Oct 28, 2016
Executives
Tom Fitzmyers – Vice Chairman Karen Colonias – Chief Executive Officer Brian Magstadt – Chief Financial Officer
Analysts
Tom Lange – Robert W. Baird Daniel Moore – CJS Securities Michael Conti – Sidoti & Company Steve Chercover – D.A.
Davidson
Operator
Good morning, ladies and gentlemen and welcome to the Third Quarter 2016 Simpson Manufacturing Company Incorporated Earnings Conference Call. In this conference call, the company may discuss forward-looking statements such as future plans and events.
Forward-looking statements, like any prediction of future events, are subject to factors, which may vary and actual results might differ materially from these statements. Some of such factors and cautionary statements are discussed in the company’s public filings and reports.
Those reports are available on the SEC’s or the company’s website. Please note, today’s call maybe recorded.
Now, I would like to turn the conference over to Tom Fitzmyers. Please proceed.
Tom Fitzmyers
Thank you. Thanks everyone.
Good morning. Welcome to the Simpson Manufacturing Company, Inc.’
s third quarter 2016 earnings call. Our earnings press release was issued yesterday and it is available on our website at simpsonmfg.com.
Today’s call is also being webcast and a replay of that webcast will be available on our website. As usual, joining me for today’s call are Karen Colonias, Simpson’s CEO; and Brian Magstadt, Simpson’s CFO.
I will start, followed by Karen and Brian, and then we will be delighted to take your questions. North America had a good sales quarter, up nearly 7% compared to last year based on an increase in housing starts and construction activity in most of the region.
Our European sales were up nearly 6% compared to last year’s Q3 despite almost $1 million negative foreign exchange effect. North America operating profits were up $8.9 million due to increased gross profits partially offset by the increase in operating expenses.
Europe was up a small amount against last year and Asia-Pac improved $1.2 million due to cost recorded last year related to the wind down of Asia sales office which did not reoccur this year. We continue to have a very strong financial position $219 million in cash and $300 million unused credit facility which was just renewed and this gives us flexibility and the capability to continue investing in our long-term strategy.
That cash amount is down from Q2 due impart to $50 million accelerated share repurchase agreement thus consistent with our commitment of returning capital for shareholders. Before I turn the call over to Karen, I also wanted to mention that our Board of Directors has declared a quarterly dividend of $0.18 per share and that’s payable in January.
Karen?
Karen Colonias
Thanks, Tom. In an effort to ensure we are the most cost effective connector manufacturer in North America, we started to transition our high volume connector production out of the Riverside branch to our other major manufacturing locations in North America.
To-date, we’ve moved over 40% of the production and the plan is ahead of schedule. Our branches are hiring additional people to ensure we have trained employees to handle the extra production.
We’re also shifting some production out of our Western Canada plant. These changes will allow us to use our equipment more efficiently and to strive for our goal of 75% on two full shifts.
Both branches will remain sales and distribution locations with capabilities to produce custom products quickly. This will ensure that we continue to meet our commitment of service and availability to our customers.
Once the transition is completed, we expect to see over $3 million of annualized savings. We’re continuing our SAP integration plan, converting our current and ageing ERP system, minimizing [inaudible] and configuring not customizing the standard SAP modules.
This project will rolled out in phases to reduce the risk of business disruption. This is a three to four year plan of approximately $30 million some other spend capitalized.
Although a short-term increase in operating expense, once fully implemented, we anticipate annual savings around 1% of sales to business analytics to improve inventory management, improve purchasing and reduced operating costs as we grow. Our truss specialists have been actively presenting our truss design and management software and working on converting customers.
Last week, we had a very successful showing at the recent BCMC, that’s the Builder Component Manufacturers Conference. Our software demonstrations were very busy and we had an increased number of midsized component manufacturers attend demonstrations.
This is key as our software team works to add expanded features to the truss design program to meet the component manufacturers need. Truss sales, although small, are up about 14% year-to-date.
As a reminder, our current design features allow us to approach about one-third of the U.S. truss market.
We continue to be engaged with M&A firms in both North America and Europe, working to find good acquisition targets to help us meet our long-term growth strategy. In September, we acquired [inaudible] a small profitable manufacturer and distributor in Belgium with revenue of approximately $5 million.
This acquisition fits our European plan to expand our product line through Belgium and the Netherlands. I’d now like to turn the call over to Brian who will share some additional financial information.
Brian Magstadt
The margin differential of wood to concrete products is about 16 parentage points this quarter compared to 15 percentage points Q3 last year due to wood product gross margin increasing at a higher rate than concrete product gross margins, both on increased sales. Those factors led to a Q3 2016 gross margin of 49.1%, up from Q3 last year of 46.4%.
