Albany International Corp (AIN) 2012 Q3 法說會逐字稿

Ladies and gentlemen, thank you for standing by. Welcome to the third-quarter earnings call of Albany International. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. Instructions will be given at that time.

At the request of Albany International, this conference call on Thursday, November 1, 2012, will be webcast and recorded.

I would now like to turn the conference over to Chief Financial Officer and Treasurer John Cozzolino for introductory comments. Please go ahead.

Thank you, Operator, and good morning, everyone.

As a reminder for those listening on the call, please refer to our detailed press release issued last night regarding our quarterly financial results, with particular reference to the Safe Harbor notice contained in the text of the release about our forward-looking statements and the use of certain non-GAAP financial measures and associated reconciliation of GAAP. And for purposes of this conference call, those same statements also apply to our verbal remarks this morning. And for a full discussion, please refer to that earnings release, as well as our SEC filings, including our 10-K.

Now I will turn the call over to Joe Morone, our Chief Executive Officer, who will provide some opening remarks before we go to Q&A. Joe?

Thanks, John. Good morning, everyone, and let me add my welcome to John's. And to those of you who live in metropolitan New York and on the shoreline of New Jersey, all of us at Albany hope you and your family and friends are doing okay.

As always, I'll open with a few comments intended to amplify yesterday's release, and then we'll turn to your questions.

Q3 2012 was an excellent quarter, and compares favorably both to the very strong results we had last quarter, as well as to an equally strong Q3 2011. The highlights this quarter were strong gross margin, strong EBITDA and cash flow, continued competitive strength in Machine Clothing, and continued growth and progress toward the LEAP ramp in Engineered Composites.

Turning first to Machine Clothing, it performed, for the most part, as we expected it would. Sales in the Americas and Asia held steady, excluding that bump in sales in North America from the transition to new contract terms.

Gross margins remained at Q2 levels and did not regress to their historical averages, as we had been anticipating. This now marks two straight quarters in which gross margins in Machine Clothing were more than two percentage points higher than they had been for the comparable period last year. And our competitive positions remain strong across all our key customers and grades.

The only bad news for Machine Clothing in Q3 was once again the deteriorating market in Europe. We do not think European Machine Clothing has hit bottom yet, and as we said in the release, given the structural overcapacity there, we think it is a near certainty that prices will decline in Europe next year. The only mitigating factors are that sales from Europe now represent less than 20% of our global Machine Clothing sales and that we should be able to offset the impact of lower prices as long as we continue to take the actions necessary to match capacity with underlying market conditions.

AEC also performed well, and as expected, sales were up sharply, driven by growth in all of our programs, especially in the LEAP development program. Commercially, the LEAP engine continues to thrive. CSM has now won over 4,200 orders for the engine, which represents roughly 70% of engine orders for the re-engine single-aisle market.

Meanwhile, we continue to make good progress in preparing for the ramp-up of LEAP production. Construction of plant one is well underway, and our production of the parts required for next year's first complete engine test is on schedule, and there are growing indications that both our CapEx investment and our rates of production and revenue for LEAP could be accelerated by at least a year. We should have a better sense by next quarter of whether this acceleration will occur and, if it does, the magnitude of its impact on the timing of our CapEx and revenue.

On the R&D front, our portfolio of development programs is expanding rapidly. Construction of a new 45,000-square-foot R&D center, which gives us the ability to accelerate development of prototypes of new composite parts, will be completed shortly.

As for our outlook for the more immediate future, it's unchanged. For Q4 and for 2013, we continue to expect year-over-year adjusted EBITDA to be roughly equal to the comparable periods a year ago.

This outlook assumes the following -- in Engineered Composites, continued growth and progress toward the LEAP ramp; in Machine Clothing, seasonal weakness at the end of Q4 and especially in Q1; a gradual strengthening of the economies in the Americas and Asia in 2013 and a further deterioration in Europe in 2013; offset by our continuing efforts to match capacity to underlying market structural conditions.

So in sum, Q3 2012 was a strong quarter. Both businesses performed well and, in the process, met our short-term expectations while reinforcing our confidence in their long-term potential.

So I'm sure you'll have some questions. So Mary, why don't we turn to Q&A?

(Operator Instructions). Jason Ursaner, CJS Securities.

Good morning. Congratulations on a nice quarter. You talked a lot about margin, and it did stay up. I'm just wondering, given the outlook for Q4 and Q1 with a slow start to next year, where do you see margin trending, given I know last year you had to take a shutdown for two weeks? How does that kind of stuff impact margin, given how high it has been trending?

I think the important point which you -- there are two important points, both of which you're alluding to.

The first is you have to take into account the seasonal quarterly fluctuations in this business. So looking at margin sequentially is a little bit dangerous. You've got to go year over year, and so if we know there's a slowdown at the end of this year and that it will particularly show up at the beginning of next year, as it did a year ago, then you'd expect as our plants slow down, that unutilized capacity goes up, so margin inevitably goes down.

