Interface, Inc. (TILE) Earnings Call Transcript & Summary

I guess, we'll start now. Welcome everybody to the Credit Suisse Industrial Conference. I have the pleasure to be with Bruce Hausmann, CFO of Interface. The plan for the next 30 minutes is going to be, Bruce is going to have some opening remarks for the first 15 minutes and followed by Q&A. And I believe I have the ability to see questions from the audience in my e-mail. So I look at that as we go through, and please feel free to send those across. With that, Bruce, over to you.

Well, Good morning, everyone, and thank you so much for your interest in Interface. And for those of you who are not familiar with our story, I'm going to talk about who we are and what we do for 15 minutes. And as Manish mentioned, then we'll go into Q&A. We lead in design and innovation. We are focused on solving our customers' problems through 3 product lines, carpet tile, luxury vinyl tile, or LVT, and rubber flooring. Every product that goes out the door at Interface is either carbon neutral or carbon negative. We actually sell carbon-negative carpet tile, where it's better for the earth if we create our carpet tile than if we don't. And you'll hear a lot about our sustainability mission and how we're a leader. We are not only pioneers, but we're leaders in sustainability. This is us at a glance. We're headquartered in Atlanta. We have 7 manufacturing facilities on 4 continents, about 3,700 employees. We do business in over 100 countries. And we have -- we are a sustainability leader, as I just mentioned. And as I just mentioned, every product that goes out the door is carbon neutral, except for one that's carbon negative, that's our carbon negative carpet tile. Our net sales are about $1.1 billion LTM. Our OI, last 12 months Q3 2021 was $107 million, and our diluted adjusted EPS was $1.03. We're very proud of our strong capital structure and the work that we've done. We acquired Nora, which I'll talk about shortly, the rubber flooring leader in 2018. We levered up the company to make that acquisition. And we're really proud of the discipline that we've exhibited to delever the company. We're at a 2.8x net leverage ratio right now. And our #1 capital allocation priority is to continue paying down debt in a very disciplined manner. About half of our business is in Americas, and about half of it outside of Americas, 33% in EMEA, 14% in Asia Pacific, and about 47% of our business is in the office segment -- vertical, and 53% is in non-office. This is one view of our investment thesis. First, we have the leading brands in our space. We compete on 5 fronts. We compete on design, innovation, service, price, of course, and most notably, sustainability, where we get the best value proposition in the industry. We are a share leader in the $39 billion commercial flooring market. We are a design leader, and we have a very robust innovation pipeline that we've not only deployed, but that we continue to work on to continue advancing our current products to either be more sustainable, or to meet customer needs as we hear our customers looking for a new product innovation for their solutions. We are very strongly positioned for growth, which I'll talk about momentarily. And again, we have a very strong balance sheet. These are our 5 operating pillars. One is to grow our commercial business. 2 is to expand in our living space around our residential, and also our consumer brand, which is called FLOR, F-L-O-R. If you want to check that out at www.flor.com. To continue driving supply chain excellence, I'm just so pleased with the work that our supply chain leaders have done throughout the pandemic to continue to manage our plants so effectively, and to continue to meet customer demands and to continue to help us to not -- we've seen some margin erosion more recently, but not a lot compared to the rest of the industry and the rest of a lot of other colleagues around the world. Our supply chain has done a great job. And also, we're going to continue leveraging our SG&A. We talk about our goals to have SG&A down to 26% of net sales. And we are continuing to optimize the cost structure of the company around the world, and then we're going to continue to lead and maximize our ESG leadership. These are our growth pillars. First is, we are going to continue to take share from broadloom. I'll show you momentarily a Marimekko chart that shows the landscape of where we play. And broadloom -- carpet tile is still taking share from broadloom. And we are very well positioned to continue seizing upon that around the world. We're going to continue to enhance our relationships with existing dealers. And let me just share with you what I mean by that. We basically have 3 customers. We have the architects and designers who we work with closely, who we ask and we work with them to prespecify our product into the jobs that they're doing for the clients. We have the dealers and the installers, who actually put the flooring down on the carpet, down on the floor. And then we have the end user, who actually uses the