Altra Industrial Motion Corp (AIMC) 2010 Q2 法說會逐字稿

Greetings and welcome to the Altra Holdings quarter-two 2010 financial results conference. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. (Operator Instructions). As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, David Calusdian of Sharon Merrill Associates. Thank you, Mr. Calusdian, you may begin.

Thank you, Rob. Good morning. Welcome to our Altra Industrial Motion second-quarter conference call. On the call today is CEO, Carl Christenson and CFO, Christian Storch. To help you follow management's discussion on this call, they will be referencing company slides that are posted to the Altramotion.com website under Events and Presentations in the Investor Relations section. Please turn to slide 1.

During the call, management will be making forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. Forward-looking statements are inherently uncertain and investors must recognize that events could differ significantly from management's expectations. Please refer to the risks, uncertainties and other factors described in the Company's quarterly reports on Form 10-Q and annual report on Form 10-K and in the Company's other filings with the US Securities and Exchange Commission. Except as required by applicable law, Altra Holdings Inc. does not intend to update or alter its forward-looking statements whether as a result of new information, future events or otherwise.

On today's call, management will refer to non-GAAP adjusted earnings per share, non-GAAP income from operations, non-GAAP adjusted net income, non-GAAP free cash flow, non-GAAP net debt and non-GAAP/GAAP total capitalization. These metrics exclude any restructuring charges and any other extraordinary items. The reconciliation of Altra's non-GAAP measures to the comparable GAAP measures are available on the financial tables of Q2 2010 financial results press release on Altra's website. I will now turn the call over to Altra's CEO, Carl Christenson.

Thank you, David and please turn to slide 2, second-quarter 2010 highlights. The positive momentum we established late in 2009 continued into the second quarter as we executed well and reported a 19% year-over-year increase in revenues. This represents our third consecutive quarter of sequential sales growth. We believe that substantially all the sales increase in the second quarter was the result of end-market demand as most of our distributors essentially completed destocking activities earlier this year and to our knowledge, they have not been restocking.

As Christian will discuss in more detail, we were particularly pleased with the operating leverage that flowed through to the bottom line. Gross profit margin improved 390 basis points to 30.2% and operating margin increased 680 basis points to 11.8%. Both our gross profit and operating margin performances are approaching all-time highs for the Company. As a result, non-GAAP adjusted diluted earnings per share were $0.27 for the second quarter compared with only $0.01 in the second quarter of last year.

Our sales growth in the second quarter was primarily driven by our distribution channel and an early cycle OEM market, particularly turf and garden and transportation, which both had another excellent quarter. At the same time, we are seeing an improvement in incoming orders for certain late-cycle business. Those are the highlights. I will now give you some insight into what is driving our top line. Please turn to slide 3 for a discussion of our end market.

First, I will describe what we are seeing in the distribution channel and then discuss specific end markets. As you would expect, our distribution channel is predominately comprised of sales of aftermarket parts. As global industrial activity increases demand for replacement parts increases well before capital spending and we are benefiting from this phenomenon. As I mentioned, we believe that our distributor partners are comfortable with their current levels of inventory of our products and that our sales are now purely the result of end-user demand.

In turf and garden, not only are we capitalizing on strong demand, but we have also been awarded new business from some of our customers increasing our marketshare. Our success has been the result of working closely with our customers in the years prior to their product introductions, collaborating engineer to engineer to help them build safer and more efficient products. In addition, the responsiveness of our dedicated turf and garden manufacturing and support team, and the ability to provide just-in-time delivery is a strong competitive advantage.

In the transportation market, we are seeing continued strength as a result of a much improved automotive market. The automotive platforms that we are on are doing particularly well and we continue to create new opportunities through our product development efforts.

One example of a new product initiative we are working on is a new electric brake for hybrid midsize delivery vehicles and midsize shuttle buses. We expect continued sales growth in the transportation market as we execute our strategic initiatives in this market.

We experienced strong year-over-year sales in the material handling market in the second quarter. This end market appears to be emerging from a very deep downturn. Our products are primarily used in equipment such as conveyors, forklifts and elevators. We have seen increased sales of our products used on electric forklifts and elevators. Some of this activity is being driven by new project work. The conveyor market is lagging, but we have seen a modest improvement of products for conveyor systems.

