RPM International Inc. (RPM) Earnings Call Transcript & Summary

So hey, everyone. This is Josh Spector, Chemicals and Packaging Analyst at UBS. Welcome to the fireside chat today with RPM. Today is part of our West Coast Chemicals Virtual Conference Event. As for our plan for the call today, Frank has some opening remarks that he'll go through, and then we'll run through a question-and-answer session. For anyone on the line, if you have questions you'd like me to ask on your behalf, you can e-mail me at joshua.spector@ubs.com. That's J-O-S-H-U-A dot S-P-E-C-T-O-R at ubs.com. And quickly, as a disclaimer, as a research analyst, I'm required to provide certain disclosures related to the nature of my own relationship and that of UBS with any company on which I express any views on the call today. These disclosures are available@ubs.com/disclosures, or alternatively, please reach out to me and I can provide them to you after the call. So with that, it's a pleasure for me to introduce Frank Sullivan, CEO of RPM International. Frank has been with the company for over 30 years. He joined RPM in the late '80s and moved into the CEO role in 2002. And since then, he's been leading the transformation of the company over the last couple of years with a map to growth restructuring plan. RPM issued a press release the other day indicating that they expect some severe weather events to negatively impact prior guidance. And Frank has some prepared slides to go through, which we'll start with that, and then we'll move into Q&A from there. So with that, Frank, thanks for joining us today.

Josh, thank you very much. It's a pleasure to be sponsored by UBS with your virtual investor conference. I'm really just going to address 1 slide, and then look forward to answering your questions. As those of you who have followed RPM know, we are at the final stages of our 2020 map to growth operating improvement program. We initiated this at an investor meeting in November of 2018 and outlined our steps over a 2.5-year period to achieve $290 million of either efficiencies or cost cuts. We are significantly ahead of that. We outlined at the end of Phase 2, which was the fiscal year that ended May 31, 2020, that we were about $20 million or $25 million ahead of our original goals. We expect to complete the map to growth program a little later than originally anticipated, mostly due to the COVID pandemic, with a conclusion date now of May 31, 2021. We will have exceeded the $209 million of savings. And by the time we're done through some follow-on in fiscal '22, we'll be somewhere in the $325 million or more range. So very good execution by our folks. We reorganized into 4 segments, as you can see on this slide, and in particular, we're seeing very strong margin growth in our Construction Products group. We took a collection of RPM companies Dryvit, Tremco, Nudura and have created what, from a market-facing perspective is the Tremco Construction Products group and are in kind of the fifth or sixth inning of integrating this into a more comprehensive global construction products group. Very exciting for us there, both in terms of growth and margin enhancement. And we see good leverage here and good opportunities for growth in a recovering U.S. and global economy. Our consumer group has had extraordinary results, in part, because of the dynamics of the COVID pandemic. We would expect them to be roughly flat in fiscal '22. As they begin to annualize extraordinary year-over-year organic growth anywhere from 1 quarter to the next in the mid-teens to -- in our first quarter of last year 34%. Our Performance Coatings Group has been the most underperforming business throughout this period, in part, because of their exposure about 1/3 to the oil and gas and energy markets. We see those recovering this spring in our fourth quarter and also recovering throughout fiscal '22. And finally, our smallest, but really a collection of unique high-margin niche businesses, Specialty Products Group, has been growing quite well. Going forward, we expect to sustain the gains in our map to growth program. We see continued efficiencies out of our MS-168 lean manufacturing efforts beyond our original map to growth program and also expect to see accelerated organic growth through growing with the market, particularly the market recovery in some of the major industrial markets we serve; bolt-on acquisitions, where we have a good pipeline; and connections across our businesses, which is something that's very meaningful today that really didn't exist 3 or 5 years ago. And so with that brief introduction, Josh, I'd be happy to answer your questions.

Yes, sure. Thanks for that Frank. I guess maybe to kick off. So I mentioned at the start that you guys had a press release recently talking about the winter weather and the impact it's going to have on your February quarter here. Wondering if you could provide some context of maybe what demand kind of looked like through the quarter up to this point, and really, what the impact was. Is it the inability to apply, inability to ship, raw material constraints? Just kind of some more granularity around that, if you can.

