ARC Document Solutions Inc (ARC) 2009 Q1 法說會逐字稿

Good afternoon, ladies and gentlemen, and thank you for standing by. Welcome to today's American Reprographics Company First Quarter 2009 Results Conference Call. (Operator instructions.) And now, I'd like to turn the conference over to Mr. David Stickney. Please go ahead.

Thank you, Allen. I'd like to welcome everyone to our call today. Joining me are Suri Suriyakumar, our Chairman, President and Chief Executive Officer, and Jonathan Mather, our Chief Financial Officer.

The call today will, of course, provide you with some more insight into our first quarter, the financial results of which were publicized earlier today in a press release. You can access the press release and the Company's other releases from the Investor Relations section of American Reprographics Company's website at e-arc.com. A taped replay of this call will be made available beginning about an hour after its conclusion. It will be accessible for seven days after the call. You can find the dial-in number for this replay in today's press release.

Please be advised that we are webcasting our call today. A replay of the webcast will also be available on our website for 90 days from today on the Company's website.

This call will contain forward-looking statements that fall within the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995 regarding future events and the future financial performance of the Company, including the Company's financial outlook. Bear in mind that such statements are only predictions and actual results may differ materially as a result of risks and uncertainties that pertain to our business. These risks are highlighted in our quarterly and annual SEC filings.

The forward-looking statements contained in this call are based on information as of today, May 7, 2009, and except as required by law, the Company undertakes no obligation to update or revise any of these forward-looking statements. Finally, this call will contain references to certain non-GAAP measures. The reconciliation of these non-GAAP measures is set forth in today's press release and in our Form 8-K filing.

At this point, I'll turn the call over to our Chairman, President, and CEO, Suri Suriyakumar. Suri?

Thank you, David. And good afternoon, everyone. As I mentioned in our press release, I am pleased with our results especially under these volatile market conditions. In the first quarter of 2009 we were able to deliver an EPS of $0.17 per share and $22.3 million in cash flow from operations. From an operations perspective, this means that we were able to increase our gross margins from the previous quarter in the face of declining revenues. In addition, this also means that we were able to deliver $2.86 in cash from operations per share over the trailing 12 months. This is a remarkable performance given the tough market conditions.

Given the environment we are in, on this call I'll be focusing our efforts to contain costs and improve profitability. With that in mind, we are going to very briefly outline the cost cutting measures we have taken, provide you with a brief status report on our loan covenants, and give you a few key financial indicators outside of the press release. After this short review, we'll get into Q&A.

So what cost cutting measures have we accomplished and how did they affect us? Nearly all of our cost reductions have occurred under what we call our Stay Fit plans. The first plan was implemented in December and January and was focused on achieving $30 million in savings by combining reductions in production labor, indirect costs, our overhead, and SG&A. We will recognize the benefit of these savings in 2009. The second plan was implemented in February and targeted the same categories. We will achieve approximately $17.7 million in savings in 2009 from this program.

Our smallest Stay Fit plan was completed in March, which will net approximately $2.6 million in savings. The 5% across the board payroll reduction announced in March was outside of the Stay Fit plans. This initiative targeted savings of $6 million in 2009 and we began to realize the benefit from these cuts in early March. (Inaudible) we eliminated approximately 56.3 million in costs for 2009 by the end of the first quarter.

The primary lever we have in controlling costs, especially in the light of reduced sales volume, is production labor. For example, our first Stay Fit plan, more than $17 million in savings came from staff reductions. More than half of the reductions from the second Stay Fit plan also came from labor savings. From a management standpoint, this kind of downsizing is never easy, but without this kind of decisive action we would have jeopardized everyone who worked for us.

Another area where we can save is reducing our production footprint. To date, we have closed approximately 33 locations for production. This doesn't always mean we have shut the doors and walked away. Closing operations often takes several months for the lease elements to end, to relocate equipment and people and so on. But by eliminating production expenses, labor and overhead costs associated with running an active repro shop, we have taken a significant deduction to our costs in these locations.