As noted in the press release, we believe the estimated gross margin will be 47% to 48% range for the year 2016 depending on how Q4 goes. Total operating expenses which are R&D and engineering, selling and administrative as a percent of sales were down about 80 basis points in the quarter compared to last year as the company took a write off a software project in 2015 that did not occur in 2016.
Well it’s partially offset by cash profit sharing of higher operating income and legal and professional fees as the company works to deliver on its long-term strategic initiatives. The tax rate of 34.8% for this year Q3 is down from 38.4% for our last Q3 primarily related to lower foreign losses and the R&D tax credit which was made permanent at the end of 2015.
We believe the annual effective tax rate for 2016 will be between 36% and 37%. In Q3 2016, CapEx excluding the acquisition Karen noted was about $12.5 million, primarily for improvement in the new chemical facility that we announced last year as well as our Texas facility expansion.
We also invested in manufacturing equipment and software development. We estimate total 2016 CapEx to be in the $42 million to $45 million range as some projects will complete next year.
For 2016, depreciation and amortization expense is expected to be $28 million to $30 million, $22 million to $23 million is depreciation. You may have also noticed some compensation and governance changes made by our Board of Directors which were announced on our Form 8-K earlier this week.
Before we turn it over to questions I would like to remind you that if you’d like further information, please contact Tom at the phone number listed on the press release. Also, look for our quarterly report on Form 10-Q to be filed in the next couple of weeks.
We would like to now open it up for your questions.
Operator
[Operator Instructions]. And we’ll take our first question from Tom Lange with Baird.
Please go ahead sir.
Tom Lange
Good morning everybody.
Karen Colonias
Morning.
Tom Lange
So I guess, yeah nice job especially with some of the cross-currency you’ve seen in billing this quarter, I think you guys had a nice quarter here. I guess my first question is really on gross margins and Brian could you give us a little bit of an idea, if you look on a year-over-year basis may be from ‘16 to ‘15 or – in the quarter but could you kind of break out how much of the year-over-year expansion in gross margins is driven by lower material cost versus some other things and really we’re asking is just try to think about how sustainable the gross margin improvement is or how much just might be driven by the timing of raw materials?
Brian Magstadt
Yeah, as we noted labor and material were the two driving factors in that as well as little bit of pricing will help the gross margin as well. We don’t go into details to describe how much of that improvement is directly related to each of those components but those were the two primary drivers quarter-over-quarter and to an extent the year-to-date as well are moving in the same direction on those components.
Tom Lange
Okay, I guess… go ahead.
Brian Magstadt
And then from a sustainability standpoint…
Karen Colonias
Yeah from a sustainability standpoint I think it’s been very well publicized what’s happened in the steel market. We did input a price change which will take effect this quarter based on what’s happening with the steel pricing even though that’s currently stabilizing, there was a pretty big spike in the pricing of steel.
Tom Lange
Okay. So is it – at this point do you think gross margins can be kind of flattish next year or should we kind of assume that may be they are down a little bit?
Brian Magstadt
For the entire year, flat to may be slightly down but I think it’s still bit early to tell.
Tom Lange
Okay, okay. And then as we think about just I think you talked about $30 million of spend on the ERP, is there a way to think about how much of that run through the P&L versus how much is capitalized even in percentage terms?
And should we think that phases in kind of ratably as you go into ‘17 in terms of expenses?
Brian Magstadt
Majority of that gets capitalized, implementation, licenses and the like will get capitalized and eventually once it’s available for use which would be probably early 2018, it will start being amortized and that will start to run through the P&L. That being said, there’s still a fair amount of expense that will run through the P&L in relation to putting that in and then eventually getting our teams are well trained.
I would say that the heavier years are going to be ‘17 and ‘18 from a P&L perspective and it will tail off but as that starts to tail off, the amortization will start to pick up. So from a modeling perspective, I think it’s still a little bit hard to tell.
But from the actual expenditures, the cash out the door whether it’s capital or P&L expense will be heaviest in ‘17 and ‘18.
Tom Lange
Okay, that’s helpful. Then I noticed that sales I think the lumber dealers were down in Q3, is there anything to read into that I mean was that destocking or is there something else to kind of think about?
Karen Colonias
Yeah, I think that’s more of a timing issue, all of our distribution channels are doing very well again as the markets improve. So I think that would be more of a timing issue.