Sure. The simple story of providing lower guidance for our third quarter is really a transportation issue. Everybody's aware of the polar vortex or the big winter storm that occurred across most of the U.S. last year, particularly in Texas. And with a fiscal third quarter that ends at the end of this week. So essentially, at the time, 8 or 9 shipping days left in the quarter, transportation was a problem. And it was literally and figuratively frozen in a few areas. So whether it was getting incoming raw materials or outbound freight, we assumed at that point that we'd be losing 3 to 4 shipping days in the quarter, that given our February quarter end, we would not be able to make up. We commented in our release, our original guidance was for mid-single-digit revenue growth and EBIT growth of 30% or higher. And we were ahead of that original guidance through the first 2 months of the quarter. And so what was shaping up to be a pretty extraordinary quarter and another quarter of a 30%-plus EBIT growth, a modest sales growth, instead, looks more like a single-digit sales growth and EBIT growth still up in the 10% to 15% range. Most of that, we believe, will be made up in our spring selling season, fourth quarter. So the March, April, May period, and the biggest negative impact of that weather and the transportation interruptions was in our Consumer Group, which really starts the strength of its spring selling season typically in February.

Okay. Maybe related to this, to build off of some of the impacts we're seeing now. Raw materials is a pretty big point of concern for investors. I imagine there's a lot of unknowns where we sit today. But how are you thinking about raw material inflation now versus how you might have thought about it 1, 2 months ago?

Sure. So raw material inflation is an issue, and it was an issue before the storm. It's something that RPM is in a much better position to manage today than even 2 or 3 years ago. We have centralized procurement. We have become a much bigger, growing faster than the market, an important customer to many of our largest suppliers. And also working on, as we speak, price increase activity across most of our businesses. That was occurring before this winter storm. And so I think you're going to see a 60- or 90-day period where raw material availability and/or pricing is going to be a challenge across our industry. We're working to manage that cost price/mix, and I think we'll be in pretty good shape. The next 60 to 90 days are certainly going to be tumultuous in the chemical space and the chemical industry customer base, including us. I think it will be temporary and should be corrected by this summer, but it is very much an issue as we speak.

And maybe in there, you talked about you're in a better position today versus 2 to 3 years ago. What exactly is different that allows you to manage this pricing cycle differently this time around?

Sure. Well, we -- 2 to 3 years ago, we didn't purchase major raw materials as RPM. And today, we do. We have a number of major suppliers who might have been a $50 million supplier to RPM 3 years ago, who, in the last 2 years, has become a $70 million or $90 million supplier. So not only are we larger. We're one of the fastest-growing customers of some of these suppliers, in part, because we're consolidating our purchasing into fewer and -- fewer suppliers and better relationships. And I think we're in a good position contractually as well in a lot of these situations. So there's strengths of RPM and the positive benefit of having centralized our procurement activity in the last 2 years, it didn't exist before. Secondly, that's backed up by real-time data that we also didn't have a few years ago in terms of understanding not only where we are today, but where we're heading in terms of that cost price/mix. So we're better able to manage it, anticipate what's coming and react.

Okay. And then maybe could you remind us how pricing is handled differently in each of your major segments in terms of the timing it takes and maybe how the negotiations take place?

Sure. And in most of our industrial businesses, our ability to impact pricing at different levels is pretty flexible. And we can put out pricing tomorrow and adjust 3 or 4 weeks from now, if necessary. That's less true in our Consumer Group. So there's a real onus on us to make sure that the price increases that we get, and then we'll go out with this spring, are sufficient to cover not only our current circumstances, but what we anticipate because it's much more difficult to go to a major consumer customers, negotiate a price increase, get it and then go back 2 or 3 months later and get another one. And so typically, there is both a lag in timing in our consumer businesses in terms of affecting price increase. That's a little bit longer than in our industrial businesses. And also not the same flexibility, particularly in a volatile period of time, where you can go get multiple price increases, if necessary. And again, I think most of this will shake itself out by this summer. On the next 60 to 90 days, they'll be both a price and a product availability issue, which I think is something that we feel like we're in a pretty good position on.

