HNI Corporation (NYSE:HNI) Q4 2023 Earnings Call Transcript

HNI Corporation (NYSE:HNI) Q4 2023 Earnings Call Transcript February 22, 2024

HNI Corporation beats earnings expectations. Reported EPS is $0.98, expectations were $0.8. HNI isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Good morning. My name is Dennis, and I will be your conference operator today. At this time, I would like to welcome everyone to the HNI Corporation Fourth Quarter and Year End Fiscal 2023 Results Conference Call. [Operator Instruction] I would now like to turn the conference over to Mr. McCall. Please go ahead, sir.

Matt McCall: Thank you. Good morning. My name is Matt McCall. I’m Vice President, Investor Relations and Corporate Development for HNI Corporation. Thank you for joining us to discuss our fourth quarter and year end fiscal 2023 results. With me today are Jeff Lorenger, Chairman, President and CEO; and Marshall Bridges, Senior Vice President and CFO. Copies of our financial news release and non-GAAP reconciliations are posted on our website. Statements made during this call that are not strictly historical facts are forward-looking statements, which are subject to known and unknown risks, actual results could differ materially. The financial news release posted on our website includes additional factors that could affect actual results. The Corporation assumes no obligation to update any forward-looking statements made during the call. I’m now pleased to turn the call over to Jeff Lorenger. Jeff?

Jeff Lorenger: Thanks, Matt. Good morning, and thank you for joining us. Our members continue to deliver outstanding results and had a strong finish to the year. For the fourth quarter, non-GAAP earnings per share increased 56% versus the prior year period. This was despite a 6% year-over-year organic revenue decline during the quarter, which was primarily driven by continued housing market weakness. Overall, 2023 was an outstanding year for HNI. During the year, we completed the largest acquisition in our company’s history, with the addition of Kimball International to the HNI family, delivered on our plan to improve margins, without the benefit of top line support. Entering 2023, we anticipated a challenging demand year, and we built a plan, to deliver earnings growth in the face of these challenges.

We also generated significant cash flows to strengthen our business and provide returns to shareholders. This resulted in 2023 non-GAAP EPS that increased, by more than 20% year-over-year, despite an organic revenue decline. This was on top of 35% non-GAAP EPS growth in the prior year. With our strong cash flow, we rapidly reduced debt following the acquisition of Kimball International and finished the year, with a gross leverage ratio under two times. I’m extremely proud of the efforts our members put forward during the past year. Our plan delivered excellent results. And despite the uneven macro environment, we exited 2023 a fundamentally stronger company. On the call today, I will highlight four key topics. First, we delivered another quarter of significant margin expansion in Workplace Furnishings, and we expect continued year-over-year profit and margin improvement from here.

Second, the integration and synergy capture associated with the acquisition of Kimball International, are both ahead of schedule. And we now expect total associated synergies, to be $10 million higher than the initial projection. The addition of KII is providing significant value creation, to our shareholders. Third, we expanded margins in residential building products despite top line pressure from ongoing housing market weakness and order trends improved during the quarter. And fourth, we strengthened our already strong balance sheet, and our gross leverage ratio was back below two times, only two quarters following the completion of the Kimball International acquisition. Following those highlights, Marshall will review our outlook. I will conclude with some general closing comments before we open the call to your questions.

Moving to the first topic. We delivered another strong quarter of significant margin expansion in Workplace Furnishings, when excluding KII results, fourth quarter non-GAAP operating profit margin for legacy HII Workplace Furnishings was 7.2%. This represents an expansion of 480 basis points year-over-year and was the seventh straight quarter of year-over-year operating margin improvement, as our profit transformation initiatives continue to drive results. Looking forward, we expect continued year-over-year profit and margin improvement from here. As a reminder, our legacy Workplace Furnishings profit transformation plan consists of four primary actions: First, we are driving increased productivity. Our focus on lean, cost reduction and better efficiencies help drive our profit growth in 2023, while funding operational investments, primarily in our new facility in Mexico.

Looking forward, our investments will help drive outsized productivity benefits as they mature over the next couple of years, and add to our continued lean efforts. Second, price cost improvement continues to benefit our profitability. Our pricing strength continued to support profitability in the fourth quarter and we expect continued net benefit in 2024 from pricing actions announced within the past 12 months. Third, we have streamlined our cost structure. We previously announced a $30 million corporate-wide cost savings program. However, we far exceeded this target. And as of the end of 2023, the program’s run rate savings was $50 million across the corporation, with half of that total contributing to our Workplace Furnishings margin expansion in 2023.