In conversations with our investors over the past several months, we were often asked to specifically identify when the benefits of our cost control measures will be found. I would like to emphasize here as I have in the past that cost controls (inaudible) are not a one-time event nor are they implemented in just one place. They are a process that occurs in dozens of locations, sometimes on a daily basis. Therefore, reductions and their benefits don't fall into neatly defined periods, but the reductions we have talked about here will all be realized in 2009.

I hope the explanation we just ran through gives you the material information necessary to understand the effect of our cost cutting initiatives. At the same time, however, I want to be very clear that our management style is to make continuous incremental changes to achieve our goals and objectives. This year, of course, the primary goals are to continue to generate a healthy cash flow in order to meet our financial obligations and to avoid tripping any one of our debt covenants.

By making continuous adjustments in our operations it also allows us the necessary time to discover new ways to manage the business as it changes. A case in point is our continuing ability to service our client base in spite of our operational deductions. By leveraging the digital network we have built across the country, employing new technology services such as [I Ship Docs] and pushing existing tools such as PlanWell and [EWO] even further than we have in the past, the vast majority of our clients continue to receive service about equal to or better than they have in the past.

I'm now going to ask Jonathan to give you an update on our position relative to the covenants on our senior secured debt. Jonathan?

Thanks, Suri. As many of you may know, one of the key drivers affecting our loan covenants is trailing 12-month EBITDA. Based on our quarter one EBITDA performance of $30.8 million and our EBITDA projections for the year, we feel we will remain in compliance with our debt covenants for the remainder of 2009. There are several financial covenants associated with our senior secured debt. The two we watch most closely are interest coverage ratio calculated as EBITDAR, the "R" in EBITDAR being rent, compared to interest expense plus rental expense.

The fixed charge coverage ratio, which is calculated as EBITDAR minus capital expenditures and cash income taxes paid, compared to our cash interest expense (inaudible) plus scheduled principal payments, our rental payments, and earn out payments. The interest coverage ratio must not be less than 2.5 to 1. And we are currently at 3.2 to 1. And our fixed coverage ratio cannot be less than 1.1 to 1. Currently, we are at 1.35 to 1.

Before I hand the call back over to Suri, I'll provide you with some first quarter information that may not be apparent by looking at the financial tables. Our customer mix shifted as we targeted more non-AEC work. Of our total revenue for the quarter, 22% came from the non-AEC segment, with 72% coming from non-residential customers and just 6% from our residential customers.

Looking at our base of business by product and service segment, facilities management made up 19.3% of our revenues. Digital services delivered 8.4% of our sales. 9.2% of our revenue was from equipment and supplies while the remaining 63.1% came from our traditional base of reprographic services.

There were 63 working days for the quarter. And as we noted in the earnings release, we saw a sequential increase in our gross margin month over month as we've felt the effects of our cost cutting efforts gain traction. Days sales outstanding, or DSO, was at 51 days in the first quarter of 2009, while our aging of past due accounts improved again during the period.

Total debt, including capital leases, at the end of the first quarter of 2009 was $350.6 million, down from 361 million for the fourth quarter of 2008. What this means, of course, is that we paid down more than 10 million in debt during the first three months of the year. The ratio of debt to trailing 12-month EBITDA at the end of the first quarter was 2.3 compared to 2.1 at the end of the fourth quarter of 2008.

That covers the key points we had on the agenda. So at this point, I'll turn it back to our CEO and Chairman, Suri.

Thank you, Jonathan. Excellent. Operator, at this time we are available to take our callers questions.

Certainly. Thank you. (Operator instructions.) And we'll first hear from Kevin McVeigh from Credit Suisse.

Great. Thank you very much. A very nice job in an obviously tough environment. Just in regard to that, Suri, obviously, the fourth quarter was very, very challenging from a visibility perspective. I wonder if you could give your thoughts on just the environment overall. And obviously, visibility I'm sure is limited. But just your thoughts on kind of the environment overall.

