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GCP Applied Technologies Inc. (GCP)
Q3Â 2020 Earnings Call
Nov 6, 2020, 10:00 a.m. ET
Contents:
- Prepared Remarks
- Questions and Answers
- Call Participants
Prepared Remarks:
Operator
Good morning, and welcome to the GCP Applied Technologies Third Quarter 2020 Earnings Conference Call. [Operator Instructions]
I would now like to turn the conference over to Mr. Craig Merrill to begin the presentation for GCP. Please go ahead, sir.
Craig Merrill -- Chief Financial Officer
Yes. Hello, everybody. Good morning. Sorry about that. There was a technical issue, obviously, with respect to the GCP earnings call. So we're back at it. Hopefully, you're all still on. Thank you for staying on. I appreciate it. Thank you for joining us today this morning. With us is Simon Bates and myself, Craig Merrill, Chief Financial Officer; and Simon Bates, Chief Executive Officer. Our earnings release and corresponding presentation slides for this quarter's results are available on our website. To download copies of the presentation, please go to gcpat.com and click on the Investors tab. Some of our comments today will include forward-looking statements under U.S. federal securities law. Actual results may differ materially from those projected or implied due to a variety of factors, including, but not limited to, the impact of COVID-19.
Please see a full description of information used in forward-looking statements in our earnings release. We will discuss certain non-GAAP financial measures, which are described in more detail in our earnings release and on our website. Our comments on forward-looking statements and non-GAAP financial measures apply both to the prepared remarks and to the Q&A. References to EBITDA refer to adjusted EBITDA, references to EBIT refer to adjusted EBIT and reference to margin refer to adjusted gross margin. Adjusted EBITDA margin or adjusted EBIT margin is defined in our press release. All revenue and associated growth rates in this discussion are stated on a comparative constant basis currency, which adjusts for the impact of foreign currency.
I will now turn it over to Simon to start the call.
Simon Bates -- President and Chief Executive Officer
Thanks, Craig. Good morning, everyone, and thank you for joining us today on GCP's Third Quarter 2020 Earnings Conference Call. I'm very pleased to be speaking with you on my first conference call as GCP's President and Chief Executive Officer. I hope you and your families are safe and well, and I look forward to meeting many of you over the coming months. Before we get into the details of our third quarter performance, however, I wanted to provide a brief introduction and to share with you some of my initial thoughts and observations about GCP gathered over my first 30 days on the job. Firstly, I am tremendously excited to be part of GCP. It is a great company with a strong tradition for innovation and with product brands that are recognized around the world. I think that my background and experience are a really good fit with the business. I've lived and worked across Australia, Europe and North America, and I have good local knowledge of many of the markets which GCP serves. Over the last 25 years, I have had great building products experience with Hanson plc, HeidelbergCement and CRH plc. On the construction chemical side, I've had the good fortune to work with both Axiall and Westlake Chemical. During those 25 years, I have held a variety of commercial, operational and business leadership roles on both sides of the Atlantic. I have had a lot of success developing strong management teams and delivering significant commercial and operational improvements. I'm confident that we can bring those learnings to GCP. Also as a former customer of GCP, I am very familiar with its products and reputation for industry-leading performance and technology.
Let me just say that everything I have learned over the past month has only strengthened my belief that GCP has tremendous potential. I'm absolutely convinced that GCP has the right and the opportunity to deliver outstanding value to its investors, its customers and its employees. I would also like to mention the resiliency of GCP's employees around the world during the pandemic. Our employees have responded to the current environment with dedication and relentless drive to deliver on commitments to our customers. I just want to say my personal thanks to all of our employees worldwide for a job well done. Most importantly, however, I wanted to ground you on what you can expect from me and share some of the critical areas on which my team and myself are already focusing. Our goals are to stabilize revenues, improve margins and return the company to profitable growth. This will be a heavy lift, but I am committed to delivering profitable growth and our experienced Board is committed to delivering profitable growth, and everyone in our team will be committed to driving improved profitable growth. We will initially address four key priorities. Firstly, we will revisit our strategy and more clearly articulate where we will focus our efforts and our plans to drive growth. Our strategy should also determine how we allocate our capital. We have a very strong balance sheet and we have a lot of flexibility for investments in the business, disciplined M&A and, of course, share buybacks. Secondly, I want to bring the voice of the customer front and center. We can be successful only if we deliver outstanding value to our customers in our products, in our technologies and in our service and making sure these align with their needs.
