estimate of $125 million.
We expect depreciation and amortization expense to be approximately $230 million, which now reflects the Henry acquisition.
We expect free cash flow conversion to be in the 105% to 110% range, slightly lower than our previous estimate, primarily due to high-cost raw materials that we are holding in inventory.
We now expect capital expenditures of approximately $125 million, lower than previous estimates mostly due to timing.
Net interest expense is now expected to be approximately $94 million for the year, higher than previous guidance due to our debt issuance in the quarter.
We continue to expect our tax rate to be approximately 25% for the year.
And finally, we expect restructuring expense to be approximately $15 million to $20 million in 2021.
Entering the third quarter, we continue to be optimistic about the remainder of 2021 and the first half of 2022.
There are numerous reasons for this optimism, including record backlogs at CCM, supportive trends in CIT's aerospace markets, growing strength at CFT, improvements in our supply chain, the impact of positive and proactive pricing actions and significant traction on our ESG journey, all the while leveraging COS and the Carlisle Experience to deliver innovative products to our customers.
For these reasons, we're confident in our continued ability to deliver results for all Carlisle stakeholders.
For full year 2021, we anticipate the following: at CCM, the underlying reroofing trends that have provided a solid foundation for growth over the past decade picked up in the second half of 2021 after a pause in 2020.
Through the pandemic, we continue to invest in CCM in order to ensure we would be ready when demand returned.
In addition, our expansion further into the Building Envelope, the increasing importance of energy-efficient products, contributions from Henry and our proactive pricing actions have positioned CCM well for continued growth over the coming quarters.
Considering this momentum, we are increasing our anticipated revenue growth to mid-20% in 2021.
At CIT, we are encouraged by the recovery in narrow-body commercial aircraft.
While this first step to recovery is encouraging, demand for wide-body aircraft, driven by international travel, remains muted in 2021.
We anticipate this demand will return to previous levels as COVID concerns subside and countries relax their travel restrictions.
In addition, CIT's Medical business has built a record backlog.
Taken together and coupled with significant restructuring at CIT over the past 18 months, CIT is now positioned to take advantage of the ongoing recovery.
We continue to expect sequential improvements and now expect CIT revenue will only decline in the mid-single-digit range in full year 2021.
At CFT, with end markets strengthening due to increasing industrial capital expenditures and improvements in the team's execution of our key strategies, including new product introductions, accelerating growth in our new platforms and price discipline, we continue to expect mid-teens revenue growth in 2021.
And finally, for Carlisle as a whole, we are now increasing our expectations to deliver high teens revenue growth in 2021.
As we progress through the final quarter of 2021, we are tracking to deliver a record year despite one of the most challenging time periods in our history.
We remain committed to our Vision 2025 goals of $8 billion in revenues, 20% operating income and 15% ROIC, all driving to exceed $15 of earnings per share by 2025.
Despite the continued uncertainties around COVID, stressed supply chains, raw material shortages, labor inflation and winter weather, Carlisle's resilient employees have adhered to our COVID protocols, shown respect for each other in the workplace, focused on safety, most importantly, remain focused on delivering results for all our Carlisle stakeholders.
With that, we'll conclude our formal comments, Bethany. | q3 adjusted earnings per share $2.99. |
I'll begin by sharing a few thoughts on our Company and our business performance.
As we mentioned on our last earnings call, we expected the second quarter to be our most challenging quarter this year due to the impact of COVID-19.
Operationally, all of our plants are running, though, we continue to experience challenges at our Mexico locations.
The return to the appropriate production staffing levels has been impacted by state and local regulations.
Our leadership in global teams are prioritizing the safety of our employees and adapting quickly to serve our customers' needs.
Sales were $84 million, down 30% from the second quarter of 2019.
As expected, we saw significant challenges in the transportation end market, sales in the rest of our business were stable.
Second quarter gross margins were 31.6% compared to 34.1% in the same period in 2019.
We delivered an adjusted EBITDA margin of 16.7% despite a 30% drop in sales.
Second quarter adjusted earnings per share were $0.16.
We had a promising new sensor win in transportation for application in hybrid electric vehicles, and continue to make progress with RF product wins in defense.
We added 13 new customers in the quarter.
We ended the quarter with $146 million in cash, and $141 million in debt.
We expect a prolonged recovery from the COVID-19 impact.
As a result, we are implementing a restructuring plan to realign our cost structure to the new demand environment.
This plan will be completed over the next 24 months.
Ashish Agrawal, our CFO is with me for today's call and will take us through the safe harbor statement.
To the extent that today's discussion refers to any non-GAAP measures under Regulation G, the required explanations and reconciliations are available in the Investors section of the CTS website.
I will now turn the discussion back over to our CEO, Kieran O'Sullivan.
The challenges of the COVID-19 pandemic have been unprecedented.
I want to express our appreciation to all our employees, customers and partners for their support as we work to get our factories online this past quarter.
Our people demonstrated remarkable flexibility in our operations and supply chain.
Our first focus is the safety of our employees and compliance with state and local regulations while doing everything we can to meet our customers' requirements.
The temporary expense reduction measures we discussed in our last earnings call are still in effect.
As I mentioned in my opening comments, we are announcing a restructuring plan which we expect to be completed over two year timeframe.
This plan is necessary to realign our operating cost structure to the new demand environment as we transition through the prolonged impact of COVID-19.
More details of the plan will be shared in the quarters ahead.
At a macro level, it will involve site consolidations and streamlining other operating costs to leverage economies of scale across the Company.
The plan is expected to deliver an annualized earnings per share improvement of $0.22 to $0.26 by the second half of 2022.
We remain focused on our strategic growth investments.
Growing our business and expanding our range of sensing, connectivity, and motion products is the priority.
New business awards were $105 million for the quarter, a solid performance given several OEMs continue to push out business decisions due to the COVID-19 and the resulting wide scale shutdowns in Europe and in North America in the quarter.
As I said, we added 13 new customers in the quarter, six in industrial, three in medical, three in defense and one in telecom.
In Transportation, we had an exciting win for a new high load current sensor for a premium European OEM.
This is a new hybrid vehicle application.
Since it is a customized design, we're still evaluating broader market potential.
We also secured several wins for passive safety sensors with existing customers and with a new customer, a large chassis ride height sensor award with a North American OEM, as well as accelerated module brands with several OEMs across all the regions.
In defense, we were awarded two RF programs with existing customers.
We have multiple wins for military underwater applications, secured a contract with an European OEM, and we received our first order for textured ceramic material.
Textured ceramic provides enhanced piezoelectric electric performance at a lower cost point.
Over time, we expect this new material formulations to expand our available market.
It has the potential to grow at higher single digit levels.
With temperature sensing, we secured wins in industrial, defense and medical applications and added new customers.
Our precision frequency product was selected for a design win in a 5G small cell application.
We also had design wins in pro-audio and in medical applications for encoder products.
We continue to advance product innovations.
Our focus in the transportation market is to develop sensor solutions that are agnostic to the underlying propulsion technology.
Thereby strengthening our growth in the next decade as hybrid and electric vehicle penetration grows.
We are researching new material formulations as we target growth in defense, industrial, and medical markets.
We are also developing custom ASIC solutions to strengthen our frequency product portfolio.
We made more progress in our ceramic foundry operation this past quarter, and we expect further improvements this year.
We are also using our expertise in ceramic formulations to improve yields and margins in our temperature sensing acquisition.
In our focus 2025 initiatives, we are concentrating on four areas: Number one, driving profitable growth; number two, building stronger customer relationships; number three, improving operating systems and; four, strengthening talent and culture globally.
As part of our emphasis on profitable growth, we are evaluating the product portfolio for longer-term growth and margin expansion.
Our focus on M&A is to strengthen our pipeline as we seek to expand our range of technologies, products, customers and geographic reach.
We are sharpening our go-to-market strategy by adapting our sales and application engineering setup to build stronger customer relationships.
Working more closely with our customers on next generation products and applications is more important than ever as we emerge from the COVID-19 pandemic.
To advance CTS operating systems, we have added a senior resource to lead this initiative.
We aim to build capability and drive continuous improvements.
Our goal is to eliminate waste and enhance profitability, and this will be a multi-year initiative.
Strengthening our talent pipeline and leadership bench while aligning our culture globally will enable us to achieve our vision of being a leading supplier of sensing and motion devices and connectivity components, and they bring in intelligence and seamless work.
We remained cautious on the broader economic environment in the second half of 2020.
From a light vehicle view, it is still too early to close the book on the pandemic.
Premium brands are expected to rebound faster than volume brands.
In the US, sales of used cars increased while the SAAR for 2020 is closer to 13 million, down 23% from last year.
On-hand days of supply are at 54 days, down 20% from the five-year average, which should help short-term demand.
We expect an improving sales trend in the third quarter, providing operations run normally.
European sales are forecasted to decline 26% from last year.
The China market continues to recover with volumes predicted to be down 14% in the $21 million to $22 million range for the year.
We continue to see growth in medical and defense markets.
We suspended guidance for 2020 earlier this year due to continued market uncertainty.
Our liquidity remains solid with a positive net cash position.
We aim to emerge from this crisis as a stronger Company.
Now, Ashish will walk us through the financial performance in more detail.
Our second quarter sales were $84.2 million, down 30% compared to the prior year.
Sales to transportation customers decreased by 53%, and sales to other end markets increased by 14%.
Our temperature sensing acquisition added $5.4 million and organic sales to non-transportation customers were up 1%.
We continue to get traction in the aerospace and defense, as well as medical end markets and saw a robust double-digit sales growth rates to customers in these markets.
Our gross margin was 31.6% for the second quarter, impacted substantially by lower sales.
We are making progress on various actions to improve our tax rate.
As a result, we expect to be closer to the lower end of our previously communicated range of 23% to 25% excluding discrete items.
As we complete our work on this effort, we expect some further improvements in the tax rate in 2021.
Our second quarter 2020 earnings were $0.15 per diluted share, adjusted earnings per diluted share were $0.16.
As we communicated back in April, due to lower volume expectations, we implemented measures to reduce cost through temporary payroll reduction, suspension of 401 k contributions, furloughs, plant shutdown, reduced Board compensation and control over all discretionary spending.
Revenue in the second quarter was significantly lower and conditions remain uncertain.
We will regularly evaluate market conditions to determine the extent and duration of these temporary measures.
As Kieran mentioned, we have started implementing a restructuring plan due to the prolonged impact of COVID-19.
We expect restructuring costs to be in the range of $10 million to $12 million over the next two years.
Anticipated annualized savings are in the range of $0.22 per share to $0.26 per share by the end of 2022.
Savings from the restructuring, once fully implemented will help offset the impact of the temporary cost reduction measures as those costs return.
Timing for some aspects of the restructuring project is being finalized, and we will communicate more on the timing of savings and cost in the coming quarters.
In terms of cash, we were net cash positive by approximately $5 million, which is an improvement from zero net cash at the end of first quarter.
We have access to an additional $157 million through our revolving credit facility.
In March, we borrowed $50 million from our credit facility.
We are continuing to maintain this position to ensure adequate liquidity for the next several quarters at all our sites globally.
Including this debt, we remain well within our debt covenants.
And at this time, it is our expectation that we will remain compliant.
Our controllable working capital as a percent of sales was 21.2% at the end of the second quarter.
The increase was driven primarily due to the sharp reduction in revenue in the second quarter.
In dollar terms, controllable working capital increased slightly from Q1 to Q2, and our focus remains on improvements in the coming quarters.
Our teams are maintaining emphasis on reducing inventory levels across our operations, and on receivables collection.
We generated $11.8 million in operating cash flow in the second quarter.
Capex was $2.7 million.
For the full year, we are expecting capital expenditures to be approximately 4% of sales.
We are committed to investing in programs that help us progress our strategic growth objectives.
We are continuing to implement SAP, and went live successfully at another large manufacturing location at the beginning of July.
This go-live was accomplished despite most of the implementation team working remotely due to COVID-19 related travel constraints.
This is a significant accomplishment by our team in Matamoros as well as the SAP implementation team.
With the go-live in Matamoros, we have completed the rollout to plants that provide approximately 80% of the Company's revenue.
We are on track to complete the SAP implementation around the middle of 2021.
This concludes our prepared comments. | compname posts q2 adjusted earnings per share $0.16.
q2 adjusted earnings per share $0.16.
q2 earnings per share $0.15.
q2 sales $84.2 million versus refinitiv ibes estimate of $89 million.
not providing revenue or earnings guidance at this time. |
Sales in the second quarter were $129.6 million, up 54% compared to the same period in 2020.
Customer demand remains robust, while supply challenges persist especially for automotive products.
Second quarter gross margin was 36.8%, up 525 basis points from 31.6% in the second quarter of 2020.
Though improved, gross margin performance continues to be impacted by semiconductor and commodity price increases, as well as increased logistics costs.
EBITDA margin of 21.5% was up 480 basis points from 16.7% in the same period last year.
Second quarter adjusted earnings per share of $0.52 were up 225% from $0.16 in the second quarter of 2020.
Later, Ashish will add color to the GAAP performance including a non-cash charge related to the U.S. pension plan termination.
Operating cash flow of $19 million was up from $12 million in the second quarter of 2020.
New business awards of $174 million were solid and up from $105 million in the same period last year.
Ashish Agrawal, our CFO, is with me for today's call and will take us through the Safe Harbor statement.
And more information can be found in the company's SEC Filings.
To the extent that today's discussion refers to any non-GAAP measures under Regulation G, the required explanations and reconciliations are available in the Investor section of the CTS website.
I will now turn the discussion back over to our CEO, Kieran O'Sullivan.
In the second quarter, our sales were $129.6 million, up 54% from the second quarter of 2020.
Excluding sales from the acquisition of Sensor Scientific, sales were up 52% organically.
The SSI acquisition continues to deliver solid growth.
As I referenced in our last earnings call, we expected the transportation sales run rate to be slightly lower than our first quarter 2021 performance due to ongoing supply challenges.
Our teams worked creatively and diligently to secure parts, approved substitutions and adapt with speed to support our customers.
Transportation sales while up 88% from the same period last year would have been stronger by a few million dollars if we did not have these supply challenges.
We expect the supply challenges and some customer shutdowns to persist in the second half.
New business awards were $174 million for the quarter, up from $105 million in the same period last year.
We added three new customers in the quarter; two in transportation and one in telecom.
In Asia, we added a new transportation customer in China for a large platform that would ship in the 2023 timeframe.
Across the accelerator modules, we had wins with two existing customers in China, secured awards with two Japanese OEMs for the North American market and added a new electric vehicle customer in Europe.
With passive safety sensors, we had wins with existing Tier 1 customers across all three regions with one of the wins for an EV application.
In Europe and North America, we had wins for throttle position and transmission position sensing.
Bookings and sales for two-wheeler applications were strong in Asia.
We continue to advance our diversification strategy by growing in non-transportation end markets.
In Defense, we had several undersea sonar wins and we also maintain good momentum with our RF filter products for GPS anti-jamming applications.
Temperature sensor wins were solid in defense, and we had an important win for an aviation application in Europe.
In Industrial, we continue to see strong demand for temperature products across pool and spa as well as HVAC applications.
We also had a large win in industrial printing, securing a two-year contract where the market has expanded into new applications such as garment printing.
Momentum in medical markets was positive but with inconsistencies regionally due to countries emerging from lockdowns and some customers being impacted by material shortages.
We had various temperature application wins and additional wins in CPAP, medical ultrasound and intravenous drug delivery.
For medical ultrasound, our design wins are increasing through new programs with existing customers and several new customers sampling our solutions.
We received two transportation OEM quality awards and we're also recognized for delivery performance by an industrial OEM and a large distributor.
Overall, across all end markets, demand remains robust.
Some automotive customers have confirmed demand through 2022.
Order intake for electronic components was strong in the second quarter.
Although we've not seen signs so far, we remain cautious of potential inventory buildup in various end markets.
This past quarter we announced the $50 million stock buyback program.
As we look to capital deployment, our emphasis remains firmly on supporting organic growth investments and using our strong balance sheet to advance on M&A in alignment with our strategic priorities.
We continue to strengthen our M&A pipeline.
Potential changes in capital gains taxation may also provide some further momentum in our areas of interest.
We continue to seek to expand our range of technologies, products, customers, and geographic reach.
And at the same time, continue to diversify our end market profile to complement our quality of earnings.
For the second quarter, transportation sales represented 55% of our total company revenues as we made progress in Industrial, Medical, and Defense sales.
Operationally, we can see the end of our journey and the rollout of the SAP system, though we will continue to optimize our learnings and capabilities.
The previously announced restructuring savings of $0.22 to $0.26 by the second half of 2022 are tracking close to the target range.
Building the CTS operating system capability continues with four sites advancing their proficiency on the system and tools as we aim to empower our teams and strengthen operational and enterprise expertise.
Transitioning to end markets, the semiconductor shortage is expected to reduce vehicle builds by 6 million units this year.
The supply of global microcontrollers is improving from companies such as Renesas and NXP, which should deliver some improvements to vehicle OEMs. For the U.S. light vehicles transportation market, demand remains robust.
We still expect approximately a 15 million to 16 million unit range this year, up double digits year-over-year.
On-hand days of supply are between 25 and 30 days, the lowest in recent history, and down 50% since January of this year.
European production is forecasted in the 16 million to 18 million unit range with some uncertainty persisting due to the extended COVID lockdowns.
The Chinese market has fluctuated recently showing the first chip-related impact.
China volumes are expected in the range of 23 million to 25 million unit range for this year.
The commercial vehicle market remains strong, not only for this year but likely into the first half of 2022.
The biggest challenge is the supply of semiconductors as demand remains robust.
As I mentioned earlier, for transportation, the supply challenges will continue to impact our sales in the second half of this year.
However, we see improvements in medical as well as solid growth in industrial and defense markets.
In terms of guidance for the full year 2021, we are updating our range.
Our previous guidance was for sales in the range of $445 million to $500 million, and adjusted earnings in the range of $1.35 to $1.70.
We are now updating our guidance for sales to be in the range of $480 million to $500 million, and adjusted earnings are expected to be in the range of $1.70 to $1.90.
Further updates will be provided as we continue to monitor the ongoing supply challenges.
Phase 2 of our journey and our biggest priority as we advance toward our 2025 goals is layering on a more robust sales growth profile.
Our teams are making progress as we continue to focus on existing accounts and add resources and capabilities to further support business development.
At this time, Ashish will take us through the financial performance.
Second quarter sales were $129.6 million, up 54% compared to the second quarter of 2020 and up 1% sequentially from the first quarter.
Sales to transportation customers bounced back 88% compared with the pandemic-driven lows in the second quarter of 2020.
However, we were down 6% sequentially as we saw the impact of supply challenges on global production volumes.
Sales to other end markets increased 26% year-over-year and were up 10% sequentially.
We had another quarter of solid year-over-year double-digit growth in the industrial as well as aerospace and defense end markets.
Sales to the transportation end market represented 55% of our total revenue.
This reflects progress toward our strategic goal to further diversify our business by growth in the Industrial, Medical as well as Aerospace and Defense end markets.
Our two temperature sensing acquisitions have performed well and had strong top line growth in the second quarter.
Changes in foreign exchange rates impacted our revenue favorably by approximately $2.7 million.
Our gross margin was 36.8% in the second quarter, up 525 basis points compared to the second quarter of 2020 and up 360 basis points sequentially from the first quarter of 2021.
These improvements reflect the progress in operational efficiency in our foundry operations over the last 12 months, as well as improvements in other parts of our business.
We also benefited from a larger portion of our revenue coming from the Industrial, Medical and Aerospace and Defense end markets.
Raw material price increases, as well as freight costs continue to impact us unfavorably.
And we are working closely with our customer base to offset or share these cost increases.
In the last quarter, we generated $0.03 of earnings per share in savings from our restructuring program announced in the third quarter of 2020, bringing the total savings to $0.12 of earnings per share so far.
As we mentioned back in April, the timing of some of our projects is being impacted due to the ongoing impact of COVID-19 on travel, as well as an increase in demand.
We are still on track to achieve the targeted annualized savings of $0.22 to $0.26 by the end of 2022.
SG&A and R&D expenses were $27 million or 21% for the second quarter.
Operating expenses increased primarily as a result of reinstating cost cuts made during the pandemic to offset the impact of revenue decline and higher incentive compensation expenses.
In the second quarter, we recorded a non-cash charge of $20.1 million related to the termination of the U.S. pension plan.
We are expecting the remaining non-cash charge of approximately $101 million to be booked in the third quarter when we complete the settlement process.
As a reminder, these are non-cash charges and the U.S. pension plan is expected to be overfunded at settlement.
Second quarter tax rate was 246% as a result of the impact of the pension settlement charge on our income statement.
We anticipate our 2021 tax rate to be in the range of 19% to 21% excluding the impact of the pension settlement and other discrete items.
We are carefully watching the new tax proposals and initiatives of the Biden Administration, and we'll discuss the impact on our business in the coming months as we get more clarity.
Second quarter 2021 earnings were $0.03 per diluted share.
Adjusted earnings per diluted share were $0.52 compared to $0.16 for the same period last year and $0.46 last quarter.
Now I'll discuss the balance sheet and cash flow.
Our controllable working capital is essentially flat from the end of 2020.
While we remain focused on working capital efficiency, we anticipate carrying some excess inventory where possible to manage supply chain concerns over the next few quarters.
Our operating cash flow was $19 million for the second quarter which is an improvement from $12 million in the second quarter of 2020.
We generated $16 million in free cash flow.
Capex was low in the first half primarily due to the timing of various projects.
In 2021, we expect capex to be in the range of 4% to 4.5% of sales.
Our cash balance on June 30, 2021 was $117 million, up from $92 million on December 31, 2020.
Our long-term debt balance was $50 million, down from $55 million on December 31, 2020.
Our debt to capitalization ratio was at 9.9% at the end of the second quarter compared to 11.4% at the end of 2020.
The combination of a strong balance sheet with a net cash position and access to approximately $250 million through our credit facility gives us the liquidity to make progress on the right M&A transactions.
In early July, we successfully went live on SAP at Boise, Idaho, and Tecate, Mexico.
These are locations from our first temperature acquisition.
As we had previously mentioned, more than 90% of our revenue now comes from sites that are running on SAP.
We expect to complete the rollout to our remaining sites in early 2022.
Before we wrap up, as Kieran mentioned earlier, we see a sustained demand environment in the second half of 2021.
However, supply chain challenges are expected to persist for us and our customers on both material availability and cost through the rest of the year.
Our current expectation is that Q3 could be the most challenging with some improvements in the fourth quarter.
This concludes our prepared comments. | q2 earnings per share $0.03.
q2 sales $129.6 million versus refinitiv ibes estimate of $122.4 million.
q2 adjusted earnings per share $0.52.
updating its 2021 guidance for sales from $445 - $500 million to $480 - $500 million.
sees 2021 adjusted diluted earnings per share $1.70 - $1.90. |
We reported solid financial results that were propelled by our ongoing diversification efforts.
Sales in the third quarter were $122 million, up 8% compared to the same period in 2020.
Customer demand remains robust, while supply challenges persist, especially for transportation products.
Third quarter gross margin was 37.3%, up 490 basis points from 32.4% in the third quarter of 2020.
EBITDA margin of 21.7% was up 270 basis points from 19% in the same period last year.
Third quarter adjusted earnings per share of $0.46 were up 35% from $0.34 in the third quarter of 2020.
Later, Ashish Agrawal, our CFO, who is with me for today's call, will speak to the GAAP performance.
Operating cash flow of $21 million was down from $26 million in the third quarter of 2020.
New business awards of $179 million were solid and up from $127 million in the same period last year.
Ashish will take us through the Safe Harbor statement, Ashish.
To the extent that today's discussion refers to any non-GAAP measures under Regulation G, the required explanations and reconciliations are available in the Investors section of the CTS website.
I will now turn the discussion back over to our CEO, Kieran O'Sullivan.
In the third quarter, our sales increased 8% to $122.4 million versus the prior period.
Demand from customers remains strong, but not surprisingly, revenue has been dampened by persistent supply chain constraints reverberating throughout the global economy, especially for automotive products, where we saw sales decline in the third quarter.
Excluding sales from the acquisition of Sensor Scientific, sales were up 6% organically.
Importantly, the SSI acquisition continues to deliver solid growth, and we're pleased with the performance of our temperature acquisitions and the momentum we are building to scale this platform.
We are benefiting from the richness of our customer base, in particular, in transportation end market.
As a result, we performed better than the overall market as our teams excelled in-sourcing initiatives globally, including the qualification of alternative sources.
Gross margin for the third quarter was 37.3%, up 490 basis points from the 32.4% in the prior year.
As we gain momentum from the advancement of our diversification strategy that I will talk about more in just a minute.
EBITDA margin of 31.7% was up 270 basis points from 19% in the third quarter of 2020.
We continue to be impacted by rising commodity prices as well as increased freight costs.
That said, we've been working alongside our customers to offset or share these cost increases.
While inflationary pressures negatively impacted our earnings for the third quarter, we remain confident in our ability to navigate this dynamic environment.
Third quarter adjusted earnings per share of $0.46 were up 35% from $0.34 in the same period last year.
New business awards of $179 million were solid and up from $127 million in the same period last year.
We added two new industrial customers in the quarter, one for an RF filter application and the other for a temperature-controlled crystal component applied in a GPS application.
Our long-term strategy centers on diversifying our end market profile by expanding our range of technologies, products, customers and geographic reach.
This diversification will also enhance the quality of our earnings.
We made tremendous progress on this front with the non-transportation related revenue moving closer to 50% of total revenue during the third quarter of 2021.
As a reminder, historically, our non-transportation related revenue was roughly 1/3 of sales, and our movement toward 50% of revenues is a meaningful shift that advanced our business across the board.
As we move forward, we will continue to strategically grow our transportation business, while at the same time continue to increase the growth rate of non-transportation revenues.
We are well positioned in multiple end markets that offer attractive growth prospects.
In the industrial space, we are seeing good traction in inkjet printing related to packaging and ceramic tile printing.
We continue to expand our applications in cold and hot temperature sensing.
In flow measurement, we have developed transducer applications in an area where we see good growth opportunities.
In medical, we see strong mid to long-term growth driven by traditional ultrasound technologies.
Additionally, with intravascular ultrasound applications, we are in sample qualification phases with potential customers, expanding our offering of temperature sensors in the medical market is a priority for us.
In aerospace and defense, our growth in undersea Sonar is expanding as we develop samples with new European customers where we expect future growth.
More recently, we provided samples for testing in underwater unmanned vehicle applications.
We are working on new material formulations, which we expect to provide solid tailwinds for next-generation products and new applications.
In transportation, the move toward hybrid and electric vehicles as well as increased sensor content with passive safety and future E-brake applications presents a tremendous opportunity.
Importantly, except for the smart actuator, the rest of our portfolio is agnostic to the propulsion system, which allows us to be flexible to meet the needs of our customers.
Overall, across all end markets, demand remains robust, in particular, in transportation, which we expect to continue given the historic low days on hand of vehicle inventories.
As I highlighted last quarter, some automotive customers have confirmed demand through 2022.
Order intake in the non-transportation end market was again strong in the third quarter.
We remain cautious of potential inventory buildup in various end markets, but most likely will not see this as an issue in the first half of 2022.
As I mentioned earlier, non-transportation sales now account for nearly 50% of our revenue, supported by our efforts to diversify the business.
With a very challenging supply chain environment, our teams worked creatively and diligently to secure parts and adapt with speed to support our customers.
Whilst transportation sales are lower than the previous quarter, we performed better than the outlook we provided in the last quarterly update.
We expected the third quarter to be the most challenging from a supply chain perspective.
The supply challenges and some customer shutdowns will likely persist for the balance of this year.
We expect an improving trend in 2022.
We also expect demand for automotive products to be robust in the year ahead as supply chain constraints improve.
In the accelerator module product lines, we had large wins with two existing Japanese customers.
We also had accelerator wins with customers in China and North America.
For passive safety sensors, we secured a win with a North American OEM and were awarded a Chassis Right Height Sensor program with a Japanese OEM.
Moving to Megatronics, a customer for actuator products, extended an existing platform for an additional year where products being supplied to all regions.
two of the awards this quarter were electric vehicle wins, one with a European OEM, and one with a Japanese OEM.
Bookings and sales for 2-wheeler applications were consistent with prior quarters.
Our non-transportation end market performed strongly in the third quarter.
Sales in industrial advanced from robust demand for temperature products across pool and spa, where we had two large awards, and we received multiple awards for HVAC applications.
Our focus on extending into the hot side applications is gaining momentum, and we will begin shipments to a new customer later this year.
Also, in industrial with wins for an EMC product, measurement transducers and a frequency product.
We renewed contracts with two customers for an application in musical instruments and end use market, which continued to gain sales growth throughout the pandemic environment as consumers shift to dedicating more of their time to leisure products.
Momentum in our medical end market continues to improve in a more consistently positive direction.
We had several wins from aiding drug delivery to next-generation medical ultrasound applications.
Also, for medical we secured temperature sensing awards with existing customers ranging from incubators to critical freezer and disposable applications.
We are working with new customers sampling medical ultrasound and temperature sensing products.
In defense, we had several undersea sonar wins and extended an RF filter program for a GPS anti-jamming application.
As I mentioned earlier, we are testing samples with new customers and expanding new advanced material formulations for next-generation products.
We had various smaller wins for RF and 10 applications and continue to develop frequency solutions to support millimeter wave technology for 5G applications.
Operationally, Ashish will provide more color on the savings we anticipate from our restructuring activities, we are tracking close to the target range.
We are nearing the end of our ERP implementation journey and the rollout of the SAP system, though we will continue to optimize our learnings and capabilities from these important initiatives.
Our balance sheet is strong, which is bolstered by strong solid cash flow generation, continues to be a competitive advantage as we advance our diversification strategy.
In the third quarter of 2021, we delivered operating cash flow of $21 million.
As we look to capital deployment, our emphasis remains firmly on supporting organic growth investments and using our financial strength to advance on M&A in alignment with our strategic priorities.
We also remain committed to returning cash to shareholders.
This past quarter, we repurchased approximately 148,000 shares for slightly less than $5 million as part of our previously announced stock buyback program.
We continue to strengthen our M&A pipeline in an environment where activity is at record highs.
From an M&A perspective, our strategy centers on enhancing our technology and product capabilities as well as our geographic reach across our end markets to enhance our diversification goals.
At the same time, adding technology that will enhance our EV offering remains a priority.
Our sweet spot continues to be acquisition targets in the range of up to $50 million a year in sales, but we remain open for the right larger opportunities that will advance our long-term strategy.
Looking ahead, the semiconductor shortage is now expected to reduce vehicle builds by nine million to 10 million units this year.
Pressure from the semiconductor shortages and OEM shutdowns certainly deteriorated downwards in the third quarter.
For the U.S. light vehicle transportation market, the SAAR dropped closer to $12 million in September, and we expect approximately 13 to 13.5 million unit range for this year.
On hand days supply are now closer to 20 days, the lowest in recent history and down over 60% from the five-year average of 55 days.
European production is forecasted in the 16 million to 17 million unit range.
The Chinese market has fluctuated, which also reflects the chip related impact.
China volumes are expected to be in the 23 million to 24 million unit range for this year.
The commercial vehicle market remains solid and likely to remain robust in 2022.
The biggest challenge to that outlook is the supply of semiconductors and the subsequent rescheduling of some unit builds into next year.
As I mentioned earlier, for transportation, the supply challenges will continue to impact our sales for the balance of this year.
However, we continue to see improvements in the medical end market as well as solid growth in industrial and defense markets.
In terms of our guidance for full year 2021, we are updating and narrowing our range.
Our previous guidance was for sales in the range of $480 million to $500 million and adjusted earnings per share in the range of $1.70 to $1.90.
We are now updating our guidance for sales to be in the range of $495 million to $505 million, and adjusted earnings are expected to be in the range of $1.85 to $1.95.
Our global team continues to demonstrate strong execution and a commitment to delivering operational excellence and achieving our long-term goals.
Our investments in our business development program and front-end sales are providing us with opportunities to build on our existing accounts and cross-sell our technologies, as you will find at some of our new business wins.
In our ongoing efforts to build our talent and culture, we came together in September as the global leadership team for the first time since the beginning of the pandemic.
Our event proved to be engaging and energizing as we collaborated and worked diligently on our focus 2025 initiatives to support growth, focusing on our strategic path forward customer relationships, operating systems, leadership, talent and culture.
Along the same lines and as part of our ongoing efforts to bolster engagement in our communities, we launched CTS Cares, a new platform designed to help our employees across the globe, collaborate on community engagement and charitable giving programs and share best practices for doing so.
This is our 125 anniversary, and we're very proud of our rich heritage and excited by what we can give back to our communities in the years ahead as we integrate the CTS Cares program into our culture.
In conclusion, CTS is well positioned for the future.
We have a strong team aligned around common goals that continue to advance the business for long-term value creation for our shareholders and other stakeholders.
Third quarter sales were $122.4 million, up 8% compared to the third quarter of 2020 and down 6% sequentially from the second quarter.
Sales to transportation customers declined by 5% compared to the third quarter of 2020 and 13% sequentially.
Conversely, sales to our other end markets increased 24% year-over-year and 3% sequentially, as the industrial, aerospace and defense end markets exhibited consecutive year-over-year double-digit growth.
As Kieran mentioned, this quarter, we have made significant advances in our diversification strategy as the sales to transportation end market represented 51% of our total revenue.
We remain committed to further diversifying the business.
Changes in foreign exchange rate impacted our revenues favorably by approximately $1.3 million.
Our gross margin was 37.3% in the third quarter, up 490 basis points compared to the third quarter of 2020 and up 50 basis points sequentially from the second quarter of 2021.
Our global team's operational efficiencies as well as profitability in our industrial, medical, aerospace and defense end markets helped mitigate the price increases in raw materials and freight costs that we have seen during the year.
We are also working closely with our customer base to find the best ways to manage the macroeconomic pricing pressures we currently face.
In the third quarter, we achieved $0.03 in earnings per share in savings from our restructuring program.
We remain on track to achieve targeted annualized savings of $0.22 to $0.26 of earnings per share by the end of 2022.
SG&A and R&D expenses were $26 million or 22% of sales in the third quarter of 2021 versus $23 million or 20% of sales in the third quarter of 2020.
The higher expenses in 2021 were driven by higher incentive compensation, timing of certain projects and the full restoration of cost reduction initiatives implemented in 2020.
In the third quarter, we recorded a noncash charge of $106 million before tax as part of the U.S. pension plan termination process.
As a reminder, these are noncash charges as the U.S. pension plan was overfunded at settlement.
The third quarter tax rate was 28.9% as a result of the impact of the final pension settlement charge on our income statement.
We anticipate our 2021 tax rate to be in the range of 19% to 21%, excluding the impact of the pension settlement and other discrete items.
We are also closely monitoring the U.S. government initiatives on tax that may impact our business in the future.
For the third quarter 2021, we reported a loss of $1.97 per share.
Adjusted earnings for the third quarter were $0.46 per diluted share compared to $0.34 per diluted share in the same period last year.
Our operating cash flow was $21 million for the third quarter of 2021 compared to $26 million in the same period last year.
The primary driver of lower operating cash during Q3 was inventory increases in our plants as we work through the supply chain challenges and our customers pushing out shipments.
We continue to focus on working capital efficiency, but anticipate carrying some excess inventory considering the ongoing supply chain challenges.
Our cash position is strong with a cash balance of $129 million as of September 30, 2021, up from $92 million on December 31, 2020.
Our long-term debt balance is at $50 million, a slight decrease from the $55 million on December 31, 2020.
Our debt to capitalization ratio was at 9.9% at the end of the third quarter compared to 11.4% at the end of 2020.
Given the strength of our balance sheet and cash flows, we continue to carefully consider M&A transactions that will further help our diversification efforts.
We are near the end of our rollout of the SAP system.
A majority of our sites are now running on SAP, and we expect to complete the rollout to the remaining sites in early 2022.
As Kieran mentioned earlier, we see a sustained demand ahead of us.
However, supply chain challenges are expected to persist for us and our customers on both material availability and cost through the rest of the year and into 2022.
This concludes our prepared comments. | q3 loss per share $1.97.
q3 sales rose 8 percent to $122.4 million.
q3 adjusted earnings per share $0.46.
raised and narrowed its 2021 guidance for sales to $495 - $505 million.
sees 2021 adjusted diluted earnings per share to be $1.85 - $1.95. |
Sales in the fourth quarter were $123 million, up 7%, compared to the same period in 2019.
Full-year sales were $424 million, compared to $469 million last year impacted by the pandemic in 2020.
Today all of our plants are operational with varying levels of capacity from 85% to 100%.
Fourth quarter gross margin was up 110 basis points to 34.7% from the same period last year.
EBITDA margin of 21.4% was up from 20.3% in the fourth quarter of 2019.
Fourth quarter adjusted earnings per share of $0.43, were up 16% from $0.37 in the fourth quarter of 2019.
Full-year adjusted earnings per share of $1.12 were down from $1.45 last year.
New business wins for the year were $442 million, down from the prior year as several OEMs push that sourcing decisions in 2020.
Operating cash flow for 2020 was $77 million, up 19% and $64 million in 2019.
In the fourth quarter, we acquired Sensor Scientific, a temperature sensing company, primarily serving medical customers.
Ashish Agrawal, our CFO is with me for today's call as usual and he'll take us through the Safe Harbor statement.
To the extent that today's discussion refers to any non-GAAP measures under Regulation G. The required explanations and reconciliations are available in the Investors Section of the CTS website.
I will now turn the discussion back over to our CEO.
In the fourth quarter, our sales increased to $123 million, up 8% sequentially and up 7% from last year.
For full-year 2020 sales were down 10% from 2019, driven lower by the impact of the pandemic.
The quarter's performance was solid.
However, we are operating cautiously as we enter 2021 and monitor for any new pandemic disruptions, semiconductor shortages for our OEM customers and the consistency of the recent robust recovery.
We continue to prioritize safety in our operations, our team's ability to effectively manage through the crisis, their resilience as well as the commitment and strength of the senior leadership team greatly helped us navigate these unprecedented market conditions this past year.
The restructuring plan we announced last year is progressing with small delays due to the impact of COVID-19.
We are still planning to deliver an annualized earnings per share improvement in excess of $0.22 by the second half of 2022.
More importantly, we're focused on returning to growth, building on our performance in the fourth quarter and leveraging the recent acquisition of Sensor Scientific.
Sensor Scientific is a manufacturer of high quality thermistors and temperature sensor assemblies, serving OEMs for applications that require precision and reliability in medical, industrial and defense markets.
Sensor Scientific's products are used in a variety of medical applications; including neonatal equipment, lab freezers, fluid warmers and analytical instruments.
SSI has locations in Turkey and New Jersey and in the Philippines.
The acquisition expands our temperature sensing portfolio has complementary capabilities with our existing platform and expand CTS's presence in medical.
The annualized revenue is in the range of $6 million, the purchase price was slightly less than 2 times revenue.
We remain focused on our strategic growth investments as part of our planning for 2025.
Growing our business and expanding our range of products that Sense, Connect, and Move is the priority.
New business awards were $104 million for the quarter, we added six new customers in the quarter; four in transportation; one in medical and one in telecom.
In Transportation, we were awarded passive safety sensor wins with three OEMs; one of the wins was with a North American customer for electric trucks, a new customer for CTS, this builds momentum on the large passive safety win we recorded last quarter with a Chinese electric vehicle application.
We have accelerated our module wins with several OEMs across China, Europe and North America.
A few of these wins were on plug-in hybrid electric platforms.
We also added the new customer for passive safety sensors in Asia and a new Chinese JV customer for accelerated modules.
We continue to focus on electric vehicle applications and products that are technology-agnostic and are not impacted by the transition from internal combustion engines to EV's.
New electric vehicle applications in current temperature sensing and advanced E-break our innovation projects in our pipeline, as well as next-generation chassis right high sensing.
Total EV wins for the year were in the range of 20% of new business awarded.
In Europe, we continue to leverage our footprint and capabilities in Denmark and the Czech Republic with Tier 1 defense customers and are currently in sample qualification.
In addition, we were awarded funding from a European Agency for the development of next-generation ceramic materials.
We saw softness in the medical market in the fourth quarter.
However, we are making progress in applications and renewed business with three ultrasound customers in the quarter with one for a multi-year period.
We also secured a win for sleep apnea control application and a win for a medical temperature application.
In other electronic components we had wins with application in EMC, as well as a Microactuator application.
In Asia we secured a win for a two-wheeler throttle sensor application.
With temperature sensing, we secured orders in pool and spa applications, which continue to be strong.
We also have temperature wins in industrial for hatchback and a win for a satellite application.
We are gaining momentum with our precision frequency product enabled by our reference design position.
We secured wins for 5G applications linked to large telecom OEMs and shipped the quarter million of samples in the quarter.
More recently in January, our product was designed in for a 5G application selected by India's largest telecom provider.
The low power crystal product is also in sample testing with a new North American customer.
Building and strengthening our M&A pipeline is the priority.
This is more challenging due to the COVID restrictions, we are actively building relationships with companies in line with our strategy.
We seek to expand our range of technologies, products, customers and geographic reach, while we continue to diversify our end-market profile and enhance the future quality of earnings.
Given our strong balance sheet, we seek to gain momentum with the right strategic fit and evaluation.
The focus 2025 initiatives, which we have previously highlighted has an important emphasis on building stronger customer relationships.
As part of this initiative, we continue to focus on our go-to-market capabilities and skills.
We are working to improve the quality of the sales funnel, optimize our target new accounts and align our functional areas to be more responsive and solution-oriented in line with our core values.
As we progressed into the first quarter of 2021, we've seen a positive start and expect a good first quarter given current customer demand.
As I mentioned earlier, we remain cautious for the full-year in case of unexpected pandemic supply chain disruptions and the current semiconductor shortage.
We are monitoring the consistency of demand in this recovery, given there may have been some pull forwarding demand in 2020.
We are all aware of the backdrop of higher unemployment and the potential for depressed economic and consumer confidence.
Though, we are not experiencing it at this time.
We are facing some headwinds on commodity pricing, higher freight charges, increased absenteeism due to the impact of COVID-19 and working diligently to offset these with our continuous improvement projects.
We expect to stay within our targeted gross margin range.
For the US light vehicle transportation market, volume is expected to improve in the 14 million to 16 million unit range.
On-hand days of supply are now at 59 days.
Approximately 9% below the five-year average of 65 days.
We currently see reasonable control of inventory levels, European sales are forecasted in the 18 million to 19 million unit level, though there is some uncertainty given the recent lockdowns throughout the region with some OEMs announcing volume reductions.
Our exposure to the European market is lower.
The Chinese market is expected to remain solid with volumes of 24 million to 26 million unit range this year.
The commercial vehicle market is on an improving trend that started last year.
Larger backlogs and heavy duty are driven by increasing fleet orders.
In the mid range and lower, demand has been driven by the increase in e-commerce deliveries.
The medical end market is expected to remain soft in the first half of 2021, due to lower elective surgeries.
We see good growth in industrial and defense markets.
In terms of guidance for full-year 2021, we expect sales to be in the range of $430 million to $490 million, and adjusted earnings are expected to be in the range of $1.20 to $1.60.
We are closely monitoring the impact of COVID-19 supply chain disruptions and the broader level of economic activity.
We expect to narrow the range as the year progresses.
In this more remote working environment, we continue to place an emphasis on connecting with our customers, monitoring products and development, effectively navigating supply chain improvements, innovations and importantly, our performance and results driven culture.
Our employees globally continue to provide a tremendous support and demonstrate resilience to serve our customers, while operating safely.
We are confident in our strategy and are using this pandemic period to enhance our foundation, strengthen our core business and to advance our technology capabilities.
Our 2025 initiatives is focused on four key areas: 10% annualized profitable growth with active portfolio management; working more closely with our customers, building relationships and aligning our technology and product road maps; number three building the foundation of CTS's operating system to execute globally on a consistent basis, while we enhance our continuous improvement capabilities; and finally, advancing organizational capability to leadership and culture aligned to our customers' needs, our business performance, our core values, supporting our communities and environmental priorities.
At this time Ashish will take us through the financial performance.
Fourth quarter sales were $123 million, up 7%, compared to last year and up 8% sequentially.
Sales to transportation customers increased by 12% versus the fourth quarter of 2019, sequentially we were up 17% in sales to transportation customers.
Sales to other end markets were essentially flat year-over-year.
We saw solid growth in sales to both the industrial and defense end markets and softness continued in the medical end market.
Our gross margin was 37% for the fourth quarter, up 230 basis points, compared to last quarter, and up 110 basis points, compared to last year.
Adjusted EBITDA in the fourth quarter was 21.4%, up 240 basis points sequentially and up 110 basis points from last year.
Fourth quarter 2020 earnings were $0.46 per diluted share, adjusted earnings per diluted share were $0.43, compared to $0.37 last year and $0.34 last quarter.
For full-year 2020, sales were $424 million, down 10% from 2019.
Sales to transportation customers declined 19% and sales to other end markets increased by 7%.
Industrial and aerospace & defense end markets sales experienced double-digit growth.
Medical end market was soft, but sales down 7%.
Our gross margin was 32.8% for the year, down from 33.6% last year.
The major driver was lower volume attributable to COVID-19, which was partially offset by temporary and other cost reductions implemented throughout the year.
Our focus is to drive improvements and move toward the higher end of our target range of 34% to 37% gross margin.
In the second half of 2020, we generated $0.05 of earnings per share and savings from our restructuring program announced in July 2020.
Foreign currency rates impacted gross margin favorably in 2020 by approximately $3 million.
Based on recent exchange rates currency could impact our 2021 gross margin unfavorably by approximately 100 basis points.
SG&A and R&D expenses were $92.1 million or 21.7% of sales for the year.
Consistent with prior communication, we expect 2021 operating expenses to be higher as a result of the reinstatement of temporary cost measures.
Our 2020 tax rate was 23.7%, we anticipate our 2021 tax rate to be in the range of 23% to 25%, excluding the discrete items.
This is subject to change, due to the impact of any changes that may be introduced by the new US administration.
2020 earnings were $1.06 per diluted share, adjusted earnings per diluted share were $1.12, compared to $1.45 last year.
Now I'll discuss the balance sheet and cash flow.
Our controllable working capital as a percentage of sales was 15.5% in the fourth quarter, improved slightly from the third quarter.
We have made progress over the last couple of quarters, but still have more work to do.
We are balancing improvements in working capital with having some safety stock to minimize risk of supply chain disruptions.
Capex was $14.9 million for the full-year, down from $21.7 million in 2019.
We continue to manage capex carefully given the current environment.
In 2021, we are expecting capex to be in the range of 4% to 4.5% of sales.
The primary focus being on growth-related projects.
We finished 2020 with a healthy balance sheet and a strong liquidity position.
Our operating cash flow in the quarter was $26 million, for the full-year operating cash flow was $77 million, compared to $64 million in 2019.
The end of the year with $92 million in cash, compared to $100 million in December 2019.
In the fourth quarter, we reduced our long-term debt balance to $55 million from $106 million at the end of the third quarter.
Our debt to capitalization ratio was at 11.4% at the end of 2020, compared to 19.7% at the end of 2019.
The combination of a strong balance sheet with a net cash position and access to over $240 million through our credit facility gives the flexibility to appropriately deploy capital toward our strategic objectives.
We are progressing on our SAP implementation as we communicated earlier, more than 80% of our revenue comes from sites that are running on SAP.
We expect to complete the implementation in the second half of 2021.
However, COVID-related restrictions could cause some delays.
This concludes our prepared comments. | compname announces q4 adjusted earnings per share $0.43.
q4 adjusted earnings per share $0.43.
q4 earnings per share $0.46.
q4 sales $123 million versus refinitiv ibes estimate of $117 million.
sees fy 2021 sales $430 million to $490 million.
adjusted earnings per diluted share for 2021 are expected to be in range of $1.20 to $1.60.
aims to narrow guidance range as year progresses. |
If you did not receive a copy these documents are available through the quarterly disclosures and supplemental SEC information links on the Investor Relations page of our website cousins.com.
In particular there are significant risks and uncertainties related to the severity and duration of the COVID-19 pandemic and the timing and strength of the recovery therefrom.
Over a year ago, COVID-19 emerged swiftly and our entire world changed nearly overnight.
As we mark a year later, I'm sure I share with many of you a feeling of hope that while the pandemic is not yet over, there is optimism on the horizon with the accessibility of vaccinations.
I'm hopeful that 2021 will be a healthier, happier, more productive year for everyone.
Cousins was well prepared to weather the challenging year with our simple compelling strategy that enabled us to operate effectively.
The core principles of our strategy include first to build the premier urban Sunbelt office portfolio we have focused on building concentrations in existing and potential new Sunbelt markets with the best long-term growth characteristics.
Second, to be disciplined about capital allocation and pursue new investments where our operating and/or development platforms can add value; third and importantly to have a best-in-class balance sheet; and finally to leverage our strong local operating platforms with focus on an entrepreneurial approach, local market relationships, and community involvement in our high-growth markets.
Today, we have the leading trophy portfolio in the best Sunbelt submarkets of Atlanta, Austin, Charlotte, Dallas, Phoenix, and Tampa.
Second, we have a terrific development pipeline of $363 million that is 79% pre-leased and attractive land sites where we can build an additional 5.2 million square feet.
Our balance sheet is strong with net debt to EBITDA of 4.87 times and G&A as a percentage of total assets at 0.32%.
This strategy positioned us to perform well during challenging circumstances.
The first quarter of 2021 was no different.
Here are a few highlights of our solid Q1 results.
On the operations front, the team delivered $0.69 per share in FFO.
We leased 271,000 square feet with a 10.5% increase in second-generation cash rents.
We placed our 10,000 Avalon development project into service.
In addition we acquired a land parcel adjacent to our 3350 Peachtree property in Atlanta for $8 million through a 95% consolidated joint venture.
While these results are very solid, they reflect a time when vaccines were not widely available.
Now, that they are, we see a market that is on a strong path to recovery.
Broadly speaking, our customers are shifting their plans to begin a phased reopening of their offices during the summer, with a significant ramp-up likely after Labor Day.
This is translating into significant increase in tour activity and in our leasing pipeline.
Richard will touch on this more specifically in a minute, but we are optimistic that our leasing volume is likely to improve during the second half of the year.
As Cousins evaluates the role of the office, we look directly to our customers for feedback.
First, let's look at what they're saying, Amazon, Google, Facebook, Microsoft, Goldman Sachs, Bank of America, Morgan Stanley I could go on.
They've all publicly communicated, that their office remains core to their culture and their business.
Next, let's look at, what they're doing.
Microsoft and Google both committed to large new hubs in Atlanta.
And Oracle has announced a corporate relocation to Austin and a major expansion into Nashville.
Most recently, Apple announced plans to create, at least 3,000 jobs in the Raleigh-Durham area.
So what does this mean for Cousins?
Large growing companies, recognize the value of the office to promote culture, collaboration and mentorship.
They are migrating to the Sunbelt at an accelerated pace.
And they continue to prioritize newer, highly amenitized properties.
Their goal is to create a dynamic environment that excites employees to come together, in person.
As we near the end of COVID-19, our conviction around our Sunbelt, trophy office strategy continues to grow.
Looking ahead to the balance of 2021, our priorities have not changed.
We are focused on creating value in our existing portfolio, including making leasing progress in our larger blocks of space.
We will also look for opportunities to upgrade, our already high-quality portfolio, through trophy acquisitions, in conjunction with compelling new development projects.
We will likely fund new investments with the sale of ultra-vintage, less-relevant buildings.
And we are making great progress on this front.
And our recent investment activity is illustrative of our strategy going forward.
In December, Cousins acquired The RailYard, a creative office asset in the South End submarket of Charlotte for $201 million.
We also purchased an adjacent land site, for a gross purchase price of $28 million.
On April 7, we sold Burnett Plaza, a one million square-foot office property in Fort Worth for a gross sales price of $137.5 million and with that, exited a non-core market.
Last night, we announced plans to commence construction on Domain 9 in Austin, where we have a growing pipeline of demand from small, medium and large customers some already in Austin and some potentially new to the market.
As I mentioned earlier, we have a simple and compelling strategy at Cousins.
And these transactions showcase our creativity as we execute that plan, leveraging our balance sheet and our development platform to assemble the premier Sunbelt office portfolio which is positioned to capture outsized customer demand, while maintaining a lower capex profile.
At the same time, we are generating attractive value-add returns for our shareholders, by blending acquisitions and development with discipline.
As our customers' preference for trophy office accelerates, we are responding.
As our Domain 9 project illustrates, we are not opportunity-constrained at Cousins.
However, we continue to look at potential new markets in the Sunbelt that benefit from continued migration of people and companies.
Nashville is one example, expanding in Dallas is, another.
2021, is a transitional year for Cousins from an earnings and occupancy perspective.
Our financial results will reflect several known move-outs from past value-add acquisitions such as 1200 Peachtree and 3350 Peachtree in Atlanta and One South at The Plaza in Charlotte.
With lockdowns easing, we have begun executing our business plans, to reposition these exciting projects.
And we are seeing leasing opportunities grow.
As we look to the future, Cousins is uniquely positioned to deliver long-term growth for our shareholders.
Importantly, we have the right balance sheet with low leverage and ample liquidity to capitalize.
They are the reason for our success.
Like all of you the Cousins team was excited to leave 2020 behind and focus on executing in a new and hopefully more positive year.
Our strong first quarter operating results reflect that excitement and focus, and we are very pleased with how this New Year has kicked off.
As I've done since the pandemic started I will begin with general business conditions.
First, physical customer utilization continues to track at an average of about 20% across the company.
With that said, utilization is not consistent across markets or even among buildings within each market.
For instance, our Atlanta, Dallas and Tampa portfolios are all running at about a 30% or higher average utilization rate.
I also want to point out that activity and energy at many of our buildings even in the markets that still have lower overall utilization are building momentum with each passing month.
Whether within our portfolio or generally speaking, we are hearing of more and more companies planning to return to the office at some capacity during 2021.
We continue to believe the back half of the year should usher in more broad-based increases in utilization, however, with the full effects potentially not being felt until 2022.
With regard to rent collections, they remain strong.
Similar to last quarter, we collected 98.8% of rent from all customers and 99.1% of rent from office customers in the first quarter.
Now let's turn to first quarter operating results.
Recall that in February, we said, 2021 would be transitional for Cousins including occupancy.
As expected, our total office portfolio leased percentage and weighted average occupancy declined to 90.2% and 89.3% this quarter, respectively.
The biggest driver of occupancy by a wide margin was Bank of America's final phase of exploration at One South in Charlotte, which took occupancy at this 891,000 square-foot project to 57.3%.
A second driver, albeit, much smaller was the addition of our 10,000 Avalon new development in Atlanta to the operating portfolio, adding about 50,000 square feet of highly desirable first-generation office vacancy.
I would note that leasing interest at 10000 Avalon is very encouraging.
Looking to the balance of 2021, our occupancy will continue to trend down into the second half of the year, largely due to the long-anticipated 200,000 square-foot move-out of Anthem at 3350 Peachtree at the end of June.
With that said, and as we have said previously on other calls, our occupancy will benefit late in the year from the positive impact of some known commencements for new deliveries, most notably at The Domain in Austin.
As for leasing activity, we executed 271,000 square feet of leases this quarter.
We view this as solid volume given we are still operating in a pandemic.
I would like to share some observations about our leasing activity this quarter that we see is encouraging.
First, we executed leases in every one of our core markets, which has not always been the case during the pandemic.
Not only that, we executed at least one new lease in all but one core market.
Second, we executed the highest overall number of leases since the first quarter of 2020, increasing 43% over the last quarter.
And finally, new and expansion leasing as a proportion of total leasing activity increased versus last quarter coming in at 30% of our total leasing activity.
But we do see these characteristics as reflective of a clearly improving leasing environment.
I'm also pleased to report that rent growth remained remarkably strong in the first quarter with second-generation net rents increasing 10.5% on a cash basis.
With this continued rent growth and concessions only modestly higher than our eight-quarter run rate, net effective rents this quarter came in at a solid $23.53 per square foot.
I have one more fact about our recent lease economics that I think is important to point out.
During the 12 months ended this quarter, essentially the time horizon of the pandemic to-date, our completed leasing activity yielded weighted average net effective rents 1.1% higher than our completed activity during the 12 months leading up to the pandemic.
This is an outstanding achievement in a difficult operating environment and is a testament to the quality of our team and portfolio.
Across the Sunbelt economic activity is recovering and expected to be even more robust later this year and beyond.
As we have said many times, migration to the Sunbelt is only accelerating through the pandemic.
In fact inward migration to Florida is back to over 1,000 people a day.
Not surprisingly, Austin has become the top destination in the country for potential commercial real estate investment according to CBRE, due to the resilience of its labor market and an outlook for steady and attractive growth.
Further per JLL, Austin has seen twice as many new jobs announced in the first two months of 2021 than in all of 2020.
The same JLL study found that Dallas, Phoenix and Atlanta were also among the top-performing cities in 2020 with regard to overall job retention.
As I mentioned earlier in my remarks, more and more companies are announcing plans to return to the office.
Importantly, they are also vocalizing the view that time together as a team in an office is critical for healthy culture, collaboration and career development.
As a result, many major global companies no longer plan to reduce their use of their offices after the pandemic.
I'm sure many of you have already seen the recent KPMG survey that found just 17% of senior executives plan to reduce their usage of office space down from 69% in the last survey in August.
This is a staggering change in sentiment to the good.
With companies now willing to make longer-term decisions and data points like the one from KPMG, you will not be surprised to hear that our leasing pipeline has improved considerably over the past couple of months.
The most noticeable increase in activity has been in our early stage leasing pipeline, which we define as tour and proposal activity.
Specifically, this quarter the number of active proposals outstanding increased 68% and the number of space tours increased 89% compared to the fourth quarter of 2020.
This is an exciting trend.
But please remember, this is early stage activity that typically takes a number of quarters to translate into signed leases, occupancy and net operating income if at all.
While the pandemic is certainly not over, we are cautiously optimistic about the balance of the year ahead of us.
Absent a negative catalyst not seen today our markets are well positioned for a sustained recovery and our teams in the markets are excited about the opportunities we have in front of us.
They continue to focus on our goals, work hard everyday and drive impressive results.
I'll begin my remarks by providing a brief overview of our quarterly financial results, including some detail on our same-property performance, our development pipeline and our transaction activity followed by a quick discussion of our balance sheet and dividend before closing my remarks with updated information on our outlook for 2021.
Overall, first quarter numbers were solid and held up well since the onset of the pandemic.
FFO was $0.69 per share.
Same-property cash NOI declined 2.7% year-over-year.
And as Richard said earlier, cash rents on expiring leases rose by a very healthy 10.5%.
Before moving on, I did want to highlight that we have increased cash rents on expiring leases every single quarter since the onset of COVID last spring with a weighted average increase of 12.4% over that period.
Focusing on same-property performance, first quarter results represent a positive change in trend and are an improvement over the previous two quarters, which averaged year-over-year cash NOI declines of 3.1%.
This improvement took place despite Bank of America's departure from our One South property that was discussed earlier.
If we pull One South out of our same-property pool to get a better sense of performance for the balance of the portfolio, same-property cash NOI adjusting for COVID-related parking losses increased 2.7% compared to the first quarter of 2020.
Turning to our development efforts.
One asset 10000 Avalon was moved off of our development pipeline schedule and into our portfolio statistics schedule during the first quarter.
The remaining development pipeline represents a total Cousins investment of $363 million across 1.3 million square feet for assets.
Our remaining funding commitment for this pipeline is approximately $94 million which is more than covered by our existing liquidity and future retained earnings.
On the transaction front, we closed one land acquisition during the first quarter and one property disposition subsequent to quarter end.
We also refinanced the maturing construction loan during the first quarter.
I'll start with the land purchase.
In mid-March a land parcel was acquired in Buckhead, next to our 3350 Peachtree operating asset for $8 million.
This transaction was completed through an existing 95/5 joint venture partnership with Cousins investing $7.6 million.
The partnership already owned an adjacent parcel and with this acquisition it now controls the entirety of what is the last surface parking lot located in the core of the Buckhead submarket often referred to as the Buckhead Loop.
Subsequent to quarter end, we sold Burnett Plaza in Fort Worth for a gross sales price of $137.5 million.
Built in 1983, Burnett Plaza was 80% leased at the time of sale.
We acquired it through the TIER merger in 2019 and it was identified as a noncore asset from the very beginning.
Proceeds from the sale were used to help fund the prior acquisition of The RailYard in the South End submarket of Charlotte.
Finally, we refinanced the outstanding construction loan on our Carolina Square mixed-use property in Chapel Hill during the first quarter.
A new $135.7 million nonrecourse loan was obtained replacing the original $77 million construction loan.
The proceeds from this refi exceeded the partnership's original equity contribution and are clear third-party validation of the value that we created there.
As a quick reminder Carolina Square is held in a 50-50 joint venture partnership.
Looking at the balance sheet.
We entered this period of volatility with outstanding financial strength among the very best among our office peers.
Our debt maturity schedule is balanced.
Our liquidity position is strong.
And our leverage is low.
At the end of the first quarter our net debt-to-EBITDA was 4.87x.
Proceeds from the Burnett Plaza sale are not reflected in this number since it happened after quarter end.
Incorporating the Burnett Plaza sale as well as the potential Dimensional Place sale which I'll discuss in a moment will reduce this ratio to approximately 4.5x.
We also increased the dividend during the first quarter by 3.3%.
This follows a similar increase last year.
Our underlying cash flow growth has allowed us to deliver consistent dividend increases even through the COVID pandemic.
Our dividend policy is set by our Board and is based on an FAD payout ratio between 70% and 75%.
Last year our FAD dividend payout ratio was 68%.
Needless to say our dividend is well covered by cash flow.
I'll close by updating our 2021 earnings guidance.
We currently anticipate full year 2021 FFO between $2.68 and $2.78 per share.
This is down $0.08 at the midpoint from our previous guidance of $2.76 to $2.86 per share.
The change is entirely driven by the completed sale of Burnett Plaza and the assumed sale of our Dimensional Place investment this summer.
As we've stated before our joint venture partner Dimensional Place has a onetime purchase option.
And while they have not provided formal notice, we have received strong indications that they will exercise their option in the near future, hence our inclusion of the sale in our guidance.
The start of Domain 9 during the second quarter has no material impact on our guidance and there are no other dispositions, acquisitions or development starts included in our guidance. | cousins properties inc - funds from operations was $0.69 per share for the quarter.
cousins properties inc - updated its full year 2021 ffo guidance to $2.68 to $2.78 per share from $2.76 to $2.86 per share. |
If you did not receive a copy, these documents are available through the quarterly disclosures and supplemental SEC information link on the Investor Relations page of our website.
In particular, there are significant risk and uncertainties related to the scope, severity and duration of the COVID-19 pandemic along with the direct and indirect impacts that the pandemic and related mitigation efforts, including governmental requirements and private sector responses, may have on our financial condition and operating results and those of our customers.
At Cousins we have always taken the approach that if we take care of our dedicated employees who deliver excellent service to our customers, our Company will drive strong results for our shareholders.
In this challenging environment we have taken great care to ensure that we are staying true to our values and principles.
In the markets, we have adjusted our operations to ensure the safety of our employees and customers as our properties all remain open.
Across our portfolio, physical occupancy has remained at approximately 15% since early June.
Based on our discussions with customers, I anticipate a modest increase after Labor Day.
However, ongoing health concerns related to COVID-19 and child care challenges resulting from remote schooling will likely create headwinds to physical occupancy throughout 2020.
Despite the extraordinary environment, our team delivered solid financial results during the second quarter.
I will share a few of the highlights.
We reported FFO of $0.66 a share.
We collected 97% of total rents and 98% of office rents.
We leased 303,000 square feet with a weighted average lease term of 7.6 years.
Second generation cash rents grew by 20.6%.
Simply stated, our financial performance highlights the quality of our markets, our portfolio, our customers and, importantly, our team.
It will come as no surprise that many are continuing to speculate about the long-term implications of COVID on the office sector.
Work from home is undergoing a nationwide test and is proving serviceable thus far.
We have spent considerable time discussing this with our customers.
In fact, I recently asked the leadership of a Fortune 500 company with a growing Sun Belt footprint to share their perspective on the impact of COVID on their real estate strategy with the Board of Directors here at Cousins.
I will summarize some of their findings; a heightened focus on highly amenitized buildings with outdoor space in urban settings, a prioritization of health and wellness, an increase in work flexibility for employees, a commitment to provide employees with dedicated personal space and reduction in overall density.
As one of the company executives shared the pandemic has not changed our plans.
In fact, in many ways it makes our space even more important.
We've proven that remote work can be effective but we've also learned that it is no substitute for being together for activities like collaboration, relationship building, mentorship and so on.
The executive also added, while we've been able to maintain productivity during these challenging times, we're trading on the trust, relationships and understanding we've built by being together.
After a deep dive into the real estate strategy, this growing Fortune 500 company concluded that while the layout of the office would likely change post COVID, their overall space needs would not.
Their study found that increased flexibility would be offset by an increase in personal and collaboration space.
This was an encouraging feedback.
And while just one example, we received similar thoughts from many other customers.
Personally I believe the teams are ultimately stronger together.
The observations provided by this particular company point to other trends that we have been discussing even before the pandemic reached us, migration to the Sun Belt, flight to quality, and a growing emphasis on ESG.
In many ways the COVID pandemic has not created a new paradigm, it is simply accelerating trends already under way.
Many years ago we crafted a compelling and resilient strategic plan with the goal to position Cousins at the intersection of these trends.
In short, we prioritized trophy, Sun Belt properties, a disciplined approach to capital allocation, a best-in-class balance sheet and leading local operating platforms.
We have made great strides to date.
100% of our portfolio is located in the best amenitized submarkets across the Sun Belt, 100% is Class A. Our portfolio is among the newest vintage in the office sector, with an average building age of 2002.
Our average building size is just 347,000 square feet with the overwhelming majority having multiple elevator banks.
77% of the portfolio is near mass transit while also enjoying an average parking ratio of 2.9 per 1,000.
Net debt to EBITDA of only 4.4 times and liquidity in excess of $1 billion.
A $566 million development pipeline that's 82% committed and projected to add approximately $66 million of incremental NOI by year-end 2022.
Currently there is a lot of discussion in the market regarding urban versus suburban and hub and spokes.
At Cousins we believe our portfolio has attributes that check the box for all of the above.
In addition, the Company has a fortress balance sheet and attractive embedded growth through our development projects.
Nonetheless, we are not immune to the headwinds as a result of the COVID-19 pandemic and the associated economic recession.
Physical distancing and quarantines treat all markets the same.
During this period, leasing activity will likely be muted and parking income will be impacted.
The duration and severity of this downturn will be determined by the public health needs, which are and should be everyone's top priority.
Yet pandemics and recessions do end and as companies are able to safely return to work, the economy can transition from surviving to once again thriving.
However, this will take time.
At Cousins, we have long been disciplined with our strategy to build the preeminent Sun Belt office REIT.
I believe that we are in the right markets with the right portfolio.
Coupled with our strong balance sheet and an extremely talented team, we feel confident Cousins can weather this challenging environment.
At the same time, dislocation in the markets could create opportunities for us.
We are in a strong financial position to reinvest in our buildings, to take advantage of strategic land opportunities for future office and mixed-use projects and to pursue compelling investment opportunities that can add value for shareholders.
We will remain judicious and act at the appropriate time.
I appreciate your skills, your dedication and your resilience.
I'm so proud to be part of Cousins.
As Colin said, we are in the midst of a historically challenging economic environment.
And I want to lead off by saying that our team and operating portfolio are performing exceptionally well during this difficult time.
From the start of the pandemic, we have remained focused on the things that we can control and positively influence such as our leasing strategy, rent collections, managing deferral requests, property operations, expense control, customer outreach and relationship building.
Our team's professionalism and focus in these areas combined with top-quality assets in some of the best Sun Belt submarkets led to solid second quarter results.
As we all know, we felt the full impact of the ongoing pandemic for the entire second quarter, whereas we only saw a partial impact in the first quarter.
Given that I'm especially pleased to say that our team executed 303,000 square feet of leases in the second quarter with an average lease term of 7.6 years.
That average lease term is squarely in line with our long-term run rate.
Further, 32% of our leasing activity this quarter was new and expansion leasing.
I'm also pleased to report that rent growth remained exceptionally strong with second generation net rents increasing 20.6% on a cash basis, a level not seen since 2015.
This was driven primarily by continued excellent rent growth in Austin.
Net effective rents for the quarter came in at $25.43 per square foot, even higher than in the first quarter.
We also ended the second quarter at 92.5% leased with in-place gross rents posting another company record of $39.48 per square foot.
Finally, our same property portfolio leased percentage came in at a solid 94.4%.
We view these as fantastic results in light of current economic conditions.
I described the market backdrop last quarter as one of distinct uncertainty and while it is no longer quite as acute, significant uncertainty remains.
With new COVID-19 cases continuing at elevated levels, especially in the Sun Belt, leasing activity is considerably subdued and our pipeline of new leasing activity has been on the decline.
Rest assured, we are approaching all new leasing opportunities aggressively and there are some out there.
But we still expect most of our activity in the coming quarters will likely fall into the renewal category.
You will recall that our second quarter leasing activity did include the previously announced 74,000 square foot new lease with DLA Piper at Colorado Tower in Austin.
As I mentioned last quarter, this global law firm will occupy space currently leased by Parsley Energy with planned phased commitment starting early next year.
Our second quarter activity also included significant long-term renewals of a 112,000 square foot customer at The Domain in Austin and a 42,000 square foot customer at the Pointe in Tampa.
Now for some more general leasing market observations.
First, we still see leasing decisions being delayed more often than canceled all together.
The fact is most corporate real estate decision makers are still in an observation mode, evaluating their post-COVID real estate strategy and trying to determine what that might mean for existing and future requirements.
We expect this dynamic to continue at least through this year, but we are also hopeful that that will lead to some level of pent-up demand when the recovery begins.
Second it is still too early to identify any reliable price discovery trends in the leasing markets.
Transaction volume is simply too low and highly situational.
However, it is worth noting that quoted or face rents have yet to experience much pressure with most negotiations instead focusing on lower net effective rents through increased concessions.
With that said, face rates will almost certainly be impacted negatively over time with the magnitude of the impact likely correlated with the ultimate duration of the pandemic.
Third, while still at relatively benign levels compared to the past, we are seeing an uptick in sublease listings across some of our markets.
This is an expected and reliable leading indicator of the health of the office leasing markets.
In our view the CBD of Austin has seen the largest nominal amount of new subleased listings of any of our target submarkets.
Given the amount of new construction set to deliver over the next couple of years in the Austin CBD, we are watching this submarket particularly closely.
With that said, Austin was one of the first markets to emerge from the last downturn and we are confident that this will be the case once again.
Austin is a highly appealing metro area that will continue to attract great talent and businesses fleeing from areas such as California, the Northwest and the Northeast.
A prime example is Tesla's recent decision to build its newest auto assembly plant near Austin.
While this is obviously not an office requirement, the overall economic impact of this plant will be very positive for the Austin market as a whole.
On a similar note, we are also thrilled with Microsoft's recent decision to lease over 500,000 square feet in a new project in Midtown Atlanta, adding 1,500 new technology jobs in our hometown.
Like last quarter, I want to offer some insights into the condition of our current business activity beyond market conditions and leasing.
First, I'll cover rent collections.
In May, like many, we expressed concern about whether collections would become more challenging over time.
I'm very pleased to say the collections have remained solid.
97% of our customers overall paid rent during the second quarter and the collection rate among our traditional office customers was 98%.
Further 100% of our top 20 customers paid rent in the second quarter.
As of today, 98% of our customers overall have paid July rent charges.
Please note that these numbers reflect the impact of rent deferral agreements completed to date.
These numbers are very heartening and we continue to attribute them to high-quality customers and great teamwork.
As noted, last quarter we received requests for rent relief from the majority of our retailer and flexible office provider population and from a much lower share of our traditional office customers.
The team has done a fantastic job evaluating each request on its merits and negotiating relief where we deemed it appropriate.
The total cash rent deferred to date stands at $7.5 million or 1.1% of our annualized contractual gross rents.
While the volume of requests for rent relief has declined significantly relative to April and May, we do expect some deferral activity to continue until the pandemic has dissipated.
This activity is inherently hard to predict, but we view the highest risk customer segments to be our retailers and flexible office providers.
As a reminder, those two segments only represent 1.7% and 1.9% of our overall operating portfolio respectively.
Finally, I would like to touch on property operations.
Throughout this pandemic all of our properties have remained open to customers with common sense adjustments to our security, access, visitor and cleaning protocols.
Despite being open, the physical occupancy of our properties is currently only at about 15% on average with usage of our parking facilities at similarly low levels.
Gregg will touch on the financial impact of this lower parking utilization in a minute.
During the quarter, our operations team finalized, communicated and implemented a comprehensive plan for the anticipated return of our customers to the office.
The team has done a fantastic job preparing for this process at difficult operating conditions and I could not be prouder of what they've accomplished.
With that I will now hand it off to Gregg.
All things considered, second quarter results were solid and they were in line with the information we provided in April.
Looking specifically at our same-property performance, cash net operating income during the second quarter declined 1.6% compared to last year.
This was driven by a 4% decline in revenues and a 7.8% decline in expenses.
As Richard discussed earlier, we modified leases for certain customers to provide for temporary payment deferrals.
Adjusting for the impact of these deferrals, cash net operating income declined 0.1% during the second quarter.
Beyond lease deferrals, the largest item driving our same-property performance is the physical occupancy within our buildings which remains significantly below pre-pandemic levels.
Fewer customers coming to the office mean fewer cars and as a result, same-property parking income was down 30% compared to last year's second quarter.
This is comprised of a 12% decline in contractual parking and a 76% decline in transient parking.
Adjusting for the impact of both rent deferrals and reduced parking income, same property cash NOI was up 3.7% during the second quarter.
For the balance of the year we anticipate cash same-property performance will likely stay negative, potentially troughing in the third quarter.
In addition to continued rent deferrals and reduced parking demand, we are seeing some opportunities to execute lease extensions with existing customers that could pull forward free rent, which would impact cash NOI.
However, we believe these opportunities are positive long-term real estate decisions.
Before moving to external activities, I did want to touch on customer receivables.
During the second quarter FFO was reduced by approximately $400,000 due to a combination of rent write-offs and an increase in our allowance for uncollectible rents.
The comparable number for the first quarter was approximately $500,000.
These numbers are tied to specific customers and leases.
No general COVID-19 reserve has been taken to date.
To put these numbers in perspective, charges related to collectability averaged approximately $170,000 per quarter during 2019.
Turning to external activities.
We closed one acquisition during the second quarter, the purchase of 1,550 space parking deck in Uptown Charlotte for $85 million.
We also closed a one-year extension of the existing construction loan on our Carolina Square property in North Carolina during the second quarter.
Not only did we extend the maturity of this loan, we also reduced the interest spread from 190 basis points to 125 basis points and eliminated our repayment guarantee.
With this extension we've no further debt maturities for the remainder of 2020.
Looking at the balance sheet, we entered this period of volatility with exceptional financial strength, among the very best of our office peers.
Not only do we have low leverage, our liquidity position of over $1 billion at the end of the quarter represented over 15% of our total market cap at quarter-end and is more than enough to fund the remaining $160 million necessary to complete our current development pipeline.
Looking forward, our 2020 outlook remains generally in line with the information we gave in our previous earnings call in April.
Assumptions around the impact of COVID-19 on speculative leasing and rent deferrals remains within the ranges we provided.
First, we currently anticipate the parking deck that we purchased in early May to generate net operating income of between $1.5 million and $2 million during calendar year 2020.
To be clear, this is a pro-rata number and represents just under eight months of our ownership.
It's not an annualized number.
In addition, this number is not a stabilized figure.
It reflects our current belief that the physical occupancy of our buildings and the commensurate parking income will continue to be significantly impacted by the COVID-19 pandemic through the end of 2020.
We anticipate the annual stabilized NOI on this parking deck to be between $4.5 million and $5 million going forward.
Second, we continue to take a hard look at our general and administrative expenses.
Prior to COVID-19, our G&A load was already exceptionally low and we have taken steps to reduce it even further.
Our current 2020 forecast assumes corporate G&A expenses net of capitalized salaries of between $27 million and $29 million.
On both an absolute basis and as a percentage of enterprise value this range represents a very low cost to our shareholders.
Third, when we provided information around parking revenues in April, our range was primarily driven by the duration of the pandemic's impact on our portfolio's physical occupancy.
The low end of the range assumed we would start to see an improvement in occupancy beginning early in the third quarter while the high end of the range assumed improvement wouldn't take place until year-end.
As we sit here at the end of July at 15% fiscal occupancy, we clearly need to adjust low end of our range in this metric.
Finally, we have now completed the lease amendment with Parsley Energy at Colorado Tower that we discussed in our last earnings call.
Upon finalization of the accounting treatment, the amendment was deemed a lease modification rather than a termination.
The total earnings impact of the amendment remains unchanged at $2.1 million.
However, it's the timing of that impact that's now spread out over the remaining term of Parsley's retained space.
Specifically, instead of recognizing $2 million as a termination fee in 2020 and an additional termination fee of $100,000 in 2021, we will recognize $300,000 as property level NOI in 2020 and $1.8 million as property NOI over the course of the remaining lease term through mid-2025.
When taken together, we anticipate these four changes will net each other out in our 2020 earnings.
The positive impact of the parking deck purchase of approximately $1.7 million, if you use the midpoint of our guidance, combined with a reduction in G&A of $1 million equals the negative earnings impact of accounting for the Parsley lease as a modification and the commensurate $1.7 million reduction and the adjusted range in parking revenue of $1 million, again at the midpoint. | cousins properties releases second quarter 2020 results.
cousins properties inc quarterly funds from operations per share was $0.66. |
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In particular, there are significant risks and uncertainties related to the severity and duration of the COVID-19 pandemic and the timing and strength of the recovery there from.
As we reach the midpoint of 2021, it has been wonderful to see many of our customers bringing their teams back to the office, and we anticipate seeing more post Labor Day.
While we continue to monitor our public health guidance around COVID-19 and specifically any office delays brought on by the delta variant, I also remain optimistic about the remainder of 2021 and beyond.
Our team delivered strong financial results during the second quarter.
Here are a few highlights.
On the earnings front, the team delivered $0.69 per share in FFO.
We leased over 484,000 square feet with a 12.9% increase in second-generation cash rents.
Same property NOI on a cash basis increased 7.1%.
And our net debt-to-EBITDA at quarter end was 4.55 times.
And G&A expenses as a percentage of total assets were at just 0.36%.
Turning to the business.
Our ongoing conversations with customers provide us unique insight into their evolving long-term office strategy.
And those plans are beginning to crystallize.
First, most of our large growing customers are excited about their return to the office.
While the delta variant could create delays, we now have conviction that a meaningful return to the office, it's not an if, it's just a win.
In some instances, employees will return for part of the week, which some call hybrid.
Importantly, the nature of the hybrids model coordinated in-office days, which are designed to facilitate collaboration, necessitates real estate sites for peak load and likely does not have a significant impact on office demand.
While it's hard to remember office life before the pandemic, this was already the reality for most technology and professional firms.
Second, companies and people are migrating to the Sun Belt, where the business climate is more friendly, housing is more affordable and commute times are shorter.
Third, as companies return to the office and migrate to the Sun Belt, they are trading up to be in an environment where employees are excited to come to work and collaborate.
This flight to quality trend existed before COVID but is clearly accelerating.
With these themes taking shape, in addition to our great quarter, we're seeing positive signs of economic recovery in our leasing, which continues to grow.
Our late-stage pipeline has increased significantly, and we are highly encouraged by the opportunities in front of us, both inbound growth and expansions from our existing customers.
Importantly, we are seeing activity in our higher profile vacancies, including 1200 Peachtree and 3350 Peachtree as well as in our development projects like Domain 9, 10000 Avalon and 100 Mill.
As I have mentioned in quarters past, we had a simple and compelling strategy at Cousins.
To assemble the premier urban Sun Belt office portfolio, to be disciplined about capital allocation so we can pursue new investments, we are operating and development platform can add value and to maintain a fortress balance sheet, which provides us significant financial flexibility.
At Cousins, we are positioned at the intersection of two powerful long-term trends, the migration of the Sun Belt and the flight to quality.
As these accelerate, we are responding.
Let me highlight some exciting announcements from yesterday.
Through our relationships, we sourced an off-market transaction that includes the recapitalization of Neuhoff, an exciting development project in Nashville and the acquisition of 725 Ponce in Atlanta.
Neuhoff is a transformative mixed-use project that marks our strategic entrance into the Nashville market.
It is located directly across the Cumberland River from Oracle's recently announced Nashville campus and provides a clear path for growth in this new market.
Construction has already commenced on Phase one of the project which will consist of approximately 388,000 square feet of office space, 542 multifamily units and 60,000 square feet of experiential retail.
Cousins investment of $275 million represents a 50% ownership interest and includes a Phase II office site that can accommodate 275,000 square feet of additional space as well as rights to future adjacent land parcels.
Neuhoff has a unique location, a differentiated adaptive reuse component and plans for an exciting new food hall.
There is simply nothing like it in Nashville.
We also acquired 725 Ponce, a 372,000 square foot office asset in East Midtown Atlanta for $300.2 million.
We view this property as one of the highest quality and most interesting buildings in Atlanta, located along the belt line, one of the city's premier public spaces and directly across from Ponce City market, one of the most highly amenitized and active areas in talent.
725 Ponce is currently 100% leased to customers, including BlackRock, McKinsey & Company and Chipotle.
Cousins also acquired a 50% ownership interest in adjacent land site for an additional $4 million that can accommodate 150,000 to 200,000 square feet of additional development.
We also announced that we sold One South at the Plaza, a 891,000 square foot, 58% leased office property in Charlotte for a gross sale price of $271.5 million.
Some might ask why sell One South now?
First, we remain extremely bullish on Charlotte and have a best-in-class portfolio, a talented team and great land sites in the south end for future growth.
So the simple answer is, in our view, the purchase price fully values the upside from releasing a 1970s vintage office property with a high capex profile and provides capital to reinvest in new and more compelling opportunities.
In summary, through these creative transactions, we have entered Nashville, an exciting new market for Cousins; acquired 725 Ponce, one of the best buildings in Atlanta with an additional pad for future development; and funded these transactions, in part through the sale of an older vintage property.
Overall, this enhances the portfolio quality, gives us opportunities for growth and shifts speculative leasing from a 47-year-old asset to brand new, highly differentiated products.
Interestingly, the purchase price of One South is approximately the same as our value from the tier merger pre-pandemic.
This is a strong read-through for capital interest in leading Sun Belt markets.
As we look ahead and hopefully emerge from the pandemic, our conviction around our Sun Belt trophy office strategy is as strong as ever.
Today, we have the leading trophy portfolio in the best Sun Belt submarkets in Atlanta, Austin, Charlotte, Dallas, Phoenix and Tampa plus we now have room to grow in Nashville.
Large growing companies recognize the value of office, migration of the Sun Belt is on the rise and companies continue to prioritize newer, amenitized experiential office space that excites employees to come together.
We are obviously watching the delta variant and any potential impact.
Nonetheless, we are thrilled with the company's position.
As we look ahead to 2022, the declining fees from a terrific transaction with Norfolk Southern will be behind us.
We have creatively and proactively addressed a large vacant block at One South and are excited to pursue new opportunities with our rock-solid balance sheet.
In closing, the power of Sun Belt trophy office is becoming increasingly clear.
They are the foundation of our company's success.
This quarter saw an improving economic backdrop and a more stable operating environment, resulting in a strong second quarter operating performance.
While pandemic is certainly not over and the delta variant persists, the demand for office space across our markets is improving.
As Colin mentioned, the vast majority of our customers have either already returned to the office or have signaled they will return sometime this fall, some fully and others in a phased or hybrid format.
From our perspective, post Labor Day seems to be the most common return timing cited.
For now, physical customer utilization in our portfolio sits around 30%.
The variation in utilization across markets that I mentioned last quarter remains with Atlanta, Dallas and Tampa, all running at higher utilization rates.
We still anticipate utilization to be largely back to normal portfolio by the end of 2021.
Turning to second quarter operating results.
Our total office portfolio lease percentage and weighted average occupancy both came in at 89.4% this quarter.
Our leased percentage declined 80 basis points this quarter which was mainly attributable to the previously known move-out of Anthem at 3350 Peachtree in Atlanta.
Given we report occupancy on a weighted average basis and Anthem expired at the quarter -- end of the quarter, we actually saw a modest increase in occupancy versus last quarter.
For the balance of the year, we expect our weighted average occupancy to remain relatively stable.
As a reminder, Norfolk Southern will vacate 370,000 square feet at 1200 Peachtree at the end of December, representing a fantastic value-creation opportunity going forward.
And looking forward to 2022, I would note that we have only 6.5% of our annual contractual rent expiring with no expirations greater than 100,000 square feet.
As for leasing activity, we executed a solid 39 leases, totaling 484,000 square feet this quarter, surpassing our level of reported activity in the first quarter of 2020.
Leasing volume wasn't the only metric back to pre-pandemic form this quarter.
Leasing mix was much improved with new and expansion leases accounting for 74% of total activity.
Recall that new and expansion leasing combined hit a pandemic low of just 14% of activity two quarters ago.
Net effective rents were $23.77 this quarter, an improvement over the first quarter and only $0.05 lower than our reported net effective rents for the full year of 2019.
Rent growth remained remarkably strong as well, with second-generation net rents increasing 12.9% on a cash basis.
And finally, our average lease term bounced back to 6.7 years on average.
These are great leasing results.
We are also still seeing encouraging activity in our leasing pipeline, both for our existing portfolio and new development projects.
Specifically, tour volume remains on the upswing.
In our Austin portfolio, second quarter tour activity was up 53% versus the first quarter.
While not specific to our portfolio, CBRE also recently noted that in Phoenix, June 2021 tour volume was 240% greater than the average monthly volume in 2019.
As we have pointed out many times, the pandemic has served as an accelerant to the migration of people and companies to the Sun Belt.
Companies are being driven to reconsider where they are located, primarily due to intensifying competition for talent.
Companies simply need to be where the talent is or wants to be.
And increasingly, that is in the Sun Belt.
Of CBRE's 2021 development opportunity watchlist, eight out of the 10 biggest development opportunities are located in the Sun Belt region.
Among the metropolitan areas with populations larger than 750,000 people, large Sun Belt cities led the way in terms of nominal population growth last year.
In fact, the top seven metropolitan areas for population growth in 2020 were all in the Greater Sun Belt region according to CoStar.
The recently released Newmark Opportunity Index showed that every one of our markets included in its index has experienced meaningful job recovery since the depths of the economic downturn.
Nashville, Tampa and Dallas ranked highest across the economic metrics in this index with Tampa at the very top.
Tampa's employment is the closest to pre-pandemic levels of all markets in Newmark's Index.
Not surprisingly, Austin remains near the top of the list for nominal population growth and its labor market continues to be one of the strongest nationally.
Austin's population increased by more than 67,000 new residents over the past year, second to Atlanta.
For JLL, overall leasing activity in Austin has increased every quarter since the pandemic began with this quarter's activity reaching 80% of pre-pandemic levels.
Further, according to Morgan Stanley, Austin was the only market to have a consecutive quarter improvement in sublease listings posting a decrease of 18%.
JLL estimated the quarterly decline was even greater at 29%.
There are promising trends in sublease listings in our other core markets as well.
Atlanta, our largest market, continues to see an uptick in demand, particularly from the technology sector and Midtown and Buckhead are leading the recovery so far this year.
In fact, JLL's second quarter office submarket reports for Buckhead stated that overall leasing activity was up 200% year-over-year.
Cousins bucket portfolio opportunity -- excuse me, Cousins Buckhead portfolio participated in this demand, signing 65,000 square feet of expansions with high-quality, publicly traded technology companies this past quarter alone.
Our current leasing pipelines in both Buckhead and Midtown are equally encouraging.
As we look ahead, we believe we will continue to see a noticeable flight to quality.
Companies are likely to increasingly view the office is critical to fostering culture, collaboration and career development, not to mention as a tool for attracting and retaining the best talent.
Recent data clearly demonstrates this dynamic.
For example, per CBRE 74% of new leasing activity in Phoenix this year has been in Class A projects.
By comparison, over the past five years, this percentage hovered under 50%.
Further, JLL recently noted that nationally, office projects delivered after 2015 actually experienced a net occupancy gain over the past five quarters in the teeth of the pandemic.
While the pandemic is certainly not over, and we are closely monitoring the impact of the delta variant, which could bring with it some economic fits and starts, we are optimistic about the balance of the year and a longer-term recovery.
Our markets and portfolio are extremely well positioned, and we have numerous exciting opportunities ahead of us.
They have worked tirelessly to produce strong results such as those delivered this quarter and through the entire pandemic.
I'll begin my remarks by providing a brief overview of our quarterly financial results, including some detail on our same-property performance, our development pipeline and our transaction activity, followed by a quick discussion of our leverage position before closing my remarks with updated information on our outlook for the balance of 2021.
As you could tell from Colin and Richard's remarks, we've been extremely busy.
However, we don't want all of that external activity to take attention away from our very solid internal performance during the quarter.
At $0.69 per share, FFO was up almost 5% compared to last year, and the important operating metrics that we all focus on were very strong.
Leasing velocity returned to pre-COVID levels Second-generation cash leasing spreads were up double digits.
And same property NOI on a cash basis increased 7.1% over last year.
Focusing on same-property performance, second quarter results represent a significant and a constructive changing trend.
Numbers were driven by improving revenue, which increased 6.6% on a cash basis.
This is the first year-over-year increase in same-property revenue since the first quarter of 2020.
