Skyline Champion Corp

NYSE:SKY

Earnings Call Transcript 2019-Q1

[Operator]

Good morning, and welcome to Skyline Champion Corporation's First Quarter Fiscal 2019 Earnings Call. The company issued an earnings press release this morning. Before we begin, I'd like to remind everyone that today's press release and statements made during today's call include forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements are subject to risks and uncertainties that could cause actual results to differ materially from our expectations and projections. Those risks and uncertainties include the factors set forth in the earnings release and in our filings with the Securities and Exchange Commission. Additionally, during today's call, the company will discuss non-GAAP measures, which they believe can be useful in evaluating their performance. A reconciliation of these measures can be found on the earnings release.

I would now like to turn the conference over to management. Please go ahead.

[Keith Anderson, executive]

Good morning, this is Keith Anderson, Skyline Champion's CEO. With me this morning is Laurie Hough, EVP and CFO of the company. Thank you for joining our First Quarter 2019 Earnings Call. We're excited about the future of our company, given the momentum stemming from our transaction on June 1 between Skyline and Champion, forming the #2 market share manufacturer in our industry with an expanded footprint and product offering.

I would like to acknowledge our secondary equity offering, which priced last week. 10,350,000, shares were sold at $22 per share price, raising approximately $228 million before fees for selling shareholders.

I appreciate the strong investor interest and would like to welcome all the new shareholders to Skyline Champion. We look forward to continuing to get to know you and updating you about our business and performance going forward.

Before we jump into the quarterly results, I would like to take a few minutes to provide some background on the company and our strategy for those of you that are new to the story. We're the second largest factory-built housing company in the U.S., with pro forma market share of approximately 17% of the HUD manufactured housing industry. We also hold a leading position in Western Canada. On a pro forma basis, we generated $1.3 billion of net sales and adjusted EBITDA of $76 million for the fiscal year ended March 31, 2018. This adjusted EBITDA margin of approximately 6% is before expected synergy stemming from the combination.

Our U.S. business represents approximately 84% of the pro forma net sales, with Canada and our transportation business each representing approximately 8%.

Our product portfolio is broad by type of home and price point. Manufactured housing accounts for the majority of our shipments followed by modular housing, commercial and park model RVs.

Our products are sold through a network of more than 1,000 independent dealers across the country, as well as 21 company-owned retail stores located primarily in the southern U.S. We operate 36 manufacturing facilities, strategically located in the markets that are close to our customers.

Our industry is attractive and is being driven by differentiated and secular trends leading to outsized growth compared to the traditional site-built housing market. Market volumes for manufactured housing have been recovering but remain significantly below long-term averages, with 2018 MH industry volumes expected to approach 105,000 units compared to the long-term average of 224,000. Viewed from another perspective, MH is expected to be about 10% of single-family housing starts this year compared to the longer-term average of more than 17%.

We think growing demand combined with new financing options will help to close that gap with historical trends as MH plays -- has an increasingly important role in providing the market with affordable housing solutions.

First, let's discuss our financial results for the quarter and then talk about some of the tailwinds that are providing the industry with further momentum for growth and expansion. We're very pleased with our first quarter financial results for the 3 months ended in June. It's important to note that since Champion was the accounting acquirer in the Combination, we adopted Champion's fiscal year reporting period, which began on April 1. Therefore, this quarter's results only include 1 month, June, of Skyline's operating results along with 3 months of Champion's results.

Highlights include our adjusted EBITDA, more than doubled to $22.7 million and represented 7.1% of net sales compared to 4.5% for the first quarter of 2018. This was driven by a $78 million or 32% increase in net sales from selling 20% more homes in the U.S. and over 13% increase in our Canadian home sales.

While Laurie will discuss our financials in more detail, I have a few thoughts to share with you.

We continue to see strong demand in most of the U.S. markets, as well as in the British Columbia province of Canada. Backlogs continue to grow as demand through all 3 of our distribution channels, independent dealers, company-owned stores, as well as communities continues to accelerate.

Consumers continue to view ours homes as attractive and affordably priced and that are built with the quality and care and with features fitting the needs of today's families. We're also beginning to see more competitive retail financing programs appear for both the channel and land home segments of our business. This is helping us improve our order rates, as well as helping our customers qualify for higher-priced homes than in the past.

