Acuity Brands Executive INSIGHTS: Gross Profit Margins, Agency Model

On Monday, Acuity Brands Inc (NYSE:AYI) reported its third quarter earnings and discussed the following topics in its earnings conference call. Take a look.

Gross Profit Margins

Matthew McCall – BB&T Capital Markets: So, Vern a lot of – I guess a lot of puts and takes on the margin front. I guess I’m trying to get an outlook or some kind of view into next year. So, if you could maybe talk qualitatively about the net impact that you expect from price and mix as you introduce more LED products as controls form a bigger part and contrast that with pressure from any ongoing growth spending in the next year?

Vernon J. Nagel – Chairman, President and CEO: Matt, we do not provide guidance, so I’ll just comment on the quarter. I think that the results speak for themselves. The mix of our business was pretty consistent with what we’ve enjoyed. We were able, through our pricing initiatives over the last 12 months, to help offset the almost $8 million of additional cost increases that we incurred this quarter. I think that these gross profit margins are consistent in the range of what we would expect from our business. Again, it’s an ebbing and flowing. As we look at the investments that we have made at the gross profit level into our business, we continue to really drive the proliferation of new products. So, the investment is – you find that a lot in the SD&A area, but what it’s allowing us to do is to continue to sell higher and more value-added lighting solutions. As we think about LED, we said that the margins are generally in the range of our other traditional products. So, I think when you look at the overall profitability of the quarter, what I find particularly fascinating is when I look at this level of volume, I go back to our second quarter of 2008, and if you remember in 2008, it was a record year both for the industry and for Acuity Brands and the second quarter volume was about the same roughly middle of $480 million kind of range. Our operating profit margin in the quarter was 12.6%. If one were to back out, if you will, the impact of Spain this quarter, our overall margins would have been about 12.4%. So, to me it’s pretty fascinating. In 2008, we didn’t one nickel of sales of LED-based product. Today those numbers are nearing 10% and yet the overall profitability of the business is roughly in line with the same level of revenues. The other thing I would point out to everybody is our cash flow return on investment is near 24%. So, we continue to provide very strong returns to our shareholder base while we drive real value and changing value if you will in our portfolio for our customers. So, I hope that gives you some insight as to what to see about the margin dynamics of our business.

Matthew McCall – BB&T Capital Markets: It does Vernon. Thanks, and I’ll just use my second question as a follow-up to that, so the – you talked in the past, I think you gave some detail about a fixed SD&A, so is the expectation, is that gross spending, and I think Ricky you talked about $30 million in CapEx, which was a little elevated relative to previous years. Are we going to see continued spending at those levels out in the ’13 and ’14, or is the period where you could see some better leverage, that was kind of point in the question?

Vernon J. Nagel – Chairman, President and CEO: Sure. I would expect, we spent approximately $89 million in fixed SD&A this quarter and that was in line with a point that we had made last quarter. I would expect again this SD&A, it’s not completely fixed. It’s a little bit off misnomer call that we have marketing expenses that go through there for new product introductions, we have incentive compensation that flows through there. While we expected always to have some fluctuation, but I think that this level of spend again is consistent with what we would expect on a go forward basis and we’ll look to leverage that level of spend as we continue to expand our revenues with these new products. As I said in my prepared remarks, we have yet to even come close to peak sales on a lot of the investments and therefore the new products that we have introduced. So, I think you’re going to see good leverage going forward, assuming that the markets continue to expand. I think they will. I think by 2015, we’ll get past some of these issues that are influencing the overall economy and we’ll once again see growth in the industry that is favorable, and I think Acuity is well-positioned to really leverage into that growth cycle.

Agency Model

Jed Dorsheimer – Canaccord Genuity: My two questions. Vern, I was wondering if you could elaborate on first I guess the agent side of the business and in terms of what the costs are to add in agent and how you compare to some of your peers, Cooper, Hubbel, because it looks as if the agenting side is sort of a key differentiator, particularly for some of the newcomers coming into the industry too, so if you could elaborate on that, and then I have a follow-up?

Vernon J. Nagel – Chairman, President and CEO: Sure. First of all, the agency model for us is fully developed, if you will. In other words, the footprint and the agents that we have in place throughout North America are very strong. We are blessed in having partners with our agents. They are obviously independent businesses. They are usually the number one agent in their marketplace. So, we leverage our relationship by providing them with great products and great service and support to help them win in their marketplaces. I think they and we continue to work together to differentiate our value proposition against others. I won’t really comment on my competitors and their positions in the markets. I’ll just simply say that we value the agency relationship very robustly, and we invest heavily to support them and us in the local markets that we have. Yes, we consider that to be a point, a point of many, if you will, for differentiation in the marketplace.

Jed Dorsheimer – Canaccord Genuity: Then on the LED side of the business, could you – you said it was nearing 10%. Could you just note what it was in the quarter? And then from a controls perspective, what percentage – is controls being spread across all of the products? Is it really concentrated in sort of day lighting and LEDs or how should we look at the controls aspect on a go-forward basis?

Vernon J. Nagel – Chairman, President and CEO: So with regard to LED what we’ve provided is that we are nearing 10%. We don’t provide specific revenue numbers behind that. Similarly with controls, we are very focused as a single line business on the broad lighting industry. We see a real convergence occurring and how lighting control and luminaires are coming together to make them really a lighting solution. It’s becoming very, very difficult to distinguish between the two. Yes, we know when we sell a sensing device as a single one-off item, but really it’s more and more about how we are able to provide fulsome lighting solutions into a space to provide superior quality of lighting while optimizing energy. So, to me, how lighting control comes into the fulsomeness of the market? When you look out three years, I think that again it will be indistinguishable between whether it’s a luminaire or lighting control because of so much control will be into the entire space and how it’s being controlled again to optimize the visual environment while providing superior energy solutions. So we see software as being a big part of how all of this plays out. We think that lighting controls is really an additive of value to the end customer, and so therefore as we think about what a lighting solution is, we’re able to really provide an uptick in value and then depending on their energy consumption, really get a very strong payback story. So this is why it’s a very difficult to if you will break out individually one item versus – one component versus another, frankly.

Richard K. Reece – EVP and CFO: Jed, I would add that on your comment is the control is more for LED or day lighting. We sell controls for all of the different light sources embedded controls and industrial bay fluorescent fixtures and light system certainly works with all types of sources of light and so forth. So, our control of offering for both energy efficiency as well as for architectural purposes spans all the different light sources and different types of luminaires that we sell as well as the day light fixtures that we offer.

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