Sure. I mean, there is not a whole lot of change from the last quarter, Kevin. I mean, obviously, as we gave guidance you realize that we did not talk about the revenue because it was--in fact, many companies did not even give guidance. What we decided to do was to talk about the cash and earnings per share and that was our strategy. So our focus has been that revenue obviously is challenged. Revenues have continued to decline. And it somewhat stabilized from where it has been, so we are hoping it will stay like that.

But given the unemployment situation and the vacancy rate situation, it's very hard to have any visibility as to what--how non-residential and residential will react. So it is a period of uncertainty. But what we are able to establish by what we have done in the first quarter is that as promised that we were able to adjust and manage our costs in line with our revenues. So that is what we are focusing on. That's why even in the call we focused on cost reduction and how we are implementing them to give you a snapshot as to how we are managing the costs.

The challenge or the trick is to quickly reduce the costs in order to make sure that we have a healthy cash flow and that--so we can meet our financial obligations.

That's very helpful. Just one other question and I'm going to get back in the queue. Obviously, a very impressive free cash flow in the first quarter - about $20 million. If I'm right, in the first quarter of '08 you generated 18 million and that translated into about 120 million of free cash flow for the full year. I know we just reiterated the 70 to 90 million. Is that being conservative or is there a kind of potential upside to the free cash flow as we think about 2009?

I think it's--based on the information we have, Kevin, I would say that to be realistic, because we--I wouldn't say conservative because we don't have a whole lot of visibility as to how the rest of the year will develop. In the absence of revenue projection - solid revenue projection - we are unable to say with any certainty that it's (inaudible). Based on the information we have now, we feel good about it. Needless to say, we drove that number really hard and management did an excellent job and are really pleased with themselves, as you can see. It was $22 million in cash. So we feel good about it. But we also recognize that the latter part of the year could be difficult. We just don't know that. We don't have enough information to predict that. So therefore, we have been proactive and managing it very aggressively.

That's very helpful. Thank you.

Oh, you're welcome.

And next we'll hear from David Manthey from Robert W. Baird.

Thanks a lot. Good evening.

Good evening.

Just so we're clear on the cost savings and how those are flowing through the quarter, Suri, could you give us an idea of the run rate of benefits you think you saw in the first quarter and then what we might see in the second quarter? I know you said it doesn't lay out that easily, but could you give us just some ballpark idea of the rate?

Yes. So I mean, I would actually just go back and kind of emphasize on what I said. So fundamentally the way we look at it, David, is we say when we looked at December, January, when we looked at the numbers we realized we needed at least $30 million for the year, because as I said, because we do this in 300 locations with 44 divisions and it involves labor to lease rentals to (inaudible). It's hard to neatly package it into months or days as to how the numbers fall. So what we looked at it and said, our Chief of Operations said, okay, we need $30 million savings and we need to get that done in January.

So what we did is we embarked on that and we made sure all the $30 million worth of savings were put in place. In other words, actions were put in place to accomplish the $30 million. And our accounting team and the financial team made sure and double checked that it's in place. That doesn't mean we saved $30 million yet for 2009. It means that we put the actions in place. So as January was proceeding, when you are getting closer to February we realized, again, the revenues were declining. So we decided, okay, we need another $20 million in place. So we started working on that and in February what the financial team ascertained is it's $17.7 million of savings were in place, because some of them they couldn't implement for technical reasons, for issues related to operations, whatever that might be.

So by end of February, we started the revenues stabilizing a little. We felt good about it. So our Senior Vice President for Operations said, okay, in March I need just about $2.5 million. And then, we will have it implemented. So that it's an ongoing process. What is different is that instead of living life quarter to quarter, we are living life month to month or week to week or in fact daily, so we (inaudible) sales.

So what I want to assure you is management is very aware of the challenging marketplace, but we are not frightened or scared. We are saying we know how to deal with it, because as I have said in my previous quarter that we've been a $500 million company and still been very profitable. So we know how to manage. It's just how quickly we can get to those numbers and that's what we are focusing on.

All right. That's very helpful. So net/net it sounds like as you implemented these measures, clearly they didn't impact first quarter fully and you're saying you hope they will ultimately impact the full year but it's an ongoing process.

Absolutely, you have it [better].

