Unifirst Corp  (NYSE: UNF) Q3 2020 Earnings Call Transcript

Unifirst Corp  (UNF) Q3 2020 earnings call dated July 01, 2020

Corporate Participants:

Steven S. Sintros — President and Chief Executive Officer

Shane F. O’Connor — Senior Vice President and Chief Financial Officer

Analysts:

Andrew Steinerman — J.P. Morgan — Analyst

Andrew Wittmann — R.W. Baird — Analyst

Sam Kushner — William Blair — Analyst

Presentation:

Operator

Greetings, and welcome to the Third Quarter Earnings Conference Call. During the presentation, all participants will be in a listen-only mode. Afterwards, we’ll conduct a question-and-answer session. [Operator Instructions]

I would now like to turn the conference over to Steven Sintros, President and Chief Executive Officer. Please go ahead.

Steven S. Sintros — President and Chief Executive Officer

Thank you, and good morning. I’m Steven Sintros, UniFirst’s President and Chief Executive Officer. Joining me today is Shane O’Connor, Senior Vice President and Chief Financial Officer. We’d like to welcome you to UniFirst Corporation’s conference call to review our third quarter results for fiscal year 2020. This call will be on a listen-only mode until we complete our prepared remarks, but first, a brief disclaimer.

This conference call may contain forward-looking statements that reflect the company’s views with respect to future events and financial performance. These forward-looking statements are subject to certain risks and uncertainties. The words anticipate, optimistic, believe, estimate, expect, intend and similar expressions that indicate future events and trends identify forward-looking statements. Actual future results may differ materially from those anticipated, depending on a variety of risk factors. For more information, please refer to the discussion of these risk factors in our most recent form 10-K and 10-Q filings with the Securities and Exchange Commission.

I want to start the call by saying that our thoughts go out to all the individuals and businesses, continuing to be impacted by the coronavirus pandemic. This is an unprecedented time for our company, the country and the world, and first and foremost, our thoughts are for the safety and well-being of all those dealing with the impact of this virus.

It goes without saying that the company’s focus in the third quarter centered around our pandemic response efforts, including our top priority of ensuring the safety of our Team Partners, while continuing to provide our value-added services to the many essential businesses in our communities. We as a company as well as our customers continue to adapt to the practical challenges of operating in this ever changing environment. I want to sincerely thank our Team Partners for the tremendous effort they put forth and continue to put forth ensuring that they are taking care of each other and our customers during these challenging times.

During the quarter, our results were most impacted by customer closures, primarily the result of state mandated shutdowns of non-essential businesses. In addition, we have been dealing with higher than normal reductions of wearers and customers who have remained open or recently reopened. Part of this impact has been driven by the decline in the demand of oil and the corresponding reduction in business activity in the energy dependent markets that we service.

During the quarter, customer closures peaked in mid-April, causing the weekly revenues of our core laundry operations to be down about 18% at that time, from the weekly revenue run rate in the weeks of February and March immediately preceding the disruption. From that point in April until last week, revenues have been steadily — have steadily recovered to the point where last week’s revenues were down about 8% from pre-pandemic run rates. This recovery was primarily fueled by the reopening of businesses. In addition, we have also benefited from the increase in sale of personal protective equipment, primarily face masks and hand sanitizers and soaps. Of the revenue shortfall that remains, businesses that remain closed or limited, such as restaurants, business services, hotel, schools and entertainment are prominently represented. As I’m sure you can appreciate, it remains a fluid environment with many states recently reporting increases in many of the metrics that you’re using to measure the status of the virus spread. As a result of the evolving nature of the pandemic and its impact on our communities, our ability to assess the financial impact on our — the ability to assess the financial impact on our business continues to be limited. As a result, we are not providing guidance for the remainder of fiscal 2020.

With respect to the third quarter results. Consolidated third quarter revenues were $445.5 million, a decrease of 1.8% over the same quarter a year ago. The overall shortfall in revenue was mitigated by a large direct sale of $20.1 million to a large healthcare customer as well as strong revenues from our First Aid segment.

