Leslie Kratcoski - IR Michael Callahan - President, CEO & Director Howard Goforth - VP, CFO & Treasurer.

Keith Hughes - SunTrust Robinson Humphrey Michael Dahl - RBC Capital Markets Matthew Bouley - Barclays Bank Noah Merkousko - Stephens, Inc. Matthew McCall - Seaport Global Securities Michael Wood - Instinet.

Greetings, and welcome to the GMS Second Quarter 2019 Earnings Call. [Operator Instructions]. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Leslie Kratcoski, Investor Relations. Thank you. You may begin..

Thank you, Michelle, and good morning, everyone for joining us this morning for GMS’ earnings conference call for the second quarter of fiscal 2019 ended October 31, 2018. I'm joined today by Mike Callahan, President and CEO; and Doug Goforth, CFO.

In addition to the press release issued this morning, we have posted presentation slides to accompany this call in the Investors section of our website at gms.com.

Turning to Slide 2, on today's call, management's prepared remarks and answers to your questions may contain forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995.

Forward-looking statements address matters that are subject to risks and uncertainties, many of which are beyond our control and may cause actual results to differ from those discussed today. As a reminder, forward-looking statements represent management's current estimates and expectations.

The company assumes no obligation to update any forward-looking statements in the future. Listeners are encouraged to review the more detailed discussions related to these forward-looking statements contained in our filings with the SEC, including Risk Factors section in the company's 10-K and other periodic reports.

Today's presentation also includes a discussion of certain non-GAAP measures. The definitions and reconciliations of these non-GAAP measures are provided in the press release and presentation slides.

Note that references on this call to second quarter and fiscal 2019 relate to the quarter ended October 31, 2018, and the fiscal year ended April 30, 2019, respectively. With that, I'll now turn the call over to Mike Callahan.

Mike?.

Good morning, and thank you for joining us today. We will begin today's call with a review of our operating highlights and then Doug will cover our financial results in more detail. We will then open the line for your questions. Turning to Slide 3.

We reported a strong fiscal second quarter, highlighted by 8.7% of organic sales growth across our portfolio, a testament to the strength and balance of our product offering. We generated 3.7% growth in organic wallboard revenue.

I am also pleased to share that we shipped over 1 billion feet of wallboard during the quarter for the first time in the history of our company.

We also saw continued strength in our ceiling sales, which increased 10% organically during the quarter as well as strong organic sales of steel framing, which grew approximately 22% quarterly year-over-year.

From a profitability standpoint, we generated a 60% year-over-year increase in adjusted EBITDA to a record $87.1 million for the second fiscal quarter.

This improvement was driven by the contribution of a full quarter of Titan results, increased operating leverage, including benefits from the cost savings initiatives undertaken earlier this year, continued pricing improvement and favorable lease accounting changes. Let me touch on a few of these items in more detail.

While there has been a slowdown in residential housing starts in Canada, Titan continues to be very accretive to our consolidated operating results and the integration is progressing well as we continue to work closely with key suppliers to generate purchasing synergies and take advantage of our scale and the power of our North American platform.

With respect to purchasing synergies, while the process has taken a little longer than we expected, we believe that we are on track to exceed our original $10 million estimate for fiscal 2020 and we continue to look for even more synergies with our cross-border suppliers and through other non-purchasing initiatives.

We have also made significant progress on our previously announced cost reduction initiatives as demonstrated through the 200 basis points of operating leverage achieved during the fiscal second quarter, which excludes the impact of the change in lease accounting.

Based on the roll out of some of the cost reductions, we expect to be at a full run rate of savings by January 1, 2019 and to realize the full benefit of this initiative in fiscal 2020.

Driven by improved profitability, we generated strong free cash flow of $88 million during the second quarter, which allowed us to reduce our leverage nearly a half turn from 4.2x to 3.8x.

As we’ve stated on past calls, we are focused on growing our top line, increasing our profitability, and managing our working capital efficiently to generate consistently strong free cash flow, which we intend to use to bring our leverage back below 3x by the end of fiscal 2020.

Given the strength of our cash flows, we are also committed to other capital allocation strategies to drive shareholder value. Now to this end, today, we announced that our Board of Directors approved the repurchase of up to $75 million of the company stock.

