Aaon Inc (AAON) 2005 Q1 法說會逐字稿

Good day, everyone, and welcome to the AAON First Quarter 2005 Earnings Conference Call. As a reminder, today’s call is being recorded. At this time, I would like to turn the conference over to Mr. Norman Asbjornson. Please go ahead, sir.

Good afternoon. Before proceeding further, I’d like to introduce Kathy Sheffield, our CFO.

Good afternoon [inaudible] quarter conference call.

Before proceeding further, I would like to read a forward-looking disclaimer. 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 of AAON’s control. It could cause AAON’s results to differ materially from those anticipated. Please see the risk factors contained in our most recently Securities and Exchange Commission filings, including the Annual Report on form 10-K and the Quarterly Report on form 10-Q.

Thanks for calling in and listening to our report today. We, fortunately, have had a rather nice report to give, and, to get started, we’ll go over the income statement. Our sales for the quarter were $42,780,000, up 5.3 million from a year ago. Part of that was related to price increases, and part of it was related to volume, additional sales. Nothing unusual in the cost of sales that hasn’t been there for the past two or three quarters, namely higher material prices, which affected us so badly last year. We’ll talk about those as we go on.

Our gross profit is back to 23.5%, or $10,050,000, some 2.3 million higher than last year at this time. Our SG&A were up a fairly significant amount, and that’s a combination of a variety of things. Part of it, 207,000 of it, is related to expenses related to our Canadian operation, 195 is professional fees for Sarbanes-Oxley compliance work and computer consulting. That is not the total we spent this year. We had accumulated some and put into last quarter’s report, so that does not represent all of those. Our other major thing is, because of the increased profitability, our profit sharing was $209,000, all of which those factors added up to 211,000 of the differential in between there. We also did have considerable changes due to the fact that we were not only complying with Sarbanes-Oxley, but we were attempting to get converted over to a new computer in the latter part of the quarter.

The income before taxes was up by 1.6 million to 5,435,000. Tax rate is a non-issue. Our net income of 3,287,000 was negatively affected by an after-tax loss of 700,000 on Canada, or $0.05 a share. Earnings -- basic, 27, and diluted, 26. Average shares outstanding -- basic, 12,387 and diluted, 12,795.

Touch basically on share repurchase program, since we’re at that point. Due to the fact that we didn’t report last year until February and then went into another blackout period just before the end of this, we didn’t purchase a lot of shares. We only got 30,400 shares purchased for a total cost of $464,984. The total program-to-date is 1,108, 464 shares, $19,354,519. We still have 216,536 shares to be purchased under our authorization.

OK, talking about the negative first. The Canada operation only shipped $2 million. We had a lot of things here. One, of course, we brought that company, since last May, out of a bankruptcy court, and so we’ve had to rebuild it. And in December, we moved it -- or in November, actually, we moved it from one facility, from a leased facility, into one which we had purchased and renovated. And then, we were really hampered tremendously by the fact that, come September of last year, we had to devote all of our efforts to Sarbanes-Oxley, and we’ve basically had to discontinue doing very much with computer to get the Canadian operation straightened out, because we just couldn’t get around to doing anything with it and still meet our timetable on Sarbanes. So, that was very, very difficult situation for us.

We have made the conversion over to our new computer as of this past weekend, so we are over that hurdle, and we’re now starting to get back on board to running the company. So, we will be attacking our various issues up there in Canada now that we can get more information out of our computer and write more software to help us straighten out problems.

We had a good growth quarter, 14% up, or $5.3 million. Of that, from the previous year, 2 million of that was in the Canadian operation and 3.2 million was in the U.S. operations. A portion of that was a price increase, of course. Major things that we’ve had occur to us is we’ve had a significant drop-off of Wal-Mart business, as we spoke about before, which has hurt our volume. Because of the fact that we haven’t had a price increase there for a while, it hasn’t had much effect on our bottom line.