We're excited about these developments and look forward to executing our strategy as a combined company with increased scale and scope.

I will now turn the call over to Laurie to discuss the quarter in more detail.

[Laurie Hough, executive]

Thanks, Keith. We are pleased with our performance during the quarter as net sales increased 32% to $322 million compared to $244 million in the prior year. The net sales increase was driven by 4 main factors: one, increased manufacturing capacity; two, plant operating improvement, which led to increased output; three, additional retail sales centers in operation during the most recent quarter; and four, an increase in the average home selling price.

Net sales included $22 million, generated from the Skyline operations for the 1 month of June 2018. The number of U.S. factory-built homes sold in the first quarter of fiscal 2019 increased 20%. Average selling price per U.S. homes sold increased 15% as a result of increased market demand, product mix and pricing actions to offset the impact of rising material and labor costs. In addition, our Canadian sales volume improved by over 13%.

Gross profit increased to $55 million, up 53% compared to the $36 million for the prior-year period. Our U.S. factory-built housing segment increased gross margins to 17% of segment net sales from 14.4% in the same period last year. Although material prices and labor costs have been increasing in recent periods, we have been able to offset the margin effect of those increases with the combination of price adjustments, operational improvements and product rationalization. The company continues to standardize product designs and material purchases, which allow for more efficient production.

As a result of these efforts, the U.S. manufacturing plants have been able to increase output, which allows for better leverage of fixed costs. The increased volume at the Canadian operations also helped to improve that segment's gross margin.

SG&A in the first quarter increased $18 million versus the same period last year, primarily due to transaction-related expenses such as equity compensation, integration and restructuring expenses of $9.6 million. In addition, variable compensation expenses increased $4 million with the increase in sales and profitability.

Lastly, SG&A increased to $1.7 million due to the additional capacity of the Skyline operations added in the month of June. The net loss for the first quarter was $900,000 compared to net income of $5.3 million during the same period from the prior year. The decline was driven by an increase in income tax expenses as well as SG&A. The company's effective tax rate for the 3 months ended June 30, 2018 was 133% versus an effective tax rate of 35% for the fiscal 2018 first quarter. The increase in the effective rate was primarily due to nondeductible transaction-related expenses and noncash stock compensation expense. SG&A was higher due to the same transaction-related legal accounting and advisory services expenses and the noncash equity compensation expense.

Absent these nondeductible discrete items identified in the quarter, the company's effective tax rate would have been 28.7%.

Adjusted EBITDA for the 3 months ended June 30, 2018 was $22.7 million, an increase of 109% or $11.8 million over the 3 months ended July 1, 2017. The adjusted EBITDA margin expanded by 260 basis points to 7.1%. We're seeing improvement driven by strong demand in a number of our markets, improved operating leverage as our volume grows and early results from our operating margin improvement initiative.

As of June 30, 2018, we had $80.9 million of cash and cash equivalents. Cash generated from operations improved by over $6 million versus the same quarter last year, driven by improved profitability. The company has $30.5 million of unused borrowing capacity under our $100 million revolving credit facility. We have a strong and growing cash position, with added liquidity from our credit facility that provides ample flexibility to invest in our core business and our internal initiatives.

We continue to target $10 million to $15 million of synergies over the next 24 months. There were minimal synergies recognized in the first quarter of fiscal 2019 due to the timing of the close, but we are making good progress on procurement savings opportunities as well as identifying and beginning to implement operational best practices. We remain confident in our ability to achieve the targeted synergy range.

I'd like to turn the call back to Keith for some closing remarks.

[Keith Anderson, executive]

Thanks, Laurie. As you can see, we're off to a strong start to the fiscal year. As we look forward, we expect our markets to remain healthy, driven by increasing demand for affordable housing and improving financing availability for our consumers. We see opportunities to grow our business organically, pursue incremental M&A and expand our margins through operating leverage, operational initiatives and transaction-related synergies.

Longer term, we are well positioned to remain one of the leading providers of factory-built homes and generate attractive returns for our shareholders. That concludes our prepared remarks. Operator, could we open the call to any questions that are outstanding?