But if you go year-over-year comparisons, which control for those seasonal fluctuations, then the experience of the past two quarters suggests our margins will be higher year-over-year comparisons, given roughly comparable sales levels. In other words, everything else equal, our margins should be a little higher than they were last year.

Okay. And given the contract change, does it change your internal safety stock, so to speak, where it might have a benefit to your utilization if you had to build that back, in terms of trying to think about gross margin?

No, it's basically shifting ownership of the inventories from us to our customer, so it's shifting from consignment to essentially what our industry calls make and ship, or just in time.

So it might actually increase volatility a little bit because now the customer is controlling levels of inventory, and they're feeling squeezed, they may -- financially, they might be willing to take the risk of running with lower inventories. But then, once they start seeing an upturn in production, they'll have to order more to replenish the inventory. So that kind of a shift can lead to an increase in volatility, both on the downside and the up. It doesn't really change anything about the underlying demand.

But the whole $8 million had already been consigned to them or it was coming out of your safety stock where you would replenish that?

It had already been consigned.

Okay. And then, your commentary on Europe in terms of the overcapacity, is it -- the shutdowns you saw earlier in the year, did they not become permanent shutdowns and you're still sort of overserving demand, or they were permanent shutdowns and it's additional demand deterioration where you're still have an overcapacity situation on the production side?

They are three variables simultaneously at work. The first is just -- just -- a weak and weakening macroeconomic environment in Europe, so that will alone lead, as you'd expect, demand down.

That is superimposed on structural overcapacity in the paper industry in Europe, and we've said anywhere from 10% to 15% to 20%. It's still -- while some has come out, not nearly enough has come out, and so there's still significant overcapacity in the European paper industry.

And then on top of that, there's overcapacity in the European PMC industry, and while we've been pretty aggressive about taking out capacity, particularly in the last recession, our competitors have not been as aggressive, in part because they don't have as many plants, in part because they didn't have the cash or the cash required to make those kind of moves.

So you take all three, and they're all at work and they all reinforce each other. And while some capacity in the European paper industry came out, not nearly enough yet.

Okay.

We think the right way to think about this is the way we were thinking about the paper industry in North America in 2009. Think L, and an L-shaped recovery, because that capacity has to come out at some point, and then the L is dampened, pushed down, the flat part of the L, the recovery part of the L is pushed down because of price erosion, as well.

Got it.

That said, all of our modeling and planning, when we say our outlook is for flat year over year, it takes that into consideration.

Okay. I'll jump back in the queue. I'll let some others have a chance to ask questions. Thanks, Joe.

Mark Connelly, CLSA.

Just a couple of things. You talked about the AEC portfolio development expanding fast. How quickly will we know the implications of that for your reinvestment need in that business? I mean, is this going to affect your need to invest in CapEx and people? Is there any -- really, just how are you balancing those two?

So there are two -- let me try to answer this in two pieces.

First, there is the investment in the LEAP program. That's the first wave of composite parts for the front of the LEAP engine. And that, our expected investment, total investment, has not changed on that.

However, there is some indication that it's going to get accelerated, that both the production and therefore the required investment, the amount of equipment we put in the plants, is going to move forward. So it's not -- we've said over the next five years, average CapEx at or slightly below amortization and depreciation. That still looks good, but we thought the earlier might be lower than 70 and we may see a shift in the distribution. That's (technical difficulty) CapEx, of which the first wave of LEAP is included.

Now then we get to your question, which is the portfolio of opportunities is expanding, and as that expands, the revenue opportunity expands, but so does the capital requirement. And for the most part, the investment required for the opportunities we're seeing would probably hit in the 2017-2018 timeframe.

The one exception would be if we wind up with more content than those initial parts on the LEAP engine. We'd have to invest in a third plant, and that would be good news and that could happen before 2018. So if we're going to build a third plant, that means there's more content on the initial wave of the LEAP engine or the second wave of the LEAP engine, and that would be reflected in new CapEx requirement hitting around 2015 or 2016.

Okay, that's very helpful. Switching gears, when I look at what's happening in China right now in the paper industry, it doesn't feel like the small players are taking a bigger hit than the big players, and I look at Leo and Nine Dragons, and they have felt this very, very fast. Have you seen any meaningful shift in your own position in that market versus the market as a whole? I'm just trying to get a sense whether being aligned with the big players is helping you there?

It's been -- our production in Asia and China sequentially has been flat, and we were getting a little concerned at the end of Q3 and the beginning of Q4 that we were seeing signs of softness. But lately, that feels like it's bouncing back, so we're not seeing any surprises there. We, you know -- no, no. I'd stop at that.

Okay, that's fine. And just one last question, you've talked about new product introductions in PMC, how big a deal is that going to be in 2013?