Okay. And then, second, you talked about the gross margin increasing month to month throughout the quarter. I was wondering if you could talk about how sales trended or how revenues trended year to date and even into April.

Right. Now, the sales trend obviously from last year we have some indication as to how much sales dropped by. We can talk about that number. I can get that number. Jonathan do you have the number?

Year over year, 28--.

It's about 26. Let me get you the exact number here, David.

26% year-over-year.

And so, that's where the thing is. In April it doesn't improve a whole lot or it hasn't gotten worse a lot. The projections are that 2009 will--especially non-residential, because the latest report from [FMY] clearly says there will be softness in the non-residential sales. So we don't see or foresee a huge improvement of that given that some of the largest projects are in jeopardy. The banks are still battling with the financing issues and credit issues. So we don't see a whole lot of upside, so things are pretty neat right now. What we see in terms of gross margins like Jonathan mentioned is that when we wrapped up quarter one '09--sorry quarter one, '08, isn't it?

Quarter four.

Quarter four '08, we were at--.

--36 points.

36 points (inaudible). And what I can tell you, David, is that obviously the gross margins are going down especially with aggressive slowdown in revenues. But we were back into 40 range by March, which is the most encouraging thing. Again, that is what I was talking about. How fast can you adjust your costs and resize your business to make sure you still deliver in that range, so that we can protect the cash flow. So that is the good side of it. In terms of revenue, we don't have a whole lot of visibility other than it's down about 26% and that's where it is.

That's great. Thanks very much.

Oh, you're welcome.

And next, we'll hear from Scott Schneeberger from Oppenheimer.

Hi, this is Anna for Scott. So I guess, first of all, can you just give us some color on the pricing environment overall?

Okay. Anna, on the pricing environment we have seen some pressures starting to show up. Obviously, all of the customers given the environment are looking to reduce prices everywhere. So those requests are coming in. We have not seen a significant erosion as such, but we certainly see in competitive bids or anything that we did there's some amount of pricing environment start--the pricing pressure starting to show up.

Okay. Is that just for the condition now of reprographic services or are you seeing that in the digital services as well?

We have not done anything in the digital services, because those services are unique and they are much limited [in mention]. If you take it's only about 8.5% of what we do, so we haven't seen that getting battered at all. But in general across the board customers are looking for a break in everything. I mean, at least they're asking for it. Previously, there was not much pressure. But it's no different than what we are doing. I mean, whether it's delivery or pickup or rent or toner or services, everything we are looking for a discount. So that's the kind of environment we are seeing. From a competitive perspective, we haven't seen a significant erosion as yet.

Thanks. And just the last recording you mentioned that bad debt is seeing some declines in the collections. Can you just give us an update on that?

Right. I mean, obviously, I'll tell Jonathan to give you a little more color on it. We have been very, very proactive and aggressively collecting just so that bad debt does not become an issue, because we did whatever cleanup we could do in order to make sure we stay very sharp in terms of debt collection. Jonathan, would you like to address here?

Clearly, our bad debt reserves, our (inaudible) collection has been good, our past due has been down. Even our bad debt reserve requirement we have seen the expense for the quarter reducing compared to last year. So at this point we are feeling better but one can never say in this environment.

Okay, thank you.

(Operator instructions.) Next we'll hear from Franco Turrinelli from William Blair.

Good evening, guys.

Good evening, Franco.

A couple of questions for you. I guess one's just a minor housekeeping. Jonathan, do you mind giving us the regional breakout as you've done in the past. It's just helpful to us.

Just a minute. Regionally, Northern California in quarter one '09, we did 13.4 million, which is a reduction from last year's 32.9%. Pacific Northwest, 10.9 million, a reduction of 14.4%; Southern region, $37 million, which is a reduction from prior year 27.8%; Midwest 20.8 million, dropped 21.17; Northeast region, 32.3 million, which is a reduction of 18.4%; and then, Southern California, 28.3, which is a reduction of 34.8%.

And not much change in the geographical trends, right, Jonathan, were there?

When you say--.