The largest variable within our same-property performance remains parking revenues, which are in large part driven by the fiscal occupancy in our buildings.
After bottoming during the fourth quarter of 2020, same-property parking revenues are up 14%, but they still remain 23% below pre-COVID levels.
Turning to our development efforts.
One asset, 120 West Trinity, a mixed-use property in the Takeda submarket of Atlanta that we developed in a 20/80 joint venture was moved off our development pipeline schedule and into our portfolio statistics, while another asset, Domain 9, an office property in the Domain submarket of Austin, commenced development during the second quarter and was added to our schedule.
The current development pipeline represents a total Cousins investment of $492 million across 1.3 million square feet in four assets.
Our remaining funding commitment for this pipeline is approximately $210 million, which is more than covered by our existing liquidity and future retained earnings.
On the transaction front, as Colin laid out at the top of the call, we've been very active.
Domain nine represent over $1.1 billion in transaction activity year-to-date.
In addition, our joint venture partner at Dimensional Place in Charlotte has exercised their option to purchase our 50% interest in the property with the closing expected at the end of the third quarter.
As this series of transactions unfold, we intend to maintain our net debt to EBITDA around 4.5 -- excuse me, 4.5 times as we have done with very few exceptions since 2014.
We believe this leverage profile provides both defensive support during challenging times as well as offensive firepower to execute compelling transactions when the opportunity presents itself.
In addition, it's a small transaction, but we do want to call your attention to the sale of the land parcel adjacent to our 100 Mill development in Tempe, subsequent to quarter end.
The site was sold for $6.4 million earlier in July and will be developed into a Hyatt branded hotel.
It's a testament to the quality of that location that this sale held through the COVID pandemic.
This new hotel will be an important amenity for our 100 Mill customers as well as the customers and the other five buildings we own within two blocks of that site.
On the capital markets front, we closed on a $350 million unsecured term loan during the second quarter, replacing a $250 million term loan that was scheduled to mature later this year.
The new loan matures in 2024 and the applicable LIBOR spread was reduced by 15 basis points.
Covenant package remains unchanged.
It was a very solid execution beginning to end.
I'll close by updating our 2021 earnings guidance.
We currently anticipate full year 2021 FFO between $2.70 and $2.78 per share.
This is up $0.01 at the midpoint from our previous guidance.
There are no other dispositions, acquisitions or development starts included in our guidance.
The most significant variable behind our guidance remains our parking revenues.
As Colin discussed earlier, our customers have begun returning to the office, and we anticipate this trend accelerating after Labor Day.
Our current parking revenue assumptions reflect this outlook.
However, the delta variant could delay timing, but it's too early to know for sure. | cousins properties releases second quarter 2021 results.
cousins properties - qtrly ffo per share $0.69.
cousins properties inc - raised its 2021 ffo guidance to $2.70 to $2.78 per share. |
If you did not receive a copy, these documents are available through the quarterly disclosures and supplemental SEC information links on the Investor Relations page of our website, cousins.com.
In particular, there are significant risks and uncertainties related to the severity and duration as the COVID-19 pandemic and the timing and strength of the recovery there from.
We began the third quarter with the expectation that our customers will begin bringing their teams back to the office post Labor Day.
Since then, the delta variant hit the Sun Belt hard and created delays.
However, as cases have now significantly declined, we're increasingly hearing from our customers that they plan to return toward the end of this year or early next year.
Our team delivered strong financial results during the third quarter.
Here are a few highlights.
On the earnings front, the team delivered $0.69 per share in FFO.
Same-property NOI on a cash basis increased 3.6%, and importantly, we leased over 597,000 square feet, including over 500,000 square feet of new and extension leases with 7.7 years of weighted average lease term and a net effective rent of $24.06 per square foot, which is higher than our 2019 average.
Second-generation cash rents increased 23.1%, our strongest rollout since 2015.
And we ended the quarter with net debt to EBITDA of 4.54 times.
While the macro narrative around office remains ambiguous, our leasing performance highlights three office sector trends that are becoming quite clear.
First, innovative and growing companies recognize that they are stronger in person at least most of the time.
In this persistent remote environment, employee attrition is at an all-time high.
Contrary to many of the media headlines, forward-thinking business leaders are connecting the dots between the great resignation and eroding corporate cultures.
Thus, companies are firming up plans for their return strategy and making long-term real estate decisions that they were not prepared to make just a few quarters ago.
Second, the migration of the Sun Belt has accelerated.
Cisco, Visa, Ark Invest and Tesla are just the latest examples.
There are more in the pipeline.
The rapid urbanization is places like Downtown Austin, Midtown Atlanta, in the south end of Charlotte, have changed the equation for companies previously located in more dense, larger cities in the Northeast and West Coast.
Sunbelt cities now offer a dynamic urban experience in addition to an attractive climate and a lower cost of living and doing business.
It's the best of both worlds.
Lastly, the flight to quality is intensifying.
Earlier this week, I've toured our recently completed Norfolk Southern headquarters project with a local business leader.
His feedback, much better than working at home, he said.
It was simple and spot on.
The development includes innovative collaboration space, neighborhoods for private working, state-of-the-art technology and countless amenities, all in the heart of Midtown Atlanta.
Our customers recognize that interesting and inspiring space will be a competitive advantage in retaining and recruiting talent as well as rebuilding culture and connectivity.
At Cousins, we have a unique and compelling strategy that positions us at the intersection of these trends.
As the market moves faster, we are responding.
Most recently, we acquired Heights Union, a 294,000 square foot office property in Tampa for a gross price of $144.8 million.
The Heights neighborhood has emerged as one of Tampa's signature gathering spots providing a unique live, work, play experience.
The two 6-story buildings, which were completed in 2020 are highly amenitized, authentic and efficient.
Including Heights Union, we have invested approximately $1.1 billion in new acquisitions and development since the start of the COVID-19 pandemic.
We are excited about the RailYard in Charlotte, 725 Ponce in Atlanta, Domain nine in Austin and New Hawk in Nashville.
They are representative of the Office of the Future in our all differentiated products in their respective markets.
During the same period, we have sold approximately $1 billion of noncore properties, including Hearst Tower and one South in Charlotte, and Burnett Plaza in Fort Worth.
The net result of these strategic transactions are value-add returns on a blended basis and a trophy portfolio positioned to capture outsized customer demand and a reduced capex profile.
As I mentioned earlier, we have completed the Norfolk Southern headquarters project.
The development was a highly profitable development for Cousins and a great outcome for our customer, a true win-win.
Nonetheless, we are excited to transition to the other side of this unconventional transaction.
The declining development fee stream has created challenging year-over-year earnings comps and the 370,000 square foot lease expiration on December 31 at 1,200 Peachtree created uncertainty.
Looking forward to 2022 and beyond, our story simplified, and we are already making great early progress on our releasing efforts at 1,200 Peachtree as we are approximately 40% committed including LOIs.
Richard will touch on this more in a moment.
In closing, Cousins is well-positioned for the future.
We have assembled a trophy portfolio in fast-growing Sun Belt markets.
We have organic growth opportunities within the portfolio as we drive occupancy gains and rental rate increases.
We have external growth opportunities in our $663 million development pipeline.
In addition, we have a well-located land bank that can support another $2.6 billion in development, including over three million square feet of trophy office and over 1,500 multifamily units.
Importantly, we have a rock-solid balance sheet that provides financial flexibility and a highly capable team to execute on the strategy.
They are the cornerstone of the company's success.
This quarter, we continue to see economic recovery in our core markets and along with it, an increase in leasing and transaction activity.
In short, our third quarter operational performance was strong.
While the pandemic still remains and the delta variant delay the return to the office for some, we are encouraged by the demand for high-quality office space across our markets.
Due to the delta variant, portfolio level utilization, as we measure it, did not significantly increase this quarter.
With that said, there is noticeably more activity and energy at most of our properties compared to last quarter.
This is evidenced by a 27% increase in transient parking revenue quarter-over-quarter.
Turning to third quarter results.
our total office portfolio lease percentage and weighted average occupancy came in at 91.3% and 89.8%, respectively.
Our lease percentage increased 30 basis points this quarter driven by new and expansion leasing activity at Terminus and 3350 Peachtree in Buckhead and at Domain Point in Austin.
Conversely, weighted average occupancy declined 120 basis points with the impact of the previously disclosed move out of Anthem at 3350 Peachtree in Buckhead.
As for general leasing activity this quarter, our team and portfolio produced fantastic results.
We executed 43 leases totaling 597,000 square feet in the quarter, and new and expansion leases were accounted for 84% of total activity.
Net effective rents were $24.06 this quarter, an improvement over the second quarter and $0.24 higher than our reported net effective rents for the full year of 2019.
The rent growth was outstanding this quarter as well with second-generation net rents increasing 23.1% on a cash basis.
Similar to this time last quarter, we are still seeing encouraging activity in our leasing pipeline, both for our existing portfolio and new development.
Tour volume in our portfolio was on a clear upswing in the second quarter, and it has held at a consistent level since then.
We are also optimistic about our Sun Belt markets' continued recovery as compared to the U.S. economy in the aggregate.
According to the Urban Land Institute, every market lost jobs during the pandemic, but the recovery has been much quicker in Sun Belt markets.
ULI projects that by the end of the year, those markets will collectively regain nearly all of their lost jobs in comparison to the greater United States, which is expected to still be down almost 2%.
Now I'll speak to some specifics about current conditions and activity in our markets.
I'll begin with Atlanta.
According to JLL, Atlanta saw positive net absorption this past quarter for the first time since the pandemic began at 756,000 square feet.
This is an encouraging milestone.
In our nearly eight million square foot Atlanta portfolio, we signed an impressive 299,000 square feet of leases in the third quarter.
That includes the previously disclosed 123,000 square foot lease with Visa at 1200 Peachtree in Midtown, serving as Visa's new Atlanta office hub.
We also have a final LOI in hand with another potential customer at that property for 31,000 square feet.
We view this activity at 1200 Peachtree as a strong validation of a truly irreplaceable location and quality of the to-be-repositioned assets.
Another example of demand for high-quality and well-amenitized properties is our redeveloped Buckhead Plaza project, producing 121,000 square feet of leasing activity year-to-date at record rental rates.
Our overall Buckhead portfolio also produced great activity this quarter, accounting for 43% of our Atlanta leasing activity.
This includes 29,000 and 50,000 square feet of new and expansion leasing at 3350 Peachtree and Terminus, respectively.
At one of our newest Atlanta assets located in Alpharetta, 10,000 Avalon, we signed a 51,000 square foot new lease after quarter end with [Indecipherable], a newly public financial technology company, taking the building to 99% leased.
In Austin, population growth continued to be strong as ever this quarter.
Further, CoStar showed a 496,000 square foot decline this quarter and Class A total sublease space available for lease.
The unemployment rate in Austin this quarter was at its lowest since March of 2020 with average asking rents and the market climbing.
Our Austin portfolio is currently 95% leased, with our 1.9 million foot -- square-foot operating portfolio and the core of the domain at 100% leased.
With regard to leasing activity in Austin, we signed 236,000 square feet of leases in the quarter, including a 73,000 square foot new lease with a growing technology company at Colorado Tower, which will entirely backfill the expiration of Atlassian at the end of January 2022.
In Charlotte, our now 1.4 million square-foot uptown and South end operating portfolio is well-ositioned at a solid 96.1% leased with very little existing space available.
Like in Austin, CoStar showed that Charlotte had a meaningful 139,000 square foot decline this quarter and Class A total sublease space available for lease.
According to JLL, third quarter activity was robust in Tampa, where we recently acquired Heights Union in the downtown submarket.
According to CBRE's 2021 Tech Talent report, Tampa ranks tenth among the 50 largest tech talent markets with its millennial population increasing by 14.5% since 2014.
While average direct asking rents are down 2.5% year-over-year overall, many Class A buildings in the Westshore submarket, where the bulk of our portfolio is located, have increased asking rates to at or above pre-pandemic levels.
We signed 41,000 square feet of leases in Tampa this past quarter.
The Greater Phoenix area is one of the few places in the country that now has more jobs than before the pandemic, recovering 102.6% of jobs since April of 2020.
When comparing year-to-date data versus 2019, Phoenix is also the second fastest growing metro in the country behind Austin, according to the Greater Phoenix Chambers annual economic outlook.
While our completed activity in Phoenix was light this quarter, the recovery is reflected in our pipeline as we are currently in lease negotiations for 95,000 square feet of new and extension leases at our $100 million new development.
They continue to produce great results and deliver excellent customer service.
I am grateful for all that you do.
I'll begin my remarks by providing a brief overview of our quarterly financial results, including some detail on our same-property performance, our development pipeline and our transaction activity followed by a quick discussion of our leverage position, before closing my remarks with updated information on our outlook for the balance of 2021.
As you can tell from Colin's remarks, we've been extremely busy.
However, we don't want all that positive transaction activity to take attention away from our very solid operating performance during the quarter.
Leasing velocity in particular, was outstanding, while second-generation cash leasing spreads were up the most since the fourth quarter of 2015.
Over the past two quarters, we've signed almost 1.1 million square feet of leases with almost 2/3 of that total representing new leases.
The ability to attract so many new customers to our properties is a powerful indication of our Class A Sun Belt strategy.
However, it's a big decision for a company to open a new office, especially if they're coming from out of market.
It's not easy from space planning to construction management, to the endless logistical details surrounding moving existing employees, hiring new employees and establishing a new address, it all takes a lot of time, which means the typical period between lease signing and revenue recognition is extended compared to a simple renewal.
A significant portion of the new leases we have signed over the last six months do not begin revenue recognition until late 2022 or early 2023.
Attracting new customers, the Sun Belt is our competitive advantage.
It often just takes time for this to turn into revenue.
Turning back to the third quarter results.
Our same-property performance continued to generate a significant and constructive change in trend.
NOI on a cash basis increased a very healthy 3.6% over the last year and excluding the single large move-out that Richard talked about, Athem's departure from our 3350 Peachtree property in Buckhead to a new consolidated campus in Midtown Atlanta, NOI on a cash basis would have increased 5.3%.
The largest variable in our same-property performance remains parking revenues.
After bottoming during the fourth quarter of 2020, same-property parking revenues are up over 20% in the last three quarters, but still remain 20% below pre-COVID levels.
Focusing on our development efforts, one asset, Domain 10 an office property primarily leased to Amazon in the Domain submarket of Austin was moved off our development pipeline schedule and into our portfolio statistics, while another asset, Neuhoff, a mixed-use property in the Germantown submarket of Nashville was added to our schedule.
Total development costs for Neuhoff are estimated to be $563 million with our joint venture interest representing 50% of that amount.
The current development pipeline represents a total Cousins' investment of $663 million across 1.9 million square feet in four assets.
On the transaction front, as Colin laid out at the top of the call, we've been very active.
As this series of transactions has unfolded, we've maintained our net debt-to-EBITDA around 4.5 times, as we've done with very few exceptions since 2014.
We believe this leverage profile provides both defensive support during challenging times as well as offensive firepower to execute compelling transactions when the opportunity presents itself.
If and when we commence additional developments and/or acquire additional properties, you should expect us to continue to fund these investments on a leverage-neutral basis over time.
On the Capital Markets front, we closed a $312 million construction loan for our new house development joint venture during the third quarter.
This new loan matures in September 2025 and includes a potential one year extension option.
I'll close by updating our 2021 earnings guidance.
We currently anticipate a full year 2021 FFO between $2.73 and $2.77 per share.
This is up $0.01 at the midpoint from our previous guidance.
There are no other dispositions, acquisitions or development starts included in our guidance.
The most significant variable behind our guidance remains parking revenue.
Our customers continue returning to the office during the third quarter, and we anticipate maintaining this trend into the year-end.
Our current parking revenue assumptions reflect this outlook. | cousins properties inc - qtrly ffo per share $0.69.
cousins properties inc sees 2021 ffo $2.73 to $2.77 per share. |
If you did not receive a copy, these documents are available through the quarterly disclosures and supplemental SEC information links on the Investor Relations page of our website, cousins.com.
In particular, there are significant risks and uncertainties related to the severity and duration of the COVID-19 pandemic and the timing and strength of the recovery there from.
2020 was an extraordinary year.
The COVID-19 pandemic arrived swiftly and our lives changed almost overnight.
As I said in May of last year, crises don't build character, they reveal character.
At Cousins, we value our employees, our customers and our communities.
I've been so proud that our dedicated team has ably navigated the pandemic, while consistently providing our customers with the same excellent service they expect from us every day.
In addition, Cousins gave back to our communities as we committed $900,000 from our nonprofit foundation to support organizations focused on COVID-19 relief and important social justice causes.
Before addressing our long-term outlook, I want to provide a few highlights of our solid fourth quarter results.
On the operations front, the teams delivered $0.68 per share in FFO with second generation cash rents of 8.9%.
We leased 387,000 square feet and collected 99% of total rent, including 99% from our office customers.
In addition, we took advantage of economic uncertainty and made several investments in the South End of Charlotte, including our acquisition of the RailYard's for $201 million and two fabulous land sites, totaling 5.6 acres in aggregate.
These significant investments in Charlotte will provide a solid foundation for growth in that dynamic city for years to come.
Cousins was well-prepared to weather challenging times with a simple, yet compelling strategy that enabled us to operate effectively throughout the year.
Let me highlight the core principles of our strategy.
First, to build the premier urban Sunbelt office portfolio, second, to be disciplined about capital allocation and focus on new investments where our platform can add value, third and importantly, to have a best-in-class balance sheet, and finally to leverage our strong local operating platforms that take an entrepreneurial approach in our high growth markets.
We have made significant strides in progressing this strategy.
Today, we have the leading trophy portfolio in the best Sunbelt sub-markets of Atlanta, Austin, Charlotte, Dallas, Phoenix and Tampa.
Second, we have a terrific development pipeline of $449 million, that is 77% pre-leased and attractive land sites where we can build an additional 5 million square feet.
Our balance sheet is strong with net debt to EBITDA of 4.8 times and G&A as a percentage of total assets at 0.3%, both among the best in the entire office sector.
While the pandemic persists, we are starting to see early signs of hope with the promise that vaccines offer.
As we approach the other side of the health crisis, our conviction around our Sunbelt trophy office strategy has only grown.
Let me share why.
Our strategy has positioned Cousins at the intersection of two powerful trends driving the office sector, the migration to the Sunbelt and a flight to trophy properties.
While these trends were under way before COVID, they are likely to accelerate.
For example, the top five migration states from 2019 through 2020 were Texas, Florida, Arizona, North Carolina and Georgia, while the bottom five States were New York, Illinois, California, Michigan, and Pennsylvania.
We've also seen announcements of relocations and large expansions, including Oracle, CBRE and Amazon.
In fact, 2020 with a record year for corporate relocations and expansions in Austin with 39 companies that announced plans to add nearly 9,900 jobs in the Greater Austin area.
And in Atlanta just yesterday, Microsoft confirmed, it had purchased 90 acres in West Midtown with plans to build a major employment hub, which will include thousands of new office-using jobs.
We believe that we're only in the early stages at this geographic shift.
I am confident we will see additional large relocation and expansion announcements later this year.
We hope to directly benefit from some of these situations.
But regardless, these moves will further validate the importance of the office to companies in the power of our Sunbelt footprint.
And to be clear, innovative companies aren't relocating from California to Texas, Georgia and North Carolina, to work-from-home.
Looking forward to 2021, let me share some of our top priorities.
First, we are focused on creating value in our existing portfolio, including making leasing progress in our larger blocks of space.
Second, we will look for opportunities to upgrade the quality of our portfolio through strategic acquisitions, with properties that reflect the office of the future.
An example of this is our recent acquisition of The RailYard in Charlotte.
We will likely fund these with the sale of older, vintage, higher CapEx properties.
As I said last quarter, we will not always be able to time our buys and our sales concurrently, which could on occasion create short-term earnings fluctuations.
However, our creative deal-making is a differentiator and integral to driving long-term earnings and NAV growth.
Third, we will continue to prioritize and appropriately size land bank to meet customer demand for new experiential properties in the best locations.
Lastly, we will continue to identify new office and mixed use development opportunities with an eye toward pre-leasing.
However, we will also selectively consider development opportunities with speculative components in unique markets like The Domain in Austin, where fundamentals and in-migration are so strong.
2021 is a transition year for Cousins from an earnings perspective.
Our financial results will reflect several known move-outs from recent value add acquisitions like 3350 Peachtree, 1200 Peachtree in Atlanta, as well as the Bank of America Plaza building in Charlotte, which is now known as One South at the Plaza.
Clearly, the COVID-19 pandemic and associated lockdowns delayed our releasing efforts.
However, with the vaccine rolling out, we are seeing restrictions ease, and revived customer interests.
We are eager to begin executing our business plans to reposition these exciting projects.
Our strategy remains intact.
The properties are in the right markets and the trends are in our favour.
As we look to 2022 and beyond, these value-added investment opportunities are a terrific source of value creation.
Combined with our existing and future development pipeline, Cousins is uniquely positioned to deliver long-term growth for our shareholders.
Importantly, we have the right balance sheet with low leverage and ample liquidity to capitalize on the opportunities.
They always rise to the occasion, providing excellent service to our customers and applying their talents to make our Company stronger.
I'm proud to be part of Cousins.
We reported solid fourth quarter operating results, delivering a constructive close to a year that presented every one of us with truly historic challenges to overcome.
As I've done for the past couple of quarters, I will begin by updating you on general business conditions.
First, an update on customer utilization within our 20 million square foot operating portfolio.
Utilization continues to track at an average of approximately 20% across the company, squarely in line with our reported levels last October.
Given the widespread increase in COVID cases over the past couple of months, we've used steady utilization through this period as [Phonetic] encouraging.
Like last quarter, we sensed that utilization will not move materially higher until the second half of 2021, and should be highly dependent on vaccination efforts.
Rent collections were consistent and strong again this quarter.
We collected 98.8% of rent from all customers and 99.2% of rent from office customers in the fourth quarter.
Collections are running at comparable levels so far in 2021 as well.
We also continue to have very few ongoing rent deferrals, which are at this point largely limited to our retail customers.
In the fourth quarter, rent deferral agreements represented just 0.3% of annualized contractual rents.
And we're only 1.5% of contractual rents for all 2020.
Now let's turn to operating results.
Our total portfolio into the fourth quarter at 90.8% leased with our same property portfolio at a solid 92.7% leased.
Total portfolio weighted average occupancy held steady this quarter at 90.4% and the same-property portfolio moved up to 92.4%.
As Colin already referenced, we expect 2021 to be a transitional year for Cousins, including occupancy.
While only 8.5% of our annual contractual rents expire in 2021, our operating portfolio includes value-add investments with known 2021 pending vacancy, such as 1200 Peachtree and 3350 Peachtree in Atlanta and One South at the Plaza in Charlotte.
The final 169,000 square feet of Bank of America space at One South expired at the end of 2020, representing about 90 basis points of portfolio occupancy.
So, we will see a lower weighted average occupancy beginning in the first quarter of 2021.
I would also note that in late 2021, our occupancy will reflect the positive impact of some known commencements from new deliveries, most notably at the domain in Austin.
In short, occupancy will be lower in 2021 compared to 2020.
But as Colin said, we have a great opportunity to create long-term value as we lease up these blocks of space.
On top of that, we have only 8% or less of our annual contractual rents expiring in each year through 2024.
As expected, the pandemic once again impacted quarterly leasing volume with a new activity slower.
With that said, we saw an encouraging bounce in overall activity this quarter.
In all, we executed over 387,000 square feet of leases during the fourth quarter and over 1.4 million square feet of leasing for the year.
Notable leases in the fourth quarter included a renewal of NASCAR and NASCAR Plaza in Charlotte and the renewal and expansion of Amazon at Terminus in Atlanta.
After quarter end, we also signed a new lease at our 100 Mill new development in Tempe.
Our average lease term this quarter was a healthy 6.6 years, and it was seven years for the full year.
Our average lease term was fairly consistent between new and renewal activity and was not meaningfully different than our three-year pre-COVID run rate of 7.5 years.
Lease concessions defined as free rent and tenant improvements were $4.15 per square foot per year this quarter, below our rolling eight-quarter average.
Nonetheless, we continue to feel the most lease negotiating pressure around concessions.
Rent growth within our portfolio has remained strong, especially for operating in pandemic, with second generation net rents increasing 8.9% on a cash basis for the quarter and 13.1% on a cash basis for the year.
With solid rent growth and lower than normal concessions in this past quarter, our average net effective rents came in at $25.19 per square foot.
We have printed higher net effective rents in only three other quarters since the beginning of 2018.
As we look ahead, despite continued headwinds and overall vacancy and sublease availability, there are hopeful signs in each of our markets that meaningful economic recovery is possible as the year progresses.
Let me provide some examples.
There has been a clear ramp in major Sunbelt job and office relocation announcements.
Oracle's relocation to Austin, Microsoft sizable new East Coast hub in Atlanta, and Pfizer's growth commitment in Tampa to name just a few.
For CoStar, Uptown Charlotte and Tempe still have notably low Class A vacancy rates of 7.7% and 6.9% respectively.
These would be great launching off points emerging from a recession.
For JLL, there are currently over 5.4 million square feet of tenant requirements in the market in Austin.
40% of these requirements are focused on the CBD and Northwest domain.
Also for JLL, employees in Dallas have returned to the office faster than the rest of the country at almost 40% in December.
This compares to only 10% to 15% in the coastal markets.
Even more impressive, both Dallas and Austin are already back above pre-COVID-19 employment levels.
Across the board, it is becoming clear that physical office space will remain important as we emerge from the pandemic.
According to a recent PwC study, 70% of executives expect their real estate footprint to stay the same or grow over the next three years due to the rising headcounts and social -- due to rising head counts and social distancing.
In one example of this sentiment, Google CFO said during the company's most recent earnings call that when they look ahead, the company quote expects to return to a more normalized pace of ground-up construction and the fit out of office facilities.
It does not get any clearer than that.
Now, some color on our leasing pipeline.
While we had a pause during the fourth quarter with COVID and seasonal headwinds, early stage interests and inquiries have noticeably increased again since the beginning of the calendar year, signaling the companies now seem willing to begin the process of making longer-term real estate decisions.
The most noticeable upticks and inquiries in activity have been in Austin, Midtown, and Buckhead of Atlanta and Tampa.
Economic development teams in every one of our markets are still signaling high optimism, noting that they're as busy as they have ever been.
As I said last quarter though, keep in mind that early stage activity can often take multiple quarters to evolve.
In summary, we enter a transitional 2021 with a sense of renewed optimism albeit cautious for what lies ahead.
Before handing off to Gregg, I want to say how proud I am of all of my Cousins' teammates, who have responded to this pandemic with amazing confidence [Phonetic], resilience, and hard work.
I'll begin with my remarks by providing a brief overview of our quarterly financial results, including some detail on our same-property performance, our development pipeline and our transaction activity, followed by a quick discussion of our balance sheet and dividend before closing my remarks with information on our outlook for 2021.
Overall fourth quarter numbers were solid and it held up relatively well since the onset of the pandemic.
FFO was $0.68 per share for the quarter and $2.78 per share for all of 2020.
Same-property cash NOI growth remained positive during 2020 at 0.7%, and it was up a very solid 4.5%, when adjusting for COVID related rent deferrals and parking losses.
Most impressive as all as Richard said earlier, was that we increased cash rents on expiring leases by over 13% during 2020.
Focusing on our same-property performance, cash net operating income during the fourth quarter declined 3.3% compared to last year, driven by a 4% decline in revenues and a 5.2% decline in expenses.
Adjusting for COVID related rent deferrals and parking losses, same-property cash NOI actually increased 1.7% during the fourth quarter.
Before moving past same-property performance, I wanted to take a moment to highlight the outstanding work done by our property management teams with controlling expenses during the pandemic.
For all of 2020, same-property operating expenses were down 6%, compared to 2019, and excluding property taxes, expenses were down almost 10%.
These are terrific results during challenging times.
Turning to our development efforts, one asset Domain 12 in Austin was moved off our development pipeline schedule during the fourth quarter, as economic occupancy at that property exceeded 90%.
The remaining development pipeline represents a total Cousins investment of $450 million, across 1.5 million square feet in five assets.
Our remaining funding commitment for this pipeline is approximately $125 million, which is more than covered by our existing liquidity and future retained earnings.
On the transaction front, we closed three acquisitions during the fourth quarter, the purchase of The RailYard in Charlotte for $201 million, as well as the purchase of two land parcels in Charlotte for $47 million.
In addition, we sold our interest in two small non-core land parcels that the company acquired over 15 years ago, when the strategy was decidedly different than it is today, incurring a loss of approximately $750,000.
One parcel was a residential tract in Texas and the other was a golf course in Georgia.
With the completion of these sales, only one non-core parcel remains in our land inventory.
A tract in North Atlanta adjacent to a shopping center, we developed and subsequently sold over eight years ago.
Looking at the balance sheet, we entered this period of volatility without standing financial strength, among the very best of our office peers.
Not only do we have low leverage, our liquidity position is strong and our dividend remains well covered.
The only near-term debt maturity is a construction loan at our Carolina Square property in Chapel Hill.
We've selected a lender and anticipate closing a new five year floating rate loan on this asset in the next few weeks.
Before discussing 2021 earnings guidance, I wanted to highlight an asset that we have moved to the held for sale classification as of year end.
As we've previously discussed, our Burnett Plaza property in Fort Worth is a non-core holding for us.
It was acquired as part of the TIER REIT transaction in mid-2019.
We are actively pursuing a sale of this property, which will hopefully close during the first half of the year.
However, the completion and timing of the sale remain uncertain.
For GAAP, we have marked the value of Burnett Plaza down to reflect its current market valuation.
This impairment reflects approximately a 6% decline in value for the asset, which is not surprising considering the disruption to energy markets, since we closed the TIER transaction 1.5 years ago.
Looking forward, we're providing initial 2021 FFO guidance of between $2.76 and $2.86 per share.
No acquisitions, dispositions or development starts are included in this guidance.
If any transactions do take place, we will update our earnings guidance accordingly.
Please also note that our earnings guidance assumes physical occupancy will remain significantly below normalized levels until the second half of 2021.
As a result, quarterly earnings are anticipated to gradually increase as the year progresses.
Finally, don't forget that year-over-year comparisons on all performance metrics, including earnings won't be perfectly claimed during the first quarter of 2021.
It'll be a bit of an apples and oranges comparison to 2020 during the first quarter as the impact of COVID really didn't kick into our numbers until the second quarter of 2020. | cousins properties releases fourth quarter and full year 2020 results.
funds from operations was $0.68 per share for quarter.
collected 98.8% of rents, including 99.2% from office customers, during quarter.
sees 2021 ffo in the range of $2.76 to $2.86 per share.
guidance assumes physical occupancy remains significantly below normalized levels until the second half of 2021. |
Let me also remind you that CVR Partners completed a 1 for 10 reverse split of its common units on November 23, 2020.
Yesterday, we reported a first quarter consolidated net loss of $55 million and a loss per share of $0.39.
Unplanned downtime and increased operating costs associated with the winter storm negatively impacted our first quarter results by approximately $41 million.
Our earnings for the quarter were further impacted by a noncash mark-to-market on our 2020 RIN obligation of $98 million.
Our Board of Directors did not approve a dividend for the first quarter of 2021.
However, we recognize the absence of any major transactions, we have more cash on the balance sheet currently that we need to operate the business.
We will continue our discussions with the Board around the best uses of our cash and the appropriate level of cash to return to shareholders in and what form.
For our Petroleum segment, the combined throughput for the first quarter of 2021 was approximately 186,000 barrels per day as compared to 157,000 barrels per day for the first quarter of 2020, which was impacted by the planned turnaround at Coffeyville.
We experienced unplanned downtime at both facilities in February as a result of the winter storm, which reduced total throughput for the quarter by approximately 34,000 barrels per day.
Both plants resumed full operations in March and are currently running at max light crude rates.
Benchmark crack spreads have increased since the beginning of the year, however, elevated RIN prices continue to consume much of that increase in the cracks.
The Group 3 2-1-1 crack averaged $16.33 per barrel in the first quarter as compared to $12.21 for the first quarter of 2020.
On a 2020 RVO basis, RIN prices averaged approximately $5.57 per barrel in the first quarter, a 250% increase from the first quarter of 2020.
The Brent-WTI differential averaged $3.18 in the first quarter compared to $5.04 per barrel in the prior year period.
The Midland Cushing differential was $0.87 per barrel over WTI in the quarter compared to $0.06 per barrel under WTI in the first quarter of 2020.
And the WCS to WTI differential was $11.82 per barrel compared to $17.77 for the same period last year.
Light product yield for the quarter was 100% on crude oil processed and current economics dictate maximizing gasoline.
In total, we gathered approximately 112,000 barrels per day of crude oil during the first quarter of 2021 compared to 136,000 barrels per day for the same period last year.
Gathering volumes for the first quarter were negatively impacted by the severe winter weather in the Midwest in February.
With the Oklahoma pipelines we recently acquired, our gathering volumes are trending higher.
We currently forecast our gathering volumes for the second quarter to be in the 125,000 to 130,000 barrel a day range.
In our Fertilizer segment, we experienced some unplanned downtime at Coffeyville doing an outage of the third-party air separation unit in January.
At East Dubuque, we elected to shut in for several days as a result of the severe winter weather in February.
Ammonia utilization for the first quarter was 87% at Coffeyville and 89% at East Dubuque.
Along with a rally in crop prices this year, fertilizer prices have increased significantly, which should be more evident in the Fertilizer segment's second quarter results.
With the USDA estimating corn planning this year of 91 million acres, the 2020 inventory carryout could be at the lowest level since 2014.
This should set up for continued strength in crop prices, which will be a positive for the fertilizer demand and pricing as well.
Our consolidated net loss of $55 million and loss per diluted share of $0.39 includes a mark-to-market gain of $62 million related to our investment in Delek and favorable inventory valuation impact of $66 million.
The effective tax rate for the first quarter 2021 was a benefit of 43% compared to a benefit of 27% for the prior year period, primarily due to state income tax credits.
We continue to anticipate an income tax refund related to the CARES Act of $35 million or $40 million, which we expect to receive in the second half of 2021.
The Petroleum segment's EBITDA for the first quarter of 2021 was negative $61 million, which included an inventory valuation benefit of $66 million.
This compares to EBITDA of negative $77 million in the first quarter of 2020, which included unfavorable inventory valuation impact of $136 million.
Excluding inventory valuation impacts in both periods, our Petroleum segment EBITDA would have been negative $127 million for the first quarter of 2021 compared to positive $59 million in the prior year period.
The year-over-year EBITDA decline was driven primarily by the elevated RINs prices and our open RIN position, unrealized derivative losses and increased operating expenses associated with winter storm Uri.
In the first quarter of 2021, our Petroleum segment's refining margin, excluding inventory impacts, was negative $0.88 per total throughput barrel compared to $11.06 in the same quarter of 2020.
The increase in crude oil and refined product prices through the quarter generated an inventory valuation benefit of $3.93 per barrel, this compares to a $9.54 per barrel unfavorable impact in the same period last year.
Excluding inventory valuation impact, unrealized derivative gains and losses and the mark-to-market impact of our 2020 RIN obligation, the capture rate for the first quarter of 2021 was 46% compared to 86% in the first quarter of 2020.
In addition, RINs expense reduced our capture rate by 65% in the first quarter of 2021, which includes a 36% impact related to the mark-to-market of our 2020 RIN obligation.
Derivative losses for the first quarter of 2021 totaled $32 million, which includes unrealized losses of $43 million, primarily associated with frac spread derivatives, offset by gains on Canadian Crude Oil.
In the first quarter of 2020, we had total derivative gains of $46 million, which included unrealized gains of $12 million.
RINs expense in the first quarter of 2021 was $178 million or $10.62 per barrel of total throughput compared to $19 million or $1.32 per barrel for the same period last year.
Our first quarter RINs expense was inflated by $98 million from the mark-to-market impact related to our 2020 accrued RFS obligation, which was mark-to-market at an average RIN price of $1.39 at quarter end.
Our accrued RFS obligation at the end of the first quarter continues to approximate our 2019 and 2020 obligations at Wynnewood, for which labors have been applied.
We believe Wynnewood's obligation for 2021 should be exempt under the RFS regulation; for the full year 2021, we forecast a net obligation of approximately of 230 million RINs without considering waivers yet inclusive of the RINs we expect to generate from the renewable diesel production in the second half of the year.
The Petroleum segment's direct operating expenses were $5.89 per barrel in the first quarter of 2021 as compared to $5.87 per barrel in the prior year period.
On an absolute basis, operating expenses increased approximately $15 million compared to the first quarter 2020, primarily due to higher natural gas costs that are currently in dispute and additional repair and maintenance expenditures related to winter storm Uri.
For the first quarter of 2021, the Fertilizer segment reported an operating loss of $14 million, a net loss of $25 million or $2.37 per common unit and EBITDA of $5 million.
This is compared to first quarter 2020 operating losses of $5 million, a net loss of $21 million or $1.83 per common unit and EBITDA of $11 million.
The year-over-year decrease in EBITDA was driven by lower sales volumes of UAN and ammonia and lower UAN sales prices.
During the quarter, CVR Partners repurchased just over 24,000 of its common units for $0.5 million.
The partnership did not declare a distribution for the first quarter of 2021.
Total consolidated capital spending for the first quarter of 2021 was $68 million, which included $10 million from the Petroleum segment, $3 million from the Fertilizer segment and $55 million from the Renewables segment.
Environmental and maintenance capital spending comprised $12 million, including $10 million in the Petroleum segment and $2 million in the Fertilizer segment.
We estimate total consolidated capital spending for 2021 to be approximately $235 million to $250 million, of which approximately $106 million to $114 million is expected to be environmental and maintenance capital and $123 million to $128 million is related to the renewable diesel project at Wynnewood.
Our consolidated capital spending plan excludes planned turnaround spending, which we estimate to be approximately $9 million for the year in preparation for the planned turnaround at Wynnewood in 2022 and Coffeyville in 2023.
Cash provided by operations for the first quarter of 2021 was $96 million.
Despite elevated natural gas and utilities cost, increased capital spending and closing on the Oklahoma pipeline acquisition, we generated free cash flow in the quarter of $61 million.
Working capital was a source of approximately $218 million in the quarter due to an increase in our RINs obligation and an increase in lease pre payable.
Turning to the balance sheet.
At March 31, we ended the quarter with approximately $707 million in cash, an increase of $40 million from the end of 2020.
Our consolidated cash balance includes $53 million in the Fertilizer segment.
As of March 31, excluding CVR Partners, we had approximately $1 billion of liquidity, which was comprised of approximately $655 million of cash, securities available for sale of $235 million and availability under the ABL of approximately $364 million less cash included in the borrowing base of $208 million.
Looking ahead to the second quarter of 2021, for our Petroleum segment, we estimate total throughput to be approximately 200,000 to 220,000 barrels per day.
We expect total direct operating expenses to range between $75 million and $85 million and total capital spending to be between $6 million and $12 million.
For the Fertilizer segment, we estimate our ammonia utilization rate to be greater than 95%.
We expect direct operating expenses to be approximately $35 million to $40 million, excluding inventory impacts and total capital spending to be between $4 million and $7 million.
Capital spending in the Renewables segment is expected to range between $65 million and $70 million.
In summary, the first two months of the quarter were challenging as crack spreads were narrow and the winter storm caused unplanned downtime and elevated operating expenses.
We quickly recovered from the storm-related shutdowns.
And with the increase in the Group 3 cracks, we have observed positive EBITDA trends in March, absent the 2020 mark-to-market impact for RINs.
We continue to believe we are well positioned for the eventual upswing in the refining market.
Looking at current market fundamentals, cracks have increased since the beginning of the year and have largely sustained higher levels, although inflated RIN prices have consumed part of that increase.
Vaccine data is encouraging, and we're seeing positive increases in demand for gasoline, diesel and jet fuel.
Refinery shutdowns in February and March helped further clean up domestic inventories, however, fleet utilization is increasing.
In the near term, we remain cautiously optimistic based on the market fundamentals we see.
Starting with crude oil, global inventories are at or near 5-year averages and worldwide demand is projected at 96 million barrels per day for 2021, according to OPEC, a year-over-year increase of 6 million barrels per day.
Shale oil production is up slightly in the Permian Basin, but down everywhere else, and DUCs continue to decline.
E&P companies are currently focused on shareholder return and debt reduction and not on ramping up activities to significantly increase production volumes.
And backwardation is firmly in place, supported by declines in inventories and the action taken by the Saudis.
Moving on to refined products.
Inventories are largely normalized in the US, helped in part by the shutdowns after the winter storm.
US gasoline demand was up significantly in March and held through April.
Refining product demand in PADD II is back to 2019 levels, while PADD II gasoline and diesel inventory levels are both below 5-year averages.
Passenger count and TSA checkpoint check-ins are higher, but still down over 40% compared to pre-pandemic levels and the imports of gasoline and diesel are higher while exports of both products are lower than a year ago.
Looking at the current crack spreads and crude differentials.
Gasoline cracks are strong, but diesel cracks are low due to depressed jet fuel demand.
US refining throughput is down over 1 million barrels per day versus the 5-year average, although EIA reported utilization stats are distorted due to permanent refinement closures and reduced operable capacity.
And RINs remain high, driven by government inaction and regulatory uncertainty.
For the CVR refining system, we continue to run our refineries at max rates on a light crude diet.
Our gathering system rates are increasing with the addition of the Oklahoma pipeline system, which provides more neat barrels to our refineries and reduces our purchases of Cushing common.
We are maximizing the production of premium gasoline and the blending of biofuels, and we do not have any turnaround scheduled for 2021.
For the Fertilizer segment, the USDA is projecting 91 million acres of corn planted this year.
At current yield estimates, the inventory carryout for '21 could be the lowest since 2014.
Crude inventories are already very low, which has driven the prices higher.
The recent winter storm cleaned up excess fertilizer inventories in the Mid-Con as many nitrogen fertilizer plants had to shut in.
The spring run has been strong, and NOLA urea price is around 200 -- excuse me, $385 per ton with UAN at nearly $300 per ton.
Our net debt[Phonetic] prices have dramatically improved for nitrogen fertilizers by about 40% compared to the first quarter of 2021 levels.
We are working hard on 45Q tax credits for the Coffeyville facility, which could provide incremental cash for CVR Partners to delever, and we have a planned turnaround at Coffeyville in October.
Construction is under way at our Wynnewood renewable diesel unit, however, severe weather in February and delays in equipment deliveries, we are now projecting the unit to be online by the end of the third quarter.
Costs are also being affected by weather delays and material escalations.
We currently expect total cost of the project to be $135 million to $140 million.
We have made significant progress and have recently signed agreements for feedstock supply and terminalling, and we are in negotiations on product marketing.
Despite the recent increase in feedstock prices, higher prices for diesel and RINs have partially offset the increase in the renewable diesel feedstocks.
In addition, we now believe we'll be able to run the Wynnewood refinery at higher rates post renewable diesel conversion than we previously expected.
As we work toward the completion of Phase 1, we are close to selecting technology for a potential Phase 2, which would involve adding pretreatment capabilities for lower cost and lower CI feedstocks.
We are also starting a feasibility study for Phase 3 of developing a similar renewable diesel conversion project at Coffeyville and we are exploring the opportunities to add biomasses of feedstock to one or both of our refineries to aid in our sustainability efforts.
Looking at the second quarter of 2021, quarter-to-date metrics are as follows: Group 3 2-1-1 cracks have averaged $19.48 per barrel with RINs averaging $6.92 on a 2020 RVO basis.
The Brent-TI spread has averaged $3.62, with the Midland Cushing differential at $0.36 over WTI and the WTL differential at $0.14 per barrel under WTI, Cushing WTI and a WCS differential of $11.29 per barrel under WTI.
Ammonia prices have increased to over $600 a ton, while UAN prices are over $325 per ton.
As of yesterday, Group 3 2-1-1 cracks were $20.26 per barrel; Brent-TI was $3.07 And WCS was $11.90 under WTI.
On a 2020 RVO basis, RINs were approximately $7.83 per barrel.
The Supreme Court heard arguments in our appeal in the Tenth Circuit ruling last week.
We feel our attorney was very effective in expressing the intent of Congress that no small refinery should go bankrupt from the impact of RFS compliance and the small refineries like ours with a high diesel output, remote location, lack of meaningful retail and wholesale infrastructure are entitled to relief at any time.
We expect to hear a ruling over the next few months, after which EPA might finally provide a renewable volume obligation for 2021.
The EPA has also yet to rule on 2019 and 2020 small refinery exemptions.
The lack of action by EPA regarding these issues has likely contributed to the dramatic increase in RIN prices over the past year.
Fortunately, our consolidated RIN obligation should become much less of a burden with the completion of the Wynnewood renewable diesel unit later this year. | q1 loss per share $0.39.
petroleum segment also recognized a q1 2021 derivative loss of $32 million, or $1.90 per total throughput barrel.
qtrly combined total throughput was approximately 186,000 barrels per day (bpd), compared to approximately 157,000 bpd. |
Let me also remind you that CVR Partners completed a 1-for-10 reverse split of its common units on November 23, 2020.
Yesterday, we reported the second quarter consolidated net loss of $2 million and a loss per share of $0.06.
Adjusted EBITDA for the quarter was $66 million.
Our facilities ran well during the quarter, with both the petroleum and fertilizer segments posting increased in adjusted EBITDA year-over-year.
However, once again, rising RIN prices were considerable headwinds to our results, including a $58 million non-cash mark-to-market on our estimated outstanding RIN obligation.
In May, our Board of Directors approved a special dividend totaling $492 million, comprised of a combination of cash and our interest in Delek US Holdings.
As I have stated over the past few quarters, absent any material acquisitions, we had too much cash on the balance sheet that wasn't earning a return.
When we completed the senior notes offering in January of 2020, we evaluated a number of acquisitions -- we were evaluating a number of acquisition opportunities at the time and elected to raise additional cash to fund the potential transaction.
Since that time, the market has changed significantly.
The bid-ask spread for refinery acquisitions remained too wide.
The US and Europe are now in a position of excess refining capacity and we believe more refinery closures are needed.
And we are shifting our strategy to focus on -- more on renewables.
As a result, in accordance with the provisions of the senior notes, the Board elected to distribute the excess cash proceeds.
In addition to providing shareholders with nearly $5 per share of cash and Delek stock, this structure also allowed us to recognize a net gain of $87 million that we made on our Delek investment, while providing us with an efficient exit.
With the continued uncertainties around RINs and small refinery exemptions, the Board has elected not to reinstate the regular dividend.
We'll continue our discussions with the Board around the best uses of our cash and the appropriate level of cash to return to our shareholders.
For our petroleum segment, the combined total throughput for the second quarter of 2021 was approximately 217,000 barrels per day, as compared to 156,000 barrels per day in the second quarter of 2020, which was impacted by a planned turnaround at Coffeyville.
Both refineries ran well during the quarter.
And we resumed processing WCS at Coffeyville due to the weak WCS prices in Cushing.
Benchmark cracks have increased since the beginning of the year.
However, elevated RIN prices continued to consume much of that increase in cracks.
The Group three 2-1-1 crack averaged $19.15 per barrel in the second quarter as compared to $8.75 in the second quarter of 2020.
On a 2020 RVO basis, RIN prices averaged approximately $8.15 per barrel in the second quarter a 267% increase, from the second quarter of 2020.
The Brent-TI differential averaged $2.91 per barrel in the second quarter as compared to $5.39 in the prior year period.
The Midland Cushing differential was $0.24 over WTI in the quarter as compared to $0.40 per barrel over WTI in the second quarter of 2020.
And the WCS to WTI differential was $12.84 compared to $9.45 in the same period last year.
Light product yield for the quarter was 99% on crude processed.
We optimized crude runs to ensure maximum capture via maximizing premium gasoline production, light product yield, LPG recovery and RINs generation.
In total we gathered approximately 118,000 barrels a day of crude oil during the second quarter of 2021 compared to 82,000 barrels per day in the same period last year, when production levels were disrupted by low crude oil prices at the onset of the COVID pandemic.
We have seen some declines in production across our system due to limited drilling activity although, additional rigs were added in both Oklahoma and Kansas during the second quarter.
In the Fertilizer segment both plants ran well during the quarter with consolidated ammonia utilization of 98%.
The rally in crop prices has driven a significant increase in prices for nitrogen fertilizers this year and prices have remained firm through the spring planting season and into summer.
Domestic fertilizer inventories are low following the shutdown from Winter Storm Uri earlier this year.
And deferred turnaround activity from 2020, is now taking place.
USDA estimates for corn planting and yields continues to imply one of the lowest inventory carryouts in the last 10 years.
With low fertilizer inventories and continued strong demand for crop inputs, the setup remains positive for fertilizer demand as well as pricing.
Before I get into our results, I would like to highlight that during the second quarter of 2021 we revised our reporting to include adjusted EBITDA, which excludes significant non-cash items not attributable to ongoing operations that we believe may obscure our underlying results and trends.
For the second quarter of 2021, our consolidated net loss was $2 million loss per diluted share was $0.06 and EBITDA was $102 million.
Our second quarter results include a negative mark-to-market impact on our estimated outstanding rent obligation of $58 million, unrealized derivative gains of $37 million, favorable inventory valuation impacts of $36 million and a mark-to-market gain of $21 million related to our investment in Delek.
Excluding these items, adjusted EBITDA for the quarter was $66 million.
The Petroleum segment's adjusted EBITDA for the second quarter of 2021 was $18 million compared to negative $1 million in the second quarter of 2020.
The year-over-year increase in adjusted EBITDA was driven by higher throughput volumes and increased product cracks offset by elevated RINs prices and realized derivative losses.
In the second quarter of 2021 our Petroleum segment's reported refining margin was $6.72 per barrel.
Excluding favorable inventory impacts of $1.81 per barrel, unrealized derivative gains of $1.87 per barrel and the mark-to-market impact of our estimated outstanding RIN obligation of $2.92 per barrel, our refining margin would have been approximately $5.99 per barrel.
On this basis capture rate for the second quarter of 2021 was 31% compared to 75% in the second quarter of 2020.
RINs expense excluding mark-to-market impact reduced our second quarter capture rate by approximately 30%.
Derivative losses for the second quarter of 2021 totaled $2 million, which includes unrealized gains of $37 million primarily associated with crack spread derivatives.
In the second quarter of 2020, we had total derivative gains of $20 million, which included unrealized gains of less than $0.5 million.
In total RINs expense in the second quarter of 2021 was $173 million or $8.77 per barrel of total throughput compared to $16 million or $1.12 per barrel for the same period last year, an increase of over 680%.
Our second quarter RINs expense was inflated by $58 million from the mark-to-market impact on our estimated RFS obligation, which was mark-to-market at an average RIN price of $1.67 at quarter end.
Our estimated RFS obligation at the end of the second quarter approximates Wynnewood's obligations for 2019 through the first half of 2021 as we continue to believe Wynnewood's obligation should be exempt under the RFS regulation.
We have applications for small refinery exemptions for Wynnewood outstanding with the EPA for 2019 and 2020 and we'll soon submit for 2021.
For the full year 2021, we forecast an obligation based on the 2020 RVO levels of approximately 255 million RINs.
This includes RINs generated from internal blending and approximately 19 million RINs we could generate from renewable diesel production later this year, but does not include the impact of expected waivers.
The petroleum segment's direct operating expenses were $4.23 per barrel in the second quarter of 2021 as compared to $5.52 per barrel in the prior year period.
This decline in direct operating expenses was primarily driven by higher throughput volumes and our continued focus on controlling costs.
For the second quarter of 2021, the fertilizer segment reported operating income of $30 million, net income of $7 million or $0.66 per common unit and adjusted EBITDA of $51 million.
This is compared to second quarter 2020 operating losses of $26 million, a net loss of $42 million or $3.68 per common unit and adjusted EBITDA of $39 million.
The year-over-year increase in adjusted EBITDA was primarily driven by higher UAN and ammonia sales prices.
The partnership declared a distribution of $1.72 per common unit for the second quarter of 2021.
As CVR Energy owns approximately 36% of CVR Partners' common units, we will receive a proportionate cash distribution of approximately $7 million.
Total consolidated capital spending for the second quarter of 2021 was $83 million, which included $9 million from the petroleum segment, $4 million from the fertilizer segment and $69 million on the renewable diesel unit.
Environmental and maintenance capital spending comprised $12 million, including $8 million in the petroleum segment and $3 million in the fertilizer segment.
We estimate total consolidated capital spending for 2021 to be approximately $226 million to $242 million, of which approximately $83 million to $91 million is expected to be environmental and maintenance capital.
Our consolidated capital spending plan excludes planned turnaround spending, which we estimate will be approximately $7 million for the year in preparation for the planned turnaround at Wynnewood in 2022 and Coffeyville in 2023.
Cash provided by operations for the second quarter of 2021 was $147 million and free cash flow was $54 million.
Working capital was a source of approximately $100 million in the quarter due primarily to an increase in our estimated RINs obligation, partially offset by a decrease in derivative liabilities and increased crude oil and refined products inventory valuation.
Subsequent to quarter end, we received an income tax refund of $32 million related to the NOL carryback provisions of the CARES Act.
Turning to the balance sheet.
At June 30th, we ended the quarter with approximately $519 million of cash.
As a reminder the cash portion of the second quarter special dividend paid on June 10 was $242 million.
Our consolidated cash balance includes $43 million in the fertilizer segment.
As of June 30th, excluding CVR Partners, we had approximately $652 million of liquidity, which was comprised of approximately $483 million of cash and availability under the ABL of approximately $364 million less cash included in the borrowing base of $195 million.
Looking ahead to the third quarter of 2021 for our petroleum segment, we estimate total throughput to be approximately 190,000 to 210,000 barrels per day.
We expect total direct operating expenses to range between $75 million and $85 million and total capital spending to be between $18 million and $24 million.
For the fertilizer segment, we estimate our third quarter 2021 ammonia utilization rate to be greater than 95%, direct operating expenses to be approximately $38 million to $43 million, excluding inventory impacts and total capital spending to be between $9 million and $12 million.
While benchmark cracks increased nearly $3 per barrel during the second quarter, RIN prices increased by nearly the same amount, leaving the underlying margin available to refineries mostly unchanged.
Demand trends have been positive for gasoline diesel and jet fuel.
However, increasing the refinery utilization has driven an increase in product inventories as well.
We continue to believe further rationalization of refining capacity both in the US and Europe will be required to drive further inventory tidy and sustained rebound of crack spreads.
Looking at current market fundamentals adjusted for RINs, cracks have been generally flat since the spring.
RIN prices peaked in the second quarter and have declined since the favorable Supreme Court ruling.
However, RIN prices remained way too high.
Gasoline and diesel demand are within a few percentage points of pre-pandemic levels although jet remains well below, which continues to weigh on the distillate crack.
The return on international travel is key to increasing jet fuel demand and this should come along with continued growth in vaccinations and loosening travel restrictions although the recent uptick in COVID cases from the Delta variant may present a near-term risk.
However, we remain cautiously optimistic on market fundamentals that we see.
Starting with crude oil.
Crude oil inventory draws weak domestic production and strong exports of light crude have all caused the Brent-TI spread to narrow.
Sour and heavy crude spreads have improved, but are still weak especially for WCS in Canada.
We believe European refiners have come to appreciate the quality of -- quality advantage of the US shale oil and are playing more imports from the US further pressuring the Brent-TI spread.
Looking at refined products, markets are all oversupplied due to high runs in the face of weak jet demand.
Despite refinery closures in the US, global refining capacity has actually increased in 2020 and more capacity is preparing to start up in 2021 and 2022.
More closures are necessary in US and Europe as these new chemical integrated refineries come online.
RIN prices remain too high and continue to distort the crack spread for all refiners.
With the cost of RINs, cracks are weak at best considering the season.
Taking into account RIN costs, interest on debt, SG&A, sustaining capital and turnaround costs over the cycle most refineries in the US and Europe are not generating free cash flow at these levels.
Construction on the Wynnewood renewable diesel unit has been progressing as planned.
We have reached a point where we are ready to bring the hydrocracker down to complete the final steps of the conversion process.
However, renewable diesel feedstock prices have increased considerably, particularly for refined bleached and deodorized soybean oil to a level where the economics do not make sense for us to complete the conversion at this time.
We should be ready to take the unit down to complete the conversion in the September time frame.
However, the economics must be favorable based on available feedstocks before we proceed.
As we have continually stated, one of the key benefits of our project versus our peers is our ability to run the hydrocracker either renewable diesel service or traditional petroleum service.
Our current plan is to keep the unit additional petroleum service for now.
As we near the completion of Phase one of our renewable diesel strategy, we continue to develop Phase 2, which involves adding pretreatment capabilities for low-cost and lower-CI feedstocks.
We have started the process design engineering on the PTU, which will take approximately three months to complete.
We are also completing the process design of potential Phase three of developing a similar renewable diesel conversion project at Coffeyville.
The recent spike in renewable diesel feedstock prices, particularly for soybean oil, can likely be attributed to the recent start-up of two new renewable diesel plants in the US.
As more RD plants are constructed in the US, we expect the feedstock market to react to increasing demand and begin pricing according to low carbon fuel standard credit values and freight economics.
We believe RD producers with feedstock contracts expirations coming up will be forced to give up some of the margin they currently enjoy.
With the installation of a pre-treating unit, we should have the flexibility to run any type of feedstock that we can access and we are talking to a variety of feedstock suppliers that are in our backyard.
Looking at the third quarter of 2021, quarter-to-date metrics are as follows.
The Group 3 2-1-1 cracks have averaged $18.75 per barrel with RINs averaging $7.77 on a 2020 RVO basis; the Brent-TI spread has averaged $1.72, with the Midland Cushing differential at $0.14 under WTI and the WTL differential at $0.68 under Cushing WTI, and the WCS differential at $13.04 per barrel under WTI; ammonia prices have increased to around $600 a ton, while UAN prices are over $300 a ton.
As of yesterday, Group 3 2-1-1 cracks were $20.84 per barrel Brent-TI was $1.63 and the WCS differential was $14.45 under WTI.
On the 2020 RVO basis RINs were approximately $8.40 per barrel.
In June, the Supreme Court ruled to overturn the Tenth Circuit court ruling on small refinery exemptions related to continuity.
As we have previously stated, the Antenna Congress was that no small refinery should go bankrupt from the impact of RFS compliance and that small refineries like ours with high diesel output, remote location, and lack of meaningful retail and wholesale infrastructure are entitled to relief at any time.
The Wynnewood refinery was originally granted small refinery exemptions for 2017 and 2018, and we do not see any legal reason why its 2017 exemption should not be reinstated and why it should not be granted should why it should not be granted exemptions for 2019, 2020 and 2021.
In addition to failing to have timely rule on the pending small refinery exemption, EPA has yet to issue the renewable volume obligation for 2021, despite being more than nine months past their deadline.
The recent E15 ruling by the D.C. Circuit makes EPA's decisions around the RVO that much more important given the industry's inability to meet ethanol blending mandates and the pressure that puts on D6 RIN prices.
Of course, the best short-term outcome for CVI is for EPA to issue small refinery waivers for qualifying refineries now without reallocation.
Other alternatives are to issue a nationwide waiver to substantially reduce the RVO, or cap D6 RIN prices and place emphasis on D4 RINs.
I think the best long-term solution for all stakeholders is to decouple D6s RINs from D4s.
EPA should act now to reduce the ethanol mandate and increase the renewable diesel and biodiesel mandate.
It should also implement a 95 octane standard for all new ICE engines internal combustion engines.
And should harden all ICE, internal combustion engines vehicles for E30 or higher.
These actions would not only advance the reduction of carbon emissions now, but would also ensure the viability of liquid fuels in the future. | compname reports q2 loss per share of $0.06.
q2 loss per share $0.06. |
Let me also remind you that CVR Partners completed a 1-for-10 reverse split of its common units on November 23, 2020.
Before I get into our results, I wanted to make a few comments about some exciting developments.
While we believe fossil fuels will certainly be necessary for many years to come, we recognize that renewable fuels are important part of the future.
For this reason, we've began exploring utilizing excess hydrogen capacity at our refineries for renewable diesel production nearly two years ago and have invested nearly $150 million since on those initiatives.
We believe we are uniquely positioned given our transportation logistical connection to the farm belt, and we intend to be in the forefront of this green revolution.
We have made progress on several fronts since our last call and are accelerating our efforts with the Board's recent approval of the feed pretreater at Wynnewood at an estimated cost of $60 million.
I'll provide more details later in the call.
Yesterday, we reported third quarter consolidated net income of $106 million and earnings per share of $0.83.
EBITDA for the quarter was $243 million.
Our facilities ran well during the quarter and continue to strengthen prices for refined products and Nitrogen Fertilizer led to both segments once again posting increases in EBITDA year-over-year.
For our Petroleum segment, the combined total throughput for the third quarter of '21 was approximately 211,000 barrels per day as compared to 201,000 barrels per day in the third quarter of 2020, which was impacted by some weather-related power outages.
Both refineries ran well during the quarter and we continue to process WCS at our Coffeyville refinery due to weak WCS prices in Cushing.
Benchmark cracks increased through the quarter despite elevated RIN prices.
The Group 3 2-1-1 crack averaged $20.50 per barrel in the third quarter as compared to $8.34 in the third quarter of '20.
Based on the 2020 RVO levels, RIN prices averaged approximately $7.31 per barrel in the third quarter, an increase of 177% from the third quarter of 2020.
The Brent-TI differential averaged $2.71 per barrel in the third quarter compared to $2.42 in the prior year period.
Light product yield for the quarter was 100% on crude oil processed.
We continue to optimize refinery operations to ensure maximum capture via maximizing production of distillate and higher margin products, LPG recovery and RINs generation.
In total, we gathered approximately 112,000 barrels per day of crude oil during the third quarter of '21 compared to 124,000 barrels per day in the same period last year.
We continue to see some declines in production across our system due to limited drilling activity, although our gathering rates of state of head of overall decline rates across the Anadarko Basin.
Some rigs were added in both Oklahoma and Kansas over the past few months, but drilling activity has been slower to increase than we would have expected.
In the Fertilizer segment, both plants ran well during the quarter with a consolidated ammonia utilization of 94%.
The rally in fertilizer prices that began earlier this year and continued to the third quarter with prices breaking normal seasonal patterns and continue to rise through the summer.
With low fertilizer inventories and continued strong demand for crop inputs, the outlook remains positive for our Fertilizer segment.
For the third quarter of 2021, our consolidated net income was $106 million, earnings per share was $0.83 and EBITDA was $243 million.
Our third quarter results include a positive mark-to-market impact on our estimated outstanding RIN obligation of $115 million, unrealized derivative gains of $22 million and favorable inventory valuation impacts of $8 million.
As a reminder, our estimated outstanding RIN obligation is based on the 2020 RVO levels and excludes the impact of any waivers or exemptions.
Excluding the above mentioned items, adjusted EBITDA for the quarter was $99 million.
The Petroleum segment's adjusted EBITDA for the third quarter of 2021 was $43 million compared to breakeven adjusted EBITDA for the third quarter of 2020.
The year-over-year increase in adjusted EBITDA was driven by higher throughput volumes and increased product cracks offset by elevated RIN prices and realized derivative losses.
In the third quarter of 2021, our Petroleum segment's reported refining margin was $15.03 per barrel.
Excluding favorable inventory impacts of $0.41 per barrel, unrealized derivative gains of $1.17 per barrel, and the mark-to-market impact of our estimated outstanding RIN obligation of $5.94 per barrel, our refining margin would have been approximately $7.51 per barrel.
On this basis, capture rate for the third quarter of 2021 was 37% compared to 55% in the third quarter of 2020.
RINs expense excluding mark-to -market impacts reduced our third quarter capture rate by approximately 26% compared to a 22% reduction in the prior period.
In total, RINs expense in the third quarter of 2021 was a benefit of $16 million or $0.81 per barrel of total throughput, compared to $36 million, or $1.96 per barrel of expense for the same period last year.
Our third quarter RINs expense was reduced by $115 million from the mark-to-market impact on our estimated RFS obligation, which was mark-to-market at an average RIN price of $1.31 at quarter end compared to $1.67 at the end of the second quarter.
Third quarter RINs expense excluding mark-to-market impacts was $99 million compared to $35 million in the prior year period.
Our estimated RFS obligation at the end of the third quarter approximates Wynnewood's obligations for 2019 through the first nine months of 2021 as we continue to believe Wynnewood's obligation should be exempt under the RFS regulation.
For the full year of 2021, we forecast an obligation based on 2020 RVO levels of approximately 270 million RINs, which does not include the impact of any waivers or exemptions.
Derivative losses for the third quarter of 2021 totaled $12 million, which includes unrealized gains of $22 million, primarily associated with crack spread derivatives.
In the third quarter of 2020, we had total derivative gains of $5 million, which included unrealized gains of $1 million.
As a September 30th, we have closed all of our outstanding crack spread derivative positions.
The Petroleum segment's direct operating expenses were $4.52 per barrel in the third quarter of 2021 as compared to $4.17 per barrel in the prior year period.
The increase in direct operating expenses was driven primarily by a combination of higher natural gas costs and higher stock-based compensation due to the increase in share price.
For the third quarter of 2021, the Fertilizer segment reported operating income of $46 million, net income of $35 million or $3.28 per common unit and EBITDA of $64 million.
This is compared to third quarter of 2020 operating losses of $3 million and net loss of $19 million or $1.70 per common unit and EBITDA of $15 million.
There were no adjustments to EBITDA in either period.
The year-over-year increase in EBITDA was primarily driven by higher UAN and ammonia sales prices.
The partnership declared a distribution of $2.93 per common unit for the third quarter of 2021.
As CVR Energy owns approximately 36% of CVR Partners' common units, we will receive a proportionate cash distribution of approximately $11 million.
Total capital spending for the third quarter of 2021 was $38 million, which included $12 million from the Petroleum segment, $7 million from the Fertilizer segment and $19 million on the renewable diesel unit.
Environmental and maintenance capital spending comprised $15 million, including $12 million in the Petroleum segment and $3 million in the Fertilizer segment.
We estimate total consolidated capital spending for 2021 to be approximately $208 million to $223 million, of which approximately $66 million to $73 million is expected to be environmental and maintenance capital.
Our consolidated capital spending plan excludes planned turnaround spending, which we estimate will be approximately $4 million for the year and preparation for the planned turnarounds at Wynnewood in 2022 and Coffeyville in 2023.
Cash provided by operations for the third quarter of 2021 was $139 million and free cash flow was $76 million.
During the quarter, we paid cash taxes of $67 million, which was partially offset by the receipt of a $32 million income tax refund related to the NOL carryback provisions of the CARES Act.
Other material cash uses in the quarter included $31 million for interest, $15 million for the partial redemption of CVR Partners' 2023 senior notes and $11 million for the non-controlling interest portion of the CVR Partners' second quarter distribution.
Turning to the balance sheet.
At September 30th, we ended the quarter with approximately $566 million of cash.
Our consolidated cash balance includes $101 million in the Fertilizer segment.
As a September 30th, excluding CVR Partners, we had approximately $680 million of look liquidity, which was primarily comprised of approximately $469 million of cash and availability under the ABL of approximately $370 million, less cash included in the borrowing base of $160 million.
Looking ahead to the fourth of 2021 for a Petroleum segment, we estimate total throughput to be approximately 210,000 to 230,000 barrels per day.
We expect total direct operating expenses to range between $90 million and $100 million and total capital spending to be between $26 million and $30 million.
For the Fertilizer segment, we estimate our fourth quarter 2021 ammonia utilization rate to be between 90% and 95%.
Direct operating expenses to be approximately $45 million to $50 million, excluding inventory in turn around impacts and total capital spending to be between $9 million and $12 million.
In summary, refinery market fundamentals have steadily improved since summer, and the cracks have responded accordingly.
We also saw some relief for the out-of-control prices for RINs, although prices have risen as the market continues to wait for EPA to act on settling and/or revising RVOs for 2021 and 2022, as well as issuing small refinery exemptions.
Looking at the current market remained cautiously optimistic based on the fundamentals we see.
Starting with crude oil, OPEC is clearly in the driver seat from a crude price standpoint, inventories have dropped in the US and across the world and backwardation is firmly in place around $12 a barrel over the next year.
While we expect to see shale oil production improving at $80 crude, additional Canadian production has been slow to develop despite additional takeaway capacity.
Recently, we've seen the tightening of the Brent-TI spread as Cushing inventories declined due to shale oil production declines in the Bakken, DJ.
Basin and the Anadarko Basin.
We continue to believe the redemption of shale oil production growth will be key to a sustained widening in the Brent-TI differential.
Moving to refined products.
Demand is largely returned to pre-COVID levels, including demand for jet fuel, which has improved significantly over the past month.
Refined product inventories are generally near five-year -- below five-year averages, partially due to some of the downtime on the Gulf Coast from Hurricane Ida.
Imports of gasoline and diesel remain high and gasoline exports are back above pre-COVID levels, although distillate exports remain low.
Looking at crack spreads, distillate cracks are finally coming back and the forward curve is in Contango despite backwardation of crude oil.
The question now is whether the benefits of IMO 2020 will come back into play.
And that ultimately depends on the shipping, which has been depressed.
One area of our business that generally does not get much attention, but is experiencing a significant improvement is our fertilizer business.
Fertilizer market this year is seeing a combination of supply and demand impacts that have had a tremendous effect on pricing.
On the demand side of the equation, low inventories for corn and soybeans have pushed grain prices higher this year and increased demand for crop inputs.
Meanwhile, domestic production of fertilizer has been lower than normal due to plant shutdowns during Winter Storm Uri, heightening turnaround activity in the summer and additional facility shutdowns during Hurricane Ida.
Meanwhile, the energy crunch in Asia and Europe have caused fertilizer facilities to shut-in further reducing available supplies across the globe.
As a result, we saw our third quarter sales price for ammonia and UAN more than doubled from a year ago levels, and the prices have continued to increase through the fall.
At this point, we think customers are not so concerned -- not so much worried about pricing as they are about actually being able to get supply.
The outlook for the nitrogen fertilizer market is very positive through the next year and we are happy to have our 36% ownership in CVR Partners common units.
Turning back to renewables.
As I mentioned earlier, we believe the location of our refineries and fertilizer facilities provide us with unique benefits and that we've made progress on several fronts since our last call.
First, we are ready to complete the final steps of the conversion of the Wynnewood hydrocracker to renewable diesel service.
Given the weakness in soybean oil-based renewable diesel margins over the summer, we elected to keep the unit in traditional petroleum service as refinery margins have been considerably higher.
With the recent increase in crude oil and diesel prices, the HOBO spread has improved and the basis for refined bleached and deodorized soybean oil and corn oil has subsided.
Our current plan is to move the planned turnaround at Wynnewood to the spring of next year, during which we will finish the hydrocracker conversion with completion and start-up of this renewable diesel unit expected in mid-April.
Second, we are progressing the development of our pre-treater unit at Wynnewood that should allow us to run a wider variety of lower carbon-intensity feedstocks that should generate additional low carbon fuel standard credits.
Long lead equipment for this pre-treater unit is on order and it is critical path for the project to be completed.
The Board has approved the project and we are currently estimating completion late in the fourth quarter of 2022 at a capital investment of approximately $60 million.
Third, on the Coffeyville project, Schedule A engineering is in process for the renewable diesel conversion with an expected annual capacity of approximately 150 million gallons of renewable fuel per year with an option of up to 25 million gallons of that amount to be sustainable aviation fuels should regulations support it.
And fourth, our fertilizer business is progressing its efforts toward monetizing 45Q tax credits for carbon capture and sequestration through enhanced oil recovery activities that are already taking place at its Coffeyville facility.
It also continues to explore the production of ammonia certified blue at both of its facilities.
In conjunction with all of this, we are currently evaluating breaking out the renewable business as a separate entity.
This could potentially provide us with more opportunity to access a greater pool of investors and financing or potentially position us to take advantage of changes in law that benefits renewable.
Although, we are still in the early innings of developing our renewable diesel business, we are taking a long-term view and want to prepare for the future as we look to scale up the business.
With the potential production of renewable diesel at both refineries, sustainable aviation production at Coffeyville, carbon capture opportunities and other potentials for blue hydrogen production, we believe we have a fairly long runway for developing an impactful business in the green energy space.
Our goal is to decarbonize our refining business by growing our renewables business while supplying our customers with competitive fuels they need.
Looking at the fourth quarter of 2021, quarter-to-date metrics are as follows: Group 3 2-1-1 cracks have averaged $19.24 with RINs averaging $6.77 on a 2020 RVO basis.
The Brent-TI spread has averaged $2.52 with the Midland Cushing differential at $0.31 over WTI and the WTI differential at $0.19 per barrel over Cushing WTI, and the WCS differential of $13.56 per barrel under WTI.
Forward ammonia prices have increased to over a $1,000 per ton, while UAN prices are over $500 a ton.
As of yesterday, Group 3 2-1-1 cracks were $15.65 per barrel, the Brent-TI was $0.66 per barrel and the WCS was $15.10 under WTI.
On the 2020 RVO basis, RINs were approximately $6.26 per barrel.
As I mentioned earlier, we saw some brief relief in RIN prices in September when rumors circulated about a potential reduction in the 2020 RVO and 2021 RVO that would be set below the original 2020 level.
The net effect of these actions if taken would decouple D6s and D4s RINs and immediately rebuild the RIN bank, which has been severely depleted.
We believe resetting the RVO at more realistic levels that deemphasizes D6 in favor of D4s, which actually goes much further to reducing carbon emissions is an appropriate step to make.
We also continue to believe that small refineries that face disproportionate economic harm in compliant with RFS are entitled to relief through small refinery exemptions.
We have submitted applications for Wynnewood for 2019, 2020 and 2021, and see no reason EPA should not grant those exemptions as they have in the past years. | q3 earnings per share $0.83. |
Let me also remind you that CVR Partners completed a 1-for-10 reverse split of its common units on November 23, 2020.
I'd like to begin today's call with a brief discussion of our accomplishments in 2020, then discuss our operating performance for the quarter as well as for the year.
2020 was a challenging year for United States, our industry and our company.
That the pandemic shut down the country and reduced demand for refined products and were forced to adjust our strategy and adapt to the conditions we were presented.
Despite these challenges of the year, we have a number of accomplishments worth highlighting.
We maintained safe, reliable operations and back office functions during the COVID crisis.
We successfully completed $1 billion notes offering in January of 2020, which have provided us with additional cash and liquidity at attractive rates.
We completed a major planned turnaround at our Coffeyville refinery during the beginning of the COVID crisis and deferred turnarounds at Wynnewood, in both fertilizer plants.
We completed an ERP modernization project on time and on budget.
We realigned our business strategy with a focus toward sustainability, with Board approval -- with the Board-approved renewable diesel project at the Wynnewood.
We planned to reduce refining capacity and retool for renewable diesel production, while also transitioning to a lighter gravity-gathered crudes at our refineries.
While we intend to maintain our current capabilities in refining, we are focusing new investments toward growing our renewable diesel business and reducing our carbon footprint.
We achieved significant reductions in SG&A operating costs, capital expenditures companywide, exceeding our goal of $50 million annual reduction in SG&A and operating expenses.
We announced the acquisition of Blueknight Energy's crude oil pipeline assets in Oklahoma, which closed in early February and expands our crude gathering reach at the wellhead.
We evaluated multiple acquisitions in PADD IV, but maintained our capital discipline and refused to overpay for assets when we felt the bid-ask spread was still too wide.
In our trucking business, we began hauling LPGs to our plants to reduce costs.
We appealed the misguided Tenth Circuit Court ruling to the Supreme Court, which has agreed to review the case.
Earlier today, CVR Partners' CEO, Mark Pytosh announced the following accomplishments for our Fertilizer segment in 2020.
Record ammonia production of 852,000 tons between the two plants, posting a combined utilization of 95% for the year.
Certification of CVR Partners' first ever carbon offset credits as a result of nitric oxide abatement efforts and our long-term air separation contract with Messer was renewed with favorable conditions, including the addition of a new oxygen surge tank, which will further improve reliability of our gas fired Coffeyville.
Yesterday, we reported CVR Energy's full year and fourth quarter results for the full year of 2020.
We reported a net loss of $320 million and a loss of $2.54 per share.
For the fourth quarter, we reported a net loss of $78 million and loss per share of $0.67.
EBITDA for the year was a negative $7 million and for the quarter was a positive $1 million.
Weaker crack spreads, as a result of demand destruction from the pandemic and dramatically higher RIN prices weighed heavy on our results for the full year and the quarter.
The market remains volatile and uncertain, particularly in regard to RIN prices, which currently consume a significant portion of the refining margin available in the market.
As a result, the Board of Directors did not approve a dividend for the fourth quarter of 2020.
On the last few earnings calls, I've discussed our focus on preserving our balance sheet and liquidity position in light of the ongoing pandemic as well as potential acquisition opportunities that we were evaluating.
Although we got far down the path on a number of acquisitions that we viewed as attractive, ultimately the bid-ask spread proved to be too wide.
And at this time, there are no active discussions on these potential transactions.
We've also made it clear that we do not currently have any interest in acquiring Delek.
Although as its largest shareholder, we continue to see the stock as undervalued and have some suggested actions Delek should take to improve its business.
We also notified Delek of our intent to nominate three directors for election to Delek's Board in it's upcoming Annual Meeting.
As we get more visibility into the sustained rebound in the refining market, we continue our discussions with the Board around the appropriate level of cash return to shareholders and in what form.
At current trading levels, there could be more value in buying back our own shares.
For the Petroleum segment, the combined total throughput for the fourth quarter of 2020 was approximately 219,000 barrels per day as compared to 213,000 barrels per day for the fourth quarter of 2019.
Both the facilities ran well during the quarter.
Although the total throughput remained constrained by light naphtha processing capabilities, as narrow crude differentials continue to favor running light -- very light crude slate.
Across the board, benchmark cracks and crude differentials deteriorated significantly from the year-ago.
Group 3 2-1-1 crack spreads averaged $8.44 per barrel in the fourth quarter of 2020.
However, RINs consumed 40% of that at approximately $3.50 per barrel.
The Group 3 2-1-1 averaged $16.65 per barrel in the fourth quarter of 2019, when RINs were only a $1.15 per barrel.
The Brent TI differential averaged $2.49 per barrel in the fourth quarter compared to $5.55 in the prior year period.
The Midland Cushing differential was $0.37 over WTI in the quarter compared to $0.94 over WTI in the fourth quarter of 2019.
And the WCS to WTI crude differential was a low $11.44 per barrel compared to $18.89 per barrel in the same period last year.
Light product yield for the quarter was 103% on crude oil processed.
Our distillate yield as a percentage of total crude oil throughputs was 44% in the fourth quarter of 2020 consistent with prior year period.
In total, we gathered approximately 117,000 barrels per day during the fourth quarter of 2020 as compared to 148,000 barrels per day for the same period last year.
Our current gathering volumes are approximately 130,000 barrels per day, including the volumes on the pipelines we have recently acquired from Blueknight.
In the Fertilizer segment, we had a strong ammonia utilization at both of our facilities during the quarter, at 99% at Coffeyville and 103% at East Dubuque.
Although fertilizer prices remained soft in the fourth quarter, year-over-year production and sales volumes were higher for both UAN and ammonia.
With rally the in crop prices over the past few months, farmer economics have improved considerably and this is driven higher demand for crop inputs.
As a result, UAN and ammonia prices have increased significantly since the beginning of the year, and the outlook for spring planting currently looks favorable.
Our consolidated fourth quarter net loss of $78 million and loss per diluted share of $0.67 includes a mark-to-market gain of $54 million related to our Delek investment, and favorable inventory valuation impacts of $15 million.
Excluding these impacts, our fourth quarter 2020 loss per diluted share would have been approximately $1.18.
The effective tax rate for the fourth quarter of 2020 was 23% compared to 40% for the prior year period.
As a result of our net loss for the full year 2020 and in accordance with the NOL carry-back provisions of the CARES Act, we currently anticipate an income tax refund of $35 million to $40 million.
The Petroleum segment's EBITDA for the fourth quarter of 2020 was a negative $66 million compared to a positive $135 million in the same period in 2019.
The year-over-year EBITDA decline was driven by significantly narrower crack spreads and elevated RINs prices.
Excluding inventory valuation impacts of $15 million, our Petroleum Segment EBITDA would have been a negative $81 million.
In the fourth quarter of 2020, our Petroleum segment's refining margin, excluding inventory valuation impact was $0.56 per total throughput barrel compared to $11.86 in the same period in 2019.
The increase in crude oil and refined product prices through the quarter generated a positive inventory valuation impact of $0.76 per barrel during the fourth quarter of 2020.
This compares to a $0.61 per barrel positive impact during the same period last year.
Excluding inventory valuation impact and unrealized derivative losses, the capture rate for the fourth quarter of 2020 was approximately 20% compared to 79% in the prior year period.
The most significant item impacting our capture rate for the quarter was elevated RINs prices, which reduced margin capture by approximately 71%.
Derivative losses for the fourth quarter of 2020 totaled $15 million, including unrealized losses of $23 million associated with Canadian crude oil and crack spread derivative.
In the fourth quarter of 2019, we had derivative losses of $19 million, which included unrealized losses of $24 million.
RINs expense in the fourth quarter of 2020 was $120 million or $5.97 per barrel of total throughput, compared to $13 million for the same period last year.
Our fourth quarter RINs expense was impacted by $64 million from this mark-to-market impact on our accrued RFS obligation, which was mark-to-market at an average RIN price of $0.89 at year end and other market activities.
The full year 2020 RINs expense was $190 million as compared to $43 million in 2019.
For 2021, we forecast a net obligation from refining operations of approximately $280 million RINs adjusted for our expected internal blending volumes.
We also expect to generate approximately $90 million D4 RINS from renewable diesel in the second half of the year, bringing our net RIN obligation for 2021 to approximately $190 million RINs.
RINs expense for 2021 is expected to be comprised of the cost of this anticipated $190 million RIN obligation, as well as any necessary mark-to-market on any remaining accrued RFS obligation.
Subsequent to year end, we have reduced our 2020 RINs obligation by approximately 8%.
The Petroleum segment's direct operating expenses were $3.99 per barrel of total throughput in the fourth quarter of 2020 as compared to $4.63 per barrel in the fourth quarter of 2019.
For the full year 2020, we reduced operating expenses and SG&A costs in the Petroleum segment by approximately $62 million compared to the full year of 2019.
The reduction in full year operating expenses and SG&A costs were a direct result of our cost savings initiative, most of which we believe should be sustainable going forward.
For the fourth quarter of 2020, the Fertilizer segment reported operating loss of $1 million and a net loss of $17 million, or $1.53 per common unit, and EBITDA of $18 million.
This is compared to a fourth quarter 2019 operating loss of $9 million, a net loss of $25 million, or $2.20 per common unit, and EBITDA of $11 million.
The year-over-year EBITDA improvement was primarily due to higher sales volume and lower operating and turnaround expenses offset somewhat by lower prices for UAN and ammonia.
For the full year 2020, we reduced operating expenses and SG&A costs in the Fertilizer segment by over $23 million compared to the full year of 2019.
During the quarter, CVR Partners completed a 1-for-10 reverse split and repurchased nearly 394,000 of its common units for approximately $5 million.
In total, CVR Partners repurchased over 623,000 of its common units for $7 million in 2020, and the Board of Directors of CVR Partners' general partner has approved an additional $10 million unit repurchase authorization.
Total units outstanding at the end of 2020 were 10.7 million, of which CVR Energy owns approximately 36%.
The Partnership did not declare distribution for the fourth quarter of 2020.
The total consolidated capital spending for the full year of 2020 was $121 million, which included $90 million from the Petroleum segment, $16 million from the Fertilizer segment and $12 million for the Renewable Diesel Project at Wynnewood.
Of this total, environmental and maintenance capital spending comprised $92 million, including $77 million in the Petroleum segment and $12 million in the Fertilizer segment.
Actual spending for the year came in at the low end of our expected range as a result of canceling or shifting certain projects into the future.
We estimate the total consolidated capital spending for 2021 to be $215 million to $230 million, of which $115 million to $125 million is expected to be environmental and maintenance capital and $95 million to $100 million is related to the Renewable Diesel Project.
Our consolidated capital spending plan excludes planned turnaround spending, which we estimate will be approximately $11 million for the year in preparation of the planned turnaround at Wynnewood and Coffeyville in 2022.
Cash provided by operations for the fourth quarter of 2020 was $28 million and free cash flow in the quarter was $4 million.
Working capital was a source of approximately $105 million in the quarter due primarily to an increase in our accrued RFS obligation.
For the year, cash from operations was $90 million and free cash flow was a use of $193 million.
In addition, in January 2020, we refinanced and upsized our notes, which generated a net $489 million of cash.
Turning to the balance sheet, we ended the year with approximately $667 million of cash, a slight increase from the prior year.
Our consolidated cash balance includes $31 million in the Fertilizer segment.
As of December 31st, excluding CVR Partners, we had approximately $929 million of liquidity, which was comprised of approximately $637 million of cash, securities available for sale of $173 million, and availability under the ADL of approximately $365 million, less cash included in the borrowing base of $246 million.
Looking ahead to the first quarter of 2021, our Petroleum segment -- for our Petroleum segment, we estimate total throughput to be approximately 185,000 -- excuse me, to 190,000 barrels per day.
Due to the extreme winter weather and natural gas and power curtailments over the past two weeks, our Coffeyville and Wynnewood refineries both ran at reduced rates.
We currently anticipate resuming normal operations at both facilities by the end of the month.
We expect total direct operating expenses for the first quarter to be $95 million to $105 million and total capital spending to range between $65 million and $75 million.
For the Fertilizer segment, despite reducing operating rates that used to be last week due to the extreme weather conditions and natural gas pricing, we estimate our ammonia utilization rate to be greater than 90% for the quarter.
We expect direct operating expenses to be $35 million to $40 million excluding inventory impacts and total capital spending to be between $4 million and $7 million.
In summary, 2020 was a very challenging year, but we were able to navigate through this difficult environment and we believe we are well positioned to capitalize on any eventual upswing in market.
Our mission remains to be a top-tier North American refining and fertilizer company, as measured by safe, reliable operations, superior financial performance and profitable growth.
Looking at 2021, cracks have improved to start the year, although most of the increase is being consumed by out-of-control prices for RINs.
While vaccines are encouraging, so far we've not seen any meaningful increase in demand for refined products.
Domestic inventories are generally balanced, but utilization is still low and starting to increase without a corresponding pickup in demand.
In the near-term, our outlook remains cautiously optimistic based on the market fundamentals that we see.
Starting with crude oil, we've drawn down about 50% of the excess crude oil inventories worldwide.
Shale oil production is still declining, but drilling is starting to increase.
Crude differentials are still narrow, but Brent-TI spread has widened some, and backwardation is firmly in place supported by declines in inventories and the action takes -- taken by the Saudis.
Moving on to refined products, gasoline demand is down approximately 1 million barrels per day and vehicle miles traveled are showing declines.
Jet demand remains low mainly due to little international travel.
Domestic demand is approaching five-year averages.
US inventories are near five-year averages, but still high overall, while inventories and demand in the Magellan system are near normal.
Exports are weak and imports are high.
RINs are ridiculous, approaching $5 per barrel, putting RINs cost above operating costs.
Looking at cracks, cracks have been trending up, but fairly keeping up with RINs.
Diesel cracks are in contango, and the domestic refining utilization is still low at 83%.
We believe cracks will remain relatively weak until demand supports utilization in the 90% plus level.
The question is, what happens to RINs going forward?
Right now, the industry is not generating sufficient free cash flow from refinery operations at these conditions considering sustaining capital requirements and turnaround spending.
Crack spreads and RIN prices are unsustainable at these levels over the long term.
We believe we need to see more rationalization of capacity in order to see sustained moving -- sustained move higher in cracks.
Today, we have seen approximately 5 million barrels per day and announced between permanent shutdowns, temporary idling and potential closures worldwide, with $1.1 million of that in the United States.
While we remain cautiously optimistic on the market in the near- term, we continue on to focus on what we can control to put us in the best position to take advantage of any improved market.
Safe, reliable operations remains a key focus for us as a company.
We'll will continue to work to minimize capital spending on our refining system, other than what we consider critical to safe, reliable operations, and remain compliant with at the book regulations.
We are in the process of integrating our crude oil pipeline assets we acquired from Blueknight and working to maximize our value to our systems by reducing our purchases of Cushing common.
We are executing on our renewable diesel strategy.
Our primary focus now is on getting Phase 1 mechanically complete.
We are currently in construction.
We have everything ordered.
We remain generally on schedule, although it is tight.
As we move through construction, we will focus on completing soybean oil procurement and renewable diesel marketing agreements.
Next, we will begin development of Phase II, which would involve adding pre-treatment.
We are currently evaluating different technologies and considering where we could build the unit and what capacities.
We could potentially have a pre-treatment unit installed by the end of 2022 or sooner if we go through third-party, subject to Board and other approvals.
We also -- we will also begin planning for the potential Phase III at Coffeyville.
We will most likely wait until the first wave of large renewable diesel products are completed to see where the market goes before making a final decision on Phase III.
We continue to believe that renewable diesel become a commodity over time and that there is a clear advantage will be in an early mover.
For the Fertilizer segment, we are more optimistic on the near-term outlook.
Corn prices have rallied over 50% since October, significantly improving farmer economics and driving demand for crop inputs higher.
We believe prices for the nitrogen fertilizers likely bottomed in 2022 and we currently expect demand for UAN and ammonia to be strong in 2021.
The NOLA urea price has continued to increase as LNG and natural gas prices overseas have surged.
As the business has improved in this credit market to strengthen, we intend to focus on potential refinancing of CVR Partners' senior notes at much lower cost.
Looking at the first quarter of 2021, quarter-to-date metrics are as follows: Group 3 2-1 [Phonetic] Group 3 2-1-1 cracks have averaged $12.77 per barrel, with the Brent TI spread of $3.11 per barrel, and the Midland Cushing differential was $1.5 over WTI.
