Aaon Inc (AAON) 2005 Q3 法說會逐字稿

Good day everyone, and welcome to the AAON Third Quarter 2005 Earnings Call. [OPERATOR INSTRUCTIONS.] At this time, I would like to turn the call over to Mr. Norm Asbjornson. Please go ahead sir.

Good afternoon. I’d like to introduce Kathy Sheffield, our Chief Financial Officer and Vice-President. Kathy?

Good afternoon. Welcome to our Third Quarter Conference Call.

Prior to moving on, I’d like to read a safe harbor 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 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 SEC filings, including the annual report on Form 10-K, and the quarterly report on 10-Q.

First of all, I’d like to review the third quarter and nine-month financial statements. As you see, we had a very marginal upswing in total revenue. We did manage to bring ourselves back more closely aligned to what our historical cost of sales are, and our gross profits, both through efficiencies and price increases.

The SG&A did have a bubble in it. The bubble is contained in three areas for the three months. In order of priority, part of it was a warranty increase, not because our warranty in this year was so high, but rather that it was quite low last year in the third quarter. Warranty is well under control, is what I’m saying. But there was an abnormality there.

The next item had to do with accounting professional information technology and internal accounting expenses related to SOX 404. And the last one had to do with the fact that we had Air Wise in the quarter, with much more geared up to do business than it was a year ago.

Other items, there were no particularly unknown quantities in here. Everything else pretty much fell right down to the bottom line. On the nine month, there is a little bit of difference there, in that we did have a better growth pattern. We did have a slightly better gross margin. And, again, we had an SG&A variance.

The SG&A variance in this one was kind of a reversal, the biggest portion of which was the Sarbanes-Oxley related costs. And that accounted for approximately half of it. The other half of it was broken down equally, due to additional employee profit sharing, due to the higher profitability.

And the last one was the fact that we had all of Air Wise in there for the year to date, whereas we didn’t have any Air Wise in for the first four plus months of last year. So that accounts for the difference in the SG&A for the most part in the nine months year to date. The balance of it was pretty much a non-issue going down through there.

To spend a little bit more time on what occurred in the top end of it, we had a couple issues going on. One, due to a change in the mix of our business from smaller tonnage units to larger tonnage units, we had a reduction in the smaller tonnage unit business, and an increase in the larger tonnage.

We attribute a fair amount of the increase in the larger tonnage business to the fact that we introduced new products, which have a lot more technically advanced features. And we think that they were appealing to our customers at a higher rate than were the older products and the smaller tonnage.

That was a mixed bag, in that we had several new manufacturing methodologies incurred there, one of which is that we had gone from the fiberglass insulated cabinet to a foam insulated cabinet. And we’ve had some growing pains in coming up to speed on the new foam cabinet. But it has come along well. It’s just not as fast as we would like.

The other areas that have been pronounced change is in the way we move air in the product. We have gone to direct dry blowers, eliminating a major source of maintenance for the customers of the v-belt driver and the bearings and shafts and everything associated with the blower. And those are two very significant changes in our industry that we’re in the forefront of.

The third item being that the green refrigerant that the industry is heading into for these types of products, which is R410, to replace the older refrigerant, which was R22, has been particularly well received in these larger tonnage units. And we had a significant change over to the new green refrigerant.

As we’ve mentioned before, all of our products are available with the new green refrigerant. And while it is a little more expensive, when the refrigerant being replaced, it has the advantage of being where the market is going, and also that the old refrigerant will be obsolete before the unit wears out. And a lot of people are therefore changing over to make certain that during the lifetime of this product it will not find a situation where they’re having to buy reconstitute refrigerant if they have a refrigerant leak out of it.

So we’ve had really a growing pain in the bigger tonnage, where our strength has been and our growth. And that is largely going behind us now. So we feel much more comfortable. Looking into the future a little bit, I give you a few numbers here that are significant. So far in this quarter, the month of October, we’ve shipped a little over $11 million worth of product. And, as we sit here today, we have approximately $42 million in backlog.

Most of that will ship out in the balance of this quarter, to be added to the $11 million we’ve already shipped. However, there is some of that, that for one reason or another, is not desired by the customer until next year, and therefore, will not get shipped this year. There is still going to be some new business come in that will get shipped before the end of the year. The net result of all of this is that we don’t see a dramatic change in direction of the total volume from the third quarter. There are very few things happening on the bottom line, other than efficiency of operation.

