Aaon Inc (AAON) 2004 Q1 法說會逐字稿

Welcome to AAON Inc. first quarter conference call. (OPERATOR INSTRUCTIONS) I thank you for your attention and now I will turn the conference over to your host, Mr. Norm Asbjornson.

Good afternoon. I'd like to introduce our CFO, Kathy Sheffield.

Good afternoon ladies and gentlemen.

Before going any further we would like to read to you our Safe Harbor statement.

To the extent any statement presented herein deals with information that is not historical, including the outlook for the remainder of the year, such statement is necessarily forward-looking and made pursuant to the Safe Harbor provisions of the Securities Litigation Reform Act of 1995. As such it is subject to the occurrence of many events outside AAON's control that could cause AAON's results to differ materially from those anticipated. Please see the risk factors contained in our most recent Securities and Exchange Commission filings, including the Annual Report on Form 10-K and the Quarterly Report on Form 10-Q. Thank you.

Now a quick review with you of the first quarter financial statements. As you'll note, our first quarter sales was up about 14.1 percent to 37,494,000 compared to a year ago first quarter. Unfortunately, the increase in sales was not accompanied by an increase in the bottom line. The bottom line deteriorated by 11.5 percent -- 3,734,000 on operations. Net income was 2,337,000 compared to 3,495,000 a year ago. The gross margin on that deteriorated from 26.5 percent a year ago to 20.5 percent this year. Correspondingly, we had one other issue that hurt us, which was of the SG&A expenses rose from 3,196,000 to 3,967,000.

Now in going through what occurred in those two numbers, on the gross profit number, first of all, that 11.5 percent deterioration equated to $996,000. Of that (technical difficulty) deterioration, a little over half of it was due to start up problems which we had in introducing a new coils line that we brought into existence for the express purpose of dealing with the r10-r22 changeover which is the changeover from the environment unfriendly refrigerant to the environmentally friendly refrigerant. We have made that complete conversion. It is history. It is behind us. We are running well with that conversion now, so it is not a repeat type of cost.

The other 400,000, that occurred due to the rapid increase in steel and copper which we have experienced during the first quarter. Now in an effort primarily to offset that continuing cost of the steel and copper we in March saw that it was going to necessitate a price increase, so on the 14th of March we announced a price increase, but because we give our customers 30 days coverage when we quote them we had to make it effective basically on April 15th. So there was a chance for them to enter orders and enter orders they did. We have now gone onto -- since April 15th we've gone on with a three percent price increase, which, along with a few other factors, will cover all of our cost increases that we are experiencing. But, however, our backlog, which is at historically high levels, is at the old price level. So the actual effectivity date as far as seeing that price increase come to the bottom line will not occur until the third quarter. There will be a few jobs that ship in the second quarter, but they're not going to have a major influence on the bottom line.

The backlog that we speak of is the highest in the record high backlog, the highest we've ever had in the history of the Company. Compared to a year ago at the end of the third quarter it is $15 million higher. That equates to something really very close -- although we haven't booked all borders because we are still working through them -- but a backlog of approximately $50 million as of the end of the price increase on April 15th. So we're up like we said 14.1 percent in the first quarter, and we're right now speeding the plant up even more, so we're encumbered by the lack of price increase, but we are overwhelmed with opportunities to offset it with the increased sales of which we have orders for.

The other issue that we talked about, which was the start up on the coil thing, we've had that behind us now for approximately a month and we've been running very well. So we don't anticipate that biting us again.

The steel and copper increases I fully expect to see stay around for quite some time. I was reading in Barron’s this morning that China is consuming approximately 30 percent of the steel in the world and 40 percent of the concrete in the world on a nine percent growth kick. So they have a monstrous effect on the price commodities and I don't think it will come down fast, although I know that people are speeding up steel mills and everything to try and take advantage of it. But I don't think it will drive the price down much.

The SG&A increase is a twofold increase. It was an increase of $479,000, due to the increase in volume that we are experiencing. We are reserving additional reserves for that additional sales volume. There's nothing particularly unusual about it. We did have a little bit more than we anticipated in the way of work that we did on some older product that was covered under warranty in the first quarter. And we made up a little bit there, but the bulk of that is all volume related towards futures. So that is a non-issue. Ongoing we don't expect to have to do anything particularly dramatic in that area, other than the normal increase now.

The other part is we did a very careful analysis of our reserve for bad debt, and we felt we were a little bit under-reserved there. We increased our reserve by $310,000. So the two reserves on our SG&A were warranty and bad debt did us (ph) $789,000 on the bottom line.