flooring in the buildings that we -- that they're renovating or that they're building as new construction. That middle customer, I talked about, sometimes actually makes the decision on what goes down on the floor. And quite frankly, we need to do a better job at working with them and making sure that they choose us instead of a competitor. We have a variety of initiatives in place to expand our share in that space. We already have existing relationships. And so that's a matter of getting the right product to those parties and also getting the right spiffs in place, and getting the right -- getting the right focus in place with our selling organization. And we've already seen traction in that market. And we believe we can see existing additional traction in that market, leveraging existing SG&A. We're going to continue innovating. We have -- we -- every product that we take on, we continue to make it more sustainable and better for our customers' needs. We continue to advance the ball in terms of recycled materials that go into all of our products and advance their performance. We have a services business that's a differentiator for us. It's a great mechanism for us to retain large global clients, and get an annuity business that continues year after year after year. These are clients like banks, retail banks, where we go in and we'll remodel, for example, a banking location or we have some that are in the retail space. We're going in and remodel retail location, mostly carpet and paint and some other work that we do for them. We're going to continue growing in our hard surface products. That's what we call resilient. And we grew -- have grown our LVT business from 0 to over $100 million -- over $100 million in revenue with accretive margins. We started in 2017, and that has been growing double digits ever since. We continue to take share in that space. And we're going to continue to put the pedal down on our FLOR business, F-L-O-R, which is our premium brand, growing double digits, very profitable, and it's our consumer brand. And if you haven't checked it out, please do at flor.com. As I mentioned, these are our 3 product lines. We are the leader in carpet tile with roughly 20% share globally. I mentioned that we are a leader in luxury vinyl tile commercially. This is a $3 billion market that we've grown from 0 to $100 million in revenue. And we are a global -- we are the global leader in rubber flooring with over 30% share through our acquisition of Nora in 2018. This is a Marimekko chart that I mentioned earlier. What I love about this chart is that we've basically doubled our addressable market in the last few years. We used to just play in carpet tile. We invented that product. When I first joined the company about 4.5 years ago, I talked about how we were the leader in that space. And now what we've done is we've expanded our portfolio to be a commercial flooring leader, not just in carpet tile, but also in the rubber and the LVT business. So we're continuing to take share in all these different categories and continuing to broaden our addressable market. We're very purposeful in the markets that we get in. We operate in the markets that are most attractive in our space that have the highest growth rates and the highest margins. This is by design. We're very deliberate about where we play and where we don't play to make sure that we can have -- be successful so that we can differentiate, and so that we can get the right margin structure that we're looking for. It's a quick snapshot of our global footprint. One note is that we are closing down our Thailand plant. We're running out the existing backlog, and that plan will close down in Q1 of 2022. And the reason why we're doing that is we're continuing to optimize the cost structure of the company. We just didn't need that capacity in Asia Pacific in order to meet customer needs. And so that capacity -- those -- that volume will go to our plant in China and our plants in Australia, and we'll be able to continue tightening up the cost structure of the business. When we look at our verticals that we play in, as I mentioned, 47% of our business is office, that used to be much larger. We're continuing to diversify in other verticals. Our second largest vertical is education, which is growing double digits. It's a fantastic space, where we are continuing to differentiate and take share and be known as a leader in that space for helping schools, whether it's K-12 or higher ed schools with their flooring needs. Health care is another space that, of course, is growing in double digits in many markets, depending on where you go around the globe, but it's certainly -- there continues to be a lot of spending in that area globally. And then, of course, government, there's a lot of spending. You take those 4 verticals between office, education, healthcare and government, it's about 80% of our business. We are very uniquely designed and positioned to take advantage of helping customers with their needs post COVID. There is a tremendous amount of renovation and remodeling