ACCO Brands Corporation (ACCO) Earnings Call Transcript & Summary

Great. Well, thank you very much. We're very pleased to have ACCO Brands here with us, Boris Elisman, the Chairman and CEO. I'm Douglas Karson, I'll be the moderator today. We have about 40 minutes. We thank you for those joining us in the room, and also thank you for those joining us online. We're hoping to just have a kind of casual conversation with Boris and myself about the business, about some of the trends. We have a bunch of prepared remarks. If anyone has any questions in the audience, please let us know.

I guess to start, Boris, let's talk maybe about the back-to-school, very kind of uncertain time and very unique in the world. We had a lot of kids working from home, and now they're back to school. If you could just help shed us some light on how does that trend look right now?

Sure. So going back to 2020, right in the middle of COVID, 2020 was a terrible back-to-school. Most schools were completely virtual. So kids really didn't go and order our school supplies. You would argue many of them really didn't go to school for that year and kind of took a year off. So that was 2020. So as a result of that, the resellers, the Walmarts, Targets and others of the world ended 2020 with a lot of inventory that was unsold, that they kept in their warehouses. So when we entered 2021, the actual -- the back-to-school season was actually quite good. The sellout was up double digits. But from a manufacturer standpoint, there was limited replenishment because of all this extra inventory, right?

They had the inventory already unsold.

That was in the channel from a year before. So all of that sell-through in '21 and '22, we are poised for what we think is going to be a good year. Sell-through should be back to normal. Certainly anticipate all the schools to be open for in-person schooling. And because the channel is clean, we expect the replenishment to be there.

Right. That's very helpful. Maybe we could kind of migrate to offices. We had a similar phenomenon in offices, while maybe not exactly, but if you can maybe just have a gate with us, some color around like return to office.

Yes. So offices, obviously, everything got shut down back. If you remember, March, April of 2020, everybody went remote. And the return has been quite slow. Still many people are still working remotely. A lot of people are working in a hybrid mode. They go into the office for a couple of days and work from home for a couple of days. So from a demand standpoint, we've seen a gradual improvement in demand, even though people are still largely working remotely. And that's because they're equipping a second office, have their office at work, and now they know that they're going to be working from home a significant amount of time. So they're buying office supplies for home use. And we think that's actually a -- how it's going to be going forward. We think it's going to be a hybrid world. People are not going to be in the office 5 days a week, or a large percentage of the people will not be in the office 5 days a week. And it gives us opportunity to continue to supply them into home as well as in the office. So we think from -- again, from a demand perspective, it's not a bad thing.

Right, there are certain products when you kind of establish the home office. You may need stapler or some type of like hardware that's less kind of reusable consumable-type product that can maybe kind of gain some advantages in. Because I know when I set up my own office, I had to buy kind of a onetime shot to buy some of this equipment.

Yes. So you buy -- those onetime that you buy all this equipment, and then there'll be a replenishment of supplies as you use it. So we've seen some pickup in demand from that. There are certain categories that will probably be less demand for things that are department-level machines or department-level equipment, because people are just less in the office than they used to be. There'll be less demand for that, and we are reducing our investments in those particular categories.

That's helpful. If we could look geographically, can you give us an update how EMEA offices and schools are behaving relative to the U.S.? I think most of the investors we have with us right now are U.S.-focused, but be interested to hear what your color is on international operations.

Sure. About 30%, 33% of our business is in Europe. In Europe, initially, going back to the second half of 2020 was ahead of the U.S. in managing COVID and a lot more people were working from offices, certainly, a lot more schools were open throughout. If I look at the end of '21 when Delta and Omicron hit the world, Europe mimicked the U.S. in terms of going back and working remotely. And now just like U.S. is coming back, Europe is coming back primarily in the hybrid mode. The demand stayed pretty good in Europe throughout. Our sales were up 15% on a comparable basis last year, and we don't believe the market grew that much, so we took significant share in Europe last year.

