Sensient Technologies Corporation (SXT) Q1 2012 Earnings Report, Transcript and Summary

Good morning, everyone, and welcome to the Sensient Technologies Corporation 2012 First Quarter Conference Call. Today's call is being recorded. At this time, for opening remarks, I would like to turn the call over to Mr. Steve Rolfs. Please go ahead, sir.

Good morning. I'm Steve Rolfs, Vice President, Administration of Sensient Technologies Corporation. I would like to welcome all of you to Sensient's conference call to discuss 2012 first quarter financial results. I'm joined this morning by Mr. Kenneth P. Manning, Sensient's Chairman, President and Chief Executive Officer; and Dick Hobbs, Sensient's Senior Vice President and Chief Financial Officer. Also with us today are Paul Manning, President of the Color Group; and Jim McCarthy, President of the Flavors & Fragrances Group. Earlier today, we released our 2012 first quarter financial results. A copy of the release is now available on our website at sensient.com. Before we begin, I would like to remind everyone that comments made this morning, including responses to your questions, may include forward-looking statements as defined in the Securities Litigation Reform Act of 1995. Our statements may be affected by certain factors, including risks and uncertainties, which are discussed in detail in the company's filings with the Securities and Exchange Commission. We urge you to read Sensient's filings for a description of these factors. Please bear these factors in mind when you analyze our comments today. Now we'll hear from Ken Manning.

Thank you, Steve. Good morning. Sensient delivered another strong performance in the first quarter of 2012, establishing new first quarter highs for revenue, operating income and earnings per share. Earnings per share were $0.58, an increase of 9.4% from the $0.53 reported in the last year's first quarter. Revenue for the first quarter was $365.7 million, up 4.6% as reported, and up 6.3% in local currency, as compared to the first quarter of 2011. Operating income grew 6.6% as reported, or 8.8% in local currency, to $46.5 million. This is the 10th consecutive quarter that Sensient has met or exceeded earnings per share estimates. The Color Group continued its outstanding performance, achieving new first quarter record for revenue and an all-time quarterly record for operating income. Revenue increased 4.5%, and operating income was up 14.2%, as reported in the quarter. The Color Group's operating margin was 19.4%, up 160 basis points from 17.8% in the first quarter of 2011. We will continue to focus on strong growth opportunities in digital inks, pharmaceutical coatings, specialty industrial colors, cosmetic ingredients and natural food colors. We expect to achieve mid to high-single digit growth, and we believe that the first quarter operating margins are sustainable. The Flavor and Fragrance Group also had a solid quarter, with revenue increasing 4.3% to a new first quarter high. Operating income increased by approximately 2% as reported in the first quarter, as strong performances in North America were offset by the performance in Europe. We expect to achieve mid-single-digit revenue growth from the Flavor & Fragrance Group as the year progresses. The Corporate & Other segment reported a revenue increase of approximately 7% in the quarter, driven by strong performances from Thailand, Australia and New Zealand. Our balance sheet is strong, and we are reinvesting in our business with strategic investments in infrastructure. These investments include expanding our facilities, increasing sales coverage and improving our supply chain management. Last year, we expanded our main North America Color facility in St. Louis and opened a new food and cosmetic color facility in Brazil. We also completed a number of other investment projects around the world. In 2012, we are making significant investments to our digital ink operation in Switzerland and to our Flavor operation in the U.K. We have expanded the size of our sales force and technical support personnel. We have added 75 salespeople across the country since 2009 -- sorry, across the company. And we continue to recruit sales and technical personnel throughout the world. Sensient is also making strategic investments to improve its global supply chain management program. This program will secure our access to high-quality raw materials. These investments will ensure that the company is well positioned for future growth. We are actively reviewing acquisition opportunities to add technologies and broaden our product portfolio. Sensient made 2 acquisitions in the fourth quarter of 2011, which allowed the company to gain full control of operations in key strategic markets. This year, we will consider additional opportunities that improve our commercial technologies, product offerings or access to new markets. We are also focused on returning value to shareholders. We saw a substantial value in the company stock during the first quarter and repurchased approximately 400,000 shares. Our strategy is focused on profit improvement and margin improvement, and our record results over the past several years demonstrate that this strategy is working. The company expects to achieve mid to high-single-digit revenue growth, with continued improvement in operating margins. We see many opportunities of growth, and I'm very optimistic about the company's future. As a result, I am raising our earnings guidance to a range between $2.50 a share and $2.59 a share for 2012. Our previous guidance had been between $2.48 and $2.58 per share. Dick Hobbs, our CFO, will now provide you with some of the details for the quarter.

