Good morning. My name is Lori, and I will be your conference operator today. Welcome to Luxfer 2019 Fourth Quarter Earnings Conference Call. All lines have been placed on mute. After the speaker's remarks, there will be a question-and-answer session. Now, I will turn the call over to [Mary Reid] from Luxfer. Mary, please go ahead..

Thank you, Lori. Welcome to Luxfer's fourth quarter 2019 earnings call. We're happy to have you all with us today. I'm [Mary Reid]. And with me today is Alok Maskara, Chief Executive Officer; and Heather Harding, our Chief Financial Officer.

On today's call, we will provide details on our fourth quarter 2019 performance as outlined in the press release issued yesterday. Today's webcast is a company via presentation that can be accessed at luxfer.com. Please note any references to non-GAAP financials are reconciled in the appendix of this presentation.

Before we begin, a friendly reminder that any forward-looking statements made about the company's expected financial results are subject to future risks and uncertainties. Please refer to Slide 2 of today's presentation for further details. Now, let me turn the call over to Alok..

defense, first response and healthcare, transportation, and industrial. For the year, 33% of our sales came from defense, first response and healthcare end markets. As a reminder, this end market has strong growth in 2018 because of large disaster release replenishment sales, following the multiple hurricanes in 2017.

Since there was no large land for hurricanes in the U.S., in the last two years, our sales in this end market declined in 2019.

The total annual sales decline of 11.8% in this end market included the impact of exiting lower margin fire extinguisher products, and slightly lower SCBA sales resulting from the NFPA certification delays in the second half of 2019.

Sales in this end market were also negatively impacted by timing issues related to medical oxygen cylinder sales in Europe. We remain optimistic about the long term growth prospects of this end market. While this end market is typically weaker during the U.S.

presidential election years, we are currently expecting any election year weakness to be offset by the recent award from the U.S government for our decontamination products manufactured in the Cincinnati facility.

For the year, 31% of our sales came from the transportation end market, which consists of aerospace, alternative fuel trucks and buses, and passenger auto. As a reminder, the Czech recycling business that was divested in the second quarter was serving the German passenger auto end market.

The numbers presented here excludes the impact of this divestiture. For 2019, sales grew 1.8%, as strong alternative fuel sales more than offset the decline in Superform sales for European luxury passenger auto.

If we were to exclude the Superform decline, sales in this segment grew more than double digits in 2019, due to the growth in alternative fuels for trucks and public buses. We expect this trend to continue in 2020.

Finally, 36% of the sale came from the industrial end market where our 2019 sales have been negatively impacted by broad-based industrial slowdown in both U.S and Europe. For 2019, total industrial sales declined 9.6%, which includes a 65% decline in SoluMag sales.

With SoluMag de-stocking compete at the end of 2019, we are pushing for share gain in our industrial product lines to offset the ongoing weakness in manufacturing ISM. We are likely to experience difficult year-over-year comparison in the first half of 2020 given the current environment.

However, we remain confident in the strength of our value proposition and will strive to offset the micro weakness to share gains in our Catalyst, Graphic Art and Magtech product lines. Now, please turn to Slide 5, for a review of how we are driving differentiated profitable growth to offset the macro weakness.

Two of our recent successes include the growth in our alternative fuel product lines and growth in our chemical kit supplied to U.S. military for decontamination and testing purposes.

In the alternative fuel space, over the past two years, we have developed enhanced technical capability and manufacturing capacity for advanced large diameter, lightweight cylinders used for compressed natural gas and hydrogen.

In addition, we have increased our controls and system assembly technology in Europe to provide our customers with integrated bus systems using our cylinders. Our new technical and manufacturing skills, combined with sales excellence, have enabled us to more than double the sales of this product line over the past two years to three years.

We expect groups to continue as cities across the world continue to replace the legacy bus fleet with environmentally friendly CNG or hydrogen-based vehicle. In addition, we can also benefit when companies like UPS, Waste Management and Amazon.com invest in environmentally friendly CNG trucks.

For chemical response kits, we have increased our production capability at our newly expanded Cincinnati facility, which also manufactures Flameless Ration Heaters and HeaterMeals. These chemical response kits are manufactured using proprietary processes and raw materials for decontamination and testing applications.

These products are used by the U.S. military, emergency response management agencies and industrial customers. We have a strong value proposition for these products. And for 2020, we are expecting these chemicals kits to deliver incremental sales, as we fulfill recent award from U.S. military.