We will do this initially through a global customer survey, and I've also begun to reach out to our key customers personally. Thirdly, we will complete a thorough analysis of our cost structure, including our fixed overhead, operating expenses and SG&A. Our aim is to significantly improve our speed to react and to invest only where it will drive appropriate returns. Finally, we will be relentlessly data driven. I've learned over the course of my career to trust the data. At GCP, we'll be working hard to improve the quality of the information about our business, and make no doubt, acting on what the data teaches us. Improving our data capture and internal metrics will give us a deeper understanding of our business over time. As we work toward our goal, you can always rely on transparency. Hopefully, you will quickly learn that, with me, what you see is what you get. I'll be transparent about our successes, but just as important, we'll be transparent with you about our challenges and opportunities. I look forward to speaking to you in more detail about our progress in these areas on future calls.
I'd now like to turn the call over to Craig, who will review the company's financial performance along with segment results and our comments on the fourth quarter. Craig?
Craig Merrill -- Chief Financial Officer
Thank you, Simon. Good morning, everyone. Again, just a reminder, all sales and associated growth rates in my comments are on a constant currency basis. Before I summarize our third quarter, I want to thank our employees across the globe, who remain focused on their objectives and continue to provide a high level of commitment to our customers. I will first focus on GCP's results and then move into the business segments. GCP's constant currency sales of $250 million were approximately 6% lower than prior year due to reduced construction and manufacturing activity as a result of COVID-19. Comparing the third quarter constant currency sales, excluding the exited markets, sales declined approximately 5%. These results are in line with our expectations discussed during the second quarter earnings call. Construction activity continues to vary around the globe, although demand improved significantly when compared to the second quarter of 2020. With respect to the sales performance in each region versus prior year, North America finished down 2% for the quarter with improved year-over-year performance in our residential and our fireproofing product lines. Europe ended the quarter down 10% as the region returned to a more normalized operating environment versus quarter 2, although we did see challenges were remaining in United Kingdom, France and Germany with respect to overall construction activity, particularly impacted by the pandemic. Latin America sales were flat with third quarter 2019. Asia sales were down 17% in the third quarter compared with the same quarter in 2019 as restrictions continued in some of GCP's larger revenue countries, including Singapore, while construction activity in Australia and China was slower-than-anticipated versus expectations at the beginning of the quarter.
Price for the quarter was down approximately 0.5 percentage point compared to the third quarter 2019. We started to see price pressure in our SBM segment as rubber and asphalt prices declined with the oil prices, but we did react accordingly in the market. In SCC, price was about flat year-over-year, and in Latin America, where country inflation due to currency devaluations occur, we increased price accordingly. GCP's gross margin increased about 140 basis points to 40.8%, primarily due to logistics productivity and raw material deflation, partially offset by lower sales volume. Selling, general and administration costs were $65.2 million, improved by a total of $1.1 million or about 1.7%. During the quarter, restructuring pension, the management of discretionary costs and lower selling costs due to COVID-19 social distancing practices, impacted SG&A favorably by about 400 -- sorry, $4.8 million, which was partially offset by Board defense, investment in VERIFI and other costs of approximately $3.7 million. GCP's income from continuing operations attributable to GCP shareholders totaled $99.5 million compared to income from continuing operations attributable to GCP shareholders of $17 million in the third quarter of 2019. These results include the $110 million gain on sale of GCP's Cambridge headquarters, which resulted in an after-tax gain of approximately $82 million. GCP's adjusted EBIT margin ended the quarter up at 14.1% versus 13% in the prior year quarter. Volume, price and mix together negatively impacted the quarter by about $8 million in margin, but was partially offset by operations, logistics productivity and deflation totaling $4 million for the quarter. Adjusted EBITDA margin was 18.9%, up 190 basis points versus prior year period.