And finally, we continue to simplify our business as we focus our efforts on the most attractive markets. We divested Poppin, we divested our China business, and we rationalized our e-commerce offering. All in, we continue to see opportunity for margin upside in Workplace Furnishings. I will remind you, our profit transformation plan does not require volume growth. However, we continue to see encouraging trends related to future Workplace Furnishings demand, particularly given our unique market position. In the near term, demand remains choppy, but is stable within a range consistent with our commentary last quarter. Looking further out, we continue to see growth in the small to medium-sized customer segment, where we have an unmatched competitive position.

Legacy SMB orders grew 6% organically year-over-year in the fourth quarter and were up 8% in 2023 overall. In general, this segment has benefited from healthy dynamics. Small and midsized firms, have accounted for nearly 85% of all post-pandemic hiring. The segment has also benefited, from population shifts to smaller secondary metros, where office visits are nearly back to pre-pandemic levels. We believe this segment, will continue to outperform. Switching to contract, trends improved in the quarter, and we are seeing encouraging signals. Orders from legacy contract customers were down 2% for the year, but were approximately flat in the fourth quarter on a year-over-year basis. The full year results are consistent with lower return, to office rates in the larger markets, and the lagging hiring activity, by large companies I just mentioned.

Encouragingly, some return to office metrics continue to tick up, and have reached post-pandemic highs in recent weeks. This along with the predicted acceleration of lease expirations, and the need for companies to adapt their spaces for hybrid work, support a projected increase in furniture events and should bode well for contract demand patterns going forward. Orders for KII’s workplace and health business, also increased in the mid-single-digit pace at a mid-single-digit pace on a year-over-year basis. We continue to be encouraged by the complementary nature, and attractive post-pandemic positioning of KII’s offering. Across all of our major workplace brands, year-over-year order trends were uneven during the quarter, but were strongest and grew in December.

And first quarter 2024 to-date has seen a continuation of these trends, generally positive, but still choppy. Moving to my second topic. Both the integration and synergy capture associated with the acquisition of Kimball International are ahead of schedule. KII added approximately $0.07 to non-GAAP EPS in the quarter and delivered a strong non-GAAP operating profit margin of 10.7%. In addition, we now expect to achieve total annual cost synergies of $35 million. This is up from previous expectations of at least $25 million and the $25 million run rate, is now expected to be achieved in 2024. This is well ahead of the initially – of the initial communicated time line. The increase is primarily tied to higher-than-anticipated procurement savings.

Kimball International is complementary from a product, market and cultural perspective. And the addition of its brands strengthens our Workplace Furnishings exposure to several important trends and markets, namely ancillary products, secondary geographies, healthcare and hospitality. Each provides new opportunities for profit growth, and our confidence in the combination strategic and financial benefits continues to accelerate. My third topic, is we expanded margins to near record levels in our residential building products business, despite continued cyclical top line pressure. Segment non-GAAP operating margin in the fourth quarter improved, to more than 22%. This represents a 240 basis point improvement from levels reported in the year ago period as our recent cost reduction actions, continue to support profitability.

We delivered margin improvement despite a 13% year-over-year revenue decline as housing market weakness continued to pressure demand trends in the quarter. Importantly, the housing macro backdrop continued to improve in the fourth quarter, specifically as it pertains to single new family construction. Year-over-year single-family permits and starts showed healthy growth in the fourth quarter, which supports further new construction improvement in 2024. Remodel retrofit demand remained soft, however, the declines are moderating. Overall, segment order trends improved during the quarter. Fourth quarter orders were 3% below year ago levels. This represents an improvement, compared to rates seen in the third quarter of minus 18% and in the first half when segment orders declined 29% year-over-year.

Despite the near-term headwinds, we are bullish on the intermediate to long-term dynamics for the segment. The demand fundamentals remain strong. U.S. housing is undersupplied, demographic trends point to robust future construction growth, and renovation activity will benefit from an aging housing stock, and increased housing turnover. In addition to the solid long-term market fundamentals, we have unique growth opportunities, and continue to invest in the areas of category awareness, new product innovation, online capabilities and the expansion of our wholly-owned installing distributor footprint. In summary, order trends improved during the quarter, and the intermediate to long-term demand dynamics, remain encouraging for the segment. Finally, my fourth key point from the quarter.

