Can Interface Inc. Bounce Back From Another Lackluster Quarter?

Patience is wearing thin for those with a bet on the housing and construction markets. First, shares of Lumber Liquidators were chopped on Wednesday when it announced an earnings-per-share figure that was 17% shy of analysts' estimates. Then, the modular carpet maker Interface (TILE -3.47%) rolled out a lackluster quarter in the afternoon. Somewhere beneath these two stocks, there's a solid foundation. It's just taking a while to find out where that is.

Here's what Interface had to say about its third quarter ended Sept. 28.

Carpet sales were soft
Since Interface already provided investors with preliminary results for the quarter on Oct. 7, there were no substantial surprises when the company made things official. As predicted, sales were soft, with neither the Americas nor European businesses showing signs of strength in the third quarter. At the same time, the Asia-Pacific region was up slightly.

Overall: Sales were down less than 1% to $252.2 million from $254.5 million in the same period last year

Americas: Sales were flat compared with the same period last year. Decent gains in the residential and hospitality segments were offset by declines in others. (Note: not all segments were disclosed.)

Source: Interface press release for quarter ended Sept. 28.

The drop in the FLOR business is particularly unsettling. The FLOR retail stores and consumer-facing line of carpets were supposed to be growth drivers during a period in which corporate customers have been tightening their purse strings. Instead, last quarter's 9% drop was followed by an 8% drop in the latest period.

Interface Chairman and CEO Dan Hendrix described last quarter's FLOR performance as a "disappointment," considering the promotional events the company held. It will be interesting to see whether the company again tried similar promotions to no avail. Investors should look for further color on tomorrow's conference call.

Europe: Sales were down 3.8% year over year. Corporate office markets in Western Europe grew at a "brisk pace," while the rest of the region was beleaguered by "political unrest and falling currency rates."

Asia-Pacific: This region was the one bright spot, as sales jumped 3%. Not a big gain, to be sure, but a healthy Australian market was brought down by declines in Southeast Asia and China because of "political tensions and a softening economy." Again, we're seeing a high-opportunity market not really take root as expected.

Sweeping under the rug or saving for later?
The company's recent guidance was borne out on the earnings side as well. However, in an attempt to preserve margins, Interface cut costs through what it described as "headcount reductions, re-engineering of our products and processes, and raw material pricing."

Management didn't reiterate in the press release how much this restructuring would save in the year ahead, though it previously estimated the figure at $14 million. Investors can perhaps hope that this is a temporary charge that will bear fruit down the road and not an attempt to sweep costs under the rug. But investors will also want to pay close attention to see whether gross margins get a lift in the quarters ahead.

Here's a look at earnings as reported with and without restructuring charges:

The takeaway for investors
As I mentioned in the earnings preview for Interface, the company's dealing with margin pressure on both sides of the coin: Promotional sales events chip away at pricing power while lower manufacturing volumes reduce operational efficiency. At least that's been the story through the summer months.

But neither of these trends appears particularly disastrous. The Interface brand remains strong in the commercial space even if FLOR products have yet to build a consumer audience. And meanwhile, Interface is making an attempt to streamline its manufacturing operations.

The silver lining in the press release was that management suggested that a "healthy backlog and good order trend" has been building over the past eight weeks. If Interface can fix its own internal production issues, perhaps the construction market will fix itself in the meantime.