Good morning. Revenue for the quarter ended March 31, 2012 was $365.7 million, a first quarter record for Sensient and an increase of 4.6% from $349.7 million in last year's period. Operating income for the first quarter of 2012 was $46.5 million, up 6.6% from $43.6 million reported in the first quarter of 2011. This also represents a first quarter record for Sensient. In local currency, revenue and operating income were up 6.3% and 8.8%, respectively, in the first quarter of 2012. Diluted earnings per share were $0.58 in the quarter ended March 31, 2012. This was an increase of 9.4% from 2011 and a record for the first quarter. Sensient's cash flow from operating activities was $9 million for the quarter ended March 31, 2012, and $28.4 million from the first quarter of 2011. The majority of the decrease was due to the impact on accounts receivable of strong sales in the second half of the first quarter of 2012. The company expects cash flows in the second quarter of 2012 to increase significantly from the first quarter, as the receivables are collected in the normal course of business. The company purchased $15.4 million of its stock in the quarter. The company's strong balance sheet allowed Sensient to take advantage of this investment opportunity. As previously mentioned, Sensient has several capital projects in progress to expand capabilities and improve efficiencies. Capital expenditures in the first quarter of 2012 were $16.9 million, compared to $10.1 million from the 2011 comparable quarter. As a result of these items, debt increased to $358.7 million at March 31, 2012 from $343.9 million one year ago. However, both the debt-to-capital ratio and debt-to-EBITDA remained constant at 24.9% and 1.5%, respectively, as of March 31, 2012, compared to the prior year. I will now take a brief look at the results of our operating groups. Sensient's Color Group reported a first quarter record for revenue and an all-time quarterly record for operating income. Revenue of $131.3 million in the first quarter of 2012 was an increase of 4.5% from the $125.7 million in the comparable period of 2011. Color Group operating income of $25.5 million was up 14.2% from $22.3 million reported in the first quarter of 2011. In local currency, group revenue and operating income were up 7% and 16.7%, respectively, in the quarter. Operating margins increased by 160 basis points to 19.4% in the first quarter of 2012. The group's results were driven by strong growth in the North American food color business and the inks business in both North America and Europe. The Flavors & Fragrances Group reported record first quarter revenue of $214.7 million in 2012, an increase of 4.3% from $206 million in the first quarter of 2011. Operating income was $29.1 million for the 3 months ended March 31, 2012, an increase of 1.6% from the $28.6 million reported in the comparable 2011 period. In local currency, revenue and operating income were up 6.1% and 3%, respectively, in the quarter. Operating margins were 13.5% for the first quarter of 2012 compared to 13.9% for the prior year period. Volume increases in North American flavors were the primary reason for the revenue increase. Price increases in the Flavors business in North America offset higher raw material costs in dollar terms, but operating margins were slightly reduced. The European operations were impacted by some softness in the European Flavors & Fragrances markets. Revenue in the Corporate & Other segment was up 7.5% to $37.2 million in the first quarter of 2012, compared to $34.6 million in the prior year. This segment includes the company's operations in Asia Pacific and China and now the company's Flavor operations in Central and South America. Growth in this segment was driven by Thailand, Australia and New Zealand. As Mr. Manning stated, we have modestly increased our guidance for 2012 diluted earnings per share to be between $2.50 and $2.59. The company's previous guidance had been between $2.48 and $2.58 per share.

Thank you very much for your time this morning. We will now open the call for questions.

[Operator Instructions] Okay. Your first question will come from the line of Edward Yang with Oppenheimer.

Nice to see the share buyback. Could you describe your thought process there? And the shares outstanding actually didn't decline in the quarter. Was that just the timing issue and we'll see that flow through in the second quarter?

Yes, that's right. That's a timing issue. And Jeff Makal has specific details on the shares.

The shares, there was about 400,000 shares repurchased in the quarter, as Mr. Manning mentioned. They were purchased probably the back half of February, early March. We expect to see some reduction in the outstanding shares to be slightly below 50 million for the year.

Okay. And does the -- this purchase of the shares reflect any change in thinking relative to CapEx investments or acquisitions, et cetera, dividend?

No. We just saw it as an opportunity. We have an authorization for about 2.5 million more. We could be buying some more, but we still are going to pursue what look like some interesting opportunities acquisition-wise and with our investments.