It's always a big deal for us. And yes, I guess the simplest way to answer that or the easiest indicator of -- it's hard to answer this question without it sounding like arm waving, so let me try to be as concrete as (laughter) can be.

Our measure of -- we think the most telling measure of our performance is our share with the top paper makers around the world. This gets back to your earlier question. And the only way we have such strong share, and we have very strong share with the top paper makers, is because we demonstrate quantitatively that we are able to reduce their total cost of ownership through a combination of new products, service, and production, and deliveries. And our share, even under all of the pressure, all of the economic pressure, our share across the world with the key paper makers is holding and strengthening.

And we're committed to maintaining that, and the only way you maintain that is by delivering better and better value and better and better enabling them to reduce total cost of ownership. You can't do that with better products. You can't do that unless you have better products, along with better service.

Super. Thank you, Joe.

(Operator Instructions). John Franzreb, Sidoti & Company.

Regarding the anticipated drop-off in volume in PMC in Q4 and Q1, would you expect it to be of the same magnitude you saw a year ago on a percentage drop basis, or could you just give me a sense of how much of a stepdown we're thinking about here?

Yes, it's a little tough to be precise, but if you look at the pattern a year ago, you know, Q4 might have been a little higher last year than what we would anticipate this year and Q1 of 2012 might be a little weaker than we would anticipate in Q1 of 2013.

But basically, the underlying phenomenon is the same. As we get toward the end of the year, paper makers slow down production, and that affects us at the very end of the year and especially into the beginning of next year. So the more pronounced the slowdown at the end of the year by the paper maker, the more pronounced our weakness in Q1. Primarily a Q1 affect, with a little bit at the end of Q4.

So if you were to listen to -- let's take the example of International Paper. If you were to listen to their earnings call, they said as a matter of routine is, well, after Thanksgiving we start slowing down. We always start slowing down after Thanksgiving. So that will lead to softer sales for us in December, but especially softer shipments in the beginning of next year.

How (multiple speakers) could you -- go ahead.

So the seasonal pattern is pretty much locked in as it was last year. The magnitude of the seasonal pattern really depends mostly on macroeconomics, more than anything else.

So are you saying, Joe, that Europe is going to be weaker this year than it was a year ago?

Yes.

And that would probably put the revenue number below last year's level?

And it has been all through this year. If you do the year-over-year comparisons, while our EBITDA has held, our revenue has been consistently lower, even in quarters that we saw were good quarters. Q3, for example, our revenue was lower than last year in Machine Clothing by 7%.

Okay. And regarding the restructuring actions, can you talk a little bit about them and how much you expect to incur in Q4?

Earlier this year, you'll remember, we announced that we had started a process of consultation with our works councils in France, and that process continues to evolve. Really, I don't think it's -- I don't think we can say more than that at this point. When we have an update or a change in that process, we'll make a disclosure.

What were the Q3, then, restructuring actions surrounding?

In reaction, in response to the weakness in Europe, we did some restructuring in our plant in Sweden, and so that was part of the process of matching our capacity to underlying demand conditions. We have a large outstanding plant in Sweden and we did do some downsizing there in the summer in anticipation of this European weakness.

Got it. And John, you said, I think, that the blended full-year tax rate would be about 30%. Do we happen to know the individual Q4 tax rate?

Yes, John, we actually -- we think that our blended full-year rate will be mid-30% range, and we were at 35% through Q3, so our anticipation is that we will stay in that mid-30% range for the full year.

Okay, sorry I just didn't hear that properly. Thank you very much, guys.

Rick D'Auteuil, Columbia Management.

I missed the first 10 minutes or so, so I'm not sure if this was covered. But it was a reference to new product introduction in the Q&A on PMC. Is that -- maybe you can expand on that. Is that new products to address your existing customers or is that to expand the potential customer base?

All of the above.

Would you expect it to change the margin profile at all?

No, I think it's more likely to contribute to preserving the margin profile.

Okay.

You know, and when you say customer based, Rick, I think the right way to think about it is look at the growth grades. And so, a lot of our efforts at new product development are aimed at the growth grades. Whether that's an existing customer or a new customer, and for the most part, it's existing customers.

But you have pretty terrific share among the largest paper manufacturers. I guess what I was trying to address was, does this potentially get you into the Tier 2s that you don't have as big a presence with?

I'd rather not get into that, Rick, because we're -- it's getting into --

Okay, that's fine.

-- better information, and we know all our competitors are on this call.

Okay, that's fine. Appreciate it. Thank you.

And we have no more questions in queue at this time.

Okay, thank you, everyone, for participating on the call, and we'll look forward to catching up with you between now and our next earnings release. And until then, have a good holiday season. Thank you.

Thank you. Ladies and gentlemen, a replay of this conference call will be available at the Albany International website beginning at approximately 12 p.m. Eastern time today.

That does conclude our conference for today. Thank you for your participation and for using AT&T executive teleconference service. You may now disconnect.