I will now discuss our late-cycle markets starting with energy. With the price of oil maintaining a level above $70 per barrel, rig counts continue to increase and we are experiencing a modest improvement in orders for our products used for oil drilling and extraction. Most of the high horsepower drilling rigs used for directional drilling are back in service and some OEM customers are building new rigs. We expect this market to remain strong.

Power generation on the other hand was exceptionally strong last year and our sales into this segment of the market are off slightly compared with last year. We are beginning to see an improvement in activity for high-performance products for gas compression and transportation. The strongest late-cycle market for us in the second quarter was ag. With combine machinery seeing a significant increase in demand, we expect that some of this demand is being driven by purchases in advance of the interim Tier 4 emission rules.

The metals and mining market is essentially flat; however, bookings are improving and we expect this trend to continue. Much of the products we manufacture for these markets has relatively long leadtimes. Therefore, we do not expect a significant improvement in shipments into these markets until the end of 2010.

Let's look at metals and mining separately. The global mining market is strengthening driven by demand for developing industrialized countries while North America is relatively flat. Project activity in quoting has increased recently as we expect that customers will be placing orders in the second half of the year.

This area could be a good growth driver for us in 2011. Incoming orders for the metals market are up, particularly in North America, driven by improvement in the automotive industry. There are also a few late-cycle markets that are still soft, including aerospace, commercial construction and pulp and paper.

That takes care of our end-market review. Before I turn the call over to Christian, I would like to quickly review our growth strategy going forward. Please turn to slide 4, strategic initiatives. First, we plan to drive our organic growth through new projects with existing and new customers and the associated product development. For example, I mentioned earlier the success we have achieved in turf and garden by working collaboratively with our large customers and the hybrid vehicle project we are working on.

We are also seeking to grow by acquiring companies that strengthen our product portfolio, are accretive to earnings, leverage our existing fixed costs and expand our global footprint. We are continuing to see an improvement in the M&A market and we have a good pipeline of targets.

The third element is to expand our presence in underpenetrated geographies with technical and sales resources. Presently, we are looking at China and other Asia-Pacific nations -- India and South America.

Fourth, we are expanding our presence in new high-growth markets, including renewable energy, aerospace and defense and transportation.

And finally, we plan to continue to improve the efficiency and productivity of our organization through the Altra Business System by continuing to develop our people and processes. With that, I will turn the call over to Christian for a financial review and then I will be back to wrap up.

Thank you, Carl and good morning, everyone. Moving on to slide 5 and our unaudited second-quarter 2010 results. As Carl mentioned, our net sales increased 19% year-over-year to $133 million and rose 4% sequentially. Foreign exchange rates negatively affected the second-quarter top line by approximately 40 basis points when compared to the prior-year second quarter while price was scalable by approximately 70 basis points.

One of the highlights of the quarter was the near record level of gross profit margin that we achieved. Gross profit came in at 30.2%, a 390 basis point improvement over the second quarter of 2009. In fact, the second-quarter gross profit was 20 basis points higher than in the second quarter of 2008. Sequentially, gross profit was also up 90 basis points.

SG&A and R&D for the quarter declined year-over-year as a percentage of sales to 17.9%, down from 19.2% a year ago despite the fact that we have begun to add back costs that we had temporarily eliminated last year. Income from operations almost tripled to $15.6 million or a near record 11.8% of sales in the second quarter of 2010 compared with 5% of sales in the year-earlier quarter.

Excluding $642,000 in restructuring charges in the second quarter of '10 and $2.8 million in charges for restructuring costs and a loss on the sale of an asset in the second quarter of '09, non-GAAP adjusted income from operations increased 98% to $16.3 million, or 12.2% of sales in the second quarter of '10, which compares with $8.3 million, or 7.4% of sales in the same period in 2009.

We reported net income of $0.26 per diluted share compared with a loss of $0.07 in the year-earlier quarter. Adjusted for restructuring and other charges I mentioned previously, non-GAAP adjusted diluted earnings per share were $0.27 compared with $0.01 in the prior year.

Slide 6 is a reconciliation that shows how we get from reported net income to the non-GAAP adjustment income number and how we get from reported income from operations to non-GAAP adjusted income from operations. Please turn to slide 7.