While in Europe, obviously, is a terrible crisis that's happening in Russia and Ukraine, a lot of portfolio managers are asking us as analysts to kind of go through their sectors and figure out what raw materials or revenue mix could be impacted in the area. If you can maybe just shed some light on the crisis and what it could mean for your company?

Sure. It's a horrible war that started, what, about 10 days ago, we don't really do any business in Ukraine. So it hasn't impacted us from a commercial standpoint. We do about $5 million in sales in Russia as we suspended all shipments to Russia at the start of the war indefinitely. So chances are that $5 million will disappear until there's some kind of resolution to this. We don't source anything from Russia. So it should not impact anything on the supply side.

Okay. So kind of protected from some of the supply chain issues that many other industries are having?

Right.

Maybe you can talk a little bit about inflation. We had another company that I was hosting and the data CEO said that they've never seen the level of inflation this quickly coming to the market, and to try to push pricing through has been of super challenging. The consumer is absorbing a lot of those price increases. But if you could just give us some sensitivity to the price increasing nature we've seen and also kind of a focus on some of the cost side, what you're able to kind of deflect as far as increasing costs?

Yes. Obviously, we are not immune to the inflationary pressures that the world saw over the last year. We saw that both in raw materials as well as in anything that is fuel of rate related. We increased prices, I think, 4x in the U.S. last year, several times outside of the U.S. as well. We're going to do more this year, given that more inflation is coming and especially with oil prices going to mid-120s right now.

Yes, $125, the takeaways, yes.

Probably going up higher. So we think inflation will still be there, and we'll have to increase prices again. We expanded our gross margins last year by about 80 basis points and plan to expand them again about 50 to 100 basis points this year. And it's really just catching up, catching up with inflation. We didn't fully recover last year from inflationary cost increases. So the plan is to continue to raise our prices until we recover.

Right. [Audio Gap] will trigger out a price increase?

Well, our strategy is to recover inflation. So clearly, when we had a rising inflationary environment last year, almost monthly cost increases, it was an ongoing discussion. I mentioned we raised prices 4 times in the U.S. last year. Normally, in a normal year, we raise prices once or twice a year. But clearly, what happened last year is not normal, and this year is not going to be normal from an inflationary standpoint either. So we'll have to do it more frequently.

And how about the freight? I'm assuming a lot of your product is continuing to migrate online. Has that been an issue?

Yes, freight, certainly, freight costs went up significantly last year, and it affects both our outbound freight charges just paying for trucks to deliver our products and distribution centers, as well as it affects the inbound freight, and the cost that the transportation companies charge us to bring product in, and those costs went up a lot last year. So yes, our pricing clearly has to recoup incremental freight charges that we have seen and we'll continue to see this year.

I want to talk about some of your businesses and some of the brands. I had the pleasure of going through your slide deck, which I would recommend people looking at. It's a 49-page slide deck with a lot of excellent data. If you can maybe talk about some of the higher-growth brands. Some of that are very exciting. If you could maybe talk about PowerA a second, but maybe talk about more of your mainline brands and where some opportunities would lie within that, and then we'll kind of migrate over to PowerA.

Sure. So we'll talk about PowerA later, but if you look at some of our bigger brands, being something like Five Star, which is a big brand in North America, the premier school products brand, done phenomenally well over the last few years, took significant share in the market. And it's really as a go-to brand for a lot of our retailers. They have to have Five Star to win the season. If you look at Leitz, another $200 million brand that we have primarily in Europe. Leitz is -- stands for quality, reliability and really stands for office products in Germany, Switzerland, in Austria and other European countries. Kensington, another $200 million brand in the computer accessories space. We make docking stations and trackballs and physical security products for your laptops and PCs. Mead is another well-known brand that goes back to 1860s in its founding. AT-A-GLANCE, which many people use to manage their lives with calenders and diaries. So we have a lot of brands that all of us and our parents and our children have grown up with. So the company is very well-known. Something like 94% of our sales now from branded products, only about 6% from private label.

