Eagle Materials Inc. (NYSE:EXP) Q3 2023 Earnings Call Transcript January 26, 2023
Operator: Good day, everyone and welcome to Eagle Materials Third Quarter of Fiscal 2023 Earnings Conference Call. This call is being recorded. . At this time, I would like to turn the call over to Eagle’s President and Chief Executive Officer, Mr. Michael Haack. Mr. Haack, please go ahead sir.
Michael R. Haack: Thank you Drew. Good morning. Welcome to Eagle Materials conference call for our third quarter for fiscal 2023. This is Michael Haack. Joining me today are Craig Kesler, our Chief Financial Officer; and Bob Stewart, Executive Vice President of Strategy, Corporate Development, and Communications. We are glad you could be with us today. There will be a slide presentation made in connection with this call. To access it, please go to eaglematerials.com and click on the link to the webcast. While you’re accessing the slides, please note that the first slide covers our cautionary disclosure regarding forward-looking statements made during this call. These statements are subject to risks and uncertainties that could cause the results to differ from those discussed during the call.
For further information, please refer to this disclosure, which is also included at the end of our press release. I want to start my comments today by stating that this was a tremendous quarter for Eagle Materials financially, operationally, and strategically. Financially, we achieved record revenues, up 10% year-on-year, exceptional margins of 31%, EPS growth up 26%, which reflects the strength of our businesses and our continued pricing opportunities in every segment. This EPS growth also reflects our exceptional cash flows in excess of our operating growth and improvement needs. This enabled us to repurchase over $100 million in company shares this quarter, bringing our total cash return to shareholders over the last three years to nearly $1 billion.
Operationally, we achieved the best safety performance in company history in terms of both recordable injury rate and lost time injury rate. This achievement is one that I’m most proud of, as the result stems from years of focus from every employee at Eagle to ensure that we have a culture of protecting each other and caring for our fellow employees. We have consistently been well below industry averages on this metric, but this year we truly separated ourselves from our peers. I am proud of the Eagle team, the progress we have made, and want to personally thank everyone for their focus to achieve this result. We are also making progress across the board on our company’s strategic priorities. One I would highlight today, that I have also talked about in the past is an important environmental and operational priority for us, our rollout of Portland Limestone Cement or PLC.
This priority enables us to make our scarce clinker go further in cement production and it reduces our carbon intensity. Adaption and adoption are not immediate because there are operational investments and State DoT approval is needed. Two quarters ago, I shared that almost 15% of our cement sales were PLC. I’m happy to state that approximately 30% of our construction-grade cement sold this quarter was PLC. This progress has given us confidence that we can make a full conversion to PLC for all construction grades by 2025. Very shortly, we’ll be more formally updating our progress, goals, and long-term aspirations on this and other matters in our forthcoming updated environmental and social disclosure report. Now let me turn to the coming year.
I enter the year very optimistic about the prospects for Eagle Materials, notwithstanding some of the obvious uncertainties about the calendar 2023 macro backdrop. Current business conditions are exceptional and provide a foundation for this year. I can say that our record results this quarter would have been even better if we did not see exceptionally wet weather, particularly in December across the entire heartland network. As a reminder, wet weather does not imply demand destruction, it just means interruption and delay. Notwithstanding these temporary conditions, cement demand is strong, leaving us in a relatively sold out position with virtually no opportunity to build an inventory position. On the light side of the business, our Wallboard operations remain busy.
Current home construction activity remains robust. The number of multifamily units under construction, for example, is at the highest level since 1973. Of course, the key question today on many of our minds is around what the uncertainty and housing activity ahead will mean. Let me offer the following perspectives on these uncertainties. First, as I have stated before, geography matters. Our enviable U.S. heartland system that we have built will serve us well in the coming years. Specifically, for cement, it is hard to see a scenario where U.S. cement demand would decline for us over the midterm. This stems from the fact that State and Federal allocations to fund infrastructure are well underway and give better visibility into the next three-year demand picture.
There are a few cement substitutes existing today or on the horizon that would fundamentally change this picture over this time frame. U.S. cement manufacturers will work to make their precious clinker go further and to be put to the highest and best use. These efforts will not add up to enough additional supply to alter the supply-demand fundamentals in front of us in the midterm. At the U.S. cement supply, I see very little that would materially change the supply tension in relation to demand for the U.S. heartland. Barriers to capacity addition are very high for the U.S. cement industry, both in terms of permitting and construction cost. Even if this were not the case, no new builds or plant expansions could change this picture over the midterm time frame, even if the project ends tomorrow.
High cost imports will increasingly be required to meet U.S. demand as they have in the past. Again, for a well-positioned heartland producer, imports to one degree or another will support pricing in the U.S. heartland as transportation is very expensive and is expected to remain so. Now let’s turn the discussion to the uncertainties for the other half of our business, specifically Gypsum Wallboard. Gypsum Wallboard is used in single and multifamily residential construction, repair and remodeling, and commercial construction. But most significant among these is residential construction. Mortgage rates are key in modulating demand. It is welcome to see that we are off the mortgage rate highs that we saw last quarter. I think Fed Chairman Powell may have expressed the uncertainty right now the best when he said and I quote, “I don’t think anyone knows whether we’re going to have a recession or not.