Our consolidated operating margin was 6.2%, and was impacted by the revenue shortfall in our US and Canadian laundry operations as well as numerous costs related to our COVID-19 response efforts. For example, we instituted certain compensation programs to mitigate the impact of our revenue decline on our service teams’ wages as well as to show appreciation to all of our front-line workers for their continued dedication and commitment during the early months of the pandemic. These programs are temporary in nature and we currently expect that they will begin to phase out in the fourth quarter. Shane will take you through the details of our financial results shortly.

Although we instituted some reduction in labor and cost containment during the quarter, based on the evolving situation with our customers, our financial strength and our desire to support our employees during these difficult times, we were patient in our approach. We will continue to be patient as we work to get our arms around the longer term impact of this pandemic. In the meantime, we will continue to support our employees, our customers, and make decisions in line with improving our business in the long run.

Despite all of the events of the quarter, we continue to generate positive free cash flows and ended the quarter with $421.3 million in cash and cash equivalents on hand and no debt on our books. As a result, we believe we are well positioned to deal with the adversity that we are facing related to the coronavirus pandemic.

In addition, the pandemic has clearly highlighted the essential nature of our products and services. We believe the need in the demand for hygienically clean garments in work environments positions our company well to support the evolving economic landscape. Like many businesses, we expect the quarters ahead to be uneven in bumpy, but we are confident in the company’s position to weather the storm and take advantage of a broad economic recovery.

And with that, I’d like to turn the call over to Shane, who will provide the details of the results of our third quarter.

Shane F. O’Connor — Senior Vice President and Chief Financial Officer

Thanks, Steve. As Steve mentioned, consolidated revenues in our third quarter of 2020 were $445.5 million, down 1.8% from $453.7 million a year ago. And consolidated operating income decreased to $27.7 million from $60.2 million or 54.0%. Net income for the quarter decreased to $21.3 million or $1.12 per diluted share from $47.2 million or $2.46 per diluted share.

Our Core Laundry Operations revenues for the quarter were $388.4 million, down 2.8% from the third quarter of 2019. Core Laundry organic growth, which adjusts for the estimated effective acquisitions as well as fluctuations in the Canadian dollar was negative 3.2%. During the quarter, our revenues were mostly impacted by customer closures related to the coronavirus pandemic as well as related reductions in workforce for customers who remained open. The company was able to partially offset these declines with a $20.1 million direct sale to a large healthcare customer as well as increased safety and PPE sales. The result of our customers increased focus on maintaining a hygienically clean and safe work environment for their employees and patrons.

Core Laundry operating margin decreased to 5.1% for the quarter or $19.7 million from 13.4% in prior year or $53.4 million. The segment’s profitability was affected by many items, including the impact of the decline in rental revenues on our cost structure, a higher cost of revenues related to the large $20.1 million direct sale and additional costs the company incurred related to the pandemic. Some of the more notable items include merchandise amortization, which is expense that is recognized related to rental merchandise that has been placed in service, was up significantly as a percentage of revenues. This is because our merchandise in service is amortized on a straight-line basis over the estimated service lives of the related merchandise, which average approximately 18 months. Although our new garment additions into service were down significantly in the quarter, the amortization expense was little changed because of the amortization of prior period expenditures.

As Steve discussed, our number one priority during the quarter was the safety of our employees. And we sourced a significant amount of safety supplies for internal use. Over the last few months these products were in high demand and prices were significantly higher than they had been prior to the pandemic. These prices have recently started to normalize and as a result, we expect that the costs we will incur in subsequent periods will be dramatically less than our current quarter. We incurred additional costs related to certain employee compensation programs we instituted during the quarter, also discussed by Steve, and some of these programs will continue into the fourth quarter of 2020.