Our price, inbound prices, are not changing appreciably on what we’re selling the product for. There are small changes still occurring in our vendor cost, things which we buy. So that part of it is fairly stable. The two parts that are particularly troublesome in that area are the fact that copper has continued its upward advance, is now running at about $1.92 raw material, compared to say two years ago, when it was down in the 70s and 80s.

Steel, two years ago, was in the mid 20s. And then it went all the way up into the mid to upper 50s on a price per pound. All of this is price per pound. And then it backed down into the mid 30s, and now seems to have turned around and started back up again, just modestly, into the upper 30s. So we are still in an inflationary environment in raw commodities, it appears. And that always relates into manufactured components we buy, also will have an inflationary component to them.

That’s kind of telling you that the inbound prices of the product aren’t going anyplace dramatic, even though we’re about to initiate a price increase. But that won’t really get into this quarter’s production. So it’s not an event.

The material cost increases, we think will happen. But they’d be modest. And probably the offset to all of that, which we expect to be fairly significant, is manufacturing efficiency improvements, which will occur. Net result, not a big result on the gross margin going forward.

Let’s see. There have been questions asked about our Canadian operation, how that is moving forward, and what we can expect there. We had a big delay of about eight months, when we were unable to move forward in rectifying problems there, because we were so engrossed in Sarbanes-Oxley during the last year, in the fall, and in the wintertime. But we had gotten past that part. And we are moving forward with them rapidly now.

The net result is that this year, the third quarter sales roughly equaled the first two quarters of this year. And the loss was still present in the third quarter. But the loss was significantly less than half as big on a percentage basis, as it was in the first two quarters. So both profitability improved substantially, and more -- and volume a little more than doubled in this quarter, compared to the previous quarter.

So we’re moving forward very nicely there. We do anticipate that continued improvement during the fourth quarter up there. We will plan that that is going to probably level out going into next year somewhat. We are not going to continue that kind of an advance, because we’re going to be getting up into the area where we will have enough volume to be turning profit.

And, for a little while, we will concentrate on operational improvements and efficiency improvements, rather than devoting a lot of our energy to further growth, until we get control of our operation and better shape than we have it now. So, on an onward basis, it’s certainly not going to double and triple in sales volume, nor is the profitability going to double and triple, like it’s doing right at this moment in time.

In the balance sheet, we did have, at the end, prior to this, quite a bit of cash in a CD. If you look at our balance sheet, you will see where that money is. It’s in accounts receivable inventory and additional capital investments.

We are still working on the capital investments angle, because we believe that what we’re doing with the new products is going to give us growth in all product lines, as the market continues to stabilize, the building market that is. And so we are having to prepare for growth, which we anticipate to be occurring, and doing other things to make our efficiencies continue to improve.

Let’s see. Where else do I need to go? We have had a notable increase in the day sales outstanding between 12/31 and 9/30 of ’05. And that is basically a timing issue. In the last three months of the year, normally the October month is your strong month. Your November month will be somewhat close to it, and then December will decline, due to weather, as well as fewer production dates due to the Christmas holidays, and which, incidentally, will also have that negative effect on the November one. But it will just kind of pull it down around October.

But that means that most of your shipments in the fall occur early in the quarter. So your day sales outstanding is on a diminishing shipment basis. And your collections are doing better. Right now, we’ve got the reverse in the third quarter. We were gaining strength throughout the quarter. So our shipments were at the high end, near the end of the quarter, which is why the receivables also are at the high end.

And one other issue that’s open is the stock buy-back. We did continue the stock buy-back in the third quarter. We will be re-entering the market again next week. We have still stock to be purchased, 98,036 shares. To date we have spent $21,484,333 on the stock buy-back. The stock buy-back in total was 1,325,000 shares. And, again, we still have, of that, 98,036 shares to buy.

The residential aspect, which we’ve been discussing -- we’re in the final stages of beta testing our marketing methodology. And by that I mean the marketing is going to be on the Internet, through software. And we’re proofing the software now internally, to make sure that it does everything it’s supposed to.