work that's going on, whether it's in office buildings or health care buildings or schools, or government buildings, and we're very uniquely designed. Our flooring solutions are a fantastic solution to help with people who are walking around the building, knowing the flow of where to go to create specific zones, and way finding spaces for people to get visual cues about where to go. It all starts with the floor plate. And because our flooring systems are modular, designers and architects are using it to help customers in finding their ways as they navigate to different spaces. And this is, we think, a huge opportunity for us over the next few years post COVID as a lot of facility managers, architects and designers and end users are looking at their buildings and saying, how does this need to look different in the post COVID world? And we have a lot of examples of what those are, because our customers are already doing it. But at the end -- but also, we don't know what -- we don't know exactly what everybody is going to need, but we do know that there's a lot of change coming with a lot of buildings around the globe. And again, we're very uniquely positioned to meet our customer needs in that regard. As I mentioned, we are an ESG leader. And I wanted to just share with you real quick. This is -- we have a ton of metrics on this, because we have been doing this for over 25 years. Sustainalytics is one of the metrics that we're most proud of because we've been on this survey since its inception. We're the only company that has that -- that's been recognized in that way. We've always continued to be in the top 5 around companies that are perceived and are actually doing the work that they say they do, around advancing the ball around sustainability and being -- having environmentally friendly, and environmentally conscious products and service offerings. This is just a snapshot of some of the metrics that we're really proud about. If you go to our IR website, interface.com, Investor Relations, there's a whole ESG section where you can check out our disclosures around ESG. And we have a lot of them that we publish out there publicly, and we're proud of all of them because we've really advanced the ball, and we really view ourselves as a leader around ESG. This is just a slide that briefly mentions a little bit more about our carbon negative carpet tile and the technology and the science behind it. I put this slide in because I -- it's interesting, when I joined this company, I thought who'd ever thought that a company could be innovating commercial flooring, and that's exactly what we're doing. We're innovating flooring for the future to not only be -- have better performance and not only look better and have great design, but also to be more sustainable and better for the earth. And so we're really excited about this. Manish, I know you're going to ask some questions later, but during the pandemic, we were asking ourselves, should we be investing in this technology and the machinery of this technology, because we made a big investment in putting this machinery in place last year during the pandemic, when we didn't know exactly where the pandemic was going. And we said, yes, we're going to continue. We're going to keep the pedal down. We finished off this project, and that enabled us to launch this project in -- this product in late Q4 of 2020. And the traction on it has been extremely well received throughout 2021. And we're just so delighted with the differentiation that this brings in the marketplace. Quick note in our financial performance. Here's our GAAP results, of course. I'm going to speak to our adjusted financial results, and there's a reconciliation between GAAP and our adjusted financial results in this deck. And it's also available on our IR website at www.interface.com, Investor Relations. If you look at our year -- our first 9 months of the year, our revenue was $861 million. Our GP was around 36.2%, and our SG&A was about 27.2%. And then our adjusted operating income was $81 million, and our adjusted EPS was $0.75. You can see our adjusted EBITDA is headed in the right direction. We were growing. And then with the pandemic, we went down to $146 million on an LTM basis. And now we are back on track to be growing our EBITDA. Same thing with our EPS. We -- again, we're growing back to pre-pandemic levels. And here is a brief snapshot of our liquidity and our capitalization. Again, our leverage ratio is 2.8x. We're very pleased with our discipline around our capital structure. And here is our brief mention of our financial policy. Again, our #1 financial policy is to continue paying down debt. We levered up to acquire Nora, but continue paying down debt, demonstrate that discipline. And then also we have done some reinvesting in the business, namely around the machinery and other plant assets to be able to differentiate our product lines. Lastly, I just want to just thank you for your time, and I'll open it up to Manish for any questions, and I appreciate you hearing about who we are and what we do.