The cost of sales has -- had both pluses and minuses going on. We’ve got our copper and our aluminum fixed. We’ve got that all hedged, so we’re OK there. Steel hit a peak last fall, and then has had a slight fallback in price since that time, and so that has helped our gross margin a little bit. Just like last year it hurt it, it has given us a help this year. Gross margin, compared to first quarter of last year when the steel price was just beginning to hurt us, we’re still up 3% from where we were last year. And compared to where we’ve been in between, we’re up considerably.

In our current ratio, we’re still holding in at 2 to 1. The various things relative to the Sarbanes-Oxley, I should mention, we are pretty well through with that. Did not have any major issues. It did not affect our income statement, did not affect our balance sheet. We did have a few weaknesses in our operation, which we’re working on at the present time. We’re totally committed to being totally compliant. We’ve had two price increases and one discontinuance of a special pricing program that we had last year. Total net price increase that we’ve affected over the past year has probably been in the vicinity of 11, 12, somewhere in the 11%, I would guess, in what most people would think of as a non-inflationary environment. But, by our standards, it was a highly inflationary environment.

We’ve been doing a lot to improve our productivity and our efficiency. Along that line, some of the things which we have done in the past quarter, we’ve initiated another production line in the Tulsa facility, and we’ve moved two products from -- one product from one production line to another to gain additional efficiencies, and we are embarking upon introducing a new product, called an HB product, a lower-cost, two to five-ton rooftop unit, that will go into that vacated assembly line, and we’re just getting underway with that.

That is one of the new products out of the Tulsa facility, totally new product. Out of the Longview facility, we are beginning to embark upon what we’ve talked about for quite some time, our residential product, and both the new product here in Tulsa, which is a two to five-ton product, as well as the two to five-ton product in the Longview facility, meets the newly -- the requirement for the new SEER, which is Seasonal Energy Efficiency Ratio, of 13 or better, which is mandated by federal regulation as of the end of January of next year. And so, we are starting to build those products this year compliant with that much higher energy efficiency ratio than was required before.

The biggest single thing that we have embarked upon this year, for this first quarter, we had gotten started with it the latter part of last year, and that is a plan to, across the board, increase the quality of our cabineting of all of our products, both fit and finish as well as insulation value. The insulation value in our industry has been one of the neglected areas by all of our manufacturers in the industry, and, typically in the rooftop end of it, as well as the air handling industry, which we’re entering into, they were using -- or we were using -- one-inch fiberglass insulation, which has an R-value down about -- somewhere between two and three, depending upon the thickness or the heaviness of the insulation. And that’s pretty bad when it’s going into a building, or onto a building, which might have an R-value of 15 or 20, or something like that.

So, we’ve decided that that was something which was going to have to be addressed, and the logical way to address it is converting from fiberglass to foam, and encasing the foam in metal on both sides for indoor air quality reasons, as well, and more than doubling our insulating value. So, we’re going to be producing, and are already in some cases producing, a clearly superior cabinet to the industry. The sizes and the places where we are already into production are the very largest units we build. We started at the top end of our product line, and are working our way down.

And so, what is called our RL product, 45 tons up to 230 tons, and chillers up to 365 tons, are, and have been since the middle of last year, all built with foam, two inches of foam, which -- and more on those product lines, which gave us an R-value up in the 15 to 20 on that product. And we’re competing with manufacturers that still have R-values down around five and less even, in some cases. So, once we get all the cabineting done, the insulation moved up, we’re going to be embarking on a fairly significant advertising campaign to try and take advantage of the clearly superior cabinets which we’re going to have compared to the industry.

We have also brought it into our next size down, the top end of our more commercial box, which we call our D box. We have an A, B, and a C box, which are not yet foamed, and then the new HB, the low end of the product, the two to five-ton lower cost rooftop, which we’re introducing right now, is also foamed. On the air handling side of it, we have what is called our Celebrity air handler. It is now all foamed, so we’re moving forward rather quickly, and, by this time next year, we would hope to be fairly well completed with getting all of our products foamed.