Looking now at the specific performance of our two segments. You can refer to Page 12 and 13. SCC's constant currency sales were down approximately 7% to approximately $140 million. North America sales declined 5% in the quarter versus prior year, in line with expectations. Impacts in Asia, Europe and Latin America due to COVID-19 have been more prolonged and slightly deeper versus North America. Collectively, sales in these regions were down 10%, lower than the third quarter of 2019, with Asia having the highest impact year-over-year primarily due to COVID-19 periodic lockdowns, impacting the countries we play in, in Singapore, Vietnam, Malaysia and Thailand. SCC's gross margin improved by 240 basis points, 39.8% during the third quarter 2020. This is the seventh consecutive quarter of gross margin improvement in the SCC business. Operations and logistics productivity and favorable mix was partially offset by reduced operating leverage. The SCC segment operating income was $18.6 million, with segment operating margin of 13.4%, which increased 40 basis points compared with the prior year quarter, primarily due to higher gross margins and lower SG&A, partially offset by volume decline. Now I'll focus on the SBM segment. SBM sales totaled $109.3 million during the third quarter, a 5% decline versus the third quarter 2019. North America SBM sales grew nicely at 1% during the quarter, attributable to growth in residential, on strong roofing material demand and strong fireproofing product demand. Building envelope sales declined about 16% globally due to reduced construction activity and a delay of orders for a number of projects in North America. SBM's gross margin increased 10 basis points to 42.3% compared to the third quarter of 2019 due to raw material deflation and logistics productivity, partly offset by price reductions and sales volume leverage reduction. SBM segment operating income was $25.4 million, with operating margins at 23.1%, a 60 basis point improvement versus prior year. The improvement was mainly due to lower operating expenses, deflation on raw materials and productivity. Lower sales volume unfavorably impacted operating leverage, which, in turn, partially offset improved margin performance. Now let me turn back to GCP overall. GCP's effective tax rate was 23.5% for the quarter versus 24.3% in the prior year quarter.
The tax expense associated with the gain on sale of the Cambridge headquarters totaled $27.7 million. GCP's net cash provided by operating activities from continuing operations was $59.3 million for the nine months ended September 30 versus $46.5 million for the nine months ended September 30, 2019. GCP's adjusted free cash flow totaled $52.4 million for the first nine months in 2020 compared to $23.3 million during the same period in 2019. Reduced capital expenditure and improved working capital management of $18 million and $15 million respectively contributed to the improvement in adjusted free cash flow. Now turning to the fourth quarter outlook. We expect in the fourth quarter volumes to be down approximately 9% for the quarter versus the fourth quarter of 2019. This estimate assumes general construction activity globally to be aligned with third quarter run rate activity going into Q4, while taking into account fourth quarter seasonality. But we are expecting a slightly lower demand globally in December versus prior year as customers will remain cautious with respect to inventory levels moving into 2021. This estimate would exclude any further deterioration of construction activity due to the pandemic, changes in economic conditions or weather-related impacts due to an early winter in North America or Europe. We also expect raw material deflation to provide a modest offset to the forecasted volume declines, but less of a benefit in quarter four versus quarter 3. We will continue to deliver productivity to support our margins, remain focused on our operating expenses. With respect to operating expenses in the fourth quarter, we expect similar performance in the fourth quarter as we had in the third quarter.
We are on track to the planned capital expenditure of $25 million in 2020 or a reduction of 35% to 40% from our original plan. And we expect our cash position to continue to grow in the fourth quarter, driven by our continued focus on working capital and our strong positive operating cash flow focus. Looking beyond 2020, we are confident in our ability to perform well within the current impacts of the global pandemic as we continue to manage our costs and expenses relative to quarterly volume expectations moving forward. We are confident in the long-term fundamentals of GCP and the construction industry moving forward.
With that, I will now turn it back over to Simon. Thank you.
Simon Bates -- President and Chief Executive Officer
Thanks, Greg. Firstly, my sincere apologies for the technical difficulties we experienced at the start of this call. That was certainly not what I had hoped for on my very first earnings call. Now I did just want to take a moment to reiterate the immediate areas of focus for me and the senior management team that I discussed at the beginning of today's call. They are providing clarity on strategy and capital allocation to drive growth, being more customer-centric, all and deep understanding of our cost structure, improving transparency, which will include our updated strategy and detailed financial planning to the investor community in the first half of 2021.
Thank you all for joining our call and we look forward to ongoing communications and to taking your questions.
Craig Merrill -- Chief Financial Officer
Operator, please open the Q&A session. Thank you.
Questions and Answers:
Operator
We will now begin the question-and-answer session [Operator Instructions] And our first question will come from Rosemarie Morbelli with G.research. Please go ahead.
