Steelcase Inc. (NYSE:SCS) Q4 2023 Earnings Call Transcript

Steelcase Inc. (NYSE:SCS) Q4 2023 Earnings Call Transcript March 23, 2023

Operator: Good morning. My name is Regina and I will be your conference operator today. At this time, I would like to welcome everyone to the Steelcase Fourth Quarter Fiscal 2023 Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. Mr. O’Meara, you may begin the conference.

Mike O’Meara: Thank you, Regina. Good morning, everyone. Thank you for joining us for the recap of our fourth quarter fiscal 2023 financial results. Here with me today are Sara Armbruster, our President and Chief Executive Officer, and Dave Sylvester, our Senior Vice President and Chief Financial Officer. Our fourth quarter earnings release, which crossed the wires yesterday, is accessible on our website. This conference call is being webcast and this webcast is a copyrighted production of Steelcase Inc. A replay of this webcast will be posted to ir.steelcase.com later today. Our discussion today may include references to non-GAAP financial measures and forward-looking statements. Reconciliations to the most comparable GAAP measures and details regarding the risks associated with the use of forward-looking statements are included in our earnings release, and we are incorporating by reference into this conference call the text of our Safe Harbor statement included in the release.

Following our prepared remarks, we will respond to questions from investors and analysts. I will now turn the call over to our President and Chief Executive Officer, Sara Armbruster.

Sara Armbruster: Thanks, Mike, and hi, everyone, and thanks for joining our call today. Our fourth quarter results were better than we expected as both revenue and EPS finished above the guidance range we provided in December. Stronger orders, higher pricing benefits and improved fulfilment rates combined to generate the increased sales. We continue to drive improvement in our gross margin, which is up 370 basis points on a year-over-year basis, as our pricing actions continue to recover the inflation we’ve been absorbing. We also continue to optimize our spending by shifting investment to our most critical initiatives and driving efficiencies in our processes. On the supply chain side, we saw significant improvement in our operational metrics as our network of suppliers stabilize their performance and we benefited from adjustments in our own operations.

At the end of the fourth quarter, 96% of our products were at standard lead times. On the cost side, we still are experiencing inflationary pressures in EMEA due to energy prices and in some commodities in the Americas such as plastics, aluminium and packaging, but on an overall basis, we’ve seen inflation levels begin to moderate. Dave will cover the quarter’s results in more detail shortly and I’d like to comment now on the three main pillars of our strategy and the results we’re delivering. Fiscal 2023 was a pivotal year for Steelcase. We delivered 17% revenue growth and significantly higher earnings as compared to fiscal 2022. We overcame a second year of extraordinary inflationary pressure and supply chain challenges and I’m proud of our employees for the tremendous commitment and resiliency they showed in delivering these results.

As we look towards fiscal 2024, we’re committed to improving our overall financial performance. We aim to balance delivering higher short-term profits with supporting the investments needed to deliver our longer term strategy. Regarding our strategy, one of our core initiatives is to lead the workplace transformation that’s arisen in the past few years. Many business leaders want their people to spend time together. And in recent months, a notable number of larger companies in the United States have announced workplace strategies that emphasize the importance of an in-office presence. The large corporations we serve increasingly want to imagine, test and implement alternative structures to the work week to bring people together in predictable consistent ways.

And we’ve seen opportunity creation in the Americas grow on a year-over-year basis for eight of the last nine months. In addition, our win rates have remained solid and we saw a sequential strengthening in project orders from our large corporate customers this quarter. The second pillar of our strategy is our diversification efforts, which are centered around educational institutions, small to mid-sized companies and consumers. In education, our Smith System business is a leader in providing solutions for K through 12 classrooms and this business grew 13% this year, after growing nearly 50% in fiscal 2022. Our AMQ business is aimed at serving the needs of small and mid-sized companies who frequently desire a fast, simple purchasing experience.