Some of these awards are likely to renew and deliver recurring revenues for the next three to five years. More broadly, beyond these two examples, we are driving differentiated growth by increasing innovation, commercial excellence, and building talent.

As part of Luxfer's business excellence, we have introduced a more disciplined new product introduction process that allows us to deliver new products faster. As a result of these changes, our revenue from new products introduced, in the past five years, is now at 15% of total sales compared to approximately 11% in 2016.

We aim increase this number to above 20% by 2024. As part of driving commercial excellence, we have standardized and digitized our global sales process using salesforce.com. This standardization allows us to better understand our end-user needs and make database decisions for sales targeting and pricing.

In addition, we have started using Net Promoter Score process to increase customer retention and drive growth. Our current Net Promoter Score is roughly 45%, which is about a 15% increase since 2016. We expect to add 15 points to the score by 2024.

Building our base of talented individuals is very important for us to accelerate our growth as well as for succession planning given the aging workforce. We are getting stronger as we add more talent to pursue new customers and new applications. To improve our service to customers, we've also on-boarded new operational talent.

And as a result, currently 18 of our 14 manufacturing leaders are new to the company or new in their roles. Our newly strengthened team has a lean mindset, does always puts the customer first, which is one of our core values. Now, please turn to Slide 6 for an update on our transformation plan launched two years ago.

Overall, we have delivered substantially on our transformation plan. In 2019, we completed Phase I, which was focused on simplification, and we continue to make great strides in Phase II, especially as we execute our productivity and culture enhancement initiatives.

We have also moved into Phase III, which is focused on growth and continuous improvement. As part of Phase I, in addition to simplifying our capital market structure, we have simplified our portfolio by divesting three small unprofitable businesses, and have also exited two loss making joint ventures.

As part of Phase II, in addition to refreshing our Board, we have implemented pay-for-performance plan across the company. We have also recently completed culture refresh training for the vast majority of our 1,600 employees to reemphasize our values, including accountability and always putting our customer first.

Regarding the cost benefits of the transformation plan, we delivered $9 million in savings in 2018 and $5 million in savings in 2019. Going forward, we expect to further reduce costs by $6 million in 2020, and achieve our cumulative cost reduction goal of $24 million by 2021.

On the investment side, the largest outflow of cash occurred in 2019 and is associated with a consolidation of our facility in France. We expect to invest another $10 million to $12 million in 2020 followed by $2 million to $3 million in 2021.

Overall, the transformation plan continues to have an attractive 2-year payback and have been making a significant impact on Luxfer’s bottom line. Please turn to Slide 7 for highlight of our long-term performance. There are several positive outcomes from the transformation plan initiated in 2017.

We continue to grow organic revenues on average 3% despite challenging macro trends, especially in the industrial and oil and gas segments. We are pleased that all key financial metrics; revenue, adjusted EBITDA, adjusted EPS and ROIC are significantly higher than they were in 2017, even though FX has been a headwind over the past two years.

This achievement is due to our unrelenting focus on cost and our commitment to organic growth through innovation and enhancement of our go-to-market approach. With an average annual growth of 3%, we have expanded our EBITDA margin by almost 10% per year over the same period.

The resulting EPS and ROIC have each grown over 20% on an annual basis during the past two years. Overall, I am proud of our long term performance. Now, let me turn the call over to Heather Harding, Luxfer's Chief Financial Officer, for details on our current financial results..

Thanks, Alok, and good morning, everyone. I'm going to start by reviewing fourth quarter financial results on Slide 8. Fourth quarter reported sales of $99.5 million, declined 10.3%. Excluding the impact of the Czech recycling divestiture, core sales declined 7%, relative to the fourth quarter in 2018.

SoluMag sales continued to decline, and we feel confident that the customer destocking is now complete. Consolidated adjusted EBITDA for the quarter of $12.7 million was down $3.3 million, or 20.6%, from the prior year.

Despite the volume declines, the company continued executing on the transformation plan and delivered $1.3 million of net cost reductions despite the impact of $1.5 million in legal costs related to legacy liabilities. This brings our full year total net cost reductions to $4.9 million.

For the quarter, gross profit margin remained fairly flat at 21.8%. We identified an internal control material weakness as a consequence of an ERP implementation in one business unit in Q4. We are actively taking steps to remediate the issue.

However, there was no financial impact and our financial statements fairly represent our financial condition, financial results and cash flows. More information is contained in Item 9A in the Form 10-K to be filed with the SEC. Let's look at the summary of full year performance on Slide 9.