Rosemarie Morbelli -- G.research -- Analyst
Well, thank you and good morning, everyone. Well, Simon, you anticipated my first question, which had to do with what you are seeing in terms of the strategy for the company after one month at the helm, which I understand is very little. Can you give us a little more details in terms of customer-centric focus, which I thought that the company was reasonably customer-focused already? But you come from that particular end of the market. So what did you see that is not really up to snap regarding that particular focus?
Simon Bates -- President and Chief Executive Officer
Well, Rosemarie, let me be clear. I'm not suggesting the business is not customer-centric. But I am certainly very keen to draw information from our customers on how we can best drive growth for the company over time, and hence, the initiation of the global customer survey which we began last week.
Rosemarie Morbelli -- G.research -- Analyst
Okay. And while I realize it is early, can you touch on what you see in the M&A environment? There has been industry consolidation going on. Are you seeing more midsized businesses, for example, willing to sell given the uncertain environment? And if so, what do you see on the multiple side?
Simon Bates -- President and Chief Executive Officer
Yes. I'm not really in a position to speak to that yet, Rosemarie. I'm 30 days on the job. What I can speak to is the commitment that I have with the Board and the agreement with the Board to look at our strategy going forward and how best to drive profitable growth. And one of the options we have in front of us would be disciplined M&A.
Rosemarie Morbelli -- G.research -- Analyst
Okay. And lastly, if I may, there was quite a substantial reduction of operating expenses, which resulted, obviously, in a higher margin. What is the size of the cost reductions that will be permanent versus what is temporary given the lack of travel and other situations?
Simon Bates -- President and Chief Executive Officer
Yes. I'll turn that one over to Craig, Rosemari
Craig Merrill -- Chief Financial Officer
Hey Rosemarie, how are you?
Rosemarie Morbelli -- G.research -- Analyst
All right, thanks.
Craig Merrill -- Chief Financial Officer
Yes. So we did a little bridge in the slide deck. I think you'll find that we've got about $4 million to $5 million of reduction combined between restructuring and the discretionary in T&E, which is about split 50-50 on the cost restructuring versus the COVID-19 impact. And then, of course, it was offset by some investments and some Board costs this quarter. Moving forward, I think now that we see that the pandemic is going to continue into Q4 and Q1, we're going to continue probably at that run rate generally. Although we are looking at our total fixed cost position -- as you know, the pandemic showing up in Q2 has put us in a -- and everybody has been putting in a different position with respect to expectations on volume moving forward. So we're going to look at that very much on the fixed cost piece. So we're going to come back to you at the end of this year or early next year on exactly what that -- what it will look like in 2021 versus the run rate today.
Rosemarie Morbelli -- G.research -- Analyst
Thanks. And actually, I do have one more question. Given what seems to be the result of the election, if there is a large infrastructure bill, how long before you see the benefit from it?
Craig Merrill -- Chief Financial Officer
Yes. Generally, we're nine months out on those type of things. So if there's a push on the infrastructure and there's a releasement of funds either to the states or just generally on the Fed, will be nine months out. So it would be unlikely we'd see a lot of impact in 2021. But we're excited about it. I mean, there's no question if that happens, we're in a much better position over the next two to three years and that would really be helpful for the economy if they did that. We're better to have people working and creating some value for the economy in that kind of injection of cash into the economy. It would certainly help GCP in the long run.
Rosemarie Morbelli -- G.research -- Analyst
Thank you, very much.
Operator
Our next question will come from Mike Harrison with Seaport Global Securities. Please go ahead.
Mike Harrison -- Seaport Global Securities -- Analyst
Hi, good morning.
Simon Bates -- President and Chief Executive Officer
Good morning, Mike.
Craig Merrill -- Chief Financial Officer
Good morning, Mike.
Mike Harrison -- Seaport Global Securities -- Analyst
Simon, you are inheriting a company here that has been through multiple rounds of restructuring and kind of focusing more on the cost side. It struck me that you highlighted in your introductory remarks there that you want to stabilize revenues. Can you maybe give some early thoughts on what steps are needed to improve top line growth? It does, in particular, seem like there have been some share losses over time within the Building Materials segment. Anything you can comment on right now, Simon?
Simon Bates -- President and Chief Executive Officer
Mike, I don't feel in a position to comment on it yet. I am 30 days on the job. I am spending my time getting to understand the business a lot better. I do expect to have more insight over the coming months and maybe can speak to that on one of the follow-up calls.
