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CAESARSTONE LTD (NASDAQ:CSTE)
Q1 2020 Earnings Call
May 6, 2020, 8:00 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Greetings. Welcome to the Caesarstone First Quarter 2020 Earnings Conference Call. [Operator Instructions] As a reminder, this conference is being recorded.

It is now my pleasure to introduce your host, Brad Cray of ICR. Thank you, you may now begin.

Brad Cray -- Vice President

Thank you, operator, and good morning to everyone. I am joined by Yuval Dagim, Caesarstone's Chief Executive Officer; and Ophir Yakovian, Caesarstone's Chief Financial Officer.

Certain statements in today's conference call and responses to various questions may constitute forward-looking statements. We caution you that such statements reflect only the company's current expectations and that actual events or results may differ materially. For more information, please refer to the Risk Factors contained in the company's most recent Annual Report on Form 20-F and subsequent filings with the SEC.

In addition, on this call, the company will make reference to certain non-GAAP financial measures, including adjusted net income, adjusted net income per share, adjusted gross profit, adjusted EBITDA and constant currency. The reconciliation of these non-GAAP measures to the most directly comparable GAAP measures can be found in the company's first quarter 2020 earnings release, which is posted on the company's Investor Relations website.

Thank you. And I would now like to turn the call over to Yuval. Please go ahead.

Yuval Dagim -- Chief Executive Officer

Thank you, Brad, and good morning, everyone. I would first like to say that our hearts and thoughts go out to all of those who have been impacted by the unfortunate COVID-19 pandemic. We express our gratitude to all the front-line workers around the world who are showing up day and night to help us all overcome this crisis. The world has changed great deal in just a matter of few months. So, I would like to also thank all our employees across the globe who are dedicated to working safely and supporting our customers during this unprecedented time.

Our solid first quarter 2020 result reflect the focused implementation and execution of our global growth acceleration plan that we have communicated over the past year, which is focused on creating more efficiencies and ultimately driving sustained growth. Our aggressive efforts to control cost, streamline processes and place the right talent allowed us to achieve positive first quarter performance, including the expansion of gross margin and EBITDA year-over-year.

We're happy with the strong performance of our global sales teams who collectively outperform our original plan before the impact of COVID-19 on our business. In the US, we have achieved tremendous progress in executing our sales strategy and building momentum in all channels. We have begun to see particularly positive impact from our continued ramp-up in our Home Depot sales, which have been encouraging. While our strong first quarter results do not reflect the current market environment, they are indicative the new level of operational outperformance that the business has reached as well as the future potential.

Throughout the last year, we significantly reduced our inventories and generated solid cash flow from operating activities, leaving our balance sheet in a very defensible position with $132 million in cash as of March 31st, 2020. These actions have collectively provided us with the added financial and operational flexibility to navigate the unprecedented global impact of the COVID-19 pandemic.

Given that health and safety are at the core of Ceasarstone's culture as a normalization in this uncertain environment, our top priority is maintaining the health and safety of our employees, partners and customers. During the quarter, we rapidly implemented necessary measures to preserve capital and ensure continuity of operations with safety at the forefront, while continuing to deliver exceptional service to our customers. As an example, we took immediate actions at this onset of this crisis to cut non-essential travel, implement work-from-home policies and maintain strict social distancing practices across all of our production facilities and warehouses.

As of today, all of our manufacturing facilities remain operational, and we continue to service our customers in accordance with applicable shelter-in-place orders in many of our countries where we operate globally. Through our business continuity plans, we have turned our immediate focus to the controllable aspects of the business, given the evolving pandemic across our global footprint has limited our near-term visibility on industry demand. As we look forward, we are aware that demand for our products has started to meaningfully slowdown as we were ending the quarter and we are expecting to see demand remain pressured as people remain home.

We have evaluated many different possible demand scenarios and have applied necessary enhancements to our cost structure and operations to mitigate these uncertain periods of lower demand. We are prepared to flex our capacity as needed to drive margins and revenue opportunities. As shelter-in-place orders begin to ease, we expect our cash preservation measures during this period of low demand to help drive structural changes in our cost base. Equally important for us is remaining flexible with enhancements that we have already made in our business to gain share. These are advantages that we will look to further build upon as the market recovers.

Despite the challenges ahead, we remain committed to our global growth solution plan to improve operational efficiencies, better align resources throughout our business and help us emerge from this present climate as an even stronger company. While current market challenges will likely delay a portion of our digital initiatives in 2020, our long-term strategy to reignite growth is unchanged.

