Continental Building Products, Inc. - FORM 10-Q - August 3, 2018

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EX-32.1 - EXHIBIT 32.1 - Continental Building Products, Inc.exhibit3212018q210q.htm
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EX-31.1 - EXHIBIT 31.1 - Continental Building Products, Inc.exhibit3112018q210q.htm

As filed with the Securities and Exchange Commission on August 3, 2018
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2018
or
¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from __________ to __________.

Commission File Number: 001-36293
cbpxa09.jpg
CONTINENTAL BUILDING PRODUCTS, INC.
(Exact name of registrant as specified in its charter)
Delaware
 
61-1718923
(State or other jurisdiction of incorporation)
 
(I.R.S Employer Identification No.)
12950 Worldgate Drive, Suite 700, Herndon, VA
 
20170
(Address of principal executive offices)
 
(Zip Code)
(703) 480-3800
(Registrant's telephone number, including the area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yes    x    No    ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
Yes    x    No    ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See the definitions of "large accelerated filer," "accelerated filer," "smaller reporting company" and "emerging growth company" in Rule 12b-2 of the Exchange Act.
Large accelerated filer        x            Accelerated filer            ¨
Non-accelerated filer        ¨            Smaller reporting company        ¨
Emerging growth company        ¨
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes    ¨    No    x
As of August 1, 2018, the registrant had outstanding 36,967,770 shares of the registrant’s common stock, which amount excludes 7,785,533 shares of common stock held by the registrant as treasury shares.

1

Table of Contents to Second Quarter 2018 Form 10-Q
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 




2

PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
Continental Building Products, Inc.
Consolidated Statements of Operations
(unaudited)
 
For the Three Months Ended
 
For the Six Months Ended
 
June 30, 2018
 
June 30, 2017
 
June 30, 2018
 
June 30, 2017
 
(in thousands, except share data and per share amounts)
Net sales
$
139,268

 
$
120,630

 
$
256,070

 
$
241,245

Costs, expenses and other income:
 
 
 
 
 
 
 
Cost of goods sold
98,263

 
89,817

 
184,879

 
179,441

Selling and administrative
10,445

 
9,193

 
19,869

 
18,497

Total costs and operating expenses
108,708

 
99,010

 
204,748

 
197,938

Operating income
30,560

 
21,620

 
51,322

 
43,307

Other expense, net
(87
)
 
(135
)
 
(227
)
 
(779
)
Interest expense, net
(2,694
)
 
(3,062
)
 
(5,414
)
 
(5,978
)
Income before (losses)/income from equity method investment and provision for income taxes
27,779

 
18,423

 
45,681

 
36,550

(Losses)/income from equity method investment
(391
)
 
345

 
(755
)
 
175

Income before provision for income taxes
27,388

 
18,768

 
44,926

 
36,725

Provision for income taxes
(5,493
)
 
(6,370
)
 
(9,385
)
 
(12,100
)
Net income
$
21,895

 
$
12,398

 
$
35,541

 
$
24,625

 
 
 
 
 
 
 
 
Net income per share:
 
 
 
 
 
 
 
Basic
$
0.59

 
$
0.32

 
$
0.96

 
$
0.63

Diluted
$
0.59

 
$
0.32

 
$
0.95

 
$
0.62

Weighted average shares outstanding:
 
 
 
 
 
 
 
Basic
36,879,774

 
39,125,571

 
37,154,750

 
39,349,674

Diluted
37,027,997

 
39,210,219

 
37,314,947

 
39,454,928

See accompanying notes to unaudited consolidated financial statements.


3

Continental Building Products, Inc.
Consolidated Statements of Comprehensive Income
(unaudited)
 
For the Three Months Ended
 
For the Six Months Ended
 
June 30, 2018
 
June 30, 2017
 
June 30, 2018
 
June 30, 2017
 
(in thousands)
Net income
$
21,895

 
$
12,398

 
$
35,541

 
$
24,625

Foreign currency translation adjustment
(313
)
 
440

 
(795
)
 
564

Net gains/(losses) on derivatives, net of taxes
452

 
(598
)
 
1,498

 
(578
)
Other comprehensive income/(loss)
139

 
(158
)
 
703

 
(14
)
Comprehensive income
$
22,034

 
$
12,240

 
$
36,244

 
$
24,611

See accompanying notes to unaudited consolidated financial statements.

4

Continental Building Products, Inc.
Consolidated Balance Sheets
 
June 30, 2018
 
December 31, 2017
 
(unaudited)
 
 
 
(in thousands)
Assets:
 
 
 
Cash and cash equivalents
$
84,365

 
$
72,521

Trade receivables, net
43,314

 
38,769

Inventories, net
27,662

 
24,882

Prepaid and other current assets
8,280

 
11,267

Total current assets
163,621

 
147,439

Property, plant and equipment, net
292,451

 
294,003

Customer relationships and other intangibles, net
66,284

 
70,807

Goodwill
119,945

 
119,945

Equity method investment
8,867

 
9,263

Debt issuance costs
387

 
477

Total Assets
$
651,555

 
$
641,934

Liabilities and Shareholders' Equity:
 
 
 
Liabilities:
 
 
 
Accounts payable
$
30,437

 
$
30,809

Accrued and other liabilities
10,259

 
11,940

Notes payable, current portion
1,685

 
1,702

Total current liabilities
42,381

 
44,451

Deferred taxes and other long-term liabilities
15,456

 
15,847

Notes payable, non-current portion
262,807

 
263,610

Total Liabilities
320,644

 
323,908

Shareholders' Equity:
 
 
 
Undesignated preferred stock, par value $0.001 per share; 10,000,000 shares authorized, no shares issued and outstanding
—

 
—

Common stock, $0.001 par value per share; 190,000,000 shares authorized; 44,413,204 and 44,321,776 shares issued and 36,748,879 and 37,532,959 shares outstanding as of June 30, 2018 and December 31, 2017, respectively
44

 
44

Additional paid-in capital
326,594

 
325,391

Less: Treasury stock
(167,919
)
 
(143,357
)
Accumulated other comprehensive loss
(1,946
)
 
(2,649
)
Accumulated earnings
174,138

 
138,597

Total Shareholders' Equity
330,911

 
318,026

Total Liabilities and Shareholders' Equity
$
651,555

 
$
641,934

See accompanying notes to unaudited consolidated financial statements.

5

Continental Building Products, Inc.
Consolidated Statements of Cash Flows
(unaudited)
 
For the Six Months Ended
 
June 30, 2018
 
June 30, 2017
 
(in thousands)
Cash flows from operating activities:
 
 
 
Net income
$
35,541

 
$
24,625

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
Depreciation and amortization
21,386

 
23,760

Amortization of debt issuance costs and debt discount
629

 
586

Losses/(income) from equity method investment
755

 
(175
)
Amortization of deferred gain on terminated swaps
(317
)
 
—

Loss on debt extinguishment
—

 
686

Share-based compensation
1,611

 
1,479

Deferred taxes
—

 
92

Change in assets and liabilities:
 
 
 
Trade receivables
(4,647
)
 
(4,942
)
Inventories
(2,896
)
 
(1,811
)
Prepaid expenses and other current assets
4,369

 
984

Accounts payable
(2,078
)
 
(564
)
Accrued and other current liabilities
(955
)
 
(2,038
)
Other long-term liabilities
(622
)
 
(188
)
Net cash provided by operating activities
52,776

 
42,494

Cash flows from investing activities:
 
 
 
Capital expenditures
(13,006
)
 
(8,070
)
Software purchased or developed
(790
)
 
(133
)
Capital contributions to equity method investment
(438
)
 
(647
)
Distributions from equity method investment
78

 
214

Net cash used in investing activities
(14,156
)
 
(8,636
)
Cash flows from financing activities:
 
 
 
Proceeds from exercise of stock options
11

 
230

Tax withholdings on share-based compensation
(547
)
 
(240
)
Proceeds from debt refinancing
—

 
273,625

Disbursements for debt refinancing
—

 
(273,625
)
Payments of financing costs
—

 
(649
)
Principal payments for debt
(1,358
)
 
(1,368
)
Payments to repurchase common stock
(24,562
)
 
(27,836
)
Net cash used in financing activities
(26,456
)
 
(29,863
)
Effect of foreign exchange rates on cash and cash equivalents
(320
)
 
316

Net change in cash and cash equivalents
11,844

 
4,311

Cash, beginning of period
72,521

 
51,536

Cash, end of period
$
84,365

 
$
55,847

See accompanying notes to unaudited consolidated financial statements.