The net result of all of that we think will be to do the same thing we’ve been doing for all of our time in this industry, setting the standard for everybody else to come and try and meet, and going out and selling clearly superior product at a price that is very competitively priced.

In the area of national accounts, I spoke briefly about the fact that, a year ago when we converted Wal-Mart from R-22 over to R-410, we did give them a price increase that time, and that for multitudinous reasons. We got less of their business this past year, and it’s still down. On the positive side, we have gotten a commitment from Kroger Companies, which is a very large supermarket chain in the United States, to furnish all of the equipment for them. That business will not actually start getting shipped out of here until the last half of the year, because it takes about six months for them to convert over their specifications and get our product bid onto it.

We also, with our Air Wise, our Canadian operation, which brought us into a more commercial and more industrial type marketplace, we have received an order for some replacement units from a Tennessee factory of Toyota Motor Company. They have been very pleased with what we showed them and what we bid to them, and we believe we are going to do a significant amount of business with them, both in the replacement market as well as new factories. So, things are changing in the national account arena, to some degree, with this.

The rep business contributed significant increase in our business of the entire business. They are now representing well into the 80-some percent, mid-80-some percent of our total business. Now, some of the -- what we’re really talking about there was the non-rep business, where Wal-Mart and, in the past Home Depot and Target. And so, a lot of our other business is a national account kind of business, but it’s sold directly by the reps.

The various market segments that we are serving are retail, and, as I mentioned, we’re hurting a little there. That market is not booming very well, but it’s holding its own, and we’re not doing quite as well there. The medical market, which is doing pretty well -- it’s been growing a little bit, and we’re getting some growth out of that. The educational market, we’re growing fairly significantly in that, and it’s a healthy market. Plant and industrial construction is starting to make a -- go back into a growth mode after about three or four years of very substantial reduction, and so we look for some improvement out of that, but it’s way down from where it was a few years ago, and will take a long time to recover what it lost over several years. Office buildings, somewhat likewise. They have been down ever since the tech bubble burst in the year 2000, but they’re showing a little bit of signs of strength now that they haven’t been showing for some time.

Our backlog varies by facility. In the Tulsa facility right now, our backlog is slightly over 31 million. In our Longview facility, it’s about 3-1/2 million. In our Canadian facility, it’s a little over 5 million, for a total of almost $40 million, combining them all together. So, we feel that we’re very well positioned in our Tulsa and Longview place because the ideal situation is for us to come out of the winter quarter, the quarter we’ve just finished, and have enough backlog so that we can run efficiently, but not so much backlog that we have to lose orders because we can’t produce product in a timely fashion.

And in both of those facilities, we are in that kind of condition. We are too new to be able to say really where we are in the Canadian one, but there’s a strong probability we might have a little more backlog than it would be desired to be had at this point in time in the year. But that will only be something we’ll see as we see how fast we can pick up the production volume up there.

We did lose -- or they did lose quite a few people when went through the trial [move] last year, and so we’ve got quite a lot of training going on of personnel. And so, there are a lot of things that aren’t too clear as to where we should be and what we should be doing, and that’s what we’re embarking upon, trying to get a better handle on now that we can devote more time toward that end of it.

In concluding, I’d like to ask you for your questions, and I’m turning it over to the moderator now.

Thank you. [OPERATOR INSTRUCTIONS.]

[James Gentil] with Sidoti.

I have a couple of questions. First, the significant drop-off in Wal-Mart that you mentioned. I was wondering if you can attach a dollar value to that.

Yes, probably somewhere in the vicinity of $14 million.

For the quarter?

No, no, for the year, on an annual basis. It’s about three, probably 2, $3 million plus for the quarter.

Three-ish for the quarter, OK. Additionally, I’m sorry I missed -- something happened at the office, and I missed you mentioning something along the lines of a Toyota factory order, and you start -- you mentioned some other national accounts opportunities. I was wondering if, perhaps, you can, if anything, repeat what you said or embellish on what you are focusing on for the national accounts business.

