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Q3 2024 Universal Corp Earnings Call

Participants

Jennifer Rowe; Assistant Treasurer; Universal Corporation

Ann Gurkin; Analyst; Davenport & Company, LLC

Presentation

Operator

Good afternoon, ladies and gentlemen, and welcome to the Universal Corporation third-quarter fiscal year 2024 earnings conference call. (Operator Instructions) This call is being recorded on Wednesday, February 7, 2024.
I would now like to turn the conference over to Jennifer Rowe, Assistant Treasurer at Universal Corp. Please go ahead.

Jennifer Rowe

Thank you for joining us. George Freeman, our Chairman, President, and CEO; Airton Hentschke, our Chief Operating Officer; and Johan Kroner, our Chief Financial Officer, are here with me today and will join me in answering questions after these brief remarks. This call is being webcast live and will be available on our website and on telephone taped replay. It will remain on the website through February 7, 2024. Other than the replay, we have not authorized and disclaim responsibility for any recording, replay, or distribution of any transcription of this call. This call is copyrighted and may not be used without our permission.
Before I begin to discuss our results, I caution you that we will be making forward-looking statements that are based on our current knowledge and some assumptions about the future and are representative. As of today only. Actual results could differ materially from projected or estimated results, and we assume no obligation to update any forward-looking statements.
For information on some of the factors that can affect our estimates, I urge you to read our 10-K for the year ended March 31, 2023. Such risks and uncertainties include, but are not limited to, the impact of pandemic, customer-mandated timing of shipments, weather conditions, political and economic environment, government regulation and taxation, changes in exchange rates and interest rates, industry consolidation and evolution, and changes in market structure or sources.
Finally, some of the information I have for you today is based on unaudited allocations and is subject to reclassification. In an effort to provide useful information to investors, our comments today may include non-GAAP financial measures. For details on these measures, including reconciliations to the most comparable GAAP measures, please refer to our current earnings press release.
Universal Corporation again delivered strong financial and operational performance in the third quarter of fiscal year 2024. Operating income and net income for the quarter were up 13% and 28%, respectively, relative to the third quarter of fiscal year 2023, which helped increase our operating income and net income for the nine months of fiscal year 2024 by 20% and 13%, respectively, compared to the same period last fiscal year.
Our tobacco business continued to perform very well, driven by a favorable product mix and strong demand from our customers. Improved margins, larger crops in Africa, and strong tobacco shipments in line with our expectations benefited our results in the nine months and quarter ended December 31, 2023, compared to the same periods last fiscal year. As we continue to be encouraged by the solid progress, the team is making to expand our ingredients business. The investments we have made to build out the research and development and corporate sales teams are starting to gain momentum and have positioned as for future growth.
Some financial highlights for the nine months and quarter ended December 31, 2023. Net income for the nine months was $79.3 million or $3.17 per diluted share and was $53.2 million or $2.12 per diluted share for the quarter ended December 31, 2023. Excluding certain nonrecurring items detailed in today's press release, net income increased by $12.6 million and diluted earnings per share increased by $0.49 for the nine months and net income and diluted earnings per share increased by $12.1 million or $0.49 per share, respectively, for the quarter ended December 31, 2023, compared to the same period last fiscal year. Operating income of $153.8 million for the nine months ended December 31, 2023, increased by $25.1 million and operating income for the quarter of $87.5 million, increased by $9.9 million. Selling, general, and administrative expenses were up $21 million in the nine months on higher compensation costs and up $10.6 million in the quarter ended December 31, 2023, largely on higher compensation costs and unfavorable foreign currency comparisons compared to the same period last fiscal year.
Some highlights for our segment. Operating income for the Tobacco Operations segment increased by $29.9 million to $148.9 million for the nine months and by $10.5 million to $87.6 million for the quarter ended December 31, 2023 compared to the nine months and quarter ended December 31, 2022 Tobacco Operations segment operating income was up largely on higher prices and a more favorable product mix, partially offset by lower tobacco sales volume.
In the nine months and quarter ended December 31, 2023, African crops were larger and carryover crop shipments from South America were significantly lower compared to the same periods in fiscal year 2023. Operating income for the ingredients operations segment was $5 million and $2.2 million, respectively, for the nine months and quarter ended December 31, 2023.
In the quarter ended December 31, 2023, operating income for our ingredients operations segment was in line with results for the same quarter in the prior-fiscal year as incremental revenue and margin from the sale of new products offset the effects of market challenges for our core products and higher expenses resulting from the investments that we're making to position the segment for future growth.
Operating income for the segment for the nine months ended December 31, 2023, was lower as compared to the same period in the prior year, mainly as a result of lower operating income in the first quarter of the current fiscal year.
Data for the first quarter of fiscal year 2024. We're negatively impacted by customer inventory recalibration as we enter our last quarter of fiscal year 2024 global leaf supply for all types of leaf tobacco continues to be. And as of December 31, 2023, our uncommitted tobacco inventory was at a low level of 8%, while we expect global leaf tobacco supply to remain tight in fiscal year 2025, in part due to El Nino weather conditions. We believe the strength of our diverse global footprint will help us satisfy our customers' leaf tobacco needs with our Ingredients business. We are pleased with the progress we are making on an expansion of our processing capabilities at our ingredients facility in Lancaster, Pennsylvania. We expect those resources to be fully operational in the third quarter of fiscal year 2025 and positively contributing to our earnings as soon as fiscal year 2026.
Another important achievement in fiscal year 2024 has been the progress we made to advance Universal's global sustainability agenda. These include the December publication of our 2023 sustainability report, and our recently announced participation in a solar projects that we believe will help us meet our target to reduce operational greenhouse gas emissions by 30% by 2030. We are pleased with our sustainability Advancis, and we continue to seek opportunities to further promote sustainability in our business. We are proud of our performance thus far in fiscal year 2024. We believe our strategy of maximizing opportunities in our tobacco businesses by capitalizing on our industry leading market position in the primary exporting regions and our robust sustainability practices, while at the same time, investing for growth in our Ingredients business continues to serve us well demand for leaf tobacco and our relationships with our long-standing and diverse customer base remains strong and our position in the tobacco business can offer us opportunities in the future. We continue to make measured and thoughtful progress on our ingredients platform, and we are excited about the opportunities for our business. We believe that we are on the right path for a successful future.
At this time, we are available to take your questions.