Our cash balance of $58.2 million is up by about $6.7 million compared with year-end. Cash is also up sequentially as a result of positive free cash flow of $6.8 million in the quarter. We continue to perform well in terms of working capital, which you can see on slide 8. Operating working capital increased by 3.5% during the quarter as a result of higher sales when compared to the sequential first quarter. We were pleased that we have been able to essentially maintain inventory levels as our volumes have increased. Inventory increased less than 2% sequentially on a 4% increase, sequential increase in sales. This is a result of our lean initiatives and a straight focus on inventory management.

Capital investments during the quarter totaled $5.1 million and depreciation and amortization was $5 million, both in line with our expectations. As a result of our strong performance in Q2, continued demand in our early-cycle markets and positive signs in the select late-cycle markets, we are raising our guidance for the year. See slide number 9.

We currently expect 2010 sales in the range of $485 million to $500 million and non-GAAP adjusted diluted EPS of $0.72 to $0.82 for the full year. I would like to note that the third quarter is typically our seasonally slowest of the year. We believe that we will -- that this will be again the case this year, especially considering the strength thus far in 2010 of our turf and garden business, which is typically very slow in the summer quarter.

Free cash flow is projected in a range of $20 million to $25 million and we now expect capital expenditures for 2010 of approximately $14 million to $15 million due to the fact that we are investing in equipment to serve new markets that we are entering such as renewable energy. We anticipate depreciation and amortization in the range of $21 million to $22 million and a tax rate of approximately 31% to 33% for the year.

Before I turn the call back to Carl, I would just like to add that we are pleased with our companywide implementation of SAP and we are close to bringing our first business online. With that, I will turn our discussion back to Carl.

Thank you, Christian. Before we go to questions, I would like to leave you with four key thoughts. Please turn to slide 10. First, we reported another quarter of excellent financial results, reporting both year-over-year and sequential increases in sales. Even more exciting is the fact that we demonstrated the leverage in our business model by reporting near record gross profit margins and operating margins. As a result, we achieved $0.27 in non-GAAP adjusted earnings per diluted share.

Second, we are making very good progress on executing our long-term growth strategy. We took early aggressive action going into the downturn and as we emerge, we are taking equally aggressive action to grow the business. Our strategy includes investing in growth opportunities, both existing and new customers, targeting key underpenetrated geographic regions, entering new high-growth markets, enhancing our efficiency and productivity through the Altra Business System by continuing to develop our people and processes and pursuing strategic acquisitions.

Third, as a result of our optimism for 2010, we have raised our top and bottom-line guidance for the year. The full-year guidance reflects the seasonality in our third quarter due to our turf and garden business and European summer shutdowns, but also implies that the growth in the second half moderates to some extent as the strength of the economic recovery is uncertain.

Fourth, our early-cycle businesses continued to perform very well and we expect this trend to continue. We are also seeing activity in certain of our late-cycle markets such as energy, ag and metals and mining increase, which bodes well for sales in 2011. While we are all reading reports in the media about the uncertainty of the economic recovery, we currently see no signs of a slowdown in our business other than the typical seasonality we normally experience at this time of the year. Our order book remains strong and if the current business levels continue, we should have a strong second half of the year. With that, we will go to your questions.

(Operator Instructions). Andrew Obin, Bank of America.

Hi, yes, hi. It's B of A-Merrill Lynch. Hi, guys. So just a question on guidance. As I think about the second half of the year, first question, how much visibility do you guys usually have given your inventory buildup, etc.? Is it a couple of months?

We have about three months of visibility.

Okay. So with that, if I look at the deceleration of the growth rate, does your guidance really imply a fairly decent 3Q and then a meaningful deceleration in the fourth quarter? I am just trying to figure out how we go from a run rate sort of mid to high 20s to sort of implied earnings rate of $0.15 to $0.20 per quarter.

Yes, that's a good question, Obin. Just give you an example. If we look at our July sales, they were up year-over-year around 20%. So the trend early in the third quarter continued what we have seen in the second quarter. The low end of the range takes into consideration a downturn in the fourth quarter. Currently, we do not see that when we look at our order book, but when we talk to our customers or when we look at the PMI rating, there is no signs that that will occur.