WTL differential has averaged $0.71 per barrel over WTI.
And the WCS differential has averaged $12.60 per barrel under WTI.
Corn and soybean prices have increased significantly and fertilizer prices have responded.
Ammonia prices have increased to over $400 a ton, while UAN prices are $250 dollars per ton.
Renewable diesel margins have averaged $1.31 per gallon, quarter-to-date, based on soybean oil with the carbon intensity of 60, and includes RINs, blenders tax credit, and low carbon fuel standard credit.
As of yesterday, Group 3 2-1-1 cracks were $17.77 per barrel.
Brent TI was $3.67 and WCS was $12.85 under WTI.
Although benchmark cracks have improved, as I mentioned earlier, most of this move was associated with increase in prices.
Quarter-to-date, ethanol RINs have averaged toward $0.94 and biodiesel RINs have averaged $1.5.
In January of 2020, ethanol RINs averaged $0.16 and biodiesel RINs averaged $0.40, a nearly six-fold increase in the price of ethanol RINs in one year should be clear evidence as the RFS program is broken.
EPA's refusal to rule on outstanding small refinery waivers for 2019 and '20, while failing to issue a renewable volume obligation for 2021 despite their legal obligations are significant factors in driving what we've seen over the past year in the RINs market.
We are encouraged that the Supreme Court decided to hear the appeal of the misguided Tenth Circuit ruling, and we do not believe they would have taken the case if they did not have serious questions about the ruling.
The original intent of the RFS regulation was that small refinery waiver could be applied for at any time.
We had an accrued RFS obligation at the end of 2020, which approximates our 2019 and 2020 obligations at Wynnewood, for which waivers have been applied.
Without the mark-to-market effect of this position, our capture rate would have been higher by 38% for the quarter. | q4 loss per share $0.67.
q4 sales $1.1 billion versus refinitiv ibes estimate of $1.19 billion. |
I'm Roderick Green, GM of investor relations.
Our chairman and CEO, Mike Wirth; and CFO Pierre Breber, are on the call with me.
Please review the cautionary statement on Slide 2.
After the challenges of 2020, we began last year clear-eyed about the economic realities we faced and at the same time optimistic about an eventual recovery.
By the end of 2021, we had one of our most successful years ever with return on capital employed approaching 10%, our highest since 2014; the successful integration of Noble Energy, while more than doubling initial synergy estimates; and record free cash flow, 25% greater than our previous high.
2021 was also the year when Chevron accelerated our efforts to advance a lower carbon future by forming Chevron New Energies, an organization that aims to grow businesses in hydrogen, carbon capture and offsets; introducing a 2050 net zero aspiration for upstream scope one and two emissions and establishing a portfolio carbon intensity target that includes scope three emissions and more than tripling our planned lower carbon investments.
Chevron is an even better company today than we were just a few years ago.
We're showing it through our actions and our performance, which we expect to drive higher returns and lower carbon.
And we intend to keep getting better.
Our record free cash flow enabled us to strongly address all four of our financial priorities in 2021: a higher dividend for the 34th consecutive year; a disciplined capital program, well below budget; significant debt paydown with a year-end net debt ratio comfortably below 20% and another year of share buybacks, our 14th out of the past 18 years.
I expect 2022 will be even better for cash returns to shareholders with another dividend increase announced this week and first quarter buybacks projected at the top of our guidance range.
We're optimistic about the future, focused on continuing to reward our shareholders while investing to grow our businesses and maintaining a strong balance sheet.
We made the most of this challenging period, transforming Chevron through a well-timed acquisition and an enterprisewide restructuring into a leaner and more productive company.
In just two years, capex was reduced by almost half from Chevron and Noble's pre-COVID total.
And operating expenses for the combined company in 2021 were lower than for Chevron on a stand-alone basis in 2019.
The Noble acquisition and increasing capital efficiency enabled us to maintain a five-year reserve replacement ratio above 100%.
And 2021 was very consistent with that longer-term performance, driven primarily by additions in the Permian, Gulf of Mexico and Australia and partly offset by lower reserves in Kazakhstan, mostly due to higher prices and their negative effect on our share of reserves.
For more on our strong financial performance, over to Pierre.
We reported fourth quarter earnings of $5.1 billion or $2.63 per share.
Adjusted earnings were $4.9 billion or $2.56 per share.
The quarter's results included three special items: asset sale gains of $520 million, primarily on sales of mature conventional assets in the U.S.; losses on the early retirement of debt of $260 million, which will result in significant future interest cost savings and pension settlement costs of $82 million.
Full year earnings were over $15 billion, the highest since 2014.
Compared with 3Q, adjusted 4Q earnings were down $770 million.
Adjusted upstream earnings were flat, with higher realizations offset primarily by negative LNG trading timing effects and higher DD&A.
DD&A increased on catch-up depreciation for our interest in North West Shelf, which no longer meets asset held-for-sale criteria and impairments of certain late in life assets triggered by updated abandonment estimates.
Other items include additional taxes and royalties related to higher prices under certain international contracts.
Adjusted downstream earnings were down with lower chemicals margins and volumes at CPChem and GS Caltex, in addition to year-end inventory charges.
The all other segment declined due to tax charges.
Across all segments, operating expenses increased in part due to higher accruals for employee bonuses and stock-based compensation.
Adjusted earnings increased over $15 billion compared to the prior year, primarily due to increased realizations in upstream as well as improved refining and chemicals margins.
Costs were up primarily on the acquisition of Noble Energy that closed in 4Q 2020, higher fuel costs and an unfavorable swing in accruals for employee benefits.
2022 production is expected to be flat to down 3% due to expiration of contracts in Indonesia and Thailand.
These contracts are not being extended as we were unable to do so on terms competitive with our alternatives.
Excluding contract expirations and 2022 asset sales, we expect a 2% to 5% increase in production led by the Permian and lower turnaround activity in TCO and Australia.
We reaffirm our prior long-term guidance of a 3% production CAGR through 2025, and we'll share more about our long-term outlook at our upcoming Investor Day.
I'll call out a few items on Slide 11.
Full year guidance for the all other segment excludes special items such as pension settlement costs.
The all other segment can vary quarter to quarter and year to year.
Affiliate dividends are expected to be between $2 billion and $3 billion, depending primarily on commodity prices and margins.
We do not expect any additional lending or loan repayments this year at TCO.
Finally, asset sale proceeds are expected to be in line with historical averages.
We've updated our price sensitivities to include natural gas.
Also, our guidance for both earnings and cash flow sensitivities is now the same as we're likely to consume the remainder of our NOLs and other favorable tax attributes if prices remain higher.
Finally, we did not receive our federal income tax refund last quarter and expect it later this year.
I believe 2021 was a pivotal year for Chevron, where we got better in so many ways.
And we look forward to 2022 and beyond confident in our strategy and capabilities that aim to deliver higher returns and lower carbon.
We'll share more during our Investor Day on March 1.
At this time, we expect to be at the New York Stock Exchange with a limited number of participants.
[Operator instructions] Jen, please open the line. | chevron q4 earnings per share $2.63.
q4 adjusted earnings per share $2.56.
q4 earnings per share $2.63. |
As a reminder, before we begin, the Company has a slide deck to accompany the earnings call this quarter.
Because these statements deal with future events, they are subject to various risk and uncertainties and actual results could differ materially from the Company's current expectations.
I'm going to pass it over to Tom to begin.
I'm going to tie my comments to the slide deck and I'm going to start on Slide five, which is the results table and comparative 2020 through -- to 2021.
Our operating revenue for the quarter was up to a $147.7 million from $125.6 million in the first quarter of 2020 and we'll talk about the reasons for that in a moment.
And our net loss decreased from $20.3 million to $3 million, as well as our earnings per share, loss per share rather went from $0.42 loss to a $0.06 loss for the quarter.
Capital investments, I'll point out on this slide, were up very slightly and according to our plan.
And then switching to Slide six, our financial highlights.
So as we mentioned -- as I mentioned a moment ago, the net loss decreased by $17.3 million and that was primarily the result of the adoption of the California General Rate Case late last year.
So we had a couple of different factors associated with that.
The first was obviously, the rate increases associated with that, that added $4 million of revenue.
In addition to that, if you'll recall back in the 2020 first quarter, we did not recognize our balancing mechanisms that's WRAM and the MCBA coupling mechanisms, as well as our pension and healthcare balancing accounts.
And by recognizing them here in the first quarter of 2021 as they were continued and adopted in the rate case.
We're adding $7.6 million of revenue associated with that.
We did have as you'd expect increases in our other operations, depreciation and associated costs and that offset somewhat the revenue increases from the rate case as well as the recognition of the mechanisms.
As we have mentioned at year-end, our AFUDC equity that's the funds used during construction -- the equity funds used during construction is lower and as a result of a lower amount of construction work in progress during 2020, we had a significant capital project associated with the Palos Verdes Peninsula Water Reliability Project and that was adding to our AFUDC equity all year.
So we're expecting to see lower AFUDC equity here in the quarter, it was down about $1 million.
I mentioned is up slightly.
We believe we're on target for capital for the year.
And then two other items that are outside of our general control, but I did want to mention because they are fairly significant in the quarter.
The market value of certain of our retirement plan assets was in -- so the market value increased $0.3 million as compared to a loss of $4.7 million in the first quarter of 2020.
So kind of a return to normal for that -- for that item [Technical Issues] now first quarter of 2020.
And then our unbilled revenue very similar, we had a $1,000 loss on unbilled revenue, very small and probably more typical as compared to a negative $3.7 million in 2020 which was a sort of an atypical drop in that unbilled revenue accruals.
And so those two items I'd say are a little bit more normal compared to the abnormal amounts that were in the last year.
Flipping to Slide seven, I won't talk in detail about this, but this is our waterfall earnings per share bridge chart that covers those same topics.
Next on Slide eight, I'll just make a brief comment about the tax rate, I know some of the analysts look at the effective tax rate of the company.
Just wanted to remind everyone that during 2021 we are refunding to customers in rates, $19 million of excess deferreds associated with the change in tax rate for the Tax Cuts and Jobs Act.
And that drives down the effective income tax rate to 6%.
So there is a -- the revenue is down and the tax rate is down and so we aren't making any money on that, but just when you see the headline tax rate it's very low.
The second thing, there was a big benefit at the end of 2020 related to our mains and services repairs investments and the state tax deduction that we're allowed to take there.
And just to update you on the estimates, in 2020 we had $160 million of deductible mains and services repairs investments, and our current estimate for 2021 is that we will have $60 million that qualifies for that tax treatment, and so that's going to be a factor that's going to be a little bit lower for the year 2021.
Capital spending is still anticipated to be between $270 million to $300 million.
That hasn't changed, but it's just the timing of the close of certain projects that is going to change that tax qualification.
So the first one is our cost of capital filing.
The cost of capital, if you will remember is filed once every three years.
Our last one was in 2017, because we had a one-year extension.
We will be filing that cost of capital application on Monday, May 3rd, and in our application that we will be filing with the Commission we're requesting a return on equity of 10.35%, that is up from the currently approved 9.2% cost of equity.
We also will be taken advantage of refinancings, and new debt issuances.
So that our embedded cost of debt is going down a 128 basis points from the previously authorized 5.51% cost of debt, to a new cost of debt of 4.23%.
Coupling those two together the increase in cost of equity and the decreased cost of debt means that our rate of return -- authorized rate of return that we are requesting would go up just slightly from 7.48% to 7.5%, and what that really means from a customer perspective is that the median bill increase should be about $0.34 a month.
So, really not a big change on the customer's bill at all.
Now we do recall that though -- the cost of capital filing will be reviewed by the Commission, and would be approved for -- to be effective in January 2022.
I might also point out that our capital structure, which is about 53% equity and 47% debt will remain unchanged in this particular application.
Not only are we refinancing existing debt with new lower-cost debt, but because we've been investing so much capital, and have been obtaining new debt at a lower cost, that is really what's helping drive our overall cost of debt down, which is a benefit to our customers.
The second item I'll talk about just briefly is our our three-year General Rate Case filing that will be filed in -- on July 1st, actually July 3rd, because the 1st is a weekend.
We are working on that right now, and we will provide more information to you all when we get to our next quarterly conference call.
I want to provide a quick update on our continued efforts in responding to the COVID-19 pandemic.
First and foremost, let me start off by saying we have continued to see the incremental benefits of people being vaccinated in all four states that we operate in.
Currently over one-third of our employees have been vaccinated, which is great news.
The vaccine rollout was a little bumpy at first, but we've seen those bumps kind of smooth out, and we continue to see daily increases in a number of employees that we've seen vaccinated, as well as we have seen a steep decline in the number of cases of COVID found within the Cal Water family or from our employees.
We only had a -- five cases in the first quarter that we've seen where employees have become sick, and then recovered.
To date we've had no -- we've sustained no loss of the life with Cal Water employees for which we're very grateful for.
In terms of supporting our customers, we have maintained a suspension of all collection activities in all four states.
You're starting to see that lifted in different states around the U.S., in the four states that we operate in our suspension of collection activities is still in full force.
We have seen and continue to see an increase in customer account aging from suspension of collection activities, that bills currently over 90 are about $11.6 million, and we have adjusted our bad debt reserve, an additional $0.5 million from $5.2 million to $5.7 million, and I'll talk more about some creative things we're doing working with the Commission a little bit later on collection activities.
The incremental expenses associated with our COVID response was approximately $300,000.
That gets recorded in a memo account for a potential recovery at later dates in Hawaii and California.
Interesting to note that water sales have been a 105% of adopted, really driven by the fact the residential demand has been higher and that's been offset by lower business and industrial use.
And so as we start to see business use just kind of pick back up, and things get back to normal, we'll expect to see that the business and industrial sales pick up.
Our liquidity has remained strong.
We had $84.4 million of cash, and additional capacity of about $115 million on the lines of credit, subject to some borrowing conditions.
So I think we weathered the worst of the COVID storm, and we're starting to come out of it.
California, which is the largest entity that we operate in, is scheduled to be fully opened back up for business here on June 15th.
Going on to the next slide, I want to just take a moment to talk about our recently published ESG report.
Our report was published a few weeks ago, that aligns with SASB and referencing GRI is now available.
There is a link in the deck that will take you to the report.
Additionally, for those of you that get the hard copy of the Annual Report and proxy, there is a summary ESG report that's included in our annual report.
A lot of hard work went into producing our first ESG report.
We're very, very proud of it, and we're very proud of the work we're doing on the ESG frontier.
And I look forward to reporting more on this as we work on our ESG-related projects throughout 2021.
I'm going to hand it back over to Paul to give you a quick update on acquisitions.
The business development effort at Cal Water has been very active, and very successful.
You will recall that last year we closed upon two deals.
That was the Rainier View Water System in Washington and the Kahao system -- I'm sorry, the Kalaeloa system in Hawaii or you can see on Slide 12, we have six other announced acquisitions that we are working on.
The first one, the Kapalua Water and Wastewater System, we actually expect to close that here within the next few days.
It's very exciting to be adding another system to the Cal Water, or in this case the Hawaii Water family.
And the other items listed on this list The Preserve at Millerton, Animas Valley, Keahou, Skylonda, Strohs, you can see we have activity in all of our operating states, and we are working to get all of those closed as well.
So they are announced -- a number of announced systems.
A number of other systems still in the pipeline.
It is an exciting time for acquisitions with our company.
And with that, Marty, I will give it back to you.
Actually it will go over to Tom.
Yup, I am going to grab it.
Tom will take it to the next slide.
So we're on Slide 13, and this is our traditional graph of capital investment.
Last quarter, we added a line for depreciation.
So you can see the relationship between the capex that we're making and the depreciation that occurs every year in our systems.
And the point there being that we've been averaging about three times our depreciation accrual every year for the last five years.
And so this chart, and projection only goes through system there are of $285 million is the midpoint between our window of $270 million to $300 million of capex during the year, and we --- when we have our second quarter call, and we release the details of our General Rate Case in California, I'll be updating this slide.
So you'll see the years 2022 through 2024 on here as well.
Flipping to Slide 14.
This is our rate base slide and similar comment here, which is that we will project rate base out from 2023 through 2025 on the basis of the rate case filing, and you'll see that in the second quarter slide decks.
So not too much new on the rate base estimate on Slide 14 right now.
Just a couple of things ticked as we close out our call and get ready for Q&A.
First and foremost, Q1's our slowest quarter.
It's always nice to get it done.
Administratively, it's a very heavy quarter because we have our year-end audit, get the annual report done, and then this year, we got the ESG report done.
That takes us us into a very, very busy Q2 administratively with the filing of our cost of capital proceeding that Paul talked about, where we're requesting a slight increase as well as filing our 2021 General Rate Case.
And our 2021 General Rate Case is voluminous, there's tens of thousands of pages that gets filed here with the commission this quarter, and a lot of effort go into pull in that rate case off.
So we look forward to getting that on file and moving forward and as Tom said we'll update everyone during our second quarter earnings call on where our request came in at for the 2021 General Rate Case.
Additionally, and this is more kind of late breaking news, some of you may have seen in the press, the last 24 hours to 48 hours, a few parts of the state of California have declared drought emergencies.
In particular Governor Gavin Newsom in the state of California declared a drought emergency for Sonoma and Mendocino counties, in Northern California.
Given that the very mild winter season that we had this year coupled with the fact that our snow pack as of earlier this week was only 25% of normal, we fully expect to see more drought declarations at the local level happen throughout 2021.
For those of you that know we spend a -- remember, we spend a lot of time on our emergency preparedness and emergency planning, likewise as part of the rate case process, we are updating our water supply master plans, which also include drought contingency master plans.
What does that mean at a 25,000 foot level, the reservoirs in California, currently, they're in decent shape, I wouldn't say they're in great shape.
But they're in decent shape going into the summer months.
The real issue from a drought perspective is what is winter going to look like this year and if it's a light winter again what happens in 2022?
So that'll be something to watch as we move into what is potentially a more disruptive fire season and a more disruptive public safety power shut down season given the fact it's been such a dry winter for us.
As we think about fire season and PSPS season as we point out in our ESG report despite the many challenges of operating in a COVID environment over 97% of our employees have completed their emergency response training this year and our efforts are well under way to be prepared for early fire season and the various PSPS events that could happen throughout the state.
As you may recall, last year despite a number of PSPS events throughout the state that went on, in some cases for two, three, four days, none of our customers went without water due to successful planing by the company -- contingency planning and the ability to move resources up and down the state to make sure we kept our systems pressurized and our pumps running.
As we get into kind of hopefully what will be the final throes here of COVID-19 and we are seeing things improve.
And as I mentioned earlier, June 15th is the official date declared by the California Governor that the state will officially reopen back to some amount of normal, then that's to be defined.
We continue to work with the commission on creative solutions for our customers that have been impacted by COVID.
In particular, as part of the low income OIR Phase-II we did propose a program for wage management.
Similar to what the electric utilities got approved recently and as part of our proposal, we propose that people who have past-due balances due to COVID as long as they keep paying their water bill that we would give them a credit equal to one-twelfth of the outstanding balance, provided if they keep making their payments until they are paid in full and current.
And then that credit that gets issued every month would go into a balancing account for recovery at a later date.
This program for the water industry has not been approved yet, but it has been approved for the electric industry.
So we're waiting to see what the commission does with that.
Obviously, we'd like to see those past-due balances get paid down as we get back to a more normal operating environment.
Having said all that, it is very nice to get Q1 done.
It's very nice to see the light, hopefully, at the end of the tunnel with COVID and seen employees get vaccinated and it's starting to get back to what is a normal environment.
We do not have our of employees back in the office yet, 90% of our employees have been at work every day, because they are field employees.
Our corporate employees are the ones at our corporate offices have been the ones that have been working more remotely and we are in the process of finalizing our back-to-work plans and we'll continue to monitor the local jurisdictional requirements to bring people back to work.
So that can vary kind of county by county in the state of California.
But our plans are developed and we're ready to roll, once we get the green light to bring people back to work. | q1 loss per share $0.06.
q1 revenue rose 17.7 percent to $147.7 million. |
As a reminder, before we begin, the company has a slide deck to accompany the earnings call this quarter.
Because these statements deal with future events, they are subject to various risks and uncertainties and actual results could differ materially from the company's current expectations.
I'm going to pass it over to Tom to begin.
So I'm going to start and I'll walk through the slide deck, so, as usual, I'll refer to the page numbers so you can follow along; try to be as descriptive as possible if you don't have the slides with you.
For the quarter, the company's net income rose to $38.2 million as compared to $5.3 million in the second quarter of 2020.
On an earnings per share basis, that is $0.75 per diluted common share in 2021 as compared to $0.11 for the quarter in 2020.
That was on Slide 5.
If you flip to Slide 6, I can talk briefly about the year-to-date results.
Here we have a net income of $35.2 million on a year-to-date basis.
That compares to a net loss in 2020 of $15 million.
And on a per share basis, we have earnings of $0.69 per share in 2021 and that compares to a loss of $0.31 in 2020.
And for the year-to-date, the capital investments, I will highlight $138.5 million of capital investments as compared to $133.5 million of capex in 2020.
Flipping to the next slide, Slide 7, the story here in the second quarter is very similar to what we talked about at the end of the first quarter.
The financials are primarily better because we have the result of the 2018 California Water Service Company General Rate Case.
And that did a number of things for us.
First of all, if you'll recall, last year, in the second -- first and second quarters, we did not book the interim rates or the regulatory mechanisms that the company eventually got approved by the Commission because of the uncertainty at that time.
So, we did book those in the third quarter of 2020.
So, when you're comparing our results here in 2021 to those results from 2020, keep in mind that you were missing a big chunk of what ended up being earnings in 2020.
Our core operating costs are increasing as expected.
We have lower equity AFUDC as anticipated, as we've talked about before.
Capital spending is on track to our target, which is between $270 million and $300 million for the year.
We did have some other impact in the quarter.
And I'll talk a little bit more extensively about the unbilled revenue accrual because that's giving us a big pop for the quarter and the market value of our -- some of our pension assets reduced our earnings per share by about $0.03 on the quarter.
Flipping to Slide 8, you can see the earnings bridge.
These are the factors we were just talking about, rate relief, regulatory mechanisms, opex, there's benefit plan investments mark-to-market there.
The unbilled revenue is adding $0.17 on the quarter and I guess I can talk about that now, it's also on the next slide.
But what we've experienced in California is a warmer and drier year, as Marty will talk about a little bit later.
And what we believe is happening is we've advanced the unbilled revenue which normally pops for us in the third quarter.
We see that unbilled revenue accrual increasing very rapidly here in the second quarter.
This happens from time to time with the company.
We have inflections in our water sales that usually happen around June, July as the weather gets hotter in California.
That seems to have happened on the earlier end this year.
And so what we're looking at is earnings associated with recording the unbilled revenue accrual that would more likely, in a different year, be third quarter earnings.
And so we can talk a little bit about what that means.
But our -- with the expectation that we would have as described on Slide 10 is that unbilled revenue generally will not add to earnings over the course of the entire year.
And so this is really a seasonal effect.
And so, if you're looking at this from a modeling standpoint, this is not some -- it's not some new factor that's going to give us extra profits for the year in most cases and typically that's going to come back down to around zero at the end of the year.
Talking about Slide 10, I do want to emphasize a couple of other notes.
These are things that we've generally talked about on prior calls, but I wanted to remind the community and interested parties about these.
As I mentioned, in Q3 of 2020, we recognized $43 million of net income, which was attributable to Q1 and Q2 of 2020 and that was because of the delayed California General Rate Case, we had not booked interim rates and we had not booked the regulatory mechanisms because we weren't sure of the probability of recovery and we did end up booking those in the third quarter.
So keep that in mind when you're thinking about the third quarter earnings coming up.
Once again, our authorized rate base for all operations in total is $1.82 billion.
That is -- remember, we're rate-regulated with a rate of return on rate base and so you can work into a general range of earnings, so to speak, with respect to the company just by calculating the rate base times the rate of return and get to -- and the capital structure there, and get to that number.
Our operating costs are increasing as expected; depreciation, property taxes and wages, in particular.
As I mentioned on the last call -- last couple of calls, the eligible mains and services state tax deductions will be lower in 2021 and that raises our effective tax rate and that was something at the end of 2020 where we saw a big bump-up from the enormous amount of state tax repairs deduction that we received that year.
The net income from recognition of equity AFUDC in 2021 is lower and is expected to be lower because we have fewer long duration projects that are accruing equity AFUDC.
Finally, to add here is that the market value of the certain retirement assets that was -- it was up quite a bit in 2020 and it's up a fair bit in 2021.
We don't ever know what the market is going to do.
I'm sure all of us would like to know what the market is going to do in the future.
But-so we can't predict what that will add or subtract from earnings for the total year.
Turning to Slide 11.
I'm pleased to report that California Water Service Company filed its General Rate Case with the Public Utilities Commission on time, July 1.
This rate case, the largest in our history, is requesting approval of just over $1 billion in capital expenditures during the three-year rate case cycle.
We worked very hard on addressing customer affordability when preparing this case and have been able to keep increases under $5 per month for the median residential customer in all of our service areas.
Because this will be our first rate case in which the full WRAM MCBA is not part of the filing, we've also taken a deeper dive into sales forecasting and rate design to enable us to balance customer affordability, revenue stability and conservation.
This has led to a 6% lower sales forecast than in our last adopted, but also an innovative rate design, which provides significant discounts for the first 6 units of water used each month and increases the amount of revenue collected in our fixed monthly service charge.
We're now in the discovery phase of this case and expect the Commission decision before the end of 2022.
Just recently, Commissioner Darcie Houck was named as the Assigned Commissioner in our rate case.
She's the newest Commissioner at the Public Utilities Commission but has been an Administrative Law Judge at the Commission, is an attorney and understands Commission processes.
Commissioner Houck is also the Assigned Commissioner for our cost of capital case which we expect a decision by the end of this year.
In other news, a week ago, we filed our General Rate Case in Washington State, which covers both our legacy Washington Water Service Company customers plus our new East Pierce customers that we acquired from the Rainier View Water Company.
And we expect the decision in that case sometime this fall.
With that, I will hand this off to Marty.
Two areas I want to provide operational updates on, starting off on Page 12, talking about the recently declared droughts and I say droughts as plural, given the approach the state has set forth early on in the second quarter and by doing so they were evaluating drought conditions on a county by county basis.
As we wrapped up the second quarter, the drought kind of quickly spread and we have 51 of the 58 counties in the State of California now under a declared drought emergency.
Accordingly, as part of our planning process and rate case process with the Public Utilities Commission, we filed, what's called, Rule 14.1, which is our water supply master plans in June and within that water supply master plans is something called Schedule 14.1, which is our water supply contingency plans, which cover the various stages of drought.
Very happy to share that on July 14, the Commission approved our Rule 14.1 plan, as well as our Schedule 14.1 water supply contingency plans.
We are officially in a Stage 1 drought in all the districts that we operate in.
We are currently monitoring water supply conditions at every location within the State of California that we have.
We have asked our customers for a voluntary 15% reduction over the summer months and we're utilizing the same model that we developed during the last drought, which is really doing a -- what we call the customer-first approach, trying to give our customers as many options as we can to help them hit their reduction targets.
So we're utilizing that same model, which includes a Drought Steering Committee that we have within the company that I meet with every other week as we go into the summer months.
I think what's important to note about the current drought conditions in the State of California is it highlights the proactive moves we've made over the last two years on the ESG and risk management front to prepare for drought and more riskier weather type of conditions.
One of the things we did is we combined our water supply planning team and our water conservation teams, which were in different parts of the organization, to come together as one team to look at supply and demand within one group and focus on water supply resiliency, including the impacts of climate change.
So we're going to continue the path that we're on.
The foundation has been laid for our contingency plans as we move throughout the stages of the drought and we're going to take the same approach that we had in the last major drought, which all of our customers said then, what was the 25% reduction targets.
Moving on to talk about the continued impacts of COVID-19 and the pandemic.
All of our company's employees have returned to work.
We started a phasing back in the first week of July to get our employees back at work.
Remember that 90% of our employees have been at work every day throughout the pandemic so the one's we phased back in, most of them are corporate staff and jobs that could be worked on remotely during the pandemic.
We have phased them back in at work.
We continue to be vigilant for employee and customer safety, including all of our campuses are still locked down.
We have encouraged and put incentives out there for vaccination rates for our employees.
We follow our local masking rules and we have employee screenings at every location every day.
Again, despite the pandemic, we have been at work every day, 365 days a year, 24 hours a day.
Looking at the collectability process and what's happening on the receivable front in New Mexico and Hawaii.
They have allowed us to start the billing collection process again.
In California and Washington, we're still under a moratorium.
The moratorium in Washington will end on October 1 and in California, we're working through our recent decision that came out from the PUC that lays out the rules that will allow us to restart the collection process here.
So I don't have an exact date yet.
The decision just came out last week and we're working through that now.
At the end of the second quarter, we saw increases in customer accounts and remember that we have suspended collection activities.
We haven't done that in about a -- well over a year.
Bills outstanding increased slightly to $12.5 million.
We think that's good news.
It's leveled out a little bit.
We have continued to increase our reserve for doubtful accounts from $5.7 million now to $6.3 million and within the budget for the State of California, which is our largest operating entity, the states that we operate in and California is the largest, the State of California has reserved a $1 billion for water utilities arrearage management relief.
So in other words, the State is going to be picking up a good chunk of the tab of these late receivables.
The process and how they're going to be distributing that money is still being determined.
We're working with the State and through our association with the other water companies to determine the best process forward, but it looks like there will be some relief that comes from the State to help offset the bills for the people affected by COVID and their ability to pay their water bills.
The incremental cost of COVID-19 for the second quarter continued to run about $200,000 a quarter.
So we're up to about $1.3 million total since the beginning of the pandemic.
That's being captured in a memo account.
It's interesting to note that water sales in California are at 103% of the adopted numbers that were approved in the last General Rate Case.
And year-over-year, residential consumption is up 4% and that's been offset by lower business in industrial sales and, of course, as the economy was slowed and stalled out there for a little bit.
But as businesses come back, we expect to see the business in residential sales to continue to climb.
Liquidity remained strong at the end of the quarter with over $66 million cash on hand and additional borrowing capacity of $405 million on the line of credit, subject to various borrowing conditions, but liquidity remained strong, as we move into the warmer summer months.
California Water Service Group has been busy in the business development area.
In May, we announced our establishment of Texas Water Service and our entry into the fast-growing region of Texas, known as the Austin-San Antonio corridor.
As part of our entry into Texas, we also announced our majority ownership of the BVRT Water Resource Company, which in turn owns four wastewater utilities in this Austin-San Antonio corridor.
Also, in May, we closed on our acquisition of the Kapalua Water and Kapalua Wastewater Company and added a 1,000 new Maui customers to our Hawaii Water Service Company.
Last month, in June, we announced the execution of a definitive agreement to acquire a wastewater utility on the island of Kauai in Hawaii, which will bring 1,800 Equivalent Dwelling Units to our Hawaii Water Service Company, and we will be filing the application with the Hawaii Public Utilities Commission shortly for its approval of this purchase.
And next week, we anticipate that the California Public Utilities Commission at its August 5 open meeting will approve our newest California utility known as The Preserve at Millerton, which is a greenfield or new development, water, wastewater and recycled water utility, which will ultimately bring about 2,800 customer connections to California Water Service Company.
Remember that Boston and San Antonio are among the five fastest growing cities in the U.S.
We have approximately 2,500 customers and customer commitments today in these -- among these four utilities and anticipate that their combined service areas could build out to over 60,000 customers.
Meanwhile, Texas Water Service is seeking out other opportunities in Texas.
We have a full pipeline of growth opportunities and we are excited by the potential to further grow the company through acquisitions and through other deals.
I'm looking now at Slide 17, and as promised in the first quarter, we've updated Slide 17 and 18 which are capex and our rate base slides to reflect the proposal that's been made in the California General Rate Case.
And so the last three bars on each of these charts represent the effect of the proposal and I do want to remind everyone, obviously, that this is a proposal that's been made to the Commission and is going to be evaluated by the CPUC and a determination will be made, as Paul suggested, late in the year 2022 with an effect date of 2023.
And so, these numbers can obviously change as we go through the regulatory process.
But what it does show for 2022 through 2024 is that we would anticipate our combined capex with California and the other states to be in the range of $355 million to $365 million a year and that corresponds to the $1 billion proposal that Paul's group put to the CPUC plus the capex that we're spending in our other states.
And then the result of that, if you flip to Slide 18, is the estimated rate base that's associated with that.
And once again, our current rate base is about $1.82 billion for 2021.
We have another step increase that's associated with the last California rate case and that would potentially impact 2022 to give us a higher rate base adopted there.
But the proposal that Paul has put forth to the CPUC, his team, would increase our rate base to the point of $2.2 billion, $2.5 billion and $2.75 billion combined, again with the other states, if that proposal were adopted as proposed.
Most certainly a lot for us to do in the regulatory process, but good news ahead from a company growth standpoint in all of the respects.
The heavy lift, so to speak, right?
Paul's got that two big generating -- revenue generating items.
Well, I'm going to wrap us up here.
Just in summary, Q2 results were in line with our expectations.
Sorry for the lumpiness sifting through the financials.
As Tom did a really good job pointing out in our graphs and our earnings reconciliations, that was really driven by the late GRC that we had and there was not much we can do about that but just to remind everyone that those comparables quarter-over-quarter, year-over-year, you got to factor in that delayed General Rate Case.
Clearly, we're seeing the effects of the drought in the second quarter with that unbilled revenue, which is really our revenue accrual.
We typically see -- as consumption increases as we move into the warmer months of the summer, you'll see that accrual go up and then you'll see a turndown in the winter when you see consumption go down as the rain starts out on the West Coast.
So we clearly saw a pickup from the unbilled revenue due to the drought and weather conditions.
So consumption went up earlier than we anticipated.
Tactically, there are really kind of four things going on that we're focused on as we move into the fourth quarter.
Obviously, the cost of capital, first and foremost, and trying to get that wrapped up this year, followed by, as Paul said, the discovery phases of our 2021 General Rate Case for the State of California, which is a herculean event.
There is a lot of data requests that go back and forth; hundreds and hundreds and hundreds of data requests.
So we're going to stay vigilant and stay keenly focused on wrapping up those two regulatory proceedings.
We look forward to working with Commissioner Houck to bringing those to a successful resolution on time and on schedule.
Additionally, tactically, two big things going on, on the West Coast and specifically in California.
One is the drought, and as I said, we are officially in a Stage 1 drought for our customers.
And the second thing is, it's wildfire season.
There are currently nine wildfires burning in the State of California, two major wildfires.
The two major wildfires are burning a national forest area so there are no threat to our service areas that we operate in.
Big accolades to the operations team for their early readiness for fire season this year, that August, September and October, given the dry conditions, we think, could be pretty volatile.
But I will say the team finished their wildfire readiness planning ahead of schedule.
All the employees have gone through all their trainings and we're ready to go into the hotter, drier summer months focused on minimizing any damage from wildfires and making sure that our customers stay supplied with clean fresh drinking water.
If you haven't read our ESG report that's been put out there, I strongly encourage you to do that.
This is going to strategically be a keen focus of the company here I think for years to come.
So, with that, Carol, we will officially end our prepared comments and we will open it up for Q&A. | california water service group q2 earnings per share $0.75.
q2 earnings per share $0.75. |
Joining me on the call today are President and Chief Executive Officer, Lynn Bamford; and Vice President and Chief Financial Officer, Chris Farkas.
These statements are based on management's current expectations and are not guarantees of future performance.
As a reminder, the company's results include an adjusted non-GAAP view that excludes certain costs in order to provide greater transparency into Curtiss-Wright's ongoing operating and financial performance.
Also note that both our adjusted results and full-year guidance exclude our build-to-print actuation product line that supported the 737 MAX program, as well as our German valves business, which was classified as held for sale in the fourth quarter.
I'll begin with the key highlights of our second quarter performance and an overview of our full-year 2021 outlook.
Starting with the second quarter highlights.
Overall, we experienced a strong 14% increase in sales.
Our aerospace and defense markets improved 11%, while sales to our commercial markets increased 21% year-over-year.
Diving deeper within our markets, we experienced double-digit sequential improvements in sales within our commercial aerospace, power and process and general industrial markets.
These markets were among the hardest hit by the pandemic last year and we are encouraged by their improving conditions.
Looking at our profitability.
Adjusted operating income improved 24%, while adjusted operating margins increased 120 basis points to 15.6%.
This performance reflects strong margin improvement in both the Aerospace and Industrial and the Naval and Power segments based upon higher sales, as well as the benefits of our operational excellence initiatives.
It's important to note that this strong performance was achieved while we continue to invest strategically with a $5 million incremental investment in research and development as compared to the prior year.
Based on our solid operational performance, adjusted diluted earnings per share was $1.56 in the second quarter, which was slightly above our expectations.
This reflects a strong 22% year-over-year growth rate, despite higher interest expense and a slightly higher tax rate, which were generally offset by the benefits of our consistent share repurchase activity.
Turning to our second quarter orders.
We achieved 11% growth and generated a strong 1.1 times book-to-bill overall, as orders exceeded one-time sales within each of our three segments.
Of note, our results reflect strong commercial market orders, which serves 50% year-over-year and included a record quarter of order activity for our industrial vehicle products covering both on and off-highway markets.
Within our aerospace and defense markets, book-to-bill was 1.15.
Next, to our full-year 2021 adjusted guidance where we raised our sales, operating income, margin and diluted earnings per share.
Our updated guidance reflects an improved outlook in our industrial markets, some additional planned R&D investments to support our top line growth and an increase to the full-year tax rate.
Chris will take you through the detail in the upcoming slides.
But in summary, we are well positioned to deliver strong results in 2021.
I'll begin with the key drivers of our second quarter results, where we again delivered another strong financial performance.
Starting in the Aerospace and Industrial segment.
Sales improved sharply year-over-year and this was led by a strong increase in demand of approximately 40% for industrial vehicle products to both on and off-highway markets.
The segment's sales growth also benefited from solid demand for surface treatment services to our industrial markets, which is driven by steady improvements in global economic activity.
Within the segment Commercial Aerospace market, we experienced improved demand for our Sensors products on narrow-body platforms.
However, as we expected, those gains were mainly offset by continued slowdowns on several wide-body platforms.
Looking ahead to the second half of 2021, we expect an improved performance within this market, led by increased production of narrow-body aircraft, including the 737 and A320.
Longer term, we see narrow-body aircraft returning to prior production levels by the 2023 timeframe, while wide-body aircraft may not fully recover until 2024 or even 2025.
Turning to the segment's profitability.
Adjusted operating income increased 138%, while adjusted operating margin increased 800 basis points to 15.7%, reflecting favorable absorption on higher sales and a dramatic recovery from last year's second quarter.
Also, our results reflect the benefits of our ongoing operational excellence initiatives in year-over-year restructuring savings.
And although we continue to experience minor influences from supply chain constraints in both container shipments and electronic components, this impact was immaterial to our overall results.
In the Defense Electronics segment, revenues increased 17% overall in the second quarter.
This was led by another strong performance from our PacStar acquisition, which is executing quite well and its integration remains on track.
Aside from PacStar, second quarter sales were lower on an organic basis due to timing on various C5 ISR programs in Aerospace Defense.
If you recall, we experienced an acceleration of organic sales into the first quarter for our higher-margin commercial off-the-shelf products as several customers took action to stabilize their supply chains due to concerns for potential shortage in electronic components.
Segment operating performance included $4 million in incremental R&D investments, unfavorable mix and about $2 million in unfavorable FX.
Absent these impacts, second quarter operating margins would have been nearly in line with the prior-year strong performance.
In the Naval and Power segment, we continue to experience solid revenue growth for our naval nuclear propulsion equipment, principally supporting the CVN-80 and 81 aircraft carrier programs.
Elsewhere, in the commercial Power and Process markets, we experienced higher nuclear aftermarket revenues both in the U.S. and Canada, as well as higher valve sales to process markets.
The segment's adjusted operating income increased 13%, while adjusted operating margin increased 30 basis points to 17.2% due to favorable absorption on higher sales and the savings generated by our prior restructuring actions.
To sum up the second-quarter results, overall, adjusted operating income increased 24%, which drove margin expansion of 120 basis points year-over-year.
Turning to our full-year 2021 guidance.
I'll begin with our end-market sales outlook, where we continue to expect total Curtiss-Wright sales growth of 7% to 9%, of which 2% to 4% is organic.
And as you can see, we've made a few changes highlighted in blue on the slide.
Starting in Naval Defense, where our updated guidance ranges from flat to up 2%, driven by expectations for slightly higher CVN-81 aircraft carrier revenues and less of an offset in the timing of Virginia-class submarine revenues.
Our outlook for overall aerospace and defense market sales growth remains at 7% to 9%, which, as a reminder, positions Curtiss-Wright to once again grow our defense revenues faster than the base DoD budget.
In our commercial markets, our overall sales growth is unchanged at 6% to 8%, though we updated the growth rates in each of our end markets.
First, in Power and Process, we continue to see a solid rebound in MRO activity for our industrial valves businesses.
However, we lowered our 2021 end market guidance due to the push out of a large international oil and gas project into 2022.
And as a result, we are now anticipating 1% to 3% growth in this market.
Next, in the general industrial market, based on the year-to-date performance and strong growth in orders for industrial vehicle products, we've raised our growth outlook to a new range of 15% to 17%.
And I would like to point out that at our recent Investor Day, we stated that we expect our industrial vehicle market to return to 2019 levels in 2022 and we have a strong order book to support that path.
Continuing with our full-year outlook.
I'll begin in the Aerospace and Industrial segment, where improved sales and profitability reflect the continued strong recovery in our general industrial markets.
We now expect the segment sales to grow 3% to 5%, and we've increased this segment's operating income guidance by $3 million to reflect the higher sales volumes.
With these changes, we're now projecting segment operating income to grow 17% to 21%, while operating margin is projected to range from 15.1% to 15.3% of 180 to 200 basis points, keeping us on track to exceed 2019 profitability levels this year.
Next, in the Defense Electronics segment.
While we remain on track to achieve our prior guidance, I wanted to highlight a few moving pieces since our last update.
First, based upon technology pursuits in our pipeline, we now expect to make an additional $2 million of strategic investments in R&D for a total of $8 million year-over-year to fuel future organic growth.
Next, in terms of FX, we saw some weakening in the U.S. dollar during the second quarter, and this will create a small operating margin headwind on the full year for the businesses operating in Canada and the UK.
In addition, we've experienced some modest impacts on our supply chain over the past few months, principally related to the availability of small electronics, which we expected to minimally persist into the third quarter.
And while this remains a watch item, particularly the impact on the timing of revenues, we're holding our full-year segment guidance.
Next, in the Naval and Power segment, our guidance remains unchanged and we continue to expect 20 to 30 basis points of margin expansion on solid sales growth.
So, to summarize our full-year outlook, we expect 2021 adjusted operating income to grow 9% to 12% overall on 7% to 9% increase in total sales.
Operating margin is now expected to improve 40 to 50 basis points to 16.7% to 16.8%, reflecting strong profitability, as well as the benefits of our prior-year restructuring and ongoing companywide operational excellence initiatives.
Continuing with our 2021 financial outlook, where we have again increased our full-year adjusted diluted earnings per share guidance, at this time to a new range of $7.15 to $7.35, which reflects growth of 9% to 12%, in line with our growth in operating income.
Note that our guidance also includes the impacts of higher R&D investments, a higher tax rate, which is now projected to be 24% based upon a recent change in UK tax law and a reduction in our share count, driven by ongoing share repurchase activity.
Over the final six months of 2021, we expect our third quarter diluted earnings per share to be in line with last year's third quarter and the fourth quarter to be our strongest quarter of the year.
Turning to our full-year free cash flow outlook, we've generated $31 million year to date.
And as we've seen historically, we typically generate roughly 90% or greater of our free cash flow in the second half of the year and we remain on track to achieve our full-year guidance of $330 million to $360 million.
I'd like to spend the next few minutes discussing some thoughts and observations since our recent May Investor Day.
I'll start with the President's FY '22 defense budget request, which was issued shortly after our Investor Day event.
The release reflected approximately 2% growth over the FY '21 enacted budget and was reasonably consistent with our expectations and plans.
The budget revealed continued strong support for the most critical U.S. naval platforms, including the CVN-80 and 81 aircraft carriers and the Columbia-class and Virginia-class submarines.
We believe the bipartisan support for the Navy's future provides us a strong base, from which we can grow our nuclear and surface ship revenues and has room for potential upside should they add a third Virginia submarine or another DDG destroyer.
We also expect ongoing support for the funding of the DoD's top strategic priorities, including cyber, encryption, unmanned and autonomous vehicles, all of which were highlighted in the budget release.
This bodes well for our defense electronics product offering, which support all of these areas.
Another bright spot was army modernization.
Despite cuts to the overall army budget, funding to upgrade Battlefield network is up 25% in the services FY '22 budget request to a total of $2.7 billion, which represents the single greatest increase among the Army's modernization priorities.
Further, it provides great confidence behind our decision to acquire PacStar, as they are in a prime position to capitalize on the ongoing modernization of ground forces.
Since then, we have also seen increasing signs of optimism as the budget makes its way through the Congressional markup.
The recent vote by the Senate Armed Service Committee to authorize an additional $25 billion to the Pentagon's budget for FY '22 represents a 3% upside to the President's initial request and an overall increase of 5% above the current fiscal year.
Though not final, this again provides confidence in our long-term organic growth assumptions across our defense markets.
Our pivot-to-growth strategy is led by a renewed focus on top line acceleration, which we expect to achieve through both organic and inorganic sales growth and our expectations to grow operating income faster than sales, which implies continued operating margin expansion.
Additionally, we are targeting a minimum of double-digit earnings per share growth over the three-year period ending in 2023 and continued free -- strong free cash flow generation.
Based on our new long-term guidance assumptions, we're minimally expecting low single-digit organic sales growth in each of our end markets.
We have good line of sight on achieving a 5% base sales growth CAGR, including PacStar, by the end of 2023.
In addition to the organic growth embedded within these expectations, we are focused on maximizing our growth potential in our key end markets based on the contribution from our continued incremental investments in R&D, as well as the benefits of our new operational growth platform.
We are reinvesting in our business at the highest level in Curtiss-Wright's recent history.
And as you know, it's an area that I'm very passionate about.
As you saw in our updated guidance, we increased our 2021 R&D investment by another $2 million, reflecting a total of $12 million in incremental year-over-year spending.
These investments are targeted at critical technologies and the highest growth vectors in our end markets such as MOSA in our defense electronics business.
Additionally, the rollout of the new operational growth platform is providing greater management focus, attention and energy to drive all things critical to growth from reinvigorating innovation and collaboration, to providing new opportunities in commercial excellence and strategic pricing.
As a result, we will have continued opportunities for cost reduction, which could free up money to cover short-term acquisition dilution, be distributed to R&D investments or result in margin expansion.
These will be focused and conscious investment decisions.
Further, I believe it's critical to point out that we will continue to drive our strong processes and dedication to operational excellence, with the same level of commitment and bigger that this team has demonstrated since 2013.
Lastly, I wanted to reiterate that our target for a minimum earnings per share CAGR of 10% over the three-year period is likely to incorporate annual share repurchase activity above our current base level of $50 million annually.
We remain committed to effectively allocating capital to drive the greatest long-term returns to our shareholders.
Therefore, the year-to-year allocation to share repurchases will vary, depending on the size and timing of future acquisitions that we bring into Curtiss-Wright.
Finally, with more management attention on M&A and a very full pipeline of opportunities, I feel very optimistic that we will have the opportunity to exceed 5% and approach the 10% sales targets as we find critical strategic acquisitions to bring into Curtiss-Wright.
In summary, we are well positioned to deliver strong results this year.
We expect to generate a high single-digit growth rate in sales and 9% to 12% growth in both operating income and diluted earnings per share this year.
Our 2021 operating margin guidance now stands at 16.7% to 16.8%, including our incremental investments in R&D.
And we remain on track to continue to expand our margins to reach 17% in 2022.
Our adjusted free cash flow remains strong and we continue to maintain a healthy and balanced capital allocation strategy to support our top and bottom line growth, while ensuring that we are investing our capital for the best possible returns to drive long-term shareholder value. | curtiss-wright raises full-year 2021 financial guidance.
q2 adjusted earnings per share $1.56. |
We are also joined here in the room by our Vice President of Finance, Brian Hammonds.
The call today will focus on our financial results for the third quarter and provide you with other general business updates.
Going to our agenda for the call, we will provide you with a breakdown of our third quarter financial performance, discuss business development opportunities, and the latest developments with our government partners.
We will also provide you with an update on our capital allocation strategy and our continued response to the COVID-19 pandemic.
Our third quarter revenue of $471.2 million represented a 1% increase over the prior year quarter despite the sale of 47 non-core real estate assets within our property segment in multiple transactions between December 2020 and June 2021 and our decision to exit two managed-only contracts with local governments in the state of Tennessee during the fourth quarter of 2020.
And in the five quarters since we announced the change in our capital allocation strategy, we have substantially improved our credit profile, reducing our net debt balance by approximately $730 million during a time of unprecedented challenges.
We remain committed to reaching and maintaining a total leverage ratio or net debt to adjusted EBITDA of 2.25 times to 2.75 times.
Using the trailing 12-months ended September 30 of 2021, our total leverage ratio was 2.7 times.
Just one year ago, our total leverage ratio was at 4.0 time.
So, we have made significant progress.
And the last time our total leverage ratio was below 3 times was in 2012, nine years ago.
While we have touched the high end of our targeted leverage range, we remain committed to continuing to reduce debt to ensure we remain comfortably within the range.
Our EBITDA has shown to be durable since the beginning of the pandemic, but there are many other factors that could cause our net leverage ratio to fluctuate quarter-to-quarter such as changes in our net cash balance due to semi-annual interest payments on our debt, capital expenditures or changes in working capital.
We continue to believe our capital allocation strategy is the most prudent approach to positioning the Company to generate long-term value through a stable capital structure and continue to cost effectively meet the needs of our government customers with less reliance on outside partners.
I believe this is evidenced by our recent $225 million unsecured bond issuance which price nearly a 100 basis points lower than the bonds we issued back in April of this year.
However, within the next few quarters, we could also be in a position to shift our capital allocation strategy to one that once again returned a portion of our cash flows to our shareholders and less aggressively de-levers.
We believe the valuation of our equity remains well below its fair value and we feel strongly that once we achieve our debt reduction goals, we could create substantial value for our shareholders by repurchasing shares.
In 2009, one of my first acts as CEO was to seek authorization from our Board of Directors for an equity repurchase program.
So I have a full appreciation of the potential value creation that the current stock presents.
Fully appreciating the potential opportunity, we have further progress to make with our current debt reduction strategy.
We continue to see criminal justice related populations meaningfully below their pre-pandemic levels.
The declines have mostly been due to reduction in new intakes rather than early releases.
Governments have acted faster to transfer certain residents assigned to our reentry facilities to non-residential statuses such as furloughs, home confinement or early releases, to create additional space for enhanced social distancing within our facilities.
However, during the third quarter, we did see many of our state customers increase their utilization of our facilities, which contributed to modest increases in our occupancy compared with the prior year quarter.
Our Safety segment's occupancy was 73.2% in the quarter, an increase of 110 basis points compared with the prior year quarter and our Community segment's occupancy was 56.4%, up 180 basis points.
As court room operations gradually reopen and operations normalize, we anticipate this trend in utilization to continue.
And with that we are leaning way forward on increasing our staffing levels in anticipation of higher utilization rates of our partners.
This of course will likely have a material impact on margins as we go into 2022.
Normalized funds from operations or FFO for the third quarter was $0.48 per share, a decline of 8% compared with the third quarter of 2020.
However, this decline was primarily driven by our decision to convert to a taxable C corporation effective January 1st of 2021 from a REIT.
We have added disclosures in our third quarter supplemental financial information document available now on our website, which provides our pro forma results for 2020 reflecting income tax expense, by applying our estimated tax rate to pre-tax income in the prior year.
When compared to pro forma results for the third quarter of 2020, our adjusted earnings per share, normalized FFO per share and AFFO per share increased 33%, 9% and 15% respectively.
Our adjusted EBITDA of $100.9 million increased 7% compared to the third quarter of 2020, and again, this is after the sale of 47 non-core assets since the end of the third quarter of 2020.
Dave will provide greater details about our third quarter financial results, including reconciling between our GAAP and normalized results following the remainder of my comments.
We will start our operational and business development discussion with a brief update on the impact of the COVID-19 pandemic and our ongoing response.
While the rate of positive cases around the nation was significantly increasing due to the Delta variant during the third quarter, we only experienced a small temporary increase in positive cases at some of our facilities.
The most substantial impact of the emergence of the Delta variant was that it temporarily slowed the timeline for normalizing facility operations to remove various protocols that were enacted in response to the pandemic.
As we move toward normalizing operations, the most substantial challenge in today's environment is attracting and retaining qualified employees.
No different from our government partner's own correctional systems, the current employment market has caused staffing challenges for us at many locations across the country.
We have responded to the challenge by aggressively developing new and creative hiring and retention strategies.
And being in the private sector and a multi-state national employer, we have a lot of tools we can deploy in this environment.
These include increasing wages, sign on and retention bonuses and multiple other programs that can increase engagement, a sense of a shared mission, and overall job satisfaction.
Our government partners have been very collaborative in this effort by supporting our request for per diem increases that reflect above average wage inflation in current market.
Across the company this year, we have provided the large -- largest wage increases in my 12 years as CEO and we are committed to utilizing all necessary resources to address this challenge.
We are also following closely the recent vaccination mandates issued by various states and the federal government, including the September 9, 2021 executive order on ensuring adequate COVID safety protocols for federal contractors.
We are working diligently, evaluating the new guides being received from our government partners and ensure we are positioned to fully comply.
For our inmate, detainee and resident populations, we do not have the ability to mandate vaccinations.
Just as we've seen in our communities, there has been some hesitancy for many to accept the vaccine, so it should come as no surprise that the rate of vaccination acceptance is similar to that of the general public.
We continue to provide educational resources to all our residents in order to encourage more to get vaccinated.
I will move next to discuss some recent federal and state level business development updates.
We're continuing to evaluate the impact of the executive order signed by President Biden, issued in January that directed Attorney General to not renew Department of Justice contracts with privately operated criminal detention facilities.
As a reminder, the BOP takes custody of inmates who have been convicted for federal crimes and the USMS is responsible for prisoners who are awaiting trial in Federal Court.
The BOP has experienced a significant decline in inmate population since 2013 and simply does not have as much of a need for prison capacity from the private sector.
The decline in BOP population has intensified by COVID-19.
We currently have one prison contract with the BOP, accounting for approximately 2% of our total revenue.
Marshal Service populations have remained relatively consistent in recent years, so their capacity needs remain unchanged.
In fact, nationwide Marshal population has increased over the past year.
We continue to believe that the Marshals do not have sufficient detention capacity to satisfy their current needs without much of the capacity we provide.
We began the year with four contracts with the Marshals that expire in 2021.
In the first half of the year, we are able to enter into new contractual arrangements for our Northeast Ohio Correctional Center and Crossroads Correctional Center in Montana to remain operational and serve various government partners, where both facilities previously had direct contracts with the Marshals.
At the end of September 2021 our contract with the Marshals at our 600-bed West Tennessee Detention Facility expired and the federal detainee populations were transferred to alternative locations, including approximately 200 to our Tallahatchie County Correctional Facility in Mississippi.
We have elected to retain our staff from the West Tennessee Detention Facility as we pursue an active procurement for the facility with an existing government partner.
The only remaining Marshals contract I have yet to discuss is at our 1,033 bed Leavenworth Detention Center expiring in December of 2021.
Of note, we are currently in discussions with other potential government partners to utilize the Leavenworth Facility in the event that we are unable to reach a solution that enables the Marshals Service to fulfill its mission at this facility.
Our third federal partner is Immigration and Customs Enforcement or ICE, which is not impacted by the previously mentioned executive order.
They continue to be the government partner with the most significant impact from COVID-19 on their capacity utilization.
However, recent activity along the Southwest border has caused significant volatility in their utilization levels.
Nationwide, ICE detainee populations doubled during the first half of 2021 and we experienced a similar utilization increase at our facilities under contract with ICE.
During the third quarter of 2021, ICE detainee populations remained relatively flat.
As a result, our facility utilization levels continue to remain materially below historical averages.
The largest driver of their lower utilization levels has been the enactment of Title 42 since March of 2020, which prevents nearly all asylum claims at the country's borders and ports of entry in order to prevent the spread of COVID-19.
Instead, Title 42 allows individuals apprehended at the Southwest border to immediately be expelled to Mexico or the individual's country of origin.
Administrative changes and court decisions have occurred since the enactment of Title 42, which have enabled unaccompanied minors and some family units to enter and remain in the United States, while their immigration cases are adjudicated.
As I discussed last quarter, these changes essentially no impact on the demand for our services by ICE, because we do not house unaccompanied minors in any of our facilities and our one facility with family admission is provide to ICE on a fixed price basis.
We primarily provide ICE with detention capacity for adult populations and it is unclear when Title 42 will no longer be applied to adults.
Certain factors such as criminal histories or previous deportations may compel the government to keep individuals in custody instead of applying Title 42.
These situations appear to be the primary driver of the increase in ICE utilization we have experienced this year.
Whenever Title 42 is rescinded, we believe there will be a significant surge in the need for detention capacity.
Our facility support ICE for providing safe, appropriate housing and care for individuals as the agency works through the various processes associated with an individual's immigration case, deportation order or initial processing.
While we have no involvement or influence on anyone's immigration-related case, we know these matters are often quite complex and typically they take days or weeks to be adjudicated.
This results in a need for various solutions and a diverse portfolio of real estate across the country to provide housing and care for individuals while they're in ICE custody.
Our facility serve as a critical component of the real estate infrastructure needed by ICE to help them carry out their mission.
Finally, we know there has been a great deal of coverage of a minimum wage ICE detainee lawsuit faced by our largest competitor in Washington State.
We don't have a facility in Washington and so we aren't subject to litigation related to the Washington minimum wage statute.
We do have a pair of similar lawsuits in California, but those are both stayed while one of them is on appeal in the Ninth Circuit.
We don't have trial date scheduled for those and the timing of any future litigation activity is uncertain.
But as our competitor has pointed out, very similar litigation has been dismissed and that dismissal has been upheld on appeal by the Fourth Circuit Court of Appeals.
We also have other litigation around the U.S. related to the ICE voluntary work program or also known as VWP, but those lawsuits don't raise minimum wage claims.
The VWP is an ICE contract requirement and as the VWP's name suggests, it's voluntary.
Detainees aren't forced or coerced to participate in the VWP.
VWP assignments provide an opportunity to avoid idleness, improve morale, learn new skills, and earn money at or above the ICE prescribed minimum daily rate.
Moving now to state and local developments and opportunities, I'll first mention our new lease agreement with the state of New Mexico for our 596 bed Northwest New Mexico Correctional Center that we announced in September.
The new lease has an initial term of three years, but includes automatic extension options that could extend the lease term through 2041.
The new lease commenced on November 1 and we successfully transition operations at the facility to the state.
So you will see that property reclassified from our Safety segment to the Property segment during the fourth quarter.
We continue to pursue an opportunity with the state of Arizona, which adds an active procurement for up to 2,700 beds for medium and close security inmates.
The state intends to close its oldest prison facility in Florence due to its outdated condition, operational and maintenance cost concerns.
Instead of deploying taxpayer funds to build new capacity, the outstanding request for proposal will allow the state to evaluate alternative capacity available from the private sector.
We have responded to the procurement and believe the state's Department of Corrections, Rehabilitation and Re-entry is poised to move quickly on the procurement.
The only other opportunity I will mention is in Hawaii.
The state continues to determine the best approach to replace the Oahu Community Correctional Center, the largest jail facility in the state.
The existing facility has exceeded its useful life and the state is in need of a new, modern facility to meet its current and future needs.
We remain actively engaged with the state regarding various solutions we could deliver and we anticipate a competitive procurement in 2022 to replace the current facility.
First, Newsweek recently released their list of America's most responsible companies for 2021 and we were so very honored to learn of our placement on this list.
At the beginning of their report, they note and I quote "as this difficult year comes to an end, it's good to remember that we're all part of a community, neighbors, family, friends, first responders, we depend on, appreciate and hope to be helpful to each other.
Many corporations also step up, they care about being good citizens and give back to the communities they operate in".
Their ranking goes through a rigorous four-step process, starting with a review of the top 2,000 public companies based on revenue, then afterwards a detailed review of company ESG reports and the relevant KPIs along with a reputational survey to 7,500 U.S. resident.
This list is a who's who of companies I have long observed, admired, and have inspired to emulate and I am deeply grateful and proud of every single CoreCivic team member for their tireless passion for our mission that has allowed us to achieve this well-deserved recognition.
Finally, we shared last month that CoreCivic Co-founder in Industry Visionary T. Don Hutto passed away on October 22, 2021.
Known as a fierce advocate for correctional professionals and for the safety and well-being of Justice involved individuals, Don was instrumental in the creation and implementation of industry-recognized standards that greatly improved conditions for incarcerated people and those who care for them.
He will be missed by everyone who knew him and remembered truly as a hero in the field.
Prior to co-founding CoreCivic, then known as Corrections Corporation of America, with businessman Tom Beasley in 1983, Don had a long and prestigious career in the corrections industry, including as Commissioner of Corrections for the State of Arkansas and later the Director of Corrections for the Commonwealth of Virginia.
Don's rise to industry leader came through a time of uncertainty in America.
Not long before he began serving as the Commissioner of Corrections in Arkansas, the landmark hold for versus solver [Phonetic] decision declared the entire State of Arkansas' prison system unconstitutional.
At that time, there were over 40 states that had some level of control or oversight by the federal government due to inhumane conditions.
This need for higher standards is what sparked the birth of CoreCivic and assured an improved conditions across the country.
Don's experience gave him extensive insight into modernizing the systems to emphasize rehabilitation and education and he used that experience at CoreCivic.
Don was absolutely the right person at the right time to create a better way and lead our profession into the modern era.
And CoreCivic is so very grateful for his leadership, for our wonderful company.
But I am also personally grateful for his mentoring and friendship with me.
In the third quarter of 2021, we reported net income of $0.25 per share or $0.28 of adjusted earnings per share, $0.48 of normalized FFO per share and AFFO per share of $0.47.
Adjusted and normalized per share amounts exclude an impairment charge of $5.2 million for pre-development activities associated with the Alabama project that we are no longer pursuing, as disclosed last quarter.
Financial results in 2021 reflect a higher income tax provision under our new corporate tax structure compared with the prior year when we elected to qualify as a REIT.
For illustration purposes, in the supplemental disclosure report posted on our website, we present the calculations of adjusted net income, normalized funds from operations and AFFO for each quarter and full year of 2020 on a pro forma basis to reflect such metrics, applying an estimated effective tax rate of 27.5%.
Adjusted net income per share in the third quarter of 2021 of $0.28 compares to $0.21 on a pro forma basis, applying this estimated effective tax rate for the third quarter of 2020 while normalized FFO per share of $0.48 compares to $0.44 on a pro forma basis for the prior year quarter and AFFO per share of $0.47 compares to $0.41 on a pro forma basis for the prior year quarter.
Adjusted EBITDA, which is obviously before income taxes was $100.9 million in the third quarter of 2021 compared with $94.6 million in the prior year quarter.
The growth in adjusted EBITDA and the aforementioned per share metrics were achieved despite the sale of 47 properties since the end of the third quarter of 2020 and the execution of numerous refinancing transactions that were collectively dilutive for the quarter as we paid down low cost, short-term variable-rate bank debt with the proceeds from the property sales and issued new unsecured senior notes that have higher interest rates than the debt we repaid.
The property sales and refinancing transactions lowered our overall debt levels, extended our weighted average debt maturities and repositioned the balance sheet for long-term success.
The 47 properties that we sold accounted for $7.3 million of EBITDA in the prior year quarter.
Therefore, excluding these sales, adjusted EBITDA increased $13.6 million or 16% from the prior year quarter, demonstrating strong core operating results.
Occupancy in our safety and community facilities continues to reflect the impact of COVID-19, but increased to 72.1% in the third quarter of 2021 from 70.9% in the prior year quarter, and increased from 71.6% in the second quarter of 2021.
The impact of COVID-19 began in the second quarter of last year as populations, primarily ICE, declined sequentially throughout 2020 as the Southwest border was effectively closed to asylum seekers and adults attempting to cross the Southern border without proper documentation or authority in an effort to prevent the spread of COVID-19.
As the federal and state court systems have begun to return to normal operations and as the number of undocumented people encountered at the Southern border has increased, the utilization of our facilities has increased.
Operating margins have trended similarly and was 27.2% in the third quarter of 2021 compared with 23.8% in the prior year quarter and 26.8% in the second quarter of 2021.
The increase in our operating margins reflects the continuation of lower cost trends combined with higher occupancies.
Many of our facilities continue to operate with pandemic related capacity and operating restrictions that are modifying the services that we are able to provide, impacting margins compared with normal operations.
Further, staffing in this challenging labor market has become increasingly difficult and we have provided annual as well as additional off cycle wage increases and special incentives to help address depressed staffing levels.
Conversely, our government partners are experiencing the same staffing challenges which has contributed to some of the per diem increases we were able to achieve as more budget dollars are allocated to help offset the wage increases.
Turning to the balance sheet.
As of September 30, we had $456 million of cash on hand and $786 million of availability on our revolving credit facility, which matures in 2023.
During the third quarter of 2021, we issued an additional $225 million aggregate principal amount of 8.25% senior unsecured notes due 2026.
The issuance constituted a tack on to the original 8.25% senior notes we issued in April 2020 of $450 million aggregate principal amount.
The additional 8.25% senior notes were priced at 102.25% of their face value, resulting in an effective yield to maturity of 7.65%.
While we believe this effective yield is still high relative to the stability of our cash flows and credit ratings, it compares favorably to the issuance in April when the notes were priced at 99% of face value, resulting in an effective yield to maturity of 8.5%.
As a reminder, the net proceeds from the April issuance were used to fully repay $250 million of 5% senior unsecured notes that were scheduled to mature in 2022 and to repurchase, in privately negotiated transactions, $176 million of the $350 million outstanding principal balance of our 4.625% senior unsecured notes that are scheduled to mature in 2023.
We continue to be steadfast on our debt reduction strategy, paying down $188 million of additional debt during the third quarter alone, net of the change in cash, including the $112 million outstanding balance on our revolving credit facility which remains undrawn today.
Subsequent to quarter-end, we repaid $90 million of the outstanding balance on our Term Loan B, reducing its outstanding balance to $133.4 million.
Including the repayments of the mortgage notes associated with the aforementioned sale of non-core assets, during the nine months ended September 30th, 2021, we have reduced our total net debt balance by over $500 million and our net recourse debt balance by $334 million.
Our leverage, measured by net debt to EBITDA was 2.7 times using the trailing 12 months, down from 4 times using the trailing 12 months at the end of the third quarter of 2020 when we announced our revised capital allocation strategy and decision to revoke our election.
As Damon mentioned, the last time our leverage was below 3 times was 2012, which was the last year we operated as a taxable C Corporation prior to our conversion to a REIT in 2013.
Notably, 2012 followed an aggressive stock repurchase program in 2009 through 2011 when we repurchased over $0.5 billion of stock or equal to half our market capitalization today.
As a REIT from 2013 through 2020, we cannot implement a meaningful share repurchase program.
It is possible we could slip slightly above our targeted leverage ratio of 2.25 to 2.75 times in the fourth quarter, when we are scheduled to make almost $40 million of semi-annual interest payments on our unsecured notes, about $15 million in social security payments that were deferred under the CARES Act, and capital expenditures consistent with our previous guidance.
But we expect to be sustainably within the range on a quarterly basis thereafter.
We have made great strides in enhancing our capital structure by accessing the debt capital markets, addressing near term maturities, selling non-core assets, reducing debt and positioning the balance sheet to enable us to take advantage of growth opportunities and return capital to shareholders.
These steps have enabled us to reduce our reliance on bank capital and we intend to address the 2023 maturity of our bank credit facility next in order to provide us with the clarity needed around our future liquidity and to ensure the implementation of our capital strategy remains on track.
Our intention is to reduce the size of our bank credit facility and extend the maturity yet enabling us to continue operating with optimal flexibility and cost efficiency.
We continue to get increasing clarity around many of the uncertainties that existed when we suspended our financial guidance and currently anticipate providing full year 2022 guidance in February when we report our financial results for the fourth quarter and full year 2021.
I've already highlighted some of the factors experienced in the third quarter that could have an impact on our financial results for the fourth quarter.
These include the anticipation of modestly higher occupancy levels as the country continues to emerge from the pandemic.
Higher demand for our detention facilities could also result from lifting Title 42 to healthcare policy causing the Southern border to remain effectively closed in an effort to prevent the spread of COVID-19.
However, the timing of when the federal government ends Title 42, which is evaluated every 60 days, is difficult to predict and therefore likely won't have a material impact in the fourth quarter.
We also anticipate higher staffing levels as we return our correctional detention and reentry facilities to normalized pre-pandemic operations.
Longer-term, as we look toward 2022, we will endeavor to hire in anticipation of increases in occupancy, which could have a negative impact on our margins at least until we experience further increases in occupancy.
We continue to anticipate a challenging labor market, which could require us to provide further wage increases and other incentives in certain markets necessary to attract and retain qualified staffing levels.
By signing a new contract with Mahoning County at our Northeast Ohio Correctional Center and expanding the contract with Montana at our Crossroads Correctional Center, we have successfully resolved two of the four 2021 contract expirations with the U.S. Marshal Service.
The contract with the U.S. Marshal Service at our 600-bed West Tennessee Detention facility expired September 30 and was not renewed.
As we previously disclosed, we responded to a request for proposal to utilize the West Tennessee facility and we remain optimistic in signing a new contract.
We have temporarily redeployed most of the staff at this facility to other facilities we operate, while we negotiate the contract in order to provide minimal disruption in ramping back up operations.
But depending on the outcome and timing of a decision as well as the pace of utilization, we could experience a reduction in earnings in the fourth quarter of up to $0.02 per share compared with the third quarter.
Our last contract with U.S. Marshals expiring in 2021 is at our 1,033 bed Leavenworth Detention Center in Kansas, which expires in December.
We are in discussions with other potential partners to utilize the Leavenworth facility in the event we are unable to reach a solution that enables the U.S. Marshals to fulfill its mission at this facility.
Since the contract doesn't end until the end of the fourth quarter, however, we don't expect a material impact in the fourth quarter even if the contract is not renewed.
During the third quarter, we responded to a request for proposal from the state of Arizona to care for up to 2,700 inmates the state plans to transfer from a facility owned and operated by the Arizona Department of Corrections, Rehabilitation and Reentry.
We are optimistic in a contract award near the end of the year, which would obviously be more impactful in 2022.
Compared with the third quarter, we expect higher interest expense as a result of the additional issuance at the end of September of $225 million of our 8.25% senior notes, somewhat offset by the $90 million repayment in October of our Term Loan B, which has a total effective rate of 7%.
We currently estimate our income tax expense to reflect a normalized effective tax rate of 27% to 28%, although we estimate our cash taxes to be approximately 20% for the year because of net deductions for special items. | compname posts q3 revenue of $471.2 million.
q3 adjusted ffo per share $0.48.
q3 revenue $471.2 million.
expect to provide full year 2022 financial guidance in february 2022. |
Joining me on the call today are Tim Hingtgen, Chief Executive Officer; Dr. Lynn Simon, President of Clinical Operations and Chief Medical Officer; and Kevin Hammons, President and Chief Financial Officer.
We will refer to those slides during this earnings call.
All calculations we will discuss also exclude gain or loss from early extinguishment of debt, impairment expense as well as gains or losses on the sale of businesses, expense from government and other legal settlements and related costs, expense from settlement of legal expenses related to cases covered by the CVR and change in tax valuation allowance.
We achieved strong operational and financial results in the first quarter, during what was a milestone period for the healthcare industry as we marked the one-year anniversary of the onset of the COVID pandemic.
A year into this experience, we are still managing through extraordinary circumstances and adapting to constant change.
During the first part of the quarter, especially in January, COVID surges continued to impact volume in many of our markets.
In February, and certainly by March, COVID cases subsided and other volumes began to notably improve.
We provided care for approximately 9,500 inpatient COVID admissions in the first quarter.
This compares to approximately 8,000 COVID admissions during the third quarter and another 14,000 COVID admissions during the fourth quarter of 2020.
We finished the first quarter with good operational momentum, progress in many strategic initiatives which I will discuss in a minute and a sense of optimism that as vaccination rates increase and COVID cases decline, we will continue to move to a more normal operating environment.
In the first quarter on the topline, same-store net revenue growth increased 9.8%.
On a year-over-year basis, net revenue growth was driven by higher acuity and an easier comp, due to COVID related government restrictions on elective procedures that started in March of 2020 which impacted volumes in net revenues last year.
This quarter admissions and surgeries were negatively impacted by the high COVID case counts that we experienced in January as well as severe snow storms that hit much of the South in the middle of February.
During the month of March, we were very pleased with our strong volume recovery, further closing the gap to our pre-pandemic run rates.
We believe the rollout of the COVID vaccine also impacted demand during the quarter, while some patients waited for their turn to receive the vaccine prior to returning for elective scheduled Health Care Services.
Throughout the pandemic period, we have been actively encouraging patients who have been reluctant to seek healthcare, to return for any need to checkup, screening, postponed procedures and other deferred care.
For the fourth quarter year-over-year same-store admissions were down 4.9%, adjusted admissions were down 7.2% and surgeries were essentially flat.
ER visits continue to lag other volume metrics with same-store ER visits down 17%.
Our expense management initiatives remain on track and effective with more progress demonstrated during the first quarter.
Adjusted EBITDA was $495 million which increased 60% compared to the prior year.
Adjusted EBITDA margin of 16.4% improved 620 basis points year-over-year.
During the quarter, $82 million of pandemic relief funds were recognized.
If we exclude the pandemic relief funds from the quarter's results, adjusted EBITDA was $413 million with an adjusted EBITDA margin of 13.7%.
Since comparative results are affected when looking at the first quarter of 2020 because of the government restrictions on elective procedures that took effect then, more helpful perspective can be found in a comparison to the first quarter of 2019.
Excluding pandemic relief funds, first quarter 2021 adjusted EBITDA of $413 million, increased 6% compared to the first quarter of 2019, despite operating 21 fewer hospitals as a result of our portfolio rationalization program.
We believe this clearly demonstrates our progress so far and the underlying strength and growth potential of our go-forward portfolio.
We continue to fuel the portfolio with attractive capital investments based upon defined growth strategies and of course through the determination and hard work of our hospital leadership teams across the country.
The results of the quarter demonstrate that the transformation of the company that started a few years ago is progressing and we are excited about all of the opportunities in front of us as we look toward the future.
In the medium term, we continue to target 15% plus adjusted EBITDA margin, positive annual free cash flow generation and reducing our leverage below 6 times.
During the last quarter, we did lower our leverage and we made a number of other improvements across our capital structure, which, Kevin will highlight later.
Now I'd like to spend a minute on strategic initiatives and the opportunities in front of us, especially as our divestitures have been completed and we are completely focused on our core portfolio.
We have been making investments in these markets over time to enhance our competitive position and to drive long-term growth.
Our company's growth objective is to advance opportunities for both inpatient and outpatient care development, based upon each market's unique characteristics and opportunities.
On the inpatient side, we've recently opened two new hospitals in Indiana and Arizona and both are performing quite well.
Another new hospital will open in Fort Wayne later this year and one addition of de novo campus in Tucson early next year.
And over the past three years, we've added nearly 300 new beds to the core portfolio, along with more than 50 new surgical and procedural suites to meet increased demand and to drive higher acuity.
We have also added several new service lines at hospitals throughout our portfolio.
On the outpatient side.
We recently completed a comprehensive study of several key markets to identify our best investment opportunities and ambulatory access and services, including more primary-care, specialty care and urgent care locations as well as freestanding ERs and ambulatory surgery centers.
In terms of progress, we opened our 14th freestanding ER during the first quarter, with two more locations scheduled to open this year.
We have also added two additional ASCs to the portfolio so far this year and we will add a de novo center in our Knoxville market this summer.
Adding all of this together, we continue to manage a very robust development pipeline of opportunities that we believe align well with our inpatient services, expand our outpatient access more broadly across our markets and then improves our overall market position.
We continue to think strategically about capital investments and how that can drive high impact, high growth returns as we deliberately build out and advance our networks.
We are also investing in what we call connected care strategies.
We have been regularly sharing progress updates on our proprietary transfer center operations, since 2017.
We continue to see impressive results from this initiative and we are leveraging the visibility it provides into areas for facility expansion, physician recruitment or service line enhancements will enable us to provide care for even more patients within a region.
We are also implementing proprietary patient access centers, which initially provide centralized scheduling services for our primary care practices.
We are seeing good initial results, including volume improvement with nearly 600 providers not being served by the centralized scheduling centers.
Over time, our goal is to use these scheduling hubs to enable outbound patient outreach to close gaps in care and to provide other services to ensure that patients can more easily navigate the healthcare system and receive the services they need.
We believe all of our investments are generating the intended results and positioning us for greater success in the long run.
I'm extremely proud of the progress we've made in so many areas.
They continue to earn our respect and admiration every single day.
As Tim just mentioned, it was a strong start to the year.
We delivered good financial performance, continued meaningful improvements across our capital structure and made additional strategic progress during the first quarter.
Net operating revenues came in at $3,013 million on a consolidated basis, down 0.4% from the prior year due to divestitures.
On a same-store basis, net revenues increased 9.8%.
This was the net result of a 7.2% decrease in adjusted admissions and an 18.3% increase in net revenue per adjusted admission.
Similar to the back half of 2020, our net revenue per adjusted admission benefited from increased acuity, higher rates and better payor mix.
Adjusted EBITDA was $495 million, up 60.2%.
This included $82 million of pandemic relief funds.
Adjusted EBITDA, excluding the pandemic relief funds was $413 million, an improvement of 34% over the prior year and an improvement of 6% over the first quarter of 2019.
Our adjusted EBITDA margin was 13.7% versus 10.2% in the prior year and 11.6% in the first quarter of 2019.
We continue to make progress toward improving adjusted EBITDA margins.
During COVID, we experienced various ways of new COVID cases from month-to-month, which has impacted our volumes and increased our operating expenses.
Our hospital leadership teams have continued to adjust extremely well to the changing business environment and that was evident again this quarter, while effectively executing our cost reduction programs, we have seen increased expense related to certain supply cost, contract labor and other expenses related to COVID.
With COVID cases declining we expect these additional costs to decrease.
Switching to cash flow.
Cash flows provided by operations were $101 million for the first quarter of 2021.
This compares to cash flows from operations of $57 million during the first quarter of 2020.
Looking at the quarter-over-quarter increase, cash interest payments were approximately $60 million lower in the first quarter of 2021.
The company repaid approximately $18 million during the quarter related to Medicare accelerated payments due to divestitures and other increases and decreases including improved EBITDA and working capital changes were offset.
As we look at the rest of the year, we expect our cash flow from operations to improve.
During the first quarter, in addition to the first quarter being a historically lighter cash flow quarter due largely to the resetting of co-pays and deductibles and the timing of certain payments, our cash flow from operations is also negatively impacted by the COVID peak in January and the weather-related disruptions during February.
As such our strongest net revenue month during the quarter was March, and as a result, we expect our cash collections to improve moving forward into the second quarter.
Turning to capex for the quarter.
Our capex was $105 million compared to $99 million in the prior year, keeping in mind that we are operating fewer hospitals than a year ago.
We continue to invest capital into our core portfolio to strengthen our existing markets and we are excited about a number of our recent investments along with a number of future opportunities that are in the pipeline.
We are pleased to have completed our formal divestiture plan and we continue to receive inbound interest regarding potential transactions and we will continue to assess the benefits of any future deals.
But as we move forward, we are focused -- we are most focused on driving growth across our stronger portfolio, which we believe will continue to benefit from our targeted investment focus strategies in improving economic and population demographics within our markets.
In terms of liquidity.
At the end of the first quarter, the company had $1.3 billion of cash on the balance sheet.
At March 31, the company had no outstanding borrowings and approximately $633 million of borrowing base capacity under its ABL with the ability for that to increase up to $1 billion.
Switching to the CARES Act and the pandemic relief funds.
At the end of 2020, we had $104 million of unrecognized pandemic relief funds of which we recognized approximately $82 million during the first quarter of 2021.
As a reminder, we have not included the pandemic relief funds in our full-year 2021 guidance.
Moving to the balance sheet and capital structure.
We've made significant improvements.
At the end of the first quarter we had approximately $11.9 billion of total debt, which was approximately $300 million lower compared to the prior quarter.
On the capital structure side, as a reminder, through 2020 and the first quarter of 2021, we lowered our debt by over $1.3 billion, reduced our leverage ratio by over 2 turns down to 6 times levered compared to over 8 times last year and lowered our annual cash interest by approximately $190 million.
In the first quarter, we completed a number of capital market transactions that further lowered annual cash interest and removed near term maturities.
In January, we extended $1.8 billion second lien notes to 2029 and $1.1 billion first lien notes to 2031.
Following these transactions, we call the remaining $126 million of 2022 unsecured notes paying that with cash on hand.
During the past few quarters, we have significantly extended debt maturities, paid down debt and lowered our annual cash interest.
Our next maturity is now not due until June of 2024.
Now I'd like to quickly comment on our full-year 2021 guidance.
Net operating revenues are anticipated to be $11.7 billion to $12.5 billion, unchanged from our previous guidance and adjusted EBITDA is anticipated to be $1.65 billion to $1.8 billion, which does not include pandemic relief funds.
Overall, the first quarter was a good start to the year and as a result, we have tightened our adjusted EBITDA range by raising the low end of our EBITDA guidance.
As we look forward, we continue to expect our expense savings from our strategic margin program to build throughout the year with more significant cost reduction in the back half of 2021.
We also expect this program to drive incremental savings into 2022 and beyond, due to this program along with the net revenue initiatives that Tim mentioned, we expect to achieve our medium-term financial goals over the next several years, which will benefit all of our stakeholders. | q1 revenue fell 0.4 percent to $3.013 billion. |
These forward looking statements are subject to a number of known and unknown risks, which are described in headings such as Risk Factors in our annual report on Form 10-K and other reports filed with or furnished to the Securities and Exchange Commission.
As a consequence, actual results may differ significantly from those expressed in any forward looking statements in today's discussion.
We do not intend to update any of these forward looking statements.
We will refer to those slides during this earnings call.
All calculations we will discuss also exclude loss or gain from early extinguishment of debt impairment expense as well as gains or losses on the sale of businesses; expenses from government and other legal settlements and related costs, expenses from settlement and legal expenses related to cases covered by the CVR expenses related to employee termination benefits and other restructuring charges, change in tax valuation allowance and gain on sale of investments and unconsolidated affiliates.
We are very pleased with our third quarter operational and financial performance, especially as our healthcare teams provided care for a large number of patients with COVID-19.
Despite this challenging environment, we continue to advance key growth strategies and other important operational improvements.
During the third quarter, the Delta variance spread through many of our markets across the Sun Belt space.
As a result, we provided care for approximately 15,000 inpatient COVID admissions or 13% of our total admissions, which was our highest quarterly case count to date.
This compared to more than 3,000 inpatient COVID cases during the second quarter and 9,500 during the first quarter.
And it is also worth noting that non-COVID healthcare demand was higher in the third quarter than in our prior quarters with elevated COVID-19 cases.
Since the onset of the pandemic, the importance of our healthcare team and the critical role they play in the communities we serve has certainly been reinforced.
I am impressed with their professionalism and compassion and remain grateful for their commitment to providing safe, high quality patient care.
Looking at the third quarter, we produced strong results despite the COVID surge.
On a same store and year over year basis, net revenue increased 7.1%.
Same store admissions increased 2.8% and adjusted admissions were up 4.7%.
Surgeries increased 1.5%, while ER visits were up 24.2%.
As a reminder, during the third quarter of 2020, we drove solid volume recovery as industry volumes were returning.
So we were pleased with this year over year volume performance.
Looking at our third quarter volumes compared to the pre-pandemic third quarter of 2019, same store admissions decreased 3%, while surgeries declined 4%.
ER visits further improved and were up 1% versus 2019 due in large part to our freestanding ED expansion strategy as well as elevated levels of COVID visits and testing.
Despite the COVID surge in the third quarter being our largest to date, non-COVID demand was higher than the last significant surge in the first quarter of this year.
As a result, we delivered stronger volumes across all key metrics compared to the first quarter.
That said, deferred care and related procedures have been impacted throughout the pandemic, and we expect healthcare demand to return over the next several quarters.
And our recent investment, which I will cover in more detail shortly, will help meet growing demand for healthcare services in the months and years ahead, and drive market share gains across our portfolio.
Moving now to EBITDA during the third quarter.
On a consolidated basis, adjusted EBITDA was $482 million.
Excluding pandemic relief funds, adjusted EBITDA was $463 million, which was up 7% year over year, with an adjusted EBITDA margin of 14.8%.
Compared to the third quarter of 2019 and excluding release pandemic relief fund, adjusted EBITDA increased 19%, and our adjusted EBITDA margin was up 280 basis points despite operating 19 fewer hospitals, which further validates our underlying confidence in the renewed core portfolio.
In terms of expense management, for more than 1.5 years now, the pandemic has created a continuously changing operating environment, requiring flexibility on a daily basis.
This was certainly the case again during this quarter.
Our hospital leadership teams and providers have adeptly managed the ebbs and flows, utilizing best practices, leveraging organizational resources and operating with agility all while prioritizing safety for their patients and care teams.
They continue to effectively manage their resources and control expenses.
Similar to prior waves of COVID, we experienced increased costs related to staffing, pharmaceuticals and other supplies, such as PPE and COVID testing.
And while the entire country is ready for the impacts of COVID-19 to subside, we remain confident in our ability to manage the dual-track operation strategy for as long as the pandemic continues.
Our portfolio is strong, and it is situated across parts of the country with attractive population trends and favorable economic conditions, which provide a solid foundation for growth over the next several years.
To broadly advance these growth opportunities, we have previously highlighted investments in incremental bed capacity new outpatient access points, higher acuity service lines, physician recruitment, our transfer center service, Telehealth technologies and in care coordination and patient experience.
These investments are working.
They have greatly improved our competitive position and are creating opportunities for incremental market share gains into the future.
Now I would like to share with you some of our recent growth oriented investments.
They include the JV opportunities, we announced last quarter with partnerships across rehab, long term acute care and behavioral health, the opening of new ASCs in the Knoxville, Tennessee and Tucson, Arizona markets.
The recent completion of an OB and neonatal intensive care expansion at Grandview Medical Center in Birmingham, Alabama, where we have now added more than 70 beds over the past three years.
The November opening of a new hospital in Downtown Fort Wayne, as part of Lutheran Health Network, the upcoming opening of our 17th freestanding ED near Bentonville, Arkansas, which is part of our Northwest Arkansas network, and a de novo hospital campus, the fourth in Tucson, Arizona, which is scheduled to open in early 2022.
We are also excited about the recently announced expansion of the physician's regional healthcare system in Naples, Florida.
This includes the construction of 100 new beds at our two existing hospital campuses in that market and the early 2022 addition of a third hospital campus in North Naples, which will specialize primarily in orthopedic surgery and rehabilitation.
Beyond these projects, we have a growing pipeline of both inpatient and outpatient investment opportunities, which we expect to further develop and strengthen our core markets even more.
We have been pleased with our progress this year, and in our overall execution in the midst of a challenging operating environment.
Due to our strong performance, we are raising our adjusted EBITDA guidance again this quarter.
And looking forward, we remain extremely optimistic about our portfolio and markets as well as the opportunities ahead of us to drive long term incremental EBITDA and cash flow growth.
As Tim highlighted, it was another strong quarter for the company.
as we delivered solid financial performance and further advanced a number of our strategic initiatives.
Through the recent transformation we've undertaken to reposition the company, we introduced strategies to drive net revenue growth and improve efficiency throughout the organization as well as to strengthen our balance sheet.
We completed our divestiture program, which allowed for debt paydown and additional focus in our core markets.
We made improvements to the capital structure, extending maturities and reducing annual cash interest.
And we've made operational improvements, which have improved our margins.
We are pleased with all of this recent progress and excited about the opportunities in front of us.
Switching back to the third quarter performance.
Net operating revenues came in at $3.115 billion on a consolidated basis.
On a same store basis, net revenue was up 7.1% from the prior year.
This was the net result of a 4.7% increase in adjusted admissions and a 2.3% increase in net revenue per adjusted admission, which faced a difficult comp from the prior year.
Excluding nonpatient revenue, which was lower year over year, net patient revenue per adjusted admission was up 3% compared to the prior year.
Adjusted EBITDA was $482 million.
During the third quarter, we recorded approximately $19 million of pandemic relief funds with no relief funds recognized in the prior year period.
Excluding those pandemic relief funds, adjusted EBITDA was $463 million, with an adjusted EBITDA margin of 14.8%.
In terms of expenses, supply cost increased in the third quarter, a result of higher pharmaceutical and other costs associated with caring for additional COVID patients.
Contract labor expenses increased in the third quarter similar to prior COVID waves during which COVID case counts were elevated.
As a reminder, our contract labor expense is recorded in the other operating expense line.
It's worth noting that our strategic margin improvement program has remained on plan during the year.
The formalized program continues to drive efficiency across the organization.
and the execution helped to offset cost pressure across all three expense lines during the quarter.
We expect this plan will drive incremental savings over the next several years.
Turning to cash flow.
Cash flows provided by operations were $400 million for the first nine months of 2021.