The balance sheet at year-end and first quarter is continuing to be very strong. Current ratio is 2-to-1. We still have a strong cash position. We are starting to increase our spending on capital items such as that coil line which we started up. We're in the beginning stages of building a 109,000 square feet plant addition here in Tulsa dedicated to sheet metal fabrication, and we have some equipment on order for that facility. So all things considered, our capital expenditures is going to go up to somewhere around $11 million for the year. We are continuing the stock buy back. So what will happen to the cash position will be that we will diminish our cash position a little bit, but we will not go into debt. We will buy up the balance of the stock, which we have a commitment from the Board of Directors to buy. And we will cash out that 11 million approximately in capital expenditures, and we will still be in a positive cash position at the end of the year, in our belief.

At the present time on stock we had originally agreed to buy back 10 percent of our stock back in October of 2002. So far up through the end of the year we had bought back 812,964 shares. Since the end of the year, during the first quarter, we bought back 105,500 shares, giving us a total buy back of 918,464 shares out of 1.3 million shares to buy. So we still have 380,000 some shares to buy back. We have in total for those shares spent at this point in time 16.2 million.

On the incoming order rate, I mentioned we are at an all-time high backlog. That happened to us by virtue of the fact that we had a fairly nice January; we had a very nice February; we have got out 16.7 million orders in in March; and in April it would appear the we're going to be in the vicinity of about 20 million orders in dollars in orders coming in during April, which is obviously more than what we're shipping, and therefore we're trying to build up our production to a higher rate than we are presently.

We have made a very significant other change due to this coil thing. Our effort to change over to the environmentally safe refrigerant is proceeding on course. We don't have to be changed over until the year 2010, but because the refrigerant r22 that has been used is no longer becoming additional (ph) the chemical companies by Montreal protocol and federal law have as of January 1 of this year reduced their production of R22 by 35 percent from what it was in the base year of 1999 and will going forward diminish that until finally they will not be producing that refrigerant. The only R22 that will be available after the year 2020 will be recycled refrigerant. And equipment which is being built at this time by and large will still be operable, so it behooves a lot of customers to consider changing over to the new refrigerant, even though it does add a few percentage points to the cost of the equipment.

We have at this point in time had enough customers switch over to it that approximately 25 percent of our production is in r410. In light of the fact that some other very large corporations who are our competitors have not yet made any change over, we're quite a ways ahead of the curve. And we will be as this year goes on I'm sure growing that percentage rather dramatically, and we are prepared for it. We've spent the money last year, and now we're spending the money not so much on the conversion to r410, but on buying equipment and fixing facilities to handle the volume of growth we expect to have. So that portion is very positive to us we think.

The business segments in the construction market that we primarily identify as our marketplace are the following -- retail. Retail has throughout the downturn fairly well held its own, but it has declined a little bit. We have lost position a little bit in the retail and in some of the national accounts because as markets got weaker the price went down and we did not follow the price down as far as some other people were willing to do so. And we gave up that portion of the market to some degree. But as can be seen from our backlog position and our order input, we're getting some that would be and is at a higher price level than some of that which we gave up. So we're right on target to move forward with getting our gross margin and our net earnings up back to where they were thereabouts and we are on a strong growth curve on the volume.

Next one is medical or -- I guess educational would be our next biggest market, and educational has been a very good market and it has tried (ph) well during the past couple, three years and is continuing to do so. And we're growing very nicely in the educational market. That's primarily schools up through the 12th grade, although there's some university work in that.

The medical area, the health medical area, everything from clinics to hospital, again has done well. And we've been participating at a greater rate in that market.

Then we get into one of our weaker markets, which is industrial construction for manufacturing facilities. That has been a very weak market for the past two or three years, and while we have a respectable position in it, we've been hurt by the weakness of that market.

And the last one is office buildings, and it too has been a very weak and weakening market and has hurt us greatly.

So we have had three strong markets that are specifically identified and two weak markets, and then there's one which is called other, which just grabs all kinds of other types of businesses and combines them in another category. And that one has been strong for us. So if plant and office buildings start coming back we will enjoy a substantial increase in growth potential.

I would mention the fact that we broke ground for the new facility, and that we have got some machinery on order for that facility.

The other outlook as far as where we think 2004 is going, I kind of discussed that.

One lastly one which we've been talking about, where does the residential entry stand -- we're in the final stages of getting the last of everything done that we have to get done, and we will be entering that market. Again, as I have said before, since we're entering the market it is not going to be a major thing on our P&L statement for this year. But we will position ourselves very well for going forward into next year.

The last summary I probably should give to you is that the products we're building today, 90 percent of them have -- the dollars of sales on the products we're building today, 90 percent of our sales dollars are coming from products that have either been redesigned in a minor way or a very major way, and for a large part in a fairly major way, since three years ago. So we have brought our product line into current state of technology during this slow time in our industry, and we're ready with new product and ready with additional buildings, and we're preparing more for it. We think we've got a lot of growth ahead of us.

With that I will close out and open it up for questions.

