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Select Interior Concepts, Inc (NASDAQ:SIC)
Q1 2019 Earnings Call
May. 10, 2019, 9:00 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Greetings and welcome to the Select Interior Concepts 2019 First Quarter Results Conference Call. (Operator Instruction) As a reminder, this conference is being recorded. I would now like to turn the conference over to your host today, Mr. Nadeem Moiz, Chief Financial Officer. Thank you. And you may begin. Mr. Moiz.

Nadeem Moiz -- Chief Financial Officer

Thank you, operator. Good morning, everyone and welcome to our first quarter 2019 financial results conference call. Joining me on the call today is Ty Johnson, our Chief Executive Officer. During our discussion today, we'll be referring to our earnings presentation which is available on the Investor section of our website.

I will start with Slide 2, where I would like to remind everyone that any forward-looking statements contained in this presentation or commented on today are subject to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. Actual results could differ materially because of issues and unknowns that need to be considered in evaluating our financial outlook and operating performance.

Please see our recent SEC filings which identify the principal risks and unknowns that could affect future performance. We assume no obligation to update publicly any forward-looking statements. Specific conditions, issues and unknown factors that may represent forward-looking statements are noted in detail on the slide. In addition, we will be discussing or providing certain non-GAAP financial measures today including adjusted EBITDA and adjusted EBITDA margins.

Please see Slide 14 for a reconciliation of these non-GAAP measures to their most directly comparable GAAP measure.

I would now like to turn the call over to Ty Johnson, our CEO.

Tyrone Johnson -- Chief Executive Officer

Thanks, Nadeem. Good morning, everyone and thank you for joining us today. I will begin with an overview of first quarter 2019 highlights. Nadeem will follow with a review of our financials. We achieved significant growth during the first quarter with new project wins, adjusted EBITDA growth and strong cash flow conversion on a more effective operating platform. Our results were in line with our expectations with favorable contributions from both our installation and distribution businesses. This reflects our strong position in key markets and the benefits of a number of highly complementary acquisitions completed in recent quarters. For the quarter, net sales increased 31% to$137 million.

In addition to acquisitions, we continue to drive organic improvement primarily through efforts to push price mix gains within each of our segments. These efforts allowed us to generate another quarter of strong EBITDA margins of 9.1%. This compared to 10.2% in the prior year quarter. When excluding corporate and public company costs that had yet to ramp up in the prior year period, adjusted EBITDA margin improved by 40 basis points representing good operational progress. With our corporate infrastructure in place and other process improvements well under way, we are on a solid trajectory to continue driving operating leverage. In the quarter, we completed the acquisition of Intown Design with annualized sales of approximately $20 million, giving us an immediate foothold with builder and contractor customers in the southeast on the Installation side of our business. With this addition, we now operate in 15 of the top 20 metropolitan areas in the country, solidifying our leadership position. Our expanding network allows us to increasingly leverage our two segments in key market.

Turning to Slide 4, we experienced double digit expansion in each of these fast growing complementary segments. At Residential Design Services or RDS, we design and install flooring, counters, cabinets and other high end products. We grew RDS sales 40% year-over-year mainly reflecting our efforts to diversify the geographic reach of this business into several new markets from its roots in California. During the quarter, we saw good performance particularly in flooring and countertops led by stronger activity in Northern California and Phoenix. Favorable mix helped to generate higher average revenue per order combined with our efficient pass through of price, this translated into favorable price mix realization for the quarter. This more than offset the softer trends in Southern California as anticipated. Most of our markets continue to grow and we are seeing the trend of more builders shifting their mix to entry level and mid priced homes. Given that we serve all housing segments, we continue to see solid bidding activity as we diversify geographically and reduce our exposure to any single market. We realized a number of exciting project wins in key markets throughout the quarter and our revenue pipeline remains strong. In terms of completed acquisitions, we have hit the ground running with our December acquisition of T.A.C. Ceramic Tile which specializes in flooring in the mid-Atlantic region. We are on track to begin cross-selling cabinets within this market no later than fourth quarter 2019.