Which area within, in your kind of big-bucketed brands, you've got computer and gaming, school, writing, storage, new counter, stapling. Is there margin expansion opportunities within a specific brand category that investors could focus on?

There's an opportunity to expand margin in every line. There are certain brands in our portfolio that we'll manage for growth, profitable growth but growth. We're investing, PowerA being one, Kensington being another, Five Star. But there are certain lines that we manage primarily for margin for profit. A lot of our storage and organization products, for example, which is a big line, but it is a declining market, we manage that for cash. So we're trying to expand margins there, reduce costs there. But there are different triggers for margin expansion. One has really focused on cost, which is, as I mentioned, storage and organization. And the other one is really trying to leverage the fixed costs in the business as we drive the growth. And that would be Kensington, PowerA and Five Star.

Let's talk about PowerA, a pretty exciting transaction. I had the pleasure of looking at some of the products. If you could talk to us a little bit about the strategy behind that acquisition, the growth opportunity and kind of why you -- we were talking before some of the synergies with the channels. It'd be great to learn more about that.

Yes, Doug. We've been looking to expand into near adjacencies for a while. We made 4 acquisitions before PowerA in the 5 preceding years. And we just didn't couldn't find something in the adjacency space that was both strategic as well as met our financial criteria for acquisitions. Things were just too expensive around this space. And we got lucky enough to come across PowerA. And we like them, they like us. And we struck a deal at the end of 2020, I guess, December 2020. We bought them for around 8x, all-in 8x EBITDA, including an earnout. They're a great business. They're in console gaming space. They make primarily gaming controllers and power charging stations and gaming headphones. The business grew 23% last year, finished the year at around $260 million, a little bit short of $260 million. We expect that to grow double digits this year. We're able to leverage our shared services with PowerA. So it's a very profitable business, very accretive business for us. And as we discussed, they go to market through the same channels as our business does, same retailers. And from a supply chain standpoint, also, we're leveraging the same supply chain. So it's a very similar business, for example, our Kensington business and how they do business. So it's been a great acquisition for us. We're very happy that we've -- we bought them, and it's a huge driver of both sales as well as profit expansion for our business.

It seems like a great growth channel for you. There's been, obviously, a huge shortage in chips. It's a common theme. Has there been kind of any dislocation in your business on the chips? And how did those shortages impact you going forward? It's starting to kind of clear up in some of the industries that I cover.

We saw semiconductor shortages affect our business, both directly and indirectly. Directly, it affects anything that has chips, right? We have a lot of products, whether it's technology accessories or air purifiers or shredders or PowerA products that have semiconductor chips in them. And there were shortages. We had to buy much more in advance, so carry extra inventory as a buffer stock. Specifically in PowerA's instance, we have to buy ahead of time so that we don't run short. But PowerA was indirectly affected because console manufacturers, Nintendo, Sony, Microsoft did not have enough chips to produce the consoles. And as a result, it did affect PowerA sales last year indirectly. We are seeing still shortages of semiconductor chips this year. We expect that to be especially pronounced in the first half, but we do expect more availability in the second half. So we expect a kicker to sales in the second half of this year.

Right. You could see strategic controllers or headsets coming in at the end of the year when more of those consoles get shipped, right?

Exactly. Exactly.

That's something to look out for. That's helpful. How tied your sales to the console sales? Is it like a direct link? Or is there new technology that comes out that makes -- want to get a new headset or controller? Or is it kind of like tag on to the original purchase of equipment?

Yes. I mean it's both. There's an installed base, a big installed base that drives accessories, but also there's a kicker when new consoles are introduced. People, when they buy new consoles, they are likely to buy new accessories around those consoles as well. So certainly, when both Sony and Microsoft introduced the last generations of consoles at the end of 2020, there was a huge uplift in demand. That still has not been met because they haven't produced enough consoles in this last generation to meet the demand. So we're still in the early phases of this new console cycle, and we expect the demand to stay at elevated levels for a while until we're able to meet it.

