Good morning, my name is James and I will be your conference operator today. At this time, I’d like to welcome everyone to the Interface fourth quarter and fiscal year 2018 earnings call. All lines have been placed on mute to prevent any background noise, and after the speakers’ remarks there will be a question and answer session.

If you’d like to ask a question during this time, simply press star then the number one on your telephone keypad. If you’d like to withdraw your question, press the pound key. Thank you. Christine Needles with Corporate Communications, you may begin your conference..

Thank you. Good morning and welcome to Interface’s conference call regarding fourth quarter and fiscal year 2018 results, hosted by Jay Gould, President and CEO, and Bruce Hausman, Vice President and CFO.

During today’s conference call, any management comments regarding Interface’s business which are not historical information are forward-looking statements.

Forward-looking statements involve a number of risks and uncertainties that could cause actual results to differ materially from any such statements, including risks and uncertainties associated with the economic conditions in the commercial interiors industry and our expectations regarding our acquisition of nora systems, as well as the risks and uncertainties discussed under the heading, Risk Factors in Item 1a of the company’s annual report on Form 10-K for the fiscal year ended December 31, 2017 and quarterly report on Form 10-Q for the quarter ended July 1, 2018, which have been filed with the Securities and Exchange Commission.

We direct all listeners to those documents. The company assumes no responsibility to update or revise forward-looking statements made during this call and cautions listeners not to place undue reliance on any such forward-looking statements. Management’s remarks during this call also refer to certain non-GAAP measures.

The directly comparable GAAP measures as well as a reconciliation of the non-GAAP measures to the most comparable GAAP measures is contained in the company’s earnings release and Form 8-K filed with the SEC yesterday, each of which can be accessed in the Investor Relations section of the company’s website, www.interface.com.

Lastly, this call is being recorded and broadcast for Interface. It contains copyrighted material and may not be rerecorded or rebroadcast without Interface’s express permission. Your participation on the call confirms your consent to the company’s taping and broadcasting of it. Now I’d like to turn the call over to Jay Gould, CEO..

one, to fully integrate the nora sales team into the Interface family and to accelerate our cross-selling processes. Secondly was to advance our selling system transformation to ensure our 2019 route to market strategies were fully seated, and thirdly was to engage every frontline seller in our sustainability mission.

Climate Take Back, which is activated through our carbon neutral flooring program. I couldn’t be more excited about the talented team, the energy and the passion that we have to outperform our industry. I’m also excited that our innovation product pipeline promises to fuel our growth and help us win in the marketplace.

With that, I’d like to turn the call over to Bruce for a deeper dive into 2018 results. Bruce, please go ahead..

Thanks Jay, and good morning everyone. As a reminder, since we completed the acquisition of nora on August 7, 2018, we’ve incorporated nora into our metrics as of that date. In addition, please refer to the reconciliation tables in our press release to reconcile GAAP to non-GAAP figures referenced on this call.

Fourth quarter results included $12 million of nora purchase accounting amortization that impacted the gross profit line, and $1 million of nora transaction expenses recorded on the SG&A line.

In addition, we recorded $20.5 million of restructuring and asset impairment charges in the fourth quarter as part of our restructuring plan that we announced in December. I’ll discuss the restructuring plan in further detail shortly. Now let’s take a closer look at fourth quarter results.

Fourth quarter net sales were $337 million, up 27% over the prior year, and organic sales increased 2% year-over-year. Breaking down our revenue into more detail, LVT drove organic growth as we lapped an incredibly strong fourth quarter last year in our carpet business, and nora contributed $71 million of sales in the quarter.

Organic sales in the Americas were up 1% compared to the fourth quarter last year and in EMEA organic sales grew 6% year-over-year in local currency, or 3% in U.S. dollars.

Organic sales in Asia Pacific were down 4% compared to fourth quarter last year, driven by Australia which was lapping a very challenging comp with double digits in the fourth quarter of last year. In our global market segment, growth was driven by corporate office, education, and hospitality in the fourth quarter.

Q4 gross margin was 36.1%, which included $12 million of nora purchase accounting amortization. Adjusted gross margin was 39.6%, a 140 basis point year-over-year improvement on that line.

Later in the call, we’ll provide gross margin guidance, but the headline is our productivity initiatives are on track in our core carpet tile business, LVT margins continue to be strong, and nora is providing some accretion.

SG&A expenses were $97 million in Q4 and adjusted SG&A, which excludes $1.2 million of nora transaction costs, was $96 million or 28.5% of sales, which was right in line with expectation as we strike the balance between investing in the business for future growth while also managing and optimizing our SG&A spend.

Fourth quarter operating income was $4 million compared with $31 million in the prior year period. Adjusted operating income was $37 million, up 21% compared to $31 million last year.