Tom Lange
Okay. And then lastly just, what’s the -- has your view on that kind of residential housing market changed at all relative to where we were last quarter here and kind of think going forward may be comps will be tougher in Q4-Q1.
How do you feel structurally about the housing market looking into 2017?
Karen Colonias
Well I think if you look at the housing information even though we are seeing multi-family is down, we are seeing a nice uptick on residential. And as I’ve mentioned in the past, we put our products in both multi-family and residential, but we do have more products, more units that we sell into a single family residential start than we would from a multi-family standpoint.
So even though those numbers might - as total starts might not be as aggressive as some analysts think, the fact that the single families are really picking up is good news for our particular product line. We basically attend the National Association of Home Builders, we look at what all the investors put out and typically a little bit more conservative than may be some of those numbers might show.
I think next year we’re running around 1.25 typically we think that might be a little bit aggressive, but we do like the trend shifting from multi-family into single family residential.
Tom Lange
Okay. Okay I lied I have one more question.
With the hurricane that kind of landed in Florida, is there any material impact that you guys typically see on your business around that, anything you can kind of share there?
Karen Colonias
Yeah, the hurricane shifted off the coast and so certainly there was quite a bit of wind damage and storm surge, but luckily again for those residents that hurricane shifted more off to the east. So we have not seen major structural damages, the typical types of things some roof material being blowing off and really storm surge creates quite a bit of damage there.
What the hurricane does though it makes an awareness for people in the area and it always helps to take a look at building standards and just look at the damage that occurred from that particular hurricane to see if there’s anything we can do better to help build those sacred structures. So luckily not a lot of damage, we would not expect to see an uptick in business based on that hurricane again because it did move more off to the east and again, luckily did not do a lot of damage there.
Tom Lange
Great. Well nice job and good luck on the rest of ‘16 year.
Karen Colonias
Great. Thank you.
Operator
[Operator Instructions]. And we’ll take our next question from Dan Moore with CJS Securities.
Please go ahead.
Daniel Moore
Good morning. Thanks for taking the questions.
Karen Colonias
Good morning, Dan.
Daniel Moore
Just a quick clarification Karen, you mentioned price change going in at the end of the quarter, is that a price increase related to the earlier kind of spike in steel prices?
Karen Colonias
Yes that is a price increase again that’s been – we have to give our customers at least a 60 day notice so that will be implemented before the end of the year.
Daniel Moore
Perfect. And going back to really, really good numbers impressive growth in North America especially as the prior questions alluded to sort of some cross currents.
Are you seeing any market share gains? Are you seeing any inventory perhaps accumulation anything else, any other factors that might explain the strength, not that it was an anomaly but we’ve seen sort of mixed data and your numbers seem to be a little bit better than what we’d have thought?
Karen Colonias
Well I don’t think we are seeing any inventory build ups. Again I think our sales force has done an excellent job of working with our customers, talking about our new products that we have out and certainly the whole company did a great job of servicing and providing product availability for our customers.
So I think it’s just a continuation of what we really built the brand on over the past 60 years.
Daniel Moore
Okay. And then within North America, any specific regions geographies that you might point out being either stronger perhaps a little lighter than others?
Karen Colonias
I think the Northeast is slowing down a little bit, seeing more housing starts a little bit more into the Southeastern markets so that’s a little bit helpful. And also I think we’re getting a little bit of pickup on housing starts on the West Coast.
Daniel Moore
Got it. And lastly, you talked about truss, in terms of FRP, any update there on the progress in terms of adoption approval either North American, Europe and may be any color on when you expect the market in general to start to accelerate a little bit?
Karen Colonias
Yeah, we’ve as I mentioned to you we got the code report on our carbon fiber material that happened earlier this year. We are certainly seeing an increase in projects, we have a pretty extensive tracking system that helps us look at jobs that we’ve quoted, both for our FRP jobs and the FX-70 which is that project that repairs filings.
And we’ve been pretty successful in converting quite a few of those jobs, good direction at this point. We are encouraged by the number of jobs that we’re getting the availability to quote and we’re certainly working on converting more of those quotes.
But we - always the first step is people are aware that you have the product and seeing that you are getting put on a specification and the opportunity to quote the jobs. So we’re encouraged by our tracking system and what we’re seeing on the increase on the jobs we’re quoting, always would like to have a little bit better number on converting those, but working on that process.
Daniel Moore
Got it. Thanks for the color.
Congrats again on the solid quarter.
Karen Colonias
Great. Thanks, Dan.
Operator
We’ll take our next question from Michael Conti with Sidoti. Please go ahead.
Michael Conti
Hey, good morning.
Karen Colonias
Good morning.