I mean a lot of the consumer now has been spending more time at home and kids have been certainly playing more new video games, and that is probably demographic that will continue to buy this equipment.

Yes, it's amazing. I think the last statistic I saw, 3 billion people in the U.S. played video games, 3 billion, right, out of 7 billion. So think about what other markets are of such size.

That's incredible.

Yes. And to your point, the last 2 years, people -- more people got into gaming because they couldn't go out. They couldn't travel, so got to gaming, and they're spending a lot more hours gaming, which is driving the demand for gaming accessories. So it's been in a bad kind of WAN, but it's been good for our business. It's been bad for other parts of our business. But certainly, for the gaming side of the business, the [indiscernible] that people are spending more time at home has been good for us.

Maybe we'll change gears and talk a little bit about the overall strategy of the business, and then maybe we'll get into some financial questions. What's the outlook for M&A? I mean, how do you see valuations out there in the market? How much do you want to grow through organic or through M&A?

Acquisitions are an important part of our strategy to transform the business. We've been on a path to transform the business towards more brand, consumer and technology focus over the last few years. About 60% of our sales last year were from consumer, school and technology products; only 40% from commercial products. And we'd like to do more to continue to transform the business, both organically and through acquisitions. We bought PowerA at the end of 2020. Last year, we focused on delevering the business from that additional debt. We finished the year at 3.3x net debt-to-EBITDA ratio. So we think that as we go throughout this year, we'll be in a position to do another acquisition if one makes sense. But if not, we guided to organic growth of 1% to 6%, including a negative 1% from FX. So if not, we have plenty of organic growth ahead of us, an ability through that growth to drive profit expansion as well.

Was -- that growth 1% to 6%, was that organic, you said?

Yes, the 1% to 6% is organic. And that includes -- so it's really 2% to 7%, minus 1% foreign currency translation.

Right. As far as the leverage at 3.3, I know it's a long-term target of 2, 2.5, I mean, do you need to be down at 2 to 2.5? I mean could you operate at 3 and have flexibility still there at that level? Or do you really want to try to get down to the 2, and then be more active in M&A at that point?

We'd like to get down to that 2 to 2.5 ratio. That is the goal. But if the question is, do we need to be there? No, we don't need to be there. In fact, when we bought PowerA, I think we were at 3.4x levered when we made that acquisition. We generate a lot of free cash flow. We are confident in our ability to generate free cash flow, pay down debt. We pay about $35 million in annual interest charges even at 3.3x. So we have the capacity to do acquisitions. Again, we'd like to derisk the business and reduce the debt. But if we find something that makes sense from an acquisition standpoint, we have the capacity to do it.

It's hard to know given the opportunities and valuations change all the time, but would you expect -- if you were going to be channeling more M&A, would it be going in the tech gaming side? Or do you think there's still some kind of traditional brands that have value out there on kind of the other side of the business?

Given how successful we've been with PowerA, we certainly would like to find another one like that if one's available.

At the right price, right?

At the right price, of course, at the right price. But if not, a brand-centric consumer space is still of interest to us. It just needs to be growing, number one. Number two, market share in the business, growing channels, growing product line and margin accretive at the right price, as you mentioned. And those are not easy to find, right? So we look a lot. But as I mentioned, we did only about 1 a year over the last few years.

Right. So a cautious approach. I wanted to change gears on some of the financials. If you could talk to us about your extremely strong free cash flow and free cash flow conversion. In the last several years, you've been excess of $100 million in free cash flow. And maybe you could talk to us about the sustainability of that cash flow conversion and maybe talk a little bit about the inventory channel and working capital around that cash flow.