On the operational side, our proprietary design center software continues to enhance customer experiences across an expansive set of product combinations. Additionally, we are in the process of implementing a new upgraded ERP platform across 35 locations at RDS. The benefits of this ERP include improved labor efficiencies, streamlined project management and a reduction in material waste. We expect these benefits to begin to materialize in 2020. Through our Architectural Services Group or ASG segment, we are a leading nationwide distributor of natural and engineered stone and related products. During the first quarter, we grew sales in this segment by 21% year-over-year. Organic sales benefited from a favorable pricing environment for quartz products, improvements in product mix and the positive contribution from greenfield location. The US slab distribution market has strong tailwinds and we look forward to expanding this attractive business. Speaking a bit more broadly across both businesses. We plan to continue sourcing appropriately sized acquisition targets in prime locations at attractive purchase price multiples.

We have a strong balance sheet to continue to execute deals that support our diversification strategy. We expect acquisitions to remain an important part of our growth strategy and look forward to expanding our reach across geographies, product categories and services. In summary, we continue to profitably grow our Company, enhance value through strong organic growth in key acquisitions. We expect to continue consolidating our fragmented industries while further solidifying our premier market positions. We are on path for another exciting year of progress and are focused on improving margins as we drive efficiencies, integrate newly acquired businesses and ramp up cross-selling efforts. Once again, thank you for joining.

And with that, I will turn the call over to Nadeem.

Nadeem Moiz -- Chief Financial Officer

Thank you, Ty and good morning, everyone. We had a good start to the year with strong sales growth driving gross margin and adjusted EBITDA improvement while producing meaningful cash flow. We ended the quarter with a strong balance sheet to continue executing our growth objectives.

Moving to Slide 5 with a review of net sales. Net sales for the first quarter increased $32.5 million or 31.1% to $136.9 million compared to last year. We achieved growth in both segments as we continue to expand share in new geographies, increased product offerings, ramped up greenfield sites and improved price mix. Acquisitions added $27.5 million or 26.4% to first quarter's growth. Organic growth was 4.8% and added $5 million to the top line. Diving into the segments, in RDS. Modestly positive organic growth was driven by favorable shift in product mix in key categories along with price passthroughs. Higher price mix was partly offset by lower volumes which reflected softness in Southern California.

In most other markets, we experienced positive volume trends as we continue to benefit from targeted share gains through geographic expansion. In ASG, strong organic growth was driven by favorable pricing mix. We focus on maximizing pricing opportunities in key product categories while volumes were lower. We're executing on our market plan of prioritizing premium product categories with attractive margins.

Moving to Slide 6 in the first quarter, EBITDA increased to $11.2 million. Adjusted EBITDA rose 17.2% to $12.5 million compared to prior year. Acquisitions were margin accretive and added $3.3 million to adjusted EBITDA. Organic growth added $1.4 million helped by the stronger price mix trends in both businesses. Gross profit grew at a faster pace than sales resulting in 150 basis points increase in gross margin to 28.3%. SG&A and other expenses excluding the impact from acquisitions were higher by $2.9 million, $2 million of the increase was related to SIC corporate costs and public company infrastructure which was belt out by the end of 2018 but not fully in place in Q1 2018.

These costs include M&A resources to support growth, tax finance, SEC reporting, legal, internal audit and other executive functions required to effectively run a compliant publicly traded organization. To accomplish this, we made targeted investments in our systems, processes and people in the second half of 2018. This was largely completed by year end and instrumental in remediating our material weakness in less than a year.

In total for the quarter, corporate expense were approximately $2.5 million in line with our quarterly run rate. Normalizing for incremental corporate costs that were not experienced in Q1 2018, adjusted EBITDA would have improved by 40 basis points reflecting the strength of our core operations. While 2019 will be our first full year with a corporate infrastructure. Many of these costs are fixed so the impact of corporate costs is more acute in the seasonally smallest first quarter. That said, we're pleased to have this infrastructure belt out to support future growth and provide for increasing returns as we anniversary these costs in the second half of 2019. The remaining $0.9 million in costs was related to investments in RDS and ASG to support new product development and technology enhancements. During the quarter, our GAAP net income was essentially break even.