(OPERATOR INSTRUCTIONS) Brian (technical difficulty)

: Is it fair to say that the newer technology you are using in your coils for the r410 is giving you a slight cost advantage over your competitors, given the fact that copper pricing has gone up so dramatically and that you use less copper now?

That's a fair statement. The new refrigerant operates at a much higher pressure than the old refrigerant and there are two ways to address that because you have to make the coils stronger. You can either thicken the tube or you can reduce the diameter of the tube, and in the long range reducing the diameter of the tube is, we think, a more cost-efficient way of addressing it and that's what we have done. So compared to the alternative of increasing the thickness of the coil we will reduce the copper usage, so on a forward going scale that's what we have accomplished.

How material is that advantage?

I haven't tried to evaluate it in great depth, but the copper in the coils represents roughly 30 percent of the cost of the coils, and we're probably dealing with something in the vicinity of maybe a 5 or 10 percent advantage in that portion of the coil.

Sort of switching gears with the bad debt expense, is that something that you think -- have you adjusted that sort of on a go forward basis to where you don't anticipate any surprises? Or was this sort of one customer that didn't pay?

This was a one customer situation that we adjusted out. We always charge ourselves a normal amount. I would say this was an abnormal situation. It's the first time in 15 years we've been caught getting more than what our normal is. And that's what it, was there is an adjustment for that.

Thank you very much.

Chris Kodawitz (ph).

I wanted to follow up with you guys a little bit more on retail. I guess you guys didn't talk about it in detail, but is Wal-Mart still a big factor for you guys there?

Very big factor and their year-over-year order business with us is growing fairly substantially.

Relative to the 19 percent from last year it is fixed (ph) so that's a slightly higher percentage so far this year?

Probably yes. Yes, it probably is. But recognize that we're on a growth curve in general, and so they have to outgrow our other growth too and I think they're doing it.

You said with your material costs that you guys started (technical difficulty) those were going up it sounded like maybe in March?

That's when we kind of pressed the panic button and because we're in a very un-inflationary environment it's not like it was a few years ago whether you were really in tune with it. And we said prices have been very stable for quite some time now. But that being said, we better raise our price because our costs are going up. So we started getting ready to do it and we announced on March 14th that we were doing it. But it takes a while to factor it in and get it to be effective.

I remember we talked about that on the last call. As far as visibility on the material pricing, do you guys have an idea kind of how far out that you typically go? I know some of the --

Here's what really is taking place on that. We try and hedge ourselves as much as possible. The way we do it is with our vendors, not in the market. We don't get into the stock market and hedging. We just get a commitment from our vendors on a price level for going forward. And we have done that on copper. We didn't do it as soon as we should have. We let it go a little bit too far. But we've got it under the present market price by a reasonable amount. We've got that hedged and our copper supplier is honoring that going forward, and we're buying it less than the market price. On steel, steel companies just basically told us whatever we committed to, we un-commit -- do whatever you want, sue us or whatever. What we thought we had hedged there didn't work out.

So the steel hedge really hasn't been effective?

Not a hedging the way we were doing it wasn't effective. And I understand and I read that where General Motors was faced with the same thing. So I suspect that if they're having to reconsider that just about everybody else is too.

That's a pervasive issue. As far as the price increase goes, I know that you guys have different lines and the B (ph) increase may vary by product. Is there kind of a general feel for what that's going to amount to?

It will all be three percent.

Okay. Is any of the inventory buildup tied in with your residential launch?

Not very much. Most of it is tied into increased volume, and what we're trying to do there and what that is is that normally our slowest quarter is the first quarter and then we go into our two more higher growth quarters, which is the second and the third. And rather than run into overtime in the second and third, we're building at a higher rate in the first and we're building up inventory because of that. So a lot of it is sheet metal costs for our product to use in the second and third quarter so we don't have to run so much overtime and lose efficiencies, and as a result we've got parking lots full of finished metal waiting to be used. And that's where most of our money is.

So it's predominantly pay for it up front and take the carry cost versus pay the overtime?

That's correct.

I think that's all I have got for now. Thanks guys.

(OPERATOR INSTRUCTIONS) Greg Weaver (ph).

How have the orders been subsequent to the price increase? I guess there hasn't been much time to reflect that.

(technical difficulty) and so by the first of next month it will be running right back up where it probably would have been anyway. So I don't think it's going to cause us to have a weak month next month, if that's what you're wondering.

Okay. Thank you.

There are no further questions at this time.

Okay. Thank you very much for joining us and I hope I've answered your questions. If not, we're free to talk with you at another time after this discussion. With that, I think you. Kathy?

Thank you again and we're looking forward to the next conference call which we will have (technical difficulty) discussing our second quarter earnings and looking at the year-to-date information at that time. So thank you.

(technical difficulty) thank you for your participation (technical difficulty)