In summary, we're very pleased with our first quarter results. I'm very proud of our team's achievements and have the utmost confidence in our ability to overcome the challenging period ahead. We believe our strong brand reputation and diverse product offerings, combined with our ongoing cost savings initiatives, strong balance sheet and near-term focus on preserving cash should collectively leave us well positioned once we begin to return to normal operating conditions across our diverse geographic footprint.

With that, let me turn the call over to Ophir, who will provide details on our results and outlook.

Ophir Yakovian -- Chief Financial Officer

Thank you, Yuval, and good morning, everyone. Before I start discussing our first quarter's result, I would like to remind everyone that beginning with the first quarter of 2020 results we have modified our presentation of regional revenue reporting to align with our organizational structure as well as the implementation of strategic initiatives across our global footprint.

Our four geographic regions now comprise, in order of revenue, the Americas, followed by Asia-Pacific which we refer to as APAC, then Europe, the Middle East and Africa or EMEA region, and finally Israel. For the first quarter of 2020, global revenue was $126.6 million compared to $128.2 million in the first quarter of last year. On a constant currency basis, first quarter revenue grew by 0.5% compared to last year. In the US, we experienced sales improvement in the big box channel, primarily driven by our recent expansion into US Home Depot stores. We also grew our core US business by 4% and delivered stronger sales in our EMEA region. This improvement was partially offset by softer performance mainly in the APAC region and Canada. We estimate that we experienced an adverse revenue impact of $3 million to $4 million from market-related challenges due to COVID-19 during the first quarter.

Looking at our first quarter P&L performance. We were pleased to achieve improvements in production productivity and by further enhancement to our cost controls, leading to an adjusted gross margin of 28.9% for the first quarter. Our first quarter results were encouraging overall, including a solid year-over-year increase in adjusted EBITDA dollars and margin. We view this as a solid start to the year despite the spread of the COVID-19 pandemic, which increasingly impacted our global business as the quarter progressed.

With this backdrop, we realized that market conditions are likely to remain challenging for a period of time as evidenced by a substantial softening of demand across our global markets during April. So far, in the second quarter, on a constant currency basis, global sales have declined by approximately 30%, reflecting the magnitude of these unprecedented times. We anticipate that sales will remain weak through the second quarter of 2020. We have very limited visibility on the coming months but we expect to see our results begin to improve when the economies reopen across our diverse footprint.

We have seen various COVID-19 related impact globally. In the Americas, stay-at-home orders remain in place across the majority of the US and Canada although some states have unveiled plans to reopen their economies. In both the US and Canada, the lockdowns have impacted demand and we expect a substantial impact to our sales during the second quarter. In addition, Canada performance also remains affected by soft housing and remodeling markets combined with more intense low price competition, primarily from China. In the APAC region, we have seen various level of impact from COVID-19.

In Australia, our largest market in the region in the first quarter, business has mostly continued as usual given the country's proactive response to the spread of the virus. Though in April, government limitation related to COVID-19 were felt more in our business. That said, in Australia, we continue to see the impact of a more competitive market combined with soft housing remodeling and lending conditions.

In Asia, we have seen the greatest impact to our business starting in the month of February, and we expect to experience continued interruption to our business in this territory in the coming months. In the EMEA region, both our indirect and cost sales have been impacted by government lockdowns due to COVID-19.

In Israel, the COVID-19 impact on our business in the first quarter has been relatively less severe. However, we see greater impact on our business in April and expect this to continue in the coming months. Given the lack of visibility on the overall global economic impact of COVID-19 and related effects on the demand environment, we have withdrawn our previously communicated full-year 2020 financial outlook. A significant portion of our business is tied to residential repair and remodel and new residential construction.

In coming months, the combination of shelter-in-place guidelines, social distancing practices and overall economic uncertainty with pressure demand and delay certain projects. That said, we believe the underlying demand remains healthy for a wide offering of premium countertops, one of the most important feature of any home. Although we do not yet know the full extent of the adverse impacts to our business from COVID-19, we believe we have a strong financial position and the flexibility required to support our global operations during this volatile period. Our prudent effort to control costs, improved our operational structure, reduce inventory and manage production capacity have collectively allowed us to build a substantial cash position of $132 million as of March 31st. And just as important, we have no financial debt. We have also taken additional actions to further improve our balance sheet and liquidity.