We have been given a commitment from the Kroger people for their supermarket business on a national scale, 100% of the business, and it’s as soon as they can get it changed over, which they say will take six to nine months, and we’re about three months into that six to nine now.

So you figure it’s a 3-2 event?

Yes. So, it’s not going to happen till the last half of the year.

May I ask who Kroger was purchasing their equipment from before you?

Trane Company, a division of American Standard.

And how much annually could that--?

--Well, they haven’t been real specific, but it’s our belief that it’s somewhere in the 10, $11 million area.

So that will basically -- if you lump IKEA and Dillard’s and maybe some extra Toyota business into the situation, that will more than offset the Wal-Mart business?

Yes, it will. And then, the other thing which we don’t know how much this could be, but we started getting business from Toyota. We’ve started -- first of all, we got some business for products from the Tulsa facility, and then we got a fairly significant sized order, about a half a million dollars, from them for large industrial units to be built by our Canadian facility, and the indication they gave, we’ve made our -- we’ve had a talk with them in depth about what all we are to provide and what we aren’t, and we’ve gone over that in depth. And they seem to be very pleased with what we were showing them, so we have expectations of doing significant more business with them, both on replacement business as well as new facilities they might build.

And this 23% plus gross margin in the quarter certainly took me by surprise, at least. Was wondering if, perhaps, you can give us insight over the next three quarters as to how you’re going to be able to capture over 20% gross margins.

Well, like always, James, you do a lot of things and you hope they all work, and sometimes they do and sometimes they don’t, or sometimes a high percentage work. And this quarter, a lot of things that we tried worked. And so, it was kind of pleasant surprise here at how fast it came together for us, because we weren’t anticipating it to come together as well as it did.

That being said, there’s no real big reason why we should have a big backslide. There may be a trifle bit, but we should be able to hang on pretty much to where we are. We might have a little -- like I say, we might have a little backsliding, but it shouldn’t be a big significant one.

And you said that Canada contributed about $2 million or so to revenue in the quarter?

Yes, and 700,000 to loss.

To loss. That was about a nickel a share. Where do you think Canada is going to come in for the year?

Well, we had great expectations of having them profitable long ago, but, as I’d mentioned earlier, due to all the work we had to put into Sarbanes-Oxley, we basically put to one side the running of the business in order to get compliant. And so, we’ve neglected something -- some things that we should have been doing to get them shaped up ever since September of last year we’ve kind of neglected, and now we’ve got to get back on them. the net result is I believe we’ll have them profitable this year, but not nearly as soon as we had thought we would have.

And top line?

Top line we’re still looking at pushing the 200 mark out there pretty hard.

And Canada?

On Canada, we still think we’re in the 15 plus or minus area.

And once you’re finished with the 200,000 share repurchase, what do you think? Are you going to issue another authorization, or are you going to cool down with that a little bit?

Well, as long as it looks like we don’t have any big things that are worthwhile investing the money in, and what we believe we’ve got going here in the company, we’ll probably go back out and do another repurchase, would be my guess, if we don’t have anything else in the offing.

I hate to say this but, if you’re able to maintain a 23% gross margin, your stock is undervalued.

Well, that why we’re -- that’s why I would say we would continue to buy stock.

Frank Magdlen with the Robins Group.

What’s your CapEx for the coming year, and then we’ll talk about SG&A?

OK, 7 to 10 million on CapEx.

And then, you had mentioned in SG&A for the quarter three items that I couldn’t tell if they were going to be reoccurring, and the profit-sharing we -- hopefully will be reoccurring.

Yes, I would hope that one will reoccur. That one we would like to have happen.

The expenses related to the Canadian operation, those will go ongoing, and the additional costs for all the professional will probably not go on quite as strong, but you should realize that Sarbanes-Oxley is not a one-time issue. It’s a continuing thing, so it’s going to be much higher than we’ve ever had before. Just give you a feel for it. A lot of the conversation that you see in Sarbanes-Oxley is related to how much it’s costing for auditors, and how much it’s costing for outside.