Okay. That's helpful. I guess, maybe shifting gears to the volume side of the story. I think the volume in your construction segment has been pretty resilient here over the past year. And I think that's generally underappreciated part of the story. You have a high percentage of sales there that's -- in terms of the repair maintenance, which helps things stay stronger for longer. But I think people might be underestimating some of the recovery potential. So I don't know if you could frame it to the extent of what you think the industry did over the last year versus RPM's performance. And over the next year in a recovery scenario, how do you think RPM fares relative to the industry?

Sure. I think the performance in our Construction Products Group, in particular, is really a shining star for RPM. On our website is a full investment deck. And in that, you'll see a slide. It's a circular slide that is our attempt to highlight the addressable markets for the various RPM segments and operating companies. And we estimate that there's about $134 billion global addressable market, and roughly half of that relates to our Construction Products Group. So big market. What's happened in this MAP to Growth program is we have taken Tremco Sealants, Tremco Roofing, Euclid Chemical, illbruck, Dryvit, Nudura, a lot of these businesses, and from a market-facing perspective, are going to market as the Tremco Construction Products group and really integrating our delivery of these different systems. And so we're in a better position today to take advantage of the energy efficiency elements that are really great opportunities in the market today. We have moved from a 50-50 new construction-to-renovation to more of a 35-65 or 60-40 renovation-new construction. And so that integration has been driving quarter-after-quarter significant margin improvement on modest revenue growth. And we anticipate in both the North American and global recovery in construction markets and infrastructure spending, really good growth opportunities in the recovery here. And you'll continue to see that leverage to the bottom line continue to be very strong. The other thing I'll say about our Construction Products Group is they're really at the heart with our Consumer Group of sharing channels and technology and brands in ways that we did not before. And so we have a Construction Products Group products. For instance,, Tremco restoration roof coatings now in test markets in Home Depot. Tremco products in a Tremco bucket that are being distributed through Home Depot with the hope of getting into the hands of the tens of thousands of small roofing contractors that we can't deal with directly. The #1 selling urethane in the construction markets is the Tremco Vulkem product. We'll do $25 million in that product with Menards. So the synergies with products, brands and channels that we're starting to take advantage of across RPM groups is also an exciting avenue for us to grow in the coming years.

Okay. And I guess, I mean, sticking with construction, is there ability for you to flex your exposure from a product and market standpoint? So if there is a stronger recovery in, say, commercial markets next year than we expect right now, can you shift more volumes to that? Or what do you do to take advantage of where the higher growth opportunity is?

Sure. Our opportunity in terms of -- we have been investing in expanding our roof restoration coatings as well as our Tremco Sealants capabilities. We don't have any capacity constraints there. As I mentioned earlier, there may be some raw material constraints, particularly if you see a big pickup in activity in the next 2 to 3 months. At the same time, the raw material challenges and supply chain challenges are working themselves out. That's the only impediment I see, and that's really a near-term impediment to what should be exciting growth. And when you look at the addressable markets we have, the opportunities for organic growth the way we've reorganized, and bolt-on acquisitions, the Construction Products Group should be our fastest growing, most value-creating group for the next couple of years.

Okay. And then I mean, you touched on this a little bit already, but to the extent that you have a pretty large market to go against, you guys have cited kind of share gain for quite some time now. I guess, how much runway is left in that? And given how wide the market is in terms of where you can compete, are there any acquisitions that you feel like have to be done to fill out that portfolio to allow the next leg of growth to take place?

Sure. There's a -- I don't think there's any have-to-do acquisitions. We continue to have a strong preference for the bolt-on acquisitions, all driven from a growth perspective. So where we can buy at a multiple turn or 2 less than what are the headline multiples in the market, a $10 million or $20 million business. And through our distribution or sales force, believe that we can double or triple that revenue in a 3- to 5-year period, we love those. And we'll do as many as -- we're in the all-you-can-eat mode. It's funny in terms of the have-to-do. One of the little flavors I hit our businesses with is the Cold Stone Creamery ice cream store. In terms of the acquisition activity, we got a pretty good pipeline right now. And a simple way to look at these is strategically, is this a like it, love it or got to have it? And there's a lot of things to like or love out there. But I don't know that there's anything that we have to have in terms of not having the discipline in terms of price and expected returns.