Question and Answer Session

Operator

(Operator Instructions) Ann Gurkin, Davenport.

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Ann Gurkin

Good evening, everybody, and congratulations on good numbers.

Thank you, Ann.

Ann Gurkin

Also a big congratulations on your progress versus your sustainability goals that have looked well done. Lot of kudos to you all for achieving those goals and maybe having achieving them ahead of time.

Thank you.

Ann Gurkin

I wanted to start, if I may was on the ingredients segment to have a number of questions. So operating profit of 2.2 million from you just talked about highlights on sales of new products, but also sales of core products or existing products at lower margin and also some additional costs for investing for future growth. Can you break out those additional that cost component kind of what's an underlying operating profit number.
Okay, without that and investment cost in it for the ingredient segment, and as you will know, we don't break out individual pieces. However, what we can tell you is that, you know, you're now seeing a fairly complete are in the commercial group cost structure. And so we only have seen a glimmer of the benefits of these investments, and we expect it will take until 2026. As Jennifer said, do we see positive earnings from these? So as we told you previously, we're making some significant investments in the R&D area as well as in the commercial group. So but those investments, it will take a little bit of time for those to really show earnings on top of that. Of course, as Jennifer pointed out, the facility in Lancaster won't come online until later this year. And at that point in time, we will be able to actually produce that product. So again, it will take a little bit of time for us to get there. So we had a couple of weak quarters early on there is still some weakness in the core products, but we are seeing some of those benefits from these commercial folks deals that we have hired and especially the R&D that we pointed out where, you know, there are some new products that we have put out there, which will be more sticky, which add value which you margin up. So all that looks positive, but it's going to take a little bit of time for us to truly see the benefit of all these investments.
Okay.
So the sequential slowdown from Q2 to Q3, maybe is partially seasonal, but partially reflecting a step-up in these investments that kind of fair to think about it that, yes, that is fair. And that level of investment should continue Q4 20 to fiscal 2025. So we'll think about the margin kind of in the low single range going forward because the level of investments in the mix of business or how do I think about margin progression has expected it to continue to strengthen through fiscal 24 and then into 25, but is that thought process should that change that thought process?
Well, as I pointed out again, the platform, a commercial group, our R&D group is pretty much built out. So those costs are now baked in and, you know, you might have a person, you're a person there, but it means that those costs are in and they're going to be around for a while. And so the question there becomes how much more can you sell at the moment the capacity is limited?
Yes, we still have capacity on core products. But in order to sell these new products that we are going out selling with the R&D group with the help of the R&D group, you need to get that, that factory online, and that's not going to happen for a little bit. That's why we're saying it is going to take a little bit of time. Again, we had a weak very weak first quarter where we took some inventory write-downs because raw material prices were coming down faster than anticipated. We have we're sitting on a little bit of inventory there. So but in total, raw material prices are coming down. So from a revenue similar to tobacco when grain prices on tobacco come down, you just pass that on. So so we'll see where we end up with the margins. The margin percentages are holding up really nicely at the moment. And we only think that is going to it may be better in the future, again, because of the R&D, the stickiness of the new products that we're developing and all those things that come with this new investment we're making.
So what I think should be a high single-digit operating margin target for this ingredient segment business, have you thinking about that, hitting that target more in fiscal 20.
And I'm not going to give you an exact number, but we should see improvement in the future because, again, that's not otherwise, we wouldn't make these investments. These are sizable investments, and we need to see good returns on those investments.
And the pace of investments is it taking a little bit longer on for the investments in Lancaster out, you brought CapEx down a little bit. Is that a reflection of maybe the time line for investing in the Ingredients business? Or is there anything else to read into that?
It was a bit of a delay getting some of the approvals in Wendel. The facility comes online. You know, we have to do trial runs and we have to do some other things. So it's taking a little bit longer than anticipated. We're working as fast as we can. Everybody is screaming for product and until we can make it, we can sell it. So certainly everybody is fully aware that we want to put it on ice as quickly as we can. But we have to be conscious of, you know, being able to make the product right and everything being ordered in that facility.
And on the on the increase in sales force, I think some of the opportunity was there to cross-sell our product among customers? Are you achieving that any of that ability with your new product sales?