This included other income of $1.7 million, primarily driven by $1.5 million gain resulting from a change in fair value of future earn out payments for a number of completed acquisitions. This change is a result of quarterly GAAP true ups of earn outs on our balance sheet. This analysis performed each quarter by a third party for GAAP purposes and recorded in other income on our P&L. Accordingly, changes in fair value macro from period to period which will be reflected and reported in net income. Effective tax rate for the quarter was 80.5% on pre-tax income of $0.7 million.

We expect our full year 2019 effective tax rate to be approximately 28%.

Moving to Slide 7. First quarter cash flow from operation was $10.6 million and significantly improved from an outflow in last year. We converted 84% of adjusted EBITDA into cash, reflecting the strength of our operation and our continued focus on improving working capital efficiency and metrics. This focus helped us to end the quarter with a solid capital position consisting of total liquidity of $67 million and net debt of $179 million. Our net debt-to-LTM pro forma adjusted EBITDA ratio was 2.6 times, putting us at a fairly conservative leverage profile with capital resources to allocate effectively.

Moving to Slide 8. Overall, first quarter 2019 results were in line with our expectations to grow and diversify our business while continuing to produce stronger EBITDA and improved cash generation. As we look to the remainder of 2019, our view of the market is unchanged from our previous call in mid-March. We see new construction growing at an overall flattish pace with repair and remodel up slightly. We expect to grow organically through share gains and price mix enhancements in both our installation and distribution businesses and on the M&A front, we plan to pursue targeted acquisitions that are accretive to value.

In summary, we're well suited for another year of growth and are excited to continue to capitalize in our top position as a designer, installer and distributor of in-demand interior finishing products.

Operator, we would now like to open up for Q&A.

Questions and Answers:

Operator

Thank you. At this time, we will conduct a question-and-answer session. (Operator Instruction) Our first question comes from Alex Rygiel with B. Riley. Please proceed with your question.

Alex Rygiel -- B. Riley FBR. -- Analyst

Good morning, Ty and Nadeem. It feels like this is really starting to gain some momentum, so congrats on the quarter.

Tyrone Johnson -- Chief Executive Officer

Thanks, Alex.

Nadeem Moiz -- Chief Financial Officer

Good morning, to you too.

Alex Rygiel -- B. Riley FBR. -- Analyst

Ty, a number of times you referenced a number of key wins in the quarter. Can you provide a little bit more detail on what you mean by this?

Tyrone Johnson -- Chief Executive Officer

Happy to do so, Alex. Particularly on the RDS side of the business as we expand our product categories namely into cabinets and then we diversify geographically, we've been able to attract new builder customers. So if you look at that particular business, they're having a really good run of new business acquisition and that's primarily what I'm referencing.

Alex Rygiel -- B. Riley FBR. -- Analyst

Excellent. And then as we look at your organic growth in the quarter of 5%, it looks like that drove EBITDA margin excluding investments and expenses. It looks like it drove EBITDA -- incremental EBITDA margin of 28% which was similar in the fourth quarter and similar in 2018 for the full year. That's a real strong incremental EBITDA number. Can you kind of talk about your focus on incremental margins. The outlook for pricing and the outlook for how we should think about incremental margins going forward?

Nadeem Moiz -- Chief Financial Officer

Sure. Alex, this is Nadeem. I'll take that question. So the -- for the quarter, organic volume price mix translated at roughly 28% reflecting -- really that reflects our gross profit margin on the EBITDA bridge as you can see the SG&A and other costs to help that is on the cost sized in the right bucket on the EBITDA bridge and as we go through the year, that costs on the SG&A and other times out. So as we think about operating leverage, the way we think about incremental revenue, you'd start -- you would expect the gross margin fall through.

That's the first point.

The second point is in particular this quarter. This is heavy price mix on the top line as you could see in the sales bridge. So clearly, you would expect that margin to be little bit richer. So that's the second point. As we think about the rest of the year, we will continue to push price and mix in key product categories as we've talked in the script and -- and very much focus on the market plan in particular on the ASG in prioritizing the end products and being very selective on our price mix enhancements.