Sure. It's a very scalable business with excellent profitability, good cost structure. If I look at the business before COVID, we generate about $300 million of EBITDA in the business. It's not capital intensive. So we're able to take that $300 million of EBITDA or so and generate about $170 million of free cash flow. With COVID, it went down. We took a hit in 2020, down to slightly over $100 million. Last year, we improved it to $138 million. And this year, we think we can do $165 million. So basically returning back to the pre-COVID days, $165 million. And we think we can expand from there as we expand our margins. So the business is very efficient in converting income into free cash flow.

If you can maybe talk about the dividend a little bit here. You initiated a dividend in 2018, it looks like it, at $0.24 a year.

Yes.

And a pretty significant increase in 2020. And you look to the Board has approved another increase of $0.07, looks like.

Yes, you're absolutely right. We initiated dividend 4 years ago. And basically, we've been raising the payout every year. So if you look at the last action that the Board did, we raised the dividend in Q4 of last year to $0.075 a quarter. So this year, if we don't do anything, we're going to return $0.30 per share back to shareholders compared to, I think, $0.26, $0.27 last year.

And I think in the slide deck, it showed that you were at a 3% dividend yield.

I think it's more like 3.4% given the -- so we're very competitive.

Yes. competitive on the dividend yield side.

Exactly.

So I guess there will be a balance between the dividends and acquisitions now that you have that established, but it seems at that level of cash flow, you still have ample [indiscernible].

Yes. I mean, with $165 million of free cash flow, we'll use about $30 million of that for dividend. We still would like to reduce debt. And we'll still -- we think we have enough to repurchase shares as well opportunistically. And we have almost $600 million on our revolver. So if there's an acquisition that makes sense, we could lever up again.

Right, the undrawn revolver. If you were to try to delever, you've got a European term loan A, you have here at [ 255 ]. There's a little bit of a detailed question, but do you have a sense of how you'd look to delever?

I think probably bank debt, term loans.

Okay. That's kind of the most efficient way to...

Yes, yes.

To do that. Maybe if we can turn on kind of international growth opportunities. How much of your business is domestic right now? And are there any opportunities in Asia that could be interesting?

Yes. If you look at our business, roughly 50% of the business is North America. I mentioned about 33% is Europe, and the remaining 17% or so is international, primarily Latin America, in Australia. We do a little bit in Asia. The international business was pretty hurt by COVID, more affected than either North America or Europe. So both '21 and '20 were difficult years, but we certainly are seeing much stronger and expecting to see much stronger recovery in international this year. When we gave guidance 3 weeks ago, I talked about expecting to see 5% to 10% growth in the international business. And it will be primarily in Latin America, where it was most affected. Brazil and Mexico were the 2 countries with most impact from COVID, and we expect the strongest recovery in both those countries.

And what was that? You said were close to 10%?

5% to 10% growth, yes.

5% to 10%.

Yes.

Compared to the 1% to 6%?

Exactly.

So bigger growth there. I guess when you look at maybe some of the channels now, there's lots of different ways to buy your product. What are some of the exciting opportunities you could see and kind of channel the product in either easier way to get to the consumer or a less costly way?

Yes, we're very widely distributed. We sell our products through all the convenient channels where both consumers and businesses want to buy ranging from mass merchandisers such as Walmart and Target to online. Obviously, Amazon is our second biggest customer, regional online retailers throughout the world as well as focused independent dealers that sell primarily office products. So -- and we also have a direct-to-consumer business of about $4 million, and we're trying to grow that as well. And the strategy is really to go with the channels that are most convenient for consumers and when the consumers prefer to buy. Consumers have been shifting more to mass in online channels as the lower-cost, more convenient channels for them. And we've been shifting our distribution strategy commensurately to go to those channels.

I'm looking on Slide 37 here. You've got a few of the acquisitions that you made recently. If you can maybe just go over some of the opportunities you're seeing, is it Foroni acquisition you made, looks like kind of interesting product primarily in -- I think, Brazil.