This reflects our commitment to returning capital to shareholders and confidence in our prospects for growth and value creation. We believe that the company's shares are an attractive investment and opportunistically repurchasing stock is an important part of maximizing returns on capital.

However, stock buybacks under this program will be balanced with our stated strategy of reducing our leverage and disciplined growth through acquisitions in greenfields, which is consistent with the targets that I described earlier.

This program contemplates that repurchases will be made from time to time on the open market at prevailing market prices or in negotiated transactions of the market. Related to the health of our end markets, we continue to see positive indicators across the R&R, residential, and non-residential markets.

As we mentioned on the last call, industry conditions continue to stabilize in wallboard and we expect our market share to remain stable moving forward.

We also expect to see continued strength in organic revenue growth in our ceilings, steel framing, and other product categories, reflecting our confidence that we had a well-balanced portfolio that is built for growth.

Now looking to the balance of fiscal 2019 and beyond, we remain committed to growth with an emphasis on profitability and free cash flow generation. We intend to put this capital to work to delever our balance sheet, grow the business to drive long-term shareholder value, and opportunistically repurchase our common stock.

And with that, I will turn it over to Doug for a more detailed review of the financial results.

Doug?.

Thanks, Mike. We appreciate everyone joining us today. We were pleased to deliver a strong second quarter highlighted by record net sales and adjusted EBITDA performance and very strong free cash flow generation.

Looking at Slide 4, we grew net sales 28.7% to $833.8 million and increased base business sales during the quarter by 8.7% compared to the second quarter of last year.

Wallboard net sales increased 16% to $335 million in the second quarter compared to the same period last year, including 3.7% growth on an organic basis, driven by strong pricing gains. Our second quarter ceiling sales increased by 16.5% year-over-year to $118 million.

This includes a 10% increase in the base business, driven by continued growth in ceiling volumes, price, the benefit from acquisitions and share gains. Steel framing sales increased during the quarter by 31.5% year-over-year to $136 million, driven by a 21.9% increase in our base business.

The main drivers of growth were stronger commercial activity, pricing improvement and the positive impact from acquisitions.

The recent addition of Titan further expands the breadth of our product offering as net of by $245 million in sales of other products, which represents a 58.4% increase compared to the second quarter of last year, including an 8.5% increase in our base business, highlighting the success of our efforts to continue to grow this high margin product category.

Gross profit increased over 26% to $268 million on higher sales including the positive impact from Titan. While gross margin declined by 60 basis points to 32.2% on a year-over-year basis, it improved 20 basis points on a sequential basis.

The year-over-year decline was primarily due to higher product cost that were mostly offset by higher selling prices as well as changes in product mix.

And as you can see, we were still able to expand our EBITDA margins, which is our primary focus through disciplined pricing, organic operating leverage, and contributions from Titan as well as other acquisitions.

Rising product costs, including two wallboard increases, multiple steel and ceiling grid increases, as well as various freight surcharges for a variety of product had made this a challenging year to pass through 100% of each increase.

But as our top of class margins demonstrate, we have done a good job of managing our price and controlling our product costs, and specifically in terms of wallboard, we feel good about our ability to capture both price and volume moving forward.

We reduced our adjusted SG&A as a percentage of net sales by 270 basis points year-over-year to 21.8% in the quarter.

70 basis points of the reduction was driven by our changes to lease accounting, and the remainder was driven by strong organic leverage, aided by the cost reduction initiatives taken during the fiscal year and favorable contribution from Titan. These improvements were partially offset by continuing inflation pressures, primarily in logistics.

As we've discussed, we've made significant progress on our cost reduction initiatives and plan to be at the full run rate by January 1. As discussed on previous calls, in the first quarter, we amended the majority of our operating leases to capital leases.

This change provided an SG&A benefit of 70 basis points or approximately $5.9 million during the second quarter and we expect it to favorably impact our fiscal 2019 adjusted EBITDA by $23 million. We delivered $87.1 million in adjusted EBITDA in the second quarter, up 61% year-over-year from $54.2 million in the prior year quarter.