6

Continental Building Products, Inc.
Notes to the Unaudited Consolidated Financial Statements
1. BACKGROUND AND NATURE OF OPERATIONS
Description of Business
Continental Building Products, Inc. (the "Company") is a Delaware corporation. Prior to the acquisition of the gypsum division of Lafarge North America Inc. ("Lafarge N.A.") described below, the Company had no operating activity. The Company manufactures gypsum wallboard related products for commercial and residential buildings and houses. The Company operates a network of three highly efficient wallboard facilities, all located in the eastern United States, and produces joint compound at one plant in the United States and at another plant in Canada.
The Acquisition
On June 24, 2013, the Company's former controlling stockholder, entered into a definitive agreement with Lafarge N.A. to purchase the assets of its North American gypsum division for an aggregate purchase price of approximately $703 million (the "Acquisition") in cash. The closing of the Acquisition occurred on August 30, 2013.
2. SIGNIFICANT ACCOUNTING POLICIES
(a)
Basis of Presentation
The accompanying consolidated financial statements for the Company have been prepared in accordance with accounting principles generally accepted in the United States ("U.S. GAAP"). The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries. All intercompany transactions have been eliminated.
(b)
Basis of Presentation for Interim Periods
Certain information and footnote disclosures normally included for the annual financial statements prepared in accordance with U.S. GAAP have been condensed or omitted for the interim periods presented. Management believes that the unaudited interim financial statements include all adjustments (which are normal and recurring in nature) necessary to present fairly the financial position of the Company and the results of operations and cash flows for the periods presented.
The results of operations for the periods presented are not necessarily indicative of the results that may be expected for the year ending December 31, 2018. Seasonal changes and other conditions can affect the sales volumes of the Company's products. Therefore, the financial results for any interim period do not necessarily indicate the expected results for the year.
The financial statements should be read in conjunction with Company's audited consolidated financial statements and the notes thereto for the year ended December 31, 2017 included in the Company's Annual Report on Form 10-K for the fiscal year then ended. The Company has continued to follow the accounting policies set forth in those financial statements.
(c)
Revenue Disclosure
Revenue from the sale of gypsum products is recognized when control of the promised products is transferred to the Company's customers, in an amount that reflects the consideration the Company expects to be entitled to in exchange for those products (the transaction price). A performance obligation is a promise in a contract to transfer a distinct product to a customer and is the unit of account under Financial Accounting Standards Board ("FASB") Accounting Standards Codification ("ASC") Topic 606. Control transfers to the customer at a point in time. To indicate the transfer of control, the Company must have a present right to payment, legal title must have passed to the customer and the customer must have the significant risks and rewards of ownership. Generally, the Company satisfies its performance obligations within a number of days from the time the contract is executed.
The Company records estimated reductions to revenue for customer programs and incentive offerings, including promotions and other volume-based incentives, in the period in which the sale occurs.
Amounts billed to a customer at the transaction price are included in net sales, and costs incurred for shipping and handling are treated as fulfillment costs and are classified as cost of goods sold in the Consolidated Statements of Operations. See Note 17, Segment reporting, for disaggregation of revenue by segment.
As of June 30, 2018, accounts receivables were $43.3 million. The Company had no material contract assets, contract liabilities or deferred contract costs recorded on the Consolidated Balance Sheets as of June 30, 2018. We do not have any material payment terms as payment is received shortly after the point of sale.

7

(d)
Supplemental Cash Flow Disclosure
Table 2.1: Certain Cash Transactions and Other Activity
 
For the Six Months Ended
 
June 30, 2018
 
June 30, 2017
 
(in thousands)
Cash paid during the period for:
 
 
 
Interest paid on term loan, net
$
5,241

 
$
4,973

Income taxes paid, net
9,334

 
10,259

Other activity:
 
 
 
Amounts in accounts payable for capital expenditures
1,762

 
1,899

(e)
Recent Accounting Pronouncements
Accounting Standards Recently Adopted
In May 2014, the FASB issued ASU No. 2014-9, "Revenue from Contracts with Customers (Topic 606)," which provides accounting guidance for all revenue arising from contracts with customers and affects all entities that enter into contracts to provide goods or services to their customers. In August 2015, the FASB issued ASU No. 2015-14, "Revenue from Contracts with Customers (Topic 606): Deferral of the Effective Date," which deferred the effective date of ASU No. 2014-9 for all entities by one year to annual reporting periods beginning after December 15, 2017. The ASU requires retroactive application on either a full or modified basis. The Company adopted the standard on January 1, 2018 using the modified retrospective approach. Based on evaluation, the Company has concluded it has one revenue stream and the adoption of this new guidance did not have a material impact on its Consolidated Financial Statements. The Company updated its disclosures as required by this ASU.
In August 2016, the FASB issued ASU 2016-15, "Classification of Certain Cash Receipts and Cash Payments." This ASU reduces existing diversity in the classification of certain cash receipts and cash payments on the statements of cash flows. ASU 2016-15 is effective for fiscal years beginning after December 15, 2017, and for interim periods within those fiscal years. The adoption of this standard did not have a material impact on the Company's Consolidated Financial Statements.
In October 2016, the FASB issued ASU 2016-16, "Intra-Entity Transfers of Assets Other Than Inventory." The new standard requires companies to recognize the income tax effects of intercompany sales or transfers of assets, other than inventory, in the income statement as income tax expense (or benefit) in the period the sales or transfer occurs. The standard requires companies to apply a modified retrospective approach with a cumulative catch-up adjustment to opening retained earnings in the period of adoption. The provisions of this standard are effective for fiscal years beginning after December 15, 2017, and early adoption is permitted. The adoption of this standard did not have a material impact on the Company's Consolidated Financial Statements.
Accounting Standards Not Yet Adopted
In February 2016, the FASB issued ASU 2016-02, "Leases." ASU 2016-02 requires lessees to recognize a lease liability and a right-of-use asset on the balance sheet. ASU 2016-02 is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. The Company is in the process of evaluating the impact of adoption, which is not expected to have a material impact on its Consolidated Financial Statements.
In June 2016, the FASB issued ASU 2016-13, "Financial Instruments – Credit Losses: Measurement of Credit Losses on Financial Instruments." This ASU is intended to introduce a revised approach to the recognition and measurement of credit losses, emphasizing an updated model based on expected losses rather than incurred losses. The provisions of this standard are effective for reporting periods beginning after December 15, 2019 and early adoption is permitted. The Company is currently evaluating the impact that this guidance may have on its Consolidated Financial Statements.
In August 2017, the FASB issued ASU 2017-12, "Derivatives and Hedging (Topic 815), Targeted Improvements to Accounting for Hedging Activities." This ASU expands an entity's ability to hedge non-financial and financial risk components and reduce complexity in fair value hedges of interest rate risk. The guidance eliminates the requirement to separately measure and report hedge ineffectiveness and generally requires the entire change in the fair value of a hedging instrument to be presented in the same income statement line as the hedged item. The provisions of this standard are effective in 2019 for calendar-year public

8

business entities and in 2020 for all other calendar-year companies. Early adoption of the standard is permitted. The Company is currently evaluating the impact that this guidance may have on its Consolidated Financial Statements.
In February 2018, the FASB issued ASU 2018-02, "Income Statement - Reporting Comprehensive Income (Topic 220), Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income." This ASU allows a reclassification from accumulated other comprehensive income to retained earnings for stranded tax effects resulting from the Tax Cuts and Jobs Act. The provisions of this standard are effective for reporting periods beginning after December 15, 2018 and early adoption is permitted. The Company is currently evaluating the impact that this guidance may have on its Consolidated Financial Statements.
(f)
Reclassifications
Certain reclassifications of prior year information were made to conform to the 2018 presentation. These reclassifications had no material impact on the Company's Consolidated Financial Statements.
3. TRADE RECEIVABLES, NET
Table 3: Details of Trade Receivables, Net
 
June 30, 2018
 
December 31, 2017
 
(in thousands)
Trade receivables, gross
$
44,220

 
$
39,577

Allowance for cash discounts and doubtful accounts
(906
)
 
(808
)
Trade receivables, net
$
43,314

 
$
38,769

Trade receivables are recorded net of credit memos issued during the normal course of business.
4. INVENTORIES, NET
Table 4: Details of Inventories, Net
 