And we achieved great results with AMQ delivering 32% growth this year. Our consumer business grew 7% on a global basis, primarily driven by the expansion of our programs in EMEA and Asia Pacific. So many of our customers, whether the world’s largest companies or a local community college or a small business are asking Steelcase for guidance and our insights are key to helping them make decisions about their spaces. So for this reason, we continue to invest in product innovation for every customer segment we serve with the goal of leading. We are committed to solving some of today’s biggest workspace challenges and finding new ways to integrate technology to keep teams connected and help people collaborate. And Steelcase’s longstanding leadership in product design and innovation now is bolstered even further by the incredible work of the teams at Viccarbe, Halcon, and Orangebox along with partner brands like West Elm and we’re innovating beyond products and across segments.

We’re investing in and reinventing our go-to-market model and creating new experiences for our customers. So whether its local tailored showroom experiences for our corporate customer or new digital tools to enable a small business, we’re taking a fresh look at how we help customers engage with us in the ways they desire. As we make these choices and bring innovation to the customer experience, I expect we will accelerate our positive momentum. Next, we continue to focus on driving higher levels of profitability, which is our third pillar. While some of the things we’re working on are large-scale changes, such as business transformation and larger footprint changes in our operations, we remain equally committed to going after near term and more incremental improvement opportunities.

So whether it’s a packaging change to improve performance while reducing costs or the re-arrangement to factory floor space to improve flow, we’re pursuing numerous ideas to generate value now. Finally, I’d like to highlight that even while we focus on leading workplace transformation, diversifying the customer and market segments we serve, and increasing our profitability, we’re not letting up on our ESG ambitions. This past year saw significant progress against our ESG goals and here are few of the ways we’re sharing our expertise to better serve our customers, partner with our suppliers and support our dealers. Steelcase continues to lead the industry in new products with BIFMA level certification and is continuously exploring new innovations in materials chemistry and product sustainability with a recent great example being the launch of the CarbonNeutral Series 1 share.

Photo by Kenny Eliason on Unsplash

As we strive for greater circularity in our own business, we’re also developing and launching ways to pass that along to our customers through products and services that consider the full lifecycle of our solutions. And in addition to reducing carbon emissions in our owned operations, we’re also partnering with suppliers to help them set their own science-based targets for carbon emissions and we’re working with our dealers to help them as they expand their commitments to diversity by sharing resources and tools to guide and inspire them. There is more I could share, but I think the best evidence of progress is the recognition we’re getting from others who see that progress too. In fact, this past year alone, we were named World’s Most Admired Company by Fortune, a Forbes Best Employer for Women, and a Forbes Best Employers for New Graduates and we earned a perfect score on the Human Rights Campaign’s Corporate Equality Index.

So I am not only proud of our progress and excited about what lies ahead, but I’m convinced we have the right strategy to lead the workplace transformation, drive growth as we diversify the customers and markets we serve and improve our profitability. This strategy along with the efforts of everyone at Steelcase is yielding results. We achieved gains in fiscal 2023 in a difficult environment and we look forward to the potential of fiscal 2024. So with that I’ll turn it over to Dave to review the financial results and our fiscal 2024 outlook.

David Sylvester: Thank you, Sara, and good morning, everyone. Today, I will cover our fourth quarter results, share a few summary remarks about the fiscal year and provide some color about our outlook for the first quarter and our targets for fiscal 2024. Regarding the fourth quarter, our financial results were significantly better than we expected. Revenue of $802 million reflected organic growth of 6% compared to the prior year and the organic growth was driven by the Americas, which grew 10%, while EMEA grew 2%. The other segment declined 10% driven by Asia Pacific and the impacts of the COVID-related restrictions in China earlier in the year as well as broader economic uncertainty. Revenue in the Americas benefited from stronger orders than we anticipated especially in December and notably related project business from our large corporate customers.