This compares to cash flows from operations of $2.1 billion during the first nine months of 2020.
The comparison versus the prior year is difficult as the $2.1 billion in cash flow from operations during the first nine months of 2020 included $1.159 billion of accelerated Medicare payments received and $715 million of pandemic relief funds received.
Declining net revenue during the first three quarters of 2020 resulted in declining accounts receivable which was, therefore, a benefit to working capital cash flows last year.
Conversely, with strong net revenue growth in the current year, we have a net working capital drag as accounts receivables have increased.
We expect this net working capital headwind to ease in future quarters.
Excluding repaid Medicare payments, cash flows provided by operations were $667 million for the first nine months of 2020.
For the first nine months of 2021, our capex was $334 million compared to $317 million in the prior period.
Our capex was up 5% in the first nine months of this year despite operating fewer hospitals than a year ago.
Our core markets have benefited from the rollout of our strategic initiatives, along with high return capital to fuel additional growth.
And as Tim mentioned, we have a strong pipeline of opportunities that we expect will drive incremental EBITDA as well as increased cash flow performance going forward.
In terms of liquidity, we continue to have no outstanding borrowings and approximately $728 million of borrowing base capacity under the ABL with the ability for that to increase up to $1 billion.
Also at the end of the quarter, we had $1.3 billion of cash on the balance sheet.
As of September 30, 2021, the company had $814 million of Medicare accelerated payments remaining to be repaid, which were recorded as a current liability on the balance sheet.
Rather than repay these remaining Medicare Accelerated payments over the next several quarters through the regularly scheduled recruitment process by CMS, the company has elected to repay the remaining outstanding balance of Medicare accelerated payments to CMS with cash on hand, which it has now completed during the month of October.
Moving forward, the company will begin receiving the full amount of cash reimbursement on future Medicare claims.
Due to our strong performance during the quarter, we have raised our guidance.
The updated full year 2021 guidance for net revenues is now anticipated to be $12.150 billion to $12.350 billion.
And adjusted EBITDA is anticipated to be $1.780 billion to $1.820 billion as we've increased our full year range.
As a reminder, our 2021 adjusted EBITDA guidance does not include any previously recorded pandemic relief funds or any pandemic relief funds that may be recorded in the future.
Cash flow from operations is anticipated to be $800 million to $900 million, an increase of $75 million at the midpoint.
Our cash flow from operations guidance excludes the repayment of Medicare accelerated payments that have occurred throughout the year.
capex is now expected to be $450 million to $500 million, and net income per share is anticipated to be $1 to $1.20 based on a weighted average diluted shares outstanding of 129 million to 131 million shares.
Lastly, at the beginning of this year, we introduced our medium term financial goals, which included achieving 15% plus adjusted EBITDA margins, delivering positive free cash flow annually and reducing financial leverage below six times.
Looking at the past three quarters, we've made significant progress on these goals as we've expanded our EBITDA margin, driven strong positive free cash flow year to date and further reduced our leverage, which is 5.9 times as of September 30.
We look forward to delivering additional progress across all these metrics as we move forward. | q3 revenue fell 0.4 percent to $3.115 billion. |
Today's call is being recorded and supporting materials of the property of Dana Incorporated.
They may not be recorded, copied or rebroadcast without our written consent.
Actual results could differ from those suggested by our comments today.
Additional information about the factors that could affect future results are summarized in our safe harbor statement found in our public filings, including our reports with the SEC.
A quick review of our financial results for the quarter highlights significant improvements over last year's pandemic-impacted second quarter.
In reverse of last year, when we were discussing shutdowns and lower sales, this year's second quarter, we delivered a strong $2.2 billion in sales representing a $1.1 billion improvement as our customers continue to see strong market demand and in many cases, outpaced production as supply chain challenges continue to hamper their operations.
Our adjusted EBITDA for the second quarter was $233 million, a $238 million improvement over last year.
Net profit margin was again tempered by high raw material costs and supply chain challenges.
Adjusted free cash flow was of slight use on the quarter, but was an improvement of $120 million over last year, driven by higher earnings.
Diluted adjusted earnings per share was $0.59 for the second quarter of 2021, an improvement of $1.28 per share compared to 2020.
Moving to the key highlights on the upper right-hand side of the page, we'll provide you an update today on how we're managing through the key challenges facing the mobility industry.
Additionally, we're excited to talk about a few new business wins, including electrification programs.
Lastly, I'll highlight our recent announcement to further accelerate our commitment to reduce greenhouse gas emissions and our adoption of science based targets.
Please turn to page five, and we'll begin our discussion with the ongoing supply chain challenges and how it's impacting the current cycle.
We continue to actively manage through the challenging commodity and supply chain environment as we face four key issues: higher raw material costs; semiconductor shortages impacting the production schedules of our customers; logistics constraints and higher transportation cost; and, of course, labor shortages related to COVID restrictions.
These challenges are not specific to our company but are impacting the entire mobility industry, which is seeing high demand, but production is being constrained, resulting in finished vehicle inventories for our OEM customers.
First, high input costs for commodities such as steel driven by high demand and limited supply are inflating prices across all of our end markets.
We're working to offset and recover these higher costs through our established mechanisms, but the inherent lag in those recoveries is creating a substantial margin headwind until the input costs stabilize and turn the other way.
Jonathan will highlight the financial impacts in just a moment.
Second is the semiconductor shortage that is leading to lower production volume at our OEM customers or reducing model availability, particularly in the light vehicle segment, but more recently in commercial vehicles as well.
However, end customer demand remains strong, leading directly to finished vehicle inventory imbalance.
Shipping delays and higher logistics costs continue to impact the industry and are driving higher input cost.
We're seeing this around the world to varying degrees.
Lastly, all three of the end markets are being affected by labor shortages, leading to production inefficiencies, plant downtime and higher labor cost.
We're taking the necessary actions to capitalize on this unique market dynamic of low inventory and high demand as a future opportunity for a stronger and longer duration recovery, as the input challenges subside.
Moving to slide six.
I'd like to talk to you about how we continue to successfully launch our new business backlog programs despite the challenges facing our industry.
In North America, we're excited to be supplying our Spicer SmartConnect all-wheel-drive system to a new compact pick-up truck, slated to go on sale next year.
Vehicles with our disconnecting all-wheel drive systems are designed to transition to all-wheel drive automatically and seamlessly when the vehicle system predicts slipping.
It not only enables impressive gains in performance and safety, but is also more fuel-efficient and perfect for the growing market for small pickup trucks.
Turning to slide seven.
I want to talk about new partnership for us in the electric commercial vehicles.
Dana announced the signing of a strategic agreement with Switch Mobility, which is an Ashok Leyland subsidiary focused on manufacturing electrified commercial vehicles.
The agreement positions us as their primary supplier of electric drivetrain systems, including e-axles, gearboxes, motors, inverters, software and controls for light commercial vehicles and buses in India and Europe.
Light commercial vehicles continue to present significant opportunities that lead the commercial vehicle segment shift to fully electrified platforms.
We are very excited about the partnership and will enable us to have direct positive impact on the delivery of sustainable urban e-mobility.
Please turn to page eight.
Continuing on the transition to electrified vehicles, slide eight highlights an exciting collaboration with Pierce Manufacturing and Oshkosh airport products on their new revolutionary Volterra platform of electric vehicles.
When the first vehicle rolled off the assembly line, they will feature an electric drivetrain with two Dana TM4 motors, coupled with a Dana-manufactured electromechanical, infinitely variable transmission pictured here in exploded view.
The Volterra platform of electric vehicles is engineered to channel mechanical power and battery power to maximize driving and pumping performance while helping reduce fuel consumption.
Depending on the usage and mission profile, the fuel savings could be significant.
The Volterra platform of electric vehicles not only reduces emissions in EV mode, but more importantly, are designed to help save lives.
Every second matters when responding to an airport emergency and the newly Striker Volterra.
ARFF is capable of achieving 28% improved acceleration when fully loaded with the new EV technology.
As an added benefit, the Striker Volterra vehicle results in 0 emissions driving during entry and exit of the fire station ion EV mode, so that there's no longer a need for expensive ventilation systems, within the station.
During the next several months, despite the Striker Volterra performance hybrid will be showcased at airports across the United States allowing firefighters to experience the firsthand, the revolutionary Volterra technology.
At Pierce Manufacturing, the first Pierce Volterra zero emissions pumper was placed in service in June of 2021 with the city of Madison, Wisconsin Fire Department, making it the first electric fire truck in service in North America.
The Volterra pumper is serving frontline duty at Station 8, the city of Madison's busiest fire station.
To date, the city of Madison has responded to over 500 active emergency calls with this new electric pumper.
This collaboration with Pierce Manufacturing and Oshkosh Airport Products enables Dana to expand our presence in the specialty vocational vehicle market while also opening doors to leverage these capabilities across other markets as well.
This success is in our Power Technologies Group.
Several electrified lifestyle and sport trucks have recently been announced.
Earlier this year, we highlighted our battery cooling technology with a global light vehicle OEM and mentioned that there would be more announcements coming.
To that, we're pleased to be showcasing our capabilities by supplying our advanced battery cooling technology.
Unfortunately, we can't yet mention the name of the OEM.
Our extensive range of long ThermaTEK battery cooling product sets the industry standard for innovation.
The award-winning customer design, cooling -- custom design cooling solutions feature lightweight aluminum construction, resulting in ultra clean products that stabilize the battery temperature and enable faster charging.
Turning to my final slide.
At Dana, we believe that leading the way in sustainability directly aligns with our leadership and vehicle electrification and is critical to supporting our customers as they work to achieve their sustainability goals.
That passion is reflected in our desire to advance our emissions reduction targets by developing new zero-emission technologies, delivering innovative products and driving operational efficiencies around the globe.
That is why earlier this month, we announced plans to reduce our annual Scope one and two greenhouse gas emissions by at least 50% by the year 2030, which is a five year pull ahead of our original target of 2035 that was announced last fall.
To help accomplish this aggressive goal, we signed a commitment letter with the Science Based Target Initiative, or SBTi, which aligns resources and incorporates best practices to accelerate emissions reductions.
This partnership between the Carbon Disclosure Project, United Nations Global Compact, the World Resource Institute and the Worldwide Fund for Nature, focuses on partnering with companies to guide emissions reductions initiatives using the science-based targets.
As we continue our sustainability journey, collaborating with organizations like SBTi will support us as we establish ambitious targets and identify key areas where we can further drive sustainability across our operations and our products that enable zero-emissions mobility.
Now I'd like to hand it over to Jonathan to walk you through our financials.
Please join me on slide 12 for an overview of our second quarter results compared to the same period last year.
In the second quarter of this year, sales topped $2.2 billion, delivering growth of over $1.1 billion compared to the prior year.
The doubling of sales is entirely attributed to the recovery experience across all of our segments from the height of pandemic-related shutdowns last summer, despite continuing to fuel the aftershocks in our supply chain today.
Adjusted EBITDA was $233 million for a profit margin of 10.6%, which represents a dramatic improvement over last year's nearly breakeven results, even as this performance is hampered by dramatic material cost inflation and continued supply chain challenges.
Adjusted net income in the second quarter of this year was $86 million, $185 million higher than the same period of 2020.
The diluted adjusted earnings per share was $0.59, $1.28 improvement from the prior year.
And finally, adjusted free cash flow this quarter was a use of $13 million, an improvement of $120 million over the second quarter of last year as higher profit more than funded increases in working capital and capital expenditures to support the growth.
Please turn with me now to slide 13 for a closer look at the drivers of the sales and profit growth for the second quarter.
The change in second quarter sales and adjusted EBITDA compared to the same period last year is driven by the key factors shown here.
First, overwhelmingly, the increase is attributed to the organic growth of nearly $1 billion, as our business laps the trough in sales caused by the onset of pandemic-containment measures last spring and summer.
The incremental conversion of 26% exceeds the decremental conversion from the same period in the prior year by about 200 basis points.
Second, foreign currency translation increased sales by nearly $90 million as the dollar weakened against a basket of foreign currencies, principally the euro.
As is typical, this has no impact on our profit margin.
Finally, steel prices have continued to rise at a rate much higher than anticipated.
Gross commodity cost increased by $70 million, and we recovered $45 million of this in the form of higher selling prices to our customers for a recovery ratio of about 65%.
This remains lower than our normal steady state recovery ratio due to the timing lag caused by the rapid spike in commodity prices.
These increases compressed our profit margin by approximately 180 basis points and represented the primary impediment to achieving 12% margins in the quarter.
Please turn with me to slide 14 for a closer look at how adjusted EBITDA converted to cash flow.
Free cash flow was a slight use in the quarter at $13 million.
This was a substantial improvement of $120 million compared to the same period last year and was entirely attributed to higher profit, which more than funded the higher capital requirements to support the increased volumes.
Please turn me now to slide 15 for a closer look at our revised full year guidance for 2021.
Given strong market demand in the second quarter despite the impact of the chip shortage, we now anticipate full year top line results toward the high end of our guidance range.
This represents a $250 million improvement from the previously indicated midpoint of the range and is driven by higher commodity recoveries, stronger foreign currency exchange and higher demand across all three of our end markets.
However, we still expect profit near the midpoint of our range, implying a margin of between 10.5% and 11% as the additional contribution margin from the higher demand is offsetting the higher commodity cost net of recoveries.
This also implies an adjusted free cash flow margin of approximately 3% of sales.
Diluted adjusted earnings per share is expected to move toward the higher end of our range at $2.45 per share due to lower interest and income tax expenses.
Please turn with me now to slide 16, where I will highlight the drivers of our expected sales and profit changes for the full year.
This chart highlights the key factors driving the change in expected sales and profit for 2021 compared to last year.
First, organic growth is now expected to add nearly $1.6 billion in sales, including our new business backlog of $500 million and the slightly higher end market volume increase mentioned on the previous slide.
Incremental margins are expected to remain strong in the mid-20s, providing about 350 basis points of margin expansion.
Next, we anticipate the impact of foreign currency translation to now be a benefit of approximately $150 million to sales and about $15 million to profit, with no impact to margin.
Finally, we now expect gross commodity cost increases approaching $250 million as steel prices have continued to rise.
We anticipate recovering about $180 million or 70% of the increase from our customers in the form of higher selling prices, leaving a net profit impact of $70 million, which will compress margins by more than 100 basis points.
Please turn with me to slide 17 for more detail on how we expect this year's adjusted EBITDA will convert to cash flow.
We expect full year adjusted free cash flow of about $275 million, representing an improvement of more than $200 million compared to last year.
The growth is entirely driven by the profit I just outlined on the prior page and is partially offset by the higher capital requirements to fuel the sales growth.
Please turn with me now to page 18 for an overview of the debt refinancing we completed in the second quarter.
In April, we were the first major mobility supplier to launch a green bond here in the U.S. The proceeds were allocated to finance green projects, driving our stated sustainability and social responsibility initiatives including; reducing greenhouse gas emissions; expanding the use of energy-efficient production processes; and designing, engineering and manufacturing products that enable the electrification of the world's mobility fleet.
Then in May, we launched our debut bond issuance to the European debt capital markets with a EUR325 million placement to refinance our 2026 dollar notes that had been swapped to euros.
Both of these actions lowered our borrowing costs, extended our maturities and will serve as more permanent components of our debt stack as we deleverage in the coming years.
This hands-on interactive technology experience will be held at our world headquarters in Maumee, Ohio, and broadcast virtually.
The event will feature our industry-leading EV products as well as a selection of electrified vehicles and equipment powered by these systems.
Our goal for the event is to provide further insight into how we see the transition to electrified mobility unfolding in the coming years and how Dana's leadership in this evolution will drive outsized growth and financial returns for our shareholders. | dana inc q2 adjusted earnings per share $0.59.
q2 adjusted earnings per share $0.59. |
Today's call is being recorded, and the supporting materials are the property of Dana Incorporated.
They may not be recorded, copied, or rebroadcast without our written consent.
Actual results could differ from those suggested by our comments today.
Additional information about the factors that could affect future results are summarized in our Safe Harbor statement found in our public filings, including our reports with the SEC.
As we jump right in, I'd like to share a quick overview of our results for the third quarter.
Dana delivered $2.2 billion of sales, representing an increase of $210 million over this time last year as our customers continue to see strong demand despite several headwinds.
Diluted adjusted EBITDA for the quarter was $210 million, a $9 million improvement over last year.
Free cash flow was a use of $170 million as the semiconductor shortage drove significant and unplanned OEM demand reductions which, of course, led to substantial downstream component inventory accumulation across the company.
Diluted adjusted earnings per share was up slightly compared with last year at $0.41 for the quarter.
Moving to the key highlights on the upper right-hand side of the page.
Today, we will provide you with an update on how we're navigating through unprecedented supply chain constraints, raw material cost inflation, and labor shortages that are impacting the entire global mobility industry.
We'll also outline how Dana is well-positioned to capitalize on long-term cyclical growth as near-term issues begin to subside.
Finally, I'll provide a recap on our recent Capital Markets Day that we conducted last month at our world headquarters in Maumee, Ohio.
This event was intentionally focused on vehicle electrification and more specifically the tremendous progress we've achieved by executing the strategy that we initially announced in 2016 and refreshed in 2019.
Very clearly our success in e-Propulsion continues to accelerate across all mobility markets as Dana's cohesive and streamlined global team is generating significant value for our customers around the globe.
Please turn to page 5 and we'll begin our discussion with the ongoing supply chain challenges and how it is impacting our markets.
Whether it is the semiconductor shortages causing OEMs to idle vehicle manufacturing or dramatic shortages of labor, sea containers, truck drivers, raw materials or numerous other issues resulting from the global pandemic, companies across the mobility industry are having to navigate through unprecedented manufacturing constraints.
As we all know too well, supply chain disruptions have significantly reduced global auto production as OEMs are challenged to procure chips required to produce their vehicles and meet robust consumer demand.
This reduced vehicle output has led to historically low finished vehicle inventories in the light vehicle segment.
The commercial vehicle and off-highway segments are largely experiencing similar high demand.
For example, the current Class 8 truck sales backlogs have reached pre-pandemic levels, and finished vehicle inventory levels for construction and agriculture equipment are at the lowest levels in the last three years, resulting in unfulfilled end-customer demand.
On the right side of the page, we are illustrating the issues constraining supply.
The disruptions we are seeing continue to cause component, raw material shortages, and escalating prices across all of our end markets.
In addition to the chip shortages I mentioned, shipping congestion at the ports around the world is translating to delays, container shortages, and increasingly just a cost resulting in overall higher input cost.
Labor shortages, particularly in the United States, are also leading to production inefficiencies, plant downtime, and higher labor cost.
All of this has led to customers struggling to meet the strong end-market demand.
We're actively navigating through the unprecedented and challenging market dynamics by working to offset and recover higher input costs for commodities such as steel through our established mechanisms.
Though due to the ongoing price inflation and inherent lag in recoveries, we continue to see a substantial margin headwind that will remain until the input cost stabilize and turn the other way.
While we do expect these challenges to continue in the near term, when supply chain issues do finally lessen, we anticipate a sustained recovery period as suppressed end-market inventory levels, combined with high consumer demand for our key platforms, provides the opportunity for a strong volume tailwind for us.
We are seeing the dynamic across all three of our end markets.
The alignment of these three will provide further demand momentum across our entire mobility landscape and Dana remains well-positioned to capitalize on the cyclical growth opportunities.
Moving to slide 6, I'd like to share a recap with you of our recent Capital Markets Day.
Last month, many of you participated either in person or virtually in our 2021 Capital Markets Day, which we hosted at our Sustainable Mobility Center on the campus of our world headquarters.
The goal of this event was to share our perspective on how electrified mobility will evolve in the coming years and how Dana's class-leading innovation and global presence will help to drive outsized growth and financial returns for our shareholders.
As many of you may recall, we introduced eight key elements that we believe showcase how Dana has successfully built a substantial EV franchise.
First is our guiding vision toward a zero-emissions future that is at the heart of everything we do and is the overarching theme of our electrification pursuits.
Second, we examined how our total addressable market is going to rise dramatically over the next decade as electrification becomes commonplace in each of the markets we serve.
Third, we presented Dana's industry-leading technical competencies in e-Propulsion systems.
More specifically, we illustrated how we are leveraging our design, engineering, and manufacturing team members' depth and capabilities to provide the most advanced three-in-one electrified drivelines in-house across all mobility markets.
Fourth, we discussed that as the use of batteries and electrodynamics accelerate in the mobility markets, the driveline will remain, and Dana will be a clear beneficiary of this megatrend.
The combination of electrodynamics and mechanical systems will increase our content per vehicle potential by three times and compared to our historical ICE product portfolio.
This migration of mechanical powertrains to smart electrodynamic systems requires embedded software controls, designing and integrating these into the driveline, along with in-house production of high-value sub-components will create a significant margin expansion opportunity for Dana in the future.
Six, Dana is a unique and compelling investment because we serve both the established OEMs transforming their businesses and the emerging OEMs are just getting started.
Our e Propulsion systems are on a vast array of vehicles and, as a result, we are well-positioned to capitalize on our broad base of new and existing customers.
Seventh, we utilize our existing global footprint and asset base, established operating system, and deep industry know-how that most our other competitors do not have and will require decades to build.
We view this as a significant cost and strategic advantage for Dana.
And finally, Dana's financial profile will remain robust throughout our electrification journey, because our core ICE product will remain in demand through the transition, thus generating significant cash flow to the power EV growth.
Our core business is not in a state of secular decline, but rather grows through the transition with assets that will remain largely relevant.
The combination of these factors tells the story of how the ICE to EV transition is positioning us for above-market secular growth and demonstrating that Dana is a great investment within the EV growth landscape.
Turning to slide 7, I'd like to share some evidence of how and where this is already happening.
During our Capital Markets Day, we highlighted a significant number of electrification new business wins.
As the saying goes, the scoreboard always tells the truth, and our electrification strategy is working.
Our EV solutions are being utilized by our off-highway customers in construction, underground mining, material handling, and even some green shoots in the agriculture applications.
In commercial vehicle, it's not by accident that we've achieved a market-leading position as Dana's initial focus and commitment was to medium- and heavy-duty trucks and buses.
In the light vehicle market, we're extremely active supporting full-frame electric truck OEMs with both rigid and independent e-axle concepts and potential solutions leveraging not only our complete in-house e-Propulsion capabilities but also significant experience we have from markets that were early electrification adopters, such as buses, material handling, and last-mile delivery vehicle solutions.
And while we are on the topic of the light vehicle market, we also announced for the first time in addition to significant battery and electrification cooling wins, a major new business win for a hydrogen fuel cell metallic bipolar plates.
The combination of our past successes, present capabilities, application know-how, and clearly demand [Phonetic] strategy for the future enables us to partner with and create value for our customers at any stage of their electrification progression, ultimately leading to us winning our share of nearly $19 billion addressable market by the end of the decade.
Now, I'd like to hand it over to Jonathan to walk you through our financials.
In the third quarter of this year, sales were $2.2 billion, a $210 million increase over last year, primarily driven by improved demand in our heavy-vehicle end-markets and the recoveries of raw material cost inflation in the form of higher selling prices to our customers.
Adjusted EBITDA was $210 million for a profit margin of 9.5%, which was 60 basis points lower than last year despite the higher sales as margin compression from raw material cost inflation more than offset the margin expansion from organic sales growth.
Diluted adjusted earnings per share was $0.41, a $0.04 improvement from the prior year.
And finally, free cash flow though was a use of $170 million, which was significantly lower than the third quarter of last year due to higher working capital requirements this year as recent customer schedule volatility and supply chain challenges have mandated higher inventory levels to ensure on-time delivery.
Please turn with me now to slide 10 for a closer look at the drivers of the sales and profit change for the third quarter.
The change in third quarter sales and adjusted EBITDA compared to the same period last year is driven by the key factors shown here.
First, the organic growth increase of over $100 million was driven by improved demand for heavy vehicles in both our commercial vehicle and off-highway equipment segments.
The elevated incremental conversion of 40% was the result of targeted cost containment and cost recovery actions in the quarter, which helped to offset operational inefficiencies brought on by volatile customer production schedules, supply chain disruptions, and labor shortages.
Second, foreign currency translation increased sales by about $20 million as the dollar weakened against a basket of foreign currencies, principally the euro.
As usual, this did not affect our profit margin.
Finally, while we had expected commodity costs to level off in the second half of this year, unfortunately steel prices have continued to rise.
During the quarter, gross commodity cost increased by more than $100 million compared to last year.
We recovered nearly 70% of these cost increases in the form of higher selling prices to our customers.
This remains lower than a steady-state recovery ratio due to the timing lag caused by the continued rapid rise in commodity prices.
Rising steel costs are entirely responsible for the margin compression during the quarter despite higher production.
Please turn with me to slide 11 for a closer look at how the adjusted EBITDA converted to cash flow.
Free cash flow was a use in the quarter of $170 million.
This use was driven by higher working capital requirements, specifically production inventory, resulting from volatile customer production schedules and instability in the global supply chain.
A combination of unpredictable demand pattern for our products, longer lead times for raw materials, and the impact of slower-than-usual logistics channels have caused us to hold significantly more inventory than normal to ensure that we protect our customers across all end-markets.
Inventory levels increased by more than $100 million sequentially and more than $400 million versus the same time last year as, at the time, the industry was just ramping the supply chain back up coming out of the pandemic containment-related shutdowns in the second quarter of 2020.
We expect our inventories will gradually retreat toward a more normalized level in the next few quarters, but the cash flow benefit won't be recognized until next year.
I'll provide some additional information on this in just a few moments.
Please turn with me now to slide 12 for a look at how the changing market conditions are affecting our full-year outlook in the form of our revised guidance for 2021.
On our last two quarterly earnings calls, we outlined the key assumptions underpinning our full-year sales, profit, and cash flow guidance.
Raw material costs were anticipated to plateau, the supply chain conditions were expected to improve modestly, and the chip famine was presumed to progressively abate.
Unfortunately, none of these came to fruition and, as a result, our top- and bottom-line expectations for this year have declined, as you can see on the right of the page.
We now anticipate full-year sales to be $8.9 billion at the midpoint of our revised range, down about $100 million from the indication we provided during our Q2 earnings call as lower-than-expected market demand of, approximately, $170 million will be partially offset by $70 million in additional commodity recoveries.
Full-year adjusted EBITDA is now expected to be about $845 million at the midpoint of the revised range, which is down about $115 million from our previous indication.
Loss contribution margin from lower end-market demand and higher operating costs make up, approximately, $70 million of this profit headwind and increased commodity costs will further lower profit by about $45 million.
Profit margin is expected to be, approximately, 9.5% and free cash flow margin is expected to be about 1%.
Diluted adjusted earnings per share is expected to be a $1.85 per share at the midpoint of the range.
Please turn with me now to slide 13 where I will highlight the drivers of the full-year expected sales and profit change from last year.
First, organic growth is now expected to add nearly $1.4 billion in sales.
Incremental margins are expected in the mid-20s providing nearly 300 basis points of margin expansion.
Second, as was announced yesterday, the agreement to acquire Modine's automotive liquid cooling business for a dollar has been terminated as we were unable to reach agreement on revised terms that would gain the approval of the German regulator.
As a result, there will be no significant impact from organic growth this year.
However, this was never included in our full-year guidance.
Third, we anticipate the impact of foreign currency translation to now be a benefit of, approximately, $150 million to sales and about $15 million to profit with no material impact to our profit margin.
And finally, we now expect gross commodity cost increases to be about $350 million compared to last year as steel prices have continued to escalate.
We anticipate recovering about $235 million, or just below 70% of the increase, from our customers in the form of higher selling prices leaving a net profit impact of $115 million, which will compress margins by about 170 basis points.
Please turn with me to slide 14 for a look at the second half profit margin implied in our revised full-year guidance and the key drivers of the trend through this year.
Typically, profit margins in the first and second half of the year are relatively flat in our business as sales and profit are higher in the middle of the year, the second and third quarters, and relatively lower in the beginning and end of the year, the first and fourth quarters, as a result of normal production seasonality.
The quarterly sales and profit cadence of our revised full-year guidance for 2021 is atypical where we now expect second-half margins to be about 200 basis points lower sequentially.
A few anomalies are driving this year's trend, including: one, a continued volume deterioration associated with the chip shortage; and two, rapid commodity cost inflation.
At a cursory view of the trend, the first anomaly is only visible by highlighting the second.
Essentially, the increasing raw material cost recoveries included in our sales are masking the sequential volume deterioration and both are having a profound adverse impact on profit and are amplified by the poor condition of the global supply chain.
On the right of the page, you will note the expected sequential deterioration in fourth quarter profit on relatively flat sales.
It's important to note that as we move into next year we continue to anticipate a plateau in commodity cost leading to an eventual decline, which will allow our recovery ratios to gravitate toward normal levels, ameliorating the commodity impact, and the period cost associated with the labor agreement ratification will not recur.
Our full-year outlook for 2022, which we will provide at year-end earnings in a few months, as we normally do, will take both of these sequential improvements into account.
Please turn with me to slide 15 for more detail on how we expect this year's adjusted EBITDA will convert to cash flow.
We now anticipate full-year free cash flow margin to be comparable with last year at about 1%, which represents a modest improvement of about $30 million as $0.25 billion of higher profits are invested in working capital to navigate the current environment and higher capital spending to fuel our future growth.
The downward revision compared to our prior expectation is attributed to the lower profit I just outlined on the last few pages as well as the higher working capital requirements we experienced in the third quarter that will gravitate toward more normalized levels in the coming quarters as production schedules stabilize.
It's worth noting, we are pulling multiple working capital levers to mitigate the cash flow impact associated with the elevated inventory.
Please turn with me now to page 16 for our perspective on the near-term challenges on the backdrop of the long-term outlook for our business.
As Jim outlined at the outset of the call, the current mobility market dynamics are the most challenging they have been in over a decade with robust demand for vehicles and equipment substantially constrained by the supply of materials, logistics, and people, which has led to dramatic cost inflation and substantial profit and cash flow margin compression.
These are all represented by the icons on the left of the page.
As we look to the future, we want to remind all of our stakeholders that as challenging as the current environment is, these forces position Dana for robust and dramatic cyclical recovery this business has seen in quite some time.
This is illustrated by the chart in the upper right of the page where we affirm our conviction that our business will exceed $10 billion of sales in 2023, and this represents 45% growth over three years and will lead to substantial profit and cash flow margin expansion as we progress toward our long-term financial potential.
But the cyclical recovery in our business is only a piece of our growth story.
As we outlined at our Capital Markets Day last month, we're poised to substantially outpace the market growth rate as we capitalize on the secular growth trend that vehicle electrification represents for Dana.
We expect the sales of our electrified products to double in the next two years contributing to the greater than $10 billion of sales in 2023, but then quadruple by the end of the decade to deliver a $3 billion business that will expand our profit and cash flow margins and reposition the business for the future.
This bright future is made possible by the highly skilled and extremely dedicated team of more than 38,000 around the globe who day in and day out embody the spirit of our company, people finding a better way. | dana q3 adjusted earnings per share $0.41.
q3 adjusted earnings per share $0.41.
q3 sales $2.2 billion.
sees 2021 sales of $8.8 to $9 billion. |
Mr. John Bullock is attending a college graduation today and family comes first.
A year ago, like many other management teams, we all had the deer in the headlights there happening as a result of the pandemic.
Today, we see a very clear future for Darling Ingredients as our dedicated global team of 10,000 plus employees continue to execute our business strategy in a safe and efficient manner.
Our earnings for the first quarter of 2021 we're certainly energized by a rising commodity price environment, which undoubtedly had a positive impact and enabled Darling to report a record $284.8 million of combined EBITDA for the quarter.
The Feed segment's EBITDA was $124.4 million, which was $34 million better than the fourth quarter of 2020 and $54 million higher than the first quarter of 2020.
Protein and fat prices averaged in the range of 40% to 60% higher than the year ago period and have continued to move higher into the current period.
Our Food segment turned in a solid performance to start 2021 with an EBITDA of $46.4 million, which was approximately 18% higher than a year ago.
We continue to see solid growth in our collagen peptide sales and look forward to our biomedical products having an impact in the future on this segment's earnings.
In the Fuel segment, we continue to see solid results from our European bioenergy business, which reported another solid quarter, producing $20.5 million of EBITDA in Q1.
Diamond Green Diesel generated another outstanding quarter with a $2.77 EBITDA per gallon on 78 million gallons sold.
Darling's half was $108.2 million of EBITDA plus our bioenergy results produced a strong $128.7 million of combined EBITDA in Q1 for our Fuel segment.
We continue to experience a favorable commodity pricing environment as the U.S. economy recovers with more and more states lifting COVID restrictions.
As travel increases, we are seeing energy prices go higher as ultra low-sulfur diesel is trading above $2 a gallon in the NYMEX spot for the first time in a couple of years.
Higher levels of economic activity here and abroad we believe will support continued strength in the demand-driven commodity cycle that I'll discuss a little later on the call.
Now I'd like to hand it over to Brad to take us through the financials, then I'm going to come back and discuss the outlook and our increased guidance for 2021.
Net income for the first quarter of 2021 totaled $151.8 million or $0.90 per diluted share compared to net income of $85.5 million or $0.51 per diluted share for the 2020 first quarter.
Net sales increased 22.7% to $1.05 billion for the first quarter of 2021 as compared to $852.8 million the first quarter of 2020.
Operating income increased 62% to $199.5 million for the first quarter of 2021 compared to $122.8 million for the first quarter of 2020.
The 62% increase in operating income was primarily due to the first quarter 2021 gross margin improving approximately $68 million over the prior year and increasing from 24.1% to 26.2%.
This is primarily the result of higher protein and fat prices in our Feed segment during the first quarter as Randy mentioned earlier.
Depreciation and amortization declined $6.1 million in the first quarter of 2021 when compared to the first quarter of 2020.
This reduction was due primarily to certain assets in our Food segment which became fully depreciated and amortized by the end of 2020.
SG&A increased slightly by $1.2 million in the quarter as compared to the prior year and there were $778,000 of additional restructuring and impairment charges related to the biodiesel facilities shutdown in the prior quarter.
Lastly, regarding the improved operating income, our 50% share of Diamond Green diesels net income was $102.2 million as compared to $97.8 million for the first quarter of 2020.
Interest expense declined $2.7 million for the first quarter of 2021 as compared to the 2020 first quarter.
Now turning to income taxes.
The company recorded income tax expense of $28.7 million for the three months ended April 3, 2021.
The effective tax rate for the first quarter is 15.8%, which differs from the federal statutory rate of 21% due primarily to the biofuel tax incentives, the relative mix of earnings among jurisdictions with different tax rates and excess tax benefits from stock-based compensation.
The company also paid $15.6 million of income taxes in the first quarter.
For 2021, we are projecting an effective tax rate of 20% and cash taxes of approximately $30 million for the remainder of the year.
Looking at the Q1 balance sheet, our total debt declined $63.5 million to $1.44 billion and the bank covenant leverage ratio ended the first quarter at 1.6 times adjusted EBITDA.
Capital expenditures were $60.8 million for Q1 2021 and is in line with Darling's planned capex spend of approximately $312 million on capital expenditures for fiscal 2021.
As you saw at the end of March, Diamond Green Diesel successfully entered into a new $400 million senior unsecured revolving credit facility.
The new revolving credit facility matures March 30, 2024 and is non-recourse to the joint venture partners.
The use of funds of this revolver or for general joint venture purposes and as we have indicated in the past, any potential distributions in 2021 wouldn't be considered until the expansion in Norco, Louisiana's in-production in the fourth quarter later this year.
We feel comfortable with the increased range of $1.075 billion to $1.15 billion of combined EBITDA as the increase is coming from two segments, our Feed segment and our Fuel segment.
The Feed segment is certainly benefiting from the rising commodity price environment for both proteins and animal fats and waste oils, and the question you're thinking is how long does this higher price environment.
Darling, just like every other commodity producer is watching this like a hawk.
Our view is that we got into the current situation because of the demand-driven event which started with China.
And unlike a supply shortage driving commodity prices higher, higher prices from a demand driven event can take multiple growing seasons to rebuild feed inventories.
Yes, commodity prices have steepened versus on the futures curve, but that futures price is still 30% to 50% higher than the historical price when you get to that future period.
For now, we think the Feed segment will perform well for the rest of 2021.
We remain disciplined in our evaluation of the volatility this segment can experience and continuing to reduce our expenses and improve efficiencies to enhance the margin environment we are experiencing today.
The other increase in our guidance is the Fuel segment.
DGD turned in a record EBITDA per gallon in Q1.
And with that, the Q2 margin is averaging in the current environment, we are putting a potential range of $2.25 to $2.40 EBITDA per gallon for DGD for 2021.
As our joint venture partner announced several weeks ago, we believe the start-up at Norco expansion will be in the middle of Q4, that DGD will ultimately sell 365 million gallons of renewable diesel in 2021.
Those higher gallons and the range of EBITDA per gallon provided puts Darling's half of the EBITDA from DGD between $410 million and $435 million for 2021.
We are targeting this facility to be operational in the back half of 2023, but the team continues to evaluate if we can improve the timeline and start up Port Arthur earlier.
For Darling, we continue to investigate multiple avenues to expand our feedstock footprint and we believe that we are on a solid pathway to achieve this objective in the very near future.
We are encouraged to see more and more states in the U.S. and other countries passing and preparing legislation for low carbon fuel standards.
In our view of the renewable diesel supply and demand equation, we continue to believe that renewable diesel demand will outpace supply for the next three to four years, then we believe that sustainable aviation fuel market demand should begin to develop and have demand pull for DGD somewhere in that timeframe.
We think our DGD Joint Venture is a highly innovative platform and employees one of the most advanced processes for turning waste animal fats and oils into the greenest hydrocarbon in the world.
And it goes without saying, DGD is one of the best investments we can allocate capital to for high returns for our stakeholders.
But we have other areas of innovation as well.
Since the beginning of 2020, Darling has had 100% ownership of EnviroFlight.
EnviroFlight is a leader in sustainable insect Ingredients designed for animal and plant nutrition, aiming to drive transformative change in the global food supply.
We have made several recent announcements on expanding our operations of EnviroFlight earlier this year and we believe this project will position us as the leading developer of proprietary technologies with the first commercial scale black soldier fly larvae manufacturer in the U.S.
We are also pleased with the development of work going on in Europe with our Biomedical technology team.
Our X-Pure GelMA is our latest addition to our Biomedical range of ultrapure gelatin and collagens to the medical industry, and we anticipate that the product offerings will grow as we move forward and the new products bringing added value to our industry.
Our X-Pure products are unique on the market as they come with ultra-low levels of impurities and fully validated traceability of raw materials.
Our innovative spirit grows as we continue to look for ways to improve our product offerings across the spectrum of the markets we serve.
We view our efforts to add innovative products as well as the ongoing investments we have made to build new and expanded rendering capacity over the past several years as key to improving long-term shareholder value.
Sometimes the cycles may not lineup for us, but when they do, Darling can generate solid returns and strong free cash flow.
I'd like to note that we are proud to be selected by Bloomberg and TV Media Group as one of the 50 sustainable climate leaders in the world.
Darling is the original recycler.
And to us, that makes Darling Ingredients the greenest company on the planet.
With that, lets go ahead and open it up to Q&A. | q1 sales $1.05 billion versus refinitiv ibes estimate of $1.03 billion.
qtrly net income of $151.8 million, or $0.90 per gaap diluted share.
increasing our combined adjusted ebitda guidance to a range of $1.075 billion to $1.150 billion for 2021. |
Now, I would like to hand the call over to Randy.
It's great to have everybody here.
Over the trailing 12 months, Darling's Ingredients business has generated in excess of $4 billion in sales and now more than $1 billion of combined adjusted EBITDA.
To us, this is a significant breakthrough for all of our stakeholders and puts us on an accelerated path to continued growth across all of our business segments in the coming months and years.
Darling opportunistically repurchased approximately $76 million of common stock during the second quarter because we believe that our Diverse Green Global business will continue to appreciate in value in the near future.
We saw many records in Q2 in all segments and including our joint venture Diamond Green Diesel.
In total, our Global Ingredients business generated approximately $222 million of EBITDA and DGD produced $132 million, which is our half, making our combined adjusted EBITDA just shy of $354 million for the second quarter.
We are very excited about the anticipated start-up of the new 400 million gallon renewable diesel expansion in Norco.
We are approximately 60 days from the largest project of its kind to begin producing, one of the greenest hydrocarbons on the planet.
Also, we are pleased that the start-up of the 470 million gallon renewable diesel plant located in Port Arthur, Texas has now moved through the first half of 2023 for start-up.
Once Port Arthur is online, the DGD platform will have 1.2 billion gallons of renewable diesel production capacity and 50 million gallons of Green gasoline capability.
With that, now I'd like to hand it over to Brad to take us through the financials, then I'll come back and discuss our outlook and why we're raising our guidance for the balance of 2021.
We'll take a look at the income statement first, briefly.
Net income for the second quarter of 2021 total a $196.6 million or $1.17 per diluted share compared to net income of $65.4 million or $0.39 per diluted share for the 2020 second quarter.
Net sales increased 41.2% to $1.2 billion for the second quarter of 2021 as compared to $848.7 million for the second quarter of 2020.
Operating income increased 152.4% to $268.3 million for the second quarter of 2021 compared to $106.3 million for the second quarter of 2020.
The increase in operating income was primarily due to the $104.3 million increase in gross margin, which was a 48.2% increase in gross margin over the same quarter in 2020.
Adding to our operating income improvement was our 50% share of Diamond Green Diesel's net income, which was $125.8 million as compared to $63.5 million for the second quarter of 2020.
A quick comment on gross margin percentage as it continues to improve year-over-year and sequentially.
For the first six months of this year, our gross margin percentage was 26.5% compared to 24.8% for the same period a year ago, which comes out to a 6.8% improvement year-over-year.
We continued to experience higher protein and fats prices in the second quarter compared to the same period a year ago, while at the same time maintaining historically high volumes.
This better pricing environment and strong volumes are driving the improved results for the first half of 2021 and that trend, we believe, will continue for the balance of this year.
Depreciation and amortization declined $4.1 million in the second quarter of 2021 compared to the second quarter of 2020.
This decline is primarily in our Food segment where certain assets became fully depreciated and/or amortized by the end of 2020.
SG&A increased $8.9 million in the quarter as compared to the prior year.
The main drivers for the higher cost in the quarter were related to FX, travel and insurance increases.
Interest expense declined $2.7 million for the second quarter 2021 as compared to the 2020 second quarter.
Now turning to income taxes, the Company recorded income tax expense of $55 million for the three months ended July 3, 2021.
The effective tax rate is 21.7% which differs from the federal statutory rate of 21% due primarily to biofuel tax incentives, the relative mix of earnings among jurisdictions with different tax rates, and certain taxable income inclusion items in the U.S. base on foreign tax -- foreign earnings.
For the six months ended July 3 2021, the Company recorded income tax expense of $83.7 million and an effective tax rate of 19.2%.
The Company has also paid $25.3 million of income taxes as of the end of the second quarter.
For 2021, we are projecting an effective tax rate of 22% and cash taxes of approximately $20 million for the remainder of this year.
Our balance sheet remains strong with our total debt outstanding as of July 3 at approximately $1.44 billion and the bank covenant leverage ratio ended the second quarter at 1.71 times.
Capital expenditures were $65.3 million for Q2 2021 and totaled $126.1 million for the first six months of 2021, which is in line with our planned spend of approximately $312 million on capital expenditures for fiscal 2021.
As a reminder this capex spend does not include our share of the capital spend at Diamond Green Diesel, which continues to be funded by internal resources at DGD.
As our Global Ingredients business and Diamond Green Diesel continues to perform well, we are, once again, updating our combined adjusted EBITDA guidance for 2021.
Through the first half of 2021, we have produced $638.5 million of combined adjusted EBITDA and we believe based on what we see in our markets at the present time, the second half performance of 2021 will be as strong as the first.
DGD has sold 162 million gallons of renewable diesel in the first half of 2021 and with DGD II starting up in Q4, we should see over 200 million gallons sold in the back half of 2021.
I do want to point out that we would expect the EBITDA margin per gallon for DGD to normalize back into the original guidance range that we gave you of $2.25 to $2.40 per gallon over the next six months.
And, I would also add, that's not a bad thing.
Earning $2.97 EBITDA per gallon in the first half was well above our expectations.
And with margins normalizing in the second half, DGD can still put up EBITDA per gallon north of $2.50 per gallon during all of 2021.
Remember that our focus at DGD is to improve our efficiencies, lower our carbon index scores and innovate production of renewable diesel and other renewable products that we can make like renewable naphtha, and soon, sustainable aviation fuel.
With the largest platform in North America, DGD will continue to take full advantage of its first-mover position for a long time to come.
Now that we are less than five months away from 2022, we think it might be time to frame up our expectations for the next calendar year.
With our current Global Ingredients business approaching $800 million of EBITDA for 2021, we believe that our base business could grow in the range of 5% to 10% for 2022.
Our assumption for this growth is continued higher demand for animal proteins and fats and continued growth of Peptan product sales around the globe.
We anticipate that DGD will earn $2.25 per gallon in 2022 and at a 700 million gallon sold rate that puts Darling's half of DGD EBITDA at approximately $800 million.
Our DGD outlook for 2022 is based on DGD's ideal location, our incredibly flexible logistical platform, our processing capabilities, and the fact that we have by far the most experienced and capable team of people, which makes DGD the lowest cost producer of renewable diesel in the world.
Adding it all up, Darling Ingredients combined adjusted EBITDA for 2022 should be in the range of approximately $1.6 billion to $1.7 billion.
For a quick comparison, last year we reported $841.5 million of combined adjusted EBITDA.
Where we stand today, the 2022 estimate is double what we earned in 2020.
Yes, our team needs to execute to deliver this performance next year.
And I am very confident that they will, because for the last half-year and -- year-and-a-half, our 10,000 employees have delivered stellar results in what has been one of the most challenging environments a business or a community or our people and people around the world have ever faced with the ongoing pandemic.
With that, let's go ahead and open it up to Q&A, Andrea. | compname posts q2 earnings per share of $1.17.
q2 sales $1.2 billion versus refinitiv ibes estimate of $1.11 billion.
q2 earnings per share $1.17. |
COVID-19 remains a constant in our daily work and home lives.
Our team has been able to rapidly adapt to a very dynamic situation, and I sincerely appreciate their ongoing efforts to deliver the products and services we provide to our customers around the world.
For the third quarter of 2020, our combined adjusted EBITDA was $218.5 million as our Global Ingredients platform continues to be resilient.
Our health, nutrient and bio energy businesses continue to prosper and make the necessary adjustments to keep our momentum for a record 2020 and set the stage for even a better 2021.
Our fuel segment and our food segment showed improvement year-over-year and grew sequentially to the second quarter of 2020.
Overall, we continued to see an improving and positive trend on our gross margin percentages across our business lines.
As I talked with you back in May, we continue to work diligently on cost control measures and widening our gross margins, thus improving our returns.
Our USA team has done an exceptional job.
As expected, our Feed segment for the third quarter declined from the strong performance we had in the second quarter as protein prices in the third quarter moved lower sequentially compared to Q2 and prices for Q3 2020 were also lower when you compare them to 2019.
With the positive upward movement in the grain and oilseed complex, we are experiencing a better pricing environment for our protein products and for our fats and oil products in the fourth quarter.
And this should provide a positive catalyst heading into 2021.
In the food segment, there was a nice recovery of hydrolyzed collagen sales for the quarter.
We're in the process of commissioning our third new collagen peptide production facility in Presidente Epitacio, Brazil as we speak, which broadens our ability to supply this on-trend food ingredient to our customers worldwide.
The food segment, led by Rousselot, the Number 1 collagen provider in the world, is poised to provide meaningful earnings growth in 2021.
The fuel segment performance was significantly better than a year ago, both in our international green energy businesses and at Diamond Green Diesel.
Diamond Green Diesel achieved a $2.41 per gallon EBITDA margin on record sales of 80 million gallons for the quarter.
We recorded $96.4 million of EBITDA, which is Darling's share of the joint venture.
The energy market did show some improvements from a demand standpoint during the quarter.
Although oil and diesel prices remained significantly lower than the same time a year ago, diesel is currently trading $0.80 a gallon under Q4 of 2019.
On the positive side, the green premium we are able to capture for the renewable diesel has offset the majority of this downward price in the current environment.
And we expect that Diamond Green will sell between 55 million and 60 million gallons of renewable diesel in the fourth quarter and should average between $2.30 and $2.40 a gallon for those gallons sold.
On a year-to-date basis, Darling has generated $627 million of combined adjusted EBITDA for the Company, putting us on pace to finish what most everyone considers to be a challenging year with record results.
We currently believe that we can finish 2020 with combined adjusted EBITDA between $800 million and $810 million.
We certainly believe this gives us a solid platform as we move into 2021 for what we believe will be a transformative year as the 400 million gallon expansion, or what's known as DGD 2, comes online in late 2021.
If you've not had a chance to look at our refreshed corporate website or read our 2020 ESG report, I encourage you to do so.
Our ESG team did an excellent job in publishing our 2020 fact sheet, which gives us an exciting story to build on as we move forward.
It outlines our goals and initiatives and how Darling will play a significant role in the decarbonization of our planet.
For Darling, we take great pride in our green leadership position in the world, and we plan to do our part in conserving water, energy and reducing greenhouse gas emissions directly and indirectly by our DGD business producing more low-carbon renewable fuels for the world to consume.
I will touch base on a few of the highlights for this quarter and year-to-date.
Net income for the third quarter of 2020 totaled $101.1 million or $0.61 per diluted share compared to a net income of $25.7 million or $0.15 per diluted share for the 2019 third quarter.
For the first nine months of 2020, net income was $252.1 million or $1.51 per diluted share compared to $70 million or $0.42 per diluted share for the same period of 2019.
As Randy mentioned earlier, our gross margin continues to show improvement as we reported 24.9% for the third quarter of 2020 compared to 22.5% for the same period in 2019 as net sales increased $8.5 million and cost of sales and operating expenses decreased $14.6 million.
Operating income improved $67.7 million in the third quarter 2020 as compared to the prior year, reaching $127.5 million for the third quarter and totaled $356.6 million year-to-date 2020 compared to $182.5 million for the 2019 period.
In addition to the improved gross margin, the improvement in operating income benefited from a $59.1 million increase in Darling's equity and net income from Diamond Green Diesel.
SG&A expense was higher by $6.4 million in the quarter, partially attributable to the higher cost related to COVID-19, certain insurance increases as we recently renewed our coverages across the business, and higher benefits more than offsetting lower travel cost.
Interest expense was $18.8 million for the third quarter of 2020 compared to $19.4 million for the prior-year period.
We currently project quarterly interest expense to be approximately $15 million per quarter over the next several quarters.
The Company reported income tax expense of $4.8 million for the three months ended September 26, 2020.
The effective tax rate is 4.5%, which differs from the federal statutory rate of 21% due primarily to the biofuel tax incentives; the relative mix of earnings among jurisdictions with different tax rates and discrete items, including the recognition of a previously unrecognized tax benefit; and the favorable impact of certain US Treasury regulations issued during the quarter.
For the nine months ended September 26, 2020, the Company recorded income tax expense of $43.1 million with an effective tax rate of 14.5%.
Excluding discrete items, the year-to-date effective tax rate is 18.2%.
The Company also paid $24.9 million of income taxes as of the end of the third quarter.
For the remainder of the year, we project the effective tax rate to be about 20% with cash taxes for the year totaling approximately $35 million.
For the three and nine months 2020, Darling's share of Diamond Green Diesel's earnings was $91.1 million and $252.4 million as compared to $32 million and $94.4 million for the same period of 2019.
A reminder that there was no BTC in place to recognize during 2019 until the fourth quarter.
Capital expenditures of $184.9 million were made for the nine months of 2020 as we continue to take a disciplined approach during the pandemic prioritizing compliance and safety needs of the business and our reduced capex spend.
Now, turning to the balance sheet, in the third quarter, we were successful in amending and extending our $1 billion revolving credit facility with favorable terms.
The amendment extends the maturity date of the revolving credit facility under the credit agreement from December 16, 2021 to September 18, 2025.
In addition, we paid down our term loan balance by $145 million to a new balance of $350 million outstanding at the end of the quarter.
With our improved financial results and the paydown of the term loan B, our bank covenant leverage ratio for Q3 was 1.93 to 1.00.
We continue to make progress toward achieving an investment grade rating.
Our liquidity remains very strong with approximately $934 million available under our revolving credit facility at the end of Q3, providing strategic flexibility, while at the same time, maintaining a very solid capital structure.
As I mentioned earlier, our share of the 2020 DGD earnings should be approximately $330 million based on the ranges I laid out for you.
With the strong performance of Q3 and prices for our products improving as we work through the fourth quarter, we believe we can produce EBITDA of approximately $470 million to $480 million in 2020 in our Global Ingredients business.
That is back in line with the guidance we were anticipating back in February of this year pre-COVID.
The permitting process for these types of facility is no easy task.
Once approved, construction should begin immediately, putting DGD 3 in a position to be operational in early 2024.
We understand that there is concern with oversupply of renewable diesel and potentially a shortage of low-carbon feedstocks in the future.
Our simple answer is, we plan to take advantage of the first-mover position.
We have to be the largest low-cost producer of renewable diesel in North America.
While others are trying to figure out how to build or convert existing 80-year-old refineries to renewable diesel, we continue to focus on building new facilities with the lowest operating cost structure, the latest technologies, incorporating the trade secrets we've learned over the last seven years of operating our plants.
Darling's vertically integrated supply chain will continue to provide DGD with superior low-cost feedstock, which enhances that first-mover advantage for DGD.
This was especially challenging for diligence given COVID-19 protocols, but our Euro team did a nice job.
And we expect, even while small, this acquisition to strengthen our already successful Belgian system and immediately be accretive.
With that, let's go ahead, Matt, and open it up to Q&A. | compname reports q3 earnings per share of $0.61.
q3 earnings per share $0.61. |
Participants on the call are Mr. Randall C. Stuewe, our Chairman and Chief Executive Officer; Mr. Brad Phillips, Chief Financial Officer; Mr. John Bullock, Chief Strategy Officer; and Ms. Sandra Dudley, Executive Vice President of Renewables and U.S. Specialty Operations.
Now I'd like to hand the call over to Randy.
Our core business continues to perform very well.
For the third quarter, we reported combined adjusted EBITDA of approximately $290 million, of which $230 million was directly from our Global Ingredients business.
Like many companies around the world, we continue to face the challenges others are facing when it comes to labor, transportation and higher cost of operations.
Our team continues to execute our business strategy and operate our facilities with great efficiency while improving our gross margin year-over-year and sequentially from the second quarter this year.
As it has been well stated, Hurricane Ida took a big bite out of DGD's performance in Q3.
For the first time in eight-plus years of operating, DGD was shutdown to protect the employees and the assets of the facility from this significant storm.
The great news is there was little damage to the facility, which it took a direct hit from Ida.
With the days of shutdown and the restart process, we lost approximately 17 days of renewable diesel production.
Also, on the great news front, the DGD Norco expansion is running well and is closing in on reaching its production capacity, putting DGD on track to sell 365 gallons or more in 2021.
We also believe DGD could sell over 700 million gallons of renewable diesel in 2022 as the engineering team continues to fine tune the performance of this expansion.
The achievement of Diamond Green Diesel is only possible because of the hard working employees, contractors and service providers at the facility.
While many of these fine people suffered damage to their personal property and disruption to their daily lives from the hurricane, their resiliency to return to work and get the plant back into operation and finish the construction of DGD II was extremely important and exceptional.
We truly appreciate their tenacity for getting the job done.
Also, during the quarter, Darling repurchased approximately $22 million of common stock.
And for year-to-date, we have purchased approximately $98 million worth of stock.
On a year-to-date basis, our Global Ingredients business has earned approximately $628 million of EBITDA, putting us at an annualized run rate of approximately $850 million for 2021.
With that, now I'd like to hand it over to Brad to take us through the financials, then I'll come back and discuss a little bit of our outlook and some -- how things are going to finish up for 2021.
Net income for the third quarter of 2021 totaled $146.8 million or $0.88 per diluted share compared to net income of $101.1 million or $0.61 per diluted share for the 2020 third quarter.
Net sales increased 39.4% to $1.2 billion for the third quarter of 2021 as compared to $850.6 million for the third quarter of 2020.
Operating income increased 61.4% to $205.7 million for the third quarter of 2021 compared to $127.5 million for the third quarter of 2020.
The increase in operating income was primarily due to the $114.1 million increase in gross margin which was a 53.8% increase in gross margin over the same quarter in 2020.
Our operating income improvement was impacted by the lower contribution of our 50% share of Diamond Green Diesel's net income, which was $54 million in the third quarter of 2021 as compared to $91.1 million for the same quarter of 2020.
As Randy mentioned earlier, Hurricane Ida impacted gallons sold in Q3, resulting in lower earnings for DGD during the quarter.
Our gross margin percentage continues to improve year-over-year and sequentially.
Q3 2021 gross margin was 27.5%, which is the best result we have had in the last 10 years.
For the first nine months of this year, our gross margin percentage was 26.8% compared to 24.9% for the same period a year ago or a 7.6% improvement year-over-year.
As you can see on Pages four and five of our IR deck, gross margins have continued on a positive trend for the last four years as our management team across the business has worked to increase the profitability of their operations.
Depreciation and amortization declined $7.9 million in the third quarter of 2021 when compared to the third quarter of 2020.
SG&A increased $7.3 million in the quarter as compared to the prior year and declined $1.9 million from the previous quarter.
The main causes for the higher cost in the quarter compared to a year ago related to labor, travel and other.
Interest expense declined $3.4 million for the third quarter 2021 as compared to the 2020 third quarter.
Now turning to income taxes, the company recorded income tax expense of $42.6 million for the three months ended October 2, 2021.
Our effective tax rate is 22.3%, which differs from the federal statutory rate of 21%, due primarily to biofuel tax incentives, the relative mix of earnings among jurisdictions with different tax rates and certain taxable income inclusion items in the U.S. based on foreign earnings.
For the nine months ended October 2, 2021, the company recorded income tax expense of $126.3 million and an effective tax rate of 20.2%.
The company also has paid $36.9 million of income taxes year-to-date as of the end of the third quarter.
For 2021, we are projecting an effective tax rate of 22% and cash taxes of approximately $10 million for the remainder of the year.
Our balance sheet remains strong with our total debt outstanding as of October two at $1.38 billion and the bank covenant leverage ratio ended the third quarter at 1.6 times.
Capital expenditures were $65.6 million for Q3 2021 and totaled $191.7 million for the first nine months of 2021.
As a reminder, this capex spend does not include our share of the capital spend at Diamond Green Diesel, which continues to be substantially funded by internal resources at DGD.
There is strong momentum for our global platform as we finish out our best year in our history and look to build on that energy going into 2022.
I want to spend a few minutes on capital allocation.
Over the last couple of years, we have discussed our best use of cash at Darling through five points, and those really have not changed.
Those five points are: Investing in DGD, growing our core business, reaching an investment-grade debt rating, meaningful share repurchases and potentially starting a dividend policy for our shareholders.
And we continue to work on the execution of this plan as our free cash flow generation continues to grow.
I do not need to point out that we did make the decision earlier to accelerate the construction of DGD Port Arthur, Texas, which puts a big capital spend on DGD in 2022.
That does push out the potential size of distributions from the venture in 2022, but increases the potential for 2023.
I do also want to add that our M&A funnel of opportunities to grow our low CI feedstock footprint around the world and grow our green bioenergy production capabilities is rising.
This may adjust priorities in our capital allocation plan, but not limit our ability to execute on all of the points I already mentioned.
So with that, Grant, let's go ahead and open it up to Q&A. | compname reports q3 sales of $1.2 billion.
q3 sales $1.2 billion. |
2020 was a year with many facets.
We started the year confident that the commodity price headwinds faced over the past several years would ultimately transform into tailwinds.
Then a pandemic hit and basically turned all of our worlds upside down.
Like most other public companies have started in the earnings cycle, navigating the choppy waters of 2020 was truly a challenge.
Our priorities during the COVID-19 pandemic continue to be protecting the health and safety of our employees, while continuing to provide our essential services to the industries and communities we serve.
We implemented significant changes and safety protocols across our global operations to protect our employees, serve our customers and ensure business continuity.
We did incur direct costs of about $7.5 million related to these actions to protect our employees from COVID.
This doesn't include the plant disruptions, production slowdowns or customer order delays.
The result of our efforts allowed us to continue our operations through fiscal 2020 with minimal disruption.
Your hard work made 2020 one of our best years in Darlings long history.
We finished the year strong with a combined EBITDA, adjusted EBITDA of $214.5 million in fourth quarter.
All of our segments in the Global Ingredients platform put up solid results as the $146.3 million of EBITDA in the base business was the best quarterly performance of 2020 and reflected the growing momentum of an improved pricing cycle.
The Feed segment ended the year with a solid performance of $90.2 million of EBITDA, driven by the higher raw material volumes and better prices in both proteins and fats for the quarter.
The commodity price momentum has certainly carried into 2021 as prices are close to their 10-year mean reversion average.
We believe that 2021 results for the Feed segment should increase significantly over the previous year.
I'll dive into that a little later in the call.
Our Food segment continued to show strength, finishing 2020 with its best quarterly performance in our history.
Our collagen peptide sales drove better results posting approximately $50 million of EBITDA for the fourth quarter.
With our three new Peptan facilities online last year, we anticipate solid growth in this segment for 2021.
Now, as we had indicated on our third quarter call, Diamond Green Diesel had its turnaround in early fourth quarter, which led to DGD selling approximately 57 million gallons of renewable diesel at $2.40 per gallon or contributing $68.2 million of EBITDA to Darling during the fourth quarter.
For the year, DGD certainly met our expectations, selling 288 million gallons of renewable diesel at an average of $2.34 per gallon.
Darling's share of EBITDA from DGD for 2020 was $337.3 million.
Our European Bioenergy business reported another solid quarter, which we believe will be steady through 2021.
This decision was based on the go-forward unfavorable industry economics for biodiesel.
Our action does free up valuable low carbon feedstocks that can be sold to DGD and also helps us focus our energy on making DGD the best low cost renewable diesel producer in the world.
Brad will cover the particulars of the asset impairment charge related to these shutdowns a little later in the call.
Our current take on the economic recovery is bullish.
Ag commodity markets are experiencing a very favorable pricing environment.
The energy market also is stronger than a year ago with ULSD trading above where it was at the end of February 2020.
These two together make for a strong operating environment for Darling and DGD.
We believe as the U.S. and world economies reopen later this summer, demand for eating out, taking road trips will help us to maintain a good percentage of the improved commodity price environment we are experiencing today.
At the top, we'd like to point out that our fiscal 2020 was a 53-week year with the extra week in our fourth quarter.
Also I will speak to several adjusted amounts, which reflect the shutdown of our two biodiesel plants with a restructuring and asset impairment charge recorded in the fourth quarter of 2020 and also adjusting the Q4 '19 and fiscal year 2019 results for the retroactive blenders tax credits related to 2018 and 2019 all being recorded in our fourth quarter 2019 results.
We think this will give a better comparison of our results period-to-period.
The previously mentioned pre-tax restructuring and asset impairment charge of $38.2 million related to the shutdown of the two biodiesel facilities included a goodwill impairment charge of $31.6 million, other long-lived asset charges of $6.2 million and $0.4 million of restructuring charges.
Now, for a few of the highlights; net income for the fourth quarter of 2020 totaled $44.7 million or $0.27 per diluted share compared to a net income of $242.6 million or $1.44 per diluted share for the 2019 fourth quarter.
Net income for fiscal 2020 was $296.8 million or $1.78 per diluted share compared to $312.6 million or $1.86 per diluted share for fiscal 2019.
In the fourth quarter of 2020, we recorded a 30.6 million after-tax restructuring and asset impairment charge related to the shutdown of our Canada and U.S. biodiesel facilities.
Excluding this charge, adjusted net income was $75.3 million or $0.45 per diluted share.
Additionally, the fourth quarter of fiscal 2019 included retroactive blenders tax credits related to 2018, as well as for all of 2019.
Excluding these credits for periods prior to the fourth quarter of 2019 resulted in an adjusted net income for the fourth quarter of 2019 of $50.1 million or $0.30 per diluted share.
Excluding the restructuring and asset impairment charge related to the shutdown of the two biodiesel facilities adjusted net income for fiscal 2020 was $327.4 million or $1.96 per diluted share.
Excluding the retroactive blenders tax credits related to 2018 adjusted net income for fiscal 2019 was $226 million or $1.34 per diluted share.
Now, turning to our operating income, we recorded $74.4 million of operating income for the fourth quarter of 2020 compared to $293.3 million for the fourth quarter of 2019.
Excluding the pre-tax $38.2 million restructuring and asset impairment charge adjusted operating income for the fourth quarter of 2020 was $112.5 million.
Excluding the retroactively reinstated blenders tax credits recorded in the fourth quarter of 2019 for prior periods, the adjusted operating income for the fourth quarter of 2019 was $100 million.
Therefore, on a comparative basis the fourth quarter of 2020 adjusted operating income improved $12.5 million over the fourth quarter of 2019.
The fourth quarter 2020 gross margin increased $29.8 million over the prior year amount, which partially offset the $38.2 million impairment charge and a $10 million increase in depreciation and amortization, which was partially attributable to the Belgium Group and Marengo acquisition assets added in the fourth quarter of 2020.
Operating income for fiscal 2020 was $430.9 million as compared to $475.8 million for fiscal 2019.
Excluding the $38.2 million restructuring and impairment charge, the adjusted operating income for fiscal 2020 was $469.1 million.
Operating income for fiscal 2019 was $475.8 million.
Excluding the retroactive blenders tax credits related to 2018 adjusted operating income for fiscal 2019 was $389.2 million.
The $79.9 million increase in adjusted operating income for fiscal 2020 as compared to fiscal 2019 was primarily due to a gross margin increase of $108.3 million and a larger contribution and equity earnings from our renewable diesel joint venture Diamond Green Diesel.
These improvements more than offset a $20 million increase in SG&A, asset sales gains of $20.6 million in fiscal 2019 and a $24.7 million increase in depreciation and amortization.
SG&A increased $20 million in fiscal 2020 as compared to fiscal 2019, primarily due to increases in insurance premiums, labor cost, COVID-related costs and foreign currency effect, which were partially offset by lower travel cost.
Interest expense declined $1.7 million for the fourth quarter 2020 as compared to the 2019 fourth quarter amount and declined $6 million for fiscal 2020 as compared to fiscal 2019.
Turning to income taxes, the company's 2020 effective tax rate of 15.1% is lower than the federal statutory rate of 21% primarily due to the biofuel tax incentives.
Tax expense and cash tax payments for 2020 were $53.3 million and $36.8 million respectively.
For 2021 we are projecting the effective tax rate to be 20% and cash taxes of approximately $40 million.
Looking at the balance sheet at year-end January 2, 2021 debt was reduced $141.4 million during the year with a net paydown of $189.8 million.
The bank covenant leverage ratio ended the year at 1.90.
Capital expenditures totaled $280.1 million for 2020 as we plan to spend approximately $312 million on capital expenditures in fiscal 2021.
The company received $205.2 million in cash distributions in 2020 from our Diamond Green Diesel joint venture.
Lastly, we repurchased approximately 2.2 million shares of common stock totaling $55 million during fiscal 2020 and paid approximately $29.8 million in cash in the fourth quarter of 2020 for the Belgium Group and Marengo acquisitions.
Now diving into 2021, with the commodity price improvement and continued strong raw material volumes, we believe that our Food, Feed and Fuel segments prior to adding Diamond Green Diesel should generate between $565 million and $600 million of EBITDA.
That's a conservative 12% to 20% improvement over 2020.
DGD, we believe will be able to earn at least $2.25 a gallon EBITDA in 2021 and should produce between 300 million gallons and 310 million gallons this year, which would generate between $335 million and $350 million of EBITDA for Darling share.
This range does not include any additional upside for renewable diesel gallons that could be produced in 2021 as the 400 million gallon expansion is on track to commission in early Q4.
We should know better in the middle of the year the exact timing of when the Norco expansion will be approximately online.
Now, the DGD Port Arthur location is making excellent progress with all key long lead equipment items ordered and site work nearing completion.
This 470 million gallon renewable diesel facility should be operational by the back half of 2023 securing Diamond Green Diesel's leadership position as the largest low-cost producer of renewable diesel in North America.
We anticipate all costs of both expansion projects will be funded by the internal cash flow of Diamond Green Diesel.
However, we still anticipate DGD putting a non-recourse revolver in place shortly.
Now, let's do something different and turn to the feedstock question.
I will try and answer this question now but sure you will ask it again during the Q&A.
Darling believes there's adequate low carbon feedstocks to supply the 1.2 billion gallon renewable diesel platform of DGD.
We do expect growth in animal fats and certainly think that used cooking oil will recover a little this year and grow in the future years.
Our approach for keeping our feedstock advantage for DGD is twofold.
What can Darling do to render or collect more out of our footprint today, either through process or technology improvements or competitive positioning and what are the bolt-on opportunities to grow our volumes of animal fats and waste oils around the world?
We do believe there are multiple avenues for us to pursue in expanding our feedstock footprint and we have faith that our large global presence will put us on a pathway to get results that others might not be able to achieve.
Operating animal byproduct businesses on five continents allows us to see what no one else can see and provide supply chain arbitrage that will make our renewable diesel platform second to no one.
As we grow another year older and wiser we continue to position our company in the best place to take advantage of the changing times.
We are excited about our outlook for 2021, encouraged by the growth of our low carbon fuel standards around the world and we are doubly pleased with the great progress at Diamond Green Diesel and our joint venture partner Valero as we are now inside of nine months of the biggest renewable diesel project in North America starting up.
So with that Alicia, let's go ahead and open it up to question and answers. | q4 adjusted earnings per share $0.45 excluding items.
q4 net income $0.27 per gaap diluted share. |
Additional information on these factors can be found in the company's SEC filings.
And, now, I will hand the communications to Gerrard.
I'm pleased to join you today to discuss the transformation of our business model, our competitive differentiation and our solid start to 2021.
I'll begin on Slide 3 by recapping our investment thesis and our key financial metrics for 2021, which we are reaffirming today.
We are continuing to make solid progress in transforming our business model to generate strong returns on invested capital, significant free cash flow growth, and leverage our competitive differentiation to grow the top line.
In the first quarter, we delivered 4% revenue growth underpinned by market share gains in ATMs and self-checkout solutions.
I'll provide additional color about key market trends in just a minute, but I'll simply say that our growth in Q1 gives us the confidence to reiterate our 2021 revenue outlook of $4 billion to $4.1 billion.
Our return on invested capital continues to improve.
To date, the main contributor has been our DN Now work streams, which includes services modernization, G&A efficiencies from enhancing our digital and cloud-enabled capabilities and selling a higher mix of self-checkout devices and DN Series ATMs. The company is off to a good start in Q1, and we're tracking to our previously disclosed plan of $160 million of gross savings this year.
Transformation restructuring payments are also tracking to plan and our prior comments on this topic and we'll conclude this year.
The combination of enhanced profitability and lower restructuring payments is driving a strong increase in free cash flow.
Our outlook for 2021 is a range of $140 million to $170 million or approximately 30% of our adjusted EBITDA.
The company's operating rigor is driving our transformation and value creation.
While we have been tested during the global pandemic, we continue to demonstrate tremendous result with our ability to execute during this challenging time and we will continue to leverage this operating rigor going forward.
Slide 4 summarizes how our competitive differentiation is playing out in the marketplace and in our first quarter results.
Our retail business is benefiting from accelerating self-checkout demand, as well as mild growth in our point of sale business.
These trends drove retail revenue growth of 11% in the quarter, excluding the impact of divestitures and currency.
We expect growth will continue as retailers improve the end-to-end experience and reduce operating costs.
We're growing faster than the market, because customers value our high degree of modularity, increased availability and our open architecture.
During the quarter, we secured a multi-year agreement with the French retail group, Les Mousquetaires, to transform the checkout experience at nearly 2,000 stores with next generation point-of-sale and self-checkout products, our AllConnect Data Engine and dynamic self-service software.
In the United States, we booked our initial order for DN Series EASY self-checkout units with a high profile convenience store retailer, operating in airports and other tourist destinations.
Beyond the value of winning new self-checkout hardware deals, we're also benefiting from higher services attach rates that increase our recurring revenue.
Moving now over to the banking business.
We're seeing growing evidence of market share gains due to the advanced features and functionality of our next generation DN Series ATMs. In the United States, we're seeing gains among larger financial institutions, including an initial order to deliver DN Series cash recycling ATMs and maintenance services at a top 10 U.S. financial institution, which previously bought hardware from others.
With this wining [Phonetic], we received DN Series orders from five of the top 10 U.S. banks and we see opportunities to add to our success.
In Latin America, we're seeing DN Series orders from customers in Mexico, Colombia, Peru and Honduras, including a contract with Banco Nacional de Mexico, or Banamex, to deliver approximately 1,200 DN Series ATMs, Vynamic software licenses and maintenance services.
A number of customers have indicated that DN Series is not only a hardware upgrade, there is a critical element for automating, digitizing and enhancing the self-service channels.
For example, DN Series is facilitating higher service levels due to strong engineering and the AllConnect Data Engine, which leverages Internet of Things and machine learning to enable a data-driven service model.
For legacy ATMs, we're seeing service cost reductions of approximately 20%.
For customers that upgrading from legacy ATMs to DN Series, the potential performance improvements from ACDE can be even more significant.
We increased the number of machines connected to ACDE by 10% sequentially during the first quarter.
As we connect more devices to AllConnect Data Engine, we expect the operational efficiencies will add to our service margins and contribute to our target range of 32% to 33%.
Additionally, DN Series also supports advanced, self-service capabilities through enhancements we're making to our dynamic offering.
Our Video-as-a-Service offering is seeing solid demand.
Furthermore, our software team has created a single stack environment to facilitate quicker implementations and more frequent updates of new capabilities such as cardless transactions, cash recycling and video teller access.
We see opportunities to continue to grow our software business.
And, as previously disclosed, we're making investments in our dynamic payment suites and are seeing heightened interest from early adopters for our cloud native solution, although the sales cycle is expected to be longer than our typical software sale.
We're also hearing from more customers about their efficiency agendas and we're responding with pre-configured managed services, which support advanced capabilities and drive higher service levels.
The number of managed services opportunities has increased in the past quarter across retail and banking customers.
Beyond our growing pipeline, our managed services success in the quarter included a five-year contract to be the sole source supplier for maintenance, monitoring and help desk services for more than 4,000 self-service terminals and in a top five bank in the United Kingdom.
Secondly, an extended managed services contract with increased scope at the largest private sector bank in India.
And, thirdly, a three-year managed services contract extension covering more than 3,500 self-service terminals with HSBC, the largest bank in Hong Kong.
Our financial results represent a very solid start to 2021.
Adjusted EBITDA of $100 million was the highest first quarter in the company's history and while Jeff will discuss the details, I'm especially pleased that our operating profit growth of 25% and adjusted EBITDA growth of 12% significantly outpaced our top line growth of 4%.
This demonstrates strong operating leverage in our business model.
Next on the call, Jeff Rutherford, who will take you through a more detailed discussion of our financials and our financial outlook for 2021.
Our first quarter revenue growth and positive operating leverage demonstrates our transformed business model, which creating value for our stakeholders.
Slide 5 contains the first quarter P&L metrics for the past two years, providing a useful perspective of our transformed business model.
Total first quarter revenue of $944 million reflects foreign currency benefits of $34 million versus the prior-year period, partially offset by $23 million headwind from divested businesses.
Adjusted for foreign currency and divestitures, revenue increased 2.4% led by product growth of 11%, software growth of 7%, and a services decline of 4%.
We generated $273 million of non-GAAP gross profit in the quarter, an increase of $19 million or 7% versus the prior year period, reflecting higher revenue and improving margins from our DN Now achievements.
Gross margin increased 110 basis points to 29%.
We've expanded gross margins across all three segments, led by strong gains in software and services of approximately 590 basis points and 220 basis points, respectively.
Product gross margins declined 200 basis points, due primarily to non-recurring benefits in the prior year period and a slightly less favorable customer mix.
Operating profit increased $16 million or 25% versus the prior quarter, while operating margins gained 150 basis points to 8.4%.
SG&A expense was flat versus the prior year quarter, allowing the gross profit from incremental revenue to flow through to operating profit.
R&D expense was $3 million higher year-over-year, due to planned growth investment.
We delivered adjusted EBITDA of $100 million in the quarter, which increased $11 million or 12% over the prior year.
The next three slides contain financial highlights for our segment.
On Slide 6, Eurasia Banking revenue of $328 million, increased 5% versus the prior year period excluding the foreign currency benefit of $21 million and a $20 million impact from divestitures.
Growth was driven by higher product volumes as the team converted our backlog, which has been building for several quarters.
Segment gross profit increased $7 million year-over-year with contributions from all three business lines.
Foreign currency benefits of $8 million were partially offset by interim cost benefits from the prior year.
Gross margin expanded 60 basis points year-over-year led by software and services improvements, while product margins declined due to a less favorable customer mix.
Moving to Slide 7, Americas Banking revenue of $312 million declined 7% versus the prior year, excluding a $6 million foreign currency headwind and a $2 million divestiture headwind.
We experienced lower product volumes and installation activities in U.S. regional accounts and in Mexico versus the prior year period, although we see order growth picking up.
As Gerrard mentioned, our national account business is showing strength in both orders and revenue due to a customer acceptance of DN Series.
The software business delivered strong double-digit growth in the quarter, due to the revenue recognition of a large contract.
Segment gross profit of $97 million was down $7 million year-over-year due to lower volume and modest currency and divestiture headwinds.
Gross margin expansion of 100 basis points to 31.3% was driven by benefits from DN Now initiatives.
On Slide 8, retail revenue of $304 million increased 11% year-over-year after adjusting for $19 million foreign currency tailwind and the divestiture headwind of $1 million.
During the quarter, we experienced continued strength from self-checkout solutions as well as mild growth from point-of-sale products.
Software growth was driven by a large project in Europe.
When compared to the prior year period, retail gross profit increased 32% and $79 million, due primarily to revenue growth.
Gross margin expanded 260 basis points, demonstrating that our team is doing a great job delivering positive operating leverage, revenue growth, a more favorable mix of self-checkout solutions and continued execution of DN Now initiatives.
On Slide 9, we summarize our free cash flow performance and update our leverage and debt maturity schedules.
Free cash flow use of $70 million in the quarter was up slightly compared with the prior year quarter and was in line with our internal plan.
Versus the prior year, free cash flow was impacted by higher interest payments related to the timing of our secured note payments and higher cash used for inventory.
The combination of our growing product backlog coupled with longer lead times for electronic components and a weaker U.S. dollars resulting in higher cash requirements for inventory.
We are working closely with our suppliers to manage these challenges, however, just like other technology companies, these dynamics will remain on our watchlist.
Cash from receivables and payables improved slightly versus the prior year.
On an unlevered basis, free cash flow use improved from $30 million to $10 million year-over-year due to higher profits and lower restructuring events.
For modeling purposes, investors should expect our cash interest payments to be approximately $30 million in the second and fourth quarters and approximately $60 million in the third quarter of 2021.
When compared with year-end, the company's cash balance reflects seasonal cash use for us approximately $30 million used to pay down a portion of the revolving credit facility.
The company ended the quarter with $573 million of total liquidity, including $260 million of cash and short-term investments.
At the end of the quarter, the company's leverage ratio of 4.4 times was unchanged versus year-end and down one-tenth of the term from the year ago period.
On the right side of this slide, we update our gross debt levels as of March 31st.
Note that we have no material debt maturities until November of 2023.
We remain committed to strengthening our credit profile and we'll continue to evaluate opportunities to refinance that on more favorable terms.
Slide 10 contains our 2021 outlook, which we are reaffirming today.
We expect to generate revenue of $4 billion to $4.1 billion, which equates to 3% to 5% annual growth.
Our adjusted EBITDA range is $480 million to $500 million for the year, or 6% to 10% growth as we benefit from topline growth and operating leverage.
As most of you are aware, our second quarter results for 2020 included significant non-recurring benefits to our services' gross profit margins and operating expense.
We do not expect these benefits to recur during the second quarter of 2021.
Operating expense for the second quarter is expected to be in line with the first quarter or approximately $194 million, although it could be slightly higher if the euro continues its strength against the U.S. dollar.
Based on these factors, we expect adjusted EBITDA for the second quarter to be similar to our first quarter results.
Moving on to cash flow.
We continue to expect $140 million to $170 million of positive cash flow for 2021, including up to $50 million for DN Now restructuring payments.
Our outlook reflects a material improvement in the company's EBITDA, to free cash flow conversion rate from 12% in 2020 to approximately 30% in 2021. | sees 2021 total revenue $4.0b - $4.1b. |
I'm Christine Marchuska, Vice-President of Investor Relations for Diebold Nixdorf.
Additional information on these factors can be found in the company's periodic and annual filings with the SEC.
Participants should be mindful that subsequent events may render this information to be out of date.
And now I'll hand the call over to Gerrard.
I am pleased to say that customer demand for our solutions remained robust in Q3 despite supply chain constraints, logistics and inflationary headwinds.
I'm encouraged by the support of our customers and the innovative spirit of our workforce as we navigate on-going supply chain challenges.
Most of all, I'm encouraged by how our company is positioned to offer solutions and growth opportunities for our customers who aren't who are addressing rapidly changing consumer demands, and difficult competitive landscapes.
More than ever, consumers are not only embracing, but expecting self service solutions.
Whether it's at a bank, grocery store, or retailer, and more than ever, we are committed to helping our customers deliver more digital, flexible, and effective customer consumer journeys.
In banking, consumer practices are shifting away from the traditional teller window toward ATMs with more omni channel functionality.
At the same time, banks are looking for more self-service options to meet consumer needs, the fewer tellers and fewer branch locations.
There is on-going steps toward reducing the branch footprints, and optimizing the real estate is crucial.
And our ATMs are helping our banking customers to continue providing the same level of customer service, including customer outreach through marketing, while at the same time, making better use of their available space.
In retail, the pandemic resulted in more focused shopping experiences and growth in e-commerce, while at the same time, as cited by recent studies, 75% or more of consumer purchases broadly, are still happening in the physical store.
It's important to understand, however, that while our consumers prefer physical shopping, they also prefer lower touch options during the purchase process.
Our self-checkout offerings create a safe, convenient and lower friction shopping experience, providing self-protection, produce scanning, the market leading camera technology to assist in age restricted purchases.
In short, what we're seeing is that consumers and retailers alike are embracing self-checkouts.
According to RBR, the self-checkout installed base will reach nearly 1.6 million terminals by 2026, almost tripling the global install base as of the end of 2020.
Indeed, we believe automation provides much needed cost efficiencies for the retailer and a more efficient shopping experience for the consumer at the last mile of the store.
We believe the accelerating demand for self service and automation signaled a structural change to the way business will be done going forward and gives us a long runway of opportunity.
I like to now provide remarks around our third quarter performance.
Although demand remain strong in Q3, fulfilment of product orders shifted from Q3 to Q4, and from Q4 to 2022 as we continue to work through supply constraints and logistics challenges.
Our entry continues to exceed our original models, and our backlog increased approximately 19% versus the same period last year.
Revenue for the quarter was down 4% as a portion of revenue has shifted out to future quarters due to the temporary supply constraints and logistics challenges we're currently facing.
Our retail segments continue to perform well, with growth and revenue of 10% as compared to the third quarter of 2020.
Moving on to our business highlights starting with banking.
Momentum for DN Series ATMs continued in Q3 as a great percentage of our total orders for these next generation devices.
And we see this trend continuing based on our orders for Q4 and early 2022.
Additionally, the DN Series is now live and fully certified in over 60 countries globally, contributing to our market expansion in the space.
I like to highlight some notable DN Series wins for the third quarter.
We secured a contract for over $12 million with Banco Azteca in Mexico, including our DN Series cash recyclers, a new service contract and software licenses expanding across 500 branches.
With this win, over 75% of Banco Azteca's fleet is not composed of DN devices.
In Greece, we displace the competitor and doubled our presence at Piraeus Bank.
Approximately 200 branches and 40 off-premise locations will be equipped with a modern technology including our DN Series cash recyclers.
Introduction of cash free cycling is a significant change for this market, which had not previously had recycling capabilities by branching DN's.
We earned this win based on the higher mechanical reliability of our hardware, the higher capacity of our ATMs and on cleaner, more environmentally sustainable profile.
This win also includes a five year maintenance coverage contract.
Lastly, we built a competitive win with Standard Chartered Bank Malaysia, upgrading all of their legacy vices to our DN Series, increasing our fleet to consist of 100% DN Series ATMs. We continue to see growth in demand for our AllConnect Data Engine with a number of connected ATMs, increasing approximately 23% sequentially in Q3 2021.
This is a significant milestone for us as more than 100,000 banking self-service devices are connected to this solution, which leverages real time Internet-of-Things connections from our deployed devices, and has consistently reduced customer downtime, by as much as 50%, resulting in greater than 99% uptime.
This drives multiple business benefits, such as higher end user satisfaction, lower total cost of ownership that increased operational efficiencies.
I'm proud to share that we also were awarded technology and service industry association's 2021 Star Award for best practices in the delivery of field services for our AllConnect Data Engine.
We believe that demand for differentiated market leading solutions that meet the needs of today's consumer will remain solid.
This is especially evident in our robust pipeline, our healthy backlog, the bank successes of our sales team in Q3 and the growth in our AllConnect Data Engine.
Moving on to our retail business, we continue to see strong demand for our self-checkout products as retailers look to be bought next door for comprehensive solutions that provide favorable consumer experiences and cost efficiency as they face staffing challenges and tough performance comparisons.
We secured a competitive takeaway with an Italian retailer to replace their competitor's advices with our DN Series, self-checkout solutions, along with our full self-checkout suite and other offerings from our retailer solution portfolio.
We also expanded an important customer relationship with a large multi country retailer in Europe, which included a competitive takeaway with SCO devices.
This win secures a strategic rollout of self-checkout devices, beginning with two stores before expanding to 300 stores in 13 countries and our eventual full rollout of 2500 stores in 15 countries over the span of two or three years.
Additionally, this retailer signed a three year services and maintenance contract.
We are well positioned for growth in retail services.
In the third quarter, we won a contract renewal with a large global petrol convenience store for the Malaysia sites.
This was a significant renewal totalling over $16 million for our systems and services, including point of sale, helpdesk support, software, and other solutions.
Overall, we feel confidence and the strength of our retail business as our large global retail customers reconfirmed their commitments to their store formats.
While some retailers are considering fewer locations, they all remain focused on increasing the level of automation and technology investment per store.
Additionally, in 2021, we're seeing growth in the absolute number of our self-checkout devices on a year-on-year basis.
And we anticipate that our retail business blend the year above our pre-pandemic levels witnessed in 2019.
Our core portfolio continues to benefit from the industry trends I discussed earlier.
Around consumers' desire for more self-service options and banking retail, resulting in our customer's needs for more automation and greater cost efficiencies.
It also lends itself to layering on additional offerings with large addressable markets, such as managed services, software, our dynamic payments platform and other adjacencies that provided trajectory for sustainable growth for the future of our business.
We are particularly proud of the progress we've made with our retail and banking customers.
We recently received the results from our annual customer satisfaction survey.
And I'm delighted that our customers are awarding us some of the highest levels of net promoter scores we've seen reinforcing what is now been a multi-year trend of improving results.
Turning now to our growth initiatives.
In managed services, we continue to move forward on securing more new business and remain in productive discussions with multiple financial institutions.
We also see a promising pipeline for managed services in 2022.
In Q3 in North America, we were awarded a large managed services agreement with a tier one financial institution, including a large order of DN Series ATMs. We continue to scale our debit and credit platforms, with our Vynamic Payments offering at a top 10 global bank cross more than 17,000 ATMs. As we continue to implement and scale our existing customers for our Payments Platform, our go-to-market team is growing a strong fire fighter [Phonetic] sales pipeline for 2022.
Additionally, I'm pleased to announce our entry into new horizontal electric vehicle charging stations.
This is a natural fit for our services business.
With our global network of 8000 experienced service technicians, and the similarities between ATMs and EV charging stations.
There are an estimated 1.5 to 2 million public charging stations even in the United States and Europe by 2025.
And this is an approximately an increase of over 200% from roughly 500,000 charging stations today split between about 300,000 in Europe, and 200,000 in the U.S.
We are currently in discussions with the top EV charging station private companies that have already secured contracts for our solution with some of the key players in this space.
This is a promising and rapidly growing market.
And we look forward to hearing more on this new offering in future quarters.
Now turning to another important area of our business sustainability.
Not only do we focus on attaining sustainable growth for our shareholders, we also focus on environmental sustainability of our facilities, practices and processes.
I'm proud to say that we were recently awarded Germany's best energy scouts 2021.
The German government initiative that encourages energy saving opportunities.
We installed a green roof, constructed a regional brasses [Phonetic] to improve energy savings at our Paderborn facility.
Additionally, we included a solar panel system and out of 36 charging ports, for cars and e-bikes in parking areas.
We consistently are working on initiatives that drive sustainable programs, with the goal to have no adverse effects or public health for the communities where we operate.
We look to operate our other facilities around the globe in sustainable greenways as part of our focus around environmental, social, and governance commitments.
Looking ahead to Q4, we remain confident in our market leadership, and ability to close out the year strong on a year-over-year basis.
As of today, our owners are 100% confirmed with customers committed to our products.
We see negligible risk of loss sales, with strong strength and demand for America's banking and retail business segments.
Additionally, in Q4 for our banking segments, we are starting this quarter with a backlog of approximately $205 million higher than the beginning of Q4 2020.
Specifically for America's banking, we're seeing over a 50% increase in our backlog as we enter the fourth quarter 2021 as compared to the same time last year.