June 30, 2018
 
December 31, 2017
 
(in thousands)
Finished products
$
6,961

 
$
5,893

Raw materials
13,388

 
11,663

Supplies and other
7,313

 
7,326

Inventories, net
$
27,662

 
$
24,882


9

5. PROPERTY, PLANT AND EQUIPMENT, NET
Table 5: Details of Property, Plant and Equipment, Net
 
June 30, 2018
 
December 31, 2017
 
(in thousands)
Land
$
13,187

 
$
13,187

Buildings
115,288

 
114,051

Plant machinery
285,085

 
281,786

Mobile equipment
11,700

 
10,366

Construction in progress
28,154

 
20,291

Property, plant and equipment, at cost
453,414

 
439,681

Accumulated depreciation
(160,963
)
 
(145,678
)
Property, plant and equipment, net
$
292,451

 
$
294,003

Depreciation expense was $8.3 million and $16.3 million for the three and six months ended June 30, 2018, respectively, compared to $9.4 million and $17.5 million for the three and six months ended June 30, 2017, respectively.
6. CUSTOMER RELATIONSHIPS AND OTHER INTANGIBLES, NET
Table 6.1: Details of Customer Relationships and Other Intangibles, Net
 
June 30, 2018
 
December 31, 2017
 
Gross
 
Accumulated Amortization
 
Net
 
Gross
 
Accumulated Amortization
 
Net
 
(in thousands)
Customer relationships
$
116,413

 
$
(61,926
)
 
$
54,487

 
$
116,711

 
$
(57,811
)
 
$
58,900

Purchased and internally developed software
6,938

 
(5,174
)
 
1,764

 
6,226

 
(4,871
)
 
1,355

Trademarks
14,802

 
(4,769
)
 
10,033

 
14,839

 
(4,287
)
 
10,552

Total
$
138,153

 
$
(71,869
)
 
$
66,284

 
$
137,776

 
$
(66,969
)
 
$
70,807

Amortization expense was $2.5 million and $5.1 million for the three and six months ended June 30, 2018, respectively, compared to $3.1 million and $6.3 million for the three and six months ended June 30, 2017, respectively.
Table 6.2: Details of Future Amortization Expense of Customer Relationships and Other Intangibles
 
As of June 30, 2018
 
(in thousands)
July 1, 2018 through December 31, 2018
$
5,138

2019
8,864

2020
7,951

2021
7,111

2022
6,568

Thereafter
30,652

Total
$
66,284


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7. INVESTMENT IN SEVEN HILLS
The Company is a party with an unaffiliated third party to a paperboard liner venture named Seven Hills Paperboard, LLC ("Seven Hills") that provides the Company with a continuous supply of high-quality recycled paperboard liner to meet its ongoing production requirements.
The Company has evaluated the characteristics of its investment and determined that Seven Hills is a variable interest entity, but that it does not have the power to direct the principal activities most impacting the economic performance of Seven Hills, and is thus not the primary beneficiary. As such, the Company accounts for this investment in Seven Hills under the equity method of accounting.
Paperboard liner purchased from Seven Hills was $12.9 million and $25.1 million for the three and six months ended June 30, 2018, respectively, compared to $14.8 million and $26.8 million for the three and six months ended June 30, 2017, respectively. As of June 30, 2018, the Company had certain purchase commitments for paper totaling $32.1 million through 2021.
8. ACCRUED AND OTHER LIABILITIES
Table 8: Details of Accrued and Other Liabilities
 
June 30, 2018
 
December 31, 2017
 
(in thousands)
Employee-related costs
$
6,723

 
$
9,258

Income taxes
373

 
—

Other taxes
2,167

 
938

Other
996

 
1,744

Accrued and other liabilities
$
10,259

 
$
11,940

9. DEBT 
Table 9.1: Details of Debt
 
June 30, 2018
 
December 31, 2017
 
(in thousands)
Amended and Restated Credit Agreement (1)
$
270,215

 
$
271,573

Less: Original issue discount (net of amortization)
(1,510
)
 
(1,681
)
Less: Debt issuance costs
(4,213
)
 
(4,580
)
Total debt
264,492

 
265,312

Less: Current portion of long-term debt
(1,685
)
 
(1,702
)
Long-term debt
$
262,807

 
$
263,610

(1)
As of June 30, 2018 and December 31, 2017, the Amended and Restated Credit Agreement, as amended, had a maturity date of August 18, 2023 and an interest rate of LIBOR (with a 0.75% floor) plus 2.25%.
On August 18, 2016, the Company, Continental Building Products Operating Company, LLC and Continental Building Products Canada Inc. and the lenders party thereto and Credit Suisse, as Administrative Agent, entered into an Amended and Restated Credit Agreement amending and restating the Company's First Lien Credit Agreement (the "Amended and Restated Credit Agreement"). The Amended and Restated Credit Agreement provides for a $275 million senior secured first lien term loan facility and a $75 million senior secured revolving credit facility (the "Revolver"), which mature on August 18, 2023 and August 18, 2021, respectively. The interest rate under the Amended and Restated Credit Agreement was a spread over LIBOR of 2.75% and floor of 0.75%.
On February 21, 2017, the Company repriced its term loan under the Amended and Restated Credit Agreement lowering its interest rate by 25 basis points to LIBOR plus 2.50%. Subsequently, on December 6, 2017, the Company further repriced its term loan under the Amended and Restated Credit Agreement lowering its interest rate by an additional 25 basis points to LIBOR plus 2.25%. The Company may further reduce its interest rate to LIBOR plus 2.00% based on the attainment of a total leverage ratio of 1.1 or better. All other terms and conditions under the Amended and Restated Credit Agreement remained the same.

11

During both the six months ended June 30, 2018 and 2017, the Company made $1.4 million of scheduled mandatory principal payments. As of June 30, 2018, the annual effective interest rate, including original issue discount and amortization of debt issuance costs, was 4.8%.
There were no amounts outstanding under the Revolver as of June 30, 2018 or 2017. During the six months ended June 30, 2018 and 2017 the Company did not have any draws under the Revolver. Interest under the Revolver is floating, based on LIBOR plus 2.25%. In addition, the Company pays a facility fee of 50 basis points per annum on the total capacity under the Revolver. Availability under the Revolver as of June 30, 2018, based on draws and outstanding letters of credit and absence of violations of covenants, was $73.4 million.
Table 9.2: Details of Future Minimum Principal Payments Due Under the Amended and Restated Credit Agreement
 
Amount Due
 
(in thousands)
July 1, 2018 through December 31, 2018
$
1,358

2019
2,716

2020
2,716

2021
2,716

2022
2,716

Thereafter
257,993

Total Payments
$
270,215

Under the terms of the Amended and Restated Credit Agreement, the Company is required to comply with certain covenants, including among others, the limitation of indebtedness, limitation on liens, and limitations on certain cash distributions. One single financial covenant governs all of the Company's debt and only applies if the outstanding borrowings of the Revolver plus outstanding letters of credit are greater than $22.5 million as of the end of the quarter. The financial covenant is a total leverage ratio calculation, in which total debt less outstanding cash is divided by adjusted earnings before interest, taxes, depreciation and amortization. As the sum of outstanding borrowings under the Revolver and outstanding letters of credit were less than $22.5 million at June 30, 2018, the total leverage ratio of no greater than 5.0 under the financial covenant was not applicable at June 30, 2018. The Company was in compliance with all applicable covenants under the Amended and Restated Credit Agreement as of June 30, 2018.
10. DERIVATIVE INSTRUMENTS
Commodity Derivative Instruments
As of June 30, 2018, the Company had 2.9 million mmBTUs (millions of British Thermal Units) in aggregate notional amount outstanding natural gas swap contracts to manage commodity price exposures. All of these contracts mature by June 30, 2019. The Company elected to designate these derivative instruments as cash flow hedges in accordance with ASC 815-20, "Derivatives – Hedging". No ineffectiveness was recorded on these contracts during the three and six months ended June 30, 2018 and 2017.
Interest Rate Derivative Instrument
In September 2016, the Company entered into interest rate swap agreements for a combined notional amount of $100.0 million with a term of four years, which hedged the floating LIBOR on a portion of the term loan under the Amended and Restated Credit Agreement to an average fixed rate of 1.323% and LIBOR floor of 0.75%. The Company elected to designate these interest rate swaps as cash flow hedges for accounting purposes.
On March 29, 2018, the Company terminated its interest rate swap agreements that were previously designated as a cash flow hedge and received $3.2 million in cash, the fair value of the swap on the termination date. The unrealized gain at termination remains in accumulated other comprehensive income and will be amortized into interest expense over the life of the original hedged instrument. On the same date, the Company entered into new interest rate swap agreements for a combined notional amount of $100.0 million, which expire on September 30, 2020 and hedge the floating LIBOR on a portion of the term loan under the Amended and Restated Credit Agreement to an average fixed rate of 2.46% and LIBOR floor of 0.75%. The Company elected to designate these interest rate swaps as cash flow hedges for accounting purposes. No ineffectiveness was recorded on these contracts during the three and six months ended June 30, 2018 and 2017.