In addition, supply chain improvements enabled faster order fulfilment patterns, which resulted in less orders being pushed out at the end of the quarter. Our better-than-expected adjusted earnings were driven by the Americas primarily due to the stronger revenue, but favourable pricing and better operational efficiencies also contributed. This favourability was partially offset by lower volume and higher inflation in EMEA. Operating expenses were slightly above our Q4 estimate due primarily to higher variable compensation expense, driven by our better-than-expected earnings. We continued to benefit from the actions we took earlier in the year to reduce spending in headcount, which helped to offset a $5 million charge related to an earn-out liability associated with the recent acquisition, which is outperforming our initial value creation plan.

Consistent with our Q4 estimate, we recorded $9 million of gains from the sale of fixed assets. As it relates to cash flow and the balance sheet, we generated strong free cash flow in Q4, driven by stronger-than-expected earnings and a reduction in working capital, primarily due to lower inventory. As a result, we repaid the remaining $34 million of borrowings under our global credit facility and cash balances increased by $35 million. At the end of the quarter, our liquidity totalled $248 million and total debt aggregated to $481 million, including $32 million of term debt related to our aircraft financing. The aircraft financing matures on May 1st and we expect to pay off this financing during the first quarter. Depending on the timing of the expected sales of our aircraft, the payoff may be funded by a combination of the sales proceeds, cash on hand or temporary borrowings under our credit facility.

At the end of the fourth quarter, our ratio of debt to trailing fourth quarter adjusted EBITDA approximated 2.3 times and it’s less than two times on a net debt basis taking into consideration our cash balances. Regarding orders in the quarter, we posted a year-over-year order decline of 8% in the fourth quarter including declines of 9% in the Americas and 24% in the other category, while EMEA grew 2%. The decline in the Americas moderated as compared to the 16% year-over-year decline in the third quarter, but the year-over-year comparisons trended unfavourably over the course of the quarter before improving over the first three weeks of March. Specifically, orders in the Americas declined by 3% in December, 6% in January, and 19% in February versus the prior year.

And in the first three weeks of March, orders in the Americas grew by 4% and were approximately flat on a consolidated basis. Turning to our outlook for the first quarter, we expect to report revenue within a range of $710 million to $735 million, which would reflect a moderate decline year-over-year, yet we expect to report adjusted earnings per share of between $0.01 and $0.05, which would be an increase compared to a $0.05 adjusted loss per share in the prior year. In addition to the projected range of revenue, the earnings estimate includes estimated gross margin of approximately 29.5%, which is approximately 350 basis points higher than the prior year. Operating expenses of between $205 million to $210 million, which includes $10 million of expected gains from the sale of fixed assets.

And lastly we expect interest expense and other non-operating items to net to approximately $4 million and we are estimating an effective tax rate of 27%. As we look to the full fiscal year of 2024, we are approaching the demand environment with cautious optimism. More large corporations in the US are requiring their employees to return to their offices for a minimum number of days and project opportunity creation in the Americas has grown compared to the prior year in eight of the last nine months. However, we are beginning the year with a backlog that is 14% lower on a consolidated basis than the prior year and the overall macroeconomic and geopolitical environment remains relatively unstable. As a result, we are targeting the following for fiscal 2024.

For revenue, we are targeting moderate organic revenue growth, which includes projected pricing benefits largely offset by a decline in volume. As it relates to volume, we expect a decline from large corporate customers, which is being driven by our lower beginning backlog, but is expected to improve over the course of the year and we expect this decline to be partially offset by volume growth across the customer segments of education, health and small to mid-sized corporate companies. For gross margin, we are targeting between 30.5% and 31.5% for fiscal 2024, with the improvement compared to fiscal 2023, primarily driven by projected pricing benefits net of moderate inflation. As a reminder, we estimate the cumulative benefits from our pricing actions over the last two years, now approximate the cumulative inflation we absorbed through the end of fiscal 2023.