We're working with all of our customers on a continuous basis to fulfill the high level of orders we're receiving on a timely basis.
As far as focus, we're taking steps to increase our stock of key components as well as pre-booked vessels further advance to accelerate revenue conversion from our backlog.
Furthermore, on a year-over-year basis, our outlook remains robust, as I confirmed orders for the first half of 2022, or above the levels for the first half of 2021 as of this same time last year.
While we continue to see significant opportunity in the markets, and in our ability to meet our customer's needs, we like many global companies for navigating inflationary pressures, and supply chain logistics that continue to impact our business.
As I discussed earlier, delays in delivering or in delivery of our products will cause some revenue to shift to future quarters.
Thus, we are revising our guidance for year-end 2021.
However, I believe it is important to note that we see Q3 broadly, as a peak inflection point in supply chain disruptions.
Our visibility into semiconductor chip markets has increased meaningfully, providing us with a line of sight to many of the two providers through the first half of 2022.
Additionally, they've deployed other strategic tactics internally, such as shifting our production capacity which leaves some of the dependencies we've previously had on logistics and shipping.
I'm extremely proud of the work of our DN team to mitigate these issues.
We are squarely positioned to meet the needs of our customers and expand our base of banks and retailers as consumers continue to demand more access, more convenience, and more innovation through automation and self-service.
Although supply chain challenges have led to a temporary pullback in performance, it's important to understand that we are doing everything possible to mitigate these challenges, and delivering for our customers remains a top priority.
My further remarks will include references to certain non-GAAP metrics such as gross profit, gross margin, and adjusted EBITDA.
Total revenue for the third quarter2021 was $958 million, a decrease over third quarter 2020 of approximately 4% as reported, a decrease of 5% excluding foreign currency benefit of $16 million and an $8 million impact from domestic businesses.
Adjusted for foreign currency and divestitures, product revenue decreased 3%, services revenue decreased 6% and software revenue increased 3% compared to Q3 2020.
During the quarter, approximately $90 million of revenue was delayed due to extended transport times and inbound technology component delays.
This primarily impacted the U.S., Latin America and certain APAC countries and reduced total revenue by approximately 900 basis points.
On a sequential basis, total revenue increased approximately 2%.
Non-GAAP gross profit for the third quarter was $263 million, or a decrease of approximately $22 million versus the prior year period on lower gross margins of 27.4%.
The deferral of revenue and non-billable inflation resulted in a reduction to third quarter gross margin of approximately $33 million.
Service margins increased 40 basis points versus the prior period and more in line with our expectations.
Product gross margins were down approximately 180 basis points versus the prior year period, primarily due to $10 million as a result of inflationary pressures and supply chain logistics, partially offset by a favorable DN Series versus legacy ATM and geographic customer mix.
Software gross margins declined 500 basis points versus the prior year period excluding the impact of a prior year prayer cost benefit of approximately $5 million that did not recur in 2021.
Software gross margins were down approximately 40 basis points due to unfavorable mix.
Operating expense of $182 million for the quarter decreased approximately $14 million versus the prior period, period and decreased $17 million sequentially.
Compared with prior year key variances include reductions in variable compensation, partially offset by unfavorable effects and investment and growth projects.
When compared with our second quarter operating expense decreased due to reductions in variable compensation.
The net result was an operating profit of $81 million and operating margin of 8.5% in the quarter, the same trends drove adjusted EBITDA of $103 million and adjusted EBITDA margin of 10.7% in the quarter.
Now I will discuss our segment highlights.
Eurasia group banking revenue of $323 million decreased approximately 11% versus the prior period and 12% after adjusting for foreign currency benefit of $7 million and a $3 million impact of divestitures.
Lower revenue was primarily due to supply chain delays affecting timing of deliveries and installations of product with collateral impact of services and software and revenue plus the termination of expired service contracts.
As expected, following a strong order entry in Q2 and several non-recurring liabilities in the prior year, segment product order growth decreased 35%.
We are forecasting a strong order entry end of Q4.
Gross profit for the segment decreased to $98 million year-over-year included favorable foreign currency balances of $4 million and an unfavorable divestiture impact of $1 million.
Gross margin at 30.3% was down 50 basis points, the decrease was primarily due to inflationary pressures, offset by our focus on cost management.
Americas banking revenue decreased $22 million, or approximately 6% to $347 million, primarily due to declines in software and services revenue due to the negative collateral impact of unfavorable geographic mix of installations from North America to Latin American.
Americas banking continues to be disproportionately affected due to the location of our customers and our primary manufacturing facilities for DN Series ATMs, which are located in Europe and Asia.
Segment gross profit of $86 million was down $17 million due to lower revenues.
Gross margin percentage declined due to the impact of supply chain inflation and unfavorable geographic mix as previously noted.
Our retail segment had another quarter of strong performance.
Retail revenue of $288 million increased 10% year-over-year as we reported an 8% after adjusting for $6 million currency benefit and investor headwind of $2 million.
Demand for our point-of-sale checkout -- self-checkout continued to increase versus the prior year period with proprietary growth of approximately 23%.
Retail gross profit increased 15% at $79 million driven by revenue growth, gross margin expanded by 110 basis points directly attributable to growth in self-checkout revenue.
As we continue, continue to work to optimize our portfolio and focus our core business segments, we made the decision to enter the share purchase agreement to sell our reverse expanding business with an approximate deal close date targeted for year end.
This business is less than 2% of our total annual retail revenues in order was a strategic fit for the second going forward.
Turning to our capital structure metrics.
Unlevered free cash flow used in the quarter increase $121 million versus the prior year primarily due to increases in inventory, which are necessary to support both Q4 production and delivery targets as well as increases in critical components for 2022 orders.
Company ended the quarter with $325 million of total liquidity, including $230 of cash and short term investments.
The company's cash balance as of September 30th reflects increased inventory levels and interest payments made during the quarter.
At the end of the quarter, the company's leverage ratio was 5.4 times, which continues to be below our covenant maximum of six times.
Turning to our updated outlook for 2021.
We are revising our revenue range to $3.9 million to $3.95 billion, which reflects approximately $140 million in revenue deferral from 2021 to 2022 due to the current supply chain challenges.
Accordingly, we are revising our adjusted EBITDA outlook by approximately $40 million to a range of $415 million to $435 million taking into account the gross margin associated with the aforementioned revenue deferral and an incremental $20 million for supply chain related inflation over previous estimates.
The total estimated impact on supply chain related inflation is now approximately $45 million.
Our free cash flow outlook is now $80 million to $100 million, reflecting our revised EBITDA outlook and the net incremental working capital timing impact of the revenue deferred.
I will now hand the call back to the operator for the Q&A session. | diebold nixdorf inc - qtrly net loss $2 million versus $100.9 million.
diebold nixdorf inc - sees fy 2021 total revenue in the range of $3.90 billion to $3.95 billion.
diebold nixdorf inc - sees fy 2021 adjusted ebitda in the range of $415 million to $435 million. |
This is the Diebold fourth-quarter earnings call for 2019.
For your benefit, we posted slides which will accompany our discussion today.
And our slides are available on the investor relations page of dieboldnixdorf.com.
In the supplemental schedules of our slides, we have reconciled each non-GAAP metric to its most directly comparable GAAP metric.
Additional information on these factors can be found in company's SEC filings.
And now, I'll pass the mic to Gerrard.
2019 was a good year for the company as we executed on our DN Now transformation initiatives and delivered financial results which were in line or better than our expectations.
To set the stage a bit, I want to reflect for a moment on where we were one year ago.
We were in the early stages of streamlining our operating model and simplifying our portfolio and we have clear goals for strengthening our balance sheet.
Fast forward to today, after year 1 of DN Now and we have met or exceeded on every commitment we made and are on track for future targets.
As shown on Slide 3, we reported total revenue of just over $4.4 billion which was within our initial range, and our results also included substantial currency headwinds of approximately $150 million.
We delivered adjusted EBITDA of $401 million which was within our initial outlook from February of 2019, and which represents a 25% increase over 2018.
And also included a foreign exchange impact of approximately $7 million.
Most importantly, we exceeded our free cash flow target, generating $93 million versus our initial expectation of breakeven.
In line with our focus, these results demonstrate meaningful improvements in profitability and cash flow.
We increased our non-GAAP gross margin by 280 basis points to 25.2% with strong margin expansion in all three segments and business lines.
Our progress enabled DN to boost its adjusted EBITDA margin by 210 basis points to 9.1%.
Free cash flow increased by $256 million.
And unlevered free cash flow jumped by $315 million reflecting our companywide focus on driving both operating and net working capital efficiencies while delivering these against the backdrop of significantly stronger customer satisfaction levels.
Our progress reduced our leverage ratio by more than a full turn, ending 2019 at 4.4 times.
With this progress, our core business has a stronger foundation yielding a more focused and efficient company.
I'm extremely pleased with how the entire team at DN focused on our shared goals.
It is because of our people that we are executing in line with our plan.
On Slide 4, you'll see a list of operating achievements for 2019.
For our banking customers, we enhanced our differentiation by launching our next-generation platform called DN Series, the most IoT-enabled platform on the market.
We also introduced a new cloud-based analytics platform called the AllConnect data engine, through which we will further differentiate our services capabilities.
During the fourth quarter, key wins included a multimillion dollar global agreement for dynamic software and DN Series ATMs with Citibank.
In Belgium, we won a multiyear ATM-as-a-Service agreement to update and maintain approximately 1,560 ATMs with a joint venture called JoFiCo.
Our end-to-end solution features our DN series units, a common DN dynamic software stack and cloud-based analytics from our AllConnect DataEngine.
Banking product orders in Q4 declined year over year as we're up against a strong result from the fourth quarter of 2018 especially in Latin America.
As we enter 2020, we expect some easing of demand from large North American banks as they complete their upgrade efforts.
In the retail segment, we increased our retail self-checkout shipments by more than 50% in 2019.
More recently, a leading market research firm in our space, retail Banking Research, recognized Diebold Nixdorf as the largest self-service kiosk provider in the world.
In the fourth quarter, we won a new $6 million contract at the U.S. value retailer for kiosks and dynamic software.
Continued growth in self-checkout orders and the easing of point-of-sale orders were in line with expectations in the quarter.
As the market for point-of-sale solutions evolves, D&S responding with introduction of an all in one point-of-sale system that brings together the latest technology in the stylish space saving design.
Important wins in the quarter included a $15 million contract with the Swiss gaming cooperative for 5,000 point-of-sale terminals, and a new 3-year $14 million agreement with a European do-it-yourself retailer to refresh the end-to-end customer checkout experience at several hundred stores spanning 12 countries.
When I reflect on 2019, the greatest accomplishments are those which require coordination across large sections of the company.
For example, we're very encouraged by the broad-based success of our services modernization plan which includes proactively upgrading hardware of software on more than 140,000 terminals and implementing standard practices globally.
Similarly, we have substantially increased our product gross margins by streamlining our manufacturing footprint, improving product pricing strategies and optimizing the number of ATM models.
In addition, we dramatically improved the efficiency of our inventory levels, collections and payables which added $110 million to our cash flow and our improving performance led to a successful extension of nearly $800 million of credit in August.
With these accomplishments in the books, we enter the second year of our DNA transformation with momentum across our efforts and confidence in our strategic direction.
Slide 5 summarizes our key DN Now initiatives which are positively impacting both the quality of revenue and the efficiency of operations.
Our execution momentum gives us confidence to increase our targeted gross savings from $400 million to $440 million through 2021.
I'll comment briefly on several initiatives that have been in place for several quarters.
First, the transition to our new operating model is complete and about $100 million of savings have been realized in 2019.
Next, we'll continue to simplify our product portfolio and further optimize our manufacturing footprint.
Heading into 2020, our focus is squarely on realizing the benefits from our next-generation banking solution, the DN Series.
Earlier in the call, I spoke about the actions and significant achievements of our services modernization plan.
While we're pleased with our progress, we believe there is further room to improve service delivery and operating efficiency.
In addition, we launched a new series of actions called software excellence aimed at improving our software operations and gross margins.
We are enhancing professional services delivery by optimizing our resources and improved presales scoping.
Within our software products, we're simplifying our offerings and placing a greater emphasis on software development effectiveness.
Our efforts to reduce general and administrative expenses picked up steam in Q4, and are expected to deliver meaningful savings in 2020 as we build a fit-for-purpose support structure for our business.
I've already mentioned our 2019 success on net working capital, and we are continuing to pursue efficiencies on this important metric.
The final initiative on this slide is divesting non-core assets, enabling us to focus on businesses that meet our return hurdles, creating value for shareholders.
In 2019, we divested or shut down a half a dozen businesses which generated about 2% of revenue.
During Jeff's remarks, he will discuss our focus on revenue quality in greater detail, including two additional transactions which further simplify the company's business operations, enhance liquidity and reduce risk.
On Slide 6, I'll discuss the progress we're making to simplify our product portfolio.
We successfully reduced the number of ATM terminals by about 30% in 2019, and we have solidified plans to further reduce legacy terminals by about 45% in 2020.
When coupled with changes to our manufacturing footprint and better rigor on contract bids, we expanded our non-GAAP product gross margin by 310 basis points in the quarter to 22% which is a multi-year high for the company.
Going forward, we expect to build on our success with the rollout of DN Series.
Early field performance results are confirming substantially higher performance levels than our already strong field performance from prior models.
Customer reactions have remained very positive.
And they see a compelling value proposition, including a more modular and upgradable design which includes our next-generation cash recycling technology, advanced sensor technology and connectivity to the DN AllConnect Data Engine which will increase uptime and offer a better customer experience, greater load capacity, improved reliability and industry-leading security features in a smaller footprint.
And increased options for personalization and branding.
We have initiated the certification process for DN Series with 240 customers across 35 countries.
Our sales pipeline is growing nicely and we fully expect to ramp production as many certification processes are completed in the next few months.
Slide 7 contains key performance metrics for our services modernization plan.
Our service renewal rate continue to exceed 95% during the fourth quarter while our contract base of ATMs remained stable at 582,000.
This chart shows our revised contract based figures which exclude about 35,000 units in China, following our reduction in ownership, the strategic alliance as part of our non-core asset divestiture actions.
As minority owners, services revenues from these units will be deconsolidated going forward.
The recent trend in contract base units reflects our focus on making the business more profitable.
We have completed much of this important work.
And as a result, we expect the services contract base to expand modestly to 590,000 by year-end 2020.
In addition, evolving customer demands have created a growing opportunity for managed services, and we're excited about the potential for securing these contracts.
Our gross services margin increased 330 basis points versus the prior year to 28.2% in the fourth quarter.
Once again, both retail and banking contributed to these gains.
This is the sixth quarter since we launched the program, and we have consistently delivered strong year-on-year gross margin expansion.
Our momentum underpins our confidence in achieving full-year gross margins of 28% to 29% by 2021.
Looking forward to 2020, our service priorities include continuing our modernization program across both banking and retail, growing our services contract base of ATMs and self-checkout terminals and leveraging our AllConnect Data Engine across more of our estate.
On Slide 8, I'll cover our initiatives to further reduce general and administrative expenses.
This is a key opportunity for DN in 2020 to further improve our effectiveness and efficiency.
Within the finance organization, we are executing on centralizing our accounting processes, making greater use of shared services and increasing automation.
In Q4, we built meaningful momentum.
And Jeff will provide more details about our plans to realize substantial savings from these actions over the next few quarters.
During 2019, we reduced our IT spend by consolidating data centers, ramping down spend on legacy platforms and by proactively improving the resiliency and utility of our systems.
In 2020, we are shifting our focus to digitally enabling more capabilities across the company.
So while we continue to rationalize our legacy systems, our greater focus.
We are implementing new tools to support our digital transformation.
We also continue with our procurement rigor and are proactively managing external spend.
Looking forward, we see incremental benefits to be realized.
With respect to our real estate footprint, we reduced our office square footage by about 10% by closing or rightsizing more than 40 locations.
For 2020, our goal is to reduce office space by another 10%, while also implementing more agile workforce practices.
In the fourth quarter, we were pleased to drive non-GAAP SG&A expense to $169 million, our low point for the year.
Looking forward, we expect our initiatives will harvest further efficiencies from functional G&A costs in 2020.
Before I hand over to Jeff, I want to address what we're seeing with respect to the coronavirus situation.
Our first priority focuses on the safety of our employees, customers and suppliers, and we're closely monitoring all developments.
We are also playing close attention to the impact that this developing situation may have on our supply chain, production and logistics.
As you're aware, many Chinese companies resumed production only yesterday, and with partial capacity and the situation, therefore, remains fluid.
Our current view is that we may incur higher freight costs and could experience potential delays from our suppliers as they work to return to normalcy in a way that ensures worker safety.
We're being proactive in developing alternative supplier strategies and have initiated efforts with other technology providers in exploring potential broader solutions to mitigate any supply chain disruptions.
At this stage, the situation remains dynamic, and any near-term impact should not change our long-term trajectory.
Now, over to Jeff for a discussion of our financial performance before I rejoin with a few concluding remarks.
2019 was a very strong year as we took major steps forward in our journey to value creation and are looking forward to building on that success in 2020.
Slide 9 contains our fourth-quarter financial highlights which are squarely in line with the company's outlook.
Excluding the impact from foreign currency headwinds and our divestitures, revenue declined 8.1% to $1.15 billion for the quarter.
Many of you should recall that we reported exceptional strength in our product revenue in the fourth quarter of 2018 which was approximately $50 million more than we would typically expect, resulting in an unfavorable comparison.
In the fourth quarter and throughout 2019, we have focused on higher-quality revenue.
And that have been proactively reducing our exposure to lower-margin business which had a fourth-quarter revenue impact of approximately $40 million.
As a result, the year-over-year comps for the fourth quarter are not indicative of our 2020 revenue expectations.
These efforts, coupled with our DN Now progress, are producing tangible and sustainable gains to gross profit, operating margin and adjusted EBITDA margin.
We increased gross margins by 300 basis points to 26.3% which translates to higher gross profit of $3 million.
Higher gross profit, coupled with lower operating expenses, enabled the company to boost operating profit by 20% from $83 million to $100 million.
Correspondingly, our operating margin increased by 230 basis points to 8.7%, while the adjusted EBITDA margin improved 180 basis points to 11.4%.
Return on invested capital was approximately 10% in 2019, much better than our mid-single-digit result in 2018.
Going forward, we will continue to be selective about how we go-to-market and build on this momentum which you will see reflected in our 2020 outlook.
We believe this will set us up nicely to execute on our growth initiatives for 2021 and beyond.
Slides 10 through 12 contain segment financials for the fourth quarter and full year.
On Slide 10, we disclose highlights for Eurasia Banking which were in line with our expectations.
Excluding currency and divestiture, revenue declined 8.8%.
The year-on-year variance was primarily due to our proactive efforts to address low margin business.
These actions include our service contract renewal discussions, higher margin thresholds on new deals as well as decline in certain non-core businesses which are in the process of being divested.
Operating profit through Eurasia Banking was impacted by revenue volume as well as a higher mix of professional services which has a lower software gross margin.
On the plus side, we continue to drive higher gross service margins for this segment from our DN Now initiatives.
For the full year, revenue declined 2.4% adjusted for currency, divestitures and other actions.
This decline was primarily due to our actions to harvest low margin business.
Partially offsetting these trends, we delivered product revenue growth from customers in EMEA.
Operating profit increased by $19 million or 13% to $169 million, and includes foreign currency headwinds of approximately $10 million.
Our operating profit gains reflect DN Now's success in driving higher service and product gross margins as well as lower operating expenses.
Slide 11 provides financial highlights for Americas Banking.
Fourth-quarter revenue declined 1.5% after adjusting for currency headwinds and divestitures.
During the quarter, we experienced lower product volume in Latin America, partially offset by product and software growth in North America.
Operating profit nearly tripled in the quarter from $14 million to $40 million when compared with the prior-year period.
Again, execution of our DN Now initiatives resulted in a 630 basis point expansion of the profit margin to 9.5%.
For the full year, revenue increased 7% excluding the impact of currency divestitures and related actions.
ATM upgrades, the adoption of cash recyclers and increased software activity fueled these revenue gains.
In our services businesses, we exited certain contracts which did not align with our gross margin hurdle rates.
Operating profit increased by more than $100 million to $120 million primarily due to our DN Now initiatives and revenue growth.
This is, by far, the best performance in Americas Banking's operating profit and margins since the combination.
Moving to Slide 12.
retail results were in line with expectations.
Revenue decreased 15% after factoring in currency headwinds and divestitures due primarily to a challenging comparison.
Our fourth-quarter 2018 retail revenue was approximately $50 million or 15% above our quarterly average as we delivered on a number of large POS refresh contracts.
Within this segment, we continue to grow self-checkout product revenue as we experienced lower POS sales versus the prior year.
Another factor is our strategic decision to reduce our exposure to low-margin business such as shuttering our consulting business and discontinuing the reselling of certain low margin hardware from third-party suppliers.
Higher quality revenue and better cost structure from the DN Now initiatives, increased operating profit by 62% to $21 million.
For the full year, retail revenue decreased 2.5%, again, excluding the impact of currency divestitures and related actions.
Operating profit increased by 23% to $58 million as we benefited from a more favorable mix of self-checkout products, higher services gross margins attributable to our services modernization plans and lower operating expenses.
Referencing Slide 13, I am pleased with our team's ability to generate $93 million of free cash flow for the full year of 2019.
On a year-on-year improvement of $256 million demonstrates the broad-based commitment to financial discipline across the company.
The DN Now initiatives were the key to our success as we increase adjusted EBITDA to $401 million and harvested $110 million of net working capital.
To put a finer point on our improvements, the company reduced net working capital as a percentage of revenue by 440 basis points from 18.3% to 13.9%.
Our free cash flow progress is even more impressive, considering that we offset $60 million of incremental interest payments.
Unlevered free cash flow was $275 million, an improvement of $315 million.
For the fourth quarter, the company generated free cash flow of $116 million and unlevered free cash flow of $168 million.
While these metrics are squarely in line with our expectation, they do represent a quarter-over-quarter decline as we have focused on working capital management throughout the year versus the fourth-quarter push in 2018.
A summary of our liquidity, leverage and capital structure can be found on Slide 14.
The company has sufficient liquidity to meet its seasonal cash flow needs, invest in R&D and fund our DN Now transformation program.
Total liquidity of approximately $770 million includes nearly $388 million of cash plus available credit.
Company ended the year with gross debt of $2.1 billion and net debt of $1.76 billion.
Our leverage ratio continues to improve declining to approximately 4.4 times at year-end.
Over the next few weeks, for our credit agreements, we will use approximately $50 million of our free cash flow to pay down secured debt reducing 2020 interest cost.
To the right side of this slide, we provide our debt maturity schedule.
While there are no meaningful maturities in 2020 and 2021, we continue to develop strategies to reduce our weighted average cost of capital through the optimization of our capital structure, reduction of interest rates and extension of maturities.
Today, we launched a process to obtain an amendment with our secured lenders which will allow us to -- greater flexibility to issue additional sources of long-term secured or unsecured debt.
On Slide 15, we outlined our finance transformation actions and savings targets.
Our finance and accounting transformation is a good example of the opportunities to harvest efficiencies from our G&A functions.
We are replacing our legacy structure, enforcing standard processes and leveraging new tools to automate tasks.
At a high level, DN will follow in the footsteps of many other global companies in centralizing back office resources and regionalizing compliance activities.
Our workforce streamlined finance, personnel and processes which should lead to incremental G&A savings of $30 million in 2020 and another $20 million in 2021.
Subsequent to the quarter, the company made significant progress in divesting non-core businesses.
First, the company finalized the transaction to consolidate its joint venture operations in China with the Inspur Group.
As a result, DN will repatriate approximately $25 million of cash and become a minority shareholder in the combined operations.
Moving from approximately 55% ownership to approximately 48% ownership.
Due to our minority ownership status in the consolidated JV, we will report pro rata profit or loss on the P&L as equity and earnings of unconsolidated subsidiaries, deconsolidating approximately $50 million of future revenue.
We believe this transaction is important step in strengthening our partnership with Inspur while reducing our risk and exposure to challenging ATM market conditions in China.
In a separate transaction, the company signed a definitive agreement to sell its 68% ownership stake in Portalis to Data Group.
This non-core business provides application management and IT infrastructure, outsourcing solutions to certain financial institutions in Germany.
The transaction is expected to close by the end of the first quarter of 2020, and is subject to customary closing conditions.
DN will harvest approximately $10 million in cash for 68% interest and will receive relief from future liabilities, including capital and pension obligations while maintaining good relationships with common customers.
During 2019, this business generated revenue of approximately $60 million.
On Slide 16, we discuss our 2020 outlook.
We are expecting revenue will be relatively flat excluding approximately $110 million impact from our recent divestitures and reflecting expected currency fluctuations.
Adjusted EBITDA is expected to be in the range of $430 million to $470 million reflecting approximately $130 million of DN Now savings, plus $25 million for growth initiatives, $10 million of nonrecurring profit from our divestitures, and typical inflation headwinds and other items.
When compared with 2019, we expect 2020 results will be slightly more weighted to the second half of the year.
Specifically, we expect to generate approximately 45% of our annual revenue and approximately one-third of adjusted EBITDA during the first half of the year.
This reflects the timing of our product backlog, our DN Now initiatives and the priorities of our services business.
Additionally, as Gerrard mentioned, we are working with 240 customers and certifying our DN Series, so it follows the production activity or ramp in the second half of the year.
From a free cash flow perspective, we expect to generate between $100 million and $130 million for 2020, including the following components, an EBITDA midpoint of $450 million and net working capital benefits of approximately $30 million.
Net interest payments of approximately $170 million.
Restructuring cash outflows of approximately $80 million.
Capital expenditure is approximately $70 million which includes certain investments in our internal systems supporting our digital transformation.
And cash taxes and other payments of approximately $45 million.
And now, I will hand the call back to Gerrard for closing remarks.
In closing, following a successful year of execution in 2019, we entered the new year in a stronger financial position with solid execution momentum and a more efficient core operation.
We will advance our strategy as we expand our differentiation with DN Series, the AllConnect Data Engine, more sophisticated self-checkout solutions and the strength of our services organization.
Secondly, by laying the groundwork for future revenue growth opportunities by making targeted investments in services and software.
And thirdly, by continuing to streamline the business, embrace standard processes and operate as efficiently as possible.
And fourthly, by continually strengthening our balance sheet.
This is our path forward toward long-term sustainable value creation.
To learn more about Diebold Nixdorf and our plans for value creation, I'd like to invite investors to join the management team for a discussion of our strategy, market opportunities and financials on Thursday, May 21st in New York.
Please mark your calendars and be on the lookout for registration information from Steve Virostek. | diebold nixdorf inc - qtrly total sales $1,151.6 million versus $1,289.8 million.
diebold nixdorf inc sees 2020 free cash flow of $100 million - $130 million.
diebold nixdorf inc - increasing savings target from $400 million to $440 million through 2021.
diebold nixdorf inc - company's 2020 outlook includes the impact of deconsolidating two joint ventures in china.
diebold nixdorf inc sees fy2020 capital expenditures about $70 million. |
Joining me on today' call are Gerrard Schmid, President and Chief Executive Officer, and Jeff Rutherford, our Chief Financial Officer.
We have posted reconciliation schedules for each non-GAAP metric.
Additional information on these factors can be found in the company's SEC filings.
And now, I will hand the call to Gerrard.
I'm pleased to join you today to discuss our investment thesis, our solid 2020 results and our outlook for value creation.
I'll begin on slide 3 with our investment thesis.
Since 2018, our focus has been on transforming our business model to generate strong free cash flow.
We have been streamlining and simplifying our business through our DN Now transformation initiatives.
We evolved these initiatives and increased our savings target to $500 million through 2021.
With two years of solid execution in the books, our path to higher profitability is well under way.
As our DN Now restructuring spend tapers off in 2021, we expect this to translate into meaningful increase in free cash flow.
The second element of our investment thesis is the ability to leverage our digitally enhanced solutions to drive sustainable top line growth and a positive mix shift.
Slide 4 highlights how we're transforming our business model.
In 2021, we will continue to enhance our productivity and anticipate delivering approximately $160 million of incremental savings.
Key initiatives for this year include continued services modernization progress, driving a higher mix of our next generation self-checkout retail devices, and next generation DN Series ATMs, and investing in digital and cloud technologies to enhance efficiencies across IT, finance and HR enablement functions.
And with the DN Now transformation set to conclude by year-end, our restructuring payments will also come to end, with cash restructuring payments expected to be no more than $50 million this year.
The net result of our efforts will drive a strong sequential step up in free cash flow, which is anticipated to be in the range of $140 million to $170 million for the year.
In addition to enhancing the free cash flow generation from our operating model, we are targeting growth in areas where we have competitive differentiation.
Within banking, we are well positioned to support the accelerating digital transformation agenda of our customers across the globe as they enhance their value proposition for their end customers and seek greater operating efficiencies.
Our momentum with the DN Series ATMs and fourth generation cash recycling technology is promising.
We have seen customer enthusiasm for the advanced feature set, increased connectivity through the All Connect Data Engine, greater modularity, support for advanced software capabilities and improved security features in a small footprint.
For our services business, we are leveraging the IoT and machine learning capabilities of our All Connect Data Engine to enhance availability for customers and improve our own efficiency.
Early deployments with legacy ATMs suggest that ACDE can reduce call rates by approximately 20%.
In addition, we are supporting our customers' efficiency agendas through offering pre-configured managed services solutions for those customers who want the most comprehensive ATM solutions, performance levels and capabilities.
Beyond self-service channels, we're also investing in software offerings for financial institutions.
I will shortly describe our cloud native Vynamic Payments offering and the market opportunity on the next slide.
Within retail, consumer journeys continue to evolve and shift toward more digital and self-service solutions.
We are seeing strong momentum through our differentiated suite of self-checkout solutions and we further enhanced our position in January when we announced the DN Series EASY, which is a new family of self-checkout products designed to be more modular, more reliable and flexible because of its open architecture.
2020 was a very strong year for Diebold Nixdorf from a self-checkout shipments perspective as we delivered growth of approximately 90% in the fourth quarter and just over 2% for the full year.
The high service attach rates of approximately 90% is another reason to like this business.
We also see opportunity to expand our software reach with retail customers.
And we're investing in our cloud-based Vynamic Retail offerings.
In December, we launched our cloud-based software offering for fuel and convenience customers.
As more technologies proliferate within our retail customer environments, they are also turning to Diebold Nixdorf to support them with our comprehensive managed services offering to generate greater operating efficiencies and more integrated store operations.
On slide 6, I'd like to highlight an exciting new software offering, which we are bringing to market, the Vynamic Payments platform.
As the payment landscape rapidly evolves, banks are facing a proliferation of new payment types and rapidly growing payment volumes, and cumbersome legacy payment platforms limit their ability to offer a consistent and optimized consumer experience across multiple channels.
Our cloud native solution offers a path for banks to address these pain points.
We are currently deploying our Vynamic Payments platform at our first client, a top 10 global financial institution.
The solution will scale to support billions of debit transactions across multiple channels.
We also recently announced a win at one of the largest credit unions in the United States.
Our solution leverages an API-enabled micro-services approach, which provides distinct competitive advantages for our company, including the ability to transform the banks payment operations, a flexible and future proof approach to support multiple payment types and channels, giving banks the flexibility to adapt to changing regulations, schemes, payment types and channels and the ability to quickly scale to billions of transactions.
These characteristics place Diebold Nixdorf in a position to offer a distinctive solution versus less flexible and more expensive legacy platform providers.
Moving to slide 7, I will recap our financial performance in 2020 and growth outlook for 2021.
We are experiencing strong demand for our differentiated and digitally enabled solutions.
Despite the continued complexities of the COVID-19 pandemic, product orders increased 17% in the fourth quarter, with banking growth of 34%.
In fact, order activity across the full year exceeded our performance in 2019.
We're also pleased that our customers are further validating our progress as customer satisfaction further improved as Net Promoter Scores from our banking customers increased substantially for a third consecutive year.
At the same time, we enhanced our execution of the DN Now transformation initiatives and delivered approximately $165 million against our savings targets during the year.
These achievements were the main driver behind meaningful year-over-year increases to profits and profit margins even as we experienced revenue impacts from the pandemic.
With respect to free cash flow, our fourth quarter results of $186 million was the strongest we've experienced in eight quarters, fueled by solid profitability and strong collections.
For the full year, the company generated $57 million in free cash flow, which exceeded our outlook by $27 million.
In addition to our strong financial performance, I am gratified by the multiple ways in which our team adapted to the dynamic and highly uncertain macroenvironment.
We are entering 2021 with a strong order book, differentiated and well positioned solutions and a detailed operating plan for bringing our DN Now transformation efforts to a successful conclusion.
While we have confidence in our outlook for 2021, we also recognize that we must continue to manage a number of pandemic-related uncertainties, including the pace of easing of lockdown restrictions, wide availability and access to vaccines, and the impact on business activity, both in customer buying patterns and in our supply chain.
Against this backdrop, our 2021 outlook is for revenue of approximately $4 billion to $4.1 billion or 3% to 5% growth, adjusted EBITDA of $480 million to $500 million which translates to 6% to 10% growth, and significant free cash flow growth to a range of $140 million to $170 million.
On slide 8, I'll provide some more details underpinning our strong 2020 financial results.
Strength in product orders during the quarter drove our product backlog 23% higher versus the prior year.
In our retail business, customers are investing in automation and self-service capabilities to improve the in-store experience, while lowering operating costs.
During the fourth quarter, we received initial orders from our milestone agreement with a pan-European grocer who was refreshing the second largest fleet of self-checkout devices in the world.
In Poland, we procured a $7 million contract for self-checkout products and Vynamic iScan software licenses with another large grocery store.
In our banking business, I'm pleased to report that, for the first time, DN Series ATMs contributed meaningfully to the order book.
Success in the Middle East included two sizable deals.
In Saudi Arabia, we booked an order with a top three bank to refresh 1,800 ATMs with DN Series.
We also booked a new logo in Egypt for 500 DN Series in support of this bank's expansion initiatives.
Notably, both agreements included multiyear contracts for security, monitoring and marketing software.
In the Netherlands, we secured two new contracts valued at approximately $11 million to provide DN Series ATMs and indoor Lobby cash recyclers.
In the Americas, we expanded our existing partnership with Citibank for additional DN Series ATMs, a full Vynamic software suite and maintenance services across 15 countries, which will help standardize the customer experience, while reducing complexity, cost and security risk.
We also won a new contract to install 1,000 new DN Series cash recycling modules and our IoT-enabled All Connect Data Engine with the largest private bank in Brazil.
During the first quarter of 2021, we are seeing continued success with an initial order for cash recycling DN Series units and maintenance services at a top 10 financial institution in the United States.
We consider this win as a new logo because, for many years, this bank has purchased ATM solutions from others.
Turning to revenue, our trajectory steadily improved as the year played out, reflecting how both the company and our customers adapted to the challenges of the pandemic.
We reported sequential growth in the third and fourth quarter of more than 10%.
Our fourth quarter revenue was about 5% better than our recent outlook.
Full-year revenue of $3.9 billion declined by 11% as reported and 8% when one removes the effect of divestitures and currency fluctuations, with most of that decline attributed to COVID delays.
In the face of revenue headwinds, we continued to execute our DN Now initiatives and deliver greater profitability.
Adjusted EBITDA increased 13% to $453 million for the full year.
Our adjusted EBITDA margin of 11.6% increased by 250 basis points versus the prior year.
And I previously mentioned our strong fourth quarter free cash flow performance and now total $57 million for the year.
Let me hand over to Jeff Rutherford who will discuss our financial performance.
2020 was a good year for us, especially when considering the challenges of navigating a global pandemic.
The team made tremendous progress with our DN Now transformation, delivering for customers, advancing our digital-enabled solutions, refinancing debt and living our values.
During the fourth quarter, we made a concerted effort to accelerate our transformation expenses and cash payments with the explicit goal to complete all expenses and payments for the DN Now transformation before the end of 2021.
During that process, new projects were identified, including in our software business, which increased our total cost and payments.
These incremental projects will yield longer-term benefits, so there is no change to our cumulative DN Now savings target of $500 million through 2021.
I need to note there will be no additional or incremental DN Now projects other than those identified as of today.
For the quarter, we had spent $72 million of restructuring and transformation expenditures and paid approximately $60 million in cash.
Since we are nearing the end of DN Now restructuring, we have scheduled all necessary severance spend.
We are targeting a maximum of $50 million for these cash payments for 2021.
Other non-routine expenses in the quarter were minor and include balance sheet and contract cleanup of legacy issues and costs associated with divesting non-core businesses.
During the fourth quarter, non-routine expenses were approximately $8 million and we expect these adjustments have largely concluded, with the exception of divestiture-related costs.
Slide 9 contains our financial highlights for the quarter and the full year.
My comments will focus on the quarterly numbers.
Before getting into the specifics, I'd remind everyone that the fourth quarter of 2019 was an exceptionally strong quarter for us.
Despite a tough comparison, we performed exceptionally well.
Revenue, adjusted EBITDA and free cash flow exceeded our prior guidance announced in October.
Fourth quarter revenue of $1.1 billion declined 2.5% after adjusting for foreign currency and divestitures.
Foreign currency was favorable by approximately $18 million and divestitures were unfavorable by $36 million.
Our revenue variance was primarily due to unplanned delays of approximately $40 million, largely driven by the pandemic.
We delivered product revenue growth of 1% versus the prior quarter, showing a strong rebound from COVID-19, and we are encouraged by robust order entry growth during the second half of 2020, supporting a stronger rebound ahead.
Continued strong gross margin results in the quarter were offset by the revenue decline, resulting in a $7 million decline in gross profit versus the prior-year period.
Progress on our services, modernization and software excellence initiatives drove a 50 basis point increase to total gross margin versus the prior quarter.
Software margins expanded 850 basis points, services expanded 120 basis points and products declined 230 basis points due to a less favorable geographic customer mix in our banking segments.
Operating profit increased $4 million or 4% versus the prior quarter, while operating margins increased 80 basis points to 9.5% for the quarter.
We continue to show progress in reducing SG&A expense during the quarter.
However, R&D expense was slightly higher as we continue to invest in future solutions.
We delivered adjusted EBITDA of $128 million, which exceeded our prior outlook by $13 million.
Adjusted EBITDA margin expanded 20 basis points year-over-year to 11.6%.
Fourth quarter free cash long was $186 million.
The upside to free cash flow versus our model was higher profitability and significantly stronger cash collections, which dropped our days sales outstanding by 8 days sequentially.
Our cash performance also included the previously referenced higher restructuring and transformation payments.
As Gerrard mentioned, we see opportunities for cloud native software growth.
In the interest of greater transparency, we are disclosing capitalized software development in our free cash flow reporting.
We will include capitalized software development and capital expenditures in our free cash flow definition going forward, while continuing to exclude the impact of M&A related activities and cash element of non-operating hedging derivatives.
The next three slides contains financial highlights for our three segments adjusted for currency and divestitures.
My comments will focus on fourth quarter trends.
On slide 10, Eurasia Banking revenue for the quarter increased 1% to $419 million after adjusting for $36 million from divestitures, net of a $20 million benefit from foreign currency.
Total gross profit was down $4 million year-over-year, reflecting a stable margin on lower revenue.
We realized gross margin improvements to services and software through our transformation initiatives, offset by lower product margins due to a less favorable mix.
Moving to slide 11, Americas Banking revenue of $375 million declined 7% versus the prior quarter, excluding a $13 million foreign currency headwind, primarily reflecting non-recurring projects in North America as well as COVID-19 related project delays.
Segment gross profit of $100 million was down $8 million year-over-year due to the revenue decline, partially offset by gross margin expansion of 90 basis points due to our DN Now transformation initiatives and a more favorable product mix.
On slide 12, retail revenue of $312 million was 1% lower year-over-year after adjusting for a $12 million foreign currency benefit.
Gross profit increased to $73 million during the quarter as our mix of products was more favorable due to the rising self-checkout shipments and our DN Now initiatives positively impacting services and software margins.
Retail gross margin expanded by 80 basis points during the quarter.
On slide 13, we provide information about leverage and debt maturity.
At the end of 2020, the company's net leverage ratio of 4.4 times was unchanged from the end of 2019 as the increase in EBITDA and our positive free cash flow was offset by payments associated with our debt refinancing, M&A activities and an unfavorable exchange rate on foreign net debt balances.
Over the next three years, we will generate stronger free cash flow due to the elimination of restructuring payments, continued strong management of net working capital investments and incremental profitability.
We expect to use free cash flow to pay down debt and we're targeting a reduction in leverage ratio to less than 3 times net debt to adjusted EBITDA by 2023.
On the right side of the slide, we provide details for our outstanding debt.
You can see that the next material debt maturity date is November of 2023, which provides the company with ample time to complete our transformation, strengthen our credit profile and execute on our growth initiatives.
In response to investor questions, I will discuss our income tax structure, key considerations and cash tax payments as disclosed on slide 14.
Our company's tax structure consists of two tax principals, the United States and Germany.
The tax principals provide products and related support to distribution subsidiaries in approximately 60 countries.
Due to high restructuring, transformation and interest payments, the combined tax principals reported a pre-tax loss, but paid approximately $7 million of income taxes due primarily to tax loss pertaining to the US foreign source income alignment, or in tax jargon, if you prefer that, the Global Intangible Low Tax Income, GILTI provisions and Subpart F provisions of the US tax code.
And also, due to US limitations on the deductibility of interest payments.
The distribution subsidiaries pay the principals for products and related services.
And as appropriate, these entities generate taxable income.
On a collected basis, distribution subsidiaries paid approximately $30 million in cash income taxes during 2020, bringing total company cash income taxes to approximately $37 million.
Looking to 2021, we expect to report pre-tax income on a consolidated basis due to continued operating profit growth and the significant reduction of transformation and restructuring expenses.
Taking into account all the factors listed on this slide, we expect cash tax payments in 2021 will be approximately $35 million, while targeting an effective tax rate of 25% to 30%.
We have implemented tax planning initiatives designed to benefit our tax efficiency going forward.
For the two principals, we seek to better align foreign sources of taxable income, with appropriate market consideration, while improving the deductibility of interest payments with principal taxable income.
For our distribution subsidiaries, the main opportunity is to rebalance the distribution of income based on true transaction economics.
On slide 15, I will discuss our 2021 outlook.
We are expecting revenue in the range of $4 billion to $4.1 billion, which translates to a 3% to 5% growth.
Based on our order book as well as the challenges of 2020, we are expecting product revenue growth to lead the way and for banking growth to modestly exceed retail growth.
Divestitures, which have already been completed, are expected to result in a headwind of approximately $50 million to services revenue, with the majority impacting our first half results.
Our adjusted EBITDA range is $480 million to $500 million or 6% to 10% growth.
Key contributions are expected from top line growth and $160 million of DN Now savings, primarily from higher mix of DN Series, software excellence and greater efficiencies from our service organization and All Connect Data Engine.
Offsetting these benefits are approximately $40 million of incremental growth investments in growth areas, which Gerrard discussed today, a $40 million reversal of one-time savings and services gross margin benefits, which occurred in 2020, and investments we are making in people, which primarily relate to the timing and magnitude of merit increases, and also inflation.
The net effect of revenue growth, DN Now savings and offsetting expenses generates the EBITDA growth previously referenced.
For operating expenses, the net effect will be approximately $20 million of higher expenses in 2021 versus 2020.
In terms of seasonality, we expect our first half will account for approximately 45% of annual revenue and approximately 40% of annual adjusted EBITDA.
Moving on to our free cash flow outlook.
We expect to generate $140 million to $170 million in 2021, representing an EBITDA to free cash flow conversion rate of approximately 30%, up from 12% in 2020.
We expect net working capital to be a $50 million source of funds in 2021 as accounts receivable DSOs and inventory investments normalize from COVID-19 impact.
Uses of cash include the following approximate amounts.
$170 million in interest payments; $50 million of restructuring payments; $85 million of capex and software development payments; and 75 million from cash taxes, pension and other items.
The sequential increase in our capital expenditures is driven primarily by payments associated with accelerating our digital capability and moving workstreams to the Oracle Cloud for IT, HR, finance, and sales support.
Modernizing our enablement functions and tools will facilitate future efficiency gains that provide better analytics, enabling the company to leverage growth and run a more efficient and agile business.
Additionally, our investments in capitalized software are supporting development of our cloud native software offerings, Vynamic Payments and next generation Vynamic Retail.
We believe our 2021 outlook reflects the proper balance of top line and profitability growth, higher free cash flow conversion and investments for the future as we continue to generate long-term value for our stakeholders.
And now, I will hand the call back to Gerrard for comments on our 2023 financial targets and our ESG initiatives.
Starting with revenue, we are targeting annual organic revenue growth of 2% to 4% through 2023, supported by the areas which I discussed earlier.
We are focused on high quality revenue growth, which will be accretive to the company.
We also expect to deliver ongoing operational efficiencies and gross margin expansion in our services business through widespread deployment of our All Collect Data Engine, which underpins our gross service margin target range of 32% to 33%.
In addition, we will be driving continuous improvements through the use of digital tools and standard processes.
Collectively, these factors contribute to an adjusted EBITDA target for 2023 in excess of 13%.
Stronger profitability, substantially lower restructuring costs and more efficient net working capital management are key levers toward our goal of improving the conversion of adjusted EBITDA to levered free cash flow.
Our plans call for increasing this ratio from 12% in 2020 to approximately 30% in 2021 and approximately 50% in 2023.
We expect cumulative three-year levered free cash flow to exceed $600 million.
Furthermore, we believe the company can generate a return on invested capital of greater than 20%.
As we increase our profitability and use excess cash to pay down debt, we expect to reduce our leverage ratio to less than 3 times net debt to trailing 12 months adjusted EBITDA.
As part of our commitment to sustainable growth, we are also affirming our commitments to be a leader in our sector in environmental, social and governance, or ESG, matters.
Our key initiatives are summarized on slide 17.
First, sustainable supply chain and operations is vital to our customers and suppliers.
Our focus is on reducing our carbon footprint, promoting recycling and using environmentally sustainable materials, and we are applying all these principles in the design and production of our new product lines, such as DN Series ATMs, DN Series EASY and BEETLE point-of-sale.
Since 2015, we have systematically reduced our carbon emissions by 16,500 metric tons, and we report our results in the Carbon Disclosure Project.
And as we have discussed on prior calls, we continue to prioritize the health and safety of our employees through the pandemic through educational, personal protection equipment and specific initiatives supporting employees in the hardest-hit countries.
As a global company, operating with customers in over 100 countries and employees in more than 60 countries, we also take our role as a global citizen seriously.
With respect to diversity and inclusion, we have formed a CARE Council to promote inclusive values where we're considerate, aware, responsible and empathetic toward one another.
And we are holding one another accountable to create a great working environment for our diverse and global workforce.
Our impact on local communities is also important to us.
As part of our global citizenship actions, the Diebold Nixdorf Foundation has committed to $0.5 million to expand financial literacy in underserved populations through an organization called Operation HOPE.
We invite you to learn more about our overall efforts by reviewing our recently released corporate sustainability report, a link of which is available through our slide deck or on our website.
I'll hand the call back to our operator, Ashley, to begin our question-and-answer session. | diebold nixdorf inc - sees 2021 total revenue about $4.0 billion - $4.1 billion. |
I'm Christine Marchuska, vice president of investor relations for Diebold Nixdorf.
I would encourage investors to review the shareholder letter as it contains additional information regarding the progress of the company.
We also made an announcement today regarding our upcoming CEO transition.
In a moment, we will share remarks from Gerrard Schmid, president and chief executive officer, as well as Octavio Marquez, who will be succeeding Gerard as Diebold Nixdorf next CEO.
In this message, Gerard will provide commentary on the business environment, our accomplishments in 2021 and then introduce Octavio.
Finally, Jeff Rutherford, chief financial officer, will discuss the company's financial performance, including highlights from the quarter and year, along with our guidance for 2022.
Then take your question.
Additional information on these factors can be found in the company's periodic and annual filings with the SEC.
Participants should be mindful that subsequent events may render this information to be out of date.
And now, I'll hand the call over to Gerrard.
It's a pleasure to speak with you today.
In 2021, we faced unprecedented challenges brought on by the second year of the pandemic.
I'm pleased to report that in the fourth quarter, we delivered on our objectives.
I work over the last few months of 2021.
Was painstaking and meticulous, requiring us to look at every area of opportunity.
from logistics and supply chain, to prepayments, and payables.
What seemed impossible to those outside our company was in fact possible.
And we've once again shown that we're resilient and strong.
While supply chain and logistics challenges were two of the bigger themes in 2021, it is still noteworthy to share that in 2021, we shipped more ATMs, more self-checkout devices, and more point-of-sale devices than we did in 2020.
A testament to the resilience of our model.
While the pandemic has disrupted our world, and caused us to rethink what the future might look like, we have time and again in our ability to build an agile company that challenges the status quo, and goes the extra mile to execute well.
The environment we've been in for nearly two years has brought to the forefront the rapidly changing demands of consumers, and the need for self-service solutions wherever possible.
We are well-positioned to offer these solutions plus growth opportunities for our customers whether at a bank, the grocery store, or retailer.
To help them deliver more digital, flexible, and effective consumer journeys.
In retail, the evolution of consumer behavior, along with the rapidly changing labor dynamics, have led to increased demand for self-service and automation, and growth has been driven by customer momentum for a self-service solutions.
In 2021, we saw growth above market rates in Europe for a self-service hardware, services, and software.
We also continue to make inroads into other markets, such as the United States, and Australia.
In banking, we continue to see strength in demand for cash recyclers as banks rethink their branch footprint, and move more toward automation, and efficiency around their real estate.
As I share with large U.S. customers has increased.
In 2021, our America's order levels were 16% higher than 2020, and 17% higher than pre-pandemic levels in 2019.
financial institution to deploy DN series cash recyclers.
Let me now turn to highlights our world class services organization.
We, as well as our customers, consider this to be one of our best assets, and in many cases, it is a major contributor to DN winning new business, and expanding our current relationships.
It also provides opportunities for new horizontals like electric vehicle, or EV charging stations, which I will comment on later.
In 2021, we continue our journey of delivering superior service by reaching a milestone with connected devices for our all connected data engine.
With approximately 150,000 banking self-service devices connected to the solution, which represents approximately 122% year-on-year growth in connected devices.
Our ancient languages, real time internet-of-things capability to support our predictive maintenance offering, which has been reducing customer downtime significantly.
Equally, in retail, we continue to deliver value and services to our customers.
I would be remiss to not mention an ongoing success story.
We achieved with one of our key customers, a major UK based retailer.
This customer relies on us for flawless execution and service excellence, and has over 25,000 checkout lanes.
I'm pleased to report that this past year we delivered a 100% availability of point-of-sale, and self-checkouts states on a two most demanding shopping days of the year.
We help this retailer improve their end-customer satisfaction with a shorter queues, shorter wait times by increasing their sales for this period, year-over-year.
This is now the 10th consecutive year that we have achieved this performance goal.
And a testament to our services capability.
We also implemented this program with another large European retailer with the same success proving this is a repeatable model for retailers.
We believe delivering or exceeding the service expectations of our customers is one of the best foundations for putting additional technology into the field.
And both of these retailers placed additional self-checkout orders with us in December.
We were glad to see the trust that retailers have in us to continue to deliver quality services to them and their customers.
Further, augmenting our strength in services, I'd like to comment briefly now about the strides he made in the fourth quarter into EV charging stations, especially in Europe.
Today EV charging value chain is fragmented, multiple players, including start-ups, mid-sized companies, and large electronics conglomerates are competing in the space.
Additionally, there are multiple roles along the value chain that are inconsistent.
This is a large and growing market with significant demand.
By 2026, the number of public EV charging stations in Europe, and the United States will be greater than the number of ATM devices.
But more EV drivers, especially in Europe, where there are less likely to have home charging opportunities, and rental and fleet cars, and public transportation, moving to more electric vehicles, there will be a need for more public charging stations.
Currently, there are over 40 relevant [Inaudible] or chargepoint operators globally, and we are working on in talks with many of them.
Our global service capability, including our technicians, and our skills in global spare parts, logistics management and multilingual help desks have resonated with several market participants that lack access to these skills as they look to scale their own businesses As of Q4 2021, we are contracted for several thousand charging stations in Europe and the US with a short term pipeline of three times the size of our current base.
The team has set a target to service over 30,000 charging stations by the end of 2022.
One notable recent win that I would like to pull out is with Compleo, one of the leading full service providers with charging technology in Europe.
Who is this partnership deal will provide a full range of managed services for initially over 1,000 of Compleos DC fast charging stations in public locations across Germany with the potential for expansion.
Lastly, as you know, diversity and sustainability have been an important focus for us as a company.
I'm proud to note that in 2021, females accounted for over 60% of our senior hires, at the vice president and above level.
And we made important strides environmentally, reducing our scope one and two carbon emissions by $0.06.
Our shareholder letter detailed further accomplishments on this front.
And I want to emphasize how grateful I am to our teams for their work and dedication in this important area.
Over the past four years, we have undertaken a comprehensive restructuring and transformation effort.
The company has made significant strategic and operational progress.
We have growing profitability, gain market share through our DN series and self-checkout solutions, and entered new growth markets.
And I'm proud that we've achieved these goals while also delivering four years of consecutive improvements in customer satisfaction.
We entered 2022 with a strong backlog, a seasoned executive team, and operations that have proven to be resilient despite the pandemic, and a challenging macroeconomic backdrop.
As we look ahead to move past the pandemic and build further momentum in growth areas like EV charging services and payments.
While continuing to optimize our core businesses in retail and banking, it is the right time for Octavio to assume the CEO role.
Octavia needs no introduction to many of our customers and to our employees.
He has been leading a global banking segment with responsibility for approximately 70% of the company's revenues, and he's deeply passionate about our customers and our business.
He has a deep understanding of our business, and is the right person to lead people mixed off into the future.
I will remain a member of Diebold Nixdorf, board of directors, until my term expires at the 2022 shareholder meeting.
I'll also be working closely with Octavio, and the rest of the leadership team as an advisor for a few months to ensure a smooth transition.
It has been a tremendous privilege serving as CEO of Diebold Nixdorf.
And, I believe that we have materially advanced the operational, and strategic direction of the organization.
I'd like to now hand the call over to Octavio for a brief introduction.
It has been a pleasure being part of our journey under your leadership.
I am truly excited to lead Diebold Nixdorf going forward.
I have been with Diebold Nixdorf since 2014, and have thoroughly enjoyed contributing to our evolution to a leader of self-service banking and retail technology.
I have had the pleasure of working closely with our customers across the globe.
When I initially joined the [Inaudible] I worked closely with our Latin American customers, and then managed or American banking customer segment, and for the past 18 months have been working closely with our global banking customers.
I have seen first hand how particular role we play for our customers, and how we can continue to innovate to serve them with a broader range of solutions.
We have a passionate and talented employee base that have been instrumental to the progress of the company.
I am also energized by our growth opportunities, like our strong felt check out growth in retail, our managed services, efforts in banking and retail, along with our newer but equally interesting opportunities in payments, and EV charging services.
We have been vigorous in execution on improving our efficiency as a company, and I look forward to further enhancing our execution.
The team and I appreciate your contributions, and wish you well on your future endeavors.
In the year ahead, we look forward to moving past the global macro challenges we've experienced by leveraging our mitigation strategies, and delivering for our customers and shareholders.
Diebold Nixdorf is well-positioned to capitalize on the strong demand for our products and solutions as customers continue to desire our market leading devices, services, and software.
And as the market moves toward a self-service automation focus driven by consumers.
As a reminder, please see our shareholder letter for the full financial details from the quarter and full year.
Here I will highlight a few of our key performance metrics.
In the fourth quarter, total revenue was $1.6 billion, a decrease over fourth quarter 2020 of approximately 4% as reported, and a decrease of approximately 1%, excluding the foreign currency impact of $22 million and $13 million impact from divested businesses.
Adjusted for foreign currency and divestitures, product revenue increased approximately 4%, services revenue decreased the approximately 6%, and software revenue increased approximately 3% over fourth quarter 2020.
During the quarter, we experienced delayed revenue due to extended outbound transport times and inbound component delays.
This primarily impacted the US, Latin America, and certain iAPAC countries, and increased our revenue deferral to 2022 by $30 million to a total of $150 million.
On a sequential basis, total revenue increased the approximately 11%.
Full year 2020 revenue was $3.905 billion that was driven by demand for our DN series ATMs, especially our cash recyclers, our self-checkout devices, and the tax services offset by approximately $150 million of deferred revenue due to supply chain and logistics challenges.
On a year-over-year basis, 2021 revenue was approximately flat as compared to 2020 as reported, and also flat excluding a foreign currency benefit of $74 million, and the $60 million impact from divested businesses.
Adjusted for foreign currency and divestitures, product revenue increased approximately 4%, services revenue decreased approximately 4%, and software revenue increased approximately 2% for the full year 2020.
For the fourth quarter, we reported adjusted of $126 million, and adjusted EBITDA margin of 11.9%.
Fourth quarter adjusted EBITDA results reflect a reduction in operating expenses fully offset by the decline in gross profit due to the revenue deferral and non-billable inflation of approximately $30 million.
Full year 2021 adjusted EBITDA was $450 million, the lower-end of our guidance range primarily due to supply chain challenges, which increases deferral of revenue, as I mentioned earlier to approximately $150 million, non-billable for the year was approximately $15 million.
Last week we delivered free cash flow of $407 million for the fourth quarter, resulting in $101 million for the fiscal year 2021.
This record fourth quarter free cash flow was achieved through tremendous efforts of our sales, operation, and finance organizations.
The fourth quarter marks the conclusion of the DN Now transformation and restructuring program.
As a reminder, going forward, we will not present non-GAAP adjustments to earnings except for the analyzation of intangible purchase accounting assets and when appropriate, non-recurring items such as M&A activities.
Our revenue guidance for the full year 2022 is $4 billion to $4.2 billion, which reflects approximately $150 million in revenue deferral from 2021 to 2022, and organic growth and pricing growth, partially offset by model divestitures and terminated low-profit service contracts, and the potential ongoing logistics and supply chain disruptions.
While we are very encouraged by the demand environment for our solutions, our guidance range also reflects caution regarding the timing of global logistics and supply chain environments.
Our adjusted EBITDA outlook is $440 to $460 million, taking into account gross profit growth due to increased revenue and a model gross margin expansion of approximately 100 basis points, partially offset by an increase in operating expenses.
Adjusted EBITDA will likely be weighted toward the second half of 2022 as our pricing and incremental cost management actions begin to take hold, and volume builds throughout the year.
Our free cash flow outlook is $130 to $150 million, reflecting our EBITDA outlook, normalization of working capital, and combination of the DN Now transformation and restructuring program and related payments.
It should be noted that our free cash flow guidance does not reflect any benefit from a potential debt refinancing.
In terms of the first quarter, we are modeling gross margin to be comparable to the fourth quarter 2021 due to the continuation of non-billable inflation.
Additionally, we will experience an increase in first quarter operating expenses due to wage inflation, and growth in infrastructure investments.
And as such, we expect the first quarter to be the low point for 2022 operating profit and margin.
That concludes my review of the results.
With our transition to a new CEO just been announced.
Operator over to you. | qtrly gaap loss per share $0.49; qtrly non-gaap earnings per share $0.06.
sees fy 2022 total revenue $4.0 billion - $4.2 billion. |
During today's call, we Will also reference non-GAAP metrics.
I want to start by welcoming Charley to the team.
He joined Donaldson last week after two decades on the sell side, which included 15 years of covering our company.
He already knows us well, so our Investor Relations program is in good hands.
Turning to the quarter, we feel good about our results.
First quarter sales were up 3% sequentially, which is not typical seasonality, signaling that the worst of the impact from the pandemic on our business may be behind us.
Sales of replacement parts outperformed first-fit by a wide margin providing valuable stability, and we saw continued evidence of share gains in strategically important markets and geographies helped in part by our robust portfolio of innovative products.
First quarter profit performance was another highlight.
Gross margin was up 60 basis points from the prior year resulting in the highest first quarter gross margin in four years, and the best sequential improvement in at least a decade.
We reduced operating expenses by 5% while maintaining investments in our strategic growth priorities, particularly as they relate to the Industrial segment.
And altogether, we had a decremental operating margin of only 4% which we view as very positive given the uneven economic environment.
Finally, our company remains in a strong financial position.
We had excellent cash conversion during the quarter and our balance sheet is solid.
We're on track to deliver our strategic and financial objectives in fiscal '21 and we'll talk about those plans later in the call.
But first, let me provide some additional color on recent sales trends.
Total sales were down 5.4% from prior year or 6.4% in local currency.
In the Engine segment more than a third of the decline came from Aerospace and Defense, due largely to the significant impact from the pandemic on commercial aerospace.
We have a great team and strong customer relationships, so we expect our Aerospace business Will recover.
In the meantime, we are pursuing optimization initiatives to put our cost structure on a firmer footing during this rough patch.
In our other Engine businesses trends seem to be improving.
On-Road sales were down 21% in the quarter, which is still a steep decline, but notably better than the past few quarters.
Although Class 8 truck production in the US remains depressed, order rates are increasing and third party forecast for the next calendar year suggest the Class 8 recovery is on the horizon.
Should that happen, we believe our strong position with OEM customers would give us nice momentum in the On-Road first-fit market.
In Off-Road, trends were mixed by region.
In Europe, sales from new Exhaust and Emissions programs were not yet enough to offset the lower rate of production for programs already in place.
In the US, lower production of construction and mining equipment is still a headwind for Off-Road but we had a meaningful sequential increase in first quarter and year-over-year trends are also improving.
We had a very strong quarter in China with Off-Road sales up more than 50%.
Their economic recovery appears to be under way and we are also benefiting from new relationships with Chinese manufacturers that want our high-tech products, including PowerCore.
China [Indecipherable] is more heavy duty equipment than any other country in the world and our team is doing an excellent job building and strengthening relationships with large local customers.
While we expect to have some variability in quarter-to-quarter trends, we are also confident that we have a long runway for growth in China.
First quarter sales and aftermarket were down only slightly from the prior year and they were up 6% from the prior quarter.
All of the year-over-year decline in aftermarket came from the US.
The independent channel is still being impacted by the oil and gas slowdown, which we partially offset with pricing actions implemented earlier this calendar year.
And large OE customers are still tweaking inventory to match demand.
Outside the US, aftermarket performed very well.
In Europe, first quarter sales were up 4% in local currency as conditions improved in Western Europe.
In China, first quarter sales of Engine aftermarket were up more than 30% reflecting strong growth in both channels.
We are gaining share with the new OEM customers and end users are paying greater attention to equipment maintenance.
Part of our success in China is due to PowerCore which is growing rapidly from a small base.
Importantly, PowerCore continues to do well outside of China.
Global sales of PowerCore replacement parts were up in the low single-digits last quarter and we set another record.
PowerCore is our most mature example of how our razor to sell razor blade strategy works and the brand is still going strong after 20 years.
Turning now to the Industrial segment.
First quarter sales were down about 6% including a benefit from currency of about 2%.
The decline was driven primarily by Industrial Filtration Solutions or IFS.
The pandemic is creating a headwind in terms of equipment utilization and a lower willingness to invest.
Quoting activity for new dust collectors was down in the first quarter and the quote-to-order cycle remains elongated.
Generally, customers are focusing on must do projects, while deferring expansion in productivity investments to a future date.
With the market under pressure, we are focused on building our brand and gaining share.
We have strengthened our capabilities related to market analysis and virtual selling and our e-commerce platform gives us incredible reach.
We also continue to leverage our technology advantage and we are encouraged by the opportunity that presents in an underserved market like China.
For quarter -- first quarter sales of dust collectors were up modestly in China and the needs in that region are changing in our favor.
Some manufacturers are dealing with compliance upgrades related to the Blue Sky initiative, while others are going beyond the minimum requirements and striving for better air quality.
That shift represents an exciting opportunity for us, so we Will continue to invest for growth in that region.
Process Filtration for the food and beverage market is another exciting opportunity.
We launched our LifeTec brand filter late in 2016, and we have seen tremendous growth since then.
Sales of Process Filtration parts were up again last quarter with a low single-digit increase which partially offset the pandemic related pressure on sales of new equipment.
Our strategy for growing Process Filtration is solid.
We are focused on winning new contracts with large global manufacturers which gives us the opportunity to sell their plants.
Some of these customers have hundreds of plants, so we are once again doubling our sales team for Process Filtration.
We also made an organizational change to better align our team with the needs of our food and beverage customers.
While these type of optimization initiatives are standard work for us, I'm calling it out because during our fourth quarter call, we said Process Filtration sales were about $50 million of fiscal 2020.
Following our reorganization that number is more like $68 million.
Our IFS numbers are unchanged, but we wanted you all to have the right baseline as we talk about year-over-year trends in this exciting business.
Trends across the balance of our Industrial segment were mixed.
Sales of Gas Turbine Systems were up 11%, driven by strong growth of replacement parts and we continue to gain share.
In Special Applications, we faced pressure from the secular decline in the disk drive market, combined with lower sales of our membrane products.
We partially offset the decline with strength in our Venting Solutions business, which is also benefiting from share gains as we expand into new markets including the auto industry.
Overall, we see strong evidence of how our diverse business model is providing some insulation from the pandemic.
We are gaining share in strategically important markets and geographies.
We are investing to keep the momentum and we continue to show progress on our initiatives to increase gross margin.
I'll talk more about our longer term plans in a few minutes.
He's got great perspective and he is a strong addition to our team.
We are excited to have him join us and I hope you all Will have a chance to connect or reconnect with him soon.
Now turning to the quarter, like Tod said, we are pleased with our results.
Economic conditions were better than what we had in the fourth quarter and we made progress on our strategic initiatives.
First quarter margin was a highlight for us in terms of year-over-year and quarter-over-quarter performance.
Versus the prior year operating margin was up 50 basis points, driven entirely by gross margin.
That translates to a decremental margin of 4%, but that's probably not the level to expect over time.
For a better comparison, I'd point you to our sequential trends.
First quarter sales were up 3% from the fourth quarter and our operating profit was up almost 6%.
That yields in incremental margin of 24.5%, which is in line with our longer term targets from Investor Day and several points ahead of our historic average.
As I've said many times, we are committed to increasing levels of profitability and increasing sales, and we have solid plans to keep driving margins higher.
We saw evidence of those actions last quarter.
So let me share some details.
First quarter gross margin increased 60 basis points to 35% despite the impact from the loss of leverage and higher depreciation.
On the other hand, gross margin benefited from lower raw material costs.
Our procurement team has done an excellent job capturing cost improvements by working with existing suppliers and identifying new ones, which added to the benefits from lower market prices.
We also had a favorable mix of sales in the first quarter, specifically aggregate sales of our Advance and Accelerate portfolio which includes a significant portion of our replacement part sales along with many of our higher tech businesses outperformed the company and our Advance and Accelerate portfolio also comes with a higher average gross margin.
As we continue to drive investments into these businesses, we are shifting more weight toward higher margin categories.
Over time, mix should be a constant factor in driving up our gross margin.
Our strong gross margin performance in the first quarter was complemented by disciplined expense management.
Operating expenses were down 5% from the prior year, which resulted in a slight increase as a rate of sales.
We had significant savings in discretionary categories like travel and entertainment, due in large part to pandemic related restrictions.
At the same time, we continue to invest in our strategic priorities.
We are building teams and adding resources to areas like R&D, Process Filtration, Connected Solutions and dust collection.
These investments are tilted heavily toward the Industrial segment, which contains most of the Advance and Accelerate businesses.
Given that dynamic, we are not surprised that the first quarter Industrial profit margin was down slightly.
Importantly first quarter gross margin was up in both segments, so we feel good about where we ended.
As our investments translate to grow, we expect our margin and return on invested capital Will go up over time.
Moving down the P&L, first quarter other expense of $1.5 million compared with income in the prior year of $2.6 million.
The delta was largely due to a pension charge and the impact of certain charitable options.
During the first quarter we contributed to Donaldson Foundation and there was also a charge for securing face masks that were billed to frontline workers in our communities.
We generally spread these contributions over our fiscal year, so the impact is more timing related than a change in trajectory for us.
I also want to share some highlights of our capital deployed in the first quarter.
As expected capital expenditures dropped meaningfully from the prior year, with our large projects related to capacity expansion mostly complete, we are turning our attention to optimization and productivity initiatives.
We returned more than $40 million of cash to shareholders last quarter, including a repurchase of 0.3% of outstanding shares and dividends of $27 million.
We have paid a dividend every quarter for 65 years and we are on track to hit another milestone next month.
January marks the five-year anniversary of when we were added to the S&P High Yield Dividend Aristocrats Fund.
So this anniversary signals that we have been increased our dividend annually for the past 25 years.
We are proud of this record and we intend to maintain our standing in this elite group.
As we look to the balance of fiscal '21, there are still plenty of reasons to be cautious.
The magnitude and ultimate impact from the pandemic are still unknown and we continue to face uneven economic conditions.
Given these dynamics, we feel prudent to hold back on detailed guidance, but we did want to expand our information provided during our last earnings call.
In terms of sales, we expect second quarter Will end between a 4% decline and a 1% increase from the prior year and that means sales should be up sequentially from the first quarter.
We also expect a year-over-year sales increase in the second half of fiscal '21, and sales are planned to migrate toward a more typical seasonality meaning that second half Will carry slightly more weight than the first.
We are modeling a full year increase in operating margin driven by gross margin.
Our productivity initiatives should ramp up over the fiscal year and we expect benefits from lower raw material costs and mix Will still contribute to a higher gross margin, but to a lesser extent than what we have been seeing.
Of course the caveat to the gross margin impact from a strong recovery, while we Will be happy of our first-fit businesses accelerate beyond our expectations, that could create a scenario or mix close from a tailwind to a headwind.
That's obviously a high-grade problem and we would address situation if that's the case.
As the rate of sales, we intend to keep fiscal '21 operating expenses about flat with the prior year.
Specifically, the second half of the year, we are still expecting headwinds from higher incentive compensation and planning a return to a more normal operating environment, we would anticipate year-over-year increase in expense categories that have been significantly depressed by the pandemic.
But as always, we are exploring optimization initiatives to offset these headwinds.
I am confident that we can maintain an appropriate balancing -- balance, allowing us to invest in our longer term growth opportunities by driving efficiency elsewhere in the company.
For our full year tax rate, we are now expecting something between 24% and 26%.
The forecast oriented is more now than last quarter, simply due to having a clarity with the first quarter complete.
There were no changes to our other planning assumptions.
So let me share some context.
Capital expenditures are planned meaningfully below last year, reflecting the completion of our multi-year investment cycle.
Our long-term target is plus or minus 3% of sales and we would expect our capex to be below that level this year.
We plan to repurchase at least 1% of our outstanding shares which Will opt dilutions [Phonetic] with stock based compensation.
Should we see incremental improvement in the economic environment, it is reasonable to expect that we Will repurchase more than 1% this fiscal year.
Finally, our cash conversion is still expected to exceed 100%.
We had a very strong cash conversion in the first quarter driven by reduced working capital, lower capital expenditures and lower bonus payouts.
As sales trends improve versus the first quarter, we would expect our cash conversion to drift down a bit over the year, which is typical of a more favorable selling environment.
Stepping back to the numbers, our objectives for the year are consistent with what I shared last quarter, we Will invest for growth and market share gains in our Advance and Accelerate portfolio, execute productivity initiatives that Will strengthen gross margin, maintain control of operating expenses including the implementation of select optimization initiatives and protect our strong financial position through disciplined capital deployment and working capital management.
We had a solid start to the fiscal year, despite the pandemic fatigue [Phonetic] that I know everyone is feeling.
I am proud of what you all accomplished and I look forward to continued success.
I wish you and your family my best as you move to Europe.
The good news is we Will still work together.
This year we have a straightforward plan.
We play offense where we can and defense where we must.
Our defensive efforts are all about managing costs and one way we are doing that is through optimization.
The most significant example relates to productivity improvements in our plants, which are being enabled by the capital investments we made over the last two years.
But it's not just about large projects for us, our employees have a continuous improvement mindset and our culture has a shared commitment to operating efficiently.
Our teams are consistently finding ways to leverage tools and technology and their work allows us to deploy more resources to support our strategic growth priorities.
As we look forward, we are excited about those opportunities.
For example, food and beverage is the first step on our journey into life sciences.
We expanded production capabilities of our LifeTec filters and our new R&D facility in Minnesota, we believe we are in an excellent position to press forward.
At the same time we're pressing forward in our more mature markets, driven by our spirit of innovation, we continue to bring new technology to applications that have been using old technology for a long time.
A great example is a recently announced product for Baghouse dust collection.
Baghouses have used the same low-tech solution for decades, and they represent about half of the $3 billion to $4 billion industrial air filtration market.
Our game-changing product the Rugged Pleat Collector delivers improved performance and lower cost of operation for customers, heavy-duty applications like mining, wood working and grain processing.
So we Will deploy new technology to gain share in this significant market.
In the Engine segment, we continue to lead with technology which is critical given the size of the opportunity.
We are currently competing for projects with an aggregate 10 year value of more than $3.5 billion, telling us the market for innovation is healthy and we have a significant opportunity to win new business.
Our OE customers are working to improve fuel economy and reduce emissions from the diesel engine and they are also increasingly interested in growing their parts business.
Our products meet both of those needs.
We have a multi-decade track record of providing industry-leading performance and we can also show that our technical and design characteristics help our customers retain their parts business.
Based on the opportunities in front of us, we believe the diesel engine Will remain a valuable part of our growth story for a long time, but we also know the market is changing.
So our focus on growing the Industrial segment, while expanding our global share of the Engine market, including new technologies related to air filtration for hydrogen fuel cells puts us in a strong position for long-term growth.
I also want to touch on the role of acquisitions in our growth formula.
With capital markets recovering from the pandemic, we've been getting more questions lately about our philosophy.
So I thought I'd take a minute to realign everyone.
Our focus is very consistent with what we laid out 18 months ago at our Investor Day.
At a high level, we remain a disciplined buyer.
We're most interested in new capabilities and technologies, especially those that accelerate our entrance into strategically important markets.
And we are targeting companies that Will be accretive to our EBITDA margin.
As always, we Will pursue companies that align with our long-term plans versus simply buying share.
The filtration market is split between a small number of large companies, us included and a significant number of smaller companies.
The timing for executing an acquisition is always uncertain, so we Will continue to work our process.
Additionally, we recognize and appreciate that filtration is a high value market.
So our goal is finding the best opportunity at a reasonable price.
With a robust acquisition strategy and significant organic growth options we feel confident that we can continue to drive strong returns on invested capital for a long time to come.
The level of global coordination and collaboration continues to impress me and I believe we have done very well during the pandemic as a business and as a culture. | fiscal 2021 operating margin expected to be up from prior year, due to higher gross margin.
sales trends improving, with year-over-year growth anticipated in second half of fiscal 2021.
donaldson company - q2 sales expected to be up sequentially from q1, with a year-over-year change between a 4 percent decline and a 1 percent increase.
donaldson company - sales in h2 of fiscal 2021 expected to increase. |
During today's call, we will reference non-GAAP metrics.
I am pleased to report record first quarter results.
We grew our sales to $761 million, sales were up 20% and earnings per share was up 26% versus last year.
It was an encouraging quarter for Donaldson, particularly given the backdrop of well documented supply chain disruptions, labor shortages and significant cost inflation.
In the face of these challenges, our team rose to the occasion and delivered, and I am proud of what we accomplished.
As we look to the remainder of the year, we expect the macro headwinds to persist.
While we are well positioned to deal with these challenges, there is no doubt that we will feel near-term impacts.
To address these macro challenges, we are pulling many levers, including raising prices to mitigate the impact of cost increases, utilizing our geographically diverse manufacturing and distribution footprint to meet the needs of our global customers and to mitigate labor-constraint issues, particularly in the U.S. and aggressively recruiting and competing for talent to expand our strong team of dedicated employees.
As we navigate the year, we are also investing for future organic and inorganic growth.
We continue to spend on our R&D to ensure we remain the leader in what we do best, technology-led filtration.
I'm also pleased to have two new acquisitions under our belt.
First, we recently announced the acquisition of Solaris Biotech.
Solaris is a designer and manufacturer of bioprocessing and filtration equipment used in food and beverage, biotechnology and other life sciences markets.
We've been working hard to expand our reach in the life sciences, and this acquisition is the first step in our string of pearls strategy to get there.
We can now leverage Solaris' technology and customer relationships to advance our capabilities in this space.
I am confident in our ability to scale the Solaris business with our commercial capabilities and strong balance sheet.
Our second recent acquisition was that of P-A Industrial Services.
We closed this transaction on November 1 with a purchase price of $4 million.
While the company only generates a little under $4 million in revenue today, this acquisition allows us to support our Industrial segment with the addition of a services business.
Donaldson and P-A Industrial share the vision of delivering superior service along with great products to help our customers' operations run better.
We believe we are heading into the balance of the year from a position of strength.
And we feel good about our ability to navigate the near-term challenges, while still building our business for the future.
With that said, we are raising our top and bottom line guidance for fiscal 2022 based on a few factors; first quarter results, higher sales expectations driven in part by incremental pricing and operating expense leverage.
We will share more details about our fiscal '22 outlook later in the call.
So I'll now provide some context on our first quarter sales.
Total sales were $761 million, which is up 20% from last year, due in part to last year's softness related to the pandemic.
In Engine, total sales were $527 million, up 21% with our first-fit businesses leading the charge once again.
Sales in Off-Road were $94 million, up 45%.
Nearly half of the first quarter growth was driven by Exhaust and Emissions, reflecting a production ramp up related to new emission standards in Europe.
As we've talked about before, the strength in this business does create mix pressure on margin.
Beyond Exhaust and Emissions, first quarter sales in Off-Road also benefited from increased levels of equipment production across end markets and geographies.
The exception was in the Asia Pacific region where we compared against the sales increase of nearly 40% in the prior year.
In On-Road, first quarter sales were $32 million or down 1.5% year-over-year.
North America had the biggest decline, reflecting the discontinuation of some directed-buy equipment to a large OEM customer.
Importantly, excluding this impact, total On-Road sales would have been up about 12% globally and up 7% in North America.
As we look forward, we believe On-Road will be under additional pressure for the remainder of the year as many customers continue to struggle with supply chain issues, including the persistent chip shortage.
In Engine Aftermarket, sales in the first quarter were $374 million, an increase of 18% from the prior year.
Aftermarket sales were up in all geographies and both channels.
Independent channel sales grew in the mid-teens and OE channel sales were up in the low-20s.
Our innovative proprietary products are always a big piece of the Aftermarket story.
These products accounted for about 30% of total Aftermarket sales and grew about 20% year-over-year.
Our independent channel is benefiting from continued strength in less mature markets.
Brazil, Russia and South Africa put up impressive growth rates in the first quarter, and we are excited about our prospects in these geographies.
In the OE channel of Aftermarket, proprietary products are again contributing to our growth.
In the first quarter, sales of these products were up in the mid-20% range and they now account for nearly 40% of our Aftermarket OE channel sales.
Included in these figures is PowerCore, which achieved another quarterly record for Aftermarket sales and increased more than 18%.
Moving to Aerospace and Defense, first quarter sales of $28 million were up 23% year-over-year as the commercial aerospace industry rebounds from the pandemic-related pressure a year ago.
Activity remains below pre-COVID levels in Aerospace, so there should be more growth to come as the industry continues to recover.
Lastly on Engine, I will quickly talk about China.
Engine sales were down about 6% in the quarter.
However, this is against a 40% increase last year.
The increase last year reflects a faster rebound in China from the pandemic than we saw in other parts of the world.
Overall, we remain pleased with our progress in the region.
We are winning new business with local Chinese manufacturers.
And over time, we continue to expand our share in this massive market.
Now on to Industrial.
The Industrial segment had another solid quarter with total sales increasing 17% to $234 million.
Sales of Industrial Filtration Solutions or IFS, grew 23% to $166 million with two-thirds of the increase coming from industrial dust collection.
We had strong sales growth of new equipment and replacement parts, which reflects more investment and industrial capacity utilization.
Process Filtration sales also contributed to first quarter growth in IFS.
Process Filtration sales, which serve the food and beverage market, grew over 30% due to growth in new equipment and replacement parts in Europe.
First quarter sales of Special Applications were $52 million, up 23% with strong contributions across our product portfolio, including notable increases in our disk drive and membranes businesses.
Also within Special Applications, first quarter sales of venting products grew 19%.
We continue to build share in strategic markets, including high-tech vents for batteries and powertrains in the auto industry and expect venting solutions to contribute to our growth for years to come.
First quarter sales of Gas Turbine Systems or GTS were approximately $17 million, down 28% to almost entirely to timing of orders.
Our outlook for the year has not changed and we expect to make up first quarter revenue shortfalls in the second quarter.
Overall, we are off to a strong start for fiscal 2022 and I feel confident about our ability to successfully navigate this uncertain and volatile environment.
To sum up the first quarter, our employees did an excellent job delivering solid results in a tough environment.
First quarter sales grew 20%, operating income was up 23% and earnings per share of $0.61 was 26% above the prior year.
First quarter operating margin increased 40 basis points to 14.1%.
The increase was from leverage on higher sales, which was partially offset by gross margin pressure.
Driving into gross margin a bit further, the impact of raw material cost inflation built through the quarter.
This impact was compounded by the fact that we were experiencing a deflationary environment one year ago.
As we look at the remainder of the year, we will be impacted by ongoing inflationary headwinds.
We will continue to build on the success we have had implementing price increases in several of our businesses to offset the cost pressure.
That said, the full impact of the pricing benefits may take longer to materialize due to certain large OEM customers.
We are in ongoing discussions with these customers, and we'll continue to drive toward offsetting the incremental costs we are currently absorbing.
On the operating expense front, we are pleased with our discipline and success in optimizing our levels of spend.
We continue to invest in our Advance and Accelerate portfolio.
This spend was offset by controlled expense management elsewhere in the organization.
First quarter operating expense as a percent of sales was favorable by approximately 160 basis points, driven primarily by volume leverage.
Other expense was favorable this quarter by $1.5 million, mostly due to a pension curtailment charge we took in the first quarter of last year.
Turning to the balance sheet and cash flow statements, I'd like to highlight a few things.
Our first quarter cash conversion ratio was 32%, down meaningfully from last year, driven primarily by investments in inventory to further support our increasing demand.
Inventory this quarter were up $60 million sequentially and $115 million year-over-year, mainly due to the impact of inflation, a commitment we made to increased levels of inventory to ensure we're adequately prepared to meet demand and supply chain challenges we have had internally with our customers on order deliveries.
As a result, working capital was $71 million, net use of cash this quarter versus a $33 million benefit last year.
First quarter capital expenditures were $18 million as we invested in various projects, including PowerCore capacity expansion in North America.
This quarter, we continued with our track record of returning cash to shareholders.
We repurchased 1.3% of our outstanding shares for $103 million and we paid dividends of $27 million.
Our strong balance sheet and financial flexibility has been an important asset, while operating in this challenging supply environment.
We ended the quarter with a net debt to EBITDA ratio of 0.7 times.
Now I'd like to walk through our fiscal '22 outlook.
We are now expecting fiscal 2022 sales to be up between 8% and 12% with the nominal impact from currency translation.
This increase from our previous guidance of 5% to 10% is driven by Q1 results as well as benefits from additional pricing actions that will be implemented and rolling over the balance of the year.
We continue to expect a greater sales year-over-year increase in the first half versus the second, driven in large part by prior year comparisons.
From a segment perspective, we've increased our full year sales expectations for both Engine and Industrial.
For the Engine segment, we expect the revenue increase between 8% and 12%, up from our previous expectation of between 5% to 10%.
Within Engine, sales of our first-fit businesses are forecasted to be mixed.
Off-Road sales are expected to grow in the high-teens versus last year due to increased levels of equipment production and the continued success of new program wins in our Exhaust and Emissions business.
The Off-Road forecast is up slightly from the low-double-digit growth we've previously projected.
In On-Road, we are seeing a slowdown in demand from some of our customers as they grapple with their own supply chain issues.
Based on first quarter results and our current order trends, we now expect On-Road sales to be down low-single-digits versus our previous guide of up low-single-digits.
For Engine Aftermarket, we are increasing our expectations slightly to high-single-digit growth from our previous guidance of mid-single-digit growth.
Equipment utilization remained strong and we are continuing to gain share with proprietary products.
Our outlook for Aerospace and Defense has not changed.
We are still forecasting low-double-digit growth for the year, due in large part to comping against the COVID-related market weakness in fiscal '21.
Now on to the Industrial segment.
We expect sales to be up between 7% and 11%, which brings up the bottom end of our previous guidance range of 6% to 11% by a point.
Sales of Industrial Filtration Solutions are planned up in the low-double-digit range consistent with the guidance we gave last quarter.
Improved sales of new equipment and replacement parts, particularly dust collection as well as strength in process filtration will continue to be the drivers.
In terms of IFS, I would just like to mention that while revenue related to our recent acquisition of Solaris Biotech will follow in the segment, we do not expect a material impact this fiscal year.
Solaris bookings for this calendar year are expected to be approximately EUR11 million.
And revenue related to those bookings should flow through over the next several quarters.
We continue to expect fiscal '22 sales up high-single-digits.
As Tod noted in his remarks, the first quarter sales decrease was a result of timing, and we do expect to recover those sales.
Special Applications revenue is forecasted to be up low-single-digits versus our initial guidance of down low-single-digits, reflecting stronger than expected growth across the portfolio in the first quarter.
Now let's move to operating margin.
We maintained our expectation for a full year rate between 14.1% and 14.7%.
As a reminder, last year's adjusted operating margin was 14%.
Expense leverage will be the primary driver of the year-over-year benefit.
On gross margin, given what we saw in the first quarter and the trends we are seeing in raw material, freight and labor crisis, we believe the inflation headwind will be more significant than we originally planned.
We expect to offset the higher costs with pricing over time.
However, the net impact on gross margin will be greater than anticipated.
And we now expect gross margin to be down 50 to 100 basis points from the prior year.
To expand further on this point, last quarter we said we expected to pay 8% to 10% more for our raw materials this year, which equated to about 300 basis points.
That estimate is now 12% to 14% or a little shy of 400 basis points.
Additionally, freight and labor costs have now become a more significant headwind than we anticipated, which results in additional 100 basis points of gross margin pressure.
So as a result of these dynamics and our typical seasonality, we should see operating margin improve in the second half of the year versus the first half.
Based on our updated forecast, we plan for a new earnings per share record of between $2.57 and $2.73, implying an increase from last year's adjusted earnings per share of 11% to 18%.
Just briefly on the balance sheet and cash flow outlook.
In terms of capital expenditures, we are lowering our planned spend for this year to a range of between $90 million and $110 million.
So essentially, a $10 million reduction to the range we provided in September of $100 million to $120 million.
The macro headwinds we've been talking about this quarter are impacting almost every part of our business.
Given supply chain uncertainty and other variables, the timing of execution on some of our capacity expansion projects could be slowed.
So we felt it prudent to bring the range down in line with current expectations.
In terms of free cash flow, increased inventory levels, partially offset by the lower capex, result in a reduction to our free cash flow conversion forecast to between 70% and 80%, down from our initial guidance of 80% to 90%.
On share repurchases, we still plan to repurchase about 2% of our outstanding shares this fiscal year.
In summary, I am pleased with our first quarter results.
I am also confident our business model is equipped to manage the uncertain times ahead.
While the results of our more recent pricing actions will take a bit of time to flow through our financials, we are taking the right steps to protect our margins and deliver record level of sales and profit this fiscal year.
We are also committed to managing the business for long-term, and we'll continue to make thoughtful investments for future growth.
As we look to the rest of the fiscal year and beyond, I would like to touch on a few key paths we are pursuing to build on our success and push the company forward to the next stage of its evolution through profitable growth.
First, we are continuing to invest in our existing Advance and Accelerate solutions, including Process Filtration, dust collection and replacement parts and Engine Aftermarket.
Second, we are diversifying the company's offerings, both organically and inorganically, to ensure we meet the needs of our existing and future customers globally.
On the organic side, we are committed to our R&D.
We previously invested $15 million for our materials research center, which will enable further development of our polymer-based chemistry solutions.
It is also important to note, we increased our R&D budget this fiscal year by 10% over last year.
On inorganic diversification, the recent acquisitions of Solaris and P-A Industrial Services are just the beginning.
Solaris is the first inorganic step on our journey to create a life sciences business.
We are excited about the value we can add through our global market reach, science and technology, filtration capabilities and our ability to invest for future growth.
This, combined with Solaris' market reputation and product portfolio, are a winning combination.
Third, we are investing in our people and recruiting the right talent to drive the company forward.
We have made people investments in areas such as life sciences, food and beverage and ESG.
Donaldson employees with their dedication and hard work are the core of our business.
Before we close, I also want to touch on our ESG efforts as this is an important part of our culture.
We began global implementation of our environmental health and safety policies in 2018.
Safety and greenhouse gas emission reductions are near-term priorities, and we're making progress.
We are well on our way of reducing CO2 emissions by 6,000 metric tons by the end of fiscal 2022.
Our company is geographically and culturally diverse.
We have strong governance, including a seasoned board with balanced tenure.
Also critically important is the alignment of the compensation of our board and management with shareholder interest.
So as I look out over the long-term, I strongly believe we have the right strategy in place to continue delivering value to our stakeholders for years to come. | compname reports q1 earnings per share of $0.61.
q1 earnings per share $0.61.
q1 2022 operating margin increased to 14.1% from 13.7% in 2021.
donaldson increases fiscal 2022 sales and earnings per share guidance.
raising our fiscal 2022 sales and earnings outlook.
macro-economic headwinds are creating a different path to achieving our results than we previously anticipated.
donaldson company - gross margin is under additional pressure as raw material, freight, and labor costs have climbed beyond our original expectations.
to partially mitigate pressure by raising prices in most markets.
fiscal 2022 gaap earnings per share is now expected to be between $2.57 and $2.73.
sales growth during first half of year is expected to outpace second half of year.
currency translation is expected to be a nominal headwind in fy22.
fy22 net sales are projected to increase between 8% and 12% year-over-year. |
During today's call, we will reference non-GAAP metrics.