And by that I mean when the customer puts in a ZIP code, the computer has to calculate the appropriate taxes to be charged, based upon the ZIP code. It also has to offer the customer various methodologies of shipping the product, and being able to calculate the shipping cost through those various ways that they might choose to ship it, so that they can, when they enter that purchase order, while they’re on line, they will know what their taxes are, in addition to their basic cost of the product, in addition to their freight. And all of that has to be flawless. And that is what we’re checking to make sure is happening.

The software is done, obviously, and is, we believe, correct. But we are checking it. On the 7th of November, we’re going to expand it a little bit more, open it up a little further, for some limited use outside. And by sometime in December, we expect to pretty much put it on the market and go. And we’re ready to start moving forward. So fortunately, we will be in position, we believe, for the market we’re targeting, which is a replacement market for next summer.

On our various customers and types of customers, what we’re doing, our national account business is -- we’re finding national account business to be highly competitive. And if it gets down to the point we cannot see value in having the orders, based upon at least some decent profitability, then we are not being successful if somebody else chooses to go below that.

The net result is, in the very competitive environment we’re in right now, our total national accounts is not really growing. Our growth is coming from our manufacturers business, which now represents in the low 80 some percent of our total business. So all that is saying that we have greatly broadened our customer base, and we are, compared to where we started out, where we were very highly dependent on an extremely limited number of accounts, we now have a very broad base of customers.

Looking at the types of business we’re in, retail market, as I said, a lot of it is national accounts. And while it’s not doing badly, it’s reasonably good, it -- selling product there, conditioning product into that market, is a highly competitive situation right now. Manufacturing buildings are looking a little brighter than they have for several years. But they’re certainly not back to where they were several years ago. And therefore, they quit the decline, and given some indication of an upswing. But it’s modest.

Educational and medical buildings are all running quite well and doing well. Office and other commercial buildings are showing some signs of life in the suburbs. They’re not as dead a market as they were, since 2000, the year 2000, when the tech boom went down. That’s when the building, the office building market, took a real tumble. And then all the miscellaneous buildings, which are included in the above, seem to have a respectable amount of business available.

That, I believe, pretty much gives you all the sum of what I think we’ve got to discuss this afternoon, other than questions and answers. So I’ll open it to questions and answers.

[OPERATOR INSTRUCTIONS.] And our first question will come from [James Gentilly] from Sidoti & Company.

Good afternoon Norm, Kathy. I am going to ask you to clarify the fourth quarter shipped/backlog revenue guidance -- 11 plus 42 equals $53 million. Not all will be delivered. Are we talking flat with third quarter’s 48? Or a little bit more?

A slight bit more. It will depend a lot upon things we don’t see for sure yet. Job site conditions that make some of that not shippable to the customers. Those probably more than anything will determine what’s going on. We are doing pretty well this month, and look like we’ll have a good month next month. And then December gets much more questionable.

Got you. So, between $48 million and $50 million would be your best guess of your fourth quarter revenue situation?

That’s probably as accurate as I can be right now.

Okay. And then highly competitive national accounts? Thank you for giving us the total percentage of revenue -- 80-83ish percent is manufacturers, distributors. Wal-Mart appears to be a problematic account for you. Could you give us a little bit more kind of insight into how much that business declined year over year?

Yeah. It went down by -- from the mid-20s, mid to low 20s last year. And it looks like it’s going to be in the low teens to 11-13 type million this year.

Mmm-hmm.

Most of that is based upon the fact that we lost a significant amount of that business at the beginning of last year, when we -- we don’t know all the reasons why. Never do. But we did raise our price somewhat when we went to R410. We don’t know what our competitor did. But, shortly thereafter, we did lose some of the business.

They have not -- we used to be talking about bidding on new construction. And they have not done that, which means that the margin we’re getting on that business is very, very bad, and is really not contributing to our bottom line. So, until -- it’s one of those real difficult situations. It’s not real profitable for ourselves, and I’m sure not for our competitors.

At the end of the third -- at the second quarter, you suggested a higher top line. I was wondering if -- you kind of placed some excitement into certain other national accounts, perhaps Dillard’s was going to start delivering, I believe, in the second half of the third quarter. Did that business dry up? Or?

No. Dillard’s is doing pretty well. And they’re pretty much on stream with what we thought. The other one that was the new one was Kroger. And Kroger has been coming up to speed. I don’t think they are totally up there at this point in time. But they are significant now to us. So they have come along. Wendy’s is very significant to us. We could go through a lot of others that are still significant to us. But in general, our position with the national accounts has weakened over the past few years.