On the other hand, we do read the newspapers, we listen to the Fed and it remains a great deal of uncertainty as to the state of the economy and the growth prospects in the economy. So the low end of the range takes all that into consideration.

Got you. So it is more like third quarter in the high 20s, but then like a fairly meaningful deceleration in Q4.

Right. And as I said, talking to customers, talking -- looking at our order book, we don't see that. On the other hand, we all read the newspapers and looking to the Fed Chairman and the uncertainty that is out there still.

And I should look at your CapEx and create this sort of -- internally, you guys do think you will need extra capacity. It is just (inaudible), right?

Correct. So our CapEx guidance indicates that we do need capacity, we are investing in renewable energy, serving new customers in that market and in other markets. So there is some significant dollars in terms of expansion activity inside of the CapEx guidance.

Okay, guys, great quarter. Thank you very much.

[Zach Larkin], Stephens Inc.

Hey, gentlemen, congratulations on the quarter.

Thank you, Zach.

I just wondered if you could provide a little bit more color on the M&A front and maybe give us a bit of color on what type of multiples you are seeing out there, potential acquisitions size if you were to look at it and the competition you are seeing from the PE folks in the M&A market?

Sure. So the opportunities have definitely increased significantly in the last several months. And it is good timing for us because we took '08 and '09 off, first '08 to consolidate the acquisitions we had made and then '09 due to the financial crisis and it wasn't a prudent time to do it. So it is really quite good timing for us. And so we are much more active out there looking and it has exponentially improved.

From the multiple standpoint, there have not been a lot of transactions in the space closed, so there is not a lot of datapoints out there. I think we have seen transactions in the 6.5 to 8 times range. But as this matures and things move along, I think we'll have a lot more information to provide you better information there. And from the PE firms competing with strategics and us, they are definitely are out; they are back. And the financial markets have improved enough where they can get some leverage, including seeing some deals go with four to five times leverage on them. So they are there and we have to compete with those guys, not to the same extent as '07, '08, but they are there.

Great. Thanks for that. And also, I wondered if you could provide a little bit more color on your entrance into the renewable space and if there is any milestones that we should be looking for with new product adoption as you are looking to expand into that space?

Yes, so we have had -- making pretty good progress in the second quarter. We have said on other calls we are working with one of the world's largest wind turbine manufacturers and we had a -- we have invested in some equipment, installed it in the plant, had a quality audit from that manufacturer and we passed the audit and we received a prototype order, a preproduction order and once we get that and get that approved through their engineering department, we should see a production order hopefully towards the end of this year. We are also making a visit to Asia with that company to look at our expansion efforts to supply their efforts in Asia. So that is progressing very well.

We have also had some good activity on title projects, which are very early stage, but it is an exciting market. We think it is going to be a very good growth opportunity not next year or the year after, but a few years from now, it should be a very good growth opportunity.

And then the other green initiative we have is in electric transportation vehicles. And I think I mentioned during my discussion that we have got a nice order for hybrid class 3 to 5 trucks that are hybrid trucks, so that is a nice piece of business for us.

Great. Do you have a sense just going to the wind prototype, which seems to be the newest thing that could potentially hit the P&L, what the size or the addressable market is for that product or is that something you are not ready to disclose yet?

No, I think we have been -- we are attacking it like our other markets where we do not want to become dependent on any one specific market or one specific customer. So if next year we were able to achieve $5 million to $10 million of sales, we would be very happy and if we got it to be 10% of our revenues over the next three to five years, I think we would consider that a great success. We are approaching it with the niche products that we have today, engineered content and we would like it to be similar to our other markets that we serve.

Fantastic. Thanks and congratulations again on the quarter.

(Operator Instructions). Yvonne Varano, Jefferies & Co.

Thanks. Carl, you gave a great outlook on the end markets. Any color you can add from a geographic perspective?

Yes, it was -- so Asia, we didn't see the downturn last year that we saw in North America and Europe and so Asia did not expand as much as North America and Europe, but we did see some expansion there and we are quite pleased with the results there. We are making money there and it is going quite nicely for us.

Europe was the surprise that we had a nice rebound in Europe and I think in reading the press and talking to other people in the industry, there is -- that has not come back as quickly as it has for us and I think that is just some of the specific markets we are in, but started to rebound some.