Looking at second quarter results, we are pleased with our performance.
Second quarter were up 3% versus a year ago and up 7% sequentially from the first quarter.
Our second quarter results demonstrate the strength of our business model with replacement part sales providing valuable stability as we grew market share in key markets and geographies.
During this quarter, we also built momentum in first-fit sales in our Engine segment, and we're seeing increases of incoming orders across our Industrial segment.
We are pleased to see the uptick in second quarter sales and incoming orders within our first-fit equipment businesses.
While this creates mix pressures in the short term, it also sets the stage for replacement parts in our razor to sell razor blade strategy and provides continued confidence that the worst of the pandemic-related economic impacts are behind us.
We played the long game during the pandemic, maintaining our disciplined focus on the future and avoiding the temptation to make potentially shortsighted decisions on our cost structure.
During the second quarter, we took planned full actions with a longer view toward optimizing our organization and our cost structure, primarily in Europe.
We incurred $14.8 million in restructuring expense and expect annualized savings of approximately $8 million once the restructuring activities are completed over the next 12 months.
Excluding the impact from our restructuring actions, gross margin was up 30 basis points from the prior year as lower raw material costs, including benefits from our procurement initiatives more than offset the increasing pressure from an unavoidable mix of sales.
With continuing momentum, we expect full year sales to be up 5% to 8% over 2020, including favorability from FX of about 3%.
We're also projecting adjusted operating margin to increase 60 to 100 basis points, driven largely by gross margin strength.
Finally, our company remains in a strong financial position.
We had solid cash conversion during second quarter, and our balance sheet is in good shape with our net debt to EBITDA ratio sitting at 0.7 times.
Our balance sheet gives us ample capacity to pursue our strategic initiative to move into the life sciences market via acquisitions and continue to invest in organic growth opportunities.
We're delivering on our strategic and financial objectives so far in fiscal 2021, and we are planning for a strong finish to the year.
Scott will talk more about our forecast later in the call.
But first, let me provide some additional color on recent sales trends.
Total second quarter sales were up 2.6% from the prior year or 0.2% in local currency.
Total Engine segment sales rose over 6%, and Industrial was down 4%.
Geographically, the Asia-Pacific region led our positive performance as we continued to see very good growth in China.
In the Engine segment, the sales increase was driven by meaningful growth in both Off-Road and Aftermarket.
The growth was partially offset by a slight decline in On-Road and a drop in Aerospace and Defense.
Off-Road growth was widespread with sales in all major geographic regions up from the prior year.
Importantly, our incoming order rates and backlog point to building momentum through the second half of fiscal 2021.
Within Off-Road, our second quarter sales in China were up about 70%.
We are seeing momentum in the market with construction equipment build rates remaining at high levels.
We are also seeing strong growth of PowerCore in China, and several new PowerCore programs for Tier three upgrades have gone into production.
On-Road sales were down about 1% in the quarter, which is our best year-over-year result since fiscal 2019, signaling to us that the second quarter was the cyclical trough in this business.
Our view is supported by external data with order rates for Class eight trucks launching higher in the past several months and higher build rates projected in the coming quarters.
With increasingly favorable market conditions, combined with our strong share in North America heavy-duty trucks, we are optimistic about our opportunities to drive growth in our On-Road business.
Second quarter sales of Aftermarket were up over 7% year-over-year, and they were also up 4% sequentially from the first quarter, which is atypical and serves as another indicator that market conditions are improving.
In China, second quarter sales of Engine Aftermarket were up over 30%.
We are beginning to see service parts benefit from new equipment under warranty, which includes an increasing percentage that have proprietary PowerCore and PowerPleat air cleaners installed.
Overall, PowerCore sales increased about 9% in second quarter with strong growth in both first-fit and replacement parts.
As I mentioned earlier, in China, we are seeing significant growth, which we expect to continue as PowerCore becomes more mainstream.
Aerospace and Defense, which represents about 3% of our business, faced another tough quarter due primarily to the ongoing pandemic-related weakness in commercial aerospace while sales for helicopters continue to perform well.
As we expect, the time line for recovery in commercial aerospace to be protracted, we took restructuring actions within the quarter to improve our cost structure and better position the organization for the current business environment.
Turning now to the Industrial segment.
Second quarter sales were down about 4%, including a 3% benefit from currency.
We continue to face pressure on sales of dust collection sale products within Industrial Filtration Solutions, or IFS, as utilization rates were lower and customers remain cautious in making capital investments.
Once again, a bright spot in the quarter was Process Filtration.
Our Process Filtration for the food and beverage market with our LifeTec brand continues to grow, particularly on the replacement side.
Overall Process Filtration sales increased in the high teens with contributions from both first-fit and replacement.
And we see a long runway for further expansion of this business.
We are making new inroads with some of the world's biggest food and beverage companies, and we are also gaining share with existing customers.
The sales process for these massive brands involves winning at the parent and then selling one plant at a time, which is why we continue to grow our sales force and invest in new tools and resources.
We launched LifeTec five years ago with fewer than 10 salespeople, and we're on track to be over 100 by the end of this fiscal year.
Sales of Gas Turbine Systems, or GTS, were down 3.5% in second quarter as large project deliveries, though a smaller part of our business, were less than the prior year.
Our replacement parts business, on the other hand, delivered another quarter of double-digit growth.
We continue to win share of aftermarket while being selective in which large turbine projects we pursue.
The team has done a tremendous job of improving the profitability of GTS, and our more focused approach is clearly paying off.
In Special Applications, we again saw very good growth in integrated venting solutions as we continue to drive adoption in the automotive market with our high-tech products.
However, overshadowing these wins were continuing softness in disk drive filters and lower sales of membrane products.
Second quarter results highlight the strength of our diversified portfolio of businesses and disciplined focus on the long game.
We are well positioned to benefit from the recovery in cyclical end markets, and we continue to press forward on our strategic initiatives, including the recently announced investments to grow our life science business.
I'll talk more about that later.
As Tod said, we are pleased with our second quarter performance.
Sales were up 2.6% from the prior year, and adjusted operating income grew 7.6%.
Given the uneven macroeconomic environment, it was a strong quarter in terms of both absolute growth and leverage.
Looking ahead, we plan to build on that momentum.
As I said many times, we are committed to increasing levels of profitability and increasing sales.
I know I'm repeating myself, but I also want all of you to know that, that statement is a guiding principle for us.
One way we deliver on that commitment is through select optimization initiatives, which is how I would characterize the restructured actions we took in the second quarter.
Most of these activities are happening in Europe, and all of them support our long-term objectives.
For example, we are centralizing key aspects of our aerospace business, giving us a strong platform for when the market returns to growth.
We are moving the production of certain compressed air products to Eastern Europe, where we have an excellent team and a competitive cost structure.
And we are centralizing our European accounts payable and customer service functions to improve standardization and optimization, giving us the ability to leverage common tools as we grow.
The projects we initiated in the second quarter should generate annual savings of about $8 million once fully implemented with about $1 million realized in this fiscal year.
These actions drove a second quarter charge of $14.8 million and resulted in an operating margin headwind of about 220 basis points and an earnings per share impact of $0.08.
With that, I'll dig into our second quarter results a bit more.
As I said earlier, adjusted operating profit, which excludes restructuring charges, was up 7.6% from the prior year.
That translates to an adjusted operating margin of 13.4%, which is 60 basis points up from the prior year.
Second quarter adjusted gross margin grew 30 basis points to 34%, accounting for half the operating margin increase.
The price we paid for raw materials in second quarter was lower than last year due in part to our strategic procurement initiatives, and the gains were partially offset by an unfavorable mix of sales.
While we expect gross margin will be up in the back half of fiscal '21, the drivers are predictably changing.
As expected, raw materials will move from a tailwind to a headwind, and the pressure from mix is going to increase with the anticipated sharp growth in our first-fit businesses over the next two quarters.
As always, we remain focused on managing the price cost relationship.
Net pricing for the company was a push last quarter, and we will take a proactive stance as raw material costs trend higher.
We also remain focused on being deliberate with our operating expenses.
As a rate of sales, second quarter adjusted operating expense was 30 basis points favorable versus the prior year, continued benefits from lower discretionary expenses due in part to the pandemic-related restrictions were partially offset by higher incentive compensation.
Importantly, we continue to invest in our strategic priorities.
Compared with last year, we invested more on research and development, and we increased our headcount-related expense to drive growth in our Advance and Accelerate portfolio of businesses.
You can see the impact of these choices more prominent in our Industrial segment, where many of our high-growth businesses are reported.
If you exclude restructuring charges, the second quarter Industrial profit rate was down about 50 basis points from the prior year, reflecting incremental investments in businesses like Process Filtration and Venting Solutions.
On the other hand, solid growth in our Engine segment is creating leverage across the P&L.
The team is doing an excellent job of focusing on share gains and market expansion, especially in China, and they are also thinking long term.
We are aggressively pursuing share gains in new markets and driving higher aftermarket retention with innovative products.
We have great partnerships with many of the world's largest equipment manufacturers.
We will be leveraging those relationships as we all navigate inflationary pressures related to raw materials and fulfilling rapidly elevating demand.
Across our company, we believe the balanced approach we have taken throughout the pandemic puts us in a strong position to capitalize on the economic rebound.
Instead of making deep cuts to manage a short-term demand pressure, we focused on supporting our investors and making targeted investments into our strategic growth priorities.
While we anticipate uneven market trends will continue, we are confident in our long-term positioning.
Capital deployment is another area we have a disciplined and balanced approach.
We invested about $12 million in the second quarter, which is down more than 70% from the prior year.
With the economic environment improving and many of our new apps online, our focus is shifting toward driving productivity gains and working toward the operating margin targets we shared at our Investor Day in 2019.
We returned more than $57 million to shareholders through dividends and share repurchase, bringing our year-to-date total to almost $100 million.
Maintaining our dividend is a priority for us, and we have demonstrated our willingness and ability to grow it over a long period of time.
We have increased our dividend each calendar year for the past 25 years, making us part of the elite group included in the S&P High Yield Dividend Aristocrat index.
Our position on the dividend is the same as it was 65 years ago when we began paying it every quarter.
And I am proud of this trend.
Share repurchase is also an important part of our capital deployment priorities, but it's a bit more variable.
At a minimum, we plan to offset dilution from stock-based compensation in any given year, and we are on track to meet or exceed that objective this year.
Beyond that, our share repurchase is guided by our balance sheet metrics, strategic opportunities and overall market conditions.
Overall, our narrative is consistent over time.
Our year-to-date results demonstrate both the strength of our business model and the value we create by taking a long-term focused view.
We plan to build on this momentum in the back half of 2021.
So let me share some details on our expectations.
As Tod mentioned, we see building momentum in our first-fit business throughout the past quarter.
With this in mind, we expect sales this year to return to a pattern that is generally in line with our typical seasonality, where about 52% of our full year revenue occurs in the back half.
Therefore, we expect full year sales will increase between 5% to 8%, which includes the benefit from currency translation of about 3%.
In the Engine segment, full year sales are projected to increase between 8% and 12% with our first-fit business comprising a bigger piece of the recovery story in the back half.
We expect full year Off-Road sales to increase in the low 20% range with building strength in commodity prices driving an acceleration in equipment production in agriculture and other select markets.
In On-Road, we expect a full year increase in the low teens, driven by the strong rebound in global truck production rates.
We expect the momentum to continue in our Aftermarket business with a full year sales increase in the high single digits.
We expect to continue to benefit from improving equipment utilization trends globally and market share gains in the Asia-Pacific region, particularly in China, where PowerCore is experiencing significant growth.
Our Aerospace and Defense business is anticipated to decline in the high-teens digits overall as demand in the commercial aerospace is expected to remain depressed.
We do expect to see sequential improvements as we lap the pandemic-related impacts, and helicopter and ground defense programs continue to grow over time.
In the Industrial segment, full year sales are projected to be between a 2% decline and a 2% increase as recovery in the capital investment environment is still emerging.
We continue to press forward with market share gains during this period, and our investments in building the Advance and Accelerate portfolio are expected to continue to result in sales growth above the company average.
We expect IFS sales to be roughly flat for the full year, reflecting a return to growth in the back half of the year.
While uncertainty remains, we are seeing signs of increased quoting activity and expect we are well positioned to capitalize on any recovery in addition to our gains in share and continued progress with our innovative products in important markets like food and beverage.
Our GTS revenue is expected to increase by the mid-single digits, driven by continued growth in replacement parts.
In special applications, we are anticipating a decline in low single digits based on our year-to-date results and expected softness in the market for disk drive products.
At a company level, we are expecting an adjusted operating margin to increase to within a range of 13.8% and 14.2% compared to 13.2% in 2020.
This implies a sequential step up in our operating margin to 14.4% for the back half of the year and aligns with our commitment to increasing profitability on increasing sales.
Gross margin expansion continues to be an important lever for us.
We expect to benefit from our ongoing initiatives to drive cost efficiency in our operations and are positioned to gain leverage on a higher sales volume.
Over time, mix should also be a consistent factor in driving our gross margin up.
As we think about the near term, however, mix is likely to be a headwind as improving market conditions and our strong position with our large OEM customers will likely result in stronger first-fit sales growth in replacement parts.
We are also beginning to see increases in our input costs, including steel and freight rates, so we are expecting a cost headwind for the remainder of fiscal 2021.
We continue to invest in our customer relationships and in maintaining our position as a top-tier supplier.
We will continue to work to align our pricing with the increases in our input and supply chain costs.
Additionally, we expect to maintain a disciplined approach to our operating expenses and deliver further leverage in the back half of the year despite an expected full year headwind of approximately $20 million from increased incentive compensation, about 2/3 of which is in the back half of the fiscal year.
For our other operating metrics, we expect interest expense of about $13 million, other income of $2 million to $4 million, and a tax rate between 24% and 25%.
Capital expenditures are planned meaningfully below last year, reflecting the completion of our multiyear investment cycle.
Taking the midpoint of our sales and capex guidance for 2021 would put it at just over 2% of sales.
We expect to repurchase 1% to 2% of our outstanding shares.
Finally, our cash conversion was very good in the first half, and we continue to expect to exceed 100%, reflecting strong first half conversion and anticipated increases in working capital later in the fiscal year.
We have had a solid first half of our fiscal year and are expecting even better results in the second half.
I am very proud of what our employees have been able to achieve in this unprecedented time, and I'm optimistic about Donaldson's future.
As we saw during the first year of our fiscal year, improving economic conditions are complementing the benefits from consistently strong execution of our strategic priorities.
Of course, achieving the significant sales and profit growth projected in the second half is not without risks.
Costs are going up.
Demand for raw material is quickly increasing.
The global supply chain is getting stretched, and above everything else, the pandemic is still hanging over all of us.
While the pandemic is certainly a new occurrence, the other pressures are not.
We have successfully navigated them time and again due in large part to our talented employees and strong customer relationships.
As always, we will manage our costs, execute strategic price increases and pursue profitable sales.
It's a straightforward plan, and it has served us well for 106 years, giving me confidence we are in an excellent position to deliver a strong finish to fiscal 2021.
I will also say that I'm more excited than ever about our long-term prospects.
As a reminder, our strategic priorities include expanding our technologies and solutions, extending our market access and executing thoughtful acquisitions.
The recent announcement of our newly formed life sciences business development team represents a significant move that supports all those priorities.
As previously announced, we hired a new Vice President to build and lead the life sciences team and drive our growth strategy.
This team comes to Donaldson with tremendous industry experience, including strong M&A backgrounds.
With the leadership in place, we are now poised to drive our expansion plans into the fast-growing, highly technical and highly profitable life sciences markets.
While there are no specific details to share today, we are highly confident that technology-led filtration has a critical role in these spaces.
With our strong balance sheet and disciplined approach to capital deployment, we are well positioned to pursue acquisition opportunities that make strategic and financial sense.
And we are also enhancing our internal capabilities to drive organic growth.
Our new materials research center, which was completed last year, will further strengthen our material science capabilities.
The technical skills we gain can be used right away by fueling growth in our current markets, like food and beverage, and they can be used to support longer-term growth in broader life sciences markets.
We are committed to these new markets, and establishing the life sciences business development team is one step on a long journey, but it was an important step.
I'm excited about our opportunities and look forward to sharing our success with all of you over time.
One year ago, we were all wondering about how COVID-19 was going to ripple through the economy, and there were more questions than answers.
We all still have questions, but one thing that I am more certain about is the quality of our employees.
They are truly remarkable.
I've seen that personally, and we can all see it in our company's results. | expects fiscal 2021 sales to increase between 5% and 8%.
q2 gaap earnings per share of $0.44 includes $0.08 of restructuring expense. |
During today's call, we will also reference non-GAAP metrics.
I hope that all of you and your families are staying safe as we deal with these unprecedented times.
One thing the pandemic has brought to light is the hard work of everyday heroes.
So I want to express our profound appreciation for the frontline workers that keep the world moving forward and that includes thousands of Donaldson employees.
I'm always impressed by our employees.
But I'm particularly proud of their performance during the pandemic.
Every day, they show up with relentless customer-first attitude, which is more important than ever as we support critical markets like agriculture, transportation, and food and beverage.
Since the outbreak began, our decision making has been guided by three priorities, supporting the health and safety of our employees, delivering on our customer commitments and doing our part in reducing the transmission of the virus.
Providing a safe work environment is always a top priority, but we intensified our efforts.
We have significantly limited business travel, implemented a thorough cleaning regimen in factories and office spaces, instituted remote work policies for all that are able and introduced COVID-related paid leave while promoting existing employee assistance programs.
Our crisis response team reviews these protocols regularly and we adjust when appropriate.
Social distancing practices and enhanced cleaning schedules will be in place for the foreseeable future and we are reopening our offices in various locations around the world.
The pace of bringing our employees back to the office will be dictated by guidance from health experts along with our own assessments of workplace readiness.
We are taking a cautious approach and we will remain flexible as we execute these plans.
I also want to provide an update on the status of our operations.
Overall, we're in a good position and have not experienced meaningful disruption.
Our success can be attributed to a handful of factors, starting with our footprint.
We have a region to support region production strategy and that allows us to be nimble and flex appropriately based on local conditions.
That has been incredibly valuable as the pandemic affected different parts of the world in different ways, at different times.
Additionally, our defense -- our diverse portfolio of businesses is heavily biased toward replacement parts and essential or critical markets giving us the opportunity to continue production during government-mandated shutdowns.
These structural benefits have been brought to life by our excellent team.
There has been an unprecedented level of collaboration and coordination among us, our suppliers and our customers, and our teams are acting quickly and decisively to mitigate risks and deliver on our commitments.
Of course, things are still uneven.
So I want to provide a run down of our operational situation today.
The Asia-Pacific region is in recovery mode with China furthest along.
Conditions in India are still tighter than other countries, but that has been loosening, and we are on a good path.
Europe is in various stages of reopening and our supply chain risk has gone down over the past month.
The temporary shutdowns due to government mandates have been lifted and we are stabilizing rapidly.
The Americas are further behind on the recovery curve with varying degrees of lockdowns continuing in South America, while large customers in North America only recently began reopening their factories.
The global situation has been improving in recent weeks.
All our critical suppliers are online and our production employees are at work and engaged.
Based on these factors, I am confident we can continue supporting our customers around the world.
I'm going to turn now to a brief overview of our third quarter sales, which were slightly better than we expected based on a strong finish in April.
Total sales for the quarter were down 11.7% from the prior year, or 9.7% without the currency headwind.
Engine segment sales were down 14%, reflecting a sharp decline in our first-fit businesses.
While it is impossible to precisely estimate the impact of COVID-19 on our results, our first-fit businesses were clearly under pressure as many large customers stopped producing equipment during the quarter.
In our On-Road, sales were down 47% as customer shutdowns were compounded by an already weak truck market in the US and China.
As a reminder, our first-fit On-Road business is only about 5% of total revenue.
So our aggregate exposure to the truck market is limited.
In the US, which is the largest portion of our On-Road business, third-party data indicates that our sales fared better than total Class 8 truck production.
Based on our track record of program wins, we are well positioned to have a strong performance when this market recovers.
Third quarter sales of Off-Road products were down 25%, with more than half the decline coming from Exhaust and Emissions.
We are comparing against a large increase in Europe last year related to pre-buys for an upcoming regulatory change.
So we expected pressure this fiscal year.
As a side note, we continue to work on the transaction related to the sale of our Exhaust and Emissions business to Nelson Global Products.
We will provide more details as we have them, but for now, I want to reiterate our commitment to the strong relationships we have with our employees, customers and suppliers.
Excluding Exhaust and Emissions, third quarter sales of our filtration-related Off-Road products were down in the mid-teens.
On a relative basis, products for the agriculture market performed better than the construction and mining markets, and overall global demand for new equipment remains under pressure.
Engine Aftermarket performed much better than our first-fit businesses in the quarter and results were mixed by channel and region.
The total aftermarket decline of 8% was primarily due to a low double-digit decline in sales through the independent channel.
The pandemic is contributing to lower equipment utilization and that impact was compounded in the US by the collapse of the oil and gas market.
Economic and geopolitical uncertainty in Latin America added to the pressure, but share gains in Eastern Europe and China were notable offsets as we build our presence in these markets.
Sales through the OE channel of Aftermarket were down only slightly in the quarter and up in local currency.
We believe a portion of the demand was from large OE customers buying inventory ahead of need, so we expect additional volatility in future periods.
Rounding out the Engine segment, sales of Aerospace and Defense were about flat with last year.
As expected, the commercial fixed-wing market is under pressure, but we were able to largely offset the impact with growth in filters for ground defense vehicles and helicopters.
Turning to the Industrial segment, sales were down 6% in third quarter, driven by a 12% decline in Industrial Filtration Solutions or IFS.
Our dust collection business, which makes up 60% of IFS, was hit hard by the pandemic.
Our quoting activity and replacement demand were under pressure as economic uncertainty went up and global industrial production dropped.
We remain confident in our value proposition and expect that quoting will go back up as the economy reopens, but it is too soon to say how long that will take.
But, we are not just waiting for the recovery.
Our industrial air filtration team has done an excellent job, engaging our customers with things like virtual trainings, reinforcing our brand as a strategic and supportive partner.
The pandemic has also given us an opportunity to demonstrate our value proposition in Process Filtration.
Sales in Europe and the US, our two largest markets, were both up year-over-year, and in local currency.
Sales for all Process Filtration were up in the low single digits.
We continue to expand our share in the food and beverage market and this business remains a strong contributor to our future growth and profit margin expansion.
Third quarter sales in Gas Turbine Systems or GTS were up 6% driven by strong sales for retrofit projects.
Like the large turbine projects, retrofit sales can be lumpy.
We had a solid performance last quarter and we remain very proud of the improved profitability in GTS.
Special Applications' sales were up 5% in the third quarter, driven by strong growth in Disk Drive and Venting Solutions.
Our Disk Drive business continues to benefit from share gains and increased expansion of nearline storage for the cloud and growth in venting is related to value-added solutions for batteries and powertrains in passenger cars.
Given the state of the auto industry, the venting performance was particularly impressive.
We are leveraging our technology and pressing into a new market to meet an expanding need.
There are powerful examples across the company of how innovation is driving results and the pandemic has not changed our long-term priorities.
I'll talk more about that later.
Before turning the call to Scott, I want to provide a few comments on trends in May.
Total sales for the month are expected to be down about 24% from last year.
Many of our large OE customers reopened facilities in the month, but we did not see much of a rebound, which may relate to the inventory building that occurred during our third quarter.
On a regional basis, sales trends are consistent with what we saw in third quarter.
Asia-Pacific is performing the best, while sales in the Americas are the weakest.
Sales in China were up in the month, which is the best performance we've seen in a while, but there is also quite a bit of uncertainty related to the durability of the increase.
So we are more cautious than optimistic at this point.
The situation in both North and South America remains challenging and it is hard to find bright spots in those geographies today.
In terms of product sales, replacement parts are predictably doing better than new equipment.
Businesses like Engine Aftermarket and Process Filtration offer a bit of relative stability, while new equipment production for engine-related products and capital investment for dust collection systems were still under pressure.
While we would not typically go into detail on the current quarter trends, we felt it was important to give a little more context, given the extraordinary pace of change.
As we contemplate the final two months of this fiscal year and our plans for fiscal '21, we will remain focused on executing those things under our control, including promoting the safety and well-being of our employees, maintaining tight control on discretionary expenses, making targeted investments to support near and long-term growth priorities and protecting the strength of our financial position.
I want to echo Tod's sentiment.
Donaldson has great employees.
The way we work has changed rapidly during the pandemic and our teams have stayed connected, remained productive and delivered results.
As predicted, third quarter was a volatile period, the demand environment deteriorated per month demand and things became more uncertain as COVID-19 spread broadly.
Unfortunately, the situation is still unclear.
Economic conditions are varied by region and market, resulting in an uneven and unpredictable demand.
Given that, we feel it's prudent to continue to withhold fiscal '20 and '21 guidance for our key financial metrics.
I will however talk about some general expectations during my remarks, so I'll turn now to a recap of third quarter performance.
All things considered, we are in a good position today.
Despite a sales decline of 12%, our third quarter EBITDA margin was flat with the prior year.
Additionally, our decremental margin was about 19%, which is significantly better than our historic average in the mid to high 20% range.
The favorability was due in part to the product mix and lower incentive compensation.
So let me take you through some of the puts and takes.
Third quarter operating margin was 13.4% compared with 14% in the prior year.
Loss of leverage on lower sales was a primary driver of the decline and that impact was compounded by higher depreciation related to our capacity expansion projects.
Based on the nature of these investments, the third quarter depreciation impact was skewed toward gross margin in the Engine segment.
Overall, our teams are doing an excellent job mitigating the pressure created by lower sales.
In terms of gross margin, plant managers are quickly adjusting labor to account for changes in demand and our procurement and supply chain teams continue to drive optimization initiatives that will have long-term benefits.
These efforts, combined with favorable mix of sales and lower raw material costs, narrowed the third quarter gross margin decrease to 60 basis points.
Additionally, we had strong operating expense performance in the third quarter.
On a dollar basis, operating expenses were at the lowest level in three years, which comes at the three years of incremental investments related to our Advanced and Accelerate portfolio and R&D capabilities.
I want to add that we are not pausing investments in these initiatives, which are critical to our long-term growth plans.
As a rate of sales, third quarter operating expenses were up only slightly from the prior year.
We had favorability from incentive compensation, which was down nearly $6 million and discretionary expenses were significantly reduced in relation to COVID-19.
Despite the near-term pressures from the pandemic, we are pushing forward on our margin initiatives.
New capacity that brings a lower cost to manufacturers coming online, we are steadily adjusting the supply chain, our procurement teams are driving cost reductions and our commercial teams continue to manage pricing.
The list is the same as what we have been sharing for more than a year.
These are our top priorities, and regardless of the macro backdrop, we feel confident in our ability to continue making progress.
We also feel confident in our financial position.
At the end of the third quarter, our leverage ratio was 1.0 times net debt to EBITDA, which is where we were at the end of the second quarter and right in line with our long-term target.
Working capital was down from the prior year, driven by reductions to receivables and inventories and our cash conversion in the quarter was 98%.
We continue to work with our suppliers and customers to manage credit and supply chain risk and we are also working with our valued banking partners to further bolster our liquidity position.
Out of an abundance of caution, we drew an additional $100 million from our revolving credit facility during third quarter.
Then, later in May, we entered into an additional 364-day credit agreement that gives us access to another $100 million.
At the same time, our pace of capital expenditures has decelerated.
Third quarter capex declined by more than 40% and the spend trajectory is consistent with what we communicated previously.
Importantly, the projects were already in various stages of completion as COVID-19 spread.
So we could finish these projects without putting our financial position at risk.
Although the demand environment today is materially different than it was a year ago, we still feel confident that these projects will improve our cost structure, strengthen our customer service at local level and position us to grow in strategically important markets and geographies.
Let me share a few examples of what we're working on.
We are setting up our first PowerCore line in China to support new program wins with local manufacturers.
We doubled the production cap capacity for Process Filtration, position us for larger presence in the food and beverage industry, and new capacity in the Americas and Europe allows us to optimize the point of manufacturer for Engine-related projects.
We still have a little work to do, but our teams are working hard to get them online soon.
Returning cash to shareholders is another important part of our capital deployment priorities.
We are committed to the quarterly dividend, which has been paid every year for more than 60 years and increased annually for 24 years in a row.
As I said to many of you, that's an awesome track record and I don't want to be the person that messes it up.
Share repurchase has always been the more variable component of our capital deployment.
We have been regularly repurchasing our shares for decades and we know that's a valuable activity to many of our shareholders.
We take a thoughtful and measured approach in the execution of our share repurchase plans.
Our minimum objective in any given year is to offset the dilution related to stock-based compensation, which is about 1% of shares.
The level of repurchase beyond that amount is governed by our balance sheet and other opportunities to deploy capital.
We repurchased 1.6% of outstanding shares so far this year.
Based on the uncertainty created by the pandemic, we do not expect additional share repurchase in fourth quarter.
As the situation of the pandemic evolves, we will continue to prioritize a strong financial position and remain focused on executing our strategic priorities.
That has been our approach for a very long time, and we believe it will serve us well for a long time to come.
Donaldson Company turns 105 this year.
We have experience with every type of economic environment and we have always emerged to become an even stronger company.
Our playbook is simple and consistent.
We leverage our deep technical expertise to build a portfolio of filtration capabilities that we deploy into a diverse set of markets.
We are a returns-focused company.
We think long term, while maintaining a clear focus on those things we control in the near term.
The pandemic has no impact on this playbook or our strategic priorities, which always starts with technology.
Along those lines, I'm very excited to share that our new Material Research Center is nearing completion.
This R&D facility is a $15 million investment in building our material science capabilities.
We leveraged some of this know-how in our Process Filtration business today, but the new facility is going to give us significantly stronger platform.
We plan to further penetrate the food and beverage market followed by future expansion in specialty chemicals, electronics, and eventually life sciences.
These markets are less cyclical, highly technical, and therefore highly profitable, making them an attractive complement to our strong Engine business.
Technology remains a core part of our Engine strategy as well.
We want to win new business with products that drive aftermarket retention.
While the pandemic has created uncertainty, we are still working with large OE customers on new programs and their demand for proprietary products is going up as they look to grow their parts business.
Through our technology, Donaldson becomes a core part of the customers' growth strategy, giving us a wide competitive mode.
The value of these products to our company has been demonstrated year after year, so we continue to make investments.
We recently introduced the new generation PowerCore filter called PowerCore Edge.
It has the smallest footprint of any generation yet and our world-class media makes it an excellent solution for Off-Road applications that face heavy dust environments.
PowerCore Edge will be another powerful tool for driving long-term share gains in our core markets.
Additionally, we are building our first PowerCore line in China.
As large Chinese manufacturers move up the technology curve, a couple of things happened that create opportunity for us.
First, a higher performing piece of equipment requires more advanced filtration.
With our strong global brand, decade-long presence in the country, and significant experience supporting world-class OEMs, we are a natural partner for the Chinese manufacturers.
Second, when end users buy a more expensive piece of equipment, they are more likely to maintain it properly.
That makes PowerCore particularly interesting.
As the replacement cycle is created in China, retaining the parts business is now valuable to those manufacturers.
Advancing our R&D capabilities and growing our portfolio of innovative products are what we would consider standard work at Donaldson.
As I mentioned, we think long term and we are committed to creating value for all our stakeholders.
I am confident we can deliver on that commitment because we have dedicated, talented and incredibly smart teams in every part of our company.
I'm proud to be on the team with them. | withdrew financial targets for fy 2020 and 2021.
expects may 2020 sales to be down about 24%.
donaldson company - continues to work through process of the binding offer received from nelson global products. |
During today's call we will reference non-GAAP metrics.
I'm very pleased with our third quarter results, which exceeded our expectation and was the highest sales quarter in our company's history.
Third quarter highlights includes, sales increased 22% year-over-year and 13% sequentially from second quarter, the largest second to third quarter increase in over 10 years.
Gross margin improved 50 basis points year-over-year and earnings per share grew 32%.
This could not have been accomplished without our dedicated Donaldson employees who come to work every day whether at home or in the office to ensure we are meeting our goals in serving our customers.
Now let me provide some insights on our third quarter sales.
Total company sales increased 22% in the third quarter from prior-year.
In local currency sales rose 17%.
We are pleased with this level of growth and believe our momentum will continue.
Engine sales recorded strong year-over-year growth of 26%, 22% in local currency.
Our 51% Off-Road business growth was widespread with all regions experiencing an increase in sales.
In particular, local currency sales in Europe and Asia-Pacific were up 78% and 42% respectively.
China sales increased almost 50%.
Several factors give us confidence in the outlook for Off-Road.
Global demand for construction and agriculture equipment remains high and mining is also seeing increased demand.
PowerCore continues to gain traction in China and we are on track to deliver 2 times as many PowerCore air cleaners in 2021 compared to 2020.
And our backlogs continue to build as we exit third quarter.
On-Road sales experienced a sharp rebound from the 1% year-over-year decline in second quarter, increasing 58% from 2020.
Order and build rates for Class 8 trucks in the US have risen significantly over the past few months and are projected by external data sources to remain at a high level over the next several quarters.
In China, our On-Road sales more than doubled driven by increased heavy-duty truck production and market share gains.
With a favorable economic backdrop, our strong market position in North America and the significant opportunity to grow in China, we are optimistic on the outlook for our On-Road business.
Aftermarket sales increased 23% in third quarter including a 4% currency benefit.
Utilization rates for construction and agriculture equipment and heavy-duty trucks remain at a high level, which is driving increased demand for replacement products.
In local currency sales Latin America increased by over 40% and Europe and Asia-Pacific were up 17% and 18% respectively.
Aerospace and Defense continues to be pressured, primarily due to a weak commercial aerospace market as a result of the COVID-19 pandemic.
A bright spot in Aerospace and Defense is rotary aircraft where sales increased due to previous program wins now coming online.
Looking at the Industrial segment.
Sales in third quarter increased 12% or 7% excluding the favorable impact of currency translation and growth was widespread across geographies.
Industrial Filtration Solutions or IFS saw a significant sequential uptick in quoting activity for dust collection systems in third quarter.
IFS benefited from increased sales of dust collection products on both a first-fit and replacement parts basis.
This is a nice turnaround from the declines experienced in second quarter, which we believe was the trough.
We have seen this business move from the -- if it breaks, you fix it cycle through the if it breaks new replace it cycle and now move to the investment and expansion cycle where we see increased purchases for new projects.
We also saw increased sales in first-fit and replacement products across the rest of the IFS businesses, including greater than 50% growth at BofA and mid 20s percentage growth in Process Filtration sales.
These growth rates indicate to us that not only are we winning share in targeted growth areas, we are also retaining the replacement business, which should only increase as our installed base becomes larger.
Sales of Gas Turbine Systems or GTS declined about 13% year-over-year due to a decline in demand for gas turbines used in the oil and gas market, a slowing of retrofit activity and the timing of projects.
Sales in Special Applications saw double-digit growth in integrated venting solutions and membranes which was partially offset by a high single-digit decline in our disk drive business.
These broad based positive company results give us increased confidence in our ability to have a strong finish to our fiscal 2021.
Finally, we believe supporting the communities in which our people live and work and where we do business is the right thing to do.
Therefore, in third quarter Donaldson contributed $1 million to support our local community and help rebuild areas in Minneapolis and St. Paul that were damaged from the unrest over the last year.
Like Tod, I'm also very pleased with our results in the third quarter, which were stronger than our expectations and as previously mentioned, the highest quarterly sales in the company's history.
Total sales increased 22% year-over-year and operating margin increased 90 basis points to 14.3%.
As you have heard me say many times, we are committed to generating higher levels of profitability on higher sales and our third quarter results demonstrate our commitment to this, even in the face of pressures from higher raw material costs and supply chain disruptions.
As we entered the third quarter, we were building momentum and that continued through the end of the quarter, given our incoming order rates and backlog levels, we expect this momentum should maintain through the end of fiscal '21.
Now let me get into our third quarter results in a bit more detail.
Our Engine segment profitability increased 250 basis points year-over-year as we leverage the significant uptick in sales.
The Industrial segment in contrast, recorded a 50 basis decline in profitability.
This decline is a result of the business unit mix with an industrial and weaker gross margins in GTS and disk drive products.
Third quarter company gross margin improved by 50 basis points to 33.7% which accounted for a bit over half of the 90 basis point increase in operating margin.
Raw material and freight cost inflation were headwinds and the reversal from the tail and we experienced in the first half of the fiscal year.
Sales mix is also unfavorable to gross margin primarily as a result of strong and new sales.
However, we were able to offset the margin pressures for sales leverage and pricing.
We continue to expect second half gross margin will be up year-over-year, however, the headwinds from higher raw material and freight costs are increasing from what we experienced in the third quarter.
Given the sharp increases in our raw material and freight costs, we are focused on pricing actions to mitigate the impact on our margin.
We remain committed to managing our price cost relationship, particularly in an environment of strong demand for our products.
We are also committed to controlling operating expenses.
In the third quarter operating expenses as a percentage of sales declined 40 basis points year-over-year.
This was driven by leverage on increased sales, partially offset by increased incentive compensation expense.
Investing on our strategic priorities remains a focus for us.
Our Advance and Accelerate portfolio received the largest amount of our investment and over time as expected to generate sales growth and higher margins and company average.
We are also excited about the growth opportunities with our first-fit engine businesses.
These businesses tend to be more cyclical and command leadership positions in their markets.
In the case of On-road, Off-Road and Defense, there are multi-year programs that provide a solid base of business to help grow our aftermarket sales.
We see opportunities for additional program wins and further penetrate into markets where we have a smaller share.
One example is China but the market is large.
There is an increasing willingness of OEs to adopt the filtration technology we provide and we are winning new programs.
We have taken a disciplined approach to managing our business and opportunities by focusing on selective cost optimization projects and leveraging our global presence while continuing to invest in growth areas.
As the world recovers from the pandemic, we are in a great position to participate in the post-pandemic upswing some of which is represented in our third quarter results.
We made capital investments of approximately $10 million in the third quarter, a decline of over 60% from the third quarter of last year as we bring to completion many of our significant capital projects from the prior two years.
We paid over $26 million in dividends and repurchased over $32 million of our stock in the third quarter.
Year-to-date we have returned almost $160 million to shareholders.
We have paid a dividend every quarter for the past 65 years and increased our dividend every calendar year for the past 25 years, making Donaldson among a small group of companies that are included in the S&P High Yield Dividend Aristocrats Index, maintaining this track record is important to us.
Our results for the third quarter of fiscal '21 demonstrates that our focus on higher margins and higher sales is working.
The results also underscore the diversification of our business model and our long-term view adds value to the company and our shareholders.
We have good sales momentum as we head toward the end of the fiscal year which should carry through the fiscal '22, as such, we are raising our fiscal '21 sales and earnings per share guidance.
With that, let me share our updated expectations for fiscal '21.
In the third quarter, we saw continued sales momentum in our Off-Road, On-Road and Aftermarket Engine businesses and an uptick in our Industrial Filtration Solutions business.
Given the strong results we experienced and our visibility into the remainder of fiscal year, we expect full year sales will be up 9% to 11% year-over-year versus our prior guidance of 5% to 8% increase.
Our annual guidance assumes a full year 3% benefit from currency translation.
In our Engine segment, we project a sales increase of 12% to 14%, which is up from our prior guidance of an 8% to 11% increase.
We project full year Off-Road sales will now increase in the mid to high 20% range, driven by continued strong demand for construction and agricultural equipment and increase ore activity in mining.
Our prior guidance was for low 20% range growth.
In On-Road we expect full year sales will increase in the mid-teens compared to our prior guidance of low-teens.
This increase is due to a stronger improvement in global heavy-duty truck production rates.
Our Engine Aftermarket business has continued to see stronger than expected sales momentum, as global equipment utilization continues to improve.
We now believe sales will increase in the mid-teens compared to our prior guidance of high single-digit increase.
We believe utilization rates for construction and agriculture equipment as well as On-Road trucks will remain at a high level through our fiscal year-end.
We continue to expect our full year sales in Aerospace and Defense to decline in the mid to high 20% range, given the pandemic related stock conditions in commercial aerospace resulted in weak demand.
In the Industrial segment, we expect a full-year sales increase of 3% to 5% versus our previous guidance of down 2% to up 2%.
As Tod mentioned earlier, we are experiencing increased demand for industrial dust collection products particularly replacement parts.
We have increased our outlook for IFS sales and now project sales growth in a mid-single digits compared to our previous expectations of flat sales.
Core and sales activity have increased more quickly than we previously forecasted.
GTS sales are expected to decline in the low single-digits versus our prior expectation of a mid single-digit increase.
In Special Applications, we continue to anticipate a decline in the low single-digits based on our year-to-date results and expected softness in the market for disk drive products.
Expanding our gross margin remains a key focus for us.
We continue to work to reduce cost and drive operational efficiencies to leverage higher sales.
In the near term, however, increases in raw material prices and higher freight costs will pressure margins through fiscal '21 and into at least the early part of fiscal '22.
To offset some of the sharp increases in our input costs, we have selectively raised prices and may do so again.
We know the value we bring to our customers and we'll continue to demonstrate this value, the technology led products and best-in-class service.
We are expecting adjusted operating margin in a range of 13.8% to 14.2% compared to 13.2% in 2020.
The midpoint of this range implies a sequential step up in operating margin to about 14.5% for the back half of the year compared to 13.5% in the first half.
Additionally, we expect to maintain a disciplined approach to our operating expenses and deliver further leverage in the remainder of the year, despite an expected full year headwind of $5.25 million from increased incentive compensation, about half of which was incurred in the third quarter.
Other fiscal '21 operating metric expectations are: interest expense of about $13 million, other income of $5 million to $7 million and a tax rate between 24% and 25%.
Capital expenditures are planned to be in the range of $55 million to $60 million.
Taking the midpoint of our sales on capital expenditure guidance for 2021 would put us at just over 2% of sales which as we previously noted as lower in the last few years due to the completion of major projects.
We also plan to repurchase 1.5% to 2% of our shares outstanding.
Our cash conversion has been very good in the first nine months of fiscal '21 and we expect to exceed 100% cash conversion for the full year.
The sales momentum we're currently experiencing is likely to carry through to the first half of fiscal 2022.
We expect first half fiscal 2022 sales to a greater percentage of our full year sales as compared to the first half of fiscal 2021.
Looking at our fiscal '22 gross margin, we expect the headwinds from higher raw material and freight costs to increase from what we've experienced in FY 2021, particularly in the first half of FY 2022.
Our operating expenses for fiscal '22 will have some pluses and minuses relative to fiscal '21.
As we begin to operate on a more normal post-pandemic environment, we expect to see an increase in expenses related to in person customer engagement costs including marketing and travel costs as our sales and engineering employees return to on-site visits and attend trade shows.
Investment in our Donaldson employees, including training and development and increased headcount to meet demand.
However, we should see an offset in reduced incentive compensation expense on a year-over-year basis as we reset our annual compensation plans.
Our objectives for the remainder of this fiscal year and '22 are unchanged.
We will continue to invest for growth and market share gains in our Advance and Accelerate portfolio, including inorganic growth in life sciences, execute productivity initiatives and pricing actions that will strengthen gross margin, maintain control operating expenses and protect our strong financial position through disciplined capital deployment and working capital management.
Our second half started off strong and we have solid momentum to carry us through the end of fiscal '21 and enter fiscal '22.
Our third quarter results demonstrate the momentum we have in our business and the benefits of having a diversified portfolio.
We continue to maintain a disciplined long-term focus on our strategy.
To remind you, our strategic priorities remain unchanged and we are focused on expanding our technologies and solutions, extending our market access and executing thoughtful acquisitions, particularly in life sciences.
Some recent examples of new products include our new Ultrapac Smart Dryer for Compressed Air Process Filtration, an upgrade to our iCue Connected Filtration Service, which now comes standard on many of our Industrial Dust Collectors and over time will provide recurring revenue.
The expansion of our Filter Minder real time monitoring service to Engine liquid filtration in addition to air filtration and our Rugged Pleat Baghouse industrial dust collector that we introduced in first quarter, which is already on pace to generate 2 times our initial first year forecasted sales.
Our strategy also involves seeking out inorganic growth opportunities and we are well positioned to expand our addressable market in life sciences.
We have a solid roadmap and a pipeline of potential opportunities in life sciences.
While I can't comment on when or if the deal might happen, I can say I'm very encouraged by the work the life sciences business development team is doing.
They have increased our understanding of the life sciences market and improved our strategic focus in that area.
We have the right people in place to execute our strategy.
We continue to maintain a strong balance sheet and disciplined on our capital deployment, which positions us well to make acquisitions that will expand our markets, increase our margins over time and allow us to further leverage our Filtration technology expertise.
We have the ability to continue to invest in organic growth to extend our market reach, increase market share and maintain our market leadership positions.
This is a very exciting time for Donaldson and I look forward to sharing our successes with you. | sees fy sales up 9 to 11 percent.
expects to repurchase 1.5% to 2.0% of its outstanding shares during fiscal 2021.
challenges in supply chain are expected to continue through q4 2021.
expects fiscal 2021 capital expenditures between $55 million and $60 million. |
During today's call, we will also reference non-GAAP metrics.
I greatly appreciate the work they do every day to keep us moving forward.
As always, we remain focused on those things under our control.
Despite a significant shift in the economic environment during fiscal '20, there were several things that went as planned including: sales of replacement parts performed better than new equipment and first-fit products, gross margin increased from the prior year, we reduced our discretionary expenses while investing in growth businesses, and we maintained a strong financial position while returning cash to shareholders through dividends and share repurchase.
We are entering fiscal '21 with clear priorities and engaged employees.
We do not anticipate strong market conditions overall this year but our diverse business model and robust operational capabilities give me confidence that we can make progress on our strategic initiatives in any economic environment.
We will talk more about our longer term opportunities later in the call.
So I'll now turn to a brief overview of fourth quarter sales.
Total sales were $617 million in the quarter with sequential increases in June and July.
Compared with the prior year, sales were down 15%, which is consistent with the forecast we provided in early August.
Both segments experienced a similar decline.
However, there was quite a bit of variability within the results.
In the Engine segment our first-fit businesses remain under the most pressure.
Fourth quarter On-Road sales were down 44% from the prior year.
The U.S. is the largest portion of On-Road and it accounted for much of the decline as the cyclical slowdown in Class 8 truck production was magnified by the pandemic.
As a reminder, On-Road first-fit in the U.S. is only about 3% of total Donaldson sales so our aggregate exposure to that market is limited.
Sales in Off-Road were down 24% in the quarter.
More than half the decline was due to Exhaust and Emissions.
There were pre-buys in Europe last year related to an oncoming regulatory change and new programs for our Exhaust and Emissions products are not yet at meaningful volumes.
In the U.S. production on heavy duty Off-Road equipment remains depressed, particularly for the construction and mining industries.
On the other hand, Off-Road sales in China were up nearly 50% in the fourth quarter.
The Chinese government is investing to stimulate activity which is benefiting our Off-Road business.
Additionally, we continue to win new programs with local manufacturers and some of those programs were won with PowerCore.
These are new customer relationships in the country that produces more heavy duty equipment than anywhere in the world.
We are learning how to best support these local manufacturers and we know that will come with order volatility, but our team in China is motivated as we see the opportunity for significant long-term growth.
Sales trends for Engine aftermarket were predictably better than our first-fit businesses.
Fourth quarter aftermarket sales were down 11% reflecting a decline in the mid-teens for sales through our independent channel.
The headlines in our independent channel are fairly consistent with third quarter.
Sales in the U.S. fell with the collapse of the oil and gas market combined with slowing transportation activity.
In Latin America, utilization is slowing across the region as the spread of the virus is compounding the impact from geopolitical uncertainty.
And fourth quarter sales in Eastern Europe remain strong as we continue gaining share.
Sales through the OEM channel of aftermarket experienced a more modest, low-single-digit decline.
In the U.S., large customers pulled down inventory to match demand, which was partially offset by strong growth in China as we continue gaining share with local customers.
In fact, aftermarket sales in China were at a record level last quarter and we see a long runway as we expect to continue winning new programs with innovative technology.
Our portfolio of innovative products performed well in the fourth quarter.
This portfolio makes up nearly a quarter of the total aftermarket revenue and fourth quarter sales were up in the low-single digits.
For nearly two decades, we have been improving, expanding and reinventing our offering related to these razor-to-sell razor-blade products.
After all that time we still have very strong retention rates.
These products create a significant opportunity for growth and relative stability in our Engine business.
So, we will continue to invest in new technologies for a long time to come.
Sales of Aerospace and Defense were down 3% in fourth quarter driven by soft sales of products for commercial helicopters.
The decline was partially offset by a strong increase in sales for ground defense vehicles but some of the growth is timing-related as key distributors build inventory in the quarter.
I also want to update you on a change to our strategic portfolio classification.
Beginning in fiscal '21, we are recategorizing the defense business to critical core from mature.
Our mature businesses are committed to generating cash that allows for investment elsewhere while critical core businesses are geared toward driving share gains in existing markets with new technology, services and relationships.
The Defense business has won new programs with our robust engineering capabilities and we expect these wins will deliver solid returns over a long time horizon.
Turning to our Industrial segment, fourth quarter sales were down 15% driven in large part by the Dust Collection business within Industrial Filtration Solutions or IFS.
Sales of new dust collectors and replacement parts were down as customers continue to defer investment and reduce output.
The quote-to-order cycle remains elongated with large projects being put on hold while smaller must-do projects tend to move forward.
At the same time, our value proposition still resonates.
Fourth quarter sales of our Downflo Evolution dust collection systems were up in the low teens and the sales of those replacement parts grew more than 30%.
The Downflo family of products is only about 15% of total dust collection sales today, but it has grown rapidly as customers appreciate the space and energy savings it offers and we value the ability to retain the aftermarket.
We are also building the dust collection business through our e-commerce platform shop.
We turned on the ability to take guest orders earlier this year and we are encouraged by the results.
While incremental dollars are still small, we have seen a significant number of new dust collection customers.
With our robust sales and delivery model, we believe the simplicity of our e-commerce platform gives customers another reason to choose Donaldson.
Fourth quarter sales of Process Filtration were down in the low-single digits after an increase of more than 10% last year.
The decline was driven by new equipment while replacement parts were about flat with the prior year.
We continue to make progress penetrating the highly valuable food and beverage industry.
We position ourselves as an engaged partner and we market our ability to quickly fulfill orders with a product that can help improve efficiency in our customer's processes.
The pandemic gave us the opportunity to prove this value proposition to our customers in the food and beverage industry and our Process Filtration team delivered.
We remain very excited about this market, so we will continue to invest in growing the sales force and adding new tools to drive this profitable business.
Sales of Special Applications were down 10% in fourth quarter.
Disk Drive was down from the prior year after having a significant increase in third quarter while the slowdown in the automotive market resulted in lower sales of Venting Solutions.
Fourth quarter sales in Gas Turbine Systems or GTS were up 6% due primarily to strength in small turbines.
Once again the GTS team delivered another profit increase in terms of both dollars and rates.
As you know, we shifted the GTS go-to-market strategy four years ago.
We determined that the best path forward was to focus on replacement parts and small turbines while being highly selective in deciding which large turbine projects we pursue.
The GTS team has done an incredible job executing their strategy and we see it in the results.
In the past quarter we also chose to consolidate our joint venture in Saudi Arabia into our company.
Once again, we are focused on rightsizing and streamlining GTS to enhance our profitability.
Based on what the GTS team has delivered and the opportunities in front of us, we are reclassifying GTS as a mature business in our portfolio.
The GTS team has transitioned from fixing the business to driving profitability and we are on solid footing today.
The success in GTS is not an isolated incident.
Our company is filled with great people working together to deliver results and create value for all our stakeholders.
That's why I'm comfortable and confident in our future.
Before turning the call to Scott, I want to briefly touch on fiscal 2021.
We're not sure how long the pandemic will last nor are we sure about its ultimate impact on our business.
Given those uncertainties, we will remain focused on what we control, prioritizing the health and safety of our employees, fulfilling our customer commitments, pursuing market share and growth opportunities around the world, executing margin enhancement initiatives and maintaining a balanced approach to expense management, which includes making targeted investments to advance our strategic priorities.
Scott will share some more fiscal '21 details.
Like most companies, we had to quickly adjust to a new way of working over the past six months, and our employees did an excellent job at that period.
We increased our level of collaboration, we deepened our relationships with customers and suppliers, and we performed in critical businesses around the world with minimal disruption.
Overall, I'm very impressed by what our team accomplished.
As we turn to fiscal '21, we have a solid foundation.
But the markets are not yet on firm footing.
Given the wide range of possible outcomes, including the timing and shape of the inevitable recovery, we are not issuing detailed guidance at this time.
We do however want to provide some of our 2021 planning assumptions.
I'll cover those later in the call, but first I'll share some thoughts on fiscal '20 results.
Decremental margin was a notable highlight for us.
We delivered 20% in the fourth quarter and 18% for the full year.
Those results are stronger than our historic averages.
So let me walk through some of the details.
I'll start with operating expenses, which declined 10% to $125 million in the fourth quarter, that's flat sequentially, and it's our lowest fourth quarter level in four years.
Discretionary expenses were down significantly, due in part to pandemic-related travel restrictions, and we maintained our investments in strategic growth businesses like Process Filtration, Dust Collection and Connected Solutions.
We will continue to focus on balancing expense [Indecipherable] investments, and we are pleased with the performance in the fourth quarter.
We are also pleased with our gross margin performance.
Fourth quarter gross margin was up 20 basis points in the prior year, and our full year rate was up 50 basis points despite headwinds in lower sales and higher depreciation related to our capacity expansion projects.
As a side note, many of these projects are now completed.
That's why our capital expenditures in fiscal '21 are planned well below the $122 million we invested last year.
Our focus has now shifted to the optimization opportunities enabled by these investments.
We plan to lower our cost structure while maintaining or improving service levels.
While benefits from these initiatives will ramp up over time our list of optimization projects give me confidence that we can deliver strong returns with these new assets.
Lower raw material costs are helping us offset the loss of leverage, impact on gross margin.
We have seen favorability in market prices for steel, media and petroleum-based products and our procurement team is driving incremental savings as they strengthen our supplier network while improving terms.
I also want to touch on pricing, while it has been a major contributor to the year-over-year gross margin increase it hasn't been a headwind.
We have more latitude to drive pricing in many of our replacement parts businesses and teams like those in the independent channel of Engine Aftermarket have done an excellent job consistently executing our pricing strategy.
It makes a big difference especially in this economic environment.
A favorable mix of sales is also making a difference to gross margin.
In the fourth quarter and for most of the year we have realized mixed benefits as replacement parts make up a greater share of total sales.
To a certain extent these mixed benefits are by design.
We invest in technology to win first-fit programs that drive aftermarket retention.
As we move through an economic cycle, our strong base of recurring revenue creates some relative stability and provide some gross margin inflation [Phonetic].
Replacement parts now account for 64% of total sales giving us confidence in the durability of our business model.
Before moving further down the P&L, I want to quickly talk about segment profit margins.
The story is Engine is consistent with the consolidated results.
Mix benefits and lower raw material costs after the loss of leverage results in a year-over-year margin increase of 20 basis points in the fourth quarter.
Within the Industrial segment, the loss of leverage was magnified by continued investments in our strategic growth businesses.
We expect Industrial margins will bounce back helping us deliver our goal of mixing the company's margins up over time.
Moving back to the P&L, Other income was $2.7 million in the fourth quarter compared with an expense of $0.5 million in the prior year, and improved performance in our joint ventures was a benefit in fiscal '20 and the fourth quarter expense in the prior year reflects a charge related to our global cash optimization initiatives.
These initiatives, which allowed us to streamline our legal and fee structure were enabled by tax reform.
We excluded the charge of last year's calculation of adjusted earnings per share and we also excluded a non-recurring charge related to tax reform legislation.
With that in mind, it's best to compare the reported fourth quarter tax rate of 21.1% with the prior year's adjusted tax rate of 21.4%.
While the delta between rates is not significant, I'll point out that current and prior year rates were well below what we would typically expect.
The fourth quarter 2020 rate benefit from a favorable mix of earnings across jurisdictions while the 2019 adjusted rate included a non-recurring benefit related to the favorable settlement of an audit.
As we think about fiscal '21, we see our full year tax rate going up in 2020 to be more in line with our long-term estimate of 24% to 27%.
In terms of our financial position, we feel good about where we ended the year.
Our leverage ratio was 0.9 times net-debt-to-EBITDA and in the fourth quarter we paid off a term loan for $50 million and we reduced borrowings in our revolver by $110 million.
We proactively reduce from our revolver in the early days of the pandemic as a way to bolster our liquidity out of an abundance of caution.
While markets still are uncertain, we are confident in our strong position and no longer feel the need for that extra layer of security.
Receivables were down meaningfully from the prior year, which is what we expect in this environment.
Inventory was also down.
So we plan further improvements this year as we focus on leveling with demand.
Our fourth quarter and full year 2020 cash conversion rates increased meaningfully to 165% and 103% respectively and we plan to exceed 100% again this year.
Our fiscal '21 assumptions for sales are directionally consistent with recent trends.
Sales are expected to vary widely by geography and market and sales of our replacement parts and products for new markets should continue to outperform the company average.
Additionally, we expect sales during the first half of '21 will be down versus the prior year due to the timing of when the pandemic began.
We are seeing these sales trends play out in August, which we expect will be down about 10% from the prior year.
Total sales for the month will also be down from July, but that's typical seasonality.
Regional trends in August match what we saw in the fourth quarter.
Sales in the APAC region are performing the best versus the prior led by growth in China.
Europe is faring better due in part to currency while the U.S. and Latin America remain under the most pressure.
And as expected we have pockets of relative strength from some of our more stable businesses including Engine Aftermarket and Process Filtration, which are both up in Europe while new equipment remains under more pressure.
In terms of fiscal '21 gross margin, benefits from product mix and lower raw material costs would lessen as we compare against strong tailwinds in the prior year.
At the same time, we will execute our optimization projects to position ourselves for long-term increases in gross margin.
Our fiscal '21 operating expenses will also have some puts and takes.
Resetting our annual incentive compensation plan generates a headwind of about $13 million and we are planning to make further investments in our strategic growth businesses and technology development.
We plan to substantially offset these increases by controlling expenses, which will likely see some benefits from pandemic-related restrictions and comparing against a higher level spend in the first half of the prior year.
Should we see an opportunity that makes sense, we will also explore additional optimization initiatives.
Finally, we plan to repurchase at least 1% of outstanding shares in fiscal '21, which would offset any dilution from stock-based compensation.
Any repurchases beyond that level would be governed by macroeconomic conditions, our investment opportunities and our balance sheet metrics.
Should conditions improve, it is not unreasonable to assume this goal above the 1% in fiscal '21.
At a high level, our objectives for the New Year are consistent with our long-term strategic agenda.
We will pursue growth and market share opportunities in our Advance & Accelerate portfolio of businesses, drive optimization initiatives that will strengthen gross margins, control discretionary expenses while making targeted investments and protect our strong financial position to discipline capital deployment and working capital management.
These are the actions we can control and I am confident in our ability to deliver in 2021.
Before turning the call back to Tod, I want to share some news.
After five years as our Investor Relations Director, Brad is going to be moving to Belgium to take over as Finance Director of our Europe-Middle East region.
COVID makes the timing a little uncertain, but I know he's committed to facilitate a smooth transition when we find his replacement.
You have done an excellent job and congratulations on the exciting new adventure with Donaldson.
You'll clearly be missed in this role, but we all know it's a great opportunity, so we're very excited for you.
I'm confident in our ability to navigate the complexities of the current environment and I'm equally confident in our ability to create long-term value by meeting the evolving needs of our customers.
We have strong relationships with our customers and they range from some of the world's biggest brands to small business owners.
Our goal is to solve our customers' complicated filtration challenges in a way that allows them to deliver great products efficiently and I think we're doing well against that objective.
Let me share some examples of what I mean.
In the Engine segment, our Filter Minder team released a wireless monitoring system that helps fleet managers optimize their maintenance schedules for On-Road and Off-Road equipment.
Our system integrates into the existing telematics and fleet management infrastructure making it easy for our customers to adopt this valuable technology.
We're also expanding connecting solutions into the dust collection market with our IQ offering.
This service provides customers with real-time monitoring of their equipment performance helping them save energy costs and reduce unplanned downtime.
Once again, we made it easy to adopt, our IQ set up can be used on any brand of dust collector and the retrofit process is very simple.
Our e-commerce platform is another tool for helping customers operate more efficiently.
donaldson.com has a global reach and offers features like real-time availability and personalization functionality making it easy for customers to find what they need and place new or repeat orders.
As always, new technology is a critical part of our success formula and we continue to expand our technologies and solutions to drive growth.
Many of our Engine customers are looking to improve fuel economy and reduce emissions and our products can help them achieve their goals.
We have shown that consistent use of our PowerCore products can help end-users improve fuel economy and it provides value to our OEM customers as they can retain more of their parts business.
We still see many opportunities with diesel engines and we also see a growing opportunity with alternative powertrains like hybrid solutions and hydrogen fuel cells.
Hybrid platforms leverage the portfolio of air and liquid solutions we have today so we have good opportunity with that equipment.
The needs are different for fuel cells and we have a specialized air filtration system that is specifically designed to meet those needs.
In addition to our air systems, we also have venting products and specialized membranes for fuel cells.
With our technical capabilities, we are well-positioned to participate in this growing market.
We are also pursuing non-Engine markets like food and beverage.
Sales of process filtration were about $15 million in fiscal '20, that's an increase of more than 60% over the past three years.
We have continued investing in new technologies and we are building capabilities that will facilitate our future expansion into life sciences.
Our long-term success is dependent on our team, so we're committed to making our company a great place to work.
We have a strong culture and we place a high value on integrity, commitment, respect and innovation.
We also have a continuous improvement mindset, so we've recently created a diversity, equity and inclusion council that will help identify and implement practices to make us a stronger company.
We are also on a journey with our sustainability practices.
We began developing our global sustainability strategy last year.
We have engaged our stakeholders and we have identified a long list of projects while reducing greenhouse gas emission, energy consumption and wastewater.
Implementing and maintaining sustainable practices is one more way we drive toward our purpose of advancing filtration for a cleaner world.
I'm proud of what we accomplished as One Donaldson and I look forward to another successful new year. | fiscal 2021 market conditions expected to be uneven.
expects to repurchase at least 1 percent of its outstanding shares in fiscal 2021.
sales in the first half of fiscal 2021 will likely experience year-over-year declines.
full-year sales trends are expected to vary widely by geography and market. |
During today's call we will reference non-GAAP metrics.
We had an excellent finish to a strong year.
We achieved another quarterly sales record and earnings per share was up 32% in fourth quarter, resulting in full year sales and earnings per share that were both near the high end of our guidance ranges.
As we look ahead, conditions will likely become more challenging, particularly in the first half of fiscal '22.
We are already facing supply chain disruptions primarily due to labor shortages in the Americas and raw materials inflation puts significant pressure on gross margin.
While the magnitude of these issues are greater than what we have experienced in recent years, our playbook for addressing them is time-tested.
We are pursuing growth opportunities in our Advance and Accelerate businesses, we are raising prices to mitigate the impact of cost increases and we are leveraging our strong relationships to remediate and overcome the current supply chain challenges.
When we roll these things together, we feel good about where we land.
Our plan reflects continued progress on our strategic initiatives and we expect to deliver record levels of sales and record profit in fiscal '22.
We will share more details about that later in the call.
So I will now provide some context on fourth quarter sales.
Total sales were $773 million, which is up 25% from last year as we compare it against the toughest patch from the pandemic.
If you normalize the trend with a two-year stack comparison, fourth quarter is right in line with what we had in the third quarter, suggesting we are maintaining sales momentum.
In Engine, total sales were up 28% and the increase was again led by our first-fit businesses.
Fourth quarter sales in Off-Road were up 58%, including about 15 points of growth from Exhaust and Emissions.
We won a significant amount of new business over the past few years in anticipation of a new emission standard in Europe.
These programs were slower to launch due in part to COVID and we are now seeing a dramatic ramp-up in demand.
It is worth noting, these sales create mix pressure for us.
We are enhancing the Exhaust and Emissions cost structure to reduce the impact on margin, but based on the nature of this business that will only get us part of the way.
Staying with Off-Road, we continue to have strong growth in our innovative razor to sell razor blade products.
These products make up about one-third of Off-Road filter sales and they grew substantially faster than their non-proprietary counterparts in fourth quarter.
This trend continues to reinforce that our strategy is working.
We develop value-added products that drive aftermarket retention for our customers and us.
We are experiencing similar trends in On-Road.
Fourth quarter sales were up 36% from prior year and innovative products, which make up nearly half the business, grew twice as fast as the non-proprietary counterparts.
In the US, fourth quarter On-Road sales continued to benefit from higher Class 8 truck production and there was also an impact from a strategic choice we made.
During the quarter, we stopped selling some directed-buy equipment to a large OEM customer.
If we adjust our current and prior-year sales to exclude these products, the like-for-like growth in the US is about 35% and we are left with a more profitable business that allows us to focus on what we do best, technology-led filtration.
I also want to call out Latin America where fourth-quarter sales of On-Road tripled versus the year ago.
The growth was from large OEM customers in Brazil.
And although it is exciting to see the sharp growth, I want to note that is on a very small base.
In Engine aftermarket sales were up almost 26%.
In fact, fourth quarter sales of $376 million were the highest ever, beating the record we set last quarter.
Supplier constraints are one of the more challenging parts of the aftermarket business right now and those issues seem to be more severe in the Americas.
Despite that pressure, independent channel sales grew in the high 20% range and fourth-quarter sales in the aftermarket OE channel were up in the low 20% range.
Innovative products remain a strong contributor to growth in aftermarket.
These razor blade products accounted for more than a quarter of total aftermarket sales and they grew in the mid 20% range during fourth quarter.
I would be remiss if I did not mention PowerCore.
We launched the brand almost 20 years ago and sales of these products have grown every year since at least 2010.
We finished fiscal '21 at another record and we anticipate a long runway for continued growth.
We are compounding aftermarket growth with share gains in less-developed markets like Latin America, Russia and South Africa.
These were some of our fastest-growing markets and we believe our strong distribution and comprehensive product offering position us for long-term success in these regions.
In Aerospace and Defense fourth quarter sales declined 8%.
Commercial aerospace remains under pressure from the pandemic, particularly in Europe.
That decrease was partially offset by higher sales of ground defense equipment.
As always Aerospace and Defense sales can be lumpy quarter to quarter, but we are optimistic about returning to growth in the new fiscal year.
Before turning to the Industrial segment, I want to make a point about our Engine business in China.
One year ago, Engine sales in China were up almost 25%, while the rest of the region suffered through the pandemic.
Fourth quarter Engine sales were up again this year by about 2%.
The strategy in China continues to do well as we win new programs with local manufacturers, but it's the one place in the world where we face the tough comparison from last year, so I wanted to point that out.
The Industrial segment also had a solid quarter with total sales growing 19.5%.
Sales in Industrial Filtration Solutions, or IFS, were up more than 23% in fourth quarter, reflecting strong growth in new equipment and replacement parts.
New equipment makes up nearly half of IFS sales and these products grew in the mid-teens last quarter, which builds on the recovery that began six months ago.
There is still a cautious tone in the market, but we see some signs of improvement and our order intake trends add to our confidence.
The replacement parts of dust collection are a more optimistic story with fourth quarter sales up nearly 40%.
Activity continues to accelerate factories and we continue to gain share with our proprietary dust collection products.
Another growth engine within IFs is Process Filtration, which serves the food and beverage market.
Fourth quarter sales were up almost 20%, reflecting growth in new equipment and replacement parts.
The market opportunity for Process Filtration is fantastic and new high-growth areas like plant-based food and beverages only increase our opportunities.
Consequently, we will continue to expand the team and look for another year of strong growth in fiscal '22.
Sales of Special Applications grew 27% in fourth quarter with strong contributions from both Disk Drive and Venting Solutions.
Disk Drive benefited from timing and Venting Solutions continued to make ground with automotive customers.
Fourth quarter sales of venting products grew 50% with almost two-thirds of the increase coming from Asia-Pacific.
With our high-tech powertrain and battery vents, we are winning new programs and expanding with existing customers across the world, resulting in another year of growth for Venting Solutions.
Fourth quarter sales of Gas Turbine Systems, or GTS, were down 11%.
The decline came from the US, which is typically our largest GTS market as sales to small turbines were under pressure.
We continue to operate this business with discipline.
So our focus in GTS remains squarely on growing replacement parts, while being selective in which new turbine projects we pursue.
Overall, the theme of discipline comes into everything we do and that gave us a significant advantage during the pandemic.
We achieved record sales in each of the last two quarters and our full year earnings per share is an all-time high.
We did that work safely.
We focused on our people.
We implemented protocols that made sense based on local conditions and our employees acted as one team to deliver outstanding results.
We plan to follow that up with another year of record sales and record profit in fiscal '22 and I'm excited about what we can accomplish.
Every way you look at it, fiscal '21 was a solid year.
We generated strong sales despite the pandemic hanging over us and margin growth contributed to record full year EPS.
What was more impressive was how our people operated.
The level of teamwork was unbelievable and I am inspired by the commitment they showed.
Before getting to the details of the new year, let me share some 2021 highlights.
Fourth quarter sales grew 25%, operating income was up 36% and earnings per share of $0.66 was 32% above the prior year.
As I know you've heard me say, we are committed to increasing levels of profitability on increasing sales and we did that in 2021.
I want to add a short disclaimer that commitment is over time and it won't be easy to achieve in the first half of fiscal '22.
I'll touch on that in a few minutes.
So back to the fourth quarter recap.
Fourth quarter operating margin was 14.5%, an increase of 110 basis points from the prior year.
Most of the increase was from gross margin, which grew 70 basis points to 34.4%.
Strong volume leverage and initial pricing benefits more than offset the impact from higher raw material costs and mix headwinds.
The impact from raw materials increased throughout the quarter, as inflation has begun coming through in full force.
We were in front of this impact of price increases in certain businesses, while increases in areas with supply agreements that had index clauses tend to lag the market.
That's true when prices go up or down so it works out over time.
Leverage and pricing also accounted for higher fourth quarter gross margin in both segments.
However, challenges from inflation and an unfavorable mix will likely be the themes in fiscal '22.
Operating expenses at a rate of sales was favorable at 40 basis points driven primarily by volume leverage.
That was true in both segments with industrial gaining a lot of improvement from leverage.
The strong volume leverage was partially offset by higher incentive compensation due in part to a soft comparison last year and incremental investments in our strategic growth priorities, which will continue in fiscal '22.
I also want to touch on corporate and unallocated line in our segment reporting.
The fourth quarter increase of almost $10 million reflects a couple of factors [Indecipherable] expense, which includes additional incentive compensation and higher benefit costs and a much easier comparison in the prior year.
Moving down the P&L, fourth quarter other income was $5 million.
While the amount itself is not material, I bring it up because we ended the year above our guidance.
So in case there are questions, the favorability reflects a handful of non-recurring items including a tax settlement in Brazil and lower loss on foreign exchange.
In terms of our other financial metrics, fourth quarter was in line with expectations.
Therefore, our full year interest expense and tax rate were both consistent with guidance.
Fiscal '21 capital expenditures were also in line with our forecast and way down from 2020 as we took a planned pause following the investment cycle over the past three years.
We directed about $0.25 billion to shareholders in fiscal '21.
We repurchased 1.9% of our outstanding shares for $142 million and we paid dividend of $107 million, including the 5% increase we announced earlier this year.
We are on pace for more than 25 years in a row of annual dividend increases, which is a trend we are extremely proud of.
I also want to highlight the fiscal '21 adjusted cash conversion of 116%.
Our DSO and DPO metrics were both favorable versus the prior year.
Inventory churns improved and capex was down.
While strong net income obviously helped our cash conversion, I am pleased with the way we managed our balance sheet.
We continue to have the flexibility we need to invest in our strategic priorities, including organic and inorganic growth.
That's the setup for fiscal '22.
We begin the year on solid ground and we are well positioned to deliver our objectives.
Based on that we use wide ranges for total and segment-level guidance to reflect the realities.
Of course, we will tighten things up as the year progresses.
With that, fiscal '22 sales are expected to grow between 5% and 10% with currency translation being negligible.
Engine is also planned to up between 5% and 10% and Industrial is a bit higher at 6% to 11%.
Within Engine, sales of our first-fit businesses are expected to remain healthy, particularly in the first half of the year.
Fiscal '22 On-Road sales are planned up in the low single digits, while Off-Road sales are projected up in the low double digits.
The Off-Road first-fit growth also includes benefits from new programs in Exhaust and Emissions, which gives us top line leverage and gross margin mix headwinds.
For Engine aftermarket, we expect full year sales growth in the mid-single digits with equipment utilization being complemented by share gains from our innovative products and under-penetrated markets.
We anticipate low double-digit growth in Aerospace and Defense due in large part to comparing against the challenges of fiscal '21.
Sales of Industrial Filtration Solutions are firm [Phonetic] up in the low double digit range, reflecting a few things.
We expect a rebound in sales of new equipment, particularly for dust collection and continued growth in dust collection replacement parts.
We also expect another year of strong growth in process filtration, which reflects benefits from further investments to expand the team.
Fiscal '22 sales in GTS are planned up in the high single digits, while sales of Special Applications are planned down in the low single digits.
Within Special Applications, we expect lower sales of disk drive filters to be partially offset by growth in Venting Solutions.
In terms of operating margin, we expect a full year rate between 14.1% and 14.7%.
This range implies an increase of 10 basis points to 70 basis points from the fiscal '21 adjusted operating margin and we expect the improvement to come from expense leverage.
Gross margin is expected to be flat to slightly down from the prior year with raw materials being the single biggest headwind.
At today's prices, we expect to pay 8% to 10% more for our raw materials this year and that translates to a gross margin impact of nearly three full points in fiscal '22 margin.
There is still a lot of variability and where prices have come down some, it is only a modest change relatively to the massive run-up over the past few months.
So we do not yet have signs of meaningful release.
And one final dynamic to keep in mind is that we had raw materials favorability during the first half of fiscal '21.
Consequently, we expect substantial pressure on our first-half gross margin and then moderating pressure as the timing of our price increases roll in and catch up to the current market pricing.
Importantly, we have already taken action to limit the impact.
We implemented several off cycle pricing actions over the past few months and we have more plan for this fiscal year, but those will take time to roll in.
As benefits from pricing compound and costs stabilize, we anticipate gross margin in the second half of fiscal '22 should be up versus '21.
Restructuring action we initiated in fiscal '21 will help reduce the impact a bit.
We continue to expect annualized savings of about $8 million, with about $5 million to $6 million landing in fiscal '22.
A large portion of these savings benefit operating expense and there are a handful of other puts and takes we considered in our operating expense budget.
For example, we anticipate savings from incentive compensation as we reset our annual bonus plans and we expect to increase travel and expense as the pandemic-related restrictions subside and we get back to visiting customers.
We are also making incremental investments in our Advance and Accelerate businesses, including another 10% increase in research and development spending.
Altogether, we expect total operating expenses will be up from the prior year, but to a lesser extent than sales, resulting in net leverage that drives year-over-year growth in operating margin.
In terms of other key financial metrics, fiscal '22 interest expense is planned to be about $14 million, other income is projected between $7 million and $11 million and the tax rate is expected between 24% and 26%.
Capital expenditures are planned up in fiscal '22 with a full-year estimate of $100 million to $120 million.
We are expanding PowerCore capacity, primarily in North America and [Indecipherable] with our new programs and cost reduction initiatives.
At the same time, we will further optimize and leverage the investments we made a few years ago with the goal of growing ROI again this year.
Additionally, we expect to repurchase about 2% of our shares in fiscal '22, keeping with our multi-decade trend and reaffirming our commitment to shareholders.
Finally, we will maintain a strong balance sheet to allow us to act on any acquisition opportunities in the life sciences space.
Based on these forecasts, we plan for a new earnings per share record between $2.50 and $2.66 and implying an increase from last year's adjusted earnings per share of 8% to 15%.
To help with modeling, I want to also offer a few comments about the anticipated cadence of results in fiscal '22.
It's actually pretty straightforward.
The first half has an easier sales comparison, meaning we plan for more of our full year increase to come from the first half than the second.
The reverse is true for operating margin.
As I said a moment ago, gross margin will be under substantial pressure in the first half.
While we pursue expense leverage all year, it won't be enough in the first half.
Then as things normalize and pricing takes hold, operating margin should be up year-over-year in the second half.
Overall, our Company has a long history of solid expense management and we have responsible leaders across the world that will invest where appropriate.
What we need to do is achieve pricing and that takes a global coordinated response.
We talked about it a lot during our planning process and I know every level of the organization is committed to protecting gross margin and delivering another year of strong profit improvement.
I think we are in an excellent position to deliver on our strategic and financial goals in fiscal '22 due to the dedicated employees around the world.
While there is a lot to consider in our fiscal '22 plan, our priorities are straightforward, gain share and outperform our markets, protect gross margin, deliver best-in-class levels of service and continue to invest in our team and Company culture.
Let me share a few of the ways we are attacking these priorities.
The best tactic for growing our share is continued investment in our Advance and Accelerate portfolio.
We are adding staff and developing tools to help these teams deliver strong growth again in fiscal '22.
Areas like Process Filtration, dust collection replacement parts and Engine Aftermarket are all positioned to have another very successful year.
We will also drive above-market growth by capitalizing on the market recovery related to new equipment.
We seek opportunities to plan first-fit seeds in both segments from Engine products to new industrial equipment and we must take advantage of this moment to capture future aftermarket growth.
We have a strong value proposition for every customer and this year we have aggressive plans to get back into the field and drive selling.
Additionally, we remain committed to growth through acquisitions.
We continue to work a robust pipeline of potential targets with the primary focus on expanding into life sciences and supporting our Industrial segment growth.
While there is no update to share today, I'm confident that our strong balance sheet, laser focus and disciplined adherence to our long-term strategy gives us an excellent opportunity for success.
Another priority of fiscal '22 is protecting our gross margin.
At our Investor Day two years ago, we talked about our plans to improve gross margin.
Since then we have executed.
Compared with fiscal '19, fiscal '21 sales are about flat and gross margin is up 90 basis points.
We acted with speed and fiscal '22 will be no different.
We proactively took price increases when we saw early signs of inflation and we planned for additional increases to catch up with the massive acceleration we saw in raw material costs.
Given the magnitude of the incremental headwind, especially in the first half of fiscal '22, we will stay vigilant and continue to pursue margin-accretive price and cost reduction opportunities.
We are also closely monitoring our supply chain to improve the situation.
With labor shortages now superseding raw materials availability as a top concern, our global operations team is having to adapt quickly.
With our global footprint and strong relationships with customers and suppliers, I'm confident we will navigate the situation and deliver the best-in-class service Donaldson is known for.
Finally, we will continue to invest in our team as part of our multi-year journey to further strengthen our human resources processes.
This year our focus is on global alignment around career, planning and development.
We are also expanding our diversity, equity and inclusion efforts, which will be part of how we continue to build out and strengthen our ESG program.
We turned 106 years old this year.
So we clearly value long-term thinking.
Our investments in supporting our team and embracing the positive changes in society are critical parts of how we will succeed in advancing filtration for a cleaner world.
I've been with the Company for 25 years and this team continues to find new ways to impress me. | q4 gaap earnings per share $0.66.
fiscal 2022 sales forecasted to increase between 5% and 10%; earnings per share projected at $2.50 to $2.66. |
With me on the call are Dr. Jeffrey Graves, our President and Chief Executive Officer; Jagtar Narula, Chief Financial Officer; and Andrew Johnson, Executive Vice President and Chief Legal Officer.
Actual results may differ materially.
Nearly one-year ago today, I joined 3D Systems as Chief Executive Officer.
My reasons for joining were very simple.
First, I believe that this industry was beginning to enter an exciting growth phase, driven by both maturing of the technologies as well as receptivity of the customer base to industrial scale additive manufacturing.
Second, I saw the potential for 3D Systems to be a leader in the industry, one that could not only be at the forefront of this industrial renaissance but instrumental in making it happen.
As excited as I was a year ago when I arrived, those feelings are dwarfed by the enthusiasm I feel today.
Rather than opening the call with a recap of our financial performance as I usually do, today I'm simply going to let our Q1 results speak for themselves, with Jagtar providing more color for you in a few moments.
Having taken all these responsibilities last summer, they have performed magnificently, making significant changes in the organization and in the underlying processes that we follow and delivering for our customers each day.
And doing so while facing unprecedented headwinds from the ongoing COVID crisis, the impact of which is still being felt today.
So, given that this is my one-year anniversary, I think it's an appropriate time to ask how did we get here.
And much more importantly, how will we sustain this momentum going forward?
Our journey started last summer by first establishing a clear strategic purpose for the company, which is to be leaders in enabling additive manufacturing solutions for applications in growing markets, the demand high reliability products.
We then laid out a simple four-stage plan, which would allow us to live into this purpose.
They began with reorganization of the company into two business units, Healthcare and Industrial Solutions within restructured operations to gain efficiencies and began the process of divesting non-core assets.
Then, as these elements gained momentum, we systematically increased our focus on investing for accelerated growth and profitability.
By focusing intensely on execution of our plan, by the time we entered the New Year, we have returned to growth.
We were profitable, we were generating cash from operations and we're in a net cash position on the balance sheet.
And then, the real fun began.
As we began moving through Q1, the US economy began to reopen, our new products and applications gained momentum and our organic growth accelerated markedly.
And our profitability and cash from operations increased dramatically as we leveraged our streamline operations.
Based upon this progress and our long-term outlook, we've set a goal of sustained double-digit organic revenue growth, 50% gross margins and 20% adjusted EBITDA margins, all of which we think are attainable in the years ahead.
But in an increasingly competitive industry, why should you believe in our future success?
Well, in addition to delivering on our commitments, which I think we demonstrated again this quarter, what I can tell you is that there are three things that inspire my confidence in our future.
And I believe they should inspire yours as well.
First, we clearly by far have the broadest technology portfolio in the industry.
It includes a full range of metal and polymer printing systems, industry-leading software platforms and an outstanding portfolio of materials for both human and industrial system applications.
These capabilities, which are so vital to our customer's success, distinguish us from virtually all of our competitors.
And with our ongoing R&D investments, they're stronger and better than ever.
Second, I'm convinced that we have the brightest and most creative application engineers in the industry.
This group of very talented people provide exceptional value to our customers as they work hand-in-hand to introduce advanced systems and components that capitalize on additive manufacturing.
These applications range from unique medical devices and personalized implants that are so vital to improving patient outcomes in healthcare to unique components that enable the newest generation of commercial rockets for space travel, a revolutionary equipment for the manufacture of semiconductor chips, just to name a few.
And that list of new applications is growing rapidly every day.
Third, as one of the largest and most experienced companies in the industry, we have the scale and the infrastructure to not only support our customer's needs when they initially implement additive manufacturing, but also sustain them over the lifetime of their equipment by providing key services and consumables that are vital to their ongoing business success.
How do we know this formula works?
Well, as always, the proof is in the numbers.
Today, our technologies are used to print approximately 0.75 million production components per day 365 days a year.
That equates to over 250 million components per year and climbing.
This experience is invaluable as we invest more than ever into our core technologies and drive relentlessly to enable our customer's success.
In short, at 3D Systems, our goal is to inspire your confidence in us each day, first by delivering on our near-term commitments on growth and profitability, as demonstrated in our numbers today, while setting aggressive but realistic targets for the future.
As an investor, you need not invest based solely on promises about next year's growth through the one thereafter.
The market for industrial scale additive manufacturing is here today.
It's real and it's growing at an exciting rate, particularly as the headwinds from COVID recede.
So, as I said at the outset of the call, I have never been more excited about our future than I am today.
Now before I hand off to Jagtar to talk about the quarter, let me spend just a few minutes talking about the investments we're making for growth, some of which were described in our announcements last week.
First, as you can see in our numbers for Q1, we're seeing rising demand for new applications, particularly in our Healthcare business.
To meet this demand forecast, we're expanding our Denver, Colorado location by roughly 50%.
For more than a decade, this operation has supported a range of customers from large industry-leading customers to innovative start-ups and delivering a diverse portfolio of groundbreaking precision healthcare applications and medical technologies.
From this location, we have supported more than 100 CE marked and FDA-cleared products.
We've collaborated with surgeons to plan and guide more than 140,000 patient-specific procedures.
And we've manufactured over 2 million medical device implants in our advanced manufacturing group.
Through this next phase of investment, which includes putting in place some of our most advanced metal and polymer printing systems and software tools, we'll be able to reduce time to market for new medical applications, continue expanding our product offerings and better support the holistic needs of our growing healthcare customer base.
The scale we have now obtained in our Healthcare business in Denver provides a marvelous platform for growth, allowing us to maintain our industry-leading solution offerings that target patient-specific applications in growing markets like cranial maxillofacial surgical solutions and an expanding range of orthopedic surgical aids and implants.
In addition to supporting healthcare-specific growth, our Denver investment will expand the overall capabilities and capacity of our Application Innovation Group.
As I discussed earlier, this group of application engineers is in the central element of our solutions-oriented approach to customers.
With deep expertise in hardware, software and materials, this team of engineers helps customers not only demonstrate feasibility of new high value component solutions, but also design the overall workflows necessary to validate the economics of the process, gain regulatory approvals and then moving to full-scale production.
With expanded customer-facing engineering resources armed with a broad array of technologies and supporting infrastructure, we are well positioned to continue the strong momentum and expanded application development and early stage manufacturing that our customers are seeking.
In addition to our Colorado investment plans, last week we also announced the acquisition of two technology companies, Allevi and Additive Works.
These acquisitions have an important role to play in meeting our current and future growth objectives.
Let me start with the Additive Works acquisition.
They are a small but extremely talented group of German software engineers and physicists that have developed unique software that simulates the key steps of the additive manufacturing workflow from setup during the component design phase through post-print processing.
Their sophisticated physics-based algorithms are extremely fast and effective in optimizing the part orientation, the support structure and thermal conditions during printing.
The result has dramatically reduced setup times and post processing requirements, in conjunction with improved product performance yield and yield.
Historically, much of this optimization work was done empirically and requiring highly skilled process engineers and operators to optimize the process for each new component.
The Additive Works simulation software reduces or even eliminates the need for this intensive effort, allowing for a much more rapid introduction of new components and improved economics, performance and reliability of the resulting product.
The Additive Works software, sold under the name Amphyon, interfaces seamlessly with leading CAD systems as well as our 3DXpert software platform and other major print platforms, which we will continue to support.
Integrating Additive Works products and expertise into 3D Systems will further enhance our software portfolio and innovation capacity, driving accelerated adoption of additive manufacturing across the industrial and healthcare markets that we serve.
We expect the deal to close by the third quarter paced by normal German regulatory requirements.
Moving then to one of the areas that I'm increasingly excited about, the emerging field of regenerative medicine.
You may remember, on our last earnings call, we talked about the incredible progress our development team under Chuck Hull, working in close partnership with the wonderful folks in United Therapeutics, has made toward the printing of solid human organs.
While not yet a reality, the promise of this technology is truly extraordinary, offering the hope of meeting the needs for thousands of patients who are desperately waiting on the availability of new lungs, kidneys, livers, hearts and other organs.
Our commitment to this effort with United Therapeutics continues unabated.
As an outgrowth of this program, we also announced last quarter that given our strong technology foundation in this emerging field, we would expand our efforts pursuing additional applications for the human body such as printing of bones, arteries and soft tissue, just to name a few.
We've increased application support this year to pursue these partnerships and hoping the intermediate term to bring these extraordinary products to market.
In addition to these direct human applications, I'm very excited to announce a further expansion of our focus to include the rapidly emerging market for laboratory applications of bioprinting technology.
These laboratory applications are being driven by two major objectives; one is the study of regenerative medicine itself in a lab setting, which is increasingly of interest to researchers at major universities and renowned medical institutions around the world.
The other driver and one that we believe bring substantial growth opportunities for us is with pharmaceutical laboratories who wish to utilize the unique three-dimensional cellular structures produced by bioprinting to accelerate the development of new drugs and drug therapies, some of which may eventually be optimized to accommodate an individual's unique genetic framework.
In addition to drug development, bioprinting offers unique advantages in the development of cosmetics and other skincare treatments in that human interactions can be directly assessed using three-dimensional bioprinted human tissue constructs, instead of relying upon simulations or animal studies, which are often less effective and bring with them difficult social issues.
In short, bioprinting for laboratory studies offers the potential for better, faster and safer and more humane development pass for a wide range of human applications.
For all of these reasons, we're excited to expand our efforts to include these rapidly emerging laboratory applications, which we believe potentially represent a multi-billion-dollar market opportunity that will become available to us over the next several years.
In support of this effort to expand our regenerative medicine focus into the lab, we were very pleased last week to announce our acquisition of Allevi, a Philadelphia-based developer of bioprinting solutions comprising bioprinters, biomaterials, also known as bioinks, and specialized laboratory software.
Allevi has established a strong technology base, brand and distribution network for this rapidly emerging market with a presence today in over 380 medical and pharmaceutical laboratories in over 40 countries.
As a complete solutions provider, Allevi's business model aligns well with 3D Systems and positions us to leverage the technology we've developed for in-vivo applications as well as leveraging the overall scale of our Healthcare business to meet these emerging laboratory application needs.