Adjusted EBITDA margin was 10.5% as a percentage of sales. Turning to Slide 5. As of October 31 and after the Titan acquisition, our pro forma net debt to LTM pro forma adjusted EBITDA stood at 3.8x up from 2.8x pre-transaction. We were pleased to reduce our leverage ratio by nearly a 1/2 turn from 4.2x as of July 31, 2018.

We intend to continue to delever through strong free cash flow generation. As a reminder, our current leverage ratio post-Titan compares favorably 2014, when our leverage ratio was 6x, as well as just prior to our May 2016 IPO, when it was 4.3x.

Our balance sheet remains healthy with $52.9 million of cash on hand and $262 million available on our ABL facility. Now let me turn the call back over to Mike before we open the line up for questions..

Thanks a lot, Doug. Just a few additional comments before we open the line for questions. We are pleased with our second quarter performance and remain very confident in our ability to deliver our third consecutive year of record sales and adjusted EBITDA in fiscal 2019.

We are also confident in the overall health of our end markets and see continued growth opportunities across our product portfolio going forward. Titan is performing very well. Our great network of GMS employees in both the U.S.

and Canada will continue to deliver the outstanding service to our customers that we believe will deliver profitable growth over time to our shareholders. And with that, operator, we are now ready to open the line up for questions..

[Operator Instructions]. Our first question comes from the line of Keith Hughes from SunTrust..

So, I guess given the just tremendous gains you've had in SG&A, with the year-over-year decline, is that something we would see in the last two quarters of this year? Is that kind of the run rate what we are looking at?.

The SG&A though -- what you -- the numbers that you saw specifically in the second quarter were still going to -- a little bit away from the final run rate on the savings that'll all be in place by January 1, but for the most part, it should be pretty comparable. As we've discussed before, about half of our costs are relatively fixed.

So, if you look at whatever sales are projected to be and kind of model it out that way, it should be pretty close using second quarter as a benchmark and with a little bit of improvement starting in the late third quarter..

And you're referring to what the year-over-year decline, just used that year-over-year decline is going to be something close to that? Is that correct? At first ....

Well I think, I will have to go back and look at specific numbers, Keith. I don't really have the actual percentage change year-over-year for -- I haven't really looked at that..

Okay. And then on gross margin, you've talked about the reasons for the decline.

On the product cost, were you able to fully offset inflation from your suppliers with price increases or were there still some drag in this number?.

Yes. There was definitely a little bit of drag here. We worked aggressively, but as you know, there is always timing issues between the increase and when you can fully realize it, so there was a little bit of drag..

And will we continue to see that for the rest of the year as well, and that we had a pretty big increase, realized on some of the manufacturers in our earnings releases?.

I would say right now, but I think generally speaking, we're fairly stable right now. And as you know, though there is an increase been announced for wallboard in February, for now, I think that the things are relatively stable..

Okay. And I guess a final question on, you talked about the outlook in commercial and with some slowdown here in residential, if you look at -- I need to get a little bit of a lead time here from your commercial customers.

How far ahead in the backlog can you see -- or how far ahead can you see for strong business continuing as you said in the prepared remarks?.

I'd tell you Keith, to me, that's kind of the real positive going into calendar '19. As it's based on the activity that we have already undertaken in terms of committed volumes as well as looking ahead, I mean you look at six months, nine months down the road easily with both committed backlog as well as quote activity right now.

So while there might be a little bit of softness or a little bit of noise around say single-family res, my view on commercial is that that's going to be the bright spot for '19 and we've got good visibility on that..

Our next question comes from the line of Mike Dahl with RBC Capital Markets..

Mike, just to pick up on the last question around end markets.

I was hoping you could just give us a sense of percentage wise, what you're expecting from your different end markets? Obviously, the -- you just mentioned single-family new res and we can all see, kind of, what's going on and some of the builders or a lot of builders are turning negative there from a volume standpoint.

So just a little more detail around what's your outlook from an organic standpoint for some of these end markets?.

Well, I would say on the single-family front, I mean we've already established some pretty good forward-looking numbers with the national homebuilders, so we kind of know what our outlook there is.

And I would say, generally, the house counts that we're looking at are worst slap and are up a little bit on the single-family front and I think that's a pretty good indicator.

On the commercial front, as I mentioned, we've got very, very solid backlog going into calendar '19, and really that gives us very good momentum and good traction going into the year in that regard.

