MillerKnoll, Inc. (NASDAQ:MLKN) Q3 2023 Earnings Call Transcript

MillerKnoll, Inc. (NASDAQ:MLKN) Q3 2023 Earnings Call Transcript March 22, 2023

Operator: Good evening and welcome to MillerKnoll’s Third Quarter Earnings Conference Call. As a reminder, this call is being recorded. I would now like to introduce your host for today’s conference, Vice President of Investor Relations, Carola Mengolini.

Carola Mengolini: Thank you, Lisa. Good evening and welcome to MillerKnoll’s third quarter fiscal 2023 conference call. I am joined by Andi Owen, Chief Executive Officer; and Jeff Stutz, Chief Financial Officer. Also available during the Q&A session are John Michael, President of Americas Contracts and Debbie Propst, President of Global Retail. Before I turn the call over to Andi, please remember our Safe Harbor regarding forward-looking information. During the call, management may discuss information that is forward-looking and involves known and unknown risks, uncertainties and other factors, which may cause the actual results to be different than those expressed or implied. Please evaluate the forward-looking information in the context of these factors, which are detailed in today’s press release.

The forward-looking statements are as of today and assume no obligation to update or supplement these statements. We may also refer to certain non-GAAP financial metrics, which are reconciled and described in our press release posted on our Investor Relations website at millerknoll.com. With that, I will turn the call over to Andi. Andi?

Andi Owen: Thanks, Carola. Good evening, everyone and thank you so much for joining our call. Throughout this quarter, our team delivered strong earnings and margin improvement despite challenging economic conditions. We have many competitive advantages. We have a collection of strong design brands, which are sold across multiple business channels and that cater to a different customer segments around the globe and we are nimble. We are capturing synergies, reducing our cost structure and optimizing our capabilities so that we are positioned to capture opportunities as and when the macroeconomic picture improves. To be sure, this is a disruptive period. Traditional office usage and layouts are not as relevant as they want us for and new opportunities exist to help our customers design more hybrid, collaborative work environments.

Our contract clients continue to engage us in conversations around reimagining their work spaces both to enhance their employee experience and to create multiuse spaces. Because of this, the volume of customer discussion remains very high and the funnel of potential project opportunities is robust, albeit somewhat uncertain in terms of timing. These customer interactions continue to emphasize the importance of non-traditional product categories to home and office settings. We believe that this pivot to premium ancillary product solution give MillerKnoll and our distribution partners, a distinct competitive advantage given our best-in-class collective brand. To this end, I will highlight the great performance of some of our smaller luxury brands such as Holly Hunt, Muuto and Spinneybeck Filzfelt, which support our strategy towards a diversified global business model that includes luxury ancillary products that cater to both the residential and commercial client base.

As we continue to build our presence as one collective at MillerKnoll brand, we are also seeing a new patent emerge with our dealers and the way we are winning businesses. Now with more offerings across our portfolio, we are better suited to win whole floor plan solutions than ever before. We are also using a transitional period across our industry as a strategic opportunity on many fronts, introducing innovative products, pursuing new sector expansion and investing in our digital capabilities, all of which permits us to further our reach and remove friction claims for our dealers and our customers. As it pertains to our retail segment, we believe that higher interest rates have temporarily slowed new and second home buying and in some cases, also delay decisions to upgrade and renovate current spaces.

Additionally, we are seeing customers temporarily shift more of their discretionary spend towards travel and leisure. And although we believe this is a short-term trend due to pent-up demand after an extended period of pandemic-related isolation on this we are preparing for a near-term slowdown in our demand environment. And although this won’t jeopardize our long-term growth strategies, we know that is happening. To the end, we are analyzing and reviewing our retail footprint. We will continue to expand our reach through targeted channel development and digital experiences. During the quarter, we finished converting HAY stores in the U.S. into DWR spaces in several key marketplaces. On the other hand and based on the success of a HAY’s wholesale business in Europe, we opened our first HAY shop-in-shop with Nordstrom here in the U.S. Moreover, through a wholesale partner, we also opened our first Herman Miller and Knoll stores in Shanghai.

In addition, we are strategically expanding our international business. Around the world, different regions are in varying phases of return to office. Due to our global footprint, we continue to capture business in areas with more favorable economic conditions such as the Middle East, Asia and India to name a few. Our global reach, our unmatched product portfolio and our expertise in various areas such as healthcare, education and hospitality are a meaningful advantage. We are also making strategic choices to prioritize projects and opportunities that drive sales and margin expansion across all channels. I will show a few examples. Through our integration work, we continue to compare €“ I am sorry, we continue to capture cost synergies with $123 million of implemented savings to-date as we work our way towards our goal of $140 million.