Sounds good. Thank you so much, Bruce, for that overview. I'll let the operator -- please let me know, if there are any questions from the audience, but I have a few that I wanted to start with. First question for you, Bruce. How would you describe the overall environment for commercial flooring? What sort of [ order rates ] have you seen in the office flooring and the commercial flooring overall?

Yes. I would say it's robust. And you can see that in our Q3 earnings results. Our order rates in Americas were up 34%. Our order rates outside of the U.S. were up 12%. So, we're seeing very broad-based, very robust market. And about 80% of our business, Manish, is renovation and remodeling, which is great for us. And there's a lot of that activity going on. And we think that for the mentioned -- reasons previously mentioned, we think that, that activity is going to continue for quite some time.

Great. Another question on the behalf is, can you talk about your main flooring categories, carpet tile, rubber, LVT? How do you see the trends in these different end markets?

So I'll start with LVT. It's been growing double digits and continues to grow double digits, and we are definitely taking share in that space. And customers are using it in all applications. It's fascinating with all the -- [ one known is ] with all of the federal spending in the U.S. that has been authorized around schools, we are amazed at how much spending is going on in K-12, and it's only just begun. Some of it has -- there's so much money that has been authorized, but the projects haven't even started yet. And customers are using high-quality flooring products like LVT and like carpet tile to do their upgrades. So LVT is fantastic. Carpet tile is also where we lead, and we particularly lead on design, and we particularly lead when customers are interested in making sustainable choices with their buying decisions. And our rubber flooring is very strong, particularly around health care. If you're -- for example, the hospital is doing an operating room, customers very commonly want to put the rubber down in an operating room environment. And we, this year, launched luxury vinyl sheet, which is the very common product to have in recovery rooms. And so, we weren't getting that business before. But here, we knew the customer, we had a relationship, we were getting the business in the operating room, but we weren't getting in the recovery room. And so, that's why we launched that new product. And that's just another example, Manish, where we're continuing to innovate and listen to our customers about what they want and what they need. And so, we're very pleased with the -- where we're playing in terms of growth rates and margin structure and where we're continuing to diversify our product lines.

Similar lines, another question, how do you think about the potential for the split between commercial and living space demand?

We -- right now, we are most heavily weighted on the commercial space. That's been our roots. That's been where we really, really -- that's been our wheelhouse for a long time. But there is a lot of business in the living space area, whether it's school dormitories, or assisted living facilities, or even some residential where our floor products play really well. And obviously, there's a lot of activity going on in those spaces, and we're just really well positioned to meet the customers' needs when they're going to be putting their -- changing out their flooring in that area.

Great. Question on something that you covered on the ESG and the carbon-neutral floors. Can you talk a bit about this and what the future opportunity is?

I think we've only just begun to have customer sensitivity around this area. If you would ask me 4.5 years ago, I would have said super, super early days, while we're a leader in sustainability. And a lot of customers recognize that and see that, that isn't necessarily why they're buying from us. That's what I would have said 4.5 years ago. Today, different story, more and more customers are buying from us and choosing us and choosing our products because they're concerned about the environment. And they're thinking about the environmental footprint and most notably, the carbon emissions, the carbon footprint of the job that they're doing. And architects and designers are very in tune with this. There was a day, Manish, when people looked at a building and said, how much energy and how much carbon emissions are being created by running a building. And of course, that's only a small piece of the puzzle. The bigger piece is how much carbon is emitted into the atmosphere when you build a building, or when you remodel a building through all those building materials that you're using. And that's where we play really, really well because if the customers choose us, they can lower the carbon footprint. And if they choose our flooring, it's either going to be carbon-neutral or carbon-negative by putting our products down on the floor.

Very interesting. A question on growth. I think you addressed a few different areas of growth, broadloom to carpet tile, greater share of sales at dealers, services, innovation, LVT, floor you talked about. Can you address kind of in a little bit more detail some of these areas of how -- what kind of growth you're going to -- you're anticipating?

Yes. When I think about growth rates, I think about it in terms of product categories. For example, I think carpet should be growing. And I'm talking about -- if you kind of pull the lens back, look over a broad timeline, carpet should be growing between 3% to 6%, rubber should be growing 4% to 6%, and LVT should be growing double digits. So if you bake all of that into our current product offering, we should be growing 5%-plus on a sustainable basis. And that's our goal. Our goal is to have initiatives around those things that you mentioned, Manish, so we've got underpinnings in place between our initiatives and between our product offering to have a sustainable growth machine that grows 5%-plus each quarter.