Okay. All right. I think we'll probably come back more to M&A later. But for now, move on to the Performance segment. And I guess when I look at that business, I tend to think about end demand driven by industrial CapEx and maintenance-related spending within industrial and other production type markets. You've had pretty big year-over-year declines there. It's eased a bit, but it's kind of stabilized down high to mid-double-digit -- sorry, high to mid-single digits there. I guess as we think about the recovery, is that industrial CapEx and maintenance spending coming back enough to return that business back to 2019 levels or get to growth? Or does anything else have to happen to really see a more sustained recovery in that segment?

I think you'll see positive sales and earnings growth in Performance Coatings Group in fiscal '22. In part, it's related to the comments you made. It's the one area of RPM that's really, from a market perspective, suffered over the last fiscal year, particularly related to the 1/3 of the Performance Coatings group volume that's tied directly or indirectly to oil and gas and energy. We see those markets stabilizing. You could see it in gas prices. And so a combination of some recovery in spend and simply annualizing what have been very difficult comps will result in positive sales and earnings contribution in a recovery in some of the stalled EBIT margin expectations that we've had in our MAP to Growth program. So it should be a good story. Whether it's a really good story depends on both the recovery in the energy markets. And also our position, which is really strong in infrastructure, and whether the spending and focus on infrastructure, particularly in the U.S., gets the attention and the funding that, right now, is being talked about in the headlines, but really not in the market yet.

Okay. I mean, that's probably a fair point. And maybe that's a good -- something to dig into a bit more, is in terms of infrastructure spending and packages that are out there, where within the RPM portfolio, do you stand to benefit from some of the spending kind of proposals that are out there at this point?

Sure. Well, we do a fair amount of work in highway bridge, bridge deck and bridge refurbishment work. We do a ton of work in heavy concrete, whether it's with our fiber business or our admixture business. And then our Carboline business is driven, in large part, by industrial capital spending in areas, not just in oil and gas and energy, but water, wastewater treatment and marine business. So all of those are -- have been underspent for the last year and are poised for recovery. And that's before you get any significant federal spending or investment commitments and infrastructure, which would enhance the growth prospects for this group.

Okay. And just maybe shifting towards the consumer side. I mean, you mentioned in your opening remarks that you expect FY '22 to be about flat. I was wondering if you could give an update of kind of the RPM view of DIY, how you think that demand plays out here? And then also, even though that segment's called consumer, how much of that is more pro-like or more -- not necessarily consumer take-home piece of that? And how do you see that playing out?

Sure. It's a great question because the consumer has been booming because of the stay-at-home dynamics of the COVID pandemic, but the pro has been hurt. I think we're about 70%, 75% consumer DIY and maybe 25% to 30% prosumer. So small contractor, commercial construction. And so we would expect to see that recover, particularly as people become more comfortable in letting contractors access their home or as construction activity picks up. On the consumer front, we've had 4 quarters now with organic growth anywhere from 15% to 30%. And while we're excited, along with our major customers, about the permanently expanded, more confident DIY-er. So we have a bigger base to serve than we had 1.5 years ago pre pandemic. I think the expansion, not just in our categories, but in multiple categories of the DIY space has happened in the pandemic in ways that in normal times, neither we nor our customers could have created in such a short period of time. And we believe it's here to stay. Having said that, I think that we anticipate, with some market share gains and some new products and that larger base, that fiscal '22 is likely to be flat in terms of performance as we get into the first quarter and beyond and start to round these extraordinary comps of sales growth in the mid-teens to 20s and earnings growth quarter-by-quarter in the 40% to 70% range, depending on what quarter you're looking at. So some tough comps there. The business itself is rock-solid and performing well. New product categories that we're excited about and, of course, bolt-on acquisitions that we'll continue to look for.