As of last week, our weekly revenues were down about 8% from pre-pandemic run rates, primarily related to customer locations that remained closed. During the quarter, the company recorded additional reserves for uncollectible accounts receivable, primarily due to the increased risk that these customers will be able to pay their outstanding balances. These items were partially offset by lower incentive compensation due to revised expectations of the company’s growth and profitability in fiscal 2020 as well as lower health care, energy, and travel related costs as a percentage of revenues. Energy costs decreased to 3.4% of revenues in the third quarter of 2020 from 4.2% in prior year.

Revenues from our Specialty Garments segment, which delivers specialized nuclear decontamination and cleanroom products and services, decreased to $36.2 million from $37.3 million in prior year or 3.1%. This decrease was largely due to lower direct sale activity in the quarter, partially offset by growth in our cleanroom and European nuclear operations. The segment’s operating margin increased to 17.6% or $6.4 million from 14.4% or $5.4 million in the year ago period. This increase was primarily due to bad debt recovery from a customer in bankruptcy and lower travel-related costs. These items were partially offset by higher merchandise expense and costs incurred responding to the pandemic, including employee compensation and amounts paid for internal use safety supplies. As we’ve mentioned in the past, this segment’s results can vary significantly from period to period due to seasonality and the timing of nuclear reactor outages and projects that require our specialized services.

Our First Aid segments revenues increased to $20.9 million from $16.6 million in prior year or 26.0%. This increase was primarily due to increased demand for the segment safety and PPE offerings. Operating margin decreased to 7.8% from 8.4%, primarily due to higher merchandise costs as a percentage of revenues.

We continue to maintain a solid balance sheet and financial position, with no long-term debt and cash, cash equivalents and short-term investments totaling $421.3 million at the end of our third quarter of fiscal 2020. Cash provided by operating activities for the first three quarters of the fiscal year was $205.4 million, an increase of $6.0 million from the comparable period in prior year.

For the first three quarters of fiscal 2020, capital expenditures totaled $91.2 million. We continue to scrutinize our capital expenditures due to ongoing uncertainty related to COVID-19. As we move through the remainder of our fiscal year, we will continue to evaluate the timing of our growth-related capital expenditures, taking into consideration the revenue recoveries that we continue to see.

During the quarter, we capitalized $3.3 million related to our ongoing CRM project, which consisted of license fees, third-party consulting costs, and capitalized internal labor costs. In the first three quarters of our fiscal year, we have capitalized a total of $9.9 million related to this project.

During the third quarter of fiscal 2020, we repurchased 46,667 shares of common stock for a total of $7.5 million under our previously announced stock repurchase program. The company has not repurchased any additional shares since early in this fiscal quarter, due to the uncertainty related to COVID-19. As of May 30, 2020, we had repurchased a total of 314,917 shares of common stock for a total of $52.3 million under the program.

This concludes our prepared remarks. And we would now be happy to answer any questions that you may have.

Questions and Answers:

Operator

Thank you. [Operator Instructions] Our first question comes from the line of Andrew Steinerman with J.P. Morgan. Please go ahead.

Andrew Steinerman — J.P. Morgan — Analyst

Hi. So obviously I heard you say that last week was minus 8% from pre-pandemic levels, would you be willing to tell us kind of what that means on a year-over-year basis? And if you can, just give us a little sense of how those year-over-year declines had narrow from that peak period in April. Year-over-year?

Steven S. Sintros — President and Chief Executive Officer

Yeah, good question Andrew. I don’t have that numbers specifically in front of me, I would say that as we came into the quarter, pre-pandemic, we would have been looking at call it 3.5%, 4% growth in the quarter. And so when you get down to the week by week level late in the quarter, it’s hard to give you a real firm number, but it’s probably fair to say that if we’re down pre- –down 8% from the run rate going into the pandemic that year-over-year, the last month of the quarter, a few weeks of the quarter, I should say you know, it was probably down 5% or so.

Andrew Steinerman — J.P. Morgan — Analyst

5% year-over-year?

Steven S. Sintros — President and Chief Executive Officer

Yeah, something like that. And when you look earlier in the quarter, you can make similar judgments, in the peak when we were down 18% year-over-year that probably meant like 15% or 14.5% or something like that.

