Acuity Brands Inc (AYI) 2009 Q2 法說會逐字稿

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  • Operator

  • Good morning, and welcome to the Acuity Brands 2009 second quarter financial conference call.

  • After today's presentation there will be a formal question-and-answer session.

  • (Operator Instructions).

  • Today's conference call is being recorded.

  • If you have any objections, you may disconnect at this time.

  • Now I would like to introduce Mr.

  • Dan Smith, Vice President, treasurer, and secretary of Acuity Brands.

  • Sir, you may begin.

  • - VP, Treasurer & Secretary

  • Thank you.

  • Good morning.

  • With me today to you discuss our second quarter results are Vern Nagle, our chairman, President and Chief Executive Officer, and Ricky Reece, our Executive Vice President and Chief Financial Officer.

  • We are webcasting today's conference call at www.acuitybrands.com.

  • I would like to remind everyone that during this call we may make projections or forward-looking statements regarding future events or future financial performance of the Company.

  • Such statements involve risks and uncertainties such that actual results may differ materially.

  • Please refer to our most recent 10-K and today's press release, which identify important factors that could cause actual results to differ materially from those contained in our projections or forward-looking statements.

  • Also, as mentioned in our press release earlier today we expect to file our second quarter 10-Q by the end of day on Wednesday, April 8th.

  • Now let me turn the call over to Vern Nagle.

  • - Chairman, President & CEO

  • Thank you, Dan.

  • Good morning, everyone.

  • Ricky and I would like to make a few comments and then we will be happy to answer your questions.

  • Our results for the second quarter of 2009 reflect just how significantly the prevailing economic environment is impacting the residential and non-residential construction markets throughout the world.

  • While our results for the quarter were down relative to our original expectations, upon closer examination I believe we actually executed very well, overcoming a number of challenges.

  • Further, I believe we performed at least as well, if not better, than many of our served markets.

  • In spite of the many challenges we faced in the quarter, as I will explain in more detail, we continued to achieve success on a number of strategic priorities, including the continued introduction of new, more energy-efficient products and services; expansion in new markets; improvements in productivity; and most importantly, the acquisition of LC&D along with the pending purchase of Sensor Switch.

  • Once the acquisition of Sensor Switch is completed, which we expect any day now, we will have assembled one of the most formidable platforms in the area of lighting control and energy management in the industry.

  • I will talk more about this later in the call.

  • I know many of you have already seen our results and Ricky will provide more detail later in the call, but I would like to make a few comments on the key highlights.

  • Net sales for the quarter were $386 million, down 20% compared with the year-ago period.

  • Operating profit was $28.6 million, down from $60.7 million reported in second quarter last year.

  • Diluted earnings per share was $0.35 compared with $0.82 from the year-ago period.

  • Included in our second quarter results was a pretax special charge of $4.6 million, or $0.07 per share.

  • The charge was for the additional costs associated with the acceleration of our previously-announced actions to streamline the organization's structure.

  • We took these actions -- additional steps in light of the continued deterioration in the economic environment as it directly impacts construction activity and thus demand for lighting fixtures.

  • We now expect to realize more than $50 million in annualized cost savings from our combined streamlining actions once they are completed by the end of our fourth quarter.

  • I find it useful to add back these special charges in order to make our results comparable between periods.

  • Doing so, I see our operating profit was $33.2 million in the second quarter of 2009, representing a margin of 8.6% of net sales.

  • This compares with $60.7 million, or 12.6% of net sales in the prior-year period.

  • Similarly, diluted earnings per share, excluding the impact of the special charge, was $0.42 for the second quarter of 2009 compared with $0.82 in the year-ago period, a decline of 49%.

  • These results, while positive given the dramatic fall-off in economic activity, do not fully reflect our accomplishments in the second quarter, given the magnitude of the challenges, so let me share some additional information with you.

  • First, as I mentioned in my last conference call with you, raw materials and component costs increased significantly, particularly from June through September.

  • Prices for certain commodities then fell dramatically as the economy deteriorated.

  • Because of the rapid rise and fall we indicated we would not be able to pass along this spike in costs in the form of higher prices to consumers.

  • In total we estimate raw materials and component costs in the current quarter were higher by approximately $18 million compared with the year-ago quarter.

  • This is an astounding amount, representing almost 5% of our net sales.

  • We estimate we were able to pass along only about half of this increase in costs through higher prices initiated earlier in the year because of the speed and the timing of the cost increases.

  • We believe the impact of the spike in costs reduced our operating profit in the current quarter by more than $6 million, or about 160 basis points of margin.

  • Second, we continue to structure the organization to be consistent with requirements necessary to serve current customer demand while continuing to invest significantly in growth opportunities, including new product development.