When viewed in totality, with the Allevi acquisition completed last week, we're now well positioned across a broad market spectrum ranging from near-term laboratory applications, medium-term human applications and longer-term human solid organ applications in the exciting emerging field of regenerative medicine.
So, to bring this full circle, let me end by saying how very proud I am of our team's performance in the first quarter of the year as we continue to execute on our four-phase plan that we launched last summer.
More than ever, I believe that additive manufacturing will play a key role in transforming the way components can be designed and manufactured for critical applications ranging from complex space systems to the human body.
With our extensive portfolio of additive manufacturing systems, material science, software and domain expertise, 3D Systems is uniquely positioned to help our customers benefit from this transformation.
For the first quarter, we reported revenue of $146.1 million, an increase of 7.7% compared to the first quarter of 2020.
Our organic revenue growth, which excludes businesses divested in 2020 and 2021 was 16.6% in Q1 2021 versus Q1 2020.
We experienced strong product revenues across the portfolio, including printers, both plastics and metals, materials and software.
We believe this growth emphasizes the strategic nature of our portfolio breadth and validates our solution strategy.
We reported a GAAP income of $0.36 per share in the first quarter of 2021 compared to a GAAP loss of $0.17 in the first quarter of 2020.
Driving this improvement was a $32.9 million gain from the sale of the Cimatron and GibbsCAM software business as well as a tax benefit of $8.9 million as a result of the favorable ruling from the IRS regarding a FIN 48 reserve.
Turning to non-GAAP results.
We reported non-GAAP income of $0.17 per share in the first quarter of 2021 compared to a non-GAAP loss of $0.04 per share in the first quarter of 2020.
The exceptional non-GAAP result reflects our strong revenue growth combined with the restructuring and cost optimization activities that we have previously announced.
Now, we will discuss revenue by market.
Our Healthcare business had a strong quarter with revenue growing 38.7% year-over-year.
This growth was fueled by an increase in hardware and material sales in our dental business.
The large hardware volume, like we saw in Q1, may fluctuate on a quarterly basis, but drives the recurring higher margin material and services revenue, which is a focus of our long-term financial goals.
Excluding dental applications, revenue for medical applications grew by 9% as we continue to see increased demand for personalized health services and advanced manufacturing of medical devices.
We recently announced a planned expansion in Denver, Colorado that is intended in part to support the future growth of this business.
Revenue in our Industrial segment, when we exclude the businesses divested in 2020 and 2021, was up approximately 1% year-over-year as compared to year-over-year declines in prior periods.
The revenue trend turnaround in our Industrial segment was across our sub-segments such as jewelry and automotive with no single segment driving the results.
This is a reflection of global economies continuing to recover, albeit at an inconsistent pace from the pandemic-related shutdowns.
We expect this inconsistency to continue in 2021.
So while we see a path to full-year double-digit organic revenue growth in our core business, excluding businesses divested in 2020 and 2021, macroeconomic risks such as further COVID-19 impacts, inflation concerns and supply chain shortages in certain critical components like semiconductor chips, continue to create uncertainty.
Now, we turn to gross margin.
During the first quarter of 2021, we identified certain costs that have historically been shown as cost of products that actually relate to cost of services.
Our reported gross profit margins reflect an update to properly present these costs.
While this resulted in a small movement of cost between products and services, the change not affects our gross profit, bottom line results, consolidated balance sheets or statement of cash flow.
For Q1 2021, we reported gross profit margin of 44% in the first quarter of 2021 compared to 42.1% in the first quarter of 2020.
Non-GAAP gross profit margin was 44% compared to 42.7% in the same period last year.
Gross profit increased year-over-year as a result of higher sales volume mix, including software sales and the impact of our cost reduction activities.
We are quite pleased with our improved margin performance in Q1, especially when you consider that we divested a relatively high gross margin software business at the beginning of the year.
In our last earnings call, we said we expect non-GAAP gross profit margins in the range of 40% to 44% for 2021.
We continue to expect to be in that range on a full-year basis.
Operating expenses for the quarter were 66.2% on a GAAP basis, a decrease of 12.1% compared to the first quarter of 2020, including a 11.6% decrease in SG&A expenses and a 13.7% decrease in R&D expenses.
Our non-GAAP operating expenses in the first quarter were $51.2 million, an 18.7% decrease from the first quarter of the prior year as we saw the benefits from our restructuring efforts as well as the impact of divested businesses.
The primary differences between GAAP and non-GAAP operating expenses are $13.4 million in amortization of intangibles and stock-based compensation.
Continuing the theme of year-over-year improvement, adjusted EBITDA, defined as non-GAAP operating profit plus depreciation, was $19.8 million or $13.6% of revenue compared to $2.2 million or 1.6% of revenue in the first quarter of 2020.
The improvement is due to stronger gross margins as well as the results from our restructuring efforts.
We are very pleased with the trend of our EBITDA margins over the past several quarters.
Driving improvements to margins, adjusted EBITDA and revenue growth is the impetus behind targeted acquisitions like Additive Works and Allevi.
While they will not be material to 2021 results, these and future acquisitions will be a key component of our long-term strategy to reach double-digit revenue growth, gross profit margins of 50% and adjusted EBITDA margins of 20%.
Now, let's turn to the cash flow statement and balance sheet.
Cash on hand increased $48.2 million during the first quarter.
This increase was primarily driven by the net proceeds from divestitures of $54.7 million and cash generated from operations of $28.5 million, offset by a debt repayment of $21.4 million and other financing and investing uses of cash, including capital expenditures.
Note that our cash from operations of $28.5 million included the use of approximately $6.6 million of cash for withholding taxes related to the Cimatron sale.
When factoring together, it is of note that we have substantially improved cash from operations compared to the $2.3 million of cash used in operations in Q1 2020.
We ended the quarter with a strengthened balance sheet with $133 million of cash and cash equivalents, no debt and nearly full capacity on our $100 million undrawn revolving credit facility.
We have made a very strong turnaround from this time last year.
3D Systems is now growing profitably, generating cash and maintaining available liquidity.
Our combination of growth and profitability is unique to our industry and positions us well to continue to invest in high growth areas that will support our long-term financial goals.
Our solid financial profile makes us the partner-of-choice for customers that are considering as solutions provider for their most critical manufacturing processes.
We are excited about the opportunity for our business and our plans to deliver against our long-term objectives.
To continue to provide more detail to the investment community on our strategy, we plan to hold an Investor Day in the Denver, Colorado area on September 9.
We'll provide more details as we get closer to the event.
Again, I just want to say how pleased I am with our results and our return to year-over-year growth, our continued profitability improvements, the strength of our balance sheet and our strong cash generation performance.
With intentional action taken on our four-phased plan, we're reinforcing our leadership in this exciting industry.
We plan to continue looking for opportunities to optimize our resources, divesting or investing as needed to support sustained exciting growth and profitability.
Kevin, let's open it up. | 3d systems q1 non-gaap earnings per share $0.17.
q1 non-gaap earnings per share $0.17.
q1 gaap earnings per share $0.36.
q1 revenue $146.1 million versus refinitiv ibes estimate of $136.6 million. |
With me on the call are Dr. Jeffrey Graves, our President and Chief Executive Officer; Jagtar Narula, Executive Vice President and Chief Financial Officer; and Andrew Johnson, Executive Vice President and Chief Legal Officer.
Actual results may differ materially.
At this time last year, we were seeing only the very beginning of what we all hoped would be a sustained recovery from the worst of the COVID pandemic.
At the same time, here at 3D Systems, we were in the midst of executing our four phased transformation journey.
We reorganized our company into two segments, Healthcare and Industrial Solutions.
We have restructured our organization to gain efficiencies.
And we had announced the first of our divestitures of non-core assets.
As we speak to you today, a year later, these first three phases are complete.
We are now a company that's singularly focused on additive manufacturing with a lean nimble operating structure, global reach and breadth of metal, polymer and biological technologies that's unparalleled in the industry.
These attributes brought together through an intense focus on our customers' most demanding applications has proven to be a powerful driver of value creation as reflected clearly in our organic growth rates, our profitability and our operating cash performance, all of which we will recap for you in a few moments.
While we're pleased with this performance, even more exciting is that we're now in the fourth and final stage of our transformation, namely, investing for growth.
Since last quarter, we completed the last of our divestitures, retiring our debt and stockpiling over $500 million of cash on the balance sheet.
We subsequently announced two acquisitions that embody our strategic focus on growth, which is to invest in businesses that drive the adoption of additive manufacturing, solve customers' most complex application needs and generate high margin recurring revenue streams that are critical to sustain value creation.
The first of these acquisitions was Oqton, a unique software company that's emerged as a recognized leader in the creation of a new breed of intelligent, cloud-based manufacturing operating system.
The driver for this acquisition is very simple; customers across our Industrial and Healthcare segments are now anxious to accelerate their adoption of additive manufacturing in full scale production environments.
But in doing so, they're facing significant challenges and how to incorporate these technologies into their existing enterprise systems.
To-date, they relied heavily on spreadsheets and highly skilled engineers to run production applications.
This is obviously too slow, too inefficient and too expensive to scale as production volumes ramp up.
While we and others have made strides in optimizing and to some extent automating the performance of single printer or even a collection of like-kind printers working in parallel, our customers' challenges extend well beyond this.
What they need is a manufacturing system that can easily and intelligently incorporate a mixed fleet of printers, often from a variety of manufacturers, and in addition, one that will incorporate all of the surrounding digital production systems on the shop floor such as post-print thermal and mechanical processing, robotic motion systems and automated inspection systems.
Oqton not only provides this linkage, it goes a step further in applying cloud-based AI to optimize the entire workflow then links this workflow to the customers' existing enterprise software such as those provided by Salesforce, Oracle, Microsoft or SAP.
The end result is that Oqton not only links, optimizes and tracks the customers' unique operational workflow at an individual component level from raw material to finished in respected parts, but it also builds in future flexibility to substitute new printing, finishing and automation technologies that will undoubtedly be introduced in the years ahead.
These attributes which are unique to the Oqton platform will remove a significant barrier to the large-scale adoption of additive manufacturing and production environments.
And for that reason, we've opened the system to the entire industry, which we hope will accelerate market growth for everyone.
In addition, for the first time in our history, we will now make available our full complement of market-leading metal and polymer printing software platforms to all others in the industry, which we hope will accelerate the introduction of new printing technologies to customers around the world.
Importantly, as with all software platforms, the span in entire industry, we are committed to Oqton continuing to operate in this model of independence with a supreme commitment to customer data protection and confidentiality.
I'm happy to tell you that we closed the Oqton acquisition on November 1, and the reception by our customers and partners alike has been very positive.
Before I move to our most recent and incredibly exciting acquisition, let me step back and explain how we look at our company holistically, which I believe is much different than others in this industry.
In the decade since 3D printing was invented, we and our competitors have routinely defined ourselves as hardware and material developers, with our products sold broadly to customers around the world.
While this is natural when any industry is young and when the product is mainly consumed in small quantities by labs or prototype facilities, as the industry now matures and production environments are targeted, successful companies will need to adapt their entire operating model to reflect their deepening integration with specific markets and customers.
If you don't, you will remain simply a vendor and not a true partner to your customers, which will ultimately be reflected in your organic growth rate and profit margins.
So with this in mind, at 3D Systems, beginning a year ago, we changed the way we defined ourselves by reorganizing our entire company around key markets, and within those markets, key vertical segments that we believe will drive the most value from their adoption of additive manufacturing.
We began with the creation of two business segments, Healthcare and Industrial Solutions.
Using a strong application focus, these two businesses each integrate our printer, material and software technologies in unique combinations to solve the customers' product need.
Once complete, our customers can then ask us to scale the process for them to a certain production level.
And then with increasing demand, they can elect to have us enable a manufacturer of their choosing to continue scaling to high volumes.
This transfer of the workflow involves providing printing systems, materials and software along with the process definition.
It results in a seamless transfer of capability to the chosen manufacturer whether it's the OEM themselves or a contract manufacturer of their choosing.
So fast forwarding to this year, with the acquisition of Oqton, we expanded our software capabilities into what we call broadly digital manufacturing software, which as we described earlier, enables a rapid and efficient adoption of additive manufacturing in high volume production environments.
This operating model has been very well received by our customer base and we expect it to fuel exciting organic growth in the years ahead.
Most recently, we've added a strong biotech organizational focus and invested significantly to bring our emerging biological technologies to laboratory and human applications, details of which we'll cover in a few moments.
So in short, these are our five core market segments that you'll hear us talk about moving forward.
While each of the five will adapt to the needs of their customers, each will also leverage our core technologies of hardware, software and materials in the unique manner needed to fulfill their customer application needs.
Let me illustrate this approach using our Healthcare business as an example.
In the mid-1990s, 3D Systems pioneered Medical Modeling, which is the printing of highly detailed anatomical models from digital images.
These models have proven instrumental in support of complex surgical procedures.
In a highly publicized application of our modeling technology, which was beautifully documented by CNN's Dr. Sanjay Gupta, we created a number of medical models to assist in the separation of conjoined twins, Jadon and Anias McDonald who were born with the extremely rare craniopagus condition, in which twins are joined at the head, sharing not only the skull and vasculature, but portions of the brain itself.
The modeling used for the surgical planning was vital to the success of Dr. James Goodrich and his team that they had in separating the twins, both of which are alive and living independently today many years later.
To date, our medical modeling technology has supported dozens of similarly complex operations around the world, along with hundreds of others, and it continues to expand each year.
Building upon this foundation and investing in point-of-care infrastructure that accompany this growth, we deepened our surgical support over the next decade.
And by 2005, we were working with surgeons to design and manufacture customized patient-specific surgical guides and instruments using 3D printing.
As this portion of the business in turn grew, we expanded our scope once again, this time to include actual patient-specific implants, which offered an even larger market opportunity.
Fast forwarding today, we offer the broadest range of FDA-cleared capabilities for modeling surgical planning and patient-specific medical implants, which inspires our customers to continue expanding their partnership with us year-after-year.
While we're very proud of our progress by now redefining ourselves as a healthcare business in this example and leveraging both our critical infrastructure and channel partner relationships, we can broaden our scope more aggressively to now include other parts of the human skeleton structure, and importantly, to advance these applications in parallel instead of in series as we have in the past.
This provides us the opportunity to bring benefits to a much larger patient population and at a much higher rate than ever before.
This is the power of redefining ourselves as a healthcare business and not simply a provider of printing technology to healthcare customers in the market.
Of note, our Healthcare business grew over 28% in our most recent quarter and over 44% on an organic basis, which is where we disregard the businesses that we have divested.
This remarkable growth rate is a testament to our increasing momentum in this exciting market.
So building upon this discussion of our Healthcare business, I would like to end my commentary for today on the remarkable emerging market of bioprinting in our announcement last week of our acquisition of Volumetric Biotechnologies.
This company, under the inspired leadership of Dr. Jordan Miller, brings specific expertise and biomaterials and regenerative medicine that combine synthetic chemistry, 3D printing, microfabrication and molecular imaging to direct culture human cells to form more organized complex organizations of living vessels and tissues.
3D Systems has been a pioneer in our industry by focusing resources on regenerative medicine since 2017.
And we began a joint development program with United Therapeutics Corporation to develop the capability to print scaffolds for human lungs using a process we call printer profusion.
Once developed, this bioprinting technology can be applied to other major organs in the human body as well as a wide range of other human and laboratory applications.
We've made significant strides in this unique technology.
And as a result, we recently announced an expansion of our development program with United Therapeutics, an expansion that includes increased funding and an extension to two additional organs.
This program expansion reflects the progress that our joint team has made in this groundbreaking endeavor.
By acquiring Volumetric, we're adding critical skill sets to our 3D Systems' team, which we feel are a perfect complement to ours, bringing strong biological expertise and cellular engineering skills along with highly creative bioprinting systems to our development group.
As I realize this is an entirely new area for many that have followed our company for some time, let me quickly recap our regenerative medicine strategy and the market opportunities that we're addressing through our unique bioprinting technology.
The first opportunity is the printing of human organs, beginning with the lung and expanding from there to two additional organs.
We're pursuing this as a joint program with our partner United Therapeutics.
The ambitious goals that we've set for this program are driving quantum advances in our technology and laying the foundation for the rest of our regenerative medicine efforts.
In our second regenerative medicine market opportunity, we're taking the core unique disruptive technologies developed for the bioprinting of human organs and applying it to other parts of the human body.
There are tremendous number of these applications ranging from the printing of human skin for burn victims to soft tissue for breast reconstruction and repair to critical blood vessel and bone replacements and many, many more.
We're now forming partnerships focused on each application area where we can combine our bioprinting expertise with the appropriate application experts to provide unique and highly impactful solutions for people in need.
We refer to this second market vertical within regenerative medicine as human non-organ bioprinting.
Our last but certainly not least market opportunity is to extend our bioprinting technologies into research labs, providing advanced printing systems and unique biological materials to those that study the basic science of regenerative medicine and in the pharmaceutical laboratories where the ability to print high precision, three dimensional vascularize cell structures can be used for the development of new, more effective drug therapies.
Our acquisition of Volumetric and their unique capabilities in combination with our own will allow us to expand the pace of our efforts in all three of our regenerative medicine markets.
It amazes me to think of these revolutionary applications enabled by our 3D printing technologies; applications that we are uniquely positioned to deliver with our extensive history in advanced 3D printing technologies, our material expertise, our application development expertise, our deep understanding of FDA and other regulatory processes and now our biological and cellular engineering capabilities.
We believe that in the years to come, bioprinting will take its place as a very significant business for our company, bringing critical relief to patients in need of life-saving procedures and great value to our company's employees and our shareholders alike.
Moving from our strategic growth investments to our most recent quarterly performance, I'm very pleased to say that we've continued to execute well on our core business.
With continuing strong demand, our operational challenges have largely centered around global supply chain and logistics issues, which are unfortunately continuing to plague most companies around the world.
Our solid execution in the face of these challenges in the third quarter resulted in strong double-digit growth with revenues increasing by 15% before adjusting for divestitures.
When these adjustments are made, which is a much better reflection of our core business performance, revenues were up over 36% versus 2020 and up over 20% versus our pre-pandemic 2019 third quarter, a benchmark we consider very important.
Looking at our major business segments, our Industrial Solutions segment is continuing its rebound, seeing strong performance particularly in jewelry, automotive and transportation and general manufacturing.
In Healthcare, we see continuing strong demand for personalized health services as well as solid performance in dental.
As Jagtar will discuss shortly, in addition to the strong revenue performance, our EBITDA climbed by over 125%.
We generated positive cash from operations for the fourth consecutive quarter, the first time this has happened in four years.
With our cash generation in addition with the proceeds from divestitures, we built a sizable cash balance by the end of Q3.
A portion of these funds will be used to fund the strategic growth initiatives I mentioned earlier, but we will still have be left with a significant amount of liquidity to pursue additional opportunities.
As I'm sure is clear to everyone, I am very excited not only about what we've accomplished this last year, but even more so about the future as our focus on growth in this final stage of our transformation has only just begun.
For the third quarter, we reported revenue of $156.1 million, an increase of 14.6% compared to the third quarter of 2020.
Our organic revenue growth, which excludes divestitures completed in 2020 and 2021, was 35.9% in Q3 2021 versus Q3 2020.
Since the third quarter of 2020 was beginning of the economic reopening from the COVID-related shutdowns, we think it is valuable to compare our results to Q3 2019, which was untainted by the pandemic.
Again, excluding divested businesses, we are comparing on an apples-to-apples basis.
Our revenue in the third quarter 2021 was 21.2% higher than pre-pandemic Q3 2019.
As we have discussed previously, with the completion of our Simbionix and on-demand manufacturing divestitures in Q3 2021, we have completed our planned divestitures and are now focused on the performance, growth and investment of our core additive manufacturing business.
I would like to note that our -- at post-divestitures, we continue to generate nearly two-thirds of our revenue from our recurring revenue streams.
These high margin lines of business highlight the strength and diversity of our core business, our ability to weather various economic cycles and around which we will continue to make strategic investments.
We reported GAAP net income of $2.34 per share in the third quarter of 2021 compared to a GAAP loss of $0.61 in the third quarter of 2020.
The year-over-year improvement was driven by gains on divested businesses as well as the goodwill impairment charge we took in the third quarter of 2020.
For our non-GAAP results, we reported non-GAAP income of $0.08 per share in the third quarter of 2021 compared to a non-GAAP loss of $0.03 per share in the third quarter of 2020.
The year-over-year improvement reflects higher revenue with lower non-GAAP operating expense as a result of the cost actions we took last year.
Now I will discuss revenue by market.
Healthcare grew 28.3% year-over-year and decreased 7.8% compared to the last quarter.
The decrease was primarily a result of the divestiture of the Simbionix medical simulation business during the quarter.
Adjusted for divestitures, Healthcare revenue increased 44.5% year-over-year as a result of strong demand for dental applications in both printers and materials.
In fact, the last four quarters have seen the highest level ever of dental material sales as compared to any prior four quarter period.
Our Industrial segment generated revenue growth of 4% to $79.7 million compared to the same period last year and was flat to last quarter, reflecting the divestiture of the on-demand manufacturing parts business during the quarter.
Adjusted for divestitures, Industrial revenue increased 28.1% year-over-year and 2.1% over the last quarter.
The increase was driven by higher demand in both printers and materials in a variety of sub-segments, most notably, jewelry, automotive and transportation and general manufacturing.
Now we turn to gross margin.
We reported gross profit margin of 41.2% in the third quarter of 2021 compared to 43.1% in the third quarter of 2020.
Non-GAAP gross profit margin was 41.5% compared to 43.2% in the same period last year.
Gross profit margin decreased primarily as a result of businesses divested in 2020 and 2021.
If we exclude the impact of those divestitures, gross profit -- gross margins increased 80 basis points in the third quarter of 2021 compared to the same period last year, driven by 2020 cost actions and the higher revenue, which resulted in better capacity utilization.
As evidenced by our strong performance this year, demand continues to be strong for both our -- for our products in both business segments.
The biggest challenge we've faced isn't unique to 3D Systems.
We are all aware of the supply chain issues that are affecting everyone, from multinational corporations to small businesses to individuals on Main Street.
In fact, our Q3 revenue, while strong, was impacted by supply limitations of certain products.
Consistent with last quarter, we continue to see a tightening of cost and availability for certain components that go into our product.
Our team is doing a heroic job as it manages through these challenges.
Supply chain and not end customer demand remains the key headwind in our business and is our strong focus as we finish out the year.
We have taken steps to mitigate the economic impact, such as adding alternative sources for key components where possible.
We have seen some cost impacts from the supply chain constraints, especially in increased freight charges and have instituted a temporary surcharge for our customers on certain types of purchases effective in the fourth quarter.
Year-to-date, our non-GAAP gross profit margin was 42.6% and we expect full year gross profit margins to be between 41% and 43%.
Operating expenses for the quarter were $81.5 million on a GAAP basis, a decrease of 35.4% compared to the third quarter of 2020.
This year-over-year decrease reflects a goodwill impairment booked in Q3 2020.
Our non-GAAP operating expenses in the third quarter were $54.1 million, a decrease -- an 8% decrease from the third quarter of the prior year.
Compared to the second quarter of 2021, non-GAAP operating expenses decreased 2%, primarily driven by lower R&D spend.
Adjusted EBITDA, defined as non-GAAP operating profit plus depreciation, was $16.3 million or 10.5% of revenue compared to $7.2 million or 5.3% of revenue in the third quarter 2020.
Our disciplined approach to growth, cost management and focus on our core business is resulting in continued strong adjusted EBITDA.
Turning to the cash flow statement and balance sheet.
We are pleased to show $502.8 million of cash on the balance sheet, an increase of $418.4 million since the beginning of the year.
The increase was primarily driven by proceeds from the divestitures of the on-demand parts business and our medical simulation business, but supported in no small part by our extremely strong cash generation from operations.
During the quarter, we generated $20.7 million of cash from operations, marking the fourth straight quarter of positive cash from operations.
This is the first time in four years the company has achieved four straight quarters of positive operating cash flow and reflects a strong transformation of our business.
Now that we have demonstrated consistent profitability and cash generation and post-divestiture $0.5 billion of cash on hand, we are in a prime position to continue growing the company by taking a disciplined approach to invest organic and inorganic solutions that will solve customers' complex needs, drive adoption of additive manufacturing and generate high margin recurring revenue streams.
We have previously announced some of those growth opportunities, namely our acquisitions of Oqton, which closed November 1 and Volumetric Biotechnologies, which is expected to close in the fourth quarter.
The cash considerations for these will total approximately $130 million, leaving roughly $370 million of cash.
These acquisitions will position the company for strong growth and are core to our strategies in both high margin software to enable the adoption of additive manufacturing as well as adoption of advanced 3D printing technologies in the field of regenerative medicine where we believe we will be a leader in the market.
As I conclude my remarks, I want to reflect on the past year.
I joined the company at the beginning of the third quarter of 2020.
At that time, the company was just beginning its transformation.
We had just announced results for the second quarter of 2020 that included negative operating cash flow of $21 million for the first half of that year, cash and cash equivalents on the balance sheet of only $64 million and $22 million of debt.
Now fast forward to this year and the transformation we've been through.
We have generated over $60 million of operating cash this year for the third quarter and ended the quarter with over $500 million of cash and cash equivalents with no debt.
We are 100% focused on additive manufacturing and growing strongly in our core markets.
We are able to make smart and strategic investments to support our core business and are rapidly advancing our key technologies into new segments such as regenerative medicine.
I continue to believe that we are uniquely positioned in our industry with a strong balance sheet growth, cash generation and a suite of technologies that continue to be in demand by our customers.
Finally, we wanted to provide an update at our Investor Day event.
You may recall that we had scheduled an event for September 9 in the Denver, Colorado area.
Out of the abundance of caution for the safety of our investors, analysts and employees, we postponed the planned Investor Day as COVID infection rates increased this past summer due to the Delta variant.
We are now seeing the hopeful signs of progress, with once again declining infection rate, rollout of booster shots and a newly announced pill that seems to offer promise of dramatically cutting the hospitalization rates from this infection.
As a result, we are in the early stages of planning an updated Investor Day with an aim for the first half of 2022.
We will provide an update as soon as possible and look forward to sharing our long-term growth strategy in more detail with the investment community.
Well, Jagtar and I have covered the remarkable progress that we've made over the last year.
We've created value for our investors, our customers and our employees by remaking the business.
Our growth and profitability distinguishes us in the industry and has made us a key partner for a growing number of organizations that are considering additive manufacturing.
At the same time, our transformation has also made us a more exceptional place to work to drive the future of additive manufacturing, and as a result, more talented individuals are becoming a part of the new 3D Systems each day.
However, as much as we've accomplished this last year, it's more about the future.
We will continue to be a valuable solutions partner with customers and deeply integrate with them as they adopt our solutions and technologies.
We will also invest in our business and drive our solutions capabilities in the five key areas I spoke about earlier.
I'm truly excited about the depth and breadth of technology we bring to our markets and application expertise. | compname posts q3 earnings per share of $2.34.
q3 gaap earnings per share $2.34.
q3 revenue rose 14.6 percent to $156.1 million.
q3 non-gaap earnings per share $0.08.
on a non-gaap basis company expects 2021 gross profit margins to be between 41% and 43%. |
With me on the call are Dr. Jeffrey Graves, our President and Chief Executive Officer; Jagtar Narula, Chief Financial Officer; Andrew Johnson, Executive Vice President and Chief Legal Officer; and John Nypaver, Vice President and Treasurer.
Actual results may differ materially.
Before we begin, let me wish all of you a healthy and happy New Year ahead.
2020 was an unprecedented year for everyone dealing with the COVID virus, but I'm happy to see improvements around the world as the new vaccines are being distributed in increasing numbers.
I trust that 2021 will be a much better environment as we emerge from this crisis period.
Before discussing our progress in 2020, let me comment on the postponement of our 10-K filing.
As you know, one of our key actions last year was to begin divesting assets that were not core to our Additive Manufacturing business.
We quickly prioritized the sale of our two software businesses GibbsCAM and Cimatron.
They were focused on subtractive or machining technology.
This divestiture, while complex to execute, went very well, and we closed at the end of the year, which allowed us to eliminate our debt and have cash on the balance sheet for future investment.
Our auditors have asked for a little more time to bring their work to a close, and we therefore filed for an extension of our 10-K.
With that said, we were very pleased to be able to release our Q4 and full year operational results last evening, which we have labeled as 'Unaudited' for clarity, and to discuss them with you today.
With that, let me now recap the progress we've made in our business and our view of the future.
For 3D Systems, 2020 presented both significant challenges and, along with them, clear opportunities for us to focus our company on what we believe will be an accelerating need for Additive Manufacturing across many industries moving forward.
Many of you may recall that one of my first actions upon joining the company last May was to clearly define our purpose statement, that is to be the leader in enabling additive manufacturing solutions for applications in growing markets that demand high reliability products.
Using this as our guidepost, we then developed a four-stage plan to deliver increased value to both our customers and our shareholders.
Our four-part plan was simple: reorganize into two business units, Healthcare and Industrial solutions; restructure our operations to gain efficiencies; divest non-core assets; and invest for accelerated profitable organic growth.
We set aggressive measurable goals and timelines and focused intensely on execution.
These efforts began bearing fruit quickly with a return to growth in Q3, and rapidly building momentum on both our top and bottom line in Q4.
From a topline perspective, the results really speak for themselves.
Both our Healthcare and Industrial businesses delivered exceptional double-digit revenue growth on a consecutive quarter basis with our Healthcare business even surpassing last year's pre-COVID performance by a significant margin.
From a bottom-line perspective, the combination of volume growth and the increasing benefit from our restructuring efforts, improved operating margin significantly, returning the company to profitability and positive operating cash performance.
This was our first quarter of year-over-year revenue growth since 2018, and we delivered it while still battling the worst global pandemic in modern history and while executing a massive top to bottom reorganization and restructuring of the company.
I could not be prouder of our leadership team and our tremendous employees worldwide who never took their eye off meeting our customer commitments through all of this change.
This success has left us in a terrific position moving forward as the virus subsides and the world begins recovering in earnest later this year.
With that quick summary, let me share a few highlights from each phase of our plan.
Let's begin with reorganization.
As a reminder, our company is focused on application-specific solutions for our core vertical markets, Healthcare and Industrial.
Over the second half of 2020, we reorganized our sales and marketing activities, combining our hardware, material, software, and services resources into a unified application-oriented customer-focused organization, rather than having multiple independent teams as in the past.
This reorganization not only improved our sales efficiencies, it also allowed us to work much more effectively with our customers on specific application solutions, which is a cornerstone of our strategy moving forward.
Within each of our two business units, we have market-specific vertical leaders focused on key growth markets, such as dentistry, personalized health services, and medical devices within our Healthcare business, and aerospace, automotive, electronics, and consumer products for our Industrial business units.
These business and market leaders determine both our go-to-market strategies and our development priorities for new products and services, ensuring the specific customer application needs are kept at the forefront of our resource allocation process.
In addition to these changes in our sales structure, we also created a new group we call our customer success team.
This group ensures that our customer needs continue to be met after their initial purchase over the life of the system.
It includes servicing and upgrades of the equipment, providing our customers immediate access to our rapidly expanding materials portfolio, and delivering software upgrades that drive improved efficiencies in their manufacturing environment.
These benefits ensure that the value our customers receive from their 3D Systems solution grow substantially over the life of their ownership, which can often exceed 15 years from the initial purchase.
A testament to our success in delivering this value is seen in our customers' operations around the world each day.
The 3D Systems technology provides over a 0.5 million production parts every 24 hours, 365 days a year, which is more than the rest of the industry combined.
And with the breadth of our additive technologies now spanning an enormous range of plastic and metal application solutions, we're well positioned to build upon this foundation at an even faster pace moving forward.
So with an understanding of how we're organized, let me comment briefly on our sales performance in the fourth quarter and the current market dynamics.
For Healthcare business, we delivered exceptional growth in Q4 and notably this growth was seen broadly in both dental and medical applications, the latter of which includes medical devices, personalized healthcare, simulation systems and -- moving forward -- regenerative medicine or bioprinting for short.
I'll comment further on this new area of the business in a few moments.
But for now, suffice to say that our Healthcare business exited the year firing on all cylinders and we're very excited about the short and long-term outlook for this business.
For our Industrial business, while we are still in a recovery phase from the extreme softness we experienced in the middle of 2020, in Q4 we were pleased to build upon the positive momentum we had established in Q3.
Our Industrial business growth reflected increased demand in markets like aerospace, automotive and consumer applications as the industrial economy continued to slowly recover.
We expect this momentum to continue in 2021.
However, the risks of COVID headwind still linger until the vaccines are more widely distributed later this year.
Once these pressures fully subside, we're very bullish on the outlook for this business.
Next, I'll spend a few minutes summarizing our restructuring efforts.
Last summer, we announced a restructuring program that was designed to ultimately yield a $100 million of run rate cost savings with $60 million to be achieved by the end of 2020.
I'm pleased to say that we achieved our $60 million savings target by year-end and that our efforts are continuing unabated.
Looking ahead, we have detailed plans within our core additive business to deliver an additional $20 million in savings this year, with the balance of $100 million linked to our analysis of future divestitures.
As these efficiencies are realized, we will make prudent investment decisions to support the increasing opportunities for growth and profitability that we see ahead for our company and for the additive manufacturing industry in total.
Jagtar will talk more about this in a few minutes.
Moving next to our divestiture efforts.
Having defined our company's focus last summer, we progressively evaluated all of our assets using this lens.
It quickly became clear last year that certain of our businesses, while good performers in their own right, clearly did not feel well within our focus on additive manufacturing.
As such, we began discussions with interested parties in several areas and successfully completed the sale of Cimatron and GibbsCAM at the year-end.
These two businesses were focused on digital machining technologies and, as such, were outside of our core.
Completion of the sale brought us increased organizational focus while enabling us to eliminate our debt and add cash to our balance sheet for future investment.
We will continue to evaluate assets for divestment, consistent with our core strategy in the quarters ahead.
The fourth phase of our transformation process corresponds to investment for growth.
As we move into 2021, we see two significant drivers of accelerated demand.
One is the technical maturity of additive solutions on an industrial scale, which is now become increasingly clear to OEMs worldwide.
The second is an accelerating cultural change in our customer base associated with the rise of a new generation of engineering design leadership that was exposed from a young age to additive manufacturing.
These engineers, which began entering the workforce in large numbers over the last decade, are embracing the benefits and design paradigms associated with additive manufacturing, which essentially decouples component complexity for manufacturing costs.
This allows our customers to design products that have greatly enhanced performance and reliability, while avoiding cost penalties that would occur using traditional machining, molding, or casting methods.
When combined with the new materials that are now available for printing, the result is a dramatic increase in demand for Additive Manufacturing solutions.
To be a leader in this exciting market, we believe that a company must have expertise in hardware and software, with a strong portfolio of advanced materials to enable application solutions that are critical to our customers' product performance and cost objectives.
Solving for specific applications often requires a unique combination of these elements which we bring together through our application engineering experts.
Moreover, many customers have a strong need for both polymer and metal solutions, which is why we continue to invest systematically in both technology areas and leverage them as required to meet these rapidly evolving needs.
Looking ahead, we see significant growth opportunities in each of our core markets.
Within Healthcare, this includes dental applications as well as a rapidly growing range of medical device applications and the emerging field of personalized health services.
These services encompass both surgical aids that are custom-created, to match a patient's specific procedure as well as implanted devices that aids in the patient's recovery or quality of life.
We anticipate all of these applications for which performance and quality are of paramount importance to be both the near-term and long-term drivers of the business.
Adding additional exciting momentum to our Healthcare business over the long-term, meaning 2022 and beyond, will be our newest area of development, regenerative medicine.
As we announced in mid-January, over the last three years, our Chief Technology Officer and the Inventor of the entire Additive Manufacturing industry, Chuck Hull and his team, have been working very closely with our partner, United Therapeutics, to demonstrate the capability to actually print human organs in order to address the enormous need of transplant patients.
The first application selected for development was a fully functioning biocompatible human lung.
In December, we created a -- we reached a critical milestone in these efforts.
In short, we demonstrated the capability to reproducibly print extremely complex, ultra-thin walled structures using collagen-based and other biocompatible materials.
These structures which have the required balance of properties needed for organ application, enable vascularization to support blood flow, and thus the ability to sustain human life.
The printed structures are perfused with human cells, which can thrive and multiply, which is why the team has named the process Print to Perfusion.
While there is more work to do, including completion of the required regulatory approvals, the printing technology that has now been demonstrated for the lung application can be taken in many additional directions.
Near term applications are numerous, such as the creation of customized soft tissue implants for trauma patients or for use in breast reconstruction following mastectomy.
In the laboratory, the creation of test modules termed tissue-on-a-chip could be used to better simulate human response to new drug therapies, shortening the development time and reducing or even eliminating the need for animal testing.
All of these applications and a host of others are now within reach, which is why we've made the decision to increase our internal investments and to expand our application partnerships in regenerative medicine in 2021.
So in short, looking ahead for Healthcare business, we see an exciting year ahead.
This momentum continues to build with expanding applications and an even more exciting long-term outlook as regenerative medicine opens entirely new and potentially significant markets for the company.
Turning to our Industrial business, we see a continuation of recovery as the impact of COVID on the global industrial economies recedes.
We are particularly excited about our near-term efforts in space systems, where additive manufacturing of large, complex, metal components for rocket propulsion is helping build a foundation of experience for our newest generation of metal printers, which are particularly well suited to high temperature, lightweight materials.
Automotive and semiconductor equipment applications are also offering near-term growth potential, as is electrical componentry applications where customization is beneficial to performance.
Based upon our development pipeline, we also expect 2021 to be an exciting year for expansion of our materials portfolio, which is central to the benefits that our customers derive from the use of additive manufacturing.
The availability of these new materials in concert with our customer success team, organizational change, is intended to maximize the benefits we bring to our customers over the lifetime of their investment in our printing technology.
To end on an exciting note, with regard to our Industrial business, we were very pleased to announce last week a brand new industrial product platform for 3D Systems, which we refer to as High Speed Fusion or our HSF technology.
This filament fusion process developed in conjunction with Jabil is specifically targeted at aerospace and automotive applications.
Growing out of a project, we referred to as Roadrunner, the printer itself is three times faster and more precise than competing systems in the market today.
It also has a significantly larger working volume and very high temperature printing capability that is essential to next generation polymer systems for the demanding aerospace and automotive applications with size, speed and precision that exceeds any of the current market offerings.
Equally important, we will be offering a broad range of materials for this new platform, which should further accelerate its adoption in the market.
Based upon our initial analysis, these new markets that Roadrunner will open for us are in excess of $400 million and we'll expand from there as the full capabilities of the new platform are adopted.
This development effort has been under way for over a year, and we expect the platform to be fully available to the market in 2022.
This adds one more exciting dimension to our Industrial business.
So let me conclude my introductory comments by saying simply that we're very pleased with our progress over the last six months.
We look forward to building upon this momentum with a strong focus on growth and gross profit margin expansion in our core Additive Manufacturing business moving forward.
With a strong balance sheet, improving margins and exciting growth opportunities opening ahead of us, we look forward to a terrific future for all of our stakeholders.
Let me begin my commentary by reminding everyone that the financial data that we are discussing remain subject to final audit by our independent registered public accounting firm.
As a result, our actual results may differ from the anticipated results discussed.
As Jeff discussed earlier, in the fourth quarter, we achieved a development milestone in our regenerative medicine efforts.
This triggered a cash payment from one of our development partners related to this achievement.
That payment and our growing initiative in regenerative medicine prompted us to reevaluate our accounting methodology for this contract.
However, it is important to note that this recasting has only a minor impact on the numbers and does not have any impact at all on our bottom line reported results.
In addition, to be extremely clear, when viewed in the context of our overall revenue growth in the fourth quarter, the impact of this payment was immaterial to our results.
Even if the payment would have been entirely excluded, we would still have seen year-over-year growth in the fourth quarter.
Now moving on to the numbers, starting with a look at the full year 2020.
2020 revenue of $557.2 million decreased 12.4% compared to the prior year, primarily due to the impacts of COVID-19, the effects of which occurred most severely at the onset of the pandemic, with a strong rebound in activity in the second half of the year.
As we discuss our results in the future, it will be important to compare our growth to a baseline that excludes revenue from divestiture activities, such as the divestitures that closed just after the new year.
This revenue will no longer be part of our operating model, and we want to provide a clear baseline revenue for 2020 on which we intend to grow organically in 2021.
As such, excluding $44.4 million of revenue from businesses that were divested last year or at the beginning of this year, baseline 2020 revenue would have been approximately $512.8 million.
Our growth from this baseline provides a way to measure performance of our Additive Manufacturing business in 2021.
Gross profit margin on a GAAP basis for the full year 2020 was 40.1% compared to 44.1% in the prior year.
Non-GAAP gross profit margin was 42.6% compared to 44.8% in the prior year.
Gross profit margin decreased primarily due to the under-absorption of supply chain overhead resulting from lower production and end-of-life inventory changes of $12.4 million and mix.
Operating expenses for the full year 2020 on a GAAP basis increased 1.4% to $342.3 million compared to the prior year.
On a non-GAAP basis, operating expenses were $236.9 million, a 16.2% decrease from the prior year.
The lower non-GAAP operating expenses reflected savings achieved from cost-restructuring activities as well as reduced hiring and lower travel expenses resulting from the coronavirus pandemic.
Moving on to the specifics of the fourth quarter.
For the fourth quarter, we expect revenue of $172.7 million, an increase of 2.6% compared to the fourth quarter of 2019 and an increase of 26.8% compared to the third quarter of 2020, driven by growth in both Healthcare and Industrial.
We were quite pleased with this organic revenue growth, which we delivered while still facing headwinds from the pandemic that impacted our operations and those of our customers.
We expect a GAAP loss of $0.16 per share in the fourth quarter of 2020 compared to a GAAP loss of $0.04 in the fourth quarter of 2019.
Turning to non-GAAP results.
We expect non-GAAP income of $0.09 per share in the fourth quarter of 2020 compared to non-GAAP income of $0.05 per share in the fourth quarter of 2019.
Consistent with our new strategic focus announced late last year, we are now discussing revenue by market, Healthcare and Industrial.
Revenue from Healthcare increased 48% year-over-year and 42.4% quarter-over-quarter to $86.6 million, driven by all parts of the Healthcare business: dental, medical devices, simulators and regenerative medicine.
Excluding dental applications, revenue in the balance of the Healthcare business, which we refer to broadly as medical applications, increased 27.7% year-over-year.
In short, we were very pleased with both the magnitude and the breadth of the revenue growth in our Healthcare business in the fourth quarter.
Industrial sales decreased 21.6% year-over-year to $86 million as demand has not fully rebounded to pre-pandemic levels.
On a sequential quarter-over-quarter basis, we saw broad-based revenue improvement of approximately 14.2% in our Industrial business, with no single customer or segment responsible for the improvement.
Now we turn to gross profit margin.
We expect gross profit margin of 42% in the fourth quarter of 2020 compared to 44.1% in the fourth quarter of 2019.
Non-GAAP gross profit margin was 42.9%, compared to 44.3% in the same period last year.
Gross profit declined year-over-year, primarily as a result of timing and the reallocation of costs from opex to cost of goods sold.
Looking forward, and as mentioned previously, our gross profit will be impacted by the sale of our Cimatron and GibbsCAM software business.
While revenue in these two businesses were expected to decline, their divestiture is expected to negatively impact gross margins going forward by about 300 to 400 basis points, while our restructuring and transformation activities will benefit gross margins.
Net, going forward in 2021, we expect non-GAAP gross margins in a range of 40% to 44%.
Operating expenses for the fourth quarter were $71.7 million on a GAAP basis, a decrease of 9.2% compared to the fourth quarter of 2019, including an 11.2% decrease in SG&A expenses and a 3.1% decrease in R&D expenses.
Importantly, our non-GAAP operating expenses in the fourth quarter were $58 million, a 15.8% decrease from the fourth quarter of the prior year as we saw the benefits from our restructuring efforts.
The primary differences between GAAP and non-GAAP operating expenses are $6.1 million in restructuring charges as well as $4 million in amortization of intangibles and stock-based compensation and $3.7 million in legal and divestiture-related charges, consistent with our historical GAAP to non-GAAP adjustments.
Next, I would like to briefly touch on our cost-reduction activities.
Recall that in 2020 we announced a restructuring to reduce operating costs by $100 million per year, with $60 million of annualized cost reduction by the end of 2020.
As Jeff mentioned, we were pleased that we delivered on our objective of $60 million cost reduction in 2020.
In addition, we have plans for an additional $20 million of cost reductions in 2021.
Additional cost reductions beyond what is currently planned for 2021 require us to streamline and integrate parts of our business that we may instead choose to divest.
Therefore, the plans to achieve the remaining $20 million toward our $100 million cost-reduction plan will be achieved by divestitures or through further cost reductions that we will implement once we have finalized our divestiture analysis.
As we look forward in 2021, our operating expenses will be impacted by the sale of our Cimatron and GibbsCAM business, our cost-transformation activities and our investment decisions that are expected to drive future growth.
We are excited about the opportunities in our markets and will continue to make investments in 2021 to position the company well for future growth.
This quarter, we are introducing adjusted EBITDA as a metric that we find useful in measuring the health of the business.
We focus on adjusted EBITDA as evidence of the results of our strategy and restructuring actions, and we believe it is a helpful metric to use to compare to prior results.
Adjusted EBITDA, defined as non-GAAP operating profit plus depreciation, was $28.7 million or 5.2% of revenue in 2020, compared to $31.2 million in 2019 or 4.9% of revenue.
For the fourth quarter of 2020, adjusted EBITDA improved materially to $22.9 million or 13.2% of revenue, compared to $12.9 million or 7.7% of revenue in the fourth quarter of 2019.
The improvement is the result of the business growth in the quarter as well as the results from our restructuring efforts.
We were pleased that we could grow adjusted EBITDA in Q4 despite the challenging economic environment.
Now let's turn to the balance sheet.
We ended the quarter with $84.7 million of cash on hand, including restricted cash and cash and assets held for sale.
Cash on hand decreased $50 million since the beginning of 2020.
Importantly, our cash on hand increased $8.4 million from Q3 2020 to Q4 2020.
We did not issue any shares under our at-the-market equity program called the ATM program during the quarter.
Therefore, the increase in cash on hand reflects the improved operating performance of the company and the flow-through of cost actions that we have taken.
Our term loan at the end of the year was $21 million.
We have a $100 million revolver that was undrawn as of December 31, 2020, and has approximately $62 million of availability based on terms of the agreement.
Following the sale of our Cimatron and GibbsCAM business, which officially closed at the beginning of January, we used part of the proceeds to pay off the term loan, making us debt-free and in net cash position as we moved into the new year.
Additionally, as previously discussed, we terminated the ATM program.
As we look forward into 2021, we have greatly improved the operating efficiencies of our business and are continuing to do so.
We are focused heavily on reinvesting for growth based on the increasing opportunities we see for our core additive manufacturing business, and we are continuing the evaluation of our portfolio with an eye toward the potential for divestitures and subsequent reinvestment of proceeds into our core business efforts.
We believe that our market opportunity has considerable growth potential.
We have made tremendous progress in cost reduction and operational efficiency and have chosen to reinvest portions of the savings back into the business to drive future growth.
In 2020, we completed the reorganization and restructuring of our company to drive growth in our core businesses, successfully achieving our targeted cost savings while focusing on delivering application solutions for our customers.
As a result, we're now a company with a strong focus on two key markets, Healthcare and Industrial Solutions, and one that has a much more streamlined and efficient cost structure.
We started 2021 by completing the sale of our Cimatron and GibbsCAM software businesses, and we'll continue to see cost savings from our restructuring efforts throughout the year.
We'll continue to explore divesting noncore assets and look to grow our customer relationships through focusing on application solutions in our most exciting growth markets.
We believe revenue in our core business centered around a solutions-based approach to Additive Manufacturing will grow rapidly moving forward.
And we'll selectively invest for growth opportunities like regenerative medicine, materials development and ongoing improvement in our product lines.
Many may ask what rapidly means in terms of growth rates.
All we can say today is that uncertainty remains around the pace at which COVID impact will receive and the global economies rebound.
We're hopeful that the momentum continues to accelerate.
And with that, we'll be able to deliver double-digit growth rates in our core additive business in the year ahead, but these next few months will ultimately determine this outcome.
What I can say with certainty is that our continued focus on operational execution.
We are very excited about the trajectory we're on and the future value we expect to bring to all of the stakeholders in our company. | compname says q4 loss per share $0.16.
q4 revenue $172.7 million versus refinitiv ibes estimate of $168.5 million.
on a non-gaap basis, company expects 2021 gross profit margins to be between 40% and 44%.
qtrly loss per share $0.16.
qtrly non-gaap basic and diluted income per share $0.09. |
With me on the call are Dr. Jeffrey Graves, our president and executive officer; Jagtar Narula, executive vice president and chief financial officer; and Andrew Johnson, executive vice president and chief legal officer.
Actual results may differ materially.
Given the clear and unacceptable humanitarian implications of Russia's recent actions, we've elected to immediately suspend all sales to Russia.
We're hopeful that the situation will be resolved quickly and peacefully and that the Ukrainian people can move forward as a free country with an elected representative government.
So with that said, let me begin our call today by wishing all of you a happy and healthy new year.
As I'm sure you'll agree, 2021 was a year filled with both optimism and challenges.
Optimism as we saw the rollout of COVID vaccines that were developed, approved, and distributed with astonishing speed, but also significant challenges as new variants emerged, which continue to impact families and businesses alike.
Looking ahead, I'm optimistic that 2022 will be a year of meaningful progress as these effects ultimately recede and we see consistent sustainable economic performance once again.
In spite of these significant challenges that we faced in 2021, it was, by all measures, a tremendous year of renewal for 3D Systems.
What began in May of 2020 as a four-phased plan to refresh, refocus, and transform our company was completed in 2021 with our transition to the final phase, investing for growth.
This 18-month journey comprised reorganization into two business units, healthcare and industrial solutions, restructuring to gain efficiencies, and divesting of noncore assets.
We completed all of these efforts while prioritizing the health of our employees and delivering on a dramatic increase in demand for our products and services.
I couldn't be prouder of our team's performance, which made 2021 one of the most successful years in our company's history.
Let me share with you a few key highlights of what our 3D Systems team accomplished over the last year.
At the outset of 2021, we as a management team decided that given the momentum that we had achieved as we exited the prior year, that in addition to comparing ourselves to 2020, which was a year severely impacted by COVID, we would also use our 2019 pre-pandemic performance as a primary benchmark for comparison.
We set this bar -- this set the bar at a much higher level, one that we felt would be an appropriate challenge for both of our businesses.
As we closed out the year, the results clearly spoke for themselves.
When adjusted for divestitures of noncore assets, our results for 2021 not only dwarfed our 2020 performance, but also significantly surpassed 2019 across all key financial metrics from top line growth to profitability and cash flow.
From a balance sheet perspective, our combination of operating performance and sale of noncore assets allowed us to add over $0.5 billion to the balance sheet by the end of our third quarter.
We then strengthened our cash position further through a convertible bond offering at an opportunistic time in the fourth quarter, details of which Jagtar will elaborate on in a few moments.
This operating performance was delivered in spite of the significant headwinds we experienced from supply chain shortages and logistics issues.
As we completed each quarter in 2021 and our trajectory became more apparent, a question that was increasingly asked was how did all this come together so quickly, particularly in the face of the challenges from COVID?
Well, the answer is very simple, we rallied our team around our singular core belief that if we focused our energies, we could be the best additive manufacturing solutions company in the world.
Everything that distracted us from our singular mission was either stopped, shut down or sold, and we focused our entire efforts on reaching our goal.
This approach resonated strongly with our employees and our customers, and its effectiveness was reflected in our financial results, strong double-digit organic growth, industry-leading profitability, and positive cash performance.
Our shareholders benefited significantly as well as our share price rose by over 100% for the year, greatly outstripping our public company and industry competitors.
By staying committed to this approach and supporting it with a sound investment strategy, I believe this singular passionate focus will continue to serve us very well in the years ahead, creating significant value for all of our stakeholders.
One less obvious, but extremely important benefit to this performance has been our ability to increasingly attract key talent to our organization.
Just as in sports, everyone wants to be part of a winning team and to be recognized for the unique value they bring to the game.
Like the market itself, talented individuals are able to distinguish between companies that offer promises of future success versus those that deliver on their promises each day.
Perhaps the most visible public examples of our organizational success in 2021 was the hiring of a new chief technology officer and a new chief scientist for additive manufacturing, both of whom came with outstanding industry experience and credentials.
However, equally exciting to me has been the influx of outstanding young engineers and other professionals who bring with them talent, unbridled enthusiasm, diversity, and exceptional creativity.
One indicator of this success has been our interim program for college students, which we started at the height of COVID in the summer of 2020.
Since inception, we've averaged over 100 applicants for every internship position we've created, and these numbers continue to rise each year.
The energy and excitement of these young professionals, who represent the future of our business, is absolutely contagious, and their impact is being felt throughout our company.
In these challenging times, never has the need to attract the best talent been more important, and I'm extremely pleased with our progress in this area.
As we completed our divestitures late in the year and continue to gain momentum in the market, we turned our attention increasingly to investing for growth.
We first prioritized our internal investments in R&D and infrastructure, firming up our new product plans and priorities.
Our efforts bore fruit in the fourth quarter with the release of the -- of three new powder bed printing systems, including our SLS 380 polymer-based system as well as our DMP Flex 200, and DMP 350 Dual metal-based printers, the latter of which is a dual-laser version of our top-selling single-laser system.
The increased productivity that our dual-laser system delivers is already expanding our market opportunities, particularly in healthcare business, where productivity benefits to medical device customers has proved compelling.
In addition to these new printing systems, in 2021, we released the largest number of new material offerings in our company's history.
These materials span all of our polymer technology platforms and address key application needs such as those requiring precision surface finishes, fire retardancy, and improved strength and toughness characteristics.
This expertise in polymeric materials technology is a key differentiator for our company in the marketplace and an important sustainable competitive advantage.
Given the exciting lineup we have ahead for all of our product lines and our rapidly growing demand outlook, we've decided to incrementally increase our R&D commitment for 2022 in order to bring these products to market at regular intervals over the next year.
We look forward to sharing highlights of our new product introductions with you in the months ahead.
In addition to our new hardware introductions, customer feedback over the last year made it very clear that software will play an increasingly important role in the move of 3D printing from the laboratory into factory production environments.
While for many years, we've had very strong software offerings to control and optimize the print process itself, production-focused customers have now clearly identified the need for a software system that can control entire fleet of printers regardless of the manufacturer as well as an array of post-print inspection and in-line automation processes spanning from raw material to finished parts.
An additional challenge is the need to be fully compatible with existing enterprise systems such as SAP, Oracle, Microsoft, and Salesforce in order to minimize factory disruption and costly upgrades as production additive workflows are introduced.
In short, in order to be successful at scale in a factory environment, our customers need a cloud-based manufacturing operating system that could optimize and manage the entire workflow, applying native AI and leveraging machine intelligence to maximize component quality and throughput.
To meet this challenge, in 2021, we significantly strengthened our software portfolio with the acquisitions of Additive Works, which brings real-time process simulation to optimize the printing of new components and production; and Oqton, a unique and versatile cloud-based manufacturing operating system that meets all of the key requirements articulated by our customers.
We believe the Oqton system will not only benefit the adoption of our company's solutions, but could dramatically expand the adoption of additive manufacturing for all companies in our industry.
For this reason, we've opened our Oqton software suite, which includes our entire legacy software portfolio as optional add-ons, to the entire additive industry as well as our collective customer base.
We've been pleased to see numerous equipment suppliers have already announced plans to partner with Oqton, and we look forward to the growth we believe it will enable.
In addition to software in 2021, we also expanded in exciting new markets through the acquisition of Volumetric and Allevi in the regenerative medicine space.
These two acquisitions leverage breakthroughs that we've made in the printing of biomaterials as a part of a multiyear development effort with United Therapeutics, the goal of which is to ultimately manufacture an unlimited supply of human organs for transplantation, beginning with the human lung to meet the needs of critically ill patients around the world.
This expansion into 3D printing technology for biologics is an important long-term growth plan for the company that I've spoken about extensively in past quarters, so I'll limit the time today.
But suffice it to say that I'll look forward to updating you on our progress in this incredible area of development in the future.
Altogether, our four acquisitions completed in 2021 supported our strategic focus by adding technologies that complement our core strength in additive manufacturing, bringing these capabilities to new and exciting markets, which we believe will continue fueling our growth and profitability well into the future.
By the end of 2021, with these acquisitions having closed, we exited with roughly $800 million in cash on our balance sheet for the future.
Before we turn to our plan for 2022, I'll take a minute to comment on the unique foundation that creates our leadership position in the additive manufacturing industry.
In short, we're a full solution provider, meaning that we bring together the industry's broadest set of metal and polymer printing technologies, hundreds of unique materials and industry-leading software platforms, using our exceptional applications expertise to deliver production-ready solutions for industrial and healthcare customers around the world.
The effectiveness of this approach has proven itself over time through the installation of hundreds of production printing systems across countless factory sites around the world.
This scale has a tremendous advantage, not only increasing our operating efficiencies, but also in providing critical ongoing customer application support as well as 24/7 service to our customers, no matter where they're located, over the life of their investments.
We're proud to say that our installed base currently prints over 700,000 parts per day, which is more than the rest of the industry combined.
This production experience is invaluable in providing the feedback needed for us to adapt to the ever-changing needs of our customers in this volatile, but exciting time.
And lastly, we continue to innovate, invest and grow our business, all while tightly managing our financial performance.
For customers moving to additive manufacturing is a very strategic decision.
Any customer investing significant capital and fleet of hardware to adopt additive manufacturing at a production scale wants to know that their partner is financially sound and has the scale, capability, and commitment to support them wherever they operate over the immediate and the long term.
Our combination of scale, expertise and financial profile is the best in the industry, inspiring the confidence of our customers as they balance their growth opportunities with the ever-present risks that we all face in this complicated global economy.
Simply put, we're increasingly the partner of choice for companies ready to make significant long-term investments in additive manufacturing.
So where do we go from here?
Well, first and foremost, we continue to run a disciplined business, balancing our short- and long-term performance and making prudent investments for the future.
Given our operating momentum, our demand outlook and our financial strength, we continue to look for investments that will enhance our customers' capability to adopt additive manufacturing, while delivering strong returns for our shareholders.
This has led us to two additional acquisitions, which we announced last week, each of which bring us a new unique technology for our industrial and healthcare businesses.
The companies are called Titan Robotics and Kumovis, and I'd like to spend a few minutes discussing each.
Titan Robotics based in Colorado is the market leader in 3D printing systems using pellet-based extrusion.
This technology addresses critical customer applications requiring large build volumes, superior performance, and improved productivity at significantly lower cost.
Through Titan, we can now provide solutions to new applications in markets such as foundries, consumer goods, service bureaus, transportation and motorsports, and aerospace and defense and general manufacturing.
Like 3D systems, Titan takes a solution-based approach with customers, working to ensure they provide the best product to address the customers' application.
They are the only manufacturer offering hybrid tool head configurations that include any combination of pellet extrusion, filament extrusion, and spindle tool heads for component finishing.
This unique capability gives customers the flexibility to choose the best production printer configuration to meet their specific application needs, with the selective use of pellet-based polymers providing a significant cost advantage over filament-based systems.
With an open system architecture, a Titan printer has available to it hundreds of standard polymer formulations, allowing customers to not only select the ideal material for their application, but also realize potential cost savings of up to 75% versus traditional filament extrusion.
With Titan's technology and our go-to-market reach as well as the combination of Titan's engineers and our applications group, we're confident we can rapidly expand into the extrusion marketplace for our industrial business.
Moving next to Kumovis.
They are a very special engineering company headquartered in Munich, Germany, with a strong focus on the development and commercialization of a unique 3D printing system for use with medical-quality PEEK materials.
PEEK, which stands for polyether ether ketone, is a high-performance polymer material that's approved for use in the human body for orthopedic applications.
It simulates the properties of human bone very effectively.
To date, PEEK has been fabricated for these applications using slow, expensive, and wasteful machining techniques, which have limited its usage in medical implants.
The Kumovis 3D printing technology is unique, allowing high-volume, cost-effective manufacture of custom medical implants.
This acquisition is a perfect fit with our current healthcare business and will allow us to expand from our historical leadership in titanium orthopedic implants to now offer customers a choice between titanium and PEEK polymeric solutions, each of which have their own specific use cases.
Integrating Kumovis into our healthcare business will drive growth in three principal areas.
The first is craniomaxillofacial reconstruction, which has been a cornerstone of 3D Systems healthcare for many years and one in which we're the dominant player for titanium solutions today.
Having the unique Kumovis printing capability will allow us to expand our virtual surgical planning portfolio to include PEEK implants in addition to surgical instrumentation and on anatomical models.
The second application area is spinal cages, where 3D Systems is a leader in the development, production and sale of both implanted titanium components and complete printing systems for in-house OEM medical production.
Kumovis expands the material options for customers in this key product line, enhancing patient experience by allowing us to provide the best solution custom-tailored for each patient.
And third, bone plates for trauma patients.
Kumovis is developing a carbon fiber-reinforced PEEK process for bone plate applications for patients suffering from severe trauma and fractures.
In addition to mass-produced custom patient solutions, Kumovis has also developed a unique self-contained clean room printing system, which opens new opportunities for 3D Systems to expand our point-of-care market segment for trauma patients, where printing capability is provided locally within the hospital or even within the surgical suite itself.
These applications offer perfect complements to the point-of-care work we're doing today with large medical institutions such as the VA hospital system.
We believe the point-of-care printing for customer patient solutions will be an increasingly exciting market in the years ahead and one for which we're a clear leader.
When taken in total, we believe the Kumovis market opportunity is measured in hundreds of millions of dollars, and the synergies with our current offerings and infrastructure are outstanding.
Given the FDA approvals that are already in place for PEEK materials in human applications, we expect regulatory clearance for printed PEEK components to be granted later this year and that this technology will contribute in a meaning way to our healthcare business in the years to follow.
So in summary, with our tremendous progress over the last 18 months, our continued strong momentum, our breadth of technology combined with our clear application leadership, and the benefits of scale as one of the largest pure-play additive manufacturing companies, we entered 2022 with a great deal of optimism.
This optimism is not only for 3D systems, but for the additive manufacturing industry as a whole.
As new production opportunities open each day, we firmly believe that additive manufacturing adoption and production settings will continue to grow at an exciting pace, and we're confident that we will help lead this transformation.
Our value proposition is simple.
We offer the strongest and most complete portfolio of additive manufacturing technologies brought together with the most knowledgeable and creative engineering teams to solve the most valuable application needs of our customers.
We do so by combining a belief in financial discipline with an overlay of strategic perspective to guide our continued investments for the future.
As we look forward, we see a growing industry and a tremendous potential to serve our customers.
For us, 2022 will be a year of exciting growth and investment as we continue to strengthen the company for the future.
Our investments will continue as they have over the last year, including adding industry-specific application expertise, back-office infrastructure, and this is important, the foundational technologies that enable the value we bring to our customers.
Specifically, we'd expect that over the next 18 months, we will refresh our entire lineup of metal and polymer hardware platforms while continuing to release record numbers of new materials and improvements to our software products offered through Oqton.
In partnership with United Therapeutics, we will make substantive progress in our regenerative medicine efforts, creating what we believe will be significant value in the years ahead.
We recognize that bureaucracy is an impediment to growth.
So we're committed to remain a lean and nimble organization that challenges itself to execute flawlessly, introducing new products on an almost continuous basis while reducing manufacturing costs and maintaining industry-leading quality.
Growing adoption of our technology into customer production applications will drive high-margin, post-install recurring revenue streams via consumable materials, software and services.
In the coming years, we're confident that this focused approach and simple business model will result in consistent year over year double-digit organic growth with expanding gross margins, our goal of which is to exceed 50% over time.
With 3D systems at the forefront and driving adoption of additive manufacturing, we'll continue to transform existing industries within healthcare and industrial markets as well as creating entirely new markets such as regenerative medicine.
As Jeff said, 2021 was a tremendous year.
Our teams worked extremely hard and delivered outstanding results, which I'm pleased to share with you today.
I'll begin the discussion with full year 2021 numbers, starting with revenue.
Revenue for 2021 was $615.6 million, an increase of 10.5% compared to the prior year.
This increase occurred despite the divestiture of our portfolio of noncore businesses.
When adjusted for those divestitures, 2021 revenue increased 31.8% as compared to 2020, and versus pre-pandemic 2019, revenue increased 16.9%.
This impressive performance against both 2020 and 2019 validates the transformation efforts we have guided the company through and upon which our team has executed over the past several quarters.
Our strategy of providing additive manufacturing solutions for industrial and healthcare customers, utilizing a broad portfolio of hardware, materials and software solutions, combined with applications expertise, is delivering consistent, strong double-digit revenue growth.
Gross profit margin for 2021 was 42.8%, compared to 40.1% in the prior year.
Non-GAAP gross profit margin was 43%, compared to 42.6% in the prior year.
Gross profit margin increased primarily as a result of prior year nonrecurring write-downs related to equipment and inventory.
Operating expenses for 2021 on a GAAP basis decreased 13.3% to $296.8 million compared to the prior year.
On a non-GAAP basis, operating expenses were $214.7 million, a 9.4% decrease from the prior year.
The lower non-GAAP operating expenses are primarily a result of restructuring efforts done in late 2020 and businesses divested as part of the company's strategic plan.
We had GAAP earnings per share of $2.55 for 2021, compared to a GAAP loss per share of $1.27 in 2020.
The increase was primarily due to the gains recognized on businesses divested during 2021.
Our non-GAAP earnings per share for 2021 was $0.45, compared to non-GAAP loss per share of $0.11 in 2020.
This increase was primarily due to our higher revenue combined with the lower operating expenses talked about earlier.
Now we'll turn to fourth quarter results.
For the fourth quarter, we generated revenue of $150.9 million, a decrease of 12.6% compared to the fourth quarter of 2020.
The decrease is a result of the aforementioned divestitures.
When adjusted for divestitures, we saw strong double-digit growth of 13.1% versus Q4 2020, a 10.4% increase over Q3 2021, and impressively, a 21.9% increase versus pre-pandemic Q4 2019.
We are seeing great demand in both healthcare and industrial segments that are driving this consistent growth in our core business, which I'll speak to in more detail shortly.
In the fourth quarter, we had GAAP loss per share of $0.05, compared to GAAP loss per share of $0.16 in the fourth quarter of 2020.
Non-GAAP earnings per share was $0.09, flat to non-GAAP earnings per share of $0.09 in the fourth quarter of 2020.
As I mentioned earlier, our revenue growth is being driven by strong demand in both healthcare and industrial segments.
On a full year basis, adjusted for divestitures, revenue in 2021 for healthcare increased 40.1% and industrial increased by 24.4% as compared to 2020.
The rebound in Industrial began in Q4 of 2020 and has continued through 2021.
Industrial revenue in the fourth quarter 2021 outpaced Q4 2020 by 22.2% and Q3 2021 by 12.4% after adjusting for divestitures.
In fact, this marks the fourth consecutive quarter of year-over-year organic growth in the industrial segment.
This consistent growth pattern is a result of the strategic investments we have made such as adding crucial application expertise in key industrial subsegments like aerospace and transportation as well as our focus on materials development to provide customer solutions to complex problems.
And perhaps most importantly, we continue to invest in our software platform, which not only enables customers to move from design to successful build faster than ever, but also allows them to literally run their entire manufacturing process with one integrated cloud-based software solution.
This will be a key driver in empowering customers to make the transition from traditional to additive manufacturing at an ever-increasing pace.
And our investment in Titan Robotics, with their extrusion-based technology, opens up even more opportunities for our industrial business to grow as we enter new markets.
Healthcare growth was broad-based in 2021 from dental to personalized healthcare and point-of-care services, with dental enjoying a large tailwind from the sale of materials for aligners, crowns, and dentures.
These subsegments are heavily influenced by patient access to dental and medical offices.
2021 ended with a substantial wave of omicron cases and a similar pattern to the original COVID wave.
Patients were either unable to get appointments or offices were understaffed due to infections, resulting in a reduction in short-term demand for certain elective healthcare procedures during Q4.
As such, we expect material sales to moderate early in 2022 as existing inventory, originally meant for Q4, is consumed during the first half.
But demand should remain strong for Healthcare as the backlog of appointments are filled throughout the year.
In addition, our investment in Kumovis opens up new markets for us, medical devices.
We have a leadership position in this area and are now able to satisfy customer application requests for parts and hardware that require medical-grade polymers like PEEK.
Now we turn to gross profit margin.
GAAP gross profit margin was 43.9% in the fourth quarter 2021, bringing the full year GAAP gross profit margin to 42.8%, as compared to 40.1% for the full year 2020.
Non-GAAP gross profit margin in the fourth quarter was 44.1%, bringing the full year non-GAAP gross profit margin to 43%, compared to 42.6% for the full year 2020.
Gross profit margin and non-GAAP gross profit margin increased in the fourth quarter, primarily as a result of better absorption of supply chain overhead resulting from higher production volumes combined with strong inventory management, resulting in reduced obsolescence.
GAAP operating expenses decreased 2.3% to $70.1 million in the fourth quarter of 2021 compared to the same period a year ago.
On a non-GAAP basis, operating expenses were $54.3 million, a 6.4% decrease from the same period a year ago, driven primarily by lower SG&A expenses due to restructuring efforts and divestitures.
GAAP operating expenses for the full year 2021 decreased 13.3% to $296.8 million compared to the prior year, primarily as a result of a goodwill impairment charge of $48.3 million and cost optimization charges of $20.1 million that both occurred in 2020.
On a non-GAAP basis, operating expenses were $214.7 million in 2021, a 9.4% decrease from the prior year.
The lower non-GAAP operating expenses are primarily a result of restructuring efforts done in late 2020 and businesses divested as part of the company's strategic plan.
Adjusted EBITDA, defined as non-GAAP operating profit plus depreciation, was $74.1 million for full year 2021 or 12% of revenue, compared to $28.7 million for full year 2020 or 5.2% of revenue.
The year-over-year improvement was primarily due to higher revenue in spite of divestitures and lower operating expenses as a result of cost optimization actions and divested businesses.
Now let's turn to the balance sheet.
I will begin by noting that we issued a $460 million five-year convertible bond in the fourth quarter.
We decided to issue this bond after considering the growth potential of our industry and business and the robust investment opportunities that we see going forward.
The marketing of our bond met with a very healthy demand, and we were able to issue our bond at a 0% coupon, providing the company with a significant arsenal for investment with very low carrying costs.
After completing this bond offering and combined with our previous activities of divesting noncore assets, making strategic organic investments and generating $48.1 million of cash from operations, we ended the year with $789.7 million of cash on hand, an increase of $705.3 million from the beginning of 2021.
We believe we are good stewards of investor capital as we manage our cash and evaluate investment options that will drive future growth and profitability.
We were excited to have an early opportunity to invest some of our cash as we expand our hardware technology to include two extrusion-based platforms through the acquisitions of Titan Robotics and Kumovis.
The acquisitions are expected to close in the second quarter.
We are very excited about these investments.
Both of these acquisitions bring unique capabilities and are well positioned for the industrial and healthcare applications that they intend to serve.
We expect that these acquisitions will add a point or more of organic growth and be accretive to earnings in 2023.
Going forward, we believe cash from operations, along with a portion of cash on hand, will fund organic growth opportunities.
And we will continue to explore a robust M&A pipeline to support our strategy of driving recurring revenue growth and greater adoption of additive manufacturing in both the industrial and healthcare segments.
I want to reiterate my view that our revenue growth, strong adjusted EBITDA, cash generation, and cash available for investment, sets us apart from others in our industry.
Beginning last year, we provided guidance on full year non-GAAP gross profit margins.
This year, we are expanding our guidance to include revenue and non-GAAP operating expenses.
We believe these are helpful data points for investors to evaluate our company.
For full year 2022, we expect revenue to be within a range of $570 million and $630 million, non-GAAP gross margins to be between 40 and 44%, and non-GAAP operating expenses to be between 225 million and $250 million.
Our revenue guidance reflects our expectation of an expanding additive manufacturing opportunity that will drive demand and, as a result, our continued revenue growth adjusted for divestitures.
At the same time, we see demand continuing to expand not just in 2022, but in future years as well.
As a result, our operating expense guidance includes our commitment to invest organically in the technology behind our market-leading hardware, materials and software platforms as well as investing in the right talent to continue the successful execution of our strategy.
We believe these investments will position the company to continue to lead the additive manufacturing industry with robust market-leading solutions.
Our guidance does not include the potential for significant additional macroeconomic events that could negatively impact our business such as COVID-19, geopolitical events or other factors that could further impact either demand or disrupt our supply chain.
It will be held in Detroit on May 16 prior to the opening of the RAPID + TCT trade show, a leading additive manufacturing conference.
This will be an in-person event, and we are excited to give attendees more details about our strategic vision, including our plans for new products, services and exciting new applications.
Invitations will be coming soon.
We hope to see you there.
With that, we will open it up to questions. | q4 non-gaap earnings per share $0.09.
q4 gaap loss per share $0.05.
q4 revenue fell 12.6 percent to $150.9 million.
expects full-year 2022 revenue to be within a range of $570 million and $630 million.
expects full-year 2022 non-gaap gross margins to be between 40% to 44%. |
Joining us today on the call are Jordan Kaplan, our president and CEO; Kevin Crummy, our CIO; and Peter Seymour, our CFO.
You can also find our earnings package at the investor relations section of our website.
You can find reconciliations of non-GAAP financial measures discussed during today's call in the earnings package.
Our actual results will be affected by known and unknown risks, trends, uncertainties and factors that are beyond our control or ability to predict.
Although we believe that our assumptions are reasonable, they are not guarantees of future performance, and some will prove to be incorrect.
Therefore, our actual future results can be expected to differ from our expectations, and those differences may be material.
When we reach the question-and-answer portion, in consideration of others, please limit yourself to one question and one follow-up.
I'm pleased to report that our rent collection and leasing activity improved during the fourth quarter, despite continued headwinds from the pandemic and tenant-oriented lease enforcement moratoriums.
In recent months, we have started to see movement on tenant payment plans for rent deferred under the pandemic.
To date, we have reached agreements with tenants who own about 15% of the outstanding balances.
These deals are exempt from the moratorium protections, and we have already begun collecting deferred rent under them.
Except for immaterial amounts, we have not forgiven rent and we still expect to collect a large majority of all past due amounts.
In prior downturns, the impact of personal guarantees and small business owners' commitment to their companies have kept our default rate extremely low.
Our cash collections have also improved.
As of today, we have collected 92.7% of our rent from the three quarters affected by the pandemic, including 96% of our residential rent, 95% of our office rent and 45% of our retail rent.
We saw stronger leasing demand last quarter, driven primarily by small tenants.
We signed an impressive 197 leases, and retention was also above average.
We see the economy beginning to recover with tenants increasingly confident about their future.
As more tenants engage, we should shift back to positive absorption.
Of course, predicting the pace of recovery remains challenging at this early stage.
And because occupancy is a lagging indicator, we expect to see some further decline during the first half of this year.
Overall, we remain confident over the longer term.
As I've said throughout the pandemic, I believe that companies will return to the office.
Our tenants generally have short commutes, and they don't face significant mass transit, parking or vertical transportation barriers to reoccupancy.
In the meantime, Douglas Emmett remains well capitalized, with no debt maturities before 2023.
We own a dominant share of the best buildings in the best markets in LA, and there is no threat of material new office supply in the near future.
Our integrated operating platform is built to withstand recessions, and our team continues working to get better every day.
Our two multi-family development projects continue to make impressive headway.
The demand for new units at 1132 Bishop, our office to residential conversion project in downtown Honolulu, remains robust.
As I previously mentioned, we have fully leased the first phase of 98 units, and by year end, it already leased 29 out of the 76 units in the second phase.
Construction at our Brentwood high-rise apartment is nearly topped off, and delivery of the first units remains on schedule for early 2022.
In December, one of our joint ventures sold an 80,000-square foot Honolulu office property for $21 million.
Our decision to close the health club as a result of the pandemic triggered interest from a number of owner users targeting that type of space.
The buyer will use the club for space for youth vocational training and after-school programs.
Property transactions in our markets remain slow as many potential sellers are in a watch-and-wait mode given current uncertainties.
In Q4, we signed 197 office leases covering 612,000 square feet, including 202,000 square feet of new leases and 410,000 square feet of renewal leases.
As Jordan said, the recovery in demand from our tenants last quarter was led by our smaller tenants.
As a result, the average size of the leases we signed last quarter was 3,100 feet compared to our overall portfolio average of 5,600 square feet.
This resulted in our office lease percentage declining to 88.6%.
The leases we signed during the fourth quarter will provide almost 10% more rent than the expiring leases for the same space.
Although the initial cash rents were 5.8% lower as a result of large annual rent bumps over the term of the prior leases.
On the multifamily side, our lease rate improved to 98.2% from 97.5%, with gains in both West LA and Hawaii.
The fourth quarter reflected the continuing impacts from the pandemic.
FFO was $0.46 per share, down 15% from Q4 2019.
AFFO declined 16% to $76 million, and same-property cash NOI declined by 20%.
Compared to the third quarter, FFO increased by $0.06 from fire insurance proceeds and $0.02 from better collections and lower expenses.
Those increases were partly offset by $0.02 of issue advocacy expenses for the November election.
As a result, FFO increased by a net $0.06 per share compared to Q3.
At only 4.6% of revenues, our G&A for the fourth quarter remains well below that of our benchmark group.
Given the continuing uncertainties around the pandemic and local government ordinances, we are not providing guidance.
However, I do want to share some general observations based on what we currently see.
We expect further improvements in collections and parking revenue as the economy opens up and local moratoriums are lucent.
These will be gradual at first, but prior history suggests that we will collect a large majority of past due amounts in the end.
We expect that leasing will recover over the course of the year.
Because it is a lagging indicator, we expect occupancy to decline at least through the first half of the year.
We expect straight-line rent to be minimal in 2021, largely as a result of tenants who were put on a cash basis in 2020.
We expect revenue from above and below market leases to resume its normal decline.
As usual, these observations do not assume the impact of future acquisitions, dispositions or financings. | douglas emmett quarterly ffo per share $0.46.
quarterly ffo per share $0.46.
expect straight line revenue to be minimal in 2021 and revenue from above/below market leases to resume its normal decline. |
Our call will include remarks from our CEO, Roger Hochschild; and John Greene, our Chief Financial Officer.
After we conclude our formal comments, there will be time for a question-and-answer session.
During the Q&A session, please limit yourself to one question, and if you have a follow-up question, please get back into queue, so we can accommodate as many participants as possible.
Last April, if you told me that a year into the pandemic we'd be reporting excellent credit performance, positive sales trends, and solid earnings growth, I wouldn't have believed it.
While the pandemic is far from over and there may be twists and turns ahead, as a nation, we have made tremendous progress toward addressing the health crisis and reopening the economy.
This quarter, we earned $1.6 billion after-tax or $5.04 per share.
I'm very pleased with these results, which reflect our robust business model, strong execution, including a disciplined approach to managing credit, improving economic trends and the impact of federal support for US consumers.
Since the end of 2020, our view on economic conditions has improved.
The rapid pace of the recovery has lessened our concern of job losses spreading to the white collar workforce and there is also been substantial support for the US consumer through stimulus in January and in March.
Our current expectation is that credit losses in 2021 will be flat to down year-over-year.
This improved economic view, combined with lower loan balances and continued strong credit performance, were the primary drivers of $879 million reserve release in the quarter.
As discussed in previous quarters, the strong credit performance was accompanied by elevated payment rates that continue to put pressure on loan balances, which were down 7% year-over-year.
Payment rates were over 350 basis points higher than last year and at their highest level since the year 2000.
While the impact from stimulus payments should abate over the next few months, we expect payment rates will remain elevated for the rest of the year as household use savings to meet debt obligations and continue to benefit from payment relief programs, such as federal student loan and mortgage payment forbearance.
Despite this pressure, we still expect modest loan growth this year supported by several factors.
First, there has been a significant increase in sales volume, up 11% from a year ago and up 15% from the first quarter of 2019.
Improving trends in categories like retail and restaurants are positive signs for future growth.
Additionally, based on our credit performance in our current outlook for macro conditions, we have begun to migrate our credit standards back to pre-pandemic levels.
This is particularly true in card, where our value proposition centered on best-in-class customer service, valuable rewards and no fees continues to resonate strongly among consumers.
We're also expanding credit standards and personal loans, but not quite back to 2019 norms.
To offset the higher payment rate, as well as leverage these credit actions, we intend to increase our marketing spending through the rest of this year.
Outside of marketing, we expect that expenses will be relatively flat year-over-year as we remain committed to expense management.
We're reinvesting some of the benefits from our strong credit performance and efficiency gains into technology and analytics to further improve our account acquisition targeting, fraud detection and collections capabilities.
The rapid pace of the economic recovery and strong credit performance may provide additional opportunities to lean further into growth.
We intend to take advantage of these opportunities and may make additional marketing and non-marketing investments that will create long-term value.
On the payment side, we had continued strong performance in our PULSE business, with volumes up 23%, driven by stimulus payments in the first quarter and higher average spend per transaction.
We also continue to expand our global acceptance through network partnerships, and this quarter, we signed new partners in Jordan and Malaysia.
Our digital banking model generates high returns and we remain committed to returning capital to our shareholders.
This quarter, we restarted our share repurchase program with $119 million in buybacks, in line with the regulatory restrictions still in place.
Looking at our strong credit performance and robust earnings, we see an opportunity to revisit our capital return to shareholders in the second half of the year.
As I look toward the future, I'm excited about Discover's prospects.
Our products continue to bring value to our customers.
We remain flexible as we support our employees and their families through the pandemic.
And we are well positioned to continue driving long-term value for our shareholders.
Today is her birthday.
So I want to wish Wanji a very Happy Birthday.
With that, I'll now ask John to discuss key aspects of our financial results in more detail.
I'll begin by addressing our summary financial results on Slide 4.
As Roger indicated, the results this period reflects many of the same dynamics we've seen over the past few quarters.
The influence of stimulus resulted in elevated payment rates, which pressured loan growth.
It also contributed to the strong asset quality and our significant reserve release in the quarter.
Revenue, net of interest expense, decreased 3% from the prior year, mainly from lower net interest income.
This was driven by a 7% decline in average receivables and lower market rates, partially offset by a reduction in funding costs as we continued to manage deposit pricing and optimize our funding mix.
Non-interest income was 5% lower, primarily due to a $35 million net gain from the sale of an equity investment in the prior year.
Consistent with our excellent credit quality, lower loan fee income reflects a decline in late fees, while net discount and interchange revenue was up 12% from the prior year, reflecting the increased sales volume.
The provision for credit losses was $2 billion lower than the prior year, mainly due to an $879 million reserve release in the current quarter, compared to a $1.1 billion reserve build in the prior year.
Our improved economic outlook, lower loan balances and strong credit drove the release.
Additionally, net charge-offs decreased 30% or $232 million in the prior year.
Operating expenses decreased 7% year-over-year as we remain disciplined on expense management.
Other than compensation, all other expenses were down from the prior year, led by marketing, which decreased 33% year-over-year.
Looking ahead, we intend to accelerate marketing investments over the remainder of the year.
We'll go into details on our spending outlook in a few moments.
Moving to loan growth on Slide 5.
Total loans were down 7% from the prior year, driven by a 9% decrease in card receivables.
The reduction in card receivables was driven by two primary factors.
First, the payment rate remains elevated, driven by the latest round of stimulus and improved household cash flows.
Second, promotional balances have continued to decline, reflecting the actions we took at the onset of the pandemic to tighten credit.
As a result, these balances were approximately 300 basis points lower than the prior year.
Although we expect new account growth will cause promotional balances to begin to stabilize.
As the economy reopens further, we believe consumer spending and prudent expansion of our credit box should drive profitable loan growth going forward.
Looking at our other lending products.
Organic student loans increased 5% from the prior year and originations returned to pre-pandemic levels.
We continue to gain market share through mini peak season.
Personal loans were down 9%, primarily due to the actions we took early in the pandemic to minimize credit loss.
As we previously mentioned, we see opportunity to expand credit a bit given the strong performance of this portfolio.
Moving to Slide 6.
The net interest margin was 10.75%, up 54 basis points from the prior year and 12 basis points sequentially.
Compared to the prior quarter, the improvement in net interest margin was driven by lower deposit pricing as we cut our online savings rates from 50 basis points to 40 basis points during the quarter.
We also continue to benefit from the maturity of higher rate CDs and a favorable shift in funding mix.
Our funding from consumer deposits is now at 65%.
Future deposit pricing actions will be dependent upon our funding needs and competitor pricing.
Average consumer deposits were up 14% year-over-year and flat to the prior quarter.
Consumer CDs were down 7% from the prior quarter, while savings and money market increased 4%.
Loan yield was flat to the prior year.
Seasonal revolve rate favorability and a lower mix of promotional rate balances were offset by the impact of reduced pricing on personal loans.
Looking at Slide 7.
Total non-interest income was $465 million, down $25 million, or 5% year-over-year, driven by the one-time gain in the prior year that I previously mentioned.
Excluding this, non-interest income was up 2%.
Net discount and interchange revenue increased 12% as revenue from higher sales volume was partially offset by higher rewards cost.
The decrease in loan fee income was driven by lower late fees, which move in line with delinquency trends.
Looking at Slide 8.
Total operating expenses are down $78 million, or 7% from the prior year.
Marketing and business development decreased $77 million, or 33% year-over-year.
The reduction reflects actions we implemented in March of last year to align marketing spend with tightened credit criteria.
However, we accelerated our marketing spend late in the first quarter and plan to continue this through the year.
These investments will drive new account acquisition and loan growth.
The year-over-year decrease in other expenses was mainly driven by lower fraud volume to an -- due to enhanced analytics around disputed transactions and decreased fraud in deposits.
This improvement demonstrates a small part of the benefit we expect from the investments we've made in the analytics over the past few years.
Partially offsetting the favorability was a $39 million increase in employment compensation, that was driven by two factors: $22 million from a higher bonus accrual in the current year.
The remaining increase was driven by higher average salaries, reflecting the talent build in our technology and analytics team.
Moving to Slide 9.
We had another strong quarter of very strong credit performance.
The total charge-offs were 2.5%, down 79 basis points year-over-year and up 10 basis points sequentially.
The card net charge-off rate was 2.8%, 85 basis points lower than the prior year with the net charge-offs dollars down $209 million, or 31%.
Sequentially, the card net charge-off rate increased 17 basis points and net charge-off dollars were up $11 million.
The increase in card net charge-offs from the prior quarter was driven by accounts that had been in Skip-a-Pay and did not cure.
The program ended six months ago, and at this time, most of the accounts that were in Skip-a-Pay have returned to making payments.
Looking forward, we expect minimal impacts to charge-offs from this population.
The card 30-plus delinquency rate was 1.85%, down 77 basis points from the prior year and 22 basis points lower sequentially.
With the influence of the Skip-a-Pay group now largely complete, we think that delinquencies are the most clear indicator of our loss trajectory over the short-term.
Credit remained strong in private student loans.
Net charge-offs were down 15 basis points year-over-year and 18 basis points compared to the prior quarter.
The 30-plus delinquency rate improved 55 basis points from the prior year and 19 basis points sequentially.
In personal loans, net charge-offs were down 79 basis points year-over-year with a 30-plus delinquency rate down 47 basis points from the prior year and 24 basis points from the prior quarter.
The positive impact of additional stimulus, combined with an improved economic outlook, have shifted our expectation on the timing of losses.
We had previously expected losses would increase in the second half of this year and remain elevated into 2022.
That is no longer the case.
Based on our current delinquency trends, we believe losses are likely to be flat to down this year with the possibility of some increase in 2022.
That said, a material shift in the economic environment could offer the timing and magnitude of losses.
Moving to the allowance for credit losses on Slide 10.
This quarter, we released $879 million from the allowance.
This reflected several factors, including favorable changes to our macro assumptions, a moderate decrease in our loan balance, the continued decline in delinquencies, and lower losses.
Relative to our view in January, the economic outlook has continued to improve.
As we've done in prior quarters, we've modeled several different scenarios and took a conservative but more optimistic view.
Our assumptions on unemployment for a year-end 2021 rate of 6%, with a return to full employment in late 2023, we assume GDP growth of about 4.6%.
Our reserve assumptions did not contemplate any additional stimulus directed to consumers, but did anticipate broader economic benefits from infrastructure spending beginning in the second half of this year.
The modest increase to reserves in our student loan portfolio was driven by loan growth coming out of the mini peak season.
Looking at Slide 11.
Our common equity Tier 1 ratio increased 180 basis points sequentially to 14.9%, well above our internal target of 10.5%.
We have continued to fund our quarterly dividend at $0.44 per share and repurchased $119 million of common stock during the quarter.
Our Board of Directors previously authorized up to $1.1 billion of repurchases.
We will likely accelerate our share repurchases in the second quarter and we see the potential for capital returns to increase in the second half of the year.
As I mentioned earlier, we continue to optimize our funding mix and consumer deposits now make up 65% of total funding.
Our goal remains to have 70% to 80% of our funding from deposits, which we feel is achievable.
Though, we expect some quarter-to-quarter variability in this figure.
Moving to Slide 12.
Our perspectives on 2021 have evolved from last quarter.
We continue to anticipate modest positive loan growth for the year.
We are investing in new account acquisition and have already seen strong sales growth through the first quarter.
High payment rates will continue to pressure loan growth near-term but should become less of a headwind over the course of the year.
Versus the first quarter level, we expect our NIM to remain in a relatively narrow range over the rest of the year.
