Kimball International Inc (NASDAQ:KBAL)
Q4 2019 Earnings Call
Jul 30, 2019, 11:00 a.m. ET
- Prepared Remarks
- Questions and Answers
- Call Participants
Good morning, ladies and gentlemen. My name is Joelle, and I'll be your conference call facilitator today. At this time, I would like to welcome everyone to the Kimball International Fiscal Fourth Quarter and Fiscal Year 2019 Earnings Conference Call. Currently, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and the instructions will be given at that time.
As with prior conference calls, today's call, July 30, 2019, will be recorded and may contain forward-looking statements as defined under the Private Securities Litigation Reform Act of 1995. Actual results may differ materially from the forward-looking statements. Risk factors that may influence the outcome of forward-looking statements can be seen in the Kimball International Form 10-K and today's press release. During today's call, presenters will be making references to an earnings slide deck presentation that is available on the Investor Relations section of Kimball International's website. On today's call are, Kristie Juster, CEO of Kimball International; and Michelle Schroeder, Vice President and Chief Financial Officer of Kimball International.
I would now like to turn the call over to Ms. Kristie Juster. Ms. Juster, you may begin.
Kristine Juster -- Chief Executive Officer
Thanks Joelle, and good morning, everyone. Welcome to Kimball International's Fourth Quarter and Fiscal Year 2019 Earnings Conference Call. These are very exciting times at Kimball International as we execute against our new Kimball International Connect Strategy, which we unveiled on last quarter's earnings call.
During the quarter, we made significant progress on laying the foundation of our strategy with the announcement of our transformation plan, including identifying targeted incremental savings for 2020.
I will cover further details of these actions before handing the call over to Michelle for financial details on quarterly and annual results. But first, I'll give an overview of the quarter and provide an industry update.
I'll start with referencing fourth quarter highlights on Slide 4. We ended the quarter with revenues of $196 million, a 3% increase year-over-year, which included organic growth of 1.3%. On a brand basis, National brand continued to deliver outstanding performance. Hospitality also showed strong growth against a tough prior year comparable. While the Kimball brand was challenged on the top line as they are realigning sales resources to higher growth markets and verticals as part of their transformation efforts.
On July 11, we announced Phyllis Goetz has joined as President of the Kimball and David Edward brands. Phyllis will oversee the full operations of the business and strategy. She has over 30 years of commercial furniture industry experience, including driving accelerated growth and strategic partnerships within healthcare, commercial and design communities at companies such as Steelcase, Herman Miller and most recently, HKS Architects.
Most importantly, Phyllis brings energy, enthusiasm and a passion toward work that will serve as a cornerstone to revitalize the Kimball brand and drive it to a prominent position in the industry. We are thrilled to have Phyllis on board during this exciting and pivotal time at Kimball International.
Adjusted EBITDA increased 1% to $18.8 million or 9.6% of sales. Adjusted EPS increased 14% to $0.32 compared to $0.28 a year ago. During fiscal year 2019, we delivered on the $10 million cost savings target we communicated, which paves a nice runway for us to continue to execute on our transformation plan for 2020.
Turning to Slide 5, for view of the macroeconomic indicators we track for the industry. Several of the indicators we monitor closely are signaling continued growth in the market, although we are sensitive to issues like the trade disputes that are creating volatility within the overall economic environment. We continue to believe the race for talent offers a tremendous backdrop for us and the industry to continue to grow at multiples of GDP in the future as companies continue to upgrade their work environments to attract and retain employees.
Specific to the slide, BIFMA shows that during calendar years 2018 and 2019 growth is forecasted to be 3.8% and 3.3% respectively, and I'm proud to say our organic sales of 7% during our fiscal year 2019 beat that trend by approximately 350 basis points and is at the high end of the target range of 4% to 7% CAGR we set over the next three years.
The Architecture Billings Index by AIA, which serves as a leading indicator of nonresidential construction activity, was 49.1% in June, which indicates slightly more firms reported decline in billings than increase from the previous month. While a score below 50 indicates decreasing firm billings, firms are reporting backlogs of work in the pipeline at all-time high levels since the AIA began collecting the data in 2010. We will continue to monitor this index along with other employment indicators, all of which remain positive.