First, we are significantly limiting capital expenditure and delaying most investment related to our global growth acceleration plan. On our previous earnings call, we mentioned that we expect to increase our capex in 2020, primarily driven by initiatives related to our global growth acceleration plan and investment in our production line. Given the current uncertainty within the demand environment, we have put most of these initiatives on hold to provide us with added flexibility to navigate this uncertain environment.

Second, we are curtailing production capacity to meet expected demand. Last quarter, and prior to the impact of COVID-19, we had discussed ramping production capacity back up at our US facility. Looking ahead, we will adjust our production capacity based on our assessment of demand. While the tide of inventory build will certainly help us preserve cash, we caution that the combination of lower sales and low utilization levels will have a severe adverse impact on gross margin, mainly in the second quarter.

Third, we are taking other necessary actions to improve our cost structure, including moving a portion of our workforce to part time or reduced sheets as well as furloughing a portion of our employees and freezing hiring. We are reducing marketing and promotional spend and cutting non-essential expenditure across the organization, mainly in areas where we are adapting to reduced level of demand. As part of our cost saving efforts, our senior management and members of the Board have also taken 15% to 20% pay cut through year-end. In addition, last quarter, we discussed necessary enhancement to our supply chain that we had expected to impact first quarter revenues by approximately $2 million to $3 million. We are happy to report that we did not experience any impact from supply chain delays in the first quarter and have fully resolved the situation.

Importantly, I would also like to note that most of our OEM supplier that manufacture part of our entry-level products are based in China. Up to this point, throughout the evolution of the pandemic, due to mitigating actions we have implemented, we have not seen material impact related to our OEM supply chain from the coronavirus. Other impact to our supply chain related to COVID-19 remain minimal at this time.

With that, let me turn the call back to Yuval for closing comments.

Yuval Dagim -- Chief Executive Officer

Thank you, Ophir. In conclusion, we have adapted rapidly to the new economic environment and we will continue to focus on managing our cost structure while actively controlling discretionary spending. In light of the expected near-term challenges ahead our focus will remain on realizing the long-term potential of our business. We are confident in the plan we have in place and our solid capital position to provide the necessary financial support to weather the storm and win into the economic recovery. We intend to come out of this pandemic stronger than we came into it with an even better performing business.

We look forward to update you further on our progress next quarter. Think you. And we are now ready to open the call for questions.

Questions and Answers:

Operator

Thank you. At this time, we'll be conducting a question-and-answer session. [Operator Instructions] Thank you. Our first question is from the line of John Baugh with Stifel. Please proceed with your question.

John Baugh -- Stifel -- Analyst

Good morning and congratulations on a good first quarter. Let's see -- let's start with the US marketplace. Curious on couple of products one whether there's any update on like-for-like pricing, given the Chinese exit from this market that's now well in the rearview mirror. And then, maybe some comments around the mix you mentioned you're ramping Home Depot. What's going on with IKEA? And then you said core was up, I think, 4%, is that kitchen and bath? So sort of channel mix and pricing?

Yuval Dagim -- Chief Executive Officer

Hi, John. Thank you for the question. I think it's -- the US results are quite promising in the first quarter on the back of the actions we took back in 2019, putting a new team in place, expanding the sales team in the US and indeed the ASP is up and revenue is up. The core is up by approximately 3.9%, when IKEA is kind of -- it's a bit down, but kind of flattening out. And obviously, the benefit of ramping up with Home Depot is working in our favor.

John Baugh -- Stifel -- Analyst

Okay. And is there -- is there a mix shift as a Home Depot ramps, I guess, as a percentage versus K&B and how does that influence gross margin?

Yuval Dagim -- Chief Executive Officer

I think it's a bit too early for us to comment on that. And I guess, the last few weeks of the first quarter are kind of a mix of drivers to our end results of -- we will need to go through that the second quarter to get a better read on that.

John Baugh -- Stifel -- Analyst

Okay. And then, my question on inventory obviously it build year-over-year, and that was the plan and then of course the pandemic hits. So to your comments you're going to take utilization rates down. The question is inventory, I guess, will be a source of cash going forward, and I understand there are a lot of dynamics in calculating free cash flow for the year that are unknown. But is there any help, Ophir, on how you see free cash flow playing out in the latter nine months of 2020?

Yuval Dagim -- Chief Executive Officer

Maybe just before handing over to Ophir, John, just to comment on Q1 again because it was kind of an item that we left open in the last quarter of last year. In the first quarter, we had no missing slab in terms of supplying to the demand. And I think it was quite a successful quarter by not just building some inventory but also fulfilling all the demands in our markets.