  • Third, we continue to drive productivity throughout the organization, particularly in the supply chain where we reduced our total production costs consistent with the percent of decline in sales, a remarkable feat in such a short time for a manufacturing company.

  • This is a strong demonstration of how well our associates executed in a very challenging and difficult economic environment.

  • Another fact you may find interesting is the last time we had comparable net sales of approximately $390 million was in the first quarter of 2004.

  • Adjusting for the special charge and the spike in material costs we estimate our operating profit margin is more than 400 basis points better today than that similar period five years ago.

  • We have been able to produce these results because of the great progress made in four key areas of strategic focus: Customer service; pricing and margin management; product portfolio expansion, including significant additions to our stable of sustainable and energy efficient products; and Company-wide productivity.

  • Let me talk a little bit about our sales in the quarter.

  • We were off approximately 20% from the year-ago period, or $96 million.

  • The decline in sales was broad-based, as most channels and geographies were impacted by the deteriorating economic environment.

  • This is different compared with our experience in the last few quarters, where a larger portion of the decline in net sales was more concentrated in a few key areas.

  • Overall we estimate that unit value was off about 20% in the second quarter compared with the year-ago period, as benefits from price mix offset the negative effects of a strengthening dollar on foreign currency.

  • For us this was the first quarter where we really felt more significantly the broad-based impact of weakening demand for light fixtures in key channels serving the commercial, industrial and institutional markets.

  • As we noted in our previous conference calls, the downturn in new store construction for big-box retailers and residential construction began almost one year ago and, of course, continued this quarter as well.

  • Additionally, we saw an acceleration of delays for the construction of projects and in some instances, outright cancellations, as well as key distributor customers putting off stocking orders typically placed this time of the year in advance of the spring construction season.

  • Even sales of renovation products declined in the quarter, as business decision makers look to conserve cash in light of the economic uncertainty and the lack of clear guidance on how the stimulus plan may impact their businesses.

  • We expect this market to rebound, as government plans become more clear.

  • All in all, a very challenging quarter from a commercial perspective.

  • We did see a few bright spots, including share gains in the home improvement channel and growth in Mexico.

  • Another positive was we believe we have either maintained or actually grew share in certain key markets based on our analysis of industry trends in the overall construction market.

  • I will talk more about our future growth strategies and our expectations for the construction market later in the call.

  • I would like to now turn the call over to Ricky to make a few brief comments on our overall financial performance before I make some remarks regarding our strategic plans and the outlook for the balance of 2009.

  • Ricky?

  • - EVP & CFO

  • Thank you, Vern, and good morning, everyone.

  • As Vern said earlier, I'd like to provide a little more detail around our earnings results and then I'll discuss our cash flow, financial condition, and a little more information regarding the special charges we took this quarter.

  • Gross profit for the second quarter was 36.6% of sales.

  • This gross profit margin reflects a decrease of 320 basis points compared with the year-ago period.

  • If you exclude the impact of the temporary increase in raw material costs we experienced last summer and fall, the decline in gross profit was only 160 basis points.

  • I will echo what Vern said.

  • This is an impressive accomplishment, considering the 20% decline in sales.

  • Clearly our disciplined approach to pricing, improved mix of products sold, productivity gains, and benefits from previously-announced streamlining efforts are benefiting our results.

  • Our proactive approach to right sizing the business through our streamlining efforts, as well as benefits realized from productivity gains, is reflected in our cost of goods sold, where our actual nonmaterial spend is down 22% for the second quarter compared with the prior year, which is a greater percentage reduction than decline in revenues and we still have not fully realized the full benefits from our streamlining efforts.

  • Selling, distribution, and administrative costs, excluding special charges, increased to 28.0% of sales in the quarter compared with 27.2% in the prior year.

  • Given the significant decline in sales this modest increase of only 80 basis points also reflects the benefits of previous streamlining actions in our proactive management of these costs in anticipation of a more challenging market.

  • In addition, we continued to make selected investments in product innovation and technology, and sales an marketing activities, as well as expanding our capability to serve the renovation and relight market.

  • The December 31, 2008 acquisition of Lighting Control and Design contributed less than 1% to second quarter sales and had an immaterial impact on earnings.

  • Net interest expense in the second quarter increased approximately $400,000 as a result of reduced earnings on invested cash due to lower interest rates and lower invested balances following the retirement of our $160 million of public notes that matured in February.

  • The income tax rate decreased in the quarter to 32.2% compared with 36.1% for the second quarter of 2008.

  • This decrease was due primarily to tax deductions having a greater impact on the effective tax rate due to lower pretax earnings compared with the prior-year period.