For operating expenses, we are planning higher investments in strategic initiatives and higher employee costs, partially offset by a full year of benefits from the actions we implemented in the second half of fiscal 2023. Lastly, I’ll share some other details for year fiscal 2024 modelling. We are targeting for non-operating items to net to approximately $16 million. We are estimating an effective tax rate of 27% and we are targeting capital expenditures of between $70 million to $80 million. Taking all of these estimates into consideration, we are targeting adjusted earnings of between $0.55 per share to $0.75 per share for fiscal 2024. In closing, we navigated a very challenging environment during fiscal 2023. Fraught with additional inflation and supply chain disruptions as well as continued hesitancy by our largest corporate customers to mandate a more significant presence in their offices and yet we delivered strong growth in revenue and earnings while advancing our longer-term strategy.

As we begin fiscal 2024, our beginning backlog is lower than prior year and broader uncertainty remains relatively high. However, we believe we are well-positioned to deliver our targeted level of revenue and earnings growth. We project additional benefits from our pricing actions. We believe volume growth across our education, health and mid-market segments will help offset some of the expected decline from large corporate customers and we believe the tide is turning and return to office for our larger customers, which will help drive increased investment in their workspaces over the course of the year. From there, we will turn it over for questions.

See also 10 Best Cruise Stocks To Buy Now and 10 Best Delivery Stocks To Buy Now.

Q&A Session

Operator: (Operator Instructions) Our first question comes from the line of Reuben Garner with The Benchmark Company. Please go ahead.

Reuben Garner: Thank you. Good morning, everybody.

David Sylvester: Hi, Reuben.

Sara Armbruster: Good morning.

Reuben Garner: Can you start with the top line outlook I guess both for the coming quarter and beyond. I was wondering if you could help backlogs down I think you said 14% year-over-year, your orders were down this past quarter, 8% I think consolidated and the outlook for the quarter is significantly better than both of those. Is that just a product of the recent kind of stabilization in order rates that you talked about? And then if you could maybe give some color on the full year volume versus price assumed to kind of get to that modest growth for FY’24?

David Sylvester: Yeah, I mean, your first question related to the outlook for the first quarter and its connection to backlog or being better than backlog is exactly what you summarized. I mean as we look at our opportunity creation and pipeline of projects that our sales organization are working on that has improved eight of the last nine months. We’ve been waiting for it to start to show up in orders and it feels like it is starting to show up a bit more significantly, not only did we see improvement in our order patterns for the first three weeks of March, which is not a month, and is not a quarter of orders, but more importantly we saw in December, some of that project activity start showing up in our order patterns from our larger corporate customers.

So what’s embedded in the guidance is a belief that not only will we ship our backlog, not only will our education and healthcare and mid-market business continue at its pace, but that the larger corporate companies will start to get back into the game a little bit more meaningfully as well. Does that answer your first question?

Reuben Garner: Okay. Yes. And then the volume versus price for the full year outlook to get to growth, I guess better way to ask is what kind of volume declines can you withstand from pricing actions you already have in place?

David Sylvester: Well, we’re not going to share those details. I mean we do have projected pricing benefits for the year that we’ve embedded into our guidance. I just kind of gave you high level assumption that pricing benefits will be offset by a volume decline, which is being driven by large corporate customers. So you’re going to have to make some assumptions on your own for those different components. But you can imagine, as we’re now going into the third year of capturing pricing benefits and the fact that inflation is — has been slowing down at least, that where our pricing benefits are expected to slow down as well meaning they won’t be at the same size next year that they were this year.

Reuben Garner: Got it. And in the prepared remarks or in the press release, you talked about increased investments in the SG&A line on some of these strategic initiatives. I was wondering if you could, one, quantify what kind of investments you are making, any specifics you could give on what exactly those investments are. Is it people? Is it new products? And then I guess what kind of plans do you have, if maybe the top-line environment is a little worse than you’re expecting. Is that something where you can pull back or would you — would you likely continue to invest just as the long-term vision you have for those opportunities?