And as I look towards Canada, where clearly there has been a little bit of slippage on the single-family front, if I look at high-rise multifamily and high-rise commercial and based on our conversations cross-border with the team up there, we remain optimistic, it's going to be a solid market.

There's just a little bit of slippage on the single-family side, yes, but the backlog really throughout the country is quite promising. So it's single-family, yes, there is some noise there, but the other segments and the R&R pieces in both segments I think are going to be very positive..

That's helpful color. The second question I had, I think you mentioned that competitively speaking, the share environment settling down and you expect your share to be stable.

What -- do you think you maintained share in this past quarter? And what do you think is driving, kind of, the better or more stable environment from a competitive standpoint?.

Mike, this is Doug. I think that once again, that we see a little bit of share in the current quarter or at least calendar quarter through the end of September, there is a lot of noise in the Gypsum Association numbers.

But what we saw in our fiscal quarter is our volumes were actually up pretty strong in August and then when all the weather hit particularly in September and October, where you had not only the hurricanes but also record rainfall in Texas, we tailed-off a little bit.

So we feel pretty good about moving forward, particularly over the next 2 to 3 quarters that we're going to trend back towards in line with the market and stock seating share but we're also going to continue to be able to get price..

Okay. Great. And that kind of dovetails into my last question, which is really around the weather.

What's your best estimate as far as how much you lost in terms of shipments or dollar revenues due to the rains and the hurricanes?.

Well, I mean weather definitely affected our Q2 results just like it did last year, but it wasn't material to our overall results and it's something that we're used to managing through. So we don't really have any specifics to share other than that..

Our next question comes from the line of Matthew Bouley with Barclays..

I wanted to ask about the capital allocation priorities, now that you have the buyback here.

You were clear that this is going to be kind of balanced and opportunistic but is there any kind of signal in there about how you're thinking about M&A at this point? Or maybe any changes in the M&A market that you've seen that would be driving this in part?.

No. I think the keyword is balanced. I think we don't really have a myopic strategy to do one thing or setting those singularly. I think the key for us is to look at delevering is priority one, there's no question about it, that's been very clear.

In the calls we've had in the past and conversations with investors that we need to delever, but at the same time, when you look at the current price of the stock and the fact that there are some opportunities to create value there at the right time and right opportunity, we will react to that.

And then on the acquisition front, we continue to have active dialogue with a number of companies out there that are looking to transfer ownership down the road. So you -- it's -- the key is balance.

We're going to be very measured, we're going to very deliberate and opportunistic in all three of those areas, but priority one is to delever and we will continue to focus on that and as we move forward..

Okay. Appreciate that. And then secondly, I guess following up on the discussion around single-family residential.

Mike, is there maybe any kind of prospective you can give on historically in these periods when you've seen some potential choppiness? I mean how you've seen that kind of competitive dynamic evolve in these type of environments? And then even on the other side, maybe how the M&A market tends to evolve as you see some potential slowing?.

Well, I think as we've talked about it already, this is a very competitive market as it is and if there is a little decline in single-family then I would anticipate that that level of competitive intensity would continue, but reality is, this is still a relationship business.

And the quality of delivery, the quality of service, the knowledge of the customer base still carries a lot of weight and value regardless of whether it's single-family or commercial with the like. So I think that does help to provide continuity even when you do have some choppiness in the market segments.

So I've -- we've had a deal with that for 47, 48 years and as kind of standard playbook in our view..

Okay. And then just lastly. Did you mention how....

I'm sorry Matt, you mentioned about the M&A too. Missed that part.

Doug?.

It actually may create some additional opportunities on the M&A front -- I mean some folks may be sitting on the sidelines and the business gets a little tighter or a little more challenging, it might actually open up some more opportunities. So I don't consider that to necessarily be a negative as it relates to M&A..

Okay. Got it. Yes, appreciate that comment.

And then I just wanted ask quickly, did you mention trends into November following the weather issues in September and October?.

No. We haven't specifically talked about the current quarter..

Okay.

Is there any quantification you can give around that?.

It's a little early, it's just ended over the weekend so I really wouldn't want to throw anything out on that at this point..