Mike Harrison -- Seaport Global Securities -- Analyst
All right. That's fair enough. Can we talk a little bit about mix within the Building Materials segment? It seems like residential markets are stronger than nonresi. How is that impacting your mix and your margin performance? I know you mentioned that building envelope in particular continues to be weak. So maybe touch on that?
Craig Merrill -- Chief Financial Officer
Mike, I'll answer that. The Ice and Water Shield product, as you know, that we sell is a high-end product, high demand during this period of time when people are doing their roofs, when they're at home. That's helped us, no question, on the mix. The margins on the residential Ice and Water Shield versus the B are about equal. So we can trade-off those margins and they're about the same. So we did get a benefit on the mix with the Ice and Water Shield being strong. With respect to SCC, as you know, we kind of play in all the segments. We play in the infrastructure, the commercial and the residential on the SCC. The margins there are about equal. I mean there's not a lot of difference between the margins on that mix. If we get pulled through the residential and the ready-mix versus commercial or infrastructure, it's about equal on that. So I don't see us getting unfavorable or truly beneficial moving forward on the mix on the margins. Most of the margin benefit we got on SCC was productivity and deflation, and that was the same, honestly, on the SBM side because of the oil prices and we had deflation on SBM. And that will continue over the next couple of quarters, I believe.
Mike Harrison -- Seaport Global Securities -- Analyst
All right. And then maybe the last question for now is on the Asia business. You mentioned that there was -- it looks like volume was down 15%. I think for both segments, you mentioned that there was weakness in some of the key markets that you serve. Are those countries continuing to be very conservative around, I guess, lockdown activity? Or what are your thoughts on the pace of recovery in some of those, I guess, Southeast Asian markets?
Craig Merrill -- Chief Financial Officer
Yes, that's a good question. We play in a little bit more of the sophisticated arenas because of our product categories. So we're in Australia, we're in Singapore. Those countries have taken a little more conservative approach with respect to the social distancing, which is probably the right thing to do. And we have been impacted. So Singapore was down quite a bit. We haven't lost any share in Singapore, but it was down about 50% year-over-year in customer demand. They have come back a little bit in October. Our numbers were better in Asia in October. So we see it improving, but we're still pretty cautious about it because we think there's going to be intermittent lockdowns in Asia. So we'll see how that plays out in Q4 and Q1.
Mike Harrison -- Seaport Global Securities -- Analyst
All right. Thanks very much.
Operator
[Operator Instructions] Our next question will come from Laurence Alexander with Jefferies.
Dan Rizzo -- Jefferies -- Analyst
Hey, guys, it's Dan Rizzo for Laurence. How are you?
Simon Bates -- President and Chief Executive Officer
Fine, thank you.
Dan Rizzo -- Jefferies -- Analyst
You mentioned with the customer-centric kind of focus going forward. Is that going to change the way you develop new products in terms of coming up with ideas, something more of -- it's more of a pull versus a push? I was just wondering if that's the way you look at kind of that going forward?
Simon Bates -- President and Chief Executive Officer
I think as we look at our business and we take a look again at our strategy, I think when it comes to R&D and product launches, we want to make sure we get the best return. And so again, I think it's something we can give an update on in future months as, at least, I seek to understand the business a whole lot better and maybe can speak with some authority and some deeper understanding.
Dan Rizzo -- Jefferies -- Analyst
The reason I bring it up is because I was just thinking about sustainability and how that's kind of a focus for, I would imagine, a lot of your customers and just everybody within materials and just, I guess, in the world. I was wondering if you're working with customers to establish or increase sustainability, how it works into your process, and if that's part of what you're trying to change as well?
Simon Bates -- President and Chief Executive Officer
Yes, there would be a good example with our cement additives business. Obviously, for the cement producers around the world and their significant contribution to CO2, that, that is a major concern for those folks. And we are working closely with those customers to try and help develop products that can help them reduce their CO2 emissions.
Dan Rizzo -- Jefferies -- Analyst
Thank you very much.
Operator
[Operator Closing Remarks]
Duration: 37 minutes
Call participants:
Craig Merrill -- Chief Financial Officer
Simon Bates -- President and Chief Executive Officer
Rosemarie Morbelli -- G.research -- Analyst
Mike Harrison -- Seaport Global Securities -- Analyst
Dan Rizzo -- Jefferies -- Analyst