Okay. That's great. And just a different lens to the same question really about growth, when we look from an end-market perspective, you highlighted education, health care and hospitality as kind of some of the key areas. Could you talk a little bit more about your expectations for those?

Yes. Well, I'll start with office because that one is such a mixed bag and an enigma to so many right now, so many people. I'll go from one end of the spectrum. Some people are saying the office is going to come back, others are saying it's going to come back fully. We think it's somewhere in between. Certainly, work from home is going to be more common. But over the last few -- 10-plus years, there is a tremendous amount of activity being done, particularly in the U.S. and Europe around densifying offices. And we think now there's going to be a de-densification of offices. We also think there's going to be more remote offices. We also think there's going to be more work-from-home activity, particularly in the U.S. And all of that means that customers and office clients are thinking about how do I configure this space to meet my current needs. And what that means for us is change. And change is good for our business because any time that a customer is doing renovation or remodeling, it typically means new flooring and paint. So that's for the office market. K-12, completely different situation. Tremendous amounts of funding has gone into that, has been already authorized and tremendous amount has not even been released yet. We think that is a multi-year runway for us to continue serving the needs of our K-12 as well as our higher education clients. And so many of those particularly higher ed clients are very, very in tune with their environmental footprint. We talk about our sustainability mission, for example, with a college or university, they are very, very in tune, and they are very interested in the carbon footprint of our projects that they're working on. We're -- again, we're uniquely positioned. Government is the same way, particularly in the U.S. The government more and more is thinking about, hey, we need to make sure that if we're buying and we're putting stuff down on the floor, that is an environmentally friendly product. And again, that's where we differentiate and where we can really serve our customers. So in those 4 big verticals that we talked about, it's about 80% of our business. There is a lot of -- there are a lot of great macro trends that are sort of going our way.

I think we have just a few more minutes left. Can you -- maybe a little bit on the capital structure and investment, how do you convey investing in the business versus the goal of getting to your targeted 2 turns debt to EBITDA?

Yes. Well, it's a balancing act. Before we invest in the business, we look at the return. For example, we did invest in that carpet tile -- carbon-negative carpet tile equipment last year. It's about a $50 million investment. Prior to that, we invested in some machinery in our U.S. manufacturing facilities to increase the productivity of our plants. All of those returns need to be double digit. I will tell you that we've done a lot of investing over the last 3.5 years. And we -- it's time for the corporation to monetize that investment, which is why you'll see our CapEx this year target is $30 million, and we're anticipating our CapEx target next year to be $30 million. And so, what we're doing now based on all the investments that we've made is we're leveraging those investments and monetizing those investments while also aggressively paying down debt to be down $49 million of debt year-to-date, which is a fantastic number. We've been accelerating our debt payments.

Awesome. Maybe the last question. Just looking geographically to different geographies, you have a fairly diversified business. Anything you want to trend, you want to highlight in the different geographies?

Well, the U.S. commercial market is definitely, obviously, very robust. You could see that in our Q3 earnings. Europe -- by the way, the U.S. also had the biggest decline during COVID. So they should be coming back to strongest. Europe is also strong, but didn't decline as much during COVID. And so, as you might expect, it's coming back, but it doesn't come back with the same room and velocity that perhaps you see in the U.S. And Asia, I would say, is a mixed bag. They're largely already back to the office. For example, Australia, you can see a lot of activity, as Australia finally starts to open again. They were very locked down with COVID. China is fascinating. It's such a giant market for us. Certain cities get locked down, things kind of close up, but there's just still this huge growth engine going on in China. And then, if you go off through Southeast Asia, it just kind of varies by country, it's a very fragmented space for us, quite frankly. So -- but I would say, in our big markets, where we have the highest margin structure like the U.S. and like in Europe, parts of Europe, that's where the biggest growth is happening, which again, all -- is very fortunate for us from a macro standpoint.

Fantastic. Well, we are right at the hour mark. Bruce, thanks for your time today. We appreciate it very much, and we thank you for participating in the CS Industrial Conference this year.

Thank you so much. I appreciate it.

Thank you, Bruce. Take care. Bye.