12

Table 10.1: Details of Derivatives Fair Value
 
June 30, 2018
 
December 31, 2017
 
(in thousands)
Assets
 
 
 
Interest rate swap
$
414

 
$
2,148

Commodity hedges
92

 
11

Total assets
$
506

 
$
2,159

Liabilities
 
 
 
Interest rate swap
$
—

 
$
—

Commodity hedges
40

 
613

Total liabilities
$
40

 
$
613

Table 10.2: Gains/(Losses) on Derivatives
 
For the Three Months Ended June 30,
 
For the Six Months Ended June 30,
 
2018
 
2017
 
2018
 
2017
 
2018
 
2017
 
2018
 
2017
 
Gain/(loss) recognized in Other comprehensive income on derivatives (effective portion), net of tax
 
Gain/(loss) reclassified from Accumulated other comprehensive loss into income (effective portion), net of tax
 
Gain/(loss) recognized in Other comprehensive income on derivatives (effective portion), net of tax
 
Gain/(loss) reclassified from Accumulated other comprehensive loss into income (effective portion), net of tax
 
(in thousands)
Interest rate swap
297

 
(339
)
 
139

 
(29
)
 
$
1,268

 
$
(355
)
 
$
209

 
$
(126
)
Commodity hedges
197

 
(234
)
 
(97
)
 
54

 
245

 
(438
)
 
(194
)
 
(89
)
Total
$
494

 
$
(573
)
 
$
42

 
$
25

 
$
1,513

 
$
(793
)
 
$
15

 
$
(215
)
Counterparty Risk
The Company is exposed to credit losses in the event of nonperformance by the counterparties to the Company's derivative instruments. As of June 30, 2018, the Company's derivatives were in a $0.5 million net asset position and recorded in Other current assets. All of the Company's counterparties have investment grade credit ratings; accordingly, the Company anticipates that the counterparties will be able to fully satisfy their obligations under the contracts. The Company's agreements outline the conditions upon which it or the counterparties are required to post collateral. As of June 30, 2018, the Company had no collateral posted with its counterparties related to the derivatives.

13

11. TREASURY STOCK
On November 4, 2015, the Company announced that the Board of Directors approved a new stock repurchase program authorizing the Company to repurchase up to $50 million of its common stock, at such times and prices as determined by management as market conditions warrant, through December 31, 2016. Pursuant to this authorization, the Company has repurchased shares of its common stock in the open market and in private transactions.
During 2017 and 2018, the Company announced two expansions and extensions of its stock repurchase program. The most recent authorization on February 21, 2018 expanded the program to a total of $300 million and also extended the expiration date to December 31, 2019.
All repurchased shares are held in treasury, reducing the number of shares of common stock outstanding and used in the Company's earnings per share calculation.
Table 11: Details of Treasury Stock Activity
 
June 30, 2018
 
June 30, 2017
 
Shares
 
Amount (1)
 
Average Share Price (1)
 
Shares
 
Amount (1)
 
Average Share Price (1)
 
(in thousands, except share data)
For the Three Months Ended:
 
 
 
 
 
 
 
 
 
 
 
Beginning Balance
7,319,417

 
$
157,907

 
$
21.57

 
4,716,778

 
$
93,993

 
$
19.93

Repurchases on open market
344,908

 
10,012

 
29.03

 
932,000

 
22,599

 
24.25

Ending Balance
7,664,325

 
$
167,919

 
$
21.91

 
5,648,778

 
$
116,592

 
$
20.64

 
 
 
 
 
 
 
 
 
 
 
 
For the Six Months Ended:
 
 
 
 
 
 
 
 
 
 
 
Beginning Balance
6,788,817

 
$
143,357

 
$
21.12

 
4,499,655

 
$
88,756

 
$
19.73

Repurchases on open market
875,508

 
24,562

 
28.05

 
1,149,123

 
27,836

 
24.22

Ending Balance
7,664,325

 
$
167,919

 
$
21.91

 
5,648,778

 
$
116,592

 
$
20.64

 
 
 
 
 
 
 
 
 
 
 
 
(1) Includes commissions paid for repurchases on open market.
12. SHARE-BASED COMPENSATION
For the three and six months ended June 30, 2018, the Company recognized share-based compensation expenses of $1.0 million and $1.6 million in expense, respectively, compared to $0.8 million and $1.5 million for the three and six months ended June 30, 2017, respectively. The expenses related to share-based compensation awards were recorded in selling and administrative expenses. As of June 30, 2018, there was $6.3 million of total unrecognized compensation cost related to non-vested stock options, restricted stock awards, restricted stock units and performance-based restricted stock units. This cost is expected to be recognized over a weighted average period of 2.4 years.
13. ACCUMULATED OTHER COMPREHENSIVE LOSS
Table 13: Details of Changes in Accumulated Other Comprehensive Loss by Category
 
Foreign currency translation adjustment
 
Net unrealized gain on derivatives, net of tax
 
Total
 
(in thousands)
Balance as of December 31, 2017
$
(3,636
)
 
$
987

 
$
(2,649
)
Other comprehensive (loss)/income before reclassifications
(795
)
 
1,513

 
718

Amounts reclassified from accumulated other comprehensive loss
—

 
(15
)
 
(15
)
Net current period other comprehensive (loss)/income
(795
)
 
1,498

 
703

Balance as of June 30, 2018
$
(4,431
)
 
$
2,485

 
$
(1,946
)

14

14. INCOME TAXES
The Company’s estimated annual effective tax rate is 22.2% before discrete items. For the six months ended June 30, 2018, discrete items result in a tax benefit of $0.6 million, consisting of a stock compensation windfall of $0.1 million and a non-recurring benefit of $0.5 million related to re-measurement of deferred taxes resulting from Kentucky tax law change. Due to the timing of the enactment and the complexity involved in applying the provisions of the Tax Cuts and Jobs Act of 2017 (the "Act"), the Company calculated its best estimate of the impact of the Act in its 2017 year end income tax provision in accordance with its understanding of the Act and guidance available as of the date of its Annual Report on Form 10-K for fiscal year 2017 and as a result had recorded a provisional $9.2 million reduction in income tax expense in the fourth quarter of 2017. No adjustment was made to the provisional amount as a result of additional information obtained for the six months ended June 30, 2018. The accounting is expected to be complete when the 2017 U.S. federal and state corporate income tax returns are filed in late 2018.
The Company is subject to audit examinations at federal, state and local levels by tax authorities in those jurisdictions. In addition, the Canadian operations are subject to audit examinations at federal and provincial levels by tax authorities in those jurisdictions. The tax matters challenged by the tax authorities are typically complex; therefore, the ultimate outcome of any challenges would be subject to uncertainty. The Company has not identified any issues that did not meet the recognition threshold or would be impacted by the measurement provisions of the uncertain tax position guidance.
15. EARNINGS PER SHARE
The following table shows the weighted average number of shares used in computing earnings per share and the effect on the weighted average number of shares of potentially dilutive securities. Potentially dilutive common stock has no effect on income available to common stockholders. For the three and six months ended June 30, 2018, zero and approximately 31,000 share-based compensation awards, respectively, were excluded from the weighted average shares outstanding because their impact would be anti-dilutive in the computation of dilutive earnings per share. Awards excluded for the same periods in 2017 were approximately 1,000 and 43,000, respectively.
Table 15: Details of Basic and Dilutive Earnings Per Share
 
For the Three Months Ended
 
For the Six Months Ended
 
June 30, 2018
 
June 30, 2017
 
June 30, 2018
 
June 30, 2017
 
(dollars in thousands, except for per share amounts)
Net income
$
21,895

 
$
12,398

 
$
35,541

 
$
24,625

 
 
 
 
 
 
 
 
Weighted average number of shares outstanding - basic
36,879,774

 
39,125,571

 
37,154,750

 
39,349,674

Effect of dilutive securities:
 