And if we do, whether it’s going to be deep one or not.” Many economic scenarios imply a sizable and sustained gap between supply and demand for housing over the midterm, mainly driven by household growth and demolition of older housing stock. The outlook for repair and remodel demand seems especially well supported with record homeowner equity by the average age of the U.S. housing stock and by the number of single-family homes entering their prime remodeling years. With higher interest rates, homeowners may be inclined to stay put and improve their homes. The bottom line for light side demand is that there is cause for optimism for the midterm and the long term as it relates to housing construction activity. It is the near term where we see some obvious uncertainty around home buyer demand and homebuilder activity.
Photo by Markus Winkler on Unsplash
If we turn to the Gypsum Wallboard supply side, we see limits to manufacturing supply response broadly in the industry due to raw material supply limitations. As we have emphasized before, we are insulated from the negative implications of this broad and important trend, we are, in fact, beneficiaries of it. As we own many decades of natural gypsum and our one plant that uses synthetic gypsum has a secure and very long-term supply agreement. There is another aspect of the industry supply situation that is important to understand and history is instructive here. In 1998 through 2000 and in 2005 through 2006 time frames, we saw increasing pricing for Gypsum Wallboard. In both cases, shortly thereafter, we saw significant price deflation. In 2021 through 2022, we have again seen pricing progress and it raises the question among the servers about what is ahead for Wallboard pricing at this time.
In those prior periods, increasing demand was also met with significant industry capacity expansion, which culminated gypsum as the market demand began raining. In the case of post 2005 and 2006, we in fact entered the longest and deepest housing construction recession in U.S. history as massive capacity was being added to take advantage of synthetic gypsum, which was believed at the time would be plentiful and cheap. This assumption about synthetic gypsum proved to be wrong for several reasons. One reason is the retirement of coal-fired power plant, which is continuing. And the other reason is the greater use among power plants of lower-cost natural gas, which does not need to be scrubbed, hence, does not produce synthetic gypsum. In recent years, we have not seen material capacity expansion.
In fact, we have observed significant capacity constraints, stemming from the ability to secure enough raw materials economically for a new plant or to expand the production of existing plants. This is a key factor shaping the outlook that I think is unappreciated today. I should also add that for our Wallboard businesses, we will benefit from some tailwinds we have not seen for a while. Notably, in the lower cost of natural gas and OCC inputs, both of which should provide some margin support. Regardless of what 2023 brings, I have confidence that Eagle Materials is positioned well to succeed. I believe this for the following reasons. First, we know how to navigate uncertainty. We have proved this by being one of the very few in our space that has navigated the longest and deepest construction recession in U.S. history and remain profitable every year.
This is largely attributable to our low-cost producer positions which are highly sustainable and from a competitive standpoint are arguably widening. Our pretax margins are in the vicinity of 25% for the enterprise and the gap with the competition is widening. Second, our businesses are strong cash flow generators. Our strategic decision-making is heavily focused on making the best use of this cash. The third reason for my confidence, we are good capital allocators. We are highly committed to growth believing growth in the core that meets our strategic and financial return criteria. We have tripled the size of the heavy side of our business in recent years and as I commented earlier, returned nearly $1 billion to shareholders through share repurchases and dividends over the last three years.
Our return on equity stands in the vicinity of 30% today and remains industry-leading. With that, let me turn it over to Craig for a financial review of our quarter.
Craig Kesler: Great. Thank you, Michael. Third quarter revenue was a record $511 million, an increase of 10% from the prior year. Excluding the acquired business in Northern Colorado, revenue was up 8%. The increase reflects higher cement and Wallboard sales prices as well as increased Wallboard sales volume. The strong fundamentals in both Cement and Wallboard contributed to record EPS during the quarter. Diluted earnings per share was $3.20, a 26% increase from the prior year. This increase also reflects our reduced share count resulting from our share repurchase program. Fully diluted shares were down 10% from the prior year and down nearly 30% from the peak in 2015. Turning now to segment performance. In our heavy materials sector, which includes our Cement and Concrete and Aggregates segments, revenue increased 3%, reflecting higher cement sales prices and revenue from the acquired business in Northern Colorado, partially offset by lower cement sales volume resulting from difficult weather conditions and much lower inventory levels during this quarter.
Cement prices increased 13% and sales volume were also down 13%. Operating earnings declined 11%, reflecting lower sales volume and higher costs, partially offset by higher cement prices. Moving to the Light Materials sector on the next slide, revenue in our Light Materials sector increased 23%, driven by higher Wallboard sales prices and sales volume. Operating earnings in the sector increased 51% to $95 million as higher net sales prices helped to offset higher input prices. Looking now at our cash flow, which remains strong and as Michael highlighted in his remarks, we continue to generate very strong cash flow and allocate capital in a disciplined way. During the quarter, operating cash flow improved 7% to $180 million and capital spending decreased from $28 million to $18 million.
We also repurchased approximately 824,000 shares of our common stock for $103 million and paid our quarterly dividend, returning a total of $113 million to shareholders during the quarter. Year-to-date, we have repurchased approximately 2.5 million shares or 6.5% of our outstanding. We currently have 8.3 million shares remaining under our current repurchase authorization. Finally, a look at our capital structure. At December 31, 2022, our net debt-to-cap ratio was 47% and our net debt-to-EBITDA leverage ratio remains at 1.4 times. We ended the quarter with $61 million of cash on hand. Total committed liquidity at the end of the quarter was approximately $675 million, and we have no meaningful near-term debt maturities, providing us with substantial financial flexibility.
Thank you for attending today’s call. Drew, we’ll now move to the question-and-answer session.
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