[Operator]

[Operator Instructions] Our first question today is coming from Daniel Moore from CJS Securities.

[Dan Moore, analyst]

Obviously, off to a very impressive start here. In terms of ASPs, maybe talk a little bit about what's driving that 15% growth in average selling price in the U.S. Is it pure pass-through of raw materials? Are you seeing favorable mix? Anything else in there?

[Laurie Hough, executive]

Dan, it's a little bit of both. We did see high single-digit inflation in our material costs in the first quarter. So certainly, increasing prices to offset that. But mix is also impacting the average selling price.

[Dan Moore, analyst]

Helpful. And in terms of the margin improvement, is it possible to tease out how much of the 230 basis point gross margin increase was from -- could we bucket that a little bit between price, streamlining operations, purchasing? Any other factors?

[Laurie Hough, executive]

Yes, I can't give you specific numbers but it's a combination of several, obviously, several items. Just improved volume and operating leverage. And then we've been working to rationalize our product offerings, both in our base models and options, as well as reducing our material SKUs. And then just with the backlogs that we have at the factories today, we have the ability to streamline the product mix as it goes through the factory, which also helps to improve throughput.

[Dan Moore, analyst]

Very helpful. Do you have the, Laurie, perhaps revenue and adjusted EBITDA on a pro forma basis for the quarter and comparable quarter last year?

[Laurie Hough, executive]

That information will be in the Q, which will be coming out later this week.

[Dan Moore, analyst]

That's fine. And then maybe just a few modeling questions. I think you said the adjusted tax rate was 28.7%. Is that a good rate to think about going forward?

[Laurie Hough, executive]

It's in the range, yes.

[Dan Moore, analyst]

Got it. And then either quarterly run rate or the remainder of the year, how should we think about D&A and CapEx as well as that noncash comp line?

[Laurie Hough, executive]

Yes, I think the information in the Q will help you with that.

[Dan Moore, analyst]

Got it. I'll leave -- I'll get there. And lastly, obviously, Keith mentioned in his prepared remarks, talked a lot -- we've heard a lot about financing lately. What's the latest you're hearing from the GSEs in terms of interest in expanding credit in those programs? And secondly, are you starting to see more private institutions enter the chattel-lending space? And if so, how quickly do you think we might get to enough critical mass to warrant a secondary market opening up?

[Keith Anderson, executive]

Sure. Thanks, Dan. We've had some really good conversations with the GSEs and there seems to be a lot of positive momentum with them supporting our industry with products that really fit our demographic and collateral profile. It is a unique business. It's a niche industry and therefore, you have to customize those products to work both short term and long term for lenders and investors. On the land home side, we feel that the GSEs will be rolling out good successful programs later this year. Fannie Mae has already introduced a piece of their program. On the chattel side, they will be focused on that in 2019. They have several resources working on that at this time. I should mention, on the chattel side also, there's been a very positive movement with other private institutions expanding their credit box and improving the terms for our end customer that we're really excited about and we think that, as those institutions get good performance data, the secondary market will come along as well to help support our industry. So both are positive developments that we should certainly gain from in the coming years.

[Dan Moore, analyst]

That's helpful. It was a huge percentage of your market going back more than a few years, so it will be great to see it come back.

[Operator]

Our next question today is coming from Greg Palm from Craig-Hallum.

[Greg Palm, analyst]

Congrats on the results and, obviously, the first time as a combined Skyline Champion company. I'd like to start out with just sort of from a demand environment standpoint, in light of some of the commentary from some of the traditional homebuilders. Curious what you're seeing out there in the market, especially in the last maybe 2 to 3 months from a traffic standpoint, from an ordered standpoint. Anything kind of changing from kind of year-to-date or is it still sort of the status quo strong?

[Keith Anderson, executive]

Yes, Greg, we've seen really good order rates all across the country. I would say, early in our fiscal year, the north and northeast started off a little slow. I think it was potentially part of the long winter drag that occurred. But since then, both the Midwest and Northeast markets have come on really strong. Texas and Florida remained very strong markets, and the West Coast has really picked up over the last 6 to 12 months. So a lot of good traffic out there at our retail locations and our independent stores. I think the momentum is certainly here to continue.