 
 
 
 
 
 
Restricted stock awards
—

 
5,880

 
1,755

 
7,971

Restricted stock units
56,188

 
39,988

 
64,100

 
57,169

Performance restricted stock units
63,799

 
17,837

 
66,654

 
17,180

Stock options
28,236

 
20,943

 
27,688

 
22,934

Total effect of dilutive securities
148,223

 
84,648

 
160,197

 
105,254

Weighted average number of shares outstanding - diluted
37,027,997

 
39,210,219

 
37,314,947

 
39,454,928

 
 
 
 
 
 
 
 
Basic earnings per share
$
0.59

 
$
0.32

 
$
0.96

 
$
0.63

Diluted earnings per share
$
0.59

 
$
0.32

 
$
0.95

 
$
0.62


15

16. COMMITMENTS AND CONTINGENCIES
Commitments
The Company leases certain buildings and equipment. The Company's facility and equipment leases may provide for escalations of rent or rent abatements and payment of pro rata portions of building operating expenses. Minimum lease payments are recognized on a straight-line basis over the minimum lease term. The total expenses under operating leases for the three and six months ended June 30, 2018 were $0.8 million and $1.6 million, respectively, compared to $0.9 million and $1.7 million for the same periods in 2017, respectively. The Company also has non-capital purchase commitments that primarily relate to gas, gypsum, paper and other raw materials. The total amounts purchased under such commitments were $23.3 million and $43.5 million for the three and six months ended June 30, 2018, respectively, compared to $21.7 million and $42.8 million for the three and six months ended June 30, 2017, respectively.
Table 16: Details of Future Minimum Lease Payments Due Under Noncancellable Operating Leases and Purchase Commitments
 
Future Minimum Lease Payments
 
Purchase Commitments
 
(in thousands)
July 1, 2018 - December 31, 2018
$
360

 
$
14,975

2019
1,658

 
28,178

2020
48

 
27,054

2021
—

 
8,828

2022
—

 
5,410

2023
—

 
5,572

Thereafter
—

 
53,621

Total
$
2,066

 
$
143,638

Contingent obligations
Under certain circumstances, the Company provides letters of credit related to its natural gas and other supply purchases. As of June 30, 2018 and December 31, 2017, the Company had outstanding letters of credit of approximately $1.6 million.
Legal Matters
In the ordinary course of business, the Company executes contracts involving indemnifications standard in the industry. These indemnifications might include claims relating to any of the following: environmental and tax matters; intellectual property rights; governmental regulations and employment-related matters; customer, supplier, and other commercial contractual relationships; and financial matters. While the maximum amount to which the Company may be exposed under such agreements cannot be estimated, it is the opinion of management that these guarantees and indemnifications are not expected to have a material adverse effect on the Company's financial condition, results of operations or liquidity.
In the ordinary course of business, the Company is involved in certain legal actions and claims, including proceedings under laws and regulations relating to environmental and other matters. Because such matters are subject to many uncertainties and the outcomes are not predictable with assurance, the total liability for these legal actions and claims cannot be determined with certainty. When the Company determines that it is probable that a liability for environmental matters, legal actions or other contingencies has been incurred and the amount of the loss is reasonably estimable, an estimate of the costs to be incurred is recorded as a liability in the financial statements. As of June 30, 2018 and December 31, 2017, such liabilities were not expected to have a material adverse effect on the Company's financial condition, results of operations or liquidity. While management believes its accruals for such liabilities are adequate, the Company may incur costs in excess of the amounts provided. Although the ultimate amount of liability that may result from these matters or actions is not ascertainable, any amounts exceeding the recorded accruals are not expected to have a material adverse effect on the Company's financial condition, results of operations or liquidity.
17. SEGMENT REPORTING
Segment information is presented in accordance with ASC 280, Segment Reporting, which establishes standards for reporting information about operating segments. It also establishes standards for related disclosures about products and geographic areas. The Company's primary reportable segment is wallboard, which represented approximately 97.4% and 97.1% of the Company's revenues for the three and six months ended June 30, 2018, respectively, compared to 97.2% and 96.9% of the Company's revenues for the three and six months ended June 30, 2017, respectively. This segment produces wallboard for the

16

commercial and residential construction sectors. The Company also manufactures finishing products, which complement the Company's full range of wallboard products.
Revenues from the major products sold to external customers include gypsum wallboard and finishing products.
The Company's two geographic areas consist of the United States and Canada for which it reports net sales, fixed assets and total assets.
The Company evaluates operating performance based on profit or loss from operations before certain adjustments as shown below. Revenues are attributed to geographic areas based on the location of the customer generating the revenue. The Company did not provide asset information by segment as its Chief Operating Decision Maker does not use such information for purposes of allocating resources and assessing segment performance.
Table 17.1: Segment Reporting
 
For the Three Months Ended
 
For the Six Months Ended
 
June 30, 2018
 
June 30, 2017
 
June 30, 2018
 
June 30, 2017
 
(in thousands)
Net Sales:
 
 
 
 
 
 
 
Wallboard
$
135,667

 
$
117,194

 
$
248,638

 
$
233,670

Other
3,601

 
3,436

 
7,432

 
7,575

Total net sales
$
139,268

 
$
120,630

 
$
256,070

 
$
241,245

Operating Income:
 
 
 
 
 
 
 
Wallboard
31,122

 
21,819

 
$
52,152

 
$
43,411

Other
(562
)
 
(199
)
 
(830
)
 
(104
)
Total operating income
$
30,560

 
$
21,620

 
$
51,322

 
$
43,307

Adjustments:
 
 
 
 
 
 
 
Interest expense
(2,694
)
 
(3,062
)
 
$
(5,414
)
 
$
(5,978
)
(Losses)/income from equity investment
(391
)
 
345

 
(755
)
 
175

Other expense, net
(87
)
 
(135
)
 
(227
)
 
(779
)
Income before provision for income taxes
$
27,388

 
$
18,768

 
$
44,926

 
$
36,725

Depreciation and Amortization:
 
 
 
 
 
 
 
Wallboard
10,411

 
12,177

 
$
20,717

 
$
23,199

Other
394

 
297

 
669

 
561

Total depreciation and amortization
$
10,805

 
$
12,474

 
$
21,386

 
$
23,760

Table 17.2: Details of Net Sales By Geographic Region
 
For the Three Months Ended
 
For the Six Months Ended
 
June 30, 2018
 
June 30, 2017
 
June 30, 2018
 
June 30, 2017
 
(in thousands)
United States
$
132,513

 
$
113,665

 
$
242,488

 
$
224,051

Canada
6,755

 
6,965

 
13,582

 
17,194

Net sales
$
139,268

 
$
120,630

 
$
256,070

 
$
241,245

Table 17.3: Details of Assets By Geographic Region
 
Fixed Assets
 
Total Assets
 
June 30, 2018
 
December 31, 2017
 
June 30, 2018
 
December 31, 2017
 
(in thousands)
United States
$
289,099

 
$
290,324

 
$
633,576

 
$
622,836

Canada
3,352

 
3,679

 
17,979

 
19,098

Total
$
292,451

 
$
294,003

 
$
651,555

 
$
641,934


17

18. FAIR VALUE DISCLOSURES
The Company estimates the fair value of its debt by discounting the future cash flows of each instrument using estimated market rates of debt instruments with similar maturities and credit profiles. These inputs are classified as Level 3 within the fair value hierarchy. As of June 30, 2018 and December 31, 2017, the carrying value reported in the consolidated balance sheet for the Company's notes payable approximated its fair value. The only assets or liabilities the Company had at June 30, 2018 that are recorded at fair value on a recurring basis are the natural gas hedges and interest rate swaps. Generally, the Company obtains its Level 2 pricing inputs from its counterparties. Substantially all of these assumptions are observable in the marketplace throughout the full term of the instrument, can be derived from observable data or are supported by observable levels at which transactions are executed in the marketplace.
Assets and liabilities that are measured at fair value on a non-recurring basis include intangible assets and goodwill. These items are recognized at fair value when they are considered to be impaired.
There were no fair value adjustments for assets and liabilities measured on a non-recurring basis. The Company discloses fair value information about financial instruments for which it is practicable to estimate that value.
Table 18.1: Fair Value Hierarchy - 2018
 
As of June 30, 2018
 
Level 1
 
Level 2
 
Level 3
 
Balance
 
(in thousands)
Asset
 
 
 
 
 
 
 