Fair enough. And then just with Canada, could you just give us the revenue this quarter versus last quarter, and what you hope for the balance of the year?

So far, we’re just a little over $7 million with Canada for the year, of which about $3.5 million of it happened in the third quarter. And on a profitability, we lost -- we’ve lost to date about 13% on sales. But in the third quarter, it was down to four plus, and was not a big thing. And so it’s been coming up very rapidly -- both the volume and the profitability have. And we expect that to continue for a little while yet. But we’re going to start clopping out here, as we get things working better.

So the expectation would be that, at the minimum, we can expect $3.5 million to $4 million in quarterly revenue coming from the Air Wise property?

Yeah. I think that’s a very reasonable expectation. We aren’t going to push hard to go beyond that, until we get the operational part of the Company performing more to our liking, because there’s no sense in having something that isn’t running properly, and take a big chance on putting a lot of volume through there, and perhaps losing control of it again.

Got you. Thanks.

Mmm-hmm. You’re welcome.

And your next question will come from Frank Magdlen from the Robins Group.

I wanted to get a little better handle on what you’re going to do with your tax rate. I know that last time we were looking at 36% for the year. And it was about 37.3% for the quarter. So I am trying to ask for some guidance. Is that going to go up and stay up?

I think I’ll back out of this and turn it over to Kathy.

Hi Frank. We feel like it’s going to stabilize around 37. It has fluctuated from quarter to quarter, based some on our Air Wise, and so forth, and deferred tax entries. But yes, it’s going to stabilize around 37%.

Okay. And then Canada -- was that about $140,000-150,000 loss? Was that pre or after tax?

After tax.

After tax? And then Norm, you talked about the larger and the smaller units. And you’re doing better in the larger units. But where do you break that cutoff when you say that?

The smaller units go -- we have a little overlap. They go from 2 tons up to 30 tons. And we then drop down to 26 tons. On the bigger, they go up to 230 tons. So it’s the 26 up through the 230 are doing much better. And if we had been able to get our act together better in production, we’d have had a better sales revenue number than we have. But we just were unable to grow -- they’re both brand new products -- with the new types of construction. And we just didn’t get over the learning curve fast enough to get the volume where we wanted it.

Did I hear you right then that you didn’t ship everything that you could have, because of production problems?

That is correct.

Do you want to quantify that?

Well, right now, on the very biggest products there, the orders that we got coming in right now are out of necessity. We don’t believe we can ship them until some time into January. So we’re definitely loaded with orders that we know -- we know what we’re going to build the rest of the year in the biggest line.

The next biggest line, which is the 26 through the 70 ton units, we’ve been stepping it up every week or couple of weeks. Whenever we think we can handle it, we speed it up a little bit more. And we’re still into taking some orders for this year. But we’re getting real close to running into next year on that again too.

So then, once we do that, we’re going to be right back to kind of where we were in the third quarter. It’s going to depend upon our ability to speed up our production on how much we really end up doing on those lines. They are both being very successful. You never know for sure all the reasons why you get that out of a product.

But they are very up to date products, with -- and a lot of the dollars are going with the green refrigerants, the R410, in those products. We build a lot of that product with the green refrigerants. So that may be part of it. It may be the cabineting. It may be a lot of the technical aspects that we improved on them. I don’t know.

The other product line, the 30 ton, down to the 2 ton, is pretty much -- it’s been updated several times. But it hasn’t been totally gone through since we’ve brought it out in 1988. It’s been revised and updated and trimmed up a little. And what we’re planning on doing is a pretty major revision, as we go down through that product line too. So we’re about to start on the biggest cabinet of that 3 cabinet size, to go through. Our hopes are, that by this time next year, we will be through all the redesign of those three cabinets.

I don’t want to put words in your mouth. But if you had the orders, and if you could have shipped them, would you have shipped another 2-4 million?

Probably somewhere in that vicinity. Yeah, I don’t have a precise number for you Frank. So I am seat of the pants flying. But I am saying yeah, probably 2-4 would have been possible, if we had been able to get ourselves together.