RevPAR, or revenue per available room, is a leading indicator for our hospitality business and forecasts for calendar year 2019 estimate growth of 2%. We continue to report strong sales in our hospitality vertical and all indicators are strong as consumer and business travel remained robust.
Looking at Slide 6, you'll see a chart indicating the importance of new products to our sales. New product development has been an area of focus for us at Kimball International, and it remains a key aspect of our growth plan.
During the quarter, sales of new products were up 9% year-over-year to $39 million and represents 27% of total office furniture sales, excluding hospitality. Our new product introductions are focused on higher growth, ancillary and healthcare products.
Let's turn to Slide 7 to discuss sales and orders by vertical. Our sales growth continues to be broad based, with four of our six verticals showing sales growth in the quarter, led by healthcare, which was up $3.9 million or an increase of 16%, which is notable considering we were lapping 14% growth last year for an impressive two-year stack growth of 30%.
Hospitality was up $2.7 million or 6%, also with robust growth of 26% a year ago. The positive trends were offset by finance, which was down $2.1 million, or 11%. Additionally, government was down $1 million or 4%. We continue to be pleased with our overall performance in the marketplace, with our sustained focus on the healthcare and hospitality verticals.
Moving to orders, which were down 1.6% in the quarter. Growth was led by healthcare up 28%, which was more than offset by 16% decline in the larger hospitality vertical. It's important to note that hospitality had a difficult comparison of 50% order growth a year ago.
Now, I would like to provide specifics on the key activities and decisions in the quarter to advance our Kimball International Connect Strategy.
Turning to Slide 8, as a reminder, there are four pillars of our Connect Strategy. First is inspire our people. Leveraging our bold and entrepreneurial spirit, we're cultivating a high-performance caring culture. Our new purpose has been fully activated across the organization and is providing the energy, excitement and connection that is so important to this next chapter for our company. And I am pleased to announce Kimball International has been designated as great places to work certified, and establishes us as an employer of choice.
We continue to act on our commitment to our employees. Just last week, we opened our new Kimball International healthcare center, providing direct and easy access to qualified healthcare for our 1,600 employees and their families in the Jasper and surrounding areas. We are also excited to showcase our healthcare furniture products in the state-of-the-art clinical environment.
Next quarter, we'll look forward to sharing the opening of our newly renovated Kimball International headquarters. The second pillar of our strategy is build our capabilities. We have good traction in forming our center-led functions: finance, HR, IT, legal and supply chain. Our benchmarking has been completed, and we're just commencing the rollout of our new operating model. The transformation office is fully functional with a 21% team of program management, lean expertise and a combination of existing and new talent. This organization is 100% dedicated to orchestrating and tracking the execution of our transformation plan. We have also stamped our acquisition and integration team as a center of excellence.
The third pillar of our Kimball International Connect Strategy is fuel our future. We've had an intense focus on optimizing our facilities, prioritizing initiatives across Kimball International, setting up a metrics-based approach and standardizing processes driven by lean and product engineering excellence.
We've also designed an incentive plan aligned with the Kimball International Connect Strategy goals, which was launched earlier this month. Our optimization funnel is defined with robust initiatives with a new centralized and consistent ways of working to enable the output. All these actions enable the fourth pillar, accelerate our growth. We will continue to drive new product development across our brands. Our focus on high-growth areas has allowed us to maximize the expertise of today and also build new markets for tomorrow.
Our National brand continues to build on their leadership position in the ancillary category and expand into new categories like task seating. Our expertise in healthcare and hospitality are proving out every day, and our pilots of e-commerce and new channels are very exciting for our future.
In the fourth quarter, we see nice traction in our focused areas of accelerated growth. As we've communicated, strategic acquisitions will also be an important enabler of our growth going forward, and of course, we will remain disciplined.