Full year sales of $443.5 million declined 7.1%, excluding the impact of the Czech divestiture. This sales declines primarily due to lower SoluMag demand coupled with weaker industrial activity and lower demand for Superform luxury auto products. EBITDA $68.1 million declined 14.4%, primarily due to the sales decline.

You can see price actions offset most of the higher inflationary pressures and the $4.9 million of cost reductions offset unfavorable effects. Now let's look at our Elektron segment results on Slide 10. In the Elektron segment, fourth quarter sales of $46.6 million declined 14.8%.

Excluding the divested Czech recycling business, which accounts for $3.9 million in sales, core Elektron sales declined 8.3%. The decline is primarily due to lower industrial activity, including SoluMag, with partial offsets from growth in chemical response kits and military powders. Segment EBITDA of $7.3 million declined $2.6 million, or 26.3%.

For the quarter, the leverage from the volume decline was impacted by the lower sales of higher margin SoluMag products. Elektron delivered net cost reductions of $1 million in the quarter. Now let's turn to the Cylinder segment results on Slide 11. Net sales for the Gas Cylinder segment declined 5.9% to $52.9 million.

The volume decline is due to lower sales in industrial aluminum cylinders and Superform products, partially offset by continued year-over-year growth in alternative fuel cylinders. Fourth quarter adjusted EBITDA of $5.4 million declined 11.5%. Strong execution on cost reduction initiatives partially offset legal costs related to legacy liabilities.

Let's look at our key balance sheet and cash flow metrics for year-end on Slide 12. We ended 2019 with a strong balance sheet. Net debt totaled $81.2 million at the end of the quarter and our net-debt-to-EBITDA ratio was 1.2 times.

We delivered $15.8 million of free cash flow in the quarter using approximately $2 million in cash for restructuring activities. As a reminder, restructuring cash costs for the full year totaled $24.5 million, and we expect to spend approximately half of this amount in 2020.

Our restructuring spend was in line with expectations, and we made modest improvement in our sequential working capital performance. We are continuing to execute our working capital initiatives to further improve performance in 2020. On a trailing 12-month basis, we delivered a strong ROIC from adjusted earnings of 16.5%.

Our balance sheet remains solid, and we are well positioned for attractive free cash flow in 2020. So let's talk a little more about free cash flow on Slide 13. As you can see from this graph of our 3-year performance, 2019 was a tough free cash flow year. We consumed almost $25 million of cash in restructuring for latest to our transformation plan.

In addition, volatile macro conditions made it challenging for us to execute our working capital plan. This resulted in negative reported full year free cash flow of $8.1 million.

For 2020, we will return to stronger past generation as we expect to spend $10 million to $12 million on restructuring activities and have realigned our working capital improvements to coincide with the current market environment. So in terms of 2020, I'd like to review various elements of guidance on Slide 14.

Clearly, the current market environment remained challenging from macro conditions to broader global concerns. For 2020, we are projecting revenue of $420 million to $440 million. We expect to realize overall stability in the defense and first responder segment as new products offset anticipated election year softness.

Within the transportation segment, we anticipate continued strength and alternative fuel products to offset Superform weakness. And lastly, we expect industrial revenues to be lower given the weak demand. While the Coronavirus situation is very fluid, our guidance assuming that the disruption would not extend into the second half of the year.

As we continue our transformation plan, we expect to deliver $6 million in annual cost reduction. Therefore, our adjusted EBITDA is expected to be between $65 million to $73 million with the resulting adjusted EPS between $1.30 to $1.55.

We plan to deliver free cash flow of $20 million to $30 million, including approximately $10 million to $12 million of cash for restructuring activities. We remain cautious on our outlook for 2020, given the levels of uncertainty and volatility.

In our current planning, we expect a challenging first half of the year with Q1 adjusted EPS down approximately 30% to 40% from the prior year. However, during this tough time, we will continue our transformation plan to execute cost reduction, to drive share gains, and deliver higher cash generation.

Now I'll turn the call back over to Alok for a wrap-up..

Thank you, Heather. Let me wrap-up on Slide 15 by recapping that we solve niche attractive end markets with proprietary products and technology. Our transformation plan has delivered results and will continue to make a positive impact for the next few years.

After the transformation plan is complete, we have plenty of runways to create more shareholder value by deploying the Luxfer business excellence standard toolkit to drive continuous improvement in growth and productivity.