Our next question comes from the line of Trey Grooms with Stephens Inc..

This is Noah Merkousko on for Trey Grooms. And I just had a quick housekeeping item.

How are you guys thinking about CapEx for the year?.

No change than what we've previously talked about, including Canada about $18 million to $20 million a year..

Our next question comes from the line of Matt McCall with Seaport Global Securities..

So a couple of follow-ups quickly.

You've talked about price cost drag in the quarter, can you give -- put some numbers behind that, how far were you behind? And then how does the timing change of the announced price increases for 2019 kind of change the price cost expectations in your outlook?.

Yes, well I mean the fact that it's a February increase versus January is a little bit different. I think there's obviously going to be some -- it's going to be interesting to see what if any pre-buy takes place and the timing of that relative to that increase.

But I think the good news is, February is closer to the peak sale season as opposed to January. So maybe that will give us a little bit of momentum going into the increase. The standard conversation around that is that price inflation or cost inflation continues, whether it's through labor, material, synthetic, Gypsum, you name it.

So I think there is, pretty solid momentum or at least initiative to drive the price up in February. And -- but we'll really have to wait and see. This is kind of unique timing when compared to past increases and have to wait and see how it shakes out..

Okay. And then the quantification of the price cost gap in Q2.

How much of a drag was it?.

Well I'd say for the most part, we were able to pass most of it through on price increases. But as Mike alluded to earlier in the call, I think where our gross margin is right now is probably a reason for expectation moving forward at least for the next couple of quarters.

Although we are aggressively working on some different cost programs, particularly as we enter into our calendar year programs that start January 1 to try to improve upon that, which is in the past, we've generally had a lot of success doing..

Okay. Okay.

And so -- and then similarly on the SG&A, you talked about some of this kind of taking longer, [indiscernible] what have you recognized? And what is the timing I think -- I'm trying to find my notes, what you said about when you're going to see it all, but how much of it do you recognize as of Q2? And what's the timing for the remainder?.

We realized -- in the second quarter, we realized probably about $4.25 million of the earnings. So including the savings that we've got, we got some amount of savings in Q1 as well.

I think we'll probably for this fiscal year, end up around the low end of the previous range that I provided, which was $15 million to $16 million and then for fiscal '20, the full $20 million and still working on opportunities to increase that..

[Operator Instructions]. Our next question comes from the line of Michael Wood with Nomura Instinet..

First question, I wanted to just ask about the comment you made about the purchasing synergies taking longer.

Just curious of why they are taking longer? And what you're finding in the initial discussions in terms of the amount relative to your expectations?.

Well, typically, the perching program Doug just alluded to, they run on a calendar basis. And so some of the programs that we are negotiating from the synergistic standpoint were actually wrapping up the program for '18 and going into '19. So the incremental growth, the incremental negotiation for synergies, kind of, carry over into 2019.

So while we definitely achieved some synergies already, fundamentally, we're kind of looking forward and the good news is that we are going to exceed. We're very confident we're going to exceed our initial goal of $10 million.

In fact, I literally am leaving today to go have a negotiation session with our friends in Canada and spent a day up there on some -- with some key vendors..

Okay. Good to hear.

And how should we expect to see the impact of the lower fuel prices? Will that be a modest margin benefit going forward? And fuel surcharges for example, will they go away fairly immediately?.

No. I mean -- particularly we are, our sales were quick to try to raise prices, try to be able to be a little slower and lower in prices. Where we get the main benefit is where at least immediately is lower diesel prices, fuel prices for our own fleet, which runs through SG&A..

Okay. And another question on working capital. I know you were a little heavy previously with the inventory before the pre-buy post to pre-buy, and it seems like you worked that down a bit.

Is that now back in balance? Should we expect more seasonal cash flow conversion going forward?.

We were happy with our improvement but we still -- there's still opportunities there. We've got our wallboard returns back to about 13%, but over the last several years, we've been running at 14%. So I think there's still room to improve there..

There are no further questions at this time. I would like to turn the call back over to Mike Callahan for any closing remarks..

Thank you all for joining us today. We're very excited about where we are today and the success of this quarter. And we look forward to updating you on our progress in the coming quarters. Have a good day..

Thank you. This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation, and have a wonderful day..