We further strengthened our already strong balance sheet. We repaid $73 million of debt in the fourth quarter and $162 million in the second half of 2023. As a result, we ended the fourth quarter with $436 million in total debt and a gross leverage ratio of 1.9 times. Our gross leverage ratio is back below two times, only two quarters following the acquisition of Kimball International. This speaks to the strong cash flow characteristics of our company, and continues to provide us with substantial financial flexibility. Following those 22 summary comments. I will now turn the call over to Marshall to discuss our outlook for 2024. Marshall?

Marshall Bridges: Thanks, Jeff. Let’s start with our demand outlook. We expect 2024 organic revenue to grow at a low single-digit rate in both Workplace Furnishings and residential building products. For Workplace Furnishings, this outlook assumes demand conditions remain generally in line, with those experienced in the second half of 2023. In residential building products, we expect growth in new construction to be partially offset, by softness in remodel retrofit. Shifting to the impact of Kimball International, we expect KII to add $215 million to $225 million of incremental revenue to 2024 that will occur in the first half. We also expect Kimball International to be solidly accretive to earnings. From an overall earnings perspective, 2024 non-GAAP EPS is expected to increase solidly year-over-year, primarily driven, by continued margin expansion in Workplace Furnishings, and the full year benefit of accretion from KII.

For the first quarter of 2024, we expect non-GAAP earnings per share to increase year-over-year with margin expansion and accretion from Kimball International more than offsetting macro-driven top line pressure. A few details on our first quarter outlook. We expect first quarter Workplace Furnishings organic revenue to be down in the low single-digits, versus the same quarter of 2023. Although growth in our fourth quarter orders would point to modest, first quarter top line growth in the segment, we are seeing a higher mix of project business seeking delivery after the first quarter. This is a headwind for the first quarter, but it does support our positive full year outlook. For the first quarter, we expect Kimball International to add $125 million to $130 million of revenue.

And in Residential Building Products, we expect first quarter revenue to be down in the low to mid-teens year-over-year. This primarily reflects the impact from unwinding the elevated backlog in the year ago period. Shifting to the balance sheet. We expect to further deleverage, and improve our already strong balance sheet during 2024. Low leverage and consistent cash flow generation will provide substantial capacity for capital deployment. Our current priorities for cash deployment are reinvesting in the business, funding dividends and pursuing share buybacks and M&A opportunities. I’ll now turn the call back over to Jeff.

Jeff Lorenger: Thanks, Marshall. Before we open the call to your questions, I wanted to take a moment to highlight a few of our accomplishments over the past couple of years. From a profitability perspective, for the corporation overall, our strategies have driven non-GAAP earnings per share growth in excess of 60% and non-GAAP operating margin expansion of more than 270 basis points over this two-year period, despite a consistently turbulent, and less than supportive macro backdrop. In Workplace Furnishings specifically, our profit transformation initiatives and the addition of KII have expanded margins more than 600 basis points, and segment operating profit has grown $110 million, or more than 750% from 2021 levels. And we expect continued year-over-year profit and margin improvement in coming quarters.

In addition, the integration and accretion from Kimball International are ahead of schedule, and our synergy expectations are now $10 million higher. Our confidence in the combination strategic and financial benefits continues to accelerate. And finally, in Residential Building Products, we quickly adjusted our cost structure to respond, to the housing reset in 2023. As a result, despite the macro driven top line pressure, our operating profit margin in the fourth quarter expanded to near record levels, while we continue to invest in our growth strategies, leading brands and operating platforms. Although the near-term dynamics remain, leading indicators are improving, and we are uniquely positioned to drive high-margin growth as housing stabilizes.

In summary, we remain committed to our core strategies, of continuing to expand margins in workplace furnishings and drive long-term, high-margin revenue growth in residential building products. I want to thank all HNI members. Our strong results in 2023, reflect their collective effort, focus and dedication, to our stakeholders. We will now open the call to your questions.

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Q&A Session

Operator: [Operator Instructions] Your first question is from the line of Reuben Garner with The Benchmark Company. Please go ahead.

Reuben Garner: Thank you. Good morning, everybody.