I want to thank all our employees around the world for their hard work and meaningful progress on our transformation plan and always putting our customer first. Thank you for listening. We will now take questions..

Thank you. [Operator Instruction] Our first question comes from the line of Chris Moore of CJS Securities..

Maybe just -- can we talk a little bit about Superform in terms of kind of your thoughts moving forward mid-term little further out, what's your thinking is there?.

Sure. I mean, I think, we have been working on a turnaround plan there, and we have made some great strides in getting our cost structure back in controls, looking at our contracts and renegotiating pricing so that we don't lose money on them. And that's all gone quite well.

Recently, some of the large customers like McLaren, Ferrari and others, they are facing significant slow sales because China used to be one of their big markets. So because the business is now become challenging again despite the lower cost structure.

Our goal remains, we'll serve our customers appropriately, and at the same time we want the profitability to stabilize and improve and continuously making a focus on that for now, given where we are with the overall dynamics for the market..

Got it. Helpful. And maybe just switch to SoluMag for a second.

Just kind of your current SoluMag thoughts, how much is -- of SoluMag is built into your guide for 2020?.

Sure. If, I mean, we ended the year at between $8 million to $10 million in SoluMag, which is consistent with what we were expecting, when we gave Q3 update. Currently, we’re expecting that number to remain flat. We're not making any growth. And I think that's a prudent assumption.

We are confident that there's no further downside, and we are confident that the destocking is complete..

Got it. On the DoD kits, the $6 million that we talked about for this year.

Is that spread relatively evenly? Is that more back-half loaded? Or how was that looking at this point?.

There's more back-half loaded, Chris. Given the start-up and given the demand pattern, it’s going to all have larger impact on the second half..

Got it.

And last question in terms of -- from a share buyback prospective, it sounds like you need shareholder approval and that's something that you'd be looking for in the May timeframe, something like that?.

Yes, our EGM is typically in the first week of June. And I think with that schedule, we’ll look for approval again and start the share buyback process after that, once we get the approval, which works well from a cash flow because like we won't have any need for restructuring cash in the second half either..

Your next question comes from the line of Sarkis Sherbetchyan of B.Riley FBR..

Thanks for taking my question here. So on the guidance slide -- thanks for all the detail there. Just had a quick one on the free cash flow for the year of $20 million to $30 million. Does that include the cash impact of the restructuring cost? I think you called out $10 million to $12 million for the year..

Yes, it does. So the $10 million to $12 million is inclusive in the $20 million to $30 million guidance..

And as far as any additional working capital assumptions for 2020, how do we think about that? And how that relates to the free cash flow number?.

Right. So -- we finished the year with our -- we have a metric called operating working capital. It's on our slides. And we finished the year at 24.9%. As we move into 2020, we expect to improve that. We believe our entitlement should be somewhere around 20% to 21%.

And while our current initiatives don't get us fully all the way back to that target, it gets us part of the way is how I think you should think about that when building in your free cash flow assumption..

Understood.

And does that relate more towards inventory? Can you maybe help us understand that?.

Yes, you're right. The primary driver, especially in the area of the improvement is around inventory. Certainly, last year with facility moves and some of the market volatility and softness inventory is where, we saw some deterioration from the prior year performance and it's where we've really focused our improvement efforts going into 2020..

And Alok, if I can pick your brain on some of the end-market trends you're seeing real-time, and I think you mentioned some of the success with the alternative fuel products and certainly the chemical response kits kind of called out for this year to offset the defense spending, which might be softer given it's an election year.

What are you kind of seeing real-time from the other end markets that you feel either are additive or potentially more challenging?.

I mean, given all the noise around Coronavirus, you've probably heard from other companies, it's quite uncertain. So if I take an – like from industrial, obviously, ISM is stabilizing globally, but it's not up like it's just being stable right now. So I think that's something that we feel.

I don't know what the February numbers taken into the March numbers would come out, but it's all around 50, and some of the sentiments of customers seem to be weaker. They are concerned about their own sales into China. In defense, we've maintained that typical election year’s softness will occur. We have seen no signs of that pattern reversing.

And we are confident that our new products like the decontamination kits will take over and offset any weakness there. And finally in transportation, we remain bullish on alternative fuel. So while the Superform luxury auto could be challenging, so alternative fuel trend continues to be good.

And after, we continue to invest in more technical capabilities, more capacity and remain bullish. I think our hesitancy is all around what are the unknowns out here and where things might turn, especially with all the sentiments around Coronavirus..