Oh, sequentially, I mean. Basically, northern--California is still very weak, but the northern states may be a little bit better.

Exactly, yes.

Thanks for the breakout of the customer mix. Do you happen to have what the customer mix was last year?

Yes, I do. So again, this is an estimate.

Yes.

Last year, quarter one, we had the non-AEC business where we had 22.2% this quarter. Last year, same time, 19.4%. Then the residential where we are at 6%, we were at 9.6% last year. And non-AEC was at 71% last year to 71.9.

So--that's great and I think it's encouraging to see the non-AEC go up. I will try to do some math quickly here, but it just--kind of running it quickly through my mind. I guess, unfortunately, all of those categories are down in absolute terms year over year, but obviously non-AEC kind of the least.

Yes.

And so, I think your comment is very interesting that you're targeting that space. Obviously, you know about a couple of your relationships there with Boeing and others. What do you think? I mean, is this an area that is gaining some traction for you and can this be a good offset over the next several quarters?

Oh, yes, definitely. I mean, the strategies we are employing right now frankly is that--one is that on the color area we are finding that more and more of our color areas are getting busier where a lot of the retail markets are, a lot of the presentation graphics market. We have continued to invest in that area. That's one area we haven't slowed down. We have installed new output devices with the different capabilities in about 15 locations now. And they are coming along very nicely. This is all business we have never had before. So that part is expanding and we'll continue to push that button for sure.

Then printing accounts is certainly also looking at the non-AEC opportunities and also the engineering opportunities. We also think the engineering companies are somewhat busier than the architectural and construction companies at least evidenced by what we are experiencing now. They are also getting more of the stimulus dollars because of the work they are doing. So we are pushing that button hard as well. And then, of course, on top of that we are looking at the (inaudible) and the digital. So we are focusing, but identifying sales is a bigger effort right now. We didn't talk about it a whole lot on the call, because revenues are in general down and I wanted to make sure our listeners understood. Because one of the biggest questions we had in the last quarter was are we capable of making the adjustments? Are we capable of adjusting our business model to fit the new revenue model we have? And we have established that. That's why we were focusing on that.

But sales are a huge priority. There are two areas we have not cut our investments. One is technology and the other one is sales. And we are driving both very hard.

Yes. No, I think certainly there is good execution going on here. So actually, that was one of my other questions for you. Obviously, there's some hope of some significant infrastructure investments and I guess to some extent you have already answered whether or not you are seeing any of that. But let me just ask you again. Are we seeing any pickup in infrastructure activity at the federal or local level?

Right. So obviously, all these things, the infrastructure activities are going on. How we realize them, Franco, is that we realize them through engineers, if you know what I mean. Architects have very little to do with it. Construction companies relatively little to do with it, because most of the infrastructure done--work is done by government agencies. However, they do employ engineers and consultants. So whether it's a water treatment plant or it's a [linear] improvement or roads, bridges, the segment of our customers who are most busy with that kind of work are the engineers. So that's who we are targeting. And if we are getting more work from our engineers, that means they are involved in city and county and state related work which relates really to highway development, bridges, or water treatment plants, whatever.

Right. Excellent. Thank you, Suri, that's very helpful. And good job managing through this.

Thank you.

And next we'll hear from William Lee from JP Morgan.

Hi. It's Andrew Steinerman of JP Morgan.

Hi, Andrew.

I wanted to--oh, hi, Suri. I wanted to catch your comment that you said for something about in the range of a 40% to gross margins in March. Did you say by the month of March '09 you were back to 40% and what might that mean for gross margin trends going into second quarter?

Right. Yes, yes, you are right. You heard me right there without a doubt. The gross margins for the quarter ending '08, right, what is the number, Jonathan?

Sorry, fourth quarter '08 was 36.7%.

36.7%. And so, obviously, January was very soft and February also continued to remain soft. Now usually we don't give breakdowns like that, Andrew. But what I was trying to point out to our listeners is that how fast we were able to make the adjustments required to bring our profitability up. So for the month of March, we were in the 40% range. We were slightly over 40%. Obviously, we don't break down gross margins by number. But simply in order to illustrate that we were able to make the changes required immediately to bring our gross margins up, which means we'll have better cash, which means we'll have better EPS numbers.