Yes, yes, we are, as we pointed out previously, again, with the help of the R & D group. We are using a people people from from the different companies that we bought to go to customers with Kraft. It products a little bit of a beverage, a little bit of a dry product in there that is, again, slightly different, but it adds value. And if you can margin up on those things because again, if it if they bite, you have a product that is unique.
Okay, great. I'm switching over to tobacco. And how should I think about sales volumes in fiscal 25 given that it looks like the industry or the outlook for the global crop has tightened more particularly in South America. How do I think about that top line or those volumes pricing fiscal 25 for tobacco.
As we as we stated, we continue seeing strong demand for all varieties of tobacco that we produce. And of course, the El Nino effect is there in South America and Brazil, we estimate about 20% reduction of that crop size there as a country. And in Africa, we had some rains and the transplanting of the buck was completed. And right now, we are seeing a dry spell right there, but hopefully in the next coming weeks, we're going to see some rain. Tobacco is a very resilient plant. And so we see also shipments now, not just for the fiscal year 2020, 25, but also still in the last quarter of 24.
If you look at our balance sheet, we have over CAD1 billion of tobacco inventory. So we are estimating and projecting to just substantially ship out some of that tobacco that we have as we stated, we have uncommitted inventory of 8%, which is the out. And part of that will be, of course, always the cut cutting time debt in March and part of that tobacco might fall into into the next fiscal year.
Okay. And then regarding the tobacco, do you expect still that I guess I'm looking for a worldwide uncommitted leaf number and we Jennifer?
Yes, it was 14 million kilos at the end of December.
Okay, great. And then in your arm, I guess investor presentation you did talk about on it the prior presentation under other tobacco businesses talked about some opportunities to offer to service customers sheet tobacco on liquid nicotine, but you took out lab services and the new investor presentation.
Is there anything to read into that is that a change in direction in terms of services offering customers in that case, specifically about the labs we discontinue that service that we were providing was underperforming according to the targets that we have. But on the other areas, we continue seeing opportunities, especially in the sheet products that we have. We have projects ongoing as we speak here. And yes, we see continuously opportunity, not just that, but in the services side as well.
We also stated in quarters before that on our dark tobacco operations, we are also taking a step further into servicing the rubber sorting and modernizing some of the products for the cigar industry and MasterCard industry.
So we see we continue to see good opportunities there and are you gaining market share in terms of tobacco leaf sales?
Yes, according to our database, just gaining market share type.
Congrats. And then also on this investor presentation, there's a page talking about the increase in working capital needs for fiscal 23 and how to think about that in fiscal 24 and 25? And if that number comes down which I think it would.
And what is the potential use for that freed up cash?
Well, and as you all know, is it all depends on the size of the crops the pricing of the crops, currency of those crops. So hopefully you're right. And we certainly see that working capital coming down a little bit going forward. And when that frees up we certainly have plenty of investments on both the tobacco side as well as the ingredient side, where we can use those funds to add value and create shareholder value.
Okay.
And then can you help me at all with SG&A expenses for fiscal 25, as pointed out, just now again, I think we did this one was slightly elevated. I do have to say you noted that 78 with slightly higher than we thought. But again, you know, a certain foreign currency comparisons compared to last year last year was quite low. We have now some good performance comp that you know from stepping up a little bit though, and again, going forward, we're certain we will be higher than you know, for prior years.
Just because of that R & D and those commercial policy that we are incurring some headcount, what is your appetite for M&A in the ingredients platform?
And we will certainly be looking, we continue to look, the pipeline is active, but our leverage at the moment, this is up. So until we bring that down a little bit more, we will remain on the sidelines unless something spectacular comes along.
Okay.
And then just in terms of management structure, you announce a change for precedence position and kind of what what is his role entail and then can you tell me who is Treasurer of universal now?
I'm sorry.
I've lost track of our new directors. Mimi's Bush came off. He goes by Bush. He joined us on January first, and we're very happy that he has joined us right, and then progress just now and transitioning to more of a management role.
Okay.
Okay.
That's great. That's all I have. I appreciate your time very much.

Thank you, Ann.

Operator

Thank you, and there are no further questions at this time. I would like to turn it back to Jennifer Lowe for closing remarks.

Jennifer Rowe

Thank you all for joining us today on our call.

Operator

Thank you, presenters. And ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may now disconnect.