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Text: With me on the call today is Jeff Powell, our President and Chief Executive Officer.
Before we begin, let me read our safe harbor statement.
These non-GAAP measures are not prepared in accordance with generally accepted accounting principles.
Following Jeff's remarks, I'll give an overview of our financial results for the quarter.
We will then have a Q&A session.
Since our last earnings call, the world has continued to be impacted by the COVID pandemic.
An increasing number of cases in Europe and the U.S. continue to create depressed economic activity and uncertainty around the world.
I'll begin by discussing how this impacts our operations and our third quarter financial results.
The effects of the global pandemic made the third quarter another challenging quarter in terms of predicting demand and overall business levels.
As we continue to work under advanced safety protocols, I remain proud of our dedicated employees around the world for the work they have done and continue to do to serve our customers.
We had solid execution by our businesses in the third quarter, along with various cost containment measures, which contributed to our strong margin performance.
We also benefited from government employee retention assistance, which allowed us to maintain our talented workforce despite the lower business levels during the quarter.
Our balance sheet remains healthy, and our liquidity position is solid.
Both cash flows have always been a strength of Kadant, and we expect this will continue as economies begin to recover.
Turning now to our Q3 performance.
We had better-than-expected earnings per share results due to our industrial processing and flow control segments.
This was further enhanced by government employee retention assistance that contributed to our solid adjusted earnings per share of $1.31 a share.
Our adjusted EBITDA margin was excellent at 19.4%, and our cash flow was strong at $24 million.
Our parts and consumable revenue made up 66% of total revenue.
On a sequential basis, parts revenue was up 6% to $103 million in the third quarter.
As many of you know, growing our parts and consumable business is a key strategic focus.
Overall, the quarter was better than expected, and I'm really pleased with how our employees performed to deliver these solid operating results.
Next, I would like to review our performance in our three operating segments.
While our Flow Control segment performed better than expected during the quarter, we continue to face a challenging market environment with industrial production weakening as the quarter progressed.
Product mix improved operating leverage and solid execution led to a strong adjusted EBITDA margin of 27.5% for the third quarter, up 70 basis points from the same period last year.
Although demand for aftermarket parts was solid and made up 69% of total revenue in the quarter, customer delays in capital project execution and the inability of our employees to engage face-to-face with customers and prospects due to the pandemic suppressed our bookings performance.
Looking ahead to the fourth quarter, we expect Q4 to show improvement in terms of both capital project bookings and demand for parts and consumables.
Turning now to our Industrial Processing segment.
We experienced strong demand for our wood processing equipment, with bookings at their highest level since our record-setting 2018.
This demand was driven by our robust U.S. housing market and continued strong demand for wood-based products.
Revenue in this segment declined 16% to $62 million year-over-year and down 5% sequentially.
This decline was largely due to a slowdown in capital business during the quarter in certain end markets, particularly in paper and packaging.
Parts and consumables revenue, on the other hand, was solid and made up 68% of total revenue in the third quarter.
Encouragingly, U.S. housing starts continue to show strength and were $1.4 million in September, up 11% compared to the same period last year, which benefits our customers producing OSB and dimensional lumber.
We are experiencing an increase in capital project activity and expect capital bookings to strengthen significantly in the fourth quarter.
Just last week, for example, we received a large order for a turnkey recycled stock preparation system from a containerboard producer in the U.S. with a value of approximately $11 million.
And expect to receive additional capital orders as the quarter progresses.
In our Material Handling segment, we saw improved project capital project activity and increased demand for aftermarket parts in Q3 versus Q2.
Parts and consumables revenue in the third quarter made up 60% of total revenue, but still below historical run rates.
Capital bookings in our material handling segment increased 34% sequentially, led by increased demand for our balers used in agricultural and waste processing applications.
While this increase was coming off of a weak prior quarter, we are encouraged to see our customers showing increased confidence in our economic outlook by awarding these larger capital purchases.
As in our other segments, we are seeing increased market activity, albeit still not on pace with prior years.
Looking beyond 2020, we continue to believe this segment has upside potential in its aggregates and food end markets as economies continue to recover from the pandemic.
As we look ahead to the final quarter of 2020, we are seeing signs of increased project activity in a number of end markets, particularly in our Industrial Processing segment.
With capital equipment expected to make up a larger portion of our product mix in Q4, we expect to show solid improvements in bookings compared to Q3.
As was the case in the second and third quarters of this year, the uncertainty caused by the pandemic limits our ability to forecast the timing of orders.
As a result, we will not be providing guidance for Q4.
I'd now like to pass the call over to Mike for a review of our Q3 performance.
I'll start with some key financial metrics from our third quarter.
Slide 12 is a summary of some of the key financial metrics that I will comment on over the next few slides.
Our GAAP diluted earnings per share was $1.28 in the third quarter, down 9% compared to $1.41 in the third quarter of 2019.
Our GAAP diluted earnings per share in the third quarter includes $0.03 of restructuring costs, $0.03 from a discrete tax benefit, $0.02 of acquired backlog amortization and $0.01 of acquisition costs.
In addition, our third quarter results included pre-tax income of $2.7 million or $0.18 net of tax attributable to government employee retention assistance programs related to the pandemic.
These government assistance benefits were received by many of our subsidiaries around the world and enabled us to retain employees during the past two quarters.
As our business continues to strengthen, we expect this benefit to decrease significantly in the fourth quarter.
Consolidated gross margins were 44.2% in the third quarter of 2020, up 140 basis points compared to 42.8% in the third quarter of 2019.
Approximately 110 basis points of this increase was due to the receipt of government assistance benefits related to the pandemic.
The remaining 30 basis point improvement is principally due to better product mix related to a higher percentage of parts and consumables.
Parts and consumables as a percentage of revenue increased to 66% in the third quarter of 2020 compared to 61% last year.