Jeff Lorenger: Good morning.

Reuben Garner: Maybe to start. Thanks for the color on 2024. A lot of moving pieces with Kimball, the savings there, organic growth and kind of some of the productivity and savings initiatives you had kind of carrying over from last year. Can you kind of help us put all that together, Marshall, in a bridge? And I know you said earnings growth – EPS growths to grow solidly in ’24, if you could kind of tell us what solidly means in [Muscatine] that would be helpful, too?

Marshall Bridges: Yes. Look, Ruben, I think when we say solidly, we’re expecting EPS growth in the high single digits to low teens. And our objective there would be to have our third consecutive year of double-digit EPS growth. The two big drivers of that growth are the continued margin expansion in the legacy Workplace Furnishings, and we’ll say that’s roughly half of it. The other half is the continued accretion from getting a full year from the KII. So, those are the two major drivers. We also will see some benefit, from improved profitability in residential building products.

Reuben Garner: Sorry, I was on mute. And is there any remaining savings, or price cost benefit that helps you guys in ’23 to carry over, at least in the first part of ’24?

Marshall Bridges: Absolutely. The major driver of the continued profit growth in legacy Workplace Furnishings is the — our productivity and price cost. That’s our major profit levers there. So, we are expecting this to be favorable for the year, and certainly, that’s a little bit disportionate to the first half as well.

Reuben Garner: Okay. And then a couple of questions on the Residential Building Products segment. The outlook there is very encouraging, particularly given the start to the year. And I just kind of want to clarify, maybe if you could kind of breakdown your end market expectations, within that low single-digit growth framework. And just to be clear, that kind of points to a high single-digit growth framework in Q2, Q3 and Q4. Can you kind of walk us through how do you get to those kind of assumptions?

Marshall Bridges: Yes. We’re expecting new construction to be up in the mid-single digits for the year. And then remodel retrofit, we’re expecting to be flattish. And so that’s where we get to the low single-digit growth on average for the year. But you’re right, Reuben, we do expect growth to improve through the year. We’re going to start off a little bit slower, due to that year-over-year comp issue that we alluded to on the call. And remodel retrofit, we do expect to get better through the year. One of the items that we’re going to benefit from is we had some trade inventory destocking in 2023, which won’t repeat in 2024. So as we start to anniversary that later in the year, the comps get easier and the growth will improve. And we think new construction is going to be pretty solid all year. So the change in the trajectory, is really driven by remodel retrofit, getting less bad, starting to get a little better in the back half.

Reuben Garner: Okay. Thanks. And I’m going to sneak one more in. On the Residential segment, the margin performance in the fourth quarter. Anything kind of one-time there? Obviously, a pretty big number. Is that something we can kind of look for going forward? Or you go back to your historical ways of kind of reinvesting more of that profit to generate growth?

Jeff Lorenger: Yes, Ruben, I think there’s nothing extraordinary in the fourth quarter per se. The fourth quarter has always traditionally been a strong quarter for us and it usually is our highest margin quarter historically. And we were still investing in the fourth quarter anyway, but we’re always – to expand – looking to expand. But I think it will go back probably to a normal pattern where the fourth quarter will remain high. I don’t see any reason we can’t, achieve those margins down the road in the fourth quarter.

Reuben Garner: Great. Thanks, Scott. Congrats on the strong close of the year and good luck in 2024.

Jeff Lorenger: Thanks.

Operator: Your next question is from the line of Greg Burns with Sidoti & Company. Please go ahead.

Greg Burns: Good morning. Really nice job on the margins in the residential building product side of the business. As we look into next year, I think the firming up and your revenue starts to – revenue growth starts to reaccelerate there. Are these margin levels something you could sustain? Do you intend to give a little bit back to support growth? How should we think about margins on that side of the business going forward?

Marshall Bridges: Our goal here, Greg, is to hold margins in the high teens and drive the growth that we believe is out there for the taking. And so, Jeff kind of mentioned in our prior answer, there’s a seasonality to the margins in that business. Fourth quarter is usually the highest. And I think for the year, we’ll be in that high-teens level. So I think the margins are relatively where we want them to be. They may go up or down a little bit from here, but we’re really trying to drive growth. So there’s nothing unusual in the fourth quarter number. That’s right in line with where we want to be on a seasonal perspective.