Interest rate swap
$
—

 
$
414

 
$
—

 
$
414

Commodity derivatives
—

 
92

 
—

 
92

Total assets
$
—

 
$
506

 
$
—

 
$
506

 
 
 
 
 
 
 
 
Liabilities
 
 
 
 
 
 
 
Interest rate swap
$
—

 
$
—

 
$
—

 
$
—

Commodity derivatives
—

 
40

 
—

 
40

Total liabilities
$
—

 
$
40

 
$
—

 
$
40

Table 18.2: Fair Value Hierarchy - 2017
 
As of December 31, 2017
 
Level 1
 
Level 2
 
Level 3
 
Balance
 
(in thousands)
Asset
 
 
 
 
 
 
 
Interest rate swap
$
—

 
$
2,148

 
$
—

 
$
2,148

Commodity derivatives
—

 
11

 
—

 
11

Total assets
$
—

 
$
2,159

 
$
—

 
$
2,159

 
 
 
 
 
 
 
 
Liabilities
 
 
 
 
 
 
 
Interest rate swap
$
—

 
$
—

 
$
—

 
$
—

Commodity derivatives
—

 
613

 
—

 
613

Total liabilities
$
—

 
$
613

 
$
—

 
$
613


18

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
The following discussion and analysis is intended to help the reader understand our business, financial condition, results of operations, liquidity and capital resources. You should read this discussion in conjunction with "Risk Factors," "Forward-Looking Statements," "Selected Historical Financial and Operating Data," and our financial statements and related notes included in our Annual Report on Form 10-K for fiscal year 2017 filed with the Securities and Exchange Commission on February 23, 2018 and elsewhere in this Quarterly Report on Form 10-Q, as applicable.
Overview
We are a leading manufacturer of gypsum wallboard and complementary finishing products in the eastern United States and eastern Canada. We operate highly efficient and automated manufacturing facilities that produce a full range of gypsum wallboard products for our diversified customer base. We sell our products in the new residential, repair and remodel, or R&R, and commercial construction markets.
Our primary reportable segment is wallboard, which accounted for approximately 97.4% and 97.1% of our net sales for the three and six months ended June 30, 2018, respectively, compared to 97.2% and 96.9% of our net sales for the three and six months ended June 30, 2017, respectively. We also operate other business activities, primarily the production of finishing products, which complement our full range of wallboard products. See Note 17 to the Consolidated Financial Statements for additional information on our reporting segments.
Factors Affecting Our Results
Market
For the new residential construction market, housing starts are a good indicator of demand for our gypsum products. Installation of our gypsum products into a single family home typically follows a housing start by 90 to 120 days. The R&R market includes renovation of both residential and nonresidential buildings. Many buyers begin to remodel an existing home within two years of purchase. The generally rising levels of existing home sales and home resale values in recent years have contributed to an increase in demand for our products from the R&R market. The commercial construction market encompasses areas such as office, retail, heath care, hospitality, educational and government projects. Demand for our products from commercial construction typically follows signing of construction contracts by 12 to 18 months.
The rate of growth in the new residential construction market, R&R market, and the new nonresidential construction market remains uncertain and will depend on broader economic circumstances, including employment, household formation, the home ownership rate, existing home price trends, availability of mortgage financing, interest rates, consumer confidence, job growth, availability of skilled labor and discretionary business investment.
Wallboard pricing can be impacted by overall industry capacity in the United States. Currently, there is excess wallboard production capacity industry-wide in the United States which can lead to downward pressure on wallboard prices. We estimate that industry capacity utilization was approximately 81% and 74% for the three and six months ended June 30, 2018, respectively, compared to 75% and 73% for the same periods of 2017.
Market Outlook
Most forecasts continue to project growth in housing starts. Industry Analysts' forecasts for 2018 housing starts in the United States included in the most recent Blue Chip Economic Indicators are 1.28 million to 1.35 million units, based on the average of the bottom ten and top ten forecasts included in the report, respectively. This forecast range represents an increase in the range of 7% and 13% over 2017 housing starts of 1.20 million. We also expect that the R&R and new commercial construction markets will continue to experience moderate growth.
Industry shipments of gypsum wallboard in the United States as reported by the Gypsum Association were an estimated 6.9 billion square feet for the three months ended June 30, 2018, up 9.5% from the same prior year period. For the six months ended June 30, 2018, industry shipments were 12.6 billion square feet, up 3.3.% from the same prior year period. We estimate that industry shipments in the United States for all of 2018 will increase approximately 4% from 25.3 billion square feet in 2017.

19

Manufacturing Costs
Paper and synthetic gypsum are our principal wallboard raw materials. Paper constitutes our most significant input cost and the most significant driver of our variable manufacturing costs. Energy costs, consisting of natural gas and electricity, are the other key input costs. In total, manufacturing cash costs represented 64% of our costs of goods sold for both the three and six months ended June 30, 2018 and 2017, respectively. Depreciation and amortization represented 11% of our costs of goods sold for both the three and six months ended June 30, 2018, compared to 13% of our cost of goods sold for the same periods in 2017. Distribution costs to deliver products to our customers represented 25% and 24% of our costs of goods sold for the three and six months ended June 30, 2018, compared to 23% of our cost of goods sold for both the three and six months ended June 30, 2017.
Variable manufacturing costs, including inputs such as paper, gypsum, natural gas, and other raw materials, represented 69% of our manufacturing cash costs for both the three and six months ended June 30, 2018, respectively, compared to 70% and 71% for the three and six months ended June 30, 2017, respectively. Fixed production costs excluding depreciation and amortization consisted of labor, maintenance, and other costs that represented 31% of our manufacturing cash costs for both the three and six months ended June 30, 2018, respectively, compared to 30% and 29% for the three and six months ended June 30, 2017, respectively.
We currently purchase most of our paperboard liner from Seven Hills, a joint venture between us and WestRock Company. Under the paper supply agreement with Seven Hills, the price of paper adjusts based on changes in the underlying costs of production of the paperboard liner, of which the two most significant are recovered waste paper and natural gas. The largest waste paper source used by the operation is old cardboard containers (known as OCC). Seven Hills has the capacity to supply us with approximately 80% of our paper needs at our full capacity utilization and most of our needs at current capacity utilization on market-based pricing terms. We also purchase additional paper on the spot market at competitive prices. See Note 7 to the Consolidated Financial Statements for additional information regarding our investment in Seven Hills.
Results of Operations
Table M1: Results of Operations
 
For the Three Months Ended
 
For the Six Months Ended
 
June 30, 2018
 
June 30, 2017
 
June 30, 2018
 
June 30, 2017
 
(dollars in thousands, except mill net)
Net sales
$
139,268

 
$
120,630

 
$
256,070

 
$
241,245

Costs, expenses and other income:
 
 
 
 
 
 
 
Cost of goods sold
98,263

 
89,817

 
184,879

 
179,441

Selling and administrative
10,445

 
9,193

 
19,869

 
18,497

Total costs and operating expenses
108,708

 
99,010

 
204,748

 
197,938

Operating income
30,560

 
21,620

 
51,322

 
43,307

Other expense, net
(87
)
 
(135
)
 
(227
)
 
(779
)
Interest expense, net
(2,694
)
 
(3,062
)
 
(5,414
)
 
(5,978
)
Income before (losses)/income from equity method investment and provision for income taxes
27,779

 
18,423

 
45,681

 
36,550

(Losses)/income from equity method investment
(391
)
 
345

 
(755
)
 
175

Income before provision for income taxes
27,388

 
18,768

 
44,926

 
36,725

Provision for income taxes
(5,493
)
 
(6,370
)
 
(9,385
)
 
(12,100
)
Net income
$
21,895

 
$
12,398

 
$
35,541

 
$
24,625

Other operating data:
 
 
 
 
 
 
 
Capital expenditures and software purchased or developed
$
7,359

 
$
2,843

 
$
13,796

 
$
8,203

Wallboard sales volume (million square feet)
722

 
647

 
1,337

 
1,297

Mill net sales price (1)
$
153.88

 
$
150.32

 
$
152.83

 
$
149.11

(1)
Mill net sales price represents average selling price per thousand square feet net of freight and delivery costs.