And then North America had very nice growth, particularly in the distribution channel and early-cycle OE markets where the distributors appear to have completed the destocking of our products and so we have seen it in their business [stock]. So it is kind of a nice double hit there.

On a constant dollar basis, Europe grew just as much as North America for us.

Okay. And in looking at that top-line growth, is there anyway to break out how much of that might have come from new business versus your market growth?

Yes, we can get back to you on that. Let me get back to you.

And then Christian, I know you said that there was some cost addbacks in the quarter. Can you put a dollar amount on that and just give us an idea of are there more coming in the next couple quarters? Like how should we think about that addback flowing through?

So let me take that. Going forward, we had some headwinds in two areas. One is foreign exchange -- the euro and the British pound. That will have a year-over-year impact roughly on the top line of somewhere between $2 million and $4 million and will cost us probably somewhere between $0.02 and $0.03 a share.

The other headwind that we have is -- we are starting to bring back some costs like we are putting wage and salary increases for the second half. We are going to start our 401(k) contribution again in the second half. That headwind is somewhere in the $2 million to $3 million range and we are trying to offset that through productivity improvements, price increases and other actions.

Now what we don't see is -- the good news is that we don't have any significant headwinds in terms of material costs.

Yvonne, while Christian was talking, I looked at some numbers and I think you know that we have a substantial portion of our businesses is project-related so there is some one and done business and when we look at what we will generate from new business activity, it will be around 15% of revenues for the year. So it will be right around 15%.

Okay. Perfect. And then, I'm sorry, Christian, you were coming in and out on the costs. You said no significant headwinds from the material costs. So the FX you are talking about, the $0.02 to $0.03, is that back half or that's full year?

That is back half.

Okay. I just wanted to clarify that. And the same with the other comments and 401(k)?

401(k), wage increases, somewhere between $2 million and $3 million also back half and then price increases, productivity improvements will offset the cost increases.

Okay. Perfect. Thanks very much.

Josh Pokrzywinski, KeyBanc Capital Markets.

Good morning, guys. I just wanted to follow up on Andrew's question earlier on the third quarter. You mentioned that -- made it sound like it would be only a modest downtick sequentially even though it is your softest quarter just based on the order visibility you have today and more the contingency is a 4Q phenomenon. I want to make sure I understood that correctly.

So the guidance, the low end of the guidance would reflect or takes into consideration that there would be a downturn in the fourth quarter.

Okay. (multiple speakers)

I think the normal seasonality you see in the third quarter -- you will see our normal seasonality in the third quarter. So you will see a little bit of a downturn in the third quarter compared to second quarter.

Right, right. And then just in terms of the order intake, can you maybe talk about where book-to-bill is today, how order momentum progressed through the quarter? You put some of these anecdotal comments out there about distribution feeling better, some of these mid and late-cycle markets feeling better. I am trying to understand the balance between turf falling off seasonally and some of these, some of these distribution markets feeling better where obviously the profitability is a little better.

So if you look at seasonality, what impacts seasonality is turf and garden and we had a very, very strong turf and garden season this year, the strongest turf and garden season over the last five years. The other piece that impacts seasonality is European vacation time in France and now France and Germany. France shutdown for three weeks in August. You have the July 4 holiday weekend in North America. So that also contributes to the seasonality in the third quarter.

Relative to the backlog on the book, relative to the bookings, the book-to-bill ratio is positive, in the high single digit-type area and is positive in Europe, as well as in North America and in Asia.

I'm assuming when you say positive, you mean above one for the quarter.

Above one.

Okay. Got you. Okay, that's very helpful. Thank you.

Meaningfully above one.

Okay. Thanks a lot.

Torin Eastburn, CJS Securities.

Good morning. Christian, just one quick one for you. Can you quantify what the adverse impact to revenue will be in the second half from the seasonal decline in turf and garden?

Okay, typically, when you look at our seasonality back in '08, '07, '06, that would suggest that about 52% of the revenues are in the first half, 48% of the revenues are in the second half.

Okay. And actually one for you as well, Carl. I think you said last call that you probably would not be looking to make acquisitions until the end of the year, but you said just now earlier you are seeing more opportunities. Where do you stand in terms of how willing you feel to make a purchase?