Well, I would propose that, in the case of this company, at least, that our internal costs have exceeded our external costs, and over year’s time, I think we will be up somewhere in about 10 times as much as what our auditing costs used to be when you look at what it’s costing us internally, as well as externally. Which, to me, is just an atrocious number. But that’s what it takes. That’s what we’re beginning to believe it takes. It takes additional personnel devoted strictly to doing that, and it takes -- it really ties you up a lot. It takes a lot away from running the business. I just can’t say it any other way.

And hopefully, they’ll get a little bit more logical in what they do, but it’s -- there’s about 15 to 20% value to it, and the rest of it is just a lot of work for nothing, as far as I’m concerned. I don’t see how it’s fulfilling the needs that they proclaim they were fulfilling, but that’s just an engineer looking at it. But I’m very unimpressed. I think it’s a terrible thing.

Well, does that mean that your SG&A ought to run about 18 million for the year?

Well, I don’t have an exact number, but it’s going to be affected negatively by Sarbanes-Oxley from now on, as far as I can see. It’s not going to be something that’s just going to disappear.

And getting back to Canada just for a minute, in the past you thought you’d do 17 to 18 million, and maybe in the second half you might have a net margin of 4%. I gather that the top line won’t be quite as robust, and maybe we should push that out to a break-even for the year as opposed to -- or in the fourth quarter or third quarter as opposed to making some money?

That may well be. As I explained earlier, we’ve been kind of neglectful of running a lot of things of our business, and that one was the one that needed the most attention, and didn’t get a lot of it. and a lot of that attention was that we needed to do things with software that we didn’t get done. So it’s definitely pushed things out on us, how far it is I can’t really give you a good insight at this point. But I do still anticipate us being in the profitability end by the fourth quarter. When in there, I just -- I’m still guessing a little bit.

And then, just how about a little more color on the residential product, because that was something you’re just really starting to roll out.

It is still moving along. Where we are on that, we went outside and bought a software package from a company that develops software for the Internet for selling things on the Internet, and they customized it to fit our needs, and we are right now in the process of doing what’s called beta testing of that software. We got the product design and we built the units and sold units. Now, it’s getting our marketing thing pulled together, and our production issues resolved. But we’re often starting to roll forward in that one now.

And that’s primarily -- that’s going to be, what, out of Tulsa and Longview both?

No, it’s strictly Longview product.

OK, that’s where you have, what, 3, 3-1/2 million of backlog there?

That’s correct. Most of that -- the backlog of the product we have down there, there’s a heavy amount of it, which is coils for up here, and then the part, the air handlers and condensing units, are a much faster turning business than is the rooftop business. In other words, somebody gives you an order, they want the product much sooner.

Greg Weaver with Kern Capital.

Congratulations. Fantastic gross margins, and all my questions have been answered. Thanks.

[OPERATOR INSTRUCTIONS.] With Bares Capital Management, Brian Bares.

One question about Canada. You said that you were a little ahead of yourself with a $5 million backlog there. Do you run into capacity issues if you -- I mean, are you stretching a little bit to get 15 million through there?

Well, that’s one of those hard to answer questions. Let me tell you what I think right now. We put them into a building that will probably hold 50 million out the thing if it’s running first class. It’s a long ways from first class right now, but the facility is not our problem right now, in the building itself. The machinery to manufacture, it probably is somewhere down around the 20-something million, or 20 million area. We have to do more in machinery. We know that. We’ve been studying which way to go to optimize the investment, and we haven’t yet really determined which way to go.