Okay. And the diversions in the results between North America and Europe in Flavors, what's driving the weakness in Europe? Is that a market share issue? Is it just a macro issue? And is the product portfolio there demonstrably different than it is in your North American business?

Actually, I have Jim McCarthy on the call. So Jim, why don't you answer that question? Just make some comments about what some of the customers have been telling us. And I think that would satisfy Ed's question.

Sure. Ed, overall, the business is very good, although we are experiencing some softness in Europe in our Fragrance sector. What we're hearing from European customers are that they're really monitoring their inventories very, very closely. We're also seeing some delays with some new launches. And most of this that we're hearing is primarily due to concerns over the impact of the European debt crisis there. That said, our European customers are still projecting modest growth for the year.

But did your business grow in the first quarter in Europe?

In Europe?

Yes.

We were basically flat on a local currency basis in Europe.

Okay. And you mentioned Fragrance. That's only about 10% to 11% of your Flavors business, isn't that right?

Yes, but it's in Europe principally. That's the reason. He tacked it on to his answer because it is in Europe.

I see. I see. And I'd asked about this before. But on a nat gas situation, those prices continue to decline. Are you seeing a benefit there, particularly in your dehydrated vegetables business?

Certainly, that's baked in. We do hedge in the neighborhood of looking at the whole company, 70% or so, a little bit less than the dehydrated flavors business, because we have a number of spot purchases we typically make towards the end of the season. But in general, we're pretty well positioned there at $5 or less per 1,000 cubic feet. And we certainly will see some help there. We've been doing pretty well in those purchases, and I don't want to say it's significant. But certainly, there will be a little bit of help there.

Your next question will come from the line of Christopher Butler with Sidoti & Company.

Staying with the Flavors & Fragrances, you had mentioned that raw materials were a bit of a difficulty. Could you give us some color on that, what the increase you saw, what the specific materials were?

Yes, we did have some raw material increases, but we were able to get pricing to offset that. The kinds of areas were blueberries, strawberries, sugar and milk, those were some of the key areas for Flavor. And what happens is if you're able to get pricing, it just offsets the costs that will have a little bit of a reduction in the margin because you're not bringing in that pricing at an amount that would include the margin. So it will have a little bit of an impact. But I would say that for the rest of the year, we certainly expect the Flavor Group margins will be in the area where they were last year. And as long as we're talking about this, I would add that the Color margins for the remainder of the year we expect to continue to be above the prior year margins.

And if we're looking at the effect of Europe with some of the new launches, the delays of the new launches, wouldn't that be something that would depress your margins here over the course of the year just because that's where you get a lot of your price increases from?

Paul, why don't you talk?

Are you just asking about Flavor or are you talking about the whole company?

You're talking about Europe, right?

Well, yes, we can open it up to the full company, if it's applicable.

Paul, why don't you just talk about where we are in product mix and go through some?

Yes. Certainly, there's a nice benefit derived from new product mix, but we're also able to generate very nice improvement into our mix throughout the Color Group really by focusing on our higher end of the product portfolio. So mix continues to improve. It's consistent with our value proposition, really what we're trying to sell to the market. We have been systematically divesting ourselves of opportunities that are perhaps not as strongly aligned with our value proposition. And so in short, new products is a piece of this, but it's also quite a bit that we're doing internally to offset mix where we may have some shortfalls in customer product releases.

And finally, before I go back in the queue, it sounds as if the repurchases that you have baked into your guidance are basically, at this point, that which you've already done, that going forward, you'll be more periodic and also looking for acquisitions. This shouldn't be considered an ongoing thing necessarily?

Well, I really don't know even how to answer that. I would say this: it's something that we will continue to look at. Certainly, as situations develop, there may be more attractive opportunities, but we do consider the price very attractive right now.

Chris, in support of what Mr. Manning is saying, just as a backdrop. Our balance sheet is so strong that we have a huge amount of capacity to do a lot of things as will be deemed best for the shareholders. That can include certainly capital expenditures, which we have a very strong program there; a buyback of stock; and of course, acquisitions. So we're in a very good position of having plenty of capacity to do those things that we deem best for the shareholders.

But they're all attractive. All 3 categories that Dick mentioned are attractive, so stock buyback is an attractive opportunity.

[Operator Instructions] Your next question will come from the line of Summit Roshan with KeyBanc.