  • We expect the full-year tax rate to approximate 33%.

  • Now let's look at the cash flow for the first half of fiscal 2009.

  • Cash flow used in operation in the first half was $3.9 million.

  • We consumed cash as we increased inventories in order to appropriately service customers during the manufacturing facility consolidations.

  • Additionally, raw material inventory increased in order to support manufacturing of products previously manufactured by outside vendors and as a result of discontinued use of supplier logistic centers by certain suppliers.

  • We expect our inventories to decline during the second half of the fiscal year following the completion of the consolidation of certain manufacturing facilities.

  • Capital expenditures and acquisitions consumed $43 million of cash during the first half.

  • Capital expenditures for the full year are expected to approximate $30 million to $35 million.

  • In our fiscal third quarter, we expect to complete the acquisition of Sensor Switch, which will require a cash payment of approximately $131 million, which will be funded from available cash on hand and from borrowings under the Company's existing revolving credit facility.

  • For the full fiscal year, we are targeting having free cash flow, which we define as cash flow from operations less capital expenditures, to be approximately equal to net income.

  • We ended the quarter with cash of $72.3 million, down $224.8 million from year end.

  • This reduction in cash is due primarily to the retirement of $160 million in debt that matured in February and $31 million in acquisitions and investments.

  • Additionally, we invested $12 million in fixed assets and paid $11 million in dividends to stockholders.

  • We continue to maintain strong financial flexibility as reflected by our net debt to capital ratio, which was 19% at the end of the quarter.

  • Our availability under our revolving credit facility is $241 million as of February 28, 2009.

  • For a period of time we expect to utilize a portion of the availability under the credit facility to fund the $205 million acquisition of Sensor Switch, of which, as I said before, approximately $131 million is payable in cash, along with a $30 million three-year promissory note and two million shares of Acuity stock valued at approximately $44 million.

  • I'll conclude my prepared remarks with additional information regarding our streamlining actions.

  • As a result of these actions we recorded a pretax expense of $4.6 million in the second quarter of fiscal 2009.

  • Approximately 70% of this amount was incremental to our previous estimate, as we accelerated streamlining efforts that included additional reductions of approximately 200 people.

  • The expense consists primarily of severance, amortization of retention pay, and related employee benefits, of which most will be paid out throughout the remainder of fiscal year 2009.

  • Regarding the benefits from these actions, as Vern said previously, we expect to realize approximately $50 million in annual savings once the acquisitions are fully implemented.

  • For fiscal year 2009, we expect to realize savings of approximately $30 million, with three quarters of this benefit in the second half as the plant consolidations are substantially completed.

  • We expect to have approximately $1 million in additional costs that we will incur, primarily in the third fiscal quarter of 2009, related to the planned actions that in accordance with the accounting rules we were not able to include in the charge taken this quarter.

  • Thank you, and I'll now turn the call back to Vern.

  • - Chairman, President & CEO

  • Thank you, Ricky.

  • As we look forward we obviously see considerable challenges, but more importantly, opportunities.

  • In a moment I would like to address two key questions many shareholders may have, which are what actions are we implementing to enhance our performance in this environment, and most importantly, what are our strategies to drive profitable growth in the future.

  • First we have a few observations about expected market conditions.

  • Without a doubt, this is the most difficult economic environment most of us have experienced in our life times.

  • The rapid, steep decline in demand and overall construction markets around the globe is unprecedented.

  • How long will these turbulent economic conditions prevail?

  • Only time will tell, though it's very clear governments around the globe are unified in their efforts to stimulate their economies.

  • What we do know is that key indicators for our traditional markets, both residential and non-residential construction, continue to signal a decline in variable market for the balance of 2009 and most likely, into 2010.

  • This is all widely known.

  • Forecasts by independent third parties suggest that unit volume for construction put in place in the non-residential construction market could be down at least middle teens and probably a bit more in 2009 compared with 2008.

  • I'm in the bit more category.

  • This will create significant headwind for all companies serving the construction market in North America and Europe.

  • Next, while we had done an excellent job of pricing and margin management, we do expect pricing to become more competitive in certain channels and geographies.

  • This is not unusual, particularly from competitors with lesser-valued products.

  • However, the actual impact and timing is difficult to predict.

  • We expect to be vigilant in our pricing posture, particularly as we continue to introduce higher value-added products and services.

  • However, I would like to be clear.

  • We will defend our position vigorously from competitors should they attempt to use price as their only point of differentiation.

  • Next, we will begin to bring down our inventory levels to be more consistent with incoming order rates as we complete certain previously-announced plant consolidations.

  • We allowed these inventory levels to remain higher than necessary to ensure no disruptions in service to customers.