Thanks for that. And just wanted to kind of link this back up to your EPS side. So $1.30 on the low range, $1.55 on the top range, and it sounds like you've considered all this that you've kind of commented on.

So what does it take to go to the low-end versus the high-end of that range?.

I think we -- one thing we are confident of is controlling our internal execution and delivering on all our commitments. The range simply reflects our uncertainty on the external macro, whether the macro improves in the second half or they do reduce in the second half. I think that's probably the biggest uncertainty here Sarkis..

[Operator Instructions] Your next question comes from the line of Phil Gibbs of KeyBanc..

Just in terms of the Corona impacts, Alok, can we just talk about what those are? I mean, I know you buy a lot of your raw materials and Elektron from China, and then you obviously sell a little bit into China.

So, I mean, are we talking about the fact that you might have production disruptions regionally outside of China and have difficulty? Or deferring some of your sales to your customers? Or is this more of a direct impact in China? So I'm just trying to square up what the true impacts actually are for you because you've got some uniqueness in your supply chain..

Yes, absolutely. So I think, Phil, as we you think about it, I think of this as in three buckets, right, the Coronavirus impact. Let's take the easiest one for us, which is direct sales. Our direct sales in China is less than 1% of our sales. So we expect some impact there, but it's really not going to be much easier. The second aspect is indirect sales.

So if we supply something to a luxury automotive customer in Europe, and they supply to China, they’re facing weaknesses there and some of them are shutting their factories for four to six weeks. So that does impact us across the board. That also includes larger customers, large industrial, multinational or big customers. So we understand some of it.

I don't think we understand it fully at sales, and only time will tell on where we land up with that, right? Third one, which is a more of an immediate impact for us is supply from China. We buy a lot of our raw materials and it turns out many of our suppliers based in U.S. also buy quite a bit of their raw material or ingredients from China.

And that's a place which is kind of making even a near-term impact on us. It was just shortage of products coming in from China. They've calling supply chains assumptions, where we might have healthy orders in the pipeline, but our fulfillment is going to be delayed because we just can't get the product.

That’s the three different buckets we look at it. It's very hard for me to come back and say it like what's the exact impact going to be, hence, the broad range in guidance..

In terms of just how the year starts with the impact probably being pretty strong in the first part of the year. I know that seasonality in Q1 and 4Q was subdued.

Should we anticipate that Q1 should be less than the normal seasonality relative to Q4 because of these issues?.

Yes. And I think Heather may have referenced that in our project. We think Q1 is going to be quite weak. On an EPS basis, it’s probably be 30% to 40% down compared to last year, because I think that's bearing the brunt of the disruption right now..

Okay. And in Q4, I think you had mentioned in your remarks and then also in your slide deck. There was a one -- call it, $1 million to $1.5 million impact from what you would call the legacy liability accrual or some something like that. It was split between the segments.

What was that tied to? And is this something that's going to be recurring?.

Well, it should not be recurring. There were two separate incidents. Back in 2016, we had a customer that had faced bankruptcy. That's a way before our time and we had thought -- put that issue behind us. But I guess, recently, we had an adverse ruling on some mobile payments we received from the customer post-bankruptcy.

We were caught off-guard, and about half of the reserve is simply for that. We don't think it's fair and we are clearly going to appeal, but we are required to book that reserve based on the 2016 bankruptcy and on the ongoing legal challenges on that.

Second one is a product liability related to an incident back in 2018, which, again, got to a stage where, like we thought it was prudent to book a reserve. Again, our product was not at fault.

We are confident that we are doing all the right things, but at the same time, prudent to book the result given potential opportunity to settle and avoid legal costs. But no, we don't think those should be recurring, Phil. And why -- we don't exclude it from our numbers either for that reason..

Did you have a cash outflow associated with this? Or are you just reserving it against the potential that you may have on?.

On the cylinder incident, we had paid some legal fees, but those were expensed earlier in the year. But the number in Q4 is simply a result on both cases..

Thank you. At this time there are no further questions. I will now turn the call to Alok maskara for closing comments..

Thank you all for joining us today, and for your continued interest in Luxfer. Appreciate it..

An encore recording of this conference call will be available in about two hours. Telephone numbers to access the recording will be available on Luxfer website at www.luxfer.com. Thank you for joining us today. The next regularly scheduled call will be in May of 2020, when the company discusses its 2020 first quarter financial results.

This ends the Luxfer's conference call..