We touched on this a little bit, actually quite a bit on the strong margin improvement in the Colors Group. And I know there has been good focus on some of the new product introductions, as well as the in the value products such as natural colors and such. Just to touch on that, what sort of margin profile do these newer products have relative to, say, some of the more traditional product lines? Are they somewhere in the 20%, 25% on an operating basis?

Paul, do you want to take that?

I would say certainly that the -- some of the areas where we've expanded into over the years, whether it's inks for industrial applications, pharmaceutical coatings, natural colors, cosmetic ingredients, these are all areas that command a premium, because they require a high level of technically advanced product with strong technical support and manufacturing capabilities, all really important elements of our value proposition. So, yes, in a sense, we do get -- we certainly do get better margins but the -- than the traditional products. But I wouldn't just limit that to food. I would say that that's a true statement for each of these businesses.

Sure. Appreciate that. And I guess Mr. Manning, looking into the outlook here for our guidance, you've done a pretty good job managing raw material here on a dollar basis. Sequentially, as we go through the year, what are some of the assumptions underlying the increase in raw material prices? Is that going to be something that stabilized here? Is that going to continue to grow to, say, mid-single-digit rate?

I would say that we don't -- unless Paul or Jim has something in mind more significant, I would expect that it would be modest, and we don't anticipate any issues being able to get priced to offset whatever those increases might be.

As we get them up and down, they go both directions, and we've been able to respond pretty effectively in either case.

Paul or Jim, do you want to add anything to that?

No. I would just expect that we would be able to compensate for any raw material increases, as we have historically.

Okay.

Great. And if I could squeeze one more. In short, of the outlook for mid-single-digit growth in both Flavors & Fragrances and the Color Group, is that on a local currency basis? Or is that adjusting for what we're seeing in the FX markets right now?

What we're looking at in local currency, 6% to 7% growth in both businesses. And certainly, as I mentioned earlier, while we expect the Flavor Group to be able to maintain their margins from the prior year, certainly with the things that Paul was talking about for Color, we expect those margins to be up versus the prior years as we go through 2012.

[Operator Instructions] And you do have a follow-up question from the line of Summit Roshan with KeyBanc.

Just taking a follow up. Just a quick question. On the 2 acquisitions that were made in 4Q, in terms of growth that we saw in 1Q, is that a significant impact?

No, it was not. It was -- on a top line, not a big piece. And I should point out, since you asked that question, when we look at the top line really for both Color and Flavor, that was about 2/3 volume, so we view that obviously very positively. And the remainder for the most part was price. And in the bottom line -- so that's the top line. In the case of the bottom line, going back as it relates specifically to acquisitions, it was a de minimis impact.

It was a de minimis impact and it was an effort to gain control of the company, so we can start investing in it. But the sales were really de minimis. And we will be investing in that. In one case, we're in the Brazilian cosmetic market, which is we feel a very, very big growth opportunity.

Great. And if I can get one last one.

Sure. Sure.

What was kind of the logic in your thinking behind moving the Central America and South America back into corporate?

We did that as it relates to the flavor group. We felt that we need to pay more attention to it from the corporate office. And in the case of Color, they're very well established in these markets. And so consequently, we've felt with Flavor, we needed to beef that up some more and put it in the status of our extended distribution system. And so we have done this in order to be closer to the things that needed to be done to grow those businesses robustly.

And there seems to be no further questions -- I'm sorry, we do have a question from the line of Christopher Butler with Sidoti & Company.

Just one more for you. Could you give us a little more color on the receivables? I know that periodically in the first quarter, you've had single-digit cash flow from operations. But this jump in receivables, we didn't have a huge spike in sales here. What's driving this?

Yes. Chris, if you look at the last 6 months and you look at the growth in the top line in the fourth quarter of 2011 and then moving into 2012, happily, those increases, so we're talking about the year-to-year increases, continue to grow during that period and the most significant amounts coming in in the way of revenue. So the increases in revenue, very strong, and the most significant component is in the last part of the -- of this most recent quarter. So you're going to have an increase in revenue then that's affecting the receivables. It's greater than what the total increase is for the quarter. And so therefore, it came in at the end of the quarter. We have the receivables. And as we look at our projections for the year and we look at the impacts of growth and the working capital for the year, we expect to see much stronger cash flow. And right now, our forecasts are getting us in the area roughly of where we were last year on operating cash flow.

And there are no further questions at this time. I would now like to turn the conference back over to the company for any closing remarks.

We'd like to thank everyone who participated on the call this morning. With that, we will conclude the call. Thank you.

Thank you for your participation. This does conclude today's conference call. You may now disconnect.