Yes. If you look at the slide, we made 5 acquisitions over the last 6 years. And if you look at the left to right, we started with Pelikan Artline in Australia, really strengthen our business in Australia, expanded to the consumer channels and consumer brands there. Then we did a very big acquisition in Europe. Esselte really turned around our business in Europe, which was very focused on the U.K. Esselte was very strong in Continental Europe, gave us the strongest European countries, our manufacturing footprint and very strong brands, and over 100 people selling our products. So that was a very successful acquisition for us in Europe. And then we did 2 acquisitions in Latin America, 1 in Mexico, a company called GOBA Barrilito in Mexico. Again, took us to the consumer channels and the consumer product portfolio. And then the one that you mentioned, Doug, Foroni in Brazil, increased our business in Brazil by 50%, again, in school products. And then the one we did at the end of 2020 that we already talked about, PowerA, took us into the gaming adjacencies. So with all of those 5 acquisitions, we've really transformed our business, took it from about $1.5 billion to over $2 billion last year. Last year was a record sales year for us, and '22 should be another record year for us for both sales and profits.

The multiples, it looks like you paid for kind of away from PowerA, which was a little higher at [ 6.8 ], have been between, let's say, 4 to 6. Have you been able to improve with any synergies in some of those businesses, kind of modifying those multiples kind of going forward, how those transactions have been accretive?

Yes. We bought those companies well. They were all bought...

Yes, it looks like.

6 pre-synergy and 4 post-synergies. So they've been immediately accretive to the business. We leverage our shared services model to really use a fixed G&A across those businesses. So they're all accretive to us. Clearly, I mentioned that COVID hurt our business in Latin America. So we still have to recover from COVID to generate the real potential from both GOBA and from Foroni, but the structure of the business is good. The brands are valued by the consumer. And with the economic recovery that we anticipate this year, we should get very accretive synergies from those businesses.

So your sales topped that, and at $2 billion with a pretty good CAGR over the last several years. Have margins been able to keep pace with that growth of sales?

Margins are a little bit down because of inflation and COVID, right? We had -- our gross margins were 32.4% in 2019 and last year were 30.5%. So we're down, call it, 200 bps. And we're going to recover some of it this year, but with -- the longer-term objective for gross margins is 33%. So we used to be there in the '17, '18 time before tariffs and before COVID and before this super hyperinflation. So it's just -- we have to manage it 1 day, 1 month, 1 year at a time to get back to that 33% level, but I have a lot of confidence that we'll get there.

Yes. That's very helpful. With the last few minutes we have left, so kind of like off-the-wall questions, but we're getting a lot of questions from investors about China, Taiwan. You guys got some sort of conflict there, which I'm not saying that it would be, but just the way to think about how some of our end markets and customers and companies we cover, you could be impacted by conflict in that region. Is that something at all internally you guys have been looking at or thinking about some of your sourcing?

We've been diversifying our sourcing away from China over the last few years, really as an effect of tariffs have been put in, in 2018 and 2019.

Those were big.

Right. So about 40% of our products, we manufacture in the local countries where we do business with. About 33% is made in China. So it's about 1/3 of our supply. And then the remainder is other primarily Asian countries, Vietnam, Taiwan. We do some, do some in Europe, but it's primarily Vietnam and Taiwan as a remainder. So certainly, if there was something bad in China or Taiwan, it would affect our supply chain, there's no question. We should be able to resource the product somewhere else, but it will definitely impact our business for a while.

The 40% is locally made or locally sold?

Exactly.

Yes, that's helpful. Any questions from anybody in the audience? All right, I think with only a minute to go, I think we'll conclude our fireside chat with Boris. Thank you very much, very exciting opportunities here within the company with the PowerA brand and some other great brands that we all know and love. And without further ado, we'll conclude our fireside chat. Thank you.

Thanks, Doug. Really enjoyed it.

Thank you very much.

Thank you.