Photo by Steven Ungermann on Unsplash

We are creating to deliver improved quality, reliability and production lead times. Our Geiger facility in Hildebrand, North Carolina does incredible work and restricting more MillerKnoll production there, creating a center of excellence for premium upholstery and craft wood products. We are also looking across our global operations network and identifying where we have available capacity and unharnessed capabilities. We will move production to the places that are best suited to manufacture items versus having solely brand-dedicated facilities. For example, during the quarter, we shared our decision to shift some metal fabrication work from Toronto to East Greenville, Pennsylvania. And we are fine-tuning our brand portfolio. With multiple brands and channels, we can select to where and how we sell items.

This quarter, we began the work to wind down fully as a standalone branded sales channel. Going forward, select Fully products will be sold through our existing designers and reach and Herman Miller channels. So before I hand the call over to Jeff, I want to highlight that we continue to lead through innovative design. During the third quarter, we launched a variety of exciting new products across our collective brands. In addition, we continue to deliver against our sustainability goals, reducing our carbon footprint and using sustainable materials. For example, Herman Miller was recently recognized with a chemical footprint project for our commitment to minimizing chemical footprints and integrating criteria for better alternatives into our design practices.

In the months ahead, we continue to manage our business, taking into consideration the macroeconomic pressures we are all experiencing. We are vigorously controlling the factors that we can, leaning into our strategy and adapting our business priorities to anchor on our best assets and to continue to develop areas where we see future success. As we navigate a variety of market conditions around the world, we are prioritizing our work around innovation and what drives our business, where there is margin to gain, where there are opportunities to build for future success and ensuring that our customers turn to us first. So with that, I will turn the call over to Jeff for his prepared remarks.

Jeff Stutz: Thanks, Andi and good evening, everyone. We appreciate you joining us. During this quarter, we delivered adjusted earnings of $0.54 per share, beating our guidance and significantly outperforming the same period last year. While net sales came in lower than the same time last year, we experienced another quarter of strong margin expansion that contributed to our improved performance. At the consolidated level, net sales in the third quarter of $984.7 million decreased 4.4% on a reported basis and 2.7% organically compared with the same quarter last year. Consolidated orders for the quarter were $885.4 million, reflecting an organic decline of 17.6% from the same quarter last year. Softer demand tied to global macroeconomic uncertainty and elevated comparables in the third quarter of last year resulted in the year-over-year pressure for orders in each of our business segments.

Within our Americas Contract segment, net sales totaled $484.6 million. This represents a year-over-year decrease of 4.9% on a reported basis and an organic decrease of 4.5%. New orders for this segment came to $461.6 million, reflecting a decrease of 12.6% from the same quarter last year on a reported basis and down 11.8% organically. During the past few months, general economic uncertainty and the impact of rising interest rates have weighed on business and consumer sentiment levels. The result has been slowing demand patterns and further delays in customer return to office timelines. So with all that said, gross and operating margins in the Americas segment have continued to improve as expected, driven by net pricing benefit and the impact of integration cost synergies.

For the quarter, operating margins for this segment improved 980 basis points on an adjusted basis versus the same period last fiscal year. Within our Global Retail segment, net sales in the quarter were $257.6 million, a decrease of 7.7% compared to the same period last year on a reported basis and down 5.5% organically. New orders totaled $213.7 million in the third quarter, down 23.5% compared to the same quarter last year on a reported basis and down 21% organically. Here again, macroeconomic pressures and increased stock market volatility have eroded consumer sentiment and buying activity. Overall margin performance in this segment did improve sequentially from the second quarter, but remained lower on a year-over-year comparison due to elevated freight expenses and higher inventory costs that we outlined for you last quarter.

As Andi mentioned, this quarter, we made the decision to cease operating fully as a standalone brand. By integrating fully into our global retail organization, we will reduce operating costs and further optimize our retail structure. As part of our commitment and focus to drive profitable growth and streamline our organization, we are constantly reviewing our channels to market, products and processes to identify ways to leverage our strengths. And this decision is an example of that. Turning to our International Contract and Specialty segment, net sales for the quarter were $242.5 million, reflecting an increase of 0.6% on a reported basis and an increase of 4.3% organically. New orders in this segment were $210.1 million, which is down 27.2% year-on-year on a reported basis and down 24.5% organically.