20

Three Months Ended June 30, 2018 Compared to Three Months Ended June 30, 2017
Net Sales. Net sales increased by $18.7 million, up 15.5% from $120.6 million for the three months ended June 30, 2017, to $139.3 million for the three months ended June 30, 2018. The increase was primarily attributable to a $13.6 million favorable impact of higher wallboard volumes driven by higher demand in the United States and a favorable impact of $4.6 million due to an increase in the average net selling price for gypsum wallboard at constant exchange rates. The remaining increase was driven by favorable impacts of non-wallboard products and changes in foreign currency exchange rates.
Cost of Goods Sold. Cost of goods sold increased $8.5 million, up 9.5% from $89.8 million for the three months ended June 30, 2017, to $98.3 million for the three months ended June 30, 2018. The increase was primarily driven by higher wallboard volumes which increased input costs and freight costs by $4.5 million and $2.3 million, respectively. In addition, per unit freight cost and labor cost increased cost of goods sold by $2.3 million and $2.0 million, respectively. The overall increase was partially offset by $1.6 million related to lower per unit input costs, mainly related to paper, and a $1.4 million decrease of amortization and depreciation costs. Changes in other components of cost of goods sold resulted in a net increase of $0.4 million.
Selling and Administrative Expense. Selling and administrative expense increased $1.2 million, up 13.0% from $9.2 million for the three months ended June 30, 2017, to $10.4 million for the three months ended June 30, 2018. The increase was driven by a $0.9 million increase in salary and bonus expense and a $0.3 million increase in stock compensation expense.
Operating Income. Operating income of $30.6 million for the three months ended June 30, 2018 increased by $9.0 million from operating income of $21.6 million for the three months ended June 30, 2017. The increase was primarily attributable to higher revenue which was partially offset by higher freight per unit costs and higher labor costs.
Other Expense, Net.  Other expense, net, was $0.1 million for both three months ended June 30, 2018 and 2017.
Interest Expense, Net. Interest expense was $2.7 million for the three months ended June 30, 2018, a decrease of $0.4 million from $3.1 million for the three months ended June 30, 2017. The decrease was mainly driven by the increase in capitalized interest as a result of capital spending and an increase in investment income. The rise in LIBOR rate was offset by lower average outstanding borrowings during second quarter 2018 compared to prior year quarter and a lower interest rate spread over LIBOR following the debt repricing on December 6, 2017. See Note 9 to the Consolidated Financial Statements for further details on the repricing.
Provision for Income Taxes. Provision for income taxes decreased by $0.9 million to $5.5 million for three months ended June 30, 2018, compared to $6.4 million for the same period of 2017. The lower provision for income taxes was primarily driven by a decrease in Kentucky state taxes as a result of new legislation passed in the second quarter and the federal tax rate from the tax reform. These regulatory changes resulted in an effective tax rate of approximately 20.1% during the three months ended June 30, 2018 as compared to 33.9% during the three months ended June 30, 2017. This decrease in the effective tax rate was partially offset by the higher pretax income.

21

Six Months Ended June 30, 2018 Compared to Six Months Ended June 30, 2017
Net Sales. Net sales increased by $14.9 million, up 6.2% from $241.2 million for the six months ended June 30, 2017, to $256.1 million for the six months ended June 30, 2018. The increase was primarily attributable to a $7.2 million favorable impact of higher wallboard volumes driven by higher demand in the United States and a favorable impact of $7.3 million due to an increase in the average net selling price for gypsum wallboard at constant exchange rates. The remaining increase was driven by favorable impacts of changes in foreign currency exchange rates.
Cost of Goods Sold. Cost of goods sold increased $5.5 million, up 3.1% from $179.4 million for the six months ended June 30, 2017, to $184.9 million for the six months ended June 30, 2018. The increase was primarily driven by higher wallboard volumes which increased input costs and freight costs by $2.4 million and $1.2 million, respectively. In addition, per unit freight cost and labor cost increased the cost of goods sold by $2.8 million and $2.4 million, respectively. The overall increase was partially offset by $1.8 million related to lower per unit input costs, mainly related to paper, and a $1.9 million decrease of amortization and depreciation costs. Changes in other components of cost of goods sold resulted in a net increase of $0.4 million.
Selling and Administrative Expense. Selling and administrative expense increased $1.4 million, up 7.6% from $18.5 million for the six months ended June 30, 2017, to $19.9 million for the six months ended June 30, 2018. The increase was driven by a $1.0 million increase in salary, bonus, and stock compensation expenses and $0.4 million increase in other selling and administrative expenses.
Operating Income. Operating income of $51.3 million for the six months ended June 30, 2018 increased by $8.0 million from operating income of $43.3 million for the six months ended June 30, 2017. The increase was primarily attributable to higher revenue which was partially offset by higher freight per unit costs and higher labor costs.
Other Expense, Net.  Other expense, net, was $0.2 million for the six months ended June 30, 2018 compared to other expense, net, of $0.8 million for the six months ended June 30, 2017. The change mainly reflects the impact of non-recurring costs of $0.7 million related to the debt repricing in the first quarter 2017. See Note 9 to the Consolidated Financial Statements for further details on the repricing.
Interest Expense, Net. Interest expense was $5.4 million for the six months ended June 30, 2018, a decrease of $0.6 million from $6.0 million for the six months ended June 30, 2017. The decrease was mainly driven by the increase in capitalized interest as a result of capital spending and an increase in investment income. The rise in LIBOR rate was offset by lower average outstanding borrowings during the first six months of 2018 compared to prior year period and a lower interest rate spread over LIBOR following the debt repricing on December 6, 2017. See Note 9 to the Consolidated Financial Statements for further details on the repricing.
Provision for Income Taxes. Provision for income taxes decreased $2.7 million to $9.4 million for the six months ended June 30, 2018, compared to $12.1 million for the same period of 2017. The lower provision for income taxes was primarily driven by a decrease in Kentucky state taxes as a result of new legislation passed in the second quarter and the federal tax rate from the tax reform. These regulatory changes resulted in an effective tax rate of approximately 20.9% during the six months ended June 30, 2018 as compared to 32.9% during the six months ended June 30, 2017. This decrease in the effective tax rate was partially offset by the higher pretax income.
Liquidity and Capital Resources
Our primary sources of liquidity are cash on hand, cash from operations, and borrowings under our debt financing arrangements. As of June 30, 2018, we had $84.4 million in cash and cash equivalents. We believe that our current cash position, access to the long-term debt capital markets and cash flow generated from operations should be sufficient not only for our operating requirements but also to enable us to complete our capital expenditure programs, fund share repurchases and any required long-term debt payments through the next several fiscal years. In addition, we have funds available from our revolving credit facilities and the ability to obtain alternative sources of financing. See Note 9 to the Consolidated Financial Statements for a more detailed discussion of our debt financing arrangements.

22

Table M2: Net Change in Cash and Cash Equivalents
 
For the Six Months Ended
 
June 30, 2018
 
June 30, 2017
 
(in thousands)
Net cash provided by operating activities
$
52,776

 
$
42,494

Net cash used in investing activities
(14,156
)
 
(8,636
)
Net cash used in financing activities
(26,456
)
 
(29,863
)
Effect of foreign exchange rates on cash and cash equivalents
(320
)
 
316

Net change in cash and cash equivalents
$
11,844

 
$
4,311

Net Cash Provided By Operating Activities
Net cash provided by operating activities for the six months ended June 30, 2018 and 2017 was $52.8 million and $42.5 million, respectively. The increase of $10.3 million in 2018 compared to 2017 was primarily driven by an increase in operating income, primarily from higher revenues, and an increase in cash from changes in working capital related to timing of receipts and payments.
Net Cash Used In Investing Activities
Net cash used in investing activities for the six months ended June 30, 2018 was $14.2 million, compared to $8.6 million for the six months ended June 30, 2017. The increase in investing activities for the six months ended June 30, 2018 primarily reflects an aggregate of $13.8 million in capital expenditures and software purchased or developed, compared to $8.2 million for 2017. The remaining increase in 2018 and 2017 was driven by distributions and contributions related to our equity investment in Seven Hills.
Net Cash Used In Financing Activities
Net cash used in financing activities for the six months ended June 30, 2018 was $26.5 million, compared to $29.9 million for six months ended June 30, 2017. The decrease in financing activities for the six months ended June 30, 2018 primarily reflects an aggregate of $24.6 million deployed to repurchase common stock, compared to $27.8 million for 2017. See Note 11 to the Consolidated Financial Statements for more detailed discussion of share repurchase activity. During the six months ended June 30, 2017, we refinanced our amended and restated credit agreement, resulting in a net outflow of $0.6 million. See Note 9 to the Consolidated Financial Statements for a more detailed discussion of the repricing. We made principal payments on our outstanding debt of $1.4 million for both the six months ended June 30, 2018 and 2017.
Critical Accounting Policies and Estimates
The preparation of our financial statements requires us to make estimates, judgments and assumptions that affect the reported
amounts of assets, liabilities, revenues and expenses during the periods presented. The 2017 Form 10-K includes a summary of the critical accounting policies we believe are the most important to aid in understanding our financial results. There have been no changes to those critical accounting policies that have had a material impact on our reported amounts of assets, liabilities, revenues or expenses during the six months ended June 30, 2018.