Next on Slide 9, I would like to discuss the transformation plan we announced on June 20 in support of the Kimball International Connect Strategy. These actions unlock opportunity, accelerate our capacity for growth and place defined strategic investments in our brands and business units. The transformation plans focuses in three main areas. First, it aligns our manufacturing footprint to reduce excess capacity. We announced that we will exit a leased seating manufacturing facility in Virginia, and we will continue to evaluate production capabilities in capacity across the organization for additional opportunities. The team is working diligently on the execution of the Martinsville exit to ensure that there are no disruption to our customers.
Next, as stated, we are now rolling out a center-led function for finance, IT, HR and legal and have developed a centralized supply chain function. This will maximize supplier value and drive efficiency and excellence across our organization.
Finally, we've streamlined our branded showrooms and reallocated Kimball brand selling resources to higher growth markets. The transformation plan has already begun, and our efforts are expected to result in an additional annualized pre-tax savings of approximately $10 million, with the majority of the related actions to be completed by the end of fiscal year 2020. Fiscal year 2020 savings are estimated to be $8 million, and the associated pre-tax restructuring charges incurred through 2020 are estimated to be $8 million to $9 million.
In addition to the expected savings for the restructuring plan, we're targeting incremental savings of $8 million in fiscal year 2020 or related to other cost reduction initiatives. Together, the total savings in fiscal year 2020 related to both the transformational plan and other cost-saving initiatives are expected to be approximately $16 million.
As part of our organizational structure review, we've decided to eliminate the position of President, Chief Operating Officer currently held by Don Van Winkle. Don will remain in his current capacity as President, Chief Operating Officer until he completes a thoughtful transition of his responsibilities. I want to personally thank Don for his leadership and dedication during his almost 30 years with Kimball International. He has been instrumental in helping to grow the company, and his contribution as member of the Executive Leadership team has been truly impactful. We extend our deepest appreciation to Don for his incredible service to our company.
I am pleased with our commitment to our Kimball International Connect so far, and our ability to make a solid step in our 2020 transformational work.
With that, I'll turn the call over to Michelle to go into further detail on our quarterly results.
Michelle Schroeder -- Vice President and Chief Financial Officer
Thanks, Kristie. And good morning everyone. I'd like to turn your attention to Slide 10, as I discuss our fourth quarter financial performance summary.
As Kristie mentioned, we ended the quarter with $196 million in sales, sales, that was an increase of 3.1%, or 1.3% on an organic basis. Our adjusted EBITDA of $18.8 million increased 1% and resulted in an adjusted EBITDA margin of 9.6%, that's down 20 basis points versus a year ago, as gross margin gains were offset by CEO transition costs, wage inflation, increased healthcare cost and investing in the business for the long-term. Adjusted EPS increased 14% to $0.32 compared to $0.28 a year ago, with the majority of the EPS improvement attributable to the lower effective tax rate as a result of the Tax Cuts and Jobs Act.
Turning to Slide 11, I'll take you through the details of our financial performance in the quarter. Gross profit improved 40 basis points to 34.3% in the quarter. That's our highest gross margin performance of the year, and it was driven by the benefit of price increases and cost savings initiative. The improvements in margin were partially offset by higher healthcare cost as well as the 60 basis point impact from the recently acquired David Edward business, which was anticipated. Our operations team is diligently working on our operational improvement plan intended to eliminate the pressure on our gross margin from this acquisition. Inflation, including commodity, transportation and tariff, net of savings, was up $1.1 million versus the prior year. Transportation costs have stabilized, albeit, at the current higher level. With regards to steel after peaking in June 2018, U.S. cold-rolled steel prices have declined approximately 25% to current levels, marking the lowest level since 2017. We generally experience the impact from price changes within three to four months giving our contracts' price lag.
Selling and administrative expenses increased $3.4 million, or approximately 7% to 27% of sales, representing an increase of 80 basis points versus a year ago due to wage inflation, CEO transition cost and healthcare cost, I mentioned earlier. Additionally, the recently acquired David Edward acquisition had selling and administrative expenses in the amount of $900,000, which we didn't have last year.