SG&A expenses were $43.9 million or 28.4% of revenue in the third quarter of 2020 compared to $47.1 million or 27.1% of revenue in the third quarter of 2019.
The $3.2 million decrease in SG&A expense was principally due to reduced selling and travel-related expenses and a $1 million benefit from government assistance programs.
Adjusted EBITDA decreased to $30 million or 19.4% of revenue compared to $32.3 million or 18.6% of revenue in the third quarter of 2019.
On a sequential basis, adjusted EBITDA increased 13% due to increased profitability in our Flow Control and Industrial Processing segments.
Operating cash flows were $24.4 million in the third quarter 2020, which included a modest negative impact of $0.8 million from working capital compared to operating cash flows of $25.7 million in the third quarter of 2019.
On a sequential basis, operating cash flows increased 11%.
We had several notable nonoperating uses of cash in the third quarter of 2020.
We repaid $25.5 million of debt, paid a $2.8 million dividend on our common stock and paid $1.8 million for capital expenditures.
Free cash flow increased 7% sequentially to $22.6 million in the third quarter of 2020.
Free cash flow decreased 4% compared to $23.6 million in the third quarter of 2019.
Let me turn next to our earnings per share results for the quarter.
In the third quarter of 2020, GAAP diluted earnings per share was $1.28, and our adjusted diluted earnings per share was $1.31.
In comparison, the third quarter of 2019, our GAAP diluted earnings per share was $1.41, and our adjusted diluted earnings per share was $1.38, which included a $0.02 discrete tax benefit.
As shown in the chart, the decrease of $0.07 and adjusted diluted earnings per share in the third quarter of 2020 compared to the third quarter of 2019 consists of the following: $0.55 due to lower revenue, $0.01 due to higher weighted average shares outstanding.
These decreases were partially offset by $0.18 due to government assistance programs, $0.17 due to lower operating costs, $0.10 due to lower interest expense, $0.02 due to higher gross margin percentages and $0.02 from an acquisition.
Collectively, included in all the categories I just mentioned, was a $0.01 favorable foreign currency translation effect in the third quarter of 2020 compared to the third quarter of last year due to the weakening of the U.S. dollar.
Looking at our liquidity metrics on slide 15.
Our cash conversion days, which we calculate by taking days in receivables plus days in inventory and subtracting days in accounts payable, was 140 at the end of the third quarter 2020 compared to 128 at the end of the second quarter of 2020 and 122 at the end of the third quarter of 2019.
The increase in cash conversion days was driven by a higher number of days in inventory due to a number of factors, including delays in capital project deliveries, weakness in capital project activity and delays in maintenance spending by our customers.
Our subsidiaries manage their inventory supply to ensure that critical components are available for our customers as needed and the timing of these purchases has been difficult to predict in this environment.
Working capital as a percentage of revenue was 15.6% in the third quarter of 2020 compared to 14.8% in the second quarter of 2020 and 14.6% in the third quarter of 2019.
Our net debt, that is debt less cash, decreased $18 million or 8% to $204 million at the end of the third quarter of 2020 compared to $222 million at the end of the second quarter of 2020.
We repaid $25.5 million of debt in the third quarter and have repaid $41.9 million in debt in the first nine months of 2020.
During the quarter, we repaid our real estate loan, which had a remaining principal balance of $18.9 million by borrowing from our revolving credit facility.
This effectively swapped debt with an annual interest rate of 4.45% under the real estate loan for U.S. revolver debt currently at 1.65%, which at current rates would reduce interest expense by over $500,000 on an annual basis.
In addition, our leverage ratio calculated in accordance with our credit facility decreased to 1.88 at the end of the third quarter 2020 compared to 2.03 at the end of 2019.
As a result of being below 2, the applicable margin on our revolver debt will decrease by 25 basis points, which at current debt levels, would reduce our interest expense by roughly $600,000 on an annual basis.
Regarding guidance, the current environment continues to make forecasting difficult.
We have noticed an increase in demand for our parts and consumables products.
And on the capital side, we anticipate a sequential increase in bookings in the fourth quarter.
Given the current uncertainty, we will not be providing guidance for the fourth quarter 2020.
We will reevaluate providing guidance next quarter.
While we are not providing guidance, I would like to provide a few directional comments on our outlook for the remainder of the year.
We currently anticipate a modest sequential increase in revenue for the fourth quarter.
I should caution here that if countries start locking down, that could impact the timing of when projects are delivered.
We also anticipate the fourth quarter product mix will be weighted more toward capital than the third quarter.
Last quarter on our call, I gave a few directional comments indicating our revenue for the year could decrease roughly 11% to 14% compared to 2019.
Our current view is that the revenue decrease compared to 2019 would be closer to the lower end of that range.
We anticipate that we will remain eligible for some government assistance programs.
However, as our business strengthens, the benefits from these programs in the fourth quarter will be significantly less than amounts received in the second and third quarters.
We recognized $0.5 million in the third quarter and $0.9 million on a year-to-date basis of restructuring costs related to the reduction of employees across our businesses.
In aggregate, we expect these year-to-date restructuring activities will reduce our cost structure by approximately $4.1 million annually.
We may incur additional restructuring costs in future periods as we continue to monitor the impact of the pandemic and the resulting global economic downturn on our businesses.
Given the current uncertainties regarding what the future holds across our end markets and geographies, it's difficult to provide firm guidance at the moment.
However, we've given these directional comments to help provide insight into how we see our current business environment.

user
q3 adjusted earnings per share $1.31.
q3 gaap earnings per share $1.28.
qtrly bookings decreased 16 percent to $143.3 million compared to $170.9 million in 2019.
expect a solid sequential improvement in our capital bookings in q4.
will not be providing guidance at this time.

assistant