While we'll continue to benefit from improved funding cost and mix, we may experience modest yield pressure over the next few quarters from variability in the revolve rate.
Our commitment to expense management has not changed.
But as Roger mentioned, we believe there is an opportunity to drive long-term growth through increased marketing and further investments in data and analytics.
Excluding marketing, expenses should be near flat from the prior year.
Credit performance has remained stronger than originally anticipated, and we now expect credit losses to be flat to down compared to 2020.
Lastly, we remain committed to returning capital to shareholders through dividend and buybacks.
Given the level of reserve release and the strength of our fundamental performance, we plan to revisit our capital plan -- capital return levels for the second half of this year.
In summary, we're pleased with our first quarter results.
Our sales trend, credit expansion and marketing investments positioned us well for growth going forward.
We released $879 million of reserves.
NIM continue to improve, driven by lower funding costs, and expenses were down, but we'll invest in marketing and analytics that will drive revenue, as well as operating and credit cost improvements over the longer-term.
As the economy reopens, I'm positive regarding the opportunities for growth.
We have a strong value proposition that resonates with consumers and our digital banking model positions us well for strong returns going forward. | compname reports first quarter net income of $1.6 billion or $5.04 per diluted share.
compname reports first quarter net income of $1.6 billion or $5.04 per diluted share.
q1 earnings per share $5.04.
net interest income for quarter decreased $68 million, or 3%, from prior year period.
q1 of 2021 included an $879 million reserve release, compared to a reserve build of $1.1 billion in q1 of 2020. |
Our call today will include remarks from our CEO, Roger Hochschild; and John Greene, our Chief Financial Officer.
After we conclude our formal comments, there will be time for question-and-answer session.
During the Q&A session, you will be permitted to ask one question, followed by one follow-up question, after your follow-up question, please return to the queue.
We had a very good quarter that highlighted the strength of our digital business model and solid execution on our strategic priorities against the backdrop of continued economic improvement.
This quarter was characterized by three important events.
First, our card receivables grew sequentially in May and June, causing our period-end receivables to be up quarter-over-quarter.
This outcome, combined with the strength in consumer spending and our account acquisition, increased our confidence for moderate receivables growth this year and stronger growth in 2022.
Second, we benefited from a gain in our Payment Services segment.
This gain is an outgrowth of a long [Technical Issues] commercial relationship and underscores our payments ability to forge innovative and lasting partnerships.
Lastly, we achieved a historic low in delinquencies, which resulted from consumers' strong liquidity position, our conservative stance on underwriting, and the proactive measures we took into the downturn to protect our credit quality.
This outcome also supported our reserve release this quarter.
Turning to the quarter's results.
We earned $1.7 billion after tax or $5.55 per share.
These results include a $729 million one-time gain.
But even excluding this gain, our results were very strong at $3.73 per share.
The drivers of the quarter's strong results reflect the combination of our solid execution and supportive macro conditions.
Total sales were, up 48% from a year ago, and 24% from the second quarter of 2019.
Retail sales remained very strong, and there was significant improvement in T&E categories, which were hardest hit by the pandemic.
Even travel returned to growth in June, compared to [Technical Issues] levels.
And sales volumes are accelerating.
The 24% growth I cited is an increase from 15% in the first quarter relative to the same period in 2019.
We also see an attractive environment for account acquisition even in the face of heightened competition.
We have removed nearly all of our pandemic credit tightening and have increased our marketing investment to align with these actions.
These decisions supported new account growth of 26% over 2019 levels with strong growth among prime consumers as our differentiated brand and integrated networks support our strong value proposition, which centers on transparent and useful rewards, outstanding customer service and no annual fees.
While the current operating environment is broadly constructive, there are also some challenges.
As we have highlighted before, the counterpoint of sustained strong credit performance is high payment rates, which in the second quarter were over 500 basis points above 2019 levels.
We may be seeing evidence that payment rates are plateauing, and while we expect some moderation later this year, we believe payment rates will remain above historical levels for some time.
Even so, we expect to strengthen our sales figures and the contribution from new accounts to drive loan growth through the back half of this year and accelerate in 2022.
As we have said in the past, we will invest when we see attractive opportunities and the actions we took this quarter with increased marketing expenses in investments and technology and analytics were an example of that approach.
These investments are consistent with our commitment to long-term positive operating leverage and an improving efficiency ratio as they drive loan growth and enable a more efficient operating platform.
In our Payments business, we benefited from a gain on our equity investment in Marqeta.
This gain was the result of a relationship that began a decade ago, and we continue to see opportunities [Technical Issues] and innovative partnerships.
I'm very excited about our investment in CECL that was [Technical Issues] week, as we look to expand our partnership with a leading buy now, pay later provider.
We also continue to grow our global acceptance presence and announced new partnerships in Bahrain and Portugal, adding to the two network alliances that we announced earlier this year.
Our debit business continued to build on its recent strength.
PULSE volume increased 19% year-over-year and was up 33% from 2019 levels.
In addition to the influence of economic recovery, this performance reflects the greater relevance of debit to many consumers through the pandemic period.
Volume at Diners has also recovered to some extent and was, up 41% from the prior year's lows.
However, volume is still below pre-pandemic levels and may remain so for a period of time.
The strong fundamental performance of our digital banking model drove significant capital generation, which this quarter was also aided by our equity gain.
We accelerated our share repurchases to $553 million of common stock, a level near the maximum permitted under the Federal Reserve's four quarter rolling net income test.
We remain committed to returning capital to our shareholders.
And going forward, our approach will be governed by the stress capital buffer framework.
On our call last quarter, we indicated that we hope to revisit our capital return for the second half of this year.
And I'm very pleased that our Board of Directors authorized the new $2.4 billion share repurchase program that expires next March.
We also increased our quarterly dividend from $0.44 to $0.50 per share.
With the current strength of the US economy, I'm increasingly optimistic about our growth opportunities this year and beyond.
Our value proposition continues to resonate with consumers.
Our Payment segment is expanding its partnerships and acceptance and our capital generative model positions us for strong returns over the long-term.
I'll now ask John to discuss key aspects of our financial results in more detail.
I'll begin with our summary financial results on Slide four.
As Roger noted, our results this quarter highlighted the strength of our digital model, solid execution on our priorities and continued improvement in the macroeconomic environment.
Revenue, net of interest expense, increased 34% from the prior year.
Excluding one-time items, revenue was up 9%.
Net interest income was up 5% as we continue to benefit from lower funding costs and reduced interest charge-offs, reflecting strong credit performance.
This was partially offset by a 4% decline in average receivables from the prior year levels.
Excluding one-time items, non-interest income increased 29%, driven by the higher -- by higher net debt count and interchange revenue, due to strong sales volume.
The provision for credit losses decreased $2 billion from the prior year, mainly due to a $321 million reserve release in the current quarter, compared to a $1.3 billion reserve build in the prior year, an improvement in the economic [Technical Issues] and ongoing credit strength were the primary drivers of the release.
Net charge-offs decreased 41% or $311 million from the prior year.
Operating expenses were, up 13%, primarily reflecting additional investments in marketing, which was up 36% and employee compensation, which was up 10%, a software write-off and a non-recurring impairment at Diners Club also contributed to the increase.
Moving to loan growth on Slide five.
Ending loans increased 2% sequentially and were down just 1% from the prior year.
This was driven by card loans, which increased 2% from the prior quarter and were down 2% year-over-year.
Lower year-over-year card receivables reflect two primary factors.
First, the payment rate remains high as households continue to have a strong cash flow position, due to several rounds of government stimulus.
Second, promotional balances were approximately 250 basis points lower than the prior year quarter.
While card receivables declined year-over-year, we considered a sequential increase to be an important data point reflecting continued momentum in account acquisition and very strong sales volume.
The high payment rate remains a headwind to receivable growth, although we expect to see modest decreases in late 2021.
Looking at our other lending products.
Organic student loans increased 4% from the prior year.
We are well positioned as we enter the peak origination season.
Personal loans were down 6%, driven by credit tightening last year and high payment rates.
We are encouraged by continued strong credit performance in the portfolio and have expanded credit for new originations.
Moving to Slide six.
Net interest margin was 10.68%, up 87 basis points from the prior year and down 7 basis points sequentially.
Compared to the prior quarter, the net interest margin decrease was mainly driven by a nearly 200 basis points reduction in the card revolve rate.
Loan yields decreased 17 basis points from the prior quarter, mainly due to the lower revolve rate.
This decline reflects the impact of increased payments, as well as seasonal trends.
Yield on personal loans declined 7 basis points sequentially, due to lower pricing.
Student loan yield was up 4 basis points.
Margin benefited from lower funding costs, primarily driven by maturities at higher rate CDs.
We cut our online savings rate to 40 basis points in the first quarter and did not make any pricing adjustments during the second quarter.
Average consumer deposits were, up 6% year-over-year and declined 1% from the prior quarter.
The entire sequential decline was from consumer CDs, which were down 9%, while savings and money market deposits increased 2% from the prior quarter.
Consumer deposits are now 66% of total funding, up from 65% in the prior period.
Looking at Slide 7.
Excluding the equity investment gains, total non-interest income was up $123 million or 29% year-over-year.
Net discount and interchange revenue increased $102 million or 43% as revenue from strong sales volume was partially offset by higher rewards costs.
Loan fee income increased $20 million or 24%, mainly driven by higher cash advance fees with demand increasing as the economy reopens.
Looking at Slide eight.
Total operating expenses were, up $145 million or 13% from the prior year.
Employee compensation increased $46 million, primarily due to a higher bonus accrual in the current [Technical Issues] versus 2020 when we reduced the accrual.
Excluding this item, employee compensation was down from the prior year as we've managed headcount across the organization.
Marketing expense increased $46 million from the prior year as we accelerated our growth investments.
We still see significant opportunities for growth and we plan to accelerate our marketing spend through [Technical Issues] to drive account acquisition and brand awareness.
Information processing was up due to a $32 million software write-off, the increase in other expense reflects a $92 million charge and the remainder of the Diners intangible asset.
Partially offsetting this was lower fraud expense, reflecting some of the benefits from our investments in data analytics.
Moving to Slide nine.
We had another quarter of improved credit performance.
Total net charge-offs were 2.1%, down 132 basis points year-over-year and 36 basis points sequentially.
The [Technical Issues] net charge-off rate was 2.45%, 145 basis points lower than the prior year quarter and down 35 basis points sequentially.
The net charge-off dollars were down $276 million versus last year's second quarter and $62 million sequentially.
The card 30-plus delinquency rate was 1.43%, down 74 basis points from the prior year and 42 basis points lower sequentially.
Credit in our private student loans and personal loans also remained very strong through the quarter.
Moving to the allowance for credit losses on Slide 10.
This quarter, we released $321 million from the reserves, due to three key factors: continued improvement in the macroeconomic environment; sustained strong credit performance with improving delinquency trends and lower losses; these were partially offset by a 2% sequential increase in loans.
Our current economic assumptions include an unemployment rate of approximately 5.5% by year-end and GDP growth of 7%.
Embedded within these assumptions are the expanded child care tax credits and the benefit from the infrastructure physical package beginning in late 2021.
Looking at Slide 11.
Our common equity Tier 1 ratio increased 80 basis points sequentially to 15.7%, a level well above our internal target of 10.5%.
As Roger noted, we are committed to returning capital.
The recent Board approval increasing our buyback and dividend payouts reflect that.
On funding, we continue to make progress toward our goal of having deposits [Technical Issues] 70% to 80% of our mix.
Moving to Slide 12.
Our perspective on 2021 continue to evolve as we see additional opportunities to drive profitable growth.
We have increasing confidence in our outlook for modest loan growth in 2021 as strong sales and our new account growth should offset the higher payment rates.
We expect NIM will remain in a relatively narrow range, compared to the first quarter levels of 75%, with some quarterly variability similar to what we experienced this quarter.
We anticipate a slight benefit from higher coupon deposit maturities and an optimized funding mix with yields affected by variability in the revolve rate.
Our commitment to disciplined expense management has not changed, and we remain focused on generating positive operating leverage and an improving efficiency ratio.
For this year, we now expect non-marketing expenses to be up slightly over the prior year, reflecting the higher compensation accruals and recovery fees.
The increase in the use expense categories is closely tied to the economic recovery.
For example, the high level of consumer liquidity is supporting elevated recoveries.
These recoveries have some costs associated with them, but are more than offset by lower credit losses.
Regarding marketing expenses, we expect this will step up more significantly in the second half of 2021 as we further deploy resources into account acquisition and brand marketing.
With the continued improvement in credit performance, our current expectation is that credit losses will be down this year, compared to 2020.
Naturally, a material change in the economic environment could shift the timing and magnitude of losses.
Lastly, as evidenced by our dividend increase and new share repurchase authorization, we remain committed to returning capital to shareholders.
In summary, we had another very strong quarter.
We are well positioned for a positive top line trajectory given our sales trends and new account growth.
Credit remains extraordinarily strong, and the economic outlook continues to improve.
We maintained our discipline on operating expenses, while investing [Technical Issues] returning organic growth opportunities.
And finally, we continue to deliver high returns, allowing for enhanced buybacks and dividends. | discover financial services q2 earnings per share $5.55.
q2 earnings per share $5.55.
board approves repurchase of up to $2.4 billion of common stock.
increases the quarterly common stock dividend 14% from $0.44 to $0.50 per share.
compname says total loans ended quarter at $87.7 billion, down 1% year-over-year.
compname says credit card loans ended the quarter at $68.9 billion, down 2% year-over-year. |
Our call today will include remarks from our CEO, Roger Hochschild; and John Greene, our Chief Financial Officer.
After we conclude our formal comments, there will be time for question-and-answer session.
During the Q&A session, we request that you ask one question, followed by one follow-up question, after your follow-up question, please return to the queue.
We had another period of strong financial results in the third quarter, with earnings of $1.1 billion after-tax or $3.54 per share.
In many respects, these results reflected the unique benefits of our integrated digital banking and payments model, which continues to be a source of significant competitive advantage by supporting our value proposition to consumers and merchants and differentiating our brand.
These advantages enabled our continued investment in account acquisition, technology and analytics, while generating substantial capital in an environment characterized by new entrants and intensifying competition, we believe the strengths of our model position us to accelerate our growth.
Underlying our results this quarter were three important advancements.
The first was our return to year-over-year receivables growth, which is driven by our investment in acquisition and brand marketing and continued strong sales trends.
Total sales were up 27% over 2019 levels with strong momentum across all categories, even travel sales increased, and while they dropped a bit in August due to concerns related to the Delta variant, travel has steadily improved since then.
We also continue to see attractive opportunities for account acquisition and increased our marketing investments to take advantage of this.
While the competitive environment has intensified, new accounts are now up 17% over 2019, reflecting the strength of our value proposition.
This value proposition remains anchored in our industry-leading onshore customer service model, no annual fees and useful and transparent rewards.
While some of our peers had to reinvigorate their rewards offerings and substantial cost, our rewards costs were up only 6 basis points year-over-year and nearly all of this increase was driven by higher consumer spending as evidenced in our strong discount revenue.
Given these dynamics, we will continue investing in new accounts, as long as the environment supports profitable opportunities and our robust account growth and our expectations for modest improvement in payment rates supports our view of stronger receivables growth in 2022.
The second key trend was credit, which remained exceptionally strong.
Our disciplined approach to credit management and favorable economic trends contributed to a record low net charge off rate and continued low delinquencies.
The delinquency outlook affirmed our expectations that losses will be below last year's levels for the full-year and supported additional reserve releases during the quarter.
And third is the continued expansion of our payments business.
PULSE saw a meaningful increase in debit volume with 9% growth year-over-year and a 26% increase over the third quarter of 2019, demonstrating both the impact of the recovery and an increase in debit used through the pandemic.
Our Diners business has also started to see some improvement from the global recovery with volume up 12% from the prior year as the global economy recovers, we will continue to look for opportunities to expand our international reach.
In summary, our value proposition continues to be attractive in our integrated digital banking and payments model supports profitable long-term customer relationships and is highly capital generative.
I continue to feel very good about our prospects for future growth.
I'll now ask John to discuss key aspects of our financial results in more detail.
Once again, our results this quarter reflect strong execution and that continued economic recovery.
Looking at our financial summary results on Page 4, there are three key things I want to call out.
First, our total revenue, net of interest expense is up 8% from the prior year, excluding $167 million unrealized loss due to market adjustments on our equity investments.
Including this, revenue is up 2% for the quarter.
Second, is a continuation of very strong credit performance.
Net charge-offs were down $343 million from the prior year, which supported a $165 million reserve release this quarter.
Lastly, we continue investing for growth, with increased marketing spend, higher operating expenses and other areas were largely related to the economic recovery.
I'll go over the details of our quarterly results and our full-year outlook on the following slides.
Looking at loan growth on Slide 5.
We saw the return to growth this quarter with ending loans up 1% over the prior year and up 2% sequentially.
Card loans were the primary driver and we're also up 1% year-over-year and 2% over the prior quarter.
The year-over-year increase in card receivables was driven by strong sales volume and robust account acquisition.
Sales growth continued to accelerate and was up 27% over the third quarter of 2019.
Year-to-date, new accounts were up 27% from the prior year and up 17% over 2019 levels.
The contribution from these factors was mostly offset by the ongoing high payment rates as household savings and cash flows remain elevated.
The payment rate was approximately 500 basis points over pre-pandemic levels.
We anticipate that the payment rate will moderate a bit as most federal COVID support programs have ended and consumer savings rates have started to decrease.
That said, we expect payment rates to remain above historical levels through 2022.
Looking at our other lending products.
Organic student loans increased 4% from the prior year with originations up 7% as most schools have returned to the normal in-person learning model.
Personal loans decreased 4% driven by high payment rates.
Our underwriting criteria have returned to pre-pandemic levels and we expect a return to growth in this product in future periods.
Moving to Slide 6, net interest margin was 10.8%, up 61 basis points from the prior year and 12 basis points from the prior quarter.
Compared to the prior quarter, the increase in net interest margin was primarily driven by lower interest charge-offs and lower funding costs.
This was partially offset by a higher mix of promotional rate balances.
Card loan yield was up 1 basis point sequentially as lower interest charge-offs were offset by the increased promotional balance mix.
Yield on personal loans declined 15 basis points sequentially due to lower pricing.
The margin continued to benefit from lower funding costs primarily driven by maturities of higher rate CDs and an increased mix of lower rate savings and money market balances.
Average consumer deposits were flat year-over-year and declined 1% from the prior quarter.
The quarter-over-quarter decline was largely driven by consumer CDs.
We also saw a slight decline in savings and money market deposits as consumers continue to spend excess levels of liquidity.
We also continue to optimize our funding stack.
Late in September, we executed our first ABS issuance since October 2019 consisting of a $1.2 billion security with a three-year fixed rate coupon of 58 basis points and a five-year $600 million security with a fixed coupon of 103 basis points.
These were our lowest ABS coupons ever and show good execution in timing by our Treasury team.
Looking at revenue on Slide 7.
Total non-interest income increased $90 million or 20% over the prior year excluding the unrealized loss on equity investments.
Net discount and interchange revenue was up $61 million or 26% driven by strong sales volume.
This was partially offset by increased rewards costs due to high sales in the 5% category, which was restaurants and PayPal, both this year and last.
We continue to benefit from strong sales through our partnership with PayPal, while restaurant sales were up 62% year-over-year as dining activity recovered.
Loan fee income was up $21 million or 21%, primarily driven by lower late fee charge-offs and higher non-sufficient funds and cash advance fees.
Looking at Slide 8.
Total operating expenses were up $185 million or 18% from the prior year.
The details reflect our focus on investing for future growth while managing our operating cost.
Employee compensation increased $12 million driven by a higher bonus accrual in the current year.
Excluding bonuses, employee compensation was down 3% from their prior year from lower headcount.
Marketing expense increased $70 million supporting another quarter of strong new account growth.
Other expense included a $50 million legal accrual.
Professional fees were up $47 million, primarily due to higher recovery fees.
Courts reopening combined with strong credit and economic conditions have driven an increase in recoveries and their associated fees.
Year-to-date, recoveries were up 20% compared to the prior year.
The benefits of these cost is reflected in lower credit losses.
Moving to Slide 9.
The trend of sustained strong credit performance continued.
Total net charge-offs were a record low at 1.46%, down 154 basis points year-over-year and 66 basis points sequentially.
Total net charge dollars decreased $343 million from their prior year and were down $131 million quarter-over-quarter.
Credit performance was strong across all products, as evidenced by the net charge-off rates on card, private student loans and personal loans.
Moving to the allowance for credit losses on Slide 10.
This quarter, we released $165 million from reserves and our reserve rate dropped 35 basis points to 7.7%.
The reserve release reflects continued strong credit performance.
And a largely stable macroeconomic outlook.
The impact of these was partially offset by a 2% increase in loans from the prior quarter.
Our economic assumptions include an unemployment rate of approximately 5.5% by year-end and GDP growth of just over 6%.
These assumptions were slightly less positive to no issues in the second quarter, but still reflect a strong economic outlook.
Looking at Slide 11.
Our common equity Tier 1 for the period was 15.5%, well above our 10.5% target.
We repurchased $815 million of common stock and as we had previously announced, increased our dividend payable by 14% to $0.50 per share.
These actions reflect our commitment to returning capital to our shareholders.
On funding, we continue to make progress toward our goals of having deposits be 70% to 80% of our funding mix.
Deposits now make up 68% of total funding, up from 62% in the prior year.
Wrapping up on Slide 12.
Our outlook for 2021 has not changed and reflects continued strong execution against our financial and strategic objectives.
In summary, we remain well positioned for profitable growth from improving loan trends.
Credit performance trends remain favorable, reflecting positive macroeconomic conditions and our approach to underwriting and credit management.
Investments for growth have supported a significant increase in new accounts while we've contained operating expenses.
Lastly, our integrated digital banking and payment model is highly capital generative allowing us to invest for growth and return capital to shareholders.
We look forward to providing our outlook for 2022 on our conference call in January. | compname reports q3 earnings per share $3.54.
compname reports third quarter 2021 net income of $1.1 billion or $3.54 per diluted share.
q3 earnings per share $3.54.
compname reports q3 earnings per share $3.54 (oct. 20).
quarterly total revenue net of interest expense $2,777 million , up 2%. |
I'm joined by Steve Rusckowski, our Chairman, CEO and President; and Mark Guinan, our Chief Financial Officer.
Actual results may differ materially from those projected.
Risks and uncertainties, including the impact of the COVID-19 pandemic that may affect Quest Diagnostics' future results include, but are not limited to, those described in our most recent Annual Report on Form 10-K and subsequently filed quarterly reports on Form 10-Q and current reports on Form 8-K.
The company continues to believe that the impact of the COVID-19 pandemic on future operating results, cash flows and/or its financial condition will be primarily driven by the pandemic's severity and duration; healthcare insurer, government and client payer reimbursement rates for COVID-19 molecular tests; the pandemic's impact on the US healthcare system and the US economy; and the timing, scope and effectiveness of federal, state and local governmental responses to the pandemic, including the impact of vaccination efforts, which are drivers beyond the company's knowledge and control.
Any references to base business, testing, revenues or volumes refer to the performance of our business excluding COVID-19 testing.
Growth rates associated with our long-term outlook projections, including total revenue growth, revenue growth from acquisitions, organic revenue growth and adjusted earnings growth are compound annual growth rates.
Finally, revenue growth rates from acquisitions will be measured against our base business.
Now, here is Steve Rusckowski.
Well, we had a strong third quarter as COVID-19 molecular volumes increased throughout the summer.
While our base business continued to deliver solid volume growth versus the prior year and 2019.
In late summer, we experienced some softness in the base business across the country, but saw a rebound in September.
Importantly, our base business continued to improve sequentially in the third quarter, which speaks to the ongoing recovery.
We have raised our outlook for the remainder of the year based on higher than anticipated COVID-19 volumes as well as continued progress we expect to see in our base business despite rising labor costs and inflationary pressures.
The momentum of our base business positions us to deliver the 2022 outlook we shared at our March Investor Day.
But before turning to our results into the third quarter, I'd like to update you on our progress we've made in our Quest for Health Equity initiative, a more than $100 million initiative aimed at reducing healthcare disparities in underserved neighborhoods.
Since we've established just over a year ago, we have launched 18 programs across the United States and Puerto Rico ranging from supporting COVID-19 testing of vaccination events, to educating young students on healthy nutritional choices, to providing funding support for a long-haul COVID-19 clinic in Puerto Rico.
Recently, we announced a collaboration with the American Heart Association that will expand research and mentorship opportunities for Black and Hispanic scholars and drive hypertension management and COVID-19 relief.
We're off to a good start and I look forward to updating you on our continued progress as Quest for Health Equity enters its second year.
Now turning to our results for the third quarter.
Total revenue of $2.77 billion, down 40 basis points versus the prior year; earnings per share were $4.02 on a reported basis, down approximately 3% versus the prior year; and $3.96 on an adjusted basis, down 8% versus the prior year.
The revenue and earnings declines in the third quarter reflect lower COVID-19 testing in 2021 versus the prior year, partially offset by continued recovery in our base business.
Cash provided by operations increased by nearly 20% year-to-date through September to approximately $1.75 billion.
Now, starting with COVID-19 testing, our COVID-19 molecular volumes increased in the third quarter versus the second quarter due to the spread of the Delta variant over the course of the summer.
Testing began to increase meaningfully in mid-July and peaked in early mid-September.
Our observed positivity rate peaked in mid-August and has steadily been declining across much of the country in recent weeks.
We performed an average of 83,000 COVID-19 molecular tests today in the third quarter and maintain strong average turnaround times of approximately one day for most specimens throughout the surge.
As clinical COVID-19 volumes declined, we are expanding our non-clinical COVID-19 testing to support the return to school, office, travel and entertainment.
We're making testing easy, fast and affordable for school systems and other group settings across the country.
We are currently performing K through 12 school testing in approximately 20 states with five additional states ready to come online.
We're testing passengers on Carnival Cruise Lines and Quest exclusively provided testing at the Boston Marathon earlier this month.
In the base business, we continue to make progress on our two-point strategy to accelerate growth and drive operational excellence.
Now, here are some highlights from the third quarter.
Our M&A pipeline remained strong.
In the third quarter, we completed a small tuck-in acquisition of an independent lab in Florida.
We continue to build on our exceptional health plan access of approximately 90% of all commercially insured lives in the United States.
At our Investor Day, we discussed how we have fundamentally changed our relationship with health plans and we continue to see the promise of value-based relationships come to life.
So here is a couple of examples.
We are working with National Health Plans to help their self-insured employers, employer customers improve quality outcomes and lower the cost of care for both the employers and their employees.
Also, effective October 1, we gained access to 1 billion Managed Medicaid members in Florida as their coverage transitions to Centene's Sunshine Health Plan.
We're getting good feedback from the provider community in our growing testing volumes through this expanded access opportunity.
Our hospital health system revenue continues to track well above 2019 levels, driven largely by the strength of our professional laboratory services contracts.
As we highlighted previously, 2021 performance is benefiting from two of our largest PLS contracts to-date, Hackensack Meridian Health and Memorial Hermann.
Altogether, our PLS business is expected to exceed $500 million in annual revenue this year.
Trends in our hospital reference business also remained steady with third quarter base testing volumes above 2019 levels.
We also generated record consumer-initiated testing revenue through QuestDirect in the third quarter.
While COVID testing has been the strong contributor to growth, we expect our base direct-to-consumer testing revenue to more than double this year.
Recently, we soft-launched a comprehensive health profile on QuestDirect, similar to our Blueprint for Wellness offering for employers.
This expanded health plan panel offers a deep dive into consumers' health profile with a battery of test and biometric measurements to provide a personalized Health Quotient Score that can be used to track health progress over time.
And then finally, our MyQuest app and patient portal now has almost 20 million users.
In advanced diagnostics, we continue to ramp investments and see strong momentum in key growth drivers.
We're seeing strong growth in non-invasive prenatal testing significantly above 2019 levels and saw solid contribution in our specialty genetics portfolio from Blueprint Genetics.
We continue to work closely with the CDC to sequence positive COVID specimens in an ongoing effort to track emerging variants, expanding the -- of the work that we performed in the quarter.
And then finally, we plan to introduce a test service based on a new FDA-approved companion diagnostic from Agilent for a therapy from Eli Lilly for a certain type of high-risk early breast cancer.
Quest will be the first laboratory to offer it to physicians nationally at the end of the month.
Turning to our second strategy, driving operational excellence, we made progress and remain on track to deliver at our targeted 3% annual efficiencies across the business.
Last week, we announced that we completed the integration and consolidation of our Northeast regional operations into our new 250,000 square foot next-generation lab in Clifton, New Jersey.
This state-of-the art highly automated facility services more than 40 million people across seven states.
In patient services, we are seeing all-time high numbers of patients making appointments to visit our patient service centers.
Now, more than 50% of patient service center visits are now by appointment versus walk-ins and this enables patients to be very satisfied and also improves our ability to drive productivity of our phlebotomists.
Similar to our immunoassay platform consolidation, we recently procured a highly automated urinalysis platform that is expected to generate millions in annual savings once these new systems are standardized across our laboratory network.
As a demonstration of our gratitude, we're assisting our employees with a one-time payment of up to $500 designed to reimburse cost they incurred during the pandemic.
Additionally, another year of pandemic pressures and travel restrictions have made it very difficult for many employees to take their hard-earned time off.
Therefore, we are providing a payout of most unused paid time off for our hourly employees to ensure they don't forfeit their earned unused time at year-end.
For the third quarter, consolidated revenues were $2.77 billion, down 0.4% versus the prior year.
Revenues for Diagnostic Information Services were essentially flat compared to the prior year, which is reflected by lower revenue from COVID-19 testing services versus the third quarter of last year, largely offset by the strong ongoing recovery in our base testing revenues.
Compared to 2019, our base DIS revenue grew approximately 6% in the third quarter and it was up nearly 2% excluding acquisitions.
Volume, measured by the number of requisitions, increased 5.3% versus the prior year with acquisitions contributing approximately 2%.
Compared to our third quarter 2019 baseline, total base testing volumes increased 9%.
Excluding acquisitions, total base testing volumes grew approximately 4% and benefited from new PLS contracts that have ramped over the last year.
We saw a rebound in our base business volumes in September following a modest softening in August that we believe was at least partially caused by the rise of the Delta variant and the timing of summer vacations.
Importantly, our base business revenue and volume grew sequentially in the third quarter.
This helps illustrate the ongoing recovery as historically total revenue and volumes typically step down in Q3 versus Q2 due to summer seasonality.
As most of you know, COVID-19 testing volumes grew in the third quarter versus Q2, which was in line with broader COVID-19 testing trends across the country.
We resulted approximately 7.6 million molecular tests and nearly 700,000 serology tests in the third quarter.
So far in October, average COVID-19 molecular volumes have declined approximately 10% from where we exited Q3 but are still above the levels we expected prior to the surge of the Delta variant, while the base business continues to improve since September.
Revenue per requisition declined 5.4% versus the prior year, driven primarily by lower COVID-19 molecular volume and, to a lesser extent, recent PLS wins.
Unit price headwinds remained modest and in line with our expectations.
Reported operating income in the third quarter was $652 million or 23.5% of revenues compared to $718 million or 25.8% of revenues last year.
On an adjusted basis, operating income in Q3 was $694 million or 25% of revenues compared to $831 million or 29.8% of revenues last year.
The year-over-year decline in operating margin was driven by lower COVID-19 testing revenue, partially offset by the recovery in our base business.
Reported earnings per share was $4.02 in the quarter compared to $4.14 a year ago.
Adjusted earnings per share was $3.96 compared to $4.31 last year.
Cash provided by operations was $1.75 billion through September year-to-date versus $1.46 billion in the same period last year.
Turning to guidance, we have raised our full-year 2021 outlook as follows.
Revenue is expected to be between $10.45 billion and $10.6 billion, an increase of approximately 11% to 12% versus the prior year.
Reported earnings per share is expected to be in the range of $14.69 [Phonetic] and $15.09 and adjusted earnings per share to be in the range of $13.50 and $13.90.
Cash provided by operations is expected to be approximately $2.2 billion and capital expenditures are expected to be approximately $400 million.
Before concluding, I'll touch on some assumptions embedded in our updated outlook.
We expect COVID-19 molecular volumes to continue to decline from Q3 levels throughout the remainder of the year.
At the low end of our outlook, we assume approximately 50,000 molecular tests per day in Q4 and serology volumes to hold relatively steady at approximately 5,000 tests per day.
As you may know, late last week, the public health emergency was again extended another 90 days through late January.
We expect reimbursement for clinical COVID-19 molecular testing to hold relatively steady through the remainder of the year.
However, we continue to assume average reimbursements to trend lower in Q4 as our mix of COVID-19 molecular volumes potentially shift from clinical diagnostic testing to more return-to-life surveillance testing.
Finally, we continue to assume low single-digit revenue growth in our base business in Q4 versus 2019.
Getting to the midpoint or higher end of our outlook ranges assumes stronger COVID-19 molecular testing volumes and/or stronger growth in our base business.
Well, to summarize, we had a strong third quarter.
We have raised our outlook for the remainder of the year based on higher than anticipated COVID-19 volumes as well as our continued progress we expect to see in our base business.
And finally, the momentum of our base business positions us to deliver the 2022 outlook we shared at our March Investor Day. | compname posts qtrly adjusted diluted earnings per share of $3.96.
quest diagnostics inc - raises full year 2021 outlook to reflect higher than anticipated covid-19 testing volumes.
quest diagnostics inc - q3 reported diluted earnings per share (eps) of $4.02.
quest diagnostics inc - qtrly adjusted diluted earnings per share of $3.96.
quest diagnostics inc - had a strong q3, as covid-19 molecular volumes increased throughout summer.
quest diagnostics inc - in late summer we experienced some softness in base business across country, but saw an overall rebound in september.
quest diagnostics inc - base business continued to improve sequentially in q3 which speaks to ongoing recovery.
quest diagnostics inc - q3 revenues of $2.77 billion, down 0.4% from 2020.
quest diagnostics inc - sees fy net revenues $10.45 billion to $10.60 billion.
quest diagnostics inc - sees fy adjusted diluted earnings per share $13.50 - $13.90.
quest diagnostics inc - sees fy reported diluted earnings per share $14.69 - $15.09. |
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We also may reference certain financial measures that have not been derived in accordance with GAAP.
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As a testament to their efforts, our first quarter results exceeded our expectations, reflecting strong underlying performance across the business, which we believe was enhanced by the most recent round of government stimulus payments.
The quarter was highlighted by net sales growth of 16% in our combined nonconsumable categories, a 208 basis point increase in gross margin rate and double-digit growth in diluted EPS.
Despite what continues to be a challenging operating environment, we are increasing our sales and diluted earnings per share guidance for fiscal 2021 to reflect our strong first quarter performance.
John will provide additional details on our outlook during his remarks.
As always, the health and safety of our employees and customers continue to be a top priority while meeting the critical needs of the communities we serve.
And we believe we are uniquely positioned to continue supporting our customers through our unique combination of value and convenience, including our network of more than 17,000 stores located within 5 miles of approximately 75% of the US population.
Overall, we are executing well against our operating priorities and strategic initiatives as we continue to meet the evolving needs of our customers and further position Dollar General for long-term sustainable growth.
Now let's recap some of the top line results for the first quarter.
As we lapped our most difficult quarterly comp sales comparison of the year, net sales decreased 0.6% to $8.4 billion, driven by a comp sales decline of 4.6%.
Notably, comp sales on a 2-year stack basis increased a robust 17.1%, which compares to the 15.9% 2-year stack we delivered last quarter.
Our first quarter sales results include a decline in customer traffic, which was partially offset by growth in average basket size.
And while customers continue to consolidate trips, on average they continue to spend more with us compared to last year.
From a monthly cadence perspective, comp sales increased 5.7% in February despite a headwind from inclement weather across the country.
For the month of March, which represents our most difficult monthly sales comparison of the year, comp sales declined 11.2%.
Importantly, beginning in mid-March and in line with the timing of stimulus payments, we saw a meaningful acceleration in sales relative to the first two weeks of the month, especially in our nonconsumable categories.
Comp sales declined 4.3% in April, and while year-over-year growth in nonconsumable sales moderated in comparison to March, they were positive overall despite a more challenging lap.
Overall, each of our three nonconsumable categories delivered a comp sales increase for the quarter.
Of note, comp sales growth of 11.3% in our combined nonconsumable categories and 29.8% on a comparable 2-year stack basis significantly exceeded our expectation and speaks to the continued strength and sustained momentum in these product categories, enhanced by the benefit from stimulus.
Once again this quarter, we increased our market share in highly consumable product sales as measured by syndicated data.
Importantly, we continue to be encouraged by the retention rates of new customers acquired over the past several quarters and are working hard to drive even higher levels of engagement with more personalized marketing and continued execution of our key initiatives.
In addition, we recently published our third annual Serving Others report, which provides context related to our ongoing ESG efforts as well as new and updated performance metrics, and we look forward to continued progress on our journey as we move ahead.
Collectively, our first quarter results reflect strong and disciplined execution across many fronts and further validate our belief that we are pursuing the right strategies to enable sustainable growth while creating meaningful long-term shareholder value.
We operate in one of the most attractive sectors in retail and believe we are well positioned to continue advancing our goal of further differentiating and distancing Dollar General from the rest of the discount retail landscape.
As a mature retailer in growth mode, we are also laying the groundwork for future initiatives, which we believe will unlock even more growth opportunities as we move forward.
In short, I feel very good about the underlying business and we are excited about the opportunities that lie ahead.
Now that Todd has taken you through a few highlights of the quarter, let me take you through some of its important financial details.
Unless we specifically note otherwise, all comparisons are year-over-year, all references to earnings per share refer to diluted earnings per share and all years noted refer to the corresponding fiscal year.
As Todd already discussed sales, I will start with gross profit, which we believe was positively impacted in the quarter by a significant benefit to sales, particularly in our nonconsumables categories from the most recent round of government stimulus payments.
Gross profit as a percentage of sales was 32.8% in the first quarter.
As Todd noted, this was an increase of 208 basis points and represents our eighth consecutive quarter of year-over-year gross margin rate expansion.
This increase was primarily attributable to: higher initial markups on inventory purchases, a reduction in markdowns as a percentage of sales, a greater proportion of sales coming from our nonconsumables categories and a reduction in shrink as a percentage of sales.
These factors were partially offset by increased transportation costs, which were primarily driven by higher rates.
SG&A as a percentage of sales was 22%, an increase of 152 basis points.
This increase was driven by expenses that were greater as a percentage of net sales, the most significant of which were store occupancy costs, disaster expenses related to winter storm Uri, retail labor and depreciation and amortization.
Moving down the income statement.
Operating profit for the first quarter increased 4.9% to $908.9 million.
As a percentage of sales, operating profit was 10.8%, an increase of 56 basis points.
Our effective tax rate for the quarter was 22% and compares to 22.2% in the first quarter last year.
Finally, earnings per share for the first quarter increased 10.2% to $2.82, which reflects a compound annual growth rate of 38% over a 2-year period.
Turning now to our balance sheet and cash flow, which remain strong and provide us the financial flexibility to continue investing for the long term while delivering significant returns to shareholders.
Merchandise inventories were $5.1 billion at the end of the first quarter, an increase of 24.2% overall and a 17.6% increase on a per store basis as we cycled a 5.5% decline in inventory on a per store basis, driven by extremely strong sales volumes in Q1 2020.
In anticipation of a more challenging supply environment, we strategically pulled forward certain inventory purchases during the quarter, particularly in select nonconsumable categories to better support the sales momentum we were seeing in the business.
And while out of stocks remain higher than we would like for certain high-demand products, we continue to make good progress with improving our in-stock position and are pleased with the overall quality of our inventory.
The business generated significant cash flow from operations during the quarter totaling $703 million, a decrease of 60% but which reflects a compound annual growth rate of 11% over a 2-year period.
This decrease was primarily driven by higher levels of improving inventory positions, including the pull forward of certain inventory purchases I mentioned earlier.
Total capital expenditures for the quarter were $278 million and included: our planned investments in new stores, remodels and relocations; distribution and transportation projects and spending related to our strategic initiatives.
During the quarter, we repurchased 5 million shares of our common stock for $1 billion and paid a quarterly cash dividend of $0.42 per common share outstanding at a total cost of $100 million.
At the end of Q1, the remaining share repurchase authorization was $1.7 billion.
Our capital allocation priorities continue to serve us well and remain unchanged.
Our first priority is investing in high-return growth opportunities, including new store expansion and our strategic initiatives.
We also remain committed to returning significant cash to shareholders through anticipated share repurchases and quarterly dividend payments, all while maintaining our current investment-grade credit rating and managing to a leverage ratio of approximately 3 times adjusted-debt-to-EBITDA.
Moving to an update on our financial outlook for fiscal 2021.
We continue to operate at a time of uncertainty regarding the severity and duration of the COVID-19 pandemic, including its impact on the economy, consumer behavior and our business.
Despite continued uncertainty, as Todd mentioned, we are increasing our full year guidance for sales and earnings per share due to our strong Q1 outperformance, which we believe was aided by the latest round of stimulus.
For 2021, we now expect the following: net sales in the range of a 1% decline to an increase of 1%; a same-store sales decline of 5% to 3% but which reflects growth of approximately 11% to 13% on a 2-year stack basis and earnings per share in the range of $9.50 to $10.20, which reflects a compound annual growth rate in the range of approximately 20% to 24% or in the range of approximately 19% to 23% compared to the 2019 adjusted diluted earnings per share over a 2-year period, which is well above our long-term goal of delivering at least 10% annual earnings per share growth on an adjusted basis.
Our earnings per share guidance continues to assume an effective tax rate in the range of 22% to 23%.
With regards to share repurchases, we now expect to repurchase approximately $2.2 billion of our common stock this year compared to our previous expectation of about $1.8 billion.
Let me now provide some additional context as it relates to our full year outlook.
First, there could be additional headwinds and tailwinds this year, the timing, degree and potential impacts on our business of which are currently unclear, including but not limited to the potential impacts from legislation and regulatory agency actions.
Given the unusual situation, I will now elaborate on our comp sales trends thus far in May.
From the end of Q1 through May 23, comp sales declined by approximately 7% as we continue to cycle extremely difficult prior year comparisons.
As a reminder, comp sales growth for the month of May in 2020 was 21.5%.
And while we are nonetheless encouraged with our sales trends, we remain cautious in our 2021 sales outlook, given the continued uncertainty that still exists, the unique comparisons against last year and the anticipation of fading tailwinds from the most recent round of government stimulus.
That said, as you think about the comp sales cadence of 2021, we continue to expect our performance to be better in the second half, given a more difficult comp sales comparison in the first half.
Turning to gross margin.
As a reminder, gross margin in 2020 benefited from a favorable sales mix and a reduction in markdowns, including the benefit of higher sell-through rates in more clear and sensitive nonconsumables categories.
As we move through 2021, we expect pressure in our gross margin rate as we anticipate a less favorable sales mix, an increase in markdown rates as we cycle abnormally low levels we saw in 2020 and higher fuel and transportation costs.
Also, please keep in mind the second and third quarters represent our most challenging laps of the year from a gross margin rate perspective, following improvements of 167 basis points in Q2 2020 and 178 basis points in Q3 2020.
With regards to SG&A, while we continue to expect ongoing expenses related to the pandemic in 2021, overall, we currently anticipate a significant reduction in COVID-19 related costs compared to the prior year.
Additionally, we continue to expect about $60 million to $70 million incremental year-over-year investments in our strategic initiatives this year as we further their rollouts.
This amount includes approximately $23 million in incremental investments made during the first quarter.
However, in aggregate, we continue to expect our strategic initiatives will positively contribute to operating profit and margin in 2021, driven by NCI and DG Fresh as we expect the benefits to gross margin from our initiatives will more than offset the associated SG&A expense.
In closing, we are very proud of the team's execution and performance which resulted in another quarter of exceptional results.
As always, we continue to be disciplined in how we manage expenses and capital with the goal of delivering consistent, strong financial performance while strategically investing for the long term.
We remain confident in our business model and our ongoing financial priorities to drive profitable same-store sales growth, healthy new store returns, strong free cash flow and long-term shareholder value.
Let me take the next few minutes to update you on our operating priorities and strategic initiatives.
Our first operating priority is driving profitable sales growth.
We are off to a great start to the year as our team continues to drive strong execution across our portfolio of growth initiatives.
Let me take you through some of the more recent highlights.
Starting with our nonconsumables initiative or NCI.
As a reminder, NCI consists of a new and expanded product offering in key nonconsumable categories.
The NCI offering was available in over 7,300 stores at the end of Q1, and we remain on track to expand this offering to a total of more than 11,000 stores by year end, including over 2,100 stores in our light version, which incorporates a vast majority of the NCI assortment but through a more streamlined approach.
We're especially pleased with the strong sales and margin performance we continue to see across our NCI product categories.
Notably, this performance is contributing to an incremental comp sales increase in nonconsumable sales of 8% in our NCI stores and 3% in our NCI Lite stores as compared to stores without the NCI offering.
Given our strong performance to date, coupled with the added flexibility of a more streamlined approach, our plans now include completing the rollout of NCI across nearly all of the chain by year-end 2022.
Moving to our newest concept, pOpshelf, which further builds on our success and learnings with NCI.
pOpshelf aims to engage customers by offering a fun, affordable and differentiated treasure hunt experience delivered through continually refreshed merchandise, a differentiated in-store experience and exceptional value with the vast majority of our items priced at $5 or less.
During the quarter, we opened three new pOpshelf locations, bringing the total number of stores to eight.
And while still early, we continue to be very pleased with the initial results, which have far exceeded our expectations for both sales and gross margin.
In fact, year one annualized sales volumes for our first eight locations are trending between $1.7 million and $2 million per store, with an average gross margin rate of about 40%, which we expect will climb as we continue to scale this exciting initiative.
As a reminder, this compares to year one sales volumes of about $1.4 million for a traditional Dollar General store and a gross margin rate of about 32% for the overall chain in 2020.
For 2021, we remain on track to have a total of up to 50 pOpshelf locations by year-end as well as up to an additional 25 store-within-a-store concepts, which incorporates a smaller footprint pOpshelf shop into one of our larger-format Dollar General market stores.
Importantly, we currently estimate there are about 3,000 pOpshelf store opportunities potentially available in the Continental United States.
And when combined with pOpshelf's compelling unit economics, we remain very excited about the significant and incremental growth opportunities we see available for this unique and differentiated concept.
Turning now to DG Fresh, which is a strategic, multiphase shift to self-distribution of frozen and refrigerated products.
The primary objective of DG Fresh is to reduce product cost on these items, and we continue to be very pleased with the savings we are seeing.
In fact, DC Fresh continues to be the largest contributor to the gross margin benefit we are realizing from higher initial markups on inventory purchases.
And we expect this benefit to grow as we continue to optimize our network and further leverage our scale.
Another important goal of DG Fresh is to increase sales in these categories, and we are pleased with the success we are seeing on this front, driven by higher overall in-stock levels and the continued rollout of additional products, including both national and private brands.
In total, at the end of Q1, we were delivering to more than 17,000 stores from 10 facilities and now expect to complete our initial rollout across the chain by the end of Q2, which is ahead of our previous expectation of year-end as communicated on our Q4 call.
Moving to our cooler expansion program, which continues to be our most impactful merchandising initiative.
During the quarter, we added nearly 18,000 cooler doors across our store base and are on track to install approximately 65,000 cooler doors this year.
Notably, the majority of these doors will be in high-capacity coolers, creating additional opportunities to drive higher on-shelf availability and deliver an even wider product selection, all enabled by DG Fresh.
In addition to the gross margin benefits associated with NCI and DG Fresh, we continue to pursue other gross margin enhancing opportunities, including improvements in private brand sales, global sourcing, supply chain efficiencies and shrink.
Our second priority is capturing growth opportunities.
Our proven high-return, low-risk real estate model continues to be a core strength of our business.
In the first quarter, we completed a total of 836 real estate projects, including 260 new stores, 543 remodels and 33 relocations.
In addition, we now have produce in more than 1,300 stores.
For 2021, we remain on track to open 1,050 new stores, remodel 1,750 stores and relocate 100 stores, representing 2,900 real estate projects in total.
We also now plan to add produce in more than 1,000 stores, which compares to our previous expectation of approximately 700 stores.
As a reminder, we recently made key changes to our development strategy, including establishing two of our larger footprint formats, which each comprise about 8,500 square feet of selling space as our base prototypes for nearly all new stores going forward.
With about 1,200 square feet of additional selling space compared to a traditional store, these larger formats allow for expanded high-capacity cooler counts, an extended queue line and a broader product assortment, including NCI, a larger health and beauty section with about 30% more feet of selling space and produce in select stores.
We are especially pleased with the sales productivity of these larger formats as average sales per square foot are currently trending about 15% above an average traditional store, which bodes well for the future as we look to grow these unit counts in the years ahead.
In total, we expect more than 550 of our real estate projects this year will be in these formats as we look to further enhance our value and convenience proposition while driving additional growth.
Next, our digital initiative, which is an important complement to our brick-and-mortar footprint as we continue to deploy and leverage technology to further enhance convenience and access for customers.
One such example is contactless payment, which is now available in the vast majority of the chain, further extending our convenience proposition, particularly for those seeking a more contactless shopping experience.
Overall, our strategy consists of building a digital ecosystem specifically tailored to provide our customers with an even more convenient, frictionless and personalized shopping experience.
And we are pleased with the growing engagement we are seeing across our digital properties.
Going forward, our plans include providing more relevant, meaningful and personalized offerings, with the goal of driving even higher levels of digital engagement and customer loyalty.
Our third operating priority is to leverage and reinforce our position as a low-cost operator.
Over the years, we have established a clear and defined process to control spending, which governs our disciplined approach to spending decisions.
This zero-based budgeting approach, internally branded as Safe to Serve, keeps the customer at the center of all we do while reinforcing our cost control mindset.
Our Fast Track initiative is a great example of this approach where our goals include: increasing labor productivity in our stores, enhancing customer convenience and further improving on-shelf availability.
We continue to be pleased with the labor productivity improvements we are seeing as a result of our efforts, both around rolltainer and case pack optimization, which have led to even more efficient stocking of our stores.
The second component of Fast Track is self-checkout, which provides customers with another flexible and convenient checkout solution while also driving greater efficiencies for our store associates.
Self-checkout was available in more than 3,400 stores at the end of Q1, which represents more than double the store count at the end of Q4.
And we are pleased with our results including customer adoption rates as well as positive feedback both from customers and employees.
Our plans consist of a broader rollout this year, and we are focused on introducing this offering into the vast majority of our stores by the end of 2022 as we look to further enhance our convenience proposition while extending our position as an innovative leader in small-box discount retail.
Our underlying principles are to keep the business simple but move quickly to capture growth opportunities while controlling expenses and always seeking to be a low-cost operator.
Our fourth operating priority is investing in our diverse teams through development, empowerment and inclusion.
As a growing retailer, we continue to create new jobs and opportunities for career advancement.
In fact, more than 12,000 of our current store managers are internal promotes, and we continue to pursue innovative opportunities to further develop our teams, including our recent announcement to partner with a leading training provider to deliver more personalized training solutions to our employees.
Importantly, we believe these efforts continue to yield positive results across our organization and are an important driver of our consistent and strong execution.
At the store level, we continue to be pleased with our robust internal promotion pipeline and store manager turnover, which continues to trend below historic levels.
We believe the opportunity to start and develop a career with a growing and purpose-driven company is a unique competitive advantage and remains our greatest currency in attracting and retaining talent.
Overall, we continue to make great progress against our operating priorities and strategic initiatives, and we are confident in our plans to drive long-term sustainable growth while creating meaningful value for our shareholders.
In closing, I am proud of our team's performance and we are pleased with our strong first quarter results, which further demonstrate that our unique combination of value and convenience continues to resonate with customers and positions us well going forward. | q1 earnings per share $2.82.
q1 sales $8.4 billion versus refinitiv ibes estimate of $8.28 billion.
raises financial guidance for fiscal year 2021.
qtrly same-store sales decreased 4.6%; increased 17.1% on a two-year stack basis.
reiterating its plans to execute 2,900 real estate projects in fiscal year 2021.
dollar general - believes q1 results were positively impacted by consumer behavior related to government stimulus payments.
sees 2021 net sales of 1% decline to increase of 1%.
sees 2021 same-store sales decline of 5% to 3%.
sees fy 2021 earnings per share $9.50 to $10.20.
sees share repurchases of about $2.2 billion in fiscal year 2021.
as of april 30, 2021, total merchandise inventories, at cost, were $5.1 billion versus $4.1 billion as of may 1, 2020. |
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We also will reference certain financial measures that have not been derived in accordance with GAAP.
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Throughout this period, our team has remained steadfast in its focus on employee and customer safety, while providing affordable, convenient and close to home access to everyday essentials.
I could not be more proud of our team's efforts to serve our customers, our communities and each other.
For over 80 years, Dollar General has served our customers [Technical Issues] through a unique combination of value and convenience.
But it has never been more evident, just how essential our role is as our customers depend on us now more than ever for their everyday household needs.
We remain committed to being part of the solution during these difficult times, and believe we are uniquely positioned to continue supporting our customers through our expansive network of nearly 17,000 [Technical Issues] within 5 miles or more than 75% of the US population.
Our convenient small box format, providing for a quick in-and-out access, our broad assortment of everyday household essential items, our ongoing commitment to everyday low prices, our flexible supply chain, our growing digital capabilities and most importantly, our talented and committed associates.
Let me now highlight some of the actions we've taken to further protect our employees and customers, while keeping our operations running with minimal disruption.
As we discussed on last quarter's call, with the onset of COVID-19, we quickly and proactively implemented numerous safety protocols across the Company, based on recommendations by federal, state and local government agencies.
We continue to monitor CDC and other government guidelines regarding COVID-19 and are adapting our protocols and policies as that guideline evolves.
As announced in today's release, we invested approximately $13 million in employee appreciation bonuses during the quarter, bringing our total incremental investment in appreciation bonuses to about $73 million through the end of Q2.
Additionally, we expect to invest up to $50 million in additional financial incentives in the second half of the year.
Overall, these actions have helped to further ensure the continuity of our business at a time when our customers need us most, while recognizing our employees for their extraordinary efforts.
While navigating the challenging times of COVID-19, our country has simultaneously entered a period of deep reflection on its societal values including racial equality and other matters of social justice.
Our mission at Dollar General is serving others and our core values include, respecting the dignity and differences of others.
We are committed to ensuring these values are evident in all we do, including working to promote racial equality and social justice across our communities.
To further advance these efforts, we recently expanded our diversity and inclusion team and announced the combined $5 million pledge with the Dollar General Literacy Foundation to support racial and social justice and education.
Additionally, during the quarter, we published our most recent Serving Others report which highlights many of our efforts on the ESG front.
We first published this report in 2019 and expect that it will evolve and expand as we move into the future.
Beyond these efforts, we remain focused on advancing our operating priorities and strategic initiatives as we continue to meet the evolving needs of our customers and better position Dollar General for continued long-term growth.
To that end, and from a position of strength, we are pleased to announce the acceleration of several value-creating initiatives including DG Pickup, DG Fresh and our non-consumable initiatives.
We are also increasing our expectation for remodels and relocations in 2020.
We will discuss each of these updates in more detail later in the call.
Turning now to our second quarter performance.
The quarter was once again highlighted by extraordinary growth on both the top and bottom lines, as some of the consumer trends we experienced in Q1 related to the pandemic continued in Q2.
More specifically, and as we discussed on our Q1 earnings call, we experienced significant growth in our non-consumable business in the month of April and through May 26.
These trends continued through the end of Q2, and we're pleased to note that for the second quarter, our three non-consumable product categories in total delivered a combined comp sales percentage increase, well in excess [Technical Issues] of our consumable businesses.
In terms of our monthly comp cadence, sales increased 21.5% in May, 17.9% in June and 17.2% in July.
While we do not typically disclose monthly comp sales, we believe it's helpful in this environment.
Overall second quarter net sales increased 24.4% to $8.7 billion driven by comp sales growth of 18.8%.
These results include significant growth in average basket size, particular -- partially, excuse me, offset by a decline in customer traffic, as we believe customers consolidated trips in an effort to limit social contact.
During the quarter, our highly consumable market share trends as measured by syndicated data continued to exhibit strength, including strong double-digit increases in both units and dollars over the 4-week, 12-week, 24-week and 52-week periods ending July 25th, 2020.
Importantly, our data suggest another meaningful increase in new customers this quarter compared to Q2 2019, underscoring the broadening appeal of our value and convenience proposition.
We are very focused on retaining these new customers, and the incremental spend of current customers through the acceleration of several key initiatives which I noted earlier.
We're particularly pleased that we once again delivered significant operating margin expansion, which contributed to second quarter diluted earnings per share of $3.12, an increase of 89% over the prior year.
Collectively, we view these results as further validation that we are pursuing the right strategies to enable balanced and sustainable growth, while creating meaningful long-term shareholder value.
We continue to operate in one of the most attractive sectors in retail and with the plans and initiatives we have in place, we believe we are well positioned to serve an even broader set of consumers even in a challenging economic environment.
Now that Todd has taken you through a few highlights of the quarter, let me take you through some of its important financial details.
Unless I specifically note otherwise, all comparisons are year-over-year and all references to earnings per share refer to diluted earnings per share.
As Todd already discussed sales, I will start with gross profit, which was positively impacted in the quarter by a significant increase in sales, including the impact of COVID-19.
Gross profit as a percentage of sales was 32.5% in the second quarter, an increase of 167 basis points.
This increase was primarily attributable to higher initial markups on inventory purchases, a greater proportion of sales coming from non-consumable categories and a reduction in markdowns as a percentage of sales.
These factors were partially offset by increased distribution and transportation costs, which were driven by increased volume and our decision to incur employee appreciation bonus expense.
SG&A as a percentage of sales was 20.4%, a decrease of 205 basis points or 161 basis points compared to Q2 2019 adjusted SG&A.
Although we incurred incremental costs related to COVID-19, these costs were more than offset by the significant increase in sales.
Expenses that were lower as a percentage of sales in the quarter include retail labor, occupancy costs, utilities, employee benefits, depreciation and amortization, and taxes and licenses.
These items were partially offset by increased incentive compensation and charitable giving expenses.
As I mentioned, we also recorded expenses of $31 million in Q2 2019 reflecting our estimate for the settlement of certain legal matters.
Moving down the income statement, operating profit for the second quarter was $1 billion, an increase of 80.5% or 71.3% compared to Q2 2019 adjusted operating profit.
As a percentage of sales, operating profit was 12%, an increase of 373 basis points or 329 basis points compared to Q2 2019 adjusted operating profit.
Operating profit in the second quarter was positively impacted by COVID-19 primarily through higher sales.
The benefit from higher sales was partially offset by approximately $38 million of incremental investments that we made in response to the pandemic, including additional measures taken to further protect our employees and customers and approximately $13 million in appreciation bonuses for eligible frontline employees.
Our effective tax rate for the quarter was 21.5% and compares to 22.9% in the second quarter last year.
Finally, as Todd noted earlier, earnings per share for the second quarter was $3.12, which represents an increase of 89% or 79% compared to Q2 2019 adjusted EPS.
Turning now to our balance sheet and cash flow, which remained strong and provide us the financial flexibility to further support our customers, employees during these challenging times while continuing to invest for the long term.
Merchandise inventories were $4.4 billion at the end of the second quarter, essentially flat overall, and down 6% on a per store basis.
Year-to-date through Q2, we generated significant cash flow from operations totaling $2.9 billion, an increase of $1.8 billion or 157%.
This increase was primarily driven by strong operating performance combined with lower levels of inventory, as our supply chain teams continue to work closely with our vendor partners to improve in-stock levels for high demand products.
Total capital expenditures through the first half were $424 million and included our planned investments in new stores, remodels and relocations and spending related to our strategic initiatives.
Moving on to liquidity and capital structure.
We continue to have ample liquidity as a result of the measures we took earlier in the year to further bolster our liquidity position, coupled with our extremely strong cash flow in the quarter.
As a result, we finished the quarter with $3 billion of cash and cash equivalents and $1.1 billion of availability under our undrawn revolving credit facility.
As one of the measures to preserve liquidity at the onset of COVID-19, we temporarily suspended share repurchases during Q1.
We continue to evaluate business conditions in our liquidity and as a result of this evaluation, we resumed share repurchases in the second quarter.
During the quarter, we repurchased 3.2 million shares of our common stock for $602 million and paid a quarterly dividend of $0.36 per common share outstanding at a total cost of $90 million.
With today's announcement of an incremental share repurchase authorization, we have remaining authorization of approximately $2.5 billion under the repurchase program.
Our capital allocation priorities continue to serve us well and remain unchanged.
Our first priority is investing in high return growth opportunities including new store expansion and our strategic initiatives.
We also remain committed to returning significant cash to shareholders through anticipated share repurchases and quarterly dividend payments, all while maintaining our current investment grade credit rating and managing to a leverage ratio of approximately three times adjusted debt-to-EBITDAR.
Moving to an update on our financial outlook for fiscal 2020.
We continue to operate in a time of significant uncertainty regarding the severity and duration of the COVID-19 pandemic including its impact on the economy, consumer behavior and our business.
As a result, we are not providing guidance for fiscal 2020 sales or earnings per share at this time.
With regards to share repurchases, we now expect to repurchase approximately $2.5 billion of our common stock this year, reflecting our strong liquidity position and confidence about the long-term growth opportunity for our business.
As Todd noted earlier, we are increasing our expectations for remodels and relocations in 2020.
Overall, we now expect to open 1,000 new stores, remodel 1,670 stores and relocate 110 stores representing 2,780 real estate projects in total.
Finally, we are increasing our expectations for capital spending in 2020 to a range of $1 billion to $1.1 billion as we accelerate key initiatives and continue to invest in our core business to support and drive future growth.
Let me now provide some additional context as it relates to our full year outlook.
Given the unusual situation, I will elaborate on our comp sales trends thus far in August.
Since the end of Q2 and through August 25th, we have continued to experience elevated same-store sales, which have increased by approximately 15% during this timeframe.
That said, we remain cautious in our sales outlook and recognize the significant uncertainty that still exists concerning the duration of the positive operating environment.
In particular, we can't speculate as to whether there will be additional government stimulus or, if so, to what degree, our business would benefit.
Ultimately, we expect to see our comp sales trends moderate as we move through the back half, but believe we are very well positioned to deliver positive sales growth for the balance of the year even if broader economic conditions deteriorate.
With regards to our strategic initiatives, we continue to anticipate they will improve operating margin over time, particularly as benefits to gross margin continue to scale and outpace the associated expense with both NCI and DG Fresh expected to be accretive to operating margin in 2020.
However, our investment in these initiatives will pressure SG&A rates in the back half, particularly as we further accelerate their rollouts.
Finally, we expect to make additional investments in the second half as a result of COVID-19 including up to $50 million in employee appreciation bonuses which Todd mentioned, as well as investments in additional safety measures.
In closing, we are very proud of the team's execution and service, which resulted in another quarter of exceptional results.
As always, we continue to be disciplined in how we manage expenses and capital with the goal of delivering consistent, strong financial performance while strategically investing for the long term.
We remain confident in our business model and our ongoing financial priorities to drive profitable same-store sales growth, healthy new store returns, strong free cash flow and long-term shareholder value.
Let me take the next few minutes to update you on our four operating priorities.
Our first operating priority is driving profitable sales growth.
The team did an outstanding job this quarter executing against a portfolio of growth initiatives while keeping the customer at the center of all we do.
Let me highlight a few of our recent efforts.
Starting with our cooler door expansion program, which continues to be our most impactful merchandising initiative.
During the first half we added more than 30,000 cooler doors across our store base.
In total, we now expect to install more than 60,000 cooler doors this year compared to our previous target of 55,000 cooler doors in 2020.
Notably, the majority of these doors will be in high capacity coolers creating additional opportunities to drive higher on-shelf availability and deliver an even wider product selection.
Turning now to private brands, which remains a priority as we pursue opportunities to further enhance our value proposition.
During the quarter, we made great progress with our rebranding and repositioning efforts including the recent relaunch of our office products brand.
Looking ahead, our plans include the continued expansion of existing brands as well as the rebranding of several additional product lines as we seek to drive greater category awareness and even higher customer adoption.
Moving to our Better For You offering which is especially important for our customers as more food continues to be consumed at home.
This offering is now available in approximately 6,400 stores with plans to expand more than 7,000 stores by year-end.
Finally, a quick update on our FedEx relationship.
This convenient, package pick up and drop off service is now available in over 8,000 locations.
We now expect to complete our initial rollout to more than 8,500 stores by the end of Q3, further advancing our long track record of serving rural communities.
Beyond these sales driving initiatives, enhancing gross margin remains a key focus area for us.
In addition to the gross margin benefits associated with our NCI, DG Fresh and private brand efforts, foreign sourcing remains an important gross margin opportunity for us.
During the quarter the team once again did a phenomenal job working with our global supply partners to ensure product availability.
Looking ahead, we continue to see opportunities to increase our foreign sourcing penetration, while further diversifying our countries of origin.
We also continue to pursue supply chain efficiencies through the further reduction of stem miles and accelerated expansion of our private fleet.
To this end, we recently announced the purchase of our 18th traditional distribution center in Walton, Kentucky.
We anticipate this facility will begin shipping early next year, enabling us to drive additional efficiencies as we move ahead.
Finally, shrink remains an opportunity as we continue to build on our success with electronic article surveillance.
Over the past year, we've increased the number of items tagged by more than 40%, and we continue to focus on leveraging technology to drive even higher levels of in-store execution.
Our second priority is capturing growth opportunities.
Our proven high-return, low-risk real estate model continues to be a core strength of our business.
During the first half, we opened 500 new stores, remodeled 973 stores including 704 in the higher cooler count DGTP or DGP formats and relocated 43 stores.
We also added produce in more than 120 stores, bringing the total number of stores which carry [Phonetic] produce to more than 870.
As John noted, we now expect 2,780 real estate projects in total this year, as we continue to deploy capital in these high return investments while delivering an expanded assortment offering to an additional 200 communities in 2020.
Overall, our real estate pipeline remains robust, and I am very proud of the team's ability to execute such high volumes of real estate product -- projects despite the added complexities as a result of COVID-19.
Our third operating priority is to leverage and reinforce our position as a low-cost operator.
We have a clear and defined process to control spending, which governs our disciplined approach to spending decisions.
This zero based budgeting approach internally branded as Save to Serve, keeps the customer at the center of all we do while reinforcing our cost-control mindset.
Our operational initiatives consist of building on our success with Fast Track, which Todd will discuss in more detail.
As a result of our efforts to-date, our store associates are able to better serve our customers during this period of heightened demand as evidenced by recent customer survey results which we are seeing overall satisfaction at all time highs.
Beyond enhancing our ability to serve, this process has also generated significant savings across the business.
Our underlying principles are to keep the business simple, but move quickly to capture growth opportunities while controlling expenses and always seeking to be a low-cost operator.
Our fourth operating priority is to invest in our people as we believe they are our competitive advantage.
In total, for fiscal 2020, we now expect to invest up to $123 million in appreciation bonuses for eligible frontline employees to provide them with further support and demonstrate our continued appreciation for their exceptional efforts during these difficult times.
As a reminder, these bonuses follow our 2017 investment of nearly $70 million in store manager compensation and training, as well as prior and continued investments in employee training, benefits and wages.
Importantly, these investments continue to yield positive results across our store base, including continued record low store manager turnover, strong applicant flows and a robust internal promotion pipeline as well as record staffing levels over the first half of the year.
We believe the opportunity to start and develop a career with a growing and purpose-driven Company is a unique competitive advantage and remains our greatest currency in attracting and retaining talent.
We also held our annual leadership meeting earlier this month, and I was amazed by the team's ability to seamlessly transition to a virtual event resulting in continued development for more than 1,500 leaders of our Company.
This meeting was once again a testament to how our people truly embrace the Serving Others culture.
In summary, we are executing well from a position of strength and our operating priorities continue to provide a strong foundation from which we can continue to provide continued growth in years ahead.
I'm very proud of the progress the team has made in advancing our key strategic initiatives, which we believe better positions us for long-term sustainable growth.
Let me take you through some of the most recent highlights.
Starting with our non-consumable initiative or NCI, as a reminder, NCI consist of a new and expanded product offering in key non-consumable categories.
The NCI offering was available in approximately 4,300 stores at the end of Q2, and we continue to be very pleased with the strong sales and margin performance we are seeing across our NCI product categories.
In fact, this performance is contributing to an incremental 8% comp sales increase in total non-consumable sales compared to stores without the NCI offering, as well as a meaningful improvement in gross margin rate in these stores.
We also continue to realize meaningful benefits from incorporating select NCI products and planograms throughout the broader store base resulting in positive sales and margin contributions across the chain.
As a result of our strong performance in learnings to date, our plans now include accelerating the rollout of our NCI offering to more than 5,400 stores by the end of 2020.
By incorporating a lite [Phonetic] version of this initiative into approximately 400 stores.
The lite version provides for a more streamlined approach as the full NCI assortment is incorporated into space already dedicated to non-consumable products resulting in less disruption to the stores and the ability to more aggressively scale this initiative as we move ahead.
Turning now to DG Fresh, which is a strategic multi-phase shift to self-distribution of frozen and refrigerated goods.
As a reminder, the primary objective of DG Fresh is to reduce product cost on our frozen and refrigerated items by removing the markup paid to third party distributors, thereby enhancing gross margin.
And we continue to be very pleased with the product cost savings we are seeing.
In fact, DG Fresh continues to be the largest contributor to the gross margin benefit we are seeing from higher initial markups on the inventory purchases, which John noted earlier and we expect this benefit to grow as we continue to scale this transformational initiative.
Another important goal of DG Fresh is to increase sales in these categories.
We are pleased with the success we are seeing on this front, driven by higher overall in-stock levels and the introduction of more than 55 additional new items including both the national and private brands in select stores being serviced by DG Fresh.
In total, we were self-distributing to more than 12,000 stores from eight -- excuse me, from eight DG fresh facilities at the end of Q2.
Given our success and strong execution to date, we now expect to capture benefits from DG Fresh in approximately 14,000 stores from at least ten facilities by the end of this year.
This compares to our previous expectation of approximately 12,000 stores by year's end.
Turning to our digital initiative where our strategy consist of building a digital ecosystem specifically tailored to provide our customers with an even more convenient, frictionless and personalized shopping experience, all of which have become even more important as a result of COVID-19.
Today, customers are seeking safe, familiar and convenient experiences in many aspects of their lives, and in that regard, we believe our unique store footprint combined with our digital assets are a distinct competitive advantage.
During the quarter, we accelerated the rollout of DG Pickup, our Buy Online Pickup in the Store offering to more than 2,500 stores compared to about 40 stores at the end of Q1 with plans for even more aggressive expansion as we move ahead.
In fact, we now expect to introduce this offering into essentially all of our stores by the end of Q3.
In addition to DG Pickup, our plans include the further expansion of DG GO!
mobile checkout as we look to combine this feature with self checkout providing an even more convenient and contactless shopping experience.
Moving now to Fast Track where our goals include increasing labor productivity in our stores, enhancing customer convenience and further improving on-shelf availability.
We continue to be pleased with the labor productivity investments we are seeing as a result of our efforts around rolltainer optimization and even more shelf-ready packaging.
The second component of Fast Track is self checkout which represents added flexibility for customers who may seek to limit face to face interactions while also driving greater efficiencies in the store for our associates.
Self checkout is currently available in approximately 400 stores compared to more than 30 stores at the end of Q1.
And our plans consist of a broader rollout later this year as we look to further enhance our convenience proposition.
Overall, we are focused on controlling what we can control, while taking action, including the acceleration of our strategic initiatives to further differentiate and distance Dollar General from the rest of the discount retail landscape.
As a mature retailer in growth mode, we are also laying the groundwork for future initiatives, as we are constantly evaluating what lies ahead for our customers and our business.
We continue to believe we are pursuing the right strategies to drive long-term sustainable growth, while creating value for our shareholders.
In closing, we are excited about our position midway through the year.
Our extraordinary first half results are a testament to the strong execution and disciplined approach of our team.
We are very proud of our people, especially those serving on the front lines. | compname reports q2 earnings per share of $3.12.
q2 earnings per share $3.12.
q2 same store sales rose 18.8 percent.
q2 sales $8.7 billion versus refinitiv ibes estimate of $8.35 billion.
dollar general - believes consumer behavior driven by covid-19 had positive effect on net sales and same-store sales.
on august 25, co's board declared a quarterly cash dividend of $0.36 per share.
as of july 31, 2020, total merchandise inventories, at cost, were $4.4 billion compared to $4.4 billion as of august 2, 2019.
not issuing updated fiscal 2020 sales or earnings per share guidance at this time.
from august 1, 2020 through august 25, 2020, same-store sales increased approximately 15%.
sees fy capital expenditures in range of $1.0 billion to $1.1 billion. |
dollargeneral.com under News & Events.
We also will reference certain non-GAAP financial measures.
dollargeneral.com under News & Events.
We are pleased with our second quarter results and continue to be grateful to our associates for their dedication to fulfilling our mission of serving others.
Despite what remains a challenging operating environment, including additional uncertainties brought on by the Delta variant and pressures on the global supply chain, our teams continue to successfully adapt and deliver for our customers.
Because of their efforts, during the quarter, we saw an improvement in customer traffic as compared to Q1.
And once again increased our market share in highly consumable product sales as measured by syndicated data.
Looking ahead, we remain focused on controlling the things we can control and believe we are well positioned to navigate the current inflationary environment and global supply chain challenges.
As always the health and safety of our employees and customers is our primary focus, while meeting the needs of the communities we serve.
And with more than 17,500 stores located within 5 miles of about 75% of the US population, we believe we are well positioned to continue supporting our customers through our unique combination of value and convenience.
To that end, we recently hired our first Chief Medical Officer.
Going forward, our plans include further expansion of our health offering, with the goal of increasing access to affordable healthcare products and services, particularly in rural America.
Overall, we remain focused on our operating priorities and strategic initiatives as we continue to meet the evolving needs of our customers and further position Dollar General for long-term sustainable growth.
Turning now to our second quarter performance.
As we continue to lap difficult quarterly sales comparisons from the prior-year, net sales decreased 0.4% to $8.7 billion, followed by a 24.4% increase in Q2 of 2020.
Comp sales declined 4.7% compared to the prior-year period, which translates into a robust 14.1% increase on a two-year stack basis.
Our Q2 sales results include a year-over-year decline in customer traffic, which was partially offset by the growth in average basket size.
From a monthly cadence perspective, comp sales were lowest in May, with July being our strongest month of performance.
And I'm pleased to report that Q3 is off to a great start.
Importantly, we continue to be very pleased with the retention rates of new customers acquired in 2020, underscoring the broadening appeal of our value and convenience proposition.
We believe we will ultimately exit the pandemic with a larger, broader and more engaged customer base than when we entered it, resulting in a even stronger foundation from which to grow.
Overall, our second quarter results reflect strong execution across many fronts as we continue to strengthen our position while further differentiating and distancing Dollar General from the rest of the discount retail landscape.
We operate in one of the most attractive sectors in retail, and we believe our unique store footprint further enhanced through our multiyear initiatives provides a distinct competitive advantage and positions us well for continued success.
As a mature retailer in growth mode, we are also laying the groundwork for future initiatives, which we believe will unlock significant growth opportunities as we move forward.
In short, I feel very good about the underlying strength of the business and we're confident we are pursuing the right strategies to enable balanced and sustainable growth while -- while creating meaningful long-term shareholder value.
Now that Todd has taken you through a few highlights of the quarter, let me take you through some of its important financial details.
Unless we specifically note otherwise, all comparisons are year-over-year, all references to earnings per share refer to diluted earnings per share and all years noted refer to the corresponding fiscal year.
As Todd already discussed sales, I will start with gross profit.
As a reminder, gross profit in Q2 2020 was positively impacted by a significant increase in sales, including net sales growth of 41% in our combined non consumables categories.
For Q2 2021, gross profit as a percentage of sales was 31.6%, a decrease of 80 basis points, but an increase of 87 basis points compared to Q2 2019.
The decrease compared to Q2 2020 was primarily attributable to increased transportation costs, a higher LIFO provision, a greater proportion of sales coming from the consumable categories and an increase in inventory damages.
These factors were partially offset by higher inventory markups and a reduction in shrink as a percentage of sales.
SG&A as a percentage of sales was 21.8%, an increase of 138 basis points.
This increase was driven by expenses that were greater as a percentage of sales, the most significant of which were retail labor and store occupancy costs.
Moving down the income statement, operating profit for the second quarter decreased 18.5% to $849.6 million.
As a percentage of sales, operating profit was 9.8%, a decrease of 219 basis points.
And while the unusual and difficult prior year comparison created pressure on our operating margin rate, we're very pleased with the improvement in our profitability on a two-year basis.
Our effective tax rate for the quarter was 21.4% and compares to 21.5% in the second quarter last year.
Finally earnings per share for the second quarter decreased 13.8% to $2.69, which reflects a compound annual growth rate of 27.7% or 24.3% compared to Q2 2019 adjusted earnings per share over a two-year period.
Turning now to our balance sheet and cash flow, which remain strong and provide us the financial flexibility to continue investing for the long-term, while delivering significant returns to shareholders.
Merchandise inventories were $5.3 billion at the end of the second quarter, an increase of 20% overall and 13.7% on a per store basis, as we continue to cycle unusually low levels of inventory in Q2 2020 which were driven by extremely strong sales volumes in that quarter.
Similar to Q1, we strategically pulled forward certain inventory purchases during the quarter, particularly in select non-consumable categories in anticipation of longer lead times.
As a result, we were pleased with our strong inventory position for the back-to-school shopping season and our teams continue to work closely with suppliers to ensure delivery of seasonal and other goods in the remaining back half of the year.
Year-to-date through Q2 we generated significant cash flow from operations totaling $1.3 billion.
Total capital expenditures for the quarter were $518 million and included our planned investments in new stores, remodels and relocations, distribution and transportation projects and spending related to our strategic initiatives.
During the quarter, we repurchased 3.3 million shares of our common stock for $700 million and paid a quarterly dividend of $0.42 per common share outstanding at a total cost of $98 million.
At the end of Q2, the remaining share repurchase authorization was $979 million.
Our capital allocation priorities continue to serve us well and remain unchanged.
Our first priority is investing in high return growth opportunities, including new store expansion and our strategic initiatives.
We also remain committed to returning excess cash to shareholders through anticipated share repurchases in quarterly dividend payments, all while maintaining our current investment grade credit rating and managing to a leverage ratio of about 3 times adjusted debt-to-EBITDA.
Moving to an update on our financial outlook for fiscal 2021.
We continue to operate in a time of uncertainty regarding the severity and duration of the COVID-19 pandemic, including its impact on the economic recovery, global supply chain, consumer behavior and our business.
Despite continued uncertainty, including additional pressure throughout the supply chain and cost inflation, we are updating our full year sales and earnings per share guidance, which reflects our strong first half performance.
For 2021, we now expect the following.
Net sales growth of 0.5% to 1.5%; a same-store sales decline of 3.5% to 2.5% which reflects growth of approximately 13% to 14% on a two-year stack basis and earnings per share in the range of $9.60 to $10.20, which reflects a compound annual growth rate in the range of 20% to 24% or approximately 19% to 23% compared to 2019 adjusted earnings per share over a two-year period.
Our earnings per share guidance assumes an effective tax rate in the range of 22% to 22.5%.
With regards to share repurchases, we now expect to repurchase approximately $2.4 billion of our common stock this year, compared to our previous expectation of about $2.2 billion.
Finally, we are increasing our expectations for capital spending in 2021 to a range of $1.1 billion to $1.2 billion to reflect higher equipment costs for store projects in the pull forward of select supply chain investments.
Let me now provide some additional context as it relates to our outlook.
In terms of sales, we remain cautious in our 2021 outlook given the current continued uncertainties arising from COVID-19 pandemic and the impact of the expected end of additional federal unemployment benefits.
Turning to gross margin, please keep in mind, we will continue to cycle strong gross margin performance from the prior year where we benefited from a favorable sales mix and a reduction in markdowns, including the benefit of higher sell-through rates.
Much like our Q2 results, we expect continued pressure on our gross margin rate in the second half, due to a less favorable sales mix compared to prior year, an increase in markdown rates as we cycle the abnormally low levels in 2020 and higher LIFO provisions as a result of cost of goods increases.
We also anticipate higher supply chain costs in the second half compared to our previous expectations.
Like other retailers, our business is seeing the effects of higher cost due to transit and port delays as well as elevated demand for services at third-party carriers.
However, despite these challenges, our team was able to meet strong customer demand during the quarter and we're confident in our ability to continue navigating these transitory pressures.
Finally, please keep in mind that the third quarter represents our most challenging lap of the year from a gross profit rate perspective, following an improvement of 178 basis points in Q3 2020.
With regards to SG&A, we now expect about $70 million to $80 million of incremental year-over-year investments in our strategic initiatives as we further their rollouts.
This amount includes $40 million in incremental investments made during the first half of the year.
However, in aggregate, we continue to expect our strategic initiatives will positively contribute to operating profit and margin in 2021 driven by NCI and DG Fresh as we expect the benefits to gross margin from our initiatives will more than offset the associated SG&A expense.
In closing, we are proud of our second quarter results, which are a testament to the performance and strong execution by the entire team.
As always we continue to be disciplined in how we manage expenses and capital with the goal of delivering consistent, strong financial performance while strategically investing for the long-term.
We remain confident in our business model and ongoing financial priorities to drive profitable same-store sales growth, healthy new store returns, strong free cash flow and long-term shareholder value.
Let me take the next few minutes to update you on our operating priorities and strategic initiatives.
Our first operating priority is driving profitable sales growth.
The team continues to drive strong execution against a robust portfolio of growth initiatives.
Let me take you through some of our more recent highlights.
Starting with our non-consumables initiative or NCI.
The NCI offering was available in more than 8,800 stores at the end of Q2, and we continue to be very pleased with the strong sales and margin performance we are seeing across our NCI store base.
In fact this performance is contributing to an incremental 1% to 2.5% total comp sales increase in NCI stores and a meaningful improvement in gross margin rate as compared to stores without the NCI offering.
Overall, we remain on track to expand this offering to a total of more than 11,000 stores by year-end, including over 2,100 stores in our light version, with the goal of completing the rollout of NCI across nearly the entire chain by year-end 2022.
Moving to our newer store concept, pOpshelf, which further builds on our success in learnings with NCI.
POpshelf aims to engage customers by offering a fun, affordable and differentiated treasure hunt experience, delivered through continually refreshed merchandise, a differentiated in-store experience and exceptional value with the vast majority of our items priced at $5 or less.
During the quarter we opened eight new pOpshelf locations, bringing the total number of stores to 16, including four conversions of a traditional Dollar General store into our pOpshelf concept.
And while still early, we remain extremely pleased with our results, which continue to exceed our expectations for both sales and gross margin.
We also recently opened our first two store-within-a-store concepts, which incorporates a smaller footprint pOpshelf shop into one of our larger Dollar General market stores, and we are encouraged by the initial results including positive reaction from customers.
For 2021, we remain on track to have a total of up to 50 pOpshelf locations by year-end as well as up to an additional 25 store-within-a-store concepts as we continue to lay the foundation for future growth.
Overall, we remain very excited about the significant and incremental growth opportunities we see available for this unique and differentiated concept.
Turning now to DG Fresh, which is a strategic multiphase shift to self-distribution of frozen and refrigerated goods.
I'm very pleased to report that during the quarter, we completed the initial rollout of DG Fresh across the entire chain and are now delivering to more than 17,500 stores from 12 facilities.
Notably the rollout was completed about six months ahead of our initial rollout schedule.
As a reminder, the primary objective of DG Fresh is to reduce product costs on our frozen and refrigerated items and we continue to be very pleased with the savings we are seeing.
In fact DG Fresh continues to be the largest contributor to the gross margin benefit we are realizing from higher inventory markups and we expect additional benefits going forward as we continue to optimize our network and further leverage our scale.
Another important goal of DG Fresh is to increase sales in these categories, and we are pleased with the success we are seeing on this front, driven by higher overall in-stock levels and the introduction of additional products, including both national and private brands.
For example, we recently introduced about 25 new and exclusive items under the Armor [Phonetic] brand, as we continue to optimize our assortment, while further differentiating our product offering from others.
And while produce was not included in our initial rollout plans, we believe DG Fresh provides a potential path to accelerating our produce offering in up to 10,000 stores over time as we look to further capitalize on our extensive self-distribution capabilities.
Moving to our cooler expansion program, which continues to be our most impactful merchandising initiative.
During the first half, we added more than 34,000 cooler doors across our store base and remain on track to install approximately 65,000 cooler doors this year.
Notably, the majority of these doors will be in high capacity coolers, creating additional opportunities to drive higher on-shelf availability and deliver an even wider product selection, all enabled by DG Fresh.
In addition to the gross margin benefits associated with NCI and DG Fresh, we continue to pursue other gross margin enhancing opportunities, including improvements in private brand sales, global sourcing, supply chain efficiencies and shrink.
Our second priority is capturing growth opportunities.
Our proven high-return low-risk real estate model continues to be a core strength of our business.
In the second quarter, we completed a total of 772 real estate projects, including 270 new stores, 477 remodels and 25 relocations.
For the full year, we remain on track to open 1,050 new stores, remodel 1,750 stores and relocate 100 stores.
In addition, we now have produce in more than 1,500 stores with plans to expand this offering to a total of more than 2,000 stores by year end.
As a reminder, we recently made key changes to our development strategy, including establishing our larger 8,500 square foot format as our base prototype for nearly all new stores going forward.
We're especially pleased with the sales productivity of this larger format, as average sales per square foot continue to trend well above an average traditional store.
In total, we expect to have nearly 2,000 stores in this format by the end of the year, as we look to further enhance our value and convenience proposition particularly in rural America.
Next our digital initiative, which is an important complement to our brick and mortar footprint, as we continue to deploy and leverage technology to further enhance convenience and access for customers.
Our efforts remain centered around building engagement across our digital properties including our mobile app, which continues to grow in popularity.
In fact, we ended Q2 with nearly 4 million monthly active users on the app, a 28% increase over prior year.
Importantly, as we continue to drive higher levels of digital engagement, our DG Media Network, which we launched in 2018 has become an increasingly more relevant platform for connecting our brand partners with our customers.
Of note, during the first half, the number of campaigns on our platform increased 65% compared to the prior year period, and we are very excited about the growth potential of this business as we look to further enhance the value proposition for both our customers and brand partners.
Overall our strategy consists of building a digital ecosystem specifically tailored to provide our customers with an even more convenient frictionless and personalized shopping experience, and we are pleased with the growing engagement we are seeing across our digital properties.
Our third operating priority is to leverage and reinforce our position as a low-cost operator.
We have a clear and defined process to control spending, which continues to govern our disciplined approach to spending decisions.
This zero-based budgeting approach internally branded as Save to Serve, keeps the customer at the center of all we do, while reinforcing our cost control mindset.
Our Fast Track initiative is a great example of this approach, where our goals include increasing labor productivity in our stores, enhancing customer convenience and further improving on-shelf availability.
The first phase of Fast Track consisted of optimizing our rolltainers in case pack sizes, resulting in the more efficient stocking of our stores.
The second component of Fast Track is self checkout, which provides customers with another flexible and convenient checkout solution, while also driving greater efficiencies for our store associates.
Self checkout was available in approximately 4,300 stores at the end of Q2, and we continue to be pleased with our results, including customer adoption rates and higher overall satisfaction scores in stores that include this offering.
Our plans consist of a broader rollout this year and we remain focused on introducing self checkout into the vast majority of our stores by the end of 2022 as we look to further extend our position as an innovative leader in small-box discount retail.
Our underlying principles are to keep the business simple, but move quickly to capture growth opportunities, while controlling expenses and always seeking to be a low-cost operator.
Our fourth operating priority is investing in our diverse teams through development, empowerment and inclusion.
As a growing retailer, we continue to create new jobs in the communities we serve.
As evidenced, we recently launched a national hiring event with the goal of hiring up to an additional 50,000 employees by Labor Day, and I am pleased to note that we are on track to meet our goal.
We believe the opportunity to start and develop a career with a growing and purpose-driven company is a unique competitive advantage and remains our greatest currency in attracting and retaining talent, and because over 75% of our store associates at or above the lead sales associate position were internally placed, employees who joined Dollar General know, they have an opportunity to grow their career with us.
We also continue to innovate on the development opportunities we can offer our teams, including continued expansion of our private fleet and those associated with DG Fresh as well as pOpshelf.
Importantly, we believe these efforts continue to yield positive results across our store base, as evidenced by a robust internal promotion pipeline in staffing above traditional levels.
We also held our annual leadership meeting earlier this month, resulting in a rich and virtual development experience for more than 1,500 leaders of our company.
This is one of my favorite events every year and I was once again inspired by the incredible talent and dedication of our people.
In closing, I am proud of our team's performance as we continue to advance our operating priorities and strategic initiatives.
Overall, we are very pleased with our position as we head into the back half of the year.
And I'm excited about the significant growth opportunities ahead. | compname posts q2 earnings per share of $2.69.
q2 earnings per share $2.69.
sees fy sales up 0.5 to 1.5 percent.
q2 sales $8.7 billion versus refinitiv ibes estimate of $8.61 billion.
qtrly same-store sales decreased 4.7%; increased 14.1% on a two-year stack basis.
sees fy same-store sales decline of 3.5% to 2.5%.
sees fy diluted earnings per share in range of $9.60 to $10.20.
as of july 30, 2021, total merchandise inventories, at cost, were $5.3 billion compared to $4.4 billion as of july 31, 2020.
same-store sales in q2 included a decline in each of consumables, seasonal, apparel, and home products categories. |