[Greg Palm, analyst]

And if I may ask, if I just sort of do some back of the envelope and take out what I thought maybe was the one month of Skyline contribution in the quarter. I get to something where we're still sort of north of 20% year-over-year revenue growth for Champion standalone. I guess, can you confirm that? I think that was all [ over mechanics ]. So I guess what I'm getting at, how sustainable is that type of growth rate going forward? I mean, that's obviously pretty substantial there.

[Laurie Hough, executive]

Your math is spot on, so that's right. And we're obviously being helped by the volume and throughput through the factory and a couple of those items that we mentioned in response to Dan's questions earlier. So we have strong backlogs right now and increasing capacity is helping.

[Greg Palm, analyst]

Yes, that's great. And then on the backlog, do you have the number of how that compares, the $222 million, how that compares to year-ago levels, either on a pro forma basis or maybe a Champion standalone? And I guess, more importantly, just in terms of working that off, is it more about improving throughput at the existing plants? Do you plan on opening some of the idle plants? What's the strategy there?

[Laurie Hough, executive]

Yes, backlog, on a comparable year-over-year basis, is pretty consistent with prior numbers that we've put out in the 60% range, not including the Skyline plants.

[Keith Anderson, executive]

And as far as working that off, Greg, we obviously have backlogs that are longer than we'd like in certain markets around the country. We're focused on streamlining some of our product array to improve productivity, but we're also looking at organic or internal capacity growth. We've got a few plant expansions that are well on the way of completing, that are current Champion plants that can add production as well as down the road further, we'll be looking at other market opportunities to see if growth is another denominator for our future strategy. So all these pieces will come together.

[Greg Palm, analyst]

Yes. That's a good problem to have when you've got high demand but clearly, a problem and an issue that probably is in this from a capacity standpoint that this industry is going to need to sort of work off in the coming years. I guess, lastly, Keith, just kind of given that this is your first quarter on the public here, the cash generation will probably be pretty high. So I'd love to get a sense of kind of what you're near-term capital allocation priorities are?

[Keith Anderson, executive]

Yes. I mean, first and foremost, our #1 priority is to integrate successfully Skyline. So that means all aspects of the operation to maximize synergies and most importantly, to build a stronger foundation for future growth. But after that, later this year, early next year, as I mentioned, we're going to be focused on other markets that we may be under concentrated in today that we have a strong feel that will continue to grow in our industry walls. We'll also look at some of our retail distribution opportunities and see if we should be expanding in either the markets we're in today and/or other markets. So I view capacity as an important ingredient for future success and that's where some of our cash -- capital allocation will go in a prudent, conservative manner but one that will allow this company to continue to meet and exceed the industry growth rates.

[Operator]

Our next question is a follow-up from Daniel Moore from CJS Securities.

[Dan Moore, analyst]

You managed to give great color in terms of streamlining operations and some of the operational improvements and efficiencies at Champion. Now that you've had a month or 2 to get to know the Skyline assets a little better, how would you compare them to Champion's? And any color on incremental opportunities to raise margin profile there?

[Keith Anderson, executive]

Sure, Dan. Well, we're, first and foremost, impressed with the team there at Skyline. They've gone through a lot of change and they've been very open to adding value to all the decision-making and all the best practices discussions that are going on so that we can combine to be a better company. We really like the locations of the 8 plants and the management teams at those 8 plants. They're going to allow us to win the game, and we're really focused in the early days already. We've identified some PBA savings that we think can increase incremental margins on the Skyline side while not taking away any features that the customer may value. We've identified some product overlaps whereby plants that are in close geographic areas may be both producing park models or modular homes that could simplify and improve their productivity by just moving that production to one or the other facilities. So I'm impressed, Dan, with the progress we've made in the early days and really look forward to the teams coming together and putting the numbers on the board.

[Operator]

We've reached the end of our question-and-answer session. I'd like to turn the floor back over to management for any further or closing comments.

[Keith Anderson, executive]

Well, thank you all for joining us today and expressing your interest and time. We look forward to talking again next quarter. Take care now. Bye.

[Operator]

Thank you. That does conclude today's teleconference. You may disconnect your line at this time and have a wonderful day. We thank you for your participation today.