The other part of it, we’ve retained a lot of key personnel, but we did lose a lot of personnel between what they lost when they were in bankruptcy and when we first hired them, and then we moved them several miles down the road, and some people didn’t want to have to drive that much further or whatever, so we lost some additional people there. And we’re having to rebuild some of our personnel primarily in the shop area, but in a customized environment, that can be kind of critical, because a lot of that knowledge is more tradesman knowledge, and if you’ve got people who know what they’re doing, it’s greatly beneficial, obviously. So, hedging a little bit, and I’ll admit it, because we’re not really all that sure of where we should be.

The 5 million includes orders that, in that case, are orders that are waiting for approval. In our other business, we don’t do that. We tell the reps, “Hang on to the order until you’ve got an approved order, and you’ve got all the things resolved on the order, then you send the order in, and we’ll put in schedule and build it.” With a customized product, it doesn’t work that way because they have to come in and ask for custom drawings and a whole lot of work to be done by the factory in order to get some submittal information to send to the approval agency, whoever that is, a consulting engineer, the architect, the owner, whoever. And so, they will have more backlog, probably, than the other two facilities because there will be a major share of it that’s on hold pending approval. So, I’m not too sure how much we might have, too much backlog right now to optimize the next year or what. We’re still feeling our way at this point.

Last quarter, we had a conversation about some end-of-the-year warranty issues. Are all those completely behind you now?

I don’t know of significant warranty issues still in front of us. the normal ongoing ones are, but our warranty costs have been diminishing, and they obviously won’t do that forever, but we don’t have any big issues out there to be taken care of now.

Your cost of sales, do they have the potential to come down even further if steel prices soften a little bit?

Of course they do. We’ve got two things working on us there. One, pure steel, we buy a lot of that, so that’s an immediate benefit to us. But the other one, which is more a hidden one and a harder one to quantify, is the fact that a lot of the components we buy are heavily involved in steel, too, and they, like us, didn’t get as much price increase from us last year, just like we didn’t get as much from our customers as we should have, due to the material cost increases. Now that they’re going down, are they going to back off on not trying to get so much price increase this year? I would hope so, but it’s still kind of an up in the air situation about the component portion of the market.

So it’s impossible to quantify on a one-for-one basis what X drop in steel would do Y to your cost of sales?

I don’t know how to do it. if somebody does, I don’t.

[OPERATOR INSTRUCTIONS.]

Can you give us a little bit of a feel of how much steel prices have come down, at least the prices you’re paying?

Yes. Say, two years ago, we were paying in the mid-$0.20 a pound for our typical galvanized product, $0.25, $0.26, $0.24, somewhere in there. And it went last fall to as high as $0.54 a pound, and then now, it’s back down to somewhere around $0.40 a pound. So, 40 is a long ways from the mid-20s, but it’s also quite a ways from the mid-50s. So, we’re about -- not quite halfway back to where we should be.

And there are no further questions at this time. Mr. Asbjornson, I’ll turn things back to you for any closing comments.

OK. We would like to thank all of you for your continued interest in AAON, and your time and attendance in our conversation here. Kind of summarize, that the light has gotten brighter at the end of the tunnel, so to speak, a little faster than what we had been thinking it would, and, at this point in time, we don’t see any real big things tripping us up too much like they did last year, and hope that our vision is correct, and there are no hidden ones going to get us that we don’t know about right now.

But, at this point in time, the biggest unknown we’ve got in the whole thing has to do with an article you might have read in the Wall Street Journal, which was looking over the cost of building a building, and what has happened in the past year. And they quoted and had pretty large article in there, and they were quoting upwards of 20% price increase on a building. And that is probably the biggest unknown, is have all these cost increases priced some people out of the market for buildings that they had previously said they were going to build, and if that has not happened, then, thus far, it’s still a question as to what has happened to that.

But, if that has not happened, then I think we’ve got a good year looking in front of us. If the inflation that’s incurred in the building industry has put on hold a lot of plans, then maybe it’s not going to be so good. But that’s about what I can tell you, from our perspective, at this point.

I thank you for your attendance, and look forward to talking with you at the end of next quarter or sooner. Thank you.

That does conclude today’s conference call. Thank you all for your participation, and have a great day.