  • As a consequence we may recognize additional expense in the second half due to under absorption of our manufacturing overhead.

  • While it is difficult to predict the actual impact on gross profit due to these actions, we estimate we could recognize up to $6 million of additional expense in our second half of 2009.

  • Items impacting this outcome include the rate of incoming orders and how aggressively we can continue to improve productivity, which to date we have done a very good job achieving.

  • Lastly, we expect costs for key material and components to remain relatively constant for the balance of the year.

  • So again, the two key questions many shareholders may have are what are we doing to enhance our performance in this environment, and most importantly, what are our strategies to drive profitable growth.

  • Looking forward we continue to see opportunities in this environment and our strategy is to leverage our industry-leading products and market presence, as well as our considerable financial strength to capitalize on those opportunities.

  • So, our strategy to drive profitable growth in 2009 and beyond remains intact.

  • Simply put, focus our considerable resources on the following four key areas: Customer service; organizational productivity; new innovative and energy-efficient products; and expansion into new markets, including renovation and relight and now lighting controls.

  • These four areas have been to varying degrees key elements of our strategy for the last few years, yielding growth, market share gains, and upper quartile financial performance and we expect that to continue over the longer term.

  • With regard to customer service and productivity, I cannot stress enough the positive impact our focused approach on providing customers with the very best value in the marketplace has had on our performance over the last three years.

  • This has been due to the combination of innovative products, great quality, superior delivery, and competitive pricing.

  • We continue to leverage our capabilities in these areas to win available orders.

  • Further, we continue to better align our organization in a manner which accelerates our continuous improvement efforts in these critical areas of focus.

  • Additionally, we believe the acceleration of our streamlining actions will allow us to enhance efficiencies while continuing to provide our customers with superior value.

  • Our efforts in these areas have proven to be a winning formula for us.

  • As we noted earlier, we now expect to realize over $50 million in annualized savings from these actions by the time they are completed at the end of our fiscal 2009.

  • Second, we have consistently stated over the last three years that a key driver to the improvement of our profitability has been the introduction of new products and a better mix of products sold.

  • New, innovative and highly energy-efficient products that provide a superior lighting experience will continue to be the key to our future success.

  • In that regard we are on path to introduce more new products in 2009 than we have during any previous year in our Company's long history, enhancing our industry's leading position.

  • Many of these products incorporate the latest technologies, including LED technology.

  • While these products will positively impact our 2009 results, particularly in the second half, we believe they will have the opportunity to provide a meaningful impact on 2010 and beyond, particularly as the impact of government plans come to fruition.

  • Third, we continue to accelerate our expansion into new markets, including New York City, and the renovation and relight market, as well as enhance our value proposition targeted at more traditional segments of the market to better serve the needs of our existing customer base.

  • We are positioned well for success in New York City, where we have doubled our business over the last year,and in the relight market, in spite of the challenges in the economy.

  • Lastly, once we complete the acquisition of Sensor Switch, which we expect to do as soon as we get Hart-Scott-Rodino clearance, we will have one of the most formidable platforms in the industry to participate in the dynamic and fast-growing market for lighting controls and energy management.

  • The addition of Sensor Switch, along with the acquisition of Lighting Control and Design, along with our own Synergy brand, will form the backbone of our Acuity Brands Controls effort.

  • This group, working in conjunction with Acuity Brands Lighting, the largest lumineer company in North America, will allow us to leverage all of our capabilities to provide customers with superior, integrated solutions to enhance their lighting environment while significantly reducing their energy costs.

  • We believe the market size available to Acuity Brands Controls today is approximately $700 million and our collective share in this market is very small.

  • Many believe this market will triple in size over the next five years, as higher energy costs, more stringent government regulation and greater demand for more sustainable lighting solutions come into vogue.

  • We are now well positioned to be a leader in this exciting and growing market.

  • So what does all of this mean for Acuity Brands for the balance of 2009?

  • While our Company does not give annual earnings guidance, instead, focusing on those key strategic and tactical actions that can best help us achieve our long-term financial goals on a consistent basis, we do have a few observations which may provide you with insight into our focus for the balance of 2009 and beyond.

  • We expect pricing in many markets to be more competitive than usual, potentially putting pressure on margins beyond our ability to reduce costs, improve productivity, or enhance product mix fast enough to offset this impact.

  • The exact impact, if any, is difficult to predict.

  • We expect to continue to drive productivity in our business, as we have consistently done in the past, targeting 70 basis points or more of margin improvement, excluding the impact of changes in unit volume.

  • We have already exceeded this goal through our streamlining action.

  • Excluding the streamlining charge, we expect to realize about $30 million in savings of fiscal 2009 from the streamlining efforts initiated this year.

  