Alex Rygiel -- B. Riley FBR. -- Analyst

Very helpful. Year-over-year revenue gross contribution from acquisitions was about $27.5 million. It would appear that acquired companies have had real strong organic growth. Can you talk a little bit about what's driving that. Is it just the geographic exposure therein. Are you starting to see some of the sales synergies post acquisition kick in or anything else that possibly Select Interior is adding to these target acquisitions.

Tyrone Johnson -- Chief Executive Officer

It's Ty, Alex. I'm happy to respond to that. We work really hard to -- to be very surgical with respect to the targets that we go after. We look for well-run businesses. As you know in attractive markets -- markets that are growing probably faster than the overall market. And then certainly, we look for product mix opportunities to enhance the overall margin profile.

So we've been very fortunate that we've been able to find those types of deals and all of the things that I've mentioned are contributing to the accretive margin performance of the acquisitions. They're benefiting from great markets, great management and certainly some products that are higher margin. On top of that. We're beginning to cross-sell and we're seeing some benefits of revenue synergies based upon that.

Alex Rygiel -- B. Riley FBR. -- Analyst

You've talked a lot in the past about adding new products across a lot of design centers as you build the building blocks up here. One of those big important products is adding cabinets into all of your design centers over time. It sounds like you're having some early successes there. Like you referenced in winning some new key builder relationships and you referenced adding cabinets to the T.A.C. acquisition by year end.

Can you talk a little bit more holistically about, how you view the success of expanding new products like cabinets into your other design centers. Are you on plan, you are ahead of plan. Are you surprised by the positive response that you're getting and so on.

Tyrone Johnson -- Chief Executive Officer

Yeah. Happy to do that. We believe we're right on plan, right where we should be with cabinets. We're excited by virtue of some of the wins that I described earlier. Cabinets is one of those product categories that builders really struggle with. It's a problem for them. We look at this as an opportunity to create value and create stickiness with them. Cabinets should be over time as large a product category as countertops in our view.

So getting into this product category for us was a no brainer and the guys, Kendall (ph) and his team are executing this very very well. Its margin profile is strong and we're excited to be able to take it to other acquisitions should they not have cabinets when we buy those businesses. It's truly something that the builders find a lot of value in us providing.

Alex Rygiel -- B. Riley FBR. -- Analyst

One last question. There's a quartz manufacturer in the US that announced earlier this week that they're going to reduce their manufacturing capacity of quartz by 50% in the US partly -- probably because of underperformance in the past and excess inventory that they have but they did note that the channel for quartz in the US looked a little high.

And part of that might have been due to pre buy in anticipation of the Chinese tariffs and all. Can you sort of comment on how Select Interior is positioned into this new world of quartz and the Chinese tariffs and understanding that your sourcing of quartz out of China to come to a conclusion in third quarter of last year. But how has that changed the marketplace for Select going forward.

Tyrone Johnson -- Chief Executive Officer

Happy to address that Alex. We're not seeing the same dynamics that you're referencing. Certainly market by market there could be some supply demand imbalances. We never were a significant importer out of China. And as a result, we feel like we're very well positioned to take advantage of the demand for that product across our network.

Our service hasn't really slipped. We've been able to go drive price in the marketplace as a result of maybe some supply shortages. So we see the dynamic as a longer term advantage for the Company given our footprint and given our existing supply chain.

Alex Rygiel -- B. Riley FBR. -- Analyst

Thank you very much, good luck.

Tyrone Johnson -- Chief Executive Officer

You're welcome.

Nadeem Moiz -- Chief Financial Officer

Thanks, Alex.

Operator

Thank you. At this time, I would like to turn the conference back over to Mr. Tye Johnson for closing comments.

Tyrone Johnson -- Chief Executive Officer

Thank you, operator and thank everyone for joining us today. We appreciate your support of Select Interior Concepts and look forward to updating you on our progress next quarter.

Operator

Thank you. This does conclude today's teleconference. You may disconnect your lines at this time and have a great day.

Duration: 23 minutes

Call participants:

Nadeem Moiz -- Chief Financial Officer

Tyrone Johnson -- Chief Executive Officer

Alex Rygiel -- B. Riley FBR. -- Analyst

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