Right. And does that mean that you're heading into the second quarter with a gross margin in the proximity of 40%?

Right. Now, that is true providing the revenues don't move. So that's the biggest challenge. And we knew obviously people will ask that question. And it's hard to answer that question, Andrew, simply because nobody can predict the revenues. The revenues are--we are watching it. Like I said, we are watching it on a daily basis. It's volatile. It's not consistent. It's really bubbly out there. So there are days when we think we are doing good and there are days when we drop back. Because of the difficulties in credit and financing projects and so on and so forth, it is stop/start, stop/start. That's the only part. But however, if the revenues stabilize and they don't have to significantly go down - even if they're inching up - then we'll hold our gross margins for sure. We are confident about that.

All right. And what was the 26% drop number? Was that the organic revenue defined in the first quarter?

Year-over-year. (Inaudible) declines. Organic was about 28%, because there were some acquisitions in the tail end of 2008, and also that will have some impact. But for all means and purposes we can ignore that. Fundamentally, we will not have any meaningful acquisitions. So what it is is at the 26 point drop in revenue given the market conditions.

Right. And just to go back to another comment that you made earlier about--you said the revenues are challenged, but somewhat stabilized. What did you mean by that they were somewhat stabilized?

Right. What I simply was trying to imply, Andrew, is that it's not continuing to go down. There was a period of time especially in January and February--December--I mean, it actually started--I'll go back to November. October was I think - ball park, I'm just throwing some numbers - $60 million. November we went in the 47 range, December we were in 46 range. January we were in 45 range. So it kept on sliding. And then, just at the end of January, it kind of got stuck at that 46 million range. And then, it was moving it on between 44, 47, and 49, that kind of range. So it's just in that range. It's not--it's unsettling, but it's not sliding significantly down. That's when I said it--.

--You mean sequentially. You mean the monthly revenues--.

--Oh, absolutely.

January to February, February to March, the monthly revenues were similar is what you're saying.

Yes, yes.

Right. And then, when that translates year-over-year, does that also translate that the declines are not getting worse?

Year-over-year, it's pretty much the same. It's just the drop is much more significant. I think like in March we were 63 million last year. We barely broke 50 million this year. So what happens is, Andrew, if the conditions are the same it makes sense to compare year-over-year. Because the conditions are so vastly different, we just were in sequentially month over month just to see what the trend is like. Because that's what also we are using to manage our costs, just to be more proactive.

Okay. That makes a lot of sense to me. Thank you.

Thank you.

(Operator instructions.) And we do have a follow up question from Kevin McVeigh from Credit Suisse.

Great, thank you. Hey Suri or Jonathan, just to follow up on Andrew's point on the organic growth, as the acquisitions obviously slow down--the acquisition ramp, how do they impact revenue for the back half of '09? Is it--have you anniversaried most of the acquisitions by the third quarter or--?

--Yes, I would think so. Jonathan, could you add some color?

In--we did very many acquisitions in quarter three and quarter four last year (inaudible).

Yes.

So you are really looking at most of the acquisitions anniversarying by quarter two this year.

Okay.

Sorry, we had one in July - Hudson, New Jersey was in July and the Texas one - so quarter three. End of quarter three, it was all relatively smaller numbers though, Kevin.

Right. Is it fair to say it's about $5 million of revenue give or take from those acquisitions?

Again, $5 million as in quarter or annual?

I would think probably quarterly, Jonathan, right?

No, much less. Maybe 2 or 3 million.

2 or 3 million--.

--Quarterly.

Okay, that's helpful.

Okay?

Yes.

And that appears to be all the time we have for questions. I'd like to turn it back to our presenters for closing remarks or comments.

Thanks, Allen, and thank you, everyone, for joining us today. We appreciate your continued interest in the company. We wish you a good evening. We look forward to talking with you next quarter. Take care.

And that does conclude today's call. We do thank you for your participation and ask that you enjoy the remainder of your day.