23

Forward-Looking Statements
This Quarterly Report on Form 10-Q contains "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"). These forward-looking statements are included throughout this Quarterly Report on Form 10-Q, and relate to matters such as our industry, business strategy, goals and expectations concerning our market position, future operations, margins, profitability, capital expenditures, liquidity, capital resources and other financial and operating information. We have used the words "anticipate," "assume," "believe," "contemplate," "continue," "could," "estimate," "expect," "future," "intend," "may," "plan," "potential," "predict," "project," "seek," "should," "target," "will" and similar terms and phrases to identify forward-looking statements in this Quarterly Report on Form 10-Q. All of our forward-looking statements are subject to risks and uncertainties that may cause actual results to differ materially from those that we are expecting, including:
 
•
cyclicality in our markets, especially the new residential construction market;
•
the highly competitive nature of our industry and the substitutability of competitors' products;
•
disruptions in our supply of synthetic gypsum due to regulatory changes or coal-fired power plants ceasing or reducing operations or switching to natural gas;
•
significant buying power of certain customers;
•
potential losses of customers;
•
changes to environmental and safety laws and regulations requiring modifications to our manufacturing systems;
•
material disruptions at our facilities or the facilities of our suppliers;
•
disruptions to our supply of paperboard liner, including termination of the WestRock contract;
•
changes in energy, transportation and other input costs;
•
changes in, cost of compliance with or the failure or inability to comply with governmental laws and regulations, in particular environmental regulations;
•
disruption in transportation network;
•
our involvement in legal and regulatory proceedings;
•
our ability to attract and retain key management employees;
•
disruptions in our information technology systems;
•
cybersecurity risks;
•
labor disruptions;
•
seasonal nature of our business; and
•
additional factors discussed under the sections captioned Risk Factors, Management's Discussion and Analysis of Financial Condition and Results of Operations and Business in our SEC filings.
The forward-looking statements contained in this Quarterly Report on Form 10-Q are based on historical performance and management's current plans, estimates and expectations in light of information currently available to us and are subject to uncertainty and changes in circumstances. There can be no assurance that future developments affecting us will be those that we have anticipated. Actual results may differ materially from these expectations due to changes in global, regional or local political, economic, business, competitive, market, regulatory and other factors, many of which are beyond our control. We believe that these factors include those described in Item 1A. Risk Factors in the 2017 Form 10-K. Should one or more of these risks or uncertainties materialize, or should any of our assumptions prove to be incorrect, our actual results may vary in material respects from what we may have expressed or implied by these forward-looking statements. We caution that you should not place undue reliance on any of our forward-looking statements. Any forward-looking statement made by us in this Quarterly Report on Form 10-Q speaks only as of the date on which we make it. Factors or events that could cause our actual results to differ may emerge from time to time, and it is not possible for us to predict all of them. We undertake no obligation to publicly update any forward-looking statement, whether as a result of new information, future developments or otherwise, except as may be required by applicable securities laws.

24

Item 3. Quantitative and Qualitative Disclosures About Market Risk
The Company's market rate risk disclosures set forth in Part II, Item 7A, "Quantitative and Qualitative Disclosures About Market Risk" on the 2017 Form 10-K have not changed materially during the six month period ended June 30, 2018.
Item 4. Controls and Procedures
Management's Evaluation of Disclosure Controls and Procedures. The Company's management carried out the evaluation of the effectiveness of the Company's disclosure controls and procedures (as defined under Rule 13a-15(e) of the Exchange Act), required by paragraph (b) of Exchange Act Rules 13a-15, under the supervision and with the participation of the Company's Chief Executive Officer and Chief Financial Officer. Based upon this evaluation, the Company's Chief Executive Officer and Chief Financial Officer concluded that the Company's disclosure controls and procedures were effective as of June 30, 2018.
Changes in Internal Control Over Financial Reporting. There were no changes in the Company's internal control over financial reporting (as defined in Rule 13a-15(f) of the Exchange Act) during the three months ended June 30, 2018 that have materially affected, or are reasonably likely to materially affect, the Company's internal control over financial reporting.

Limitations in Control Systems. The design of any system of control is based upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated objectives under all future events, no matter how remote, or that the degree of compliance with the policies or procedures may not deteriorate. Because of their inherent limitations, disclosure controls and procedures may not prevent or detect all misstatements. Accordingly, even effective disclosure controls and procedures can only provide reasonable assurance of achieving their control objectives.

25

PART II - OTHER INFORMATION
Item 1. Legal Proceedings
From time to time we have been, and may in the future become involved in, litigation or other legal proceedings relating to claims arising in the normal course of business. In the opinion of management, there are no pending or threatened legal proceedings which would reasonably be expected to have a material adverse effect on our business or results of operations. We may become involved in material legal proceedings in the future.
See Note 16 to the Consolidated Financial Statements for a description of certain legal proceedings.
Item 1A. Risk Factors
There were no material changes during the three months ended June 30, 2018 to the risk factors previously disclosed in the 2017 Form 10-K.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
(a) None.
(b) None.
(c) On November 4, 2015, our Board of Directors approved a new stock repurchase program authorizing us to repurchase up to $50 million of our common stock, at such times and prices as determined by management as market conditions warrant, through December 31, 2016. On August 3, 2016, our Board of Directors increased the aggregate authorization from up to $50 million to up to $100 million and extended the expiration date to December 31, 2017. On February 21, 2017, the Board of Directors further expanded the Company's share repurchase program by an additional $100 million up to a total of $200 million of its common stock and extended the expiration date to December 31, 2018. On February 21, 2018, the Board of Directors further expanded the Company's share repurchase program by an additional $100 million up to a total of $300 million of its common stock and extended the expiration date to December 31, 2019.
Common Stock Repurchase Activity During the Three Months Ended June 30, 2018
Period
 
Total Number of Shares Purchased
 
Average Price Paid Per Share
 
Total Number of Shares Purchased as Part of the Publicly Announced Plans or Programs
 
Maximum Dollar Value That May Yet Be Purchased Under the Plans or Programs
April 1 - April 30, 2018
 
121,208

 
$
28.39

 
121,208

 
$
178,687,108

May 1 - May 31, 2018
 
175,000

 
29.09

 
175,000

 
173,596,874

June 1 - June 30, 2018
 
48,700

 
30.41

 
48,700

 
172,116,117

Total
 
344,908

 
$
29.03

 
344,908

 
 
Item 3. Defaults Upon Senior Securities
(a) None.
(b) None.
Item 4. Mine Safety Disclosures
Not applicable.
Item 5. Other Information
None.


26

Item 6. Exhibits and Financial Statements

Exhibit
No.
  
Description of Exhibit
 
 
 
 
 
 
*
 
 
 
 
 
*
 
 
 
 
 
*
 
 
 
 
101.INS
 
XBRL Instance Document.
*
 
 
 
 
101.SCH
 
XBRL Taxonomy Extension Schema Document.
*
 
 
 
 
101.CAL
 
XBRL Taxonomy Calculation Linkbase Document.
*
 
 
 
 
101.DEF
 
XBRL Taxonomy Definition Linkbase Document.
*
 
 
 
 
101.LAB
 
XBRL Taxonomy Label Linkbase Document.
*
 
 
 
 
101.PRE
 
XBRL Taxonomy Presentation Linkbase Document.
*
*
 
Filed herewith.




27

SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
CONTINENTAL BUILDING PRODUCTS, INC.
 
 
 
 
 
 
 
/s/ James Bachmann
 
August 3, 2018
By:
James Bachmann
 
 
 
President and Chief Executive Officer
 
 
 
(Principal Executive Officer)
 
 
 
 
 
 
 
/s/ Dennis Schemm
 
August 3, 2018
By:
Dennis Schemm
 
 
 
Senior Vice President and Chief Financial Officer
 
 
 
(Principal Financial Officer)
 
 



28

Continental Building Products, Inc. Reports