From an adjusted operating margin perspective, this segment delivered strong year-over-year improvement with an increase of 270 basis points, mostly driven by pricing actions taken earlier in the year and favorable product mix. Shifting back to the enterprise level results, we were pleased this quarter to report a meaningful improvement in margin performance. Our consolidated adjusted gross margin in the period was 35.7% and the adjusted operating margin was 7.5%. And these results are 260 and 340 basis points higher than the same period last year respectively. Higher pricing, benefits from cost synergies and reduction in variable compensation more than offset higher commodity costs and other inflationary pressures to drive these positive increases.

Turning to cash flows in the balance sheet. This quarter, we generated $75.7 million of cash flow from operations and paid down $18.1 million of debt. And moreover, as part of our focus on maintaining a strong balance sheet, this quarter, we executed an interest rate hedge, which provides an immediate reduction in current interest expense and together with our previous three hedge instruments has provided a fixed interest on 65% of our total bank debt. We ended the period with a net debt-to-EBITDA ratio as defined in our credit agreement of 2.6x. Now I will talk about our guidance for next quarter. The outlook reflects a revenue guide that is informed by the recent order trends. To this end, we expect net sales to range between $930 million and $970 million and adjusted earnings to be between $0.37 and $0.43 per share.

So before we open the call for your questions, I just want to highlight that our focus on actions toward diversifying our business, driving profitable growth and capturing cost synergies are helping us navigate short-term macroeconomic challenges, but most importantly, they are strategically positioning us to capture further top line and margin expansion when the macroeconomic trends improve. With those prepared remarks, I will now turn the call back over to the operator and we’ll take your questions.

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Q&A Session

Operator: Thank you. We’ll take our first question from Greg Burns with Sidoti & Company.

Greg Burns: Good afternoon. Can you just talk about the order trends in the early part of this quarter? Have you seen any improvement or has it stayed about the same?

Jeff Stutz: Hi, Greg, this is Jeff. I will take that. So the good news is we did see improved trends as we made our way through the quarter, really across each of our three business segments. So while we ended the quarter in the organic numbers that I gave you in my prepared remarks, order entry levels in the month of February, for example, were actually better than the full quarter trend in each of the three segments. So we did see some improvement. And in the first couple of weeks of Q4, I would say, generally, that’s continued.

Greg Burns: Okay. And then just specifically, the decline you saw internationally, the international segment has kind of been an outperformer relative to North America, but it seems like it’s catching down. Is there anything in particular going on there?

Andi Owen: I think just a couple of things, Greg, and then I’ll turn it back to Jeff. I think the international business is a little lumpier as far as timing and placing orders. I think that if you think about last year, they had an amazing quarter with the price increase that we instituted and so they are up against really significant comps. So I think there is a little bit of timing in quarter-over-quarter, and there is a little bit of comparison to last year in international. We are seeing more weakness in the European business than we are across the globe. And we are seeing China come back a little more slowly than we had thought. But I think on the whole, long-term, we feel very optimistic. Jeff, I’ll let you add.

Jeff Stutz: Yes. And the only thing I would add, Greg, and I think this is an important reminder really for all of the comps across our consolidated group that a year ago Q3, we had an amazingly strong quarter in order entry in particular. And just to kind of remind everybody, we had 74% order growth in the third quarter of last year in our International segment. We’ve never seen anything even that touches those types of percentages so remarkable growth. So these are real tough comps. And even in the Americas segment, we had growth that was up 37% in the year-ago period. So I’m always cautious about pointing to comps, but this is one of those moments where it matters because I do think that those were remarkably strong numbers a year ago.

Greg Burns: Okay. And then in terms of your synergy targets, I know Fully was a Knoll brand. So is €“ is this part of that $140 million of the savings there or is this incremental to that? And do you €“ are there any other brands that are up for maybe being absorbed into the €“ your broader network?

Andi Owen: Yes. This is part of the synergy savings, Greg. It’s a great question. And as part of the integration process, we will continue for the next however many months to go through and evaluate what is profitable, what are the right decisions. And certainly, we will let you guys know when we make those decisions and when they are public. But right now, Fully is the only place that we’ve made that decision, and it is the right thing to do; always hard to do, but the right thing to do.

Greg Burns: Okay, thank you.

Operator: We will take our next question from Reuben Garner with Benchmark Company.

Reuben Garner: Thank you. Good evening, everybody.

Andi Owen: Good evening.