In Q4, we recorded net income of $6 million or $0.11 per diluted share compared to the net income of $4 million or $0.07 per diluted share in Q4 of last year, and adjusted net income was $24 million or $0.41 per diluted share versus adjusted net income of $20 million or $0.32 per diluted share in Q4 of last year.

Again, this represents a 28% increase in adjusted EPS year-over-year. Adjusted EBITDA was $54 million in Q4 of 16% of sales compared to $41 million or 15% of sales in Q4 of last year. This represents a 32% increase in adjusted EBITDA and 100 basis points of improvement in adjusted EBITDA margin.

Turning to the full year results, net sales were $1.2 billion in 2018 - that was up 18% compared with $996 million in 2017. nora contributed $113 million of sales in the year and organic sales were up 7% over the prior year. Gross margin was 36% in 2018.

Excluding nora purchase accounting amortization, adjusted gross margin was 38.7%, which was consistent with our expectations. SG&A expenses were $328 million or 27.8% of sales, and adjusted SG&A expenses, which exclude $5.3 million of nora transaction expenses, were $322 million or 27.3% of sales, which again was consistent with our expectations.

Full year operating income was $76 million in 2018 compared to $112 million in 2017, and adjusted operating income was $134 million in 2018, up 13% versus adjusted operating income of $119 million in 2017.

Net income was $50 million or $0.84 per share in 2018 compared with $53 million or $0.86 per share in 2017, and adjusted net income was $89 million or $1.49 per share in 2018 compared with adjusted net income of $73 million or $1.18 per share in 2017. This represents a 26% year-over-year increase in adjusted earnings per share.

Moving to the balance sheet and cash flow statement, we ended the year with $81 million of cash on hand, $619 million of debt, and strong liquidity with $286 million available under our revolving credit facility.

As discussed, our net income was $50 million in 2018 and our adjusted EBITDA for 2018, as you can see from our press release, was $186 million. This adjusted EBITDA only includes nora contribution for the stub period in which we owned nora in 2018.

As you can see in our press release, our pro forma adjusted EBITDA, which includes 2018 adjusted EBITDA for nora for the full year as if we had closed on January 1, 2018, was $210 million. Net debt was $538 million at the end of 2018.

Interest expense was $6 million in fourth quarter compared with $2 million in Q4 of last year, and full year interest expense was $15 million in 2018 compared to $7 million last year. These increases were due to the financing of the nora acquisition with debt.

Depreciation and amortization was $39 million of the year compared with $30 million last year. Capital expenditures were $55 million in 2018 compared to $30 million last year. Now I’m going to talk a little bit about the restructuring plan.

As previously announced, we adopted a new restructuring plan in December of 2018, and as part of that plan we recorded a $20.5 million restructuring and asset impairment charge in the fourth quarter. The charge was comprised of $10.8 million of severance, $8.5 million of asset impairment charges, and $1.2 million of other charges.

The plan includes the write-down of certain obsolete, under-utilized and impaired information technology and manufacturing assets.

On the IT side, this is specifically related to our sales transformation work as we implement our new CRM platform and retire our old and obsolete CRM system, and on the manufacturing side this is all in keeping with our supply chain excellence initiatives as we continue to re-engineer and modernize our manufacturing operations.

Through our strategic review process, we also identified a few key areas where we need to more closely align our people with our strategy, resulting in a reduction of approximately 200 positions globally, and the roles we’re eliminating are located around the globe and in a variety of functions.

Part of this realignment includes the relocation and consolidation of our Interface and nora offices in the U.K. We are not closing any plants. We are relocating an office in the U.K. to get closer to our customers. This goes back some time, but we still had an office and sales resources located in a former factory site at Shelf in West Yorkshire.

We’re closing this office and relocating those positions to Birmingham and London to streamline operations and to get closer to our customers.

There are gross savings generated by this plan, but as we optimize SG&A, we’re going to redeploy those dollars and align resources to the company’s strategy, hence we’re going to reinvest essentially all of the anticipated savings from these actions to areas of the company that can drive incremental growth and continue delivering on our strategic pillars.

These investments will start immediately in 2019, yielding negligible net savings on the company’s income statement. In addition, our overall staffing levels will remain essentially flat to 2018 levels as we reinvest in growth.

We expect to be substantially complete with this plan in the first half of 2019 and we’d be happy to take more questions on this topic during the Q&A portion of our call. Now I’d like to turn the call back to Jay..

organic sales growth from carpet and LVT of 2 to 4% and total net sales growth, including nora, of 16 to 18%. Secondly, adjusted gross profit margin of 40 to 40.5%, which represents 130 to 180 basis points of margin expansion, and adjusted SG&A expenses of 28 to 28.5%.