On Slide 12, I'll take a moment to summarize our fiscal 2019 financial performance. For the full year, sales grew 9%, including organic sales increase of 7%. We saw growth across all our verticals except for government. Adjusted EBITDA of $69.5 million increased 3.7% over fiscal 2018. adjusted EBITDA margin of 9% declined 50 basis points. While gross margins were down earlier in the year, we were able to achieve notable improvement over the last half of the year given our cost reduction efforts, setting us up well heading into fiscal year 2020. Adjusted EPS of $1.12 increased 22% compared to the prior year, resulting from the lower effective tax rate benefit as a result of the Tax Cuts and Jobs Act.
On Slide 13 you'll see fiscal 2019 details. Gross profit decreased 30 basis points as a percentage of sales compared to prior fiscal year, as we worked to overcome cost increase impacts from transportation costs, inflation, tariff and the David Edward acquisition. But we were pleased with overall performance as we saw improvement on a sequential basis in our gross margin due to incremental price increases offsetting the impact of inflation and also due to traction on operational initiative. As previously noted, we closed the year with the highest gross profit percentage of the year in the fourth quarter. Selling and administrative expenses increased $20 million or 11% versus fiscal year 2018. As percentage of sales, selling and administrative expenses increased 40 basis points to 26.6% of sales due to higher employee cost, an incremental year-over-year increase from acquisitions, the CEO transition and higher commissions on increased sales level.
Turning to cash flow performance on Slide 14, our cash flow from operations increased over $18 million for the year, or nearly 39% to $65 million as continued strong focus on managing our working capital and the benefit from the Tax Cuts and Jobs Act yielded results. With CapEx of $21 million for the year, we had free cash flow of $44 million up 79% versus fiscal 2018. With our strong cash flow performance in fiscal 2019, we achieved a cash conversion ratio of 112%, a significant increase from 71% in fiscal 2018. During the year, we returned capital to shareholders, including $9.1 million in repurchases and $11.4 million in dividends. We remain committed to our capital allocation priorities, including reinvestment, buybacks, dividends and acquisitions.
On Slide 15, as a reminder, we are focused on strategic acquisitions that align with our core to accelerate growth. Any transaction we consider will be viewed through the lens of our corporate strategy, our purpose and our guiding principles. We are committed to remaining disciplined as we seek opportunities to build out our existing platform with higher growth products, new product categories as well as new channels.
Turning to Slide 16, we recap our three-year fiscal 2020 through 2022 financial targets, which are unchanged from last quarter. On the top line, we are expecting 4% to 7% growth, we are targeting 150 to 250 basis points of improvement in adjusted EBITDA margin by 2022 and forecasting EPS growth of 10% to 15%. Our outlook is based on assumptions for GDP growth of 1.5% to 2.5%, a flat share count and excludes the impact of any potential acquisitions.
Before turning the call over to Q&A, I felt it was important to include Slide 17 to help you better understand our planned EBITDA improvement included within our financial targets just discussed. The slide locks forward our fiscal year 2019 EBITDA to plan the fiscal year 2020 EBITDA qualitatively identifying the relative components of growth, cost savings, transformation costs and growth investments. The key takeaway for fiscal year 2020 is that our cost savings will fund our growth investment and our cash transformation effort, while the EBITDA resulting from top line growth drops to the bottom line.
And with that, I'll turn the call over to Joelle, and we'll take your questions. Joelle?
Operator -- Vice President and Chief Financial Officer
Thank you. [Operator Instructions] And at this time, I'm showing no questions in the queue. I'd like to turn the call back over to Kristie Juster, CEO, Kimball International.
Kristine Juster -- Chief Executive Officer
Thank you, Joelle. Well, it has been an incredible couple of months at Kimball International. We've appointed new leadership, we've been rolling out our purpose, we've engaged the entire organization in Kimball International Connect and we've build the details of our transformation plan that we've announced on the call.
I want to thank all of our 3,000 employees for this incredible journey, and thank you for joining the call today and your interest. Have a nice day.
Operator -- Chief Executive Officer
[Operator Closing Remarks].
Questions and Answers:
Duration: 27 minutes
Kristine Juster -- Chief Executive Officer
Michelle Schroeder -- Vice President and Chief Financial Officer