Ophir Yakovian -- Chief Financial Officer

Yeah. And regarding cash flow, I think, John, it's a bit early for us to predict what will be the cash flow for the full year as there's a lot of uncertainty and it's very hard for us to really understand and focus the revenue for the coming quarters. So, once we know that it will be much easier. We can say that, we took a lot of actions to preserve cash from as we said, holding capex investment and production -- curtailing production, optimizing our working capital, and then all the actions that we took is in terms of furloughing employees and adjusting our workforce, and of course, cost control, which is very tight. Once we know and we have a clearer picture of the coming months, we'll be better forecasting the cash flow.

John Baugh -- Stifel -- Analyst

Okay. And then, my last question is, and I appreciate the comments, the March impact of $3 million to $4 million I assume that was the last couple of weeks and then April being down 30%. Is there any trend that you can see in April? Are we down 30% throughout the weeks pretty evenly or has it accelerated the down side? What kind of lag in terms of timing, in terms of what's happening at the installation or demand level versus your production and sales? And do you expect the rate of sales maybe in May to be worse than that 30% or similar or better? Thank you.

Ophir Yakovian -- Chief Financial Officer

First, regarding April, I think it was relatively stable between the weeks. We haven't seen a huge change between the weeks as it was driven by the -- mostly by the lockdowns of each of our countries in our portfolio and regarding -- regarding May it's a bit too early to say, but I think we're starting May similarly to April.

Yuval Dagim -- Chief Executive Officer

And I think it very much depends on the different lockdowns that governments implement in the different regions that we operate. There are difference between Australia that there was very minimal interruption in March a bit more in April and the UK, which is on the total halt of the business in April, there was -- for example, IKEA is shutdown since April -- since March 18th in North America. So it's -- there's a delay when we feel the impact on our business, it's -- we start selling it more toward the second half of April because we are delivering some of the orders that were already in the system. So it's very mixed, but -- and it's -- and by the way it's very hard to say exactly what will happen in May. I think that we are waiting and it very much depends on the reopening of the economies in the different states and countries that we operate in.

John Baugh -- Stifel -- Analyst

Thank you and good luck.

Yuval Dagim -- Chief Executive Officer

Thank you, John.

Ophir Yakovian -- Chief Financial Officer

Thank you, John.

Operator

[Operator Instructions] Thank you. At this time, the next question comes from the line of Asaf Barel Chandali with Oppenheimer. Please proceed with your question.

Asaf Barel Chandali -- Oppenheimer -- Analyst

Hey, guys. Thanks for taking my question again. Congrats on a solid quarter. Just one question on my end. Could you help maybe quantify the incremental effects of some of the actions you're taking on operating expenses just on a year-over-year basis?

Yuval Dagim -- Chief Executive Officer

Just as Ophir is collecting the numbers, maybe to advise that we have entered the first quarter with some actions from 2019 that are working in our benefit, and I think that the first quarter was probably our most efficient quarter in a while now. And it can be -- or it has been manifested itself to our very impressive gross margin for the first quarter.

Ophir Yakovian -- Chief Financial Officer

Yeah. And in term of expenses, I think that we did take actions, but this is something that we are monitoring the situation and kind of we'll take more actions as we see the development in the different markets that we operate. So, we take steps that -- and comparing employees and reducing shifts, etc. But I think that it's early to say what will be the impact on the full year because it's going to be evolving as we monitor the situation and the revenue. Over to you.

Yuval Dagim -- Chief Executive Officer

And I think, Asaf, just to complete the answer with the experience from 2019, we know that we can be very flexible with our production and our cost base and we will be managing the costs in the company and the production and inventory in line with the feedback we will be getting from the markets.

Asaf Barel Chandali -- Oppenheimer -- Analyst

Okay. Great. Thank you, guys.

Operator

Thank you. At this time, I will turn the floor back to Yuval Dagim for closing remarks.

Yuval Dagim -- Chief Executive Officer

Thank you for your attention this morning. We look forward to updating you on our progress next quarter.

Operator

[Operator Closing Remarks]

Duration: 28 minutes

Call participants:

Brad Cray -- Vice President

Yuval Dagim -- Chief Executive Officer

Ophir Yakovian -- Chief Financial Officer

John Baugh -- Stifel -- Analyst

Asaf Barel Chandali -- Oppenheimer -- Analyst

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