If you look relative to a year ago, we are a lot more confident in the balance sheet and the financial markets. So we are very willing to make an acquisition. I think we want to make sure that it is the right company, has the right complementary products and the right markets. So we are going to be very selective. But I feel confident that, over the next 12 months, we are going to see some very good opportunities come across our desks. We are very willing to go do it.

Okay, thank you.

Bob Frankel, Prudential Financial.

Hi, two questions. First, did you mention what you think is driving the garden business, the turf and garden business?

Yes, so I think it is a combination that there has been some pent-up demand because that market has seen -- if you look at it over the last five years, it was a continuous downtrend. And certainly there is some pent-up demand and then I believe there was also -- the channel had been drained of inventory. So there was probably some inventory replenishment going on by the OEs and their outlets, as well as pent-up demand.

Okay. And forgive me, can you just remind me what you're going into in the turf and garden business?

Yes, about half the business is residential garden tractors and about half the business is commercial garden tractors and these are electric brakes that go on those. Many are actuators that raise and lower different devices on the turf and garden equipment.

Do you do anything with snowplows?

We do a little bit with big commercial snowplows. Actually we got a little nice new project going on on a big snowblower. But it is not enough to offset what we do in the turf and garden when the build season is strong. And the other thing that has happened in our turf and garden business is we have been able to take a substantial amount of share over the last few years. So our business is up significantly more than what the market is because of our share gains there.

Okay. And a different question. As you look at acquisitions, what do you think you might do with your balance sheet?

Do you want to talk to that, Christian?

Yes, we are approaching a leverage about two times EBITDA on a net debt basis. We feel comfortable to take that up to three times, which provides us a [turn] of horsepower there. So it very much depends on the size of the acquisition. Our sweet spot is in the $50 million to $75 million range and we think we are well-positioned to finance that.

Okay, terrific. Thanks very much for your time.

Brian Meyer, Robert W. Baird.

Hey, guys, nice quarter. Just wanted to get back to the seasonality and the guidance here. You talked about the low end of guidance assumes -- I guess kind of switching gears, what does the high end imply in terms of your expectations for the second half and then how 3Q compares to 4Q in that scenario?

So the high end takes into consideration that we continue to see what we see in the first half, some good year-over-year improvements. It takes into consideration some of the headwinds that are described in terms of foreign exchange, some of the costs that we cannot bring back and takes into consideration our ability to offset at least some of the cost increases in the second half.

Okay. Fair enough. And if I look at the order trends just kind of sequentially during the quarter -- April, May, June -- was it fairly consistent month to month or did you actually see that rate pick up each month?

I think it was fairly consistent around that 20% year-over-year improvement that we reported -- when we reported 19% for the quarter. I mentioned earlier July's shipments were up 20%, so it is in that same ballpark.

Okay. And then looking at the different channels here, distribution versus OEM, you said distribution is strong. Can you help us quantify just how much redistribution might've been up year-over-year versus OEM?

We don't typically break it out, but it was say nominally better than the OEM. The early-cycle OEM business improved substantially too. So it's the later-cycle OE business that is lagging, but we have seen good quoting activity there and expect orders to come in the latter part of the year because it is a longer sales cycle time in that part of the business. But it is up slightly more in the early-cycle OE business.

Okay, got it. And then one last one on the margins. If I look at -- if I look at the guidance, what it implies for the second half in terms of margins, it looks like you are embedding about a 35% decremental margin give or take and that compares to about 31% I think in Q2, 23% in 1Q and again looking sequentially. I guess it seems to me like the reason for the steeper incremental margin is probably just some of these headwinds you have talked about, FX and some pension costs coming back. Is that it or is there something else to it?

No, that is pretty much it. Typically we say 25% to 30% in that range is OE leverage and in this case with some of the headwinds and some uncertainty as to -- we are going to -- on price increases and to what extent they stick and then so forth, we tend to be on the high end of that leverage range in our forecasting.

Okay. Makes sense. Thanks a lot, guys.

There are no further questions at this time. I would now like to turn the floor back over to management for closing comments.

I would like to thank everyone for their interest in Altra Holdings. We delivered an excellent first half of the year and the entire organization is working hard to continue to deliver excellent results both in the short term and long term. And I look forward to talking to everyone on the next conference call. Thank you.

This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.