Andrew Steinerman — J.P. Morgan — Analyst

Okay, thank you.

Steven S. Sintros — President and Chief Executive Officer

Thank you.

Operator

Our next question comes from the line of Andrew Wittmann with Baird. Please go ahead.

Andrew Wittmann — R.W. Baird — Analyst

You all seem fine. The pace of reopening is the question that I think a lot of companies are getting and certainly you kind of identified what that rate from — down teens to down [Indecipherable] last week. Are you seeing any leveling off in the pace of recovery in most, is it slowed down the V-shape this fiscal — happening and do you expect — are you expecting more to continue here or is this kind of the new right?

Steven S. Sintros — President and Chief Executive Officer

It’s interesting if you’d asked me the question two weeks ago, it might have been a little different. I think two weeks ago, we were seeing a pretty steady recovery, slow and steady I would say, and last week we had our lowest week of re-openings that we had since the recovery started. We do expect the leveling at some point, it’s unclear whether this last week, it’s only been one week of a little bit lower re-openings, whether that’s from some of these states pausing their reopening efforts or whether we’re hitting sort of critical mass with the businesses that remain closed and whether those — some of those may be longer term fallout. I think it’s a mix of both. We are staying in close contact with the customers that remain closed. And I think many were optimistic in phases of the state reopening plans that they were able — they would be able to come back in some capacity. And now you’re seeing a little more pause in that — in that thought process, particularly in some of the Southern states where you’re seeing the rise in claims. So I think we’re in a little bit of even more uncertain time may be today than we were — or what we thought we were maybe two or three weeks ago.

Andrew Wittmann — R.W. Baird — Analyst

That’s helpful. Inside of that, you mentioned that obviously add stops are trending negatively, that’s not a surprise. But I’m just wondering inside of accounts that are open and are doing business, how the trend of add stops has been there? Are employers continuing to shed employees as they are kind of adjusting to the new normal or what can you say about that specifically?

Steven S. Sintros — President and Chief Executive Officer

I think there is certainly some of that. I mean, I think when you’re seeing and we track it every week because we’re tracking your credits related to customers that were closed. So if you have a customer who is closed and it was doing a $1,000 a week and then they reopen, are they reopening at $1,000 a week or during that time or are they only bringing back half the employees. We are seeing some of that. I would say most are reopening at decent levels and they’re trying to evaluate like we are. I think they’re trying to be as patient as they can like we are. So I think it’s a mixed bag, but the revenues have held reasonably well compared to the reopening, meaning that there are reductions for sure at quite a bit higher than normal levels. But I think people are taking wait and see approach and I think that’s part of our caution is depending on how long the disruption continues and the demand for products and services, will people be able to hold those employment levels or make further decisions. Just like — just like we’re looking at right now.

Andrew Wittmann — R.W. Baird — Analyst

Got it. I have two more questions that I think people want to hear the answers to. And I recognize that this first of my two questions following up is a little bit tricky to answer, but you’re performance here in the quarter with your revenues markedly better than what the largest company in the sector reported in their updates in May. And I was just wondering, given your overall sense of the market, do you believe that you’re taking share or do you think that this is more, maybe a reflection of end market mix that you might have versus some of your peers?

Steven S. Sintros — President and Chief Executive Officer

Yeah, I certainly think it’s a mix — mix situation as it relates to the quarter. We do continue to sell new business, I have been impressed by the resiliency of the sales team and that the fact that there are customers out there still making some of those decisions. Sales activity is down as you’d expect, but there was activity happening, but that’s not be the reason for the better performance. It’s really a mix issue. Our exposure to restaurants and hospitality and so on, although we have some, I think just isn’t as high as some of the other participants in our industry.