Brian Magstadt
Good morning, Mike.
Michael Conti
Oh yeah. Can you just talk about the Asia-Pacific growth rate, just surprised to see growth in that segment, may be just talk about what drove that and how we should think about growth in that region going forward?
Karen Colonias
Right. In our Australia-New Zealand market, that market builds wood houses very similar to how we do in the U.S.
market. And so, we’ve had some good success, economy is doing well in both the Australia and New Zealand.
We sell our connector line which is something we just introduced this year into that market, but we sell predominantly our fastener line and some of our anchor systems. And so, again the team is very aggressive.
We have an excellent manager in that market and they’re aggressively going after that similar housing construction that we have here in the U.S. that’s really what you’re seeing in that uptick in that market space is a broader product line that we’re selling into that customer base.
Michael Conti
Got it. Okay.
And then Brian, with the increase in the gross margin guidance, you mentioned a price increase going on, is that more of a function of consuming lower raw material cost or I guess a wider spread or is that more of a function that you guys are going to see higher volumes in order to leverage your fixed cost?
Brian Magstadt
I think it’s more on the continuing the trend that we’ve seen through the year on those factors that have contributed to the gross margin improvement. So just having those continue to run through the end of December and trying to project that out.
So we’re at a 48% year-to-date, that’s really driving that particular guidance for the end of the year. Q4 like Q1 is typically a little lower volume production and our factory absorption, there may be a bit of impact there for the quarter which ultimately affects the year.
But for the other factors, just seeing those continue to contribute as they happen.
Michael Conti
Got it, okay. And then just transition on the concrete construction side, nice growth there, nice absolute dollar amount, I guess what are some of the drivers there?
Is it mix? Is it better distribution on your end?
How should we think about that segment going forward?
Karen Colonias
Well as we’ve already talked about Mike in the concrete space, it’s taken us a little while to get our foundational pieces in place and those being the testing, the code reports, certainly all the marketing literature and putting a very well trained sales force in place as well as training our inside sales to be able to answer the technical questions. So I think what you’re seeing there is the pieces are now in place and we’re seeing some rewards by being able to get some additional sales in that space.
Obviously as we get additional sales, it helps us from a cost standpoint, so we’re seeing a gross margin improvement based on volume. But the team is really doing a great job now of going out and promoting the features and benefits of our concrete repair products.
Michael Conti
Perfect. And then just last one for me, I guess going forward on future earnings release are you going to separately state the cost incurred related to the ERP implementation or are you going to bundle that with other items?
Brian Magstadt
To the extent that it shows a material change in the numbers, so from a comparison purpose, if it shows a number that explains a large amount of that change, we would explain that on a go forward basis.
Michael Conti
Got it. Great.
That’s all I have. Thanks.
Karen Colonias
Thanks.
Brian Magstadt
Thanks, Mike.
Operator
And we’ll take our next question from Steve Chercover with Davidson. Please go ahead.
Steve Chercover
Good morning. Sounds like you’re pretty conservative on the 2017 outlook for housing, and I appreciate that.
We’re probably going to come in around 1.17 or 1.18 this year and so 1.25 you think even that is difficult to attain?
Karen Colonias
Well, again, I always – we pull a lot of information from various groups that looking at housing starts and I think in general for the past three years, the estimates have been slightly lower than what the consensus has been and so that’s really more to my statement is if we historically look back, I think the consensus, the actual numbers have just come in slightly lower than that.
Steve Chercover
Yes, I think that is accurate. And then, you kind of touched on this but single family dwelling has consumed three times more wood than multi-units.
So presumably that’s much better for the connector business as well, could you elaborate a bit?
Karen Colonias
Yeah, again I would hesitate to use that multiple of wood as a multiple of connectors, but certainly in single families looking at that as a unit compared to a single apartment complex, we have more products into that just because of the typically the square footage associated with it and also the resistance that we need from both the roof structure where we are putting our hurricane ties and also wall space where we are putting some of our lateral systems. And so we do get more product on single families.
I would reiterate though, it really depends where the single family is built, if that single family is in a pretty non-seismic area with low winds, we will have a small amount of product on that compared to that single family being built anywhere in the coastal parts of the U.S. or anywhere where we’ve got some high seismic and wind areas.
Steve Chercover
Certainly. Okay.
Thank you.
Karen Colonias
Thanks, Steve.
Operator
And it appears that we have no further questions at this time.
Karen Colonias
Great. Thanks everybody.
Brian Magstadt
Thanks very much.
Operator
And this does conclude today’s program. Thank you for your participation, you may now disconnect.