Alright. One other question on SG&A. Is this, in real dollars, around in the $4.5 million, $4.4 million going forward? In other words, there isn’t a whole lot of extra expenses in there that are going to go away?

No, I’ll let Kathy. Kathy has worked on this a lot more in depth than I have. I’ll let her give her comment on that.

Alright.

Some of it that is related to the Sarbanes-Oxley 404, some of that will go away. Some of it never will. It’s just going to be an ongoing expense, as we follow the guidance in the regulations. But some of it that we have expended this year, in the earlier part of the year, will go away.

But is it very significant, if you’re trying to forecast into the future? You just plug in 4.3 million or something per quarter, to give you a better feel for what your SG&A ought to look like?

I would say that it’s -- quarter to quarter, it’s probably going to be about what it was for this quarter.

Okay.

To give you an answer a little bit on the Sarbanes-Oxley part of it, I think all but Sarbanes-Oxley is either stable or going down, as a percent of sales, as our sales goes up. Sarbanes-Oxley, compared to what our auditing costs used to be, I am going to say is about 10 times greater than what we used to spend three years ago.

Okay.

So it’s a very significant number. What has happened, I think -- I hate to be on a soap box. But I feel very strongly about this. It was a very, very poorly written Bill, that about 20% of it does some real value for the stockholder and for the investment community. And about 80% of it just spends a lot of money. And it’s not fulfilling its imputed thing of protecting the investor. It’s really costing the investor.

Alright. How about a couple of ideas as to how much you’re going to spend next year in CapEx?

We’re probably going to be in the $10 million area.

Okay.

What we’re doing, because a lot of our things that we have to do are long-time things, like if you want to build a building, or if you want to buy a piece of machinery. All of that is one and two years to get done. So, if you don’t -- if you think that two years from now something is going to be improving in the business, you almost have to start spending money this year, in this business, to get ready for two years from now.

Alright. Okay Norm. I had one other question. The last conference call, you talked about the best way to enhance shareholder value. And I’m wondering if you’re any further along on elaborating on that.

Well, we -- the Board of Directors requested that we go out and bring in some investment bankers, to discuss all aspects of what you might do with the Company. We have enlisted a group, who will be here on the first of November, when our Board of Directors meets.

And they will be giving about an hour and 15 to an hour and a half presentation on what they see the various ways that we can do that are, and how they think AAON would relate to the various ways we might do that. And once that is given to us, if there’s a definitive direction we should go, we will be moving forward in it. If we think we need further study, we will probably do so.

Alright. Well I’ll stay tuned then. Thank you very much Norm.

Your next question will come from [Brian Bears] from [Bears] Capital Management.

What -- ? I got your answer on CapEx for next year. But what do you plan on spending above and beyond what you’ve already spent this year?

Most of it is really going to be paying for the balance on a couple of the things that haven’t yet been received, but have been ordered and/or are in the process. And that’s probably another couple million dollars.

Okay great. And then one more question for you. It looks like you had about 3.5 million in Canadian revenue in the last quarter.

Correct.

If you look at the core business, ex Air Wise, year over year, am I reading this right, that revenues would be down in the core business?

Yes, you would be.

Okay. And does that kind of go back to the production problems that you’ve been talking about with other callers?

Well, it goes back to a lot of things. Production problems hindered us from being up, perhaps, modestly. But the other side of it is that it’s been a struggle to try and get the gross margin back up where it needs to be. And we will always try and make sure the bottom line looks better. We’ll sacrifice a little of the time line to get the bottom line, many of the times.

So perhaps it actually is from turning away some unprofitable business.

That is correct. Very definitely, that has been the case.

Okay. Thank you.

[OPERATOR INSTRUCTIONS.] And at this time, it appears there are no further questions. Mr. Asbjornson, I’d like to turn the conference back over to you for any additional or closing remarks.

Okay. Thank you, and thank all of you for tuning in on our third quarter stockholder conference. We’ll look forward to talking with you at the end of all of this, when we’re completed with it. As we tried to express here, we don’t see any dramatic events occurring to us at this point in time from everything we can see. We look to think that it’s going to be modestly better than it has been -- again, not dramatic in any fashion. And without further adieu, I’ll turn it over to Kathy.

Thank you for attending our conference call. And we look forward to talking to you in February, when we’ll be reporting the fourth quarter and full year results.

And thank you.