Andrew Wittmann — R.W. Baird — Analyst

Okay, that’s helpful. And then really my last question, trying to dig into the margins a little bit more. I mean you called out in the press release at AR — you mentioned that there was not a lot of adjustments in the cost structure, but some. I mean there had to be a lot of things in the quarter that — that frankly were in there and you guys report GAAP and not adjusted, and so I guess maybe the simple way to ask the question is, is how indicative is the margin performance of this quarter based on what you think could actually be happening in the future? Or similarly asking, like what do you see is the incremental drop through or decremental margins to the operating line? Either way, answer that question I think it’d be helpful to give us some context.

Steven S. Sintros — President and Chief Executive Officer

It’s an important question and we understand it. I think it’s — it’s a difficult one to answer. I think this quarter itself. I wouldn’t look at as very indicative. I think that’s probably the short answer to the question because partially based on what you said or what we said, with respect to the merchandise. Just to put in perspective, the merchandise. The demand for garments in the quarter was down significantly, now that started to rebound some for sure, but it was down, far more than our revenues. So if you look at the quarter, just as a snapshot from sort of a cash perspective on the merchandise, we would had a benefit in terms of cash impact of merchandise compared to our revenue decline. Now that’s recovering some, but we are expecting, we would expect for example merchandise to broadly come in line with revenues as you moved forward. When you get into the rest of the P&L there’s just, there really are just too many moving parts in the quarter to fully unwind here on the call, but I will say and Shane alluded to in his comments, a number of the cost in the quarter, we wouldn’t expect is being high moving forward. We did do some headcount reductions really in the later part of the second month of the quarter. So the impact of those weren’t really felt and would be felt more in the fourth quarter, but you know as quick — quick as we did some reductions, I mean we’re hiring some of those people back in markets where were the business has recovered. So there is a lot of — a lot of moving pieces. We also received good benefits in the quarter from things like energy cost and travel cost and some other things.

And so I would say the short answer, it’s not very indicative to say where it’s going to fall out moving forward. There’s just too many moving parts to kind of put a margin forecast on right now. We’d like to think it would be better, right, because we had on balance more unusual cost in the quarter than benefits, but a lot of that depends on what goes on with the recovery, what goes on with the employment situation and so on so. I know not a fully baked answer, but hopefully gives you some flavor.

Andrew Wittmann — R.W. Baird — Analyst

Thanks.

Operator

[Operator Instructions] Our next question comes from the line of Sam Kushner [Phonetic] with William Blair. Please go ahead.

Sam Kushner — William Blair — Analyst

Hey, guys. Quick question on the 8% comment maybe. In areas that have reopened first, what are service levels at compared to the pre-COVID levels? Maybe just kind of separating that comment you made by geography would be helpful.

Steven S. Sintros — President and Chief Executive Officer

Yeah, I think what you’re asking is of the businesses that have reopened, similar to the question before, how much — how much capacity or revenues did they bring back compared to what they had before. We really don’t have that breakdown. I think many have opened at near full employment, but we are seeing higher reduction level. So we don’t have that metric kind of broken out in the way that you’re — that you’re asking for their. You asked about geographically because we’re diverse across the country, across a lot of industries, you really can’t look at our revenue by geography and match it up pretty closely to what you’d expect. I think earlier on, the closures in some of the Southern states weren’t great and they came back quicker. But now, some of them are pausing and we’ve seen some small level, I will say of re-closures or request for businesses to cancel or pause service whereas in the Northeast, for example, it was — the closures were deeper and the recovery has been slower, but we’re continuing to see steady recovery. So, geographically it’s sort of what you’d expect looking at the broader impact of the virus across the country, but I can’t really give you the core answer of what you were looking for as far as how much capacity is reopened compared to before.

Sam Kushner — William Blair — Analyst

But still helpful, appreciate the commentary. And good luck in the next quarter here.

Steven S. Sintros — President and Chief Executive Officer

Thank you.

Operator

And we have no further questions.

Steven S. Sintros — President and Chief Executive Officer

Well, thank you everyone for participating in the call. We look forward to speaking with you again in the fall, when we will be reporting results of our fourth quarter. Thank you and have a great day.

Operator

[Operator Closing Remarks]