Full year interest and other expenses are projected to be $28 million to $29 million, which includes interest expense related to funding of the nora acquisition. The full year effective tax rate is anticipated to be approximately 28% as we incorporate a full year of nora on the P&L.

Capital expenditures for the full year are forecasted to be $65 million to $75 million. This includes approximately $35 million of maintenance capital plus investment capital to fund productivity initiatives that yield gross margin expansion, additional sales productivity, and other attractive initiatives that are fueling our value creation strategy.

I would say that fiscal year 2019 looks very solid; however, like last year, our quarterly delivery will be choppy. Q1 adjusted EPS will be down versus prior year by $0.13 to $0.16, and this is driven by three factors. First, we held a global sales summit that cost us $0.10 per share. This is a one-time non-recurring expense in SG&A.

Secondly, nora cost us $0.07 in the quarter versus last year. For the full year, nora will generate an incremental $0.10 EPS, so that means in quarters two through four we expect $0.17 EPS from nora.

Our organic growth rate in the first quarter will be 1 to 2% versus our full year outlook of 2 to 4%, and total full year growth including nora of 23 to 27%. Given our momentum, 2019 looks really promising. The midpoint of our building blocks shows double-digit EPS growth.

I know many of our analysts are attending the Builder’s Show in Las Vegas, but James, could you open the line up for questions, please?.

[Operator instructions] Your first question comes from the line of Kathryn Thompson from Thompson Research Group. Go ahead, please, your line is open..

Hey, good morning, this is Brian Biros on for Kathryn. Thanks for taking my questions. Wanted to ask about LVT for the year. I think previous guidance was $50 million for 2018, and I think last quarter you guys said you were on track or even maybe a little ahead of that pace. Just wanted to see where that came out for the full year.

I assume you hit the target, maybe even exceeded it. Any color on how that shaped out would be appreciated. .

Yes, we did exceed it. You probably know that product lines aren’t a reporting category for us, but I’ll give you a couple data points, Brian, so you can triangulate that. I think we’ve said previously that we did $25 million in 2017 of LVT, and that LVT represented roughly half of our 7% organic growth this year, so call that roughly $35 million.

If you add those two numbers together, you come up with a neighborhood of $60 million, which is a pretty good guess..

And Brian, I’d just add - this is Bruce, we continue to be on track as we look forward to 2020. We want the LVT business to be a $100 million business by 2020, so as you think about prospectively what does this mean for Interface, you can kind of draw a straight line from where we are here to our 2020 goal.

We feel really confident in achieving that goal right now. The LVT business is doing extremely well..

Got you. I think that addressed my next question, that would have been what would the target be for 2019, but I guess the $60 million this year, looking at $100 million in 2020, straight line would be $80 million for 2019.

Is that a rough way to think about it?.

That’s a good way to think about it, and I think that we’re well on track to be on those numbers..

Got you.

Last one from me, for the organic guide for 2019, similar to the same question, could you add any color on how that breaks out between LVT and carpet, whether that’s even between the two or is LVT really driving the sales and carpet is steady? What does that look like for you guys?.

Brian, this is Bruce Hausman. It’s relatively half and half. That’s our expectation, is we’re going to get about half that growth out our carpet and about half that growth out of LVT. .

Sounds good, thank you..

Your next question comes from the line of David MacGregor from Longbow Research. Go ahead, please, your line is open..

Yes, good morning guys. Can we dig in on the first quarter and the investments that you said you’d come back to in the Q&A section? Could you just provide some elaboration, and then I’ll have some follow-up questions. .

Sure. As I said, there were three things that we did in the first quarter that brings our EPS outlook down from the $0.25 we delivered last year.

One was this global sales summit, so we brought our people together to really fully integrate nora into the Interface family, so in most markets around the world, that means the nora people are actually fully integrated in our selling structure.

In markets of scale, so in the U.S., Germany and China, the organizations are still separate but we have working processes together to drive collaborative selling. That was one reason.

The second reason is to really make progress on our route to market strategies and how we’re using our new selling methodology, which we call Interface Advance, which is showing great promise by the way, I’m super excited about the productivity that we’re driving through our selling organization. You and I talked about this in the past, David.

Thirdly--sorry, the second thing that impacted us quarter over quarter was that nora cost us $0.07, and that’s driven off of nora’s seasonality. nora makes no operating income in the first quarter and we have $7 million of interest expense, so that’s a step back year over year.

Again, we fully expect to achieve incremental $0.10 a share for the full year, which means in quarters two, three and four, we’ll generate $0.17 combined. The third thing impacting us year over year is just slower growth in the core because we’ve got some big overlaps from last year. Full year, we expect core growth in the 2 to 4%..

So if I just recap that, David, it’s $0.10 from the global summit - again, a one-time non-recurring investment that we made in the quarter, $0.07 due to seasonality related to nora which we’re going to pick back up in Q2, Q3 and Q4, it’s just a temporary difference inside the year, and then $0.03 for seasonality in the legacy Interface business.

Recall we had a huge Q4 of last year that we’re lapping. We are still projecting to have good solid growth in the core for the year. It’s just the timing of when it’s coming in from a quarterly spread perspective this year..

Okay.

I realize you’ve gotten away from reporting orders, but would you talk about just general trends and whether you’re seeing acceleration or deceleration?.

We actually did put that in our press release because we got a lot of pushback in not reporting orders, so fourth quarter--.

At the end of the fourth quarter, orders were up 4%..

Yes, quarter over quarter up 4%, organic. .

Okay, and what percentage of your wins this quarter would have included LVT, and how does that differ from a year ago?.

Well, it continues to grow - I’ll say that as a starting point. One of the things we’re finding is LVT is really helping us open doors, particularly in education. We’re expecting to have a big education year in 2019, which is one of the reasons why we’re more bullish as we head into the second quarter, and we’re seeing some early wins on that. .

Okay.

Can you talk about your free cash flow expectations for 2019?.

Sure. David, we don’t normally give guidance as a number, but what we do is we give the building blocks.

If you take the building blocks of how to build the income statement that Jay spoke to and that’s in our press release around the top line growth, the margin structure, the SG&A, and then obviously interest expense, you’re going to obviously come up with a net income number.

Depreciation and amortization will be roughly $45 million next year - you can add that back, that’s obviously a non-cash item, but then the cash item that hits the cash flow is $65 million to $75 million of capex next year, and roughly $35 million of that is maintenance capex and the rest is the investments that we’re making in the business as part of--that’s obviously generating this productivity gain..

Okay.

How are you thinking about future deleveraging of the balance sheet, and are there targets for 2019 and 2020?.

Yes, I’m sure you did the math. On a pro forma basis, our leverage ratio is 2.5, and we continue to be in a great position to continue delivering down to a 2-ish type of number by the end of the year. We feel really, really good about the strength of the balance sheet.

We feel really good about our capital structure, the strength of that, around the liquidity that we have, the availability around the revolver, and we feel really good about our optimization of capital and our ability to de-lever as well as invest in the business simultaneously. .

Okay, great. Thanks very much, guys..

Your next question comes from the line of Michael Wood from Nomura Instinet. Go ahead, please, your line is open..

This is Ryan Cohen on for Mike. Just a quick clarification.

The 4% organic order growth, that was quarter over quarter or year over year?.

Quarter over quarter..

Okay, perfect..

Fourth quarter of ’18 over fourth quarter of ’17..

Yes, so year over year growth..

Okay.

Then is it fair to say you’re seeing improving order trends so far in January and February?.

They’re on track, yes..

Okay, and then just maybe your thoughts quickly on price cost in 2019, what’s going on with benzene and labor?.

Well, what I would say is the combination of productivity and pricing will yield about $20 million. We’re anticipating about $10 million of inflation, so net-net we’re expecting from the combination of those three things about $10 million of improvement..

And Ryan, that’s the all-in number. That’s benzene, that’s all of our raws. We’re looking at about a $10 million number, which we’re going to--as Jay just mentioned, we’re going to offset with productivity initiatives and other means. .

Thank you..

Yes, things like pricing. .

Again as a reminder, if you’d like to ask question, please press star followed by the number one on your telephone keypad. Your next question comes from the line of Keith Hughes from SunTrust. Go ahead, please, your line is open..

Thank you, this is actually Judy in for Keith.

Just to follow up on the last question, was you input cost inflation about where you thought it was in 2018, around $8 million to $10 million, similar to what you expect for 2019?.

Yes Judy, this is Bruce. I’m delighted to tell you that input cost inflation in 2018 was exactly where we thought it would be. There were no surprises. We came in right on track, and again we were able to offset that through productivity and pricing initiatives, which was a great outcome. Obviously, you can see that on our gross margin line. .

Okay, great. In the fourth quarter, you highlighted the gross margin improvement, the productivity, and also the nora accretion.

Can you expand on what the major drivers you see for getting to 40% in ’19 and the ultimate 42% goal for 2020?.

Well, the primary driver is actually our U.S. manufacturing optimization project, which is we’re now in our third year of three years and doing that, so we plan to complete that project. That’s a big driver of our savings for next year..

Okay, great. Thank you..

Thanks Judy..

There are no further questions at this time. I turn the call back over to our presenters..

Well, thank you once again for your participation. Very excited at how we ended 2018, off to a solid start in 2019, and we think it’s going to be another very good year for us. Appreciate your continued investment into the company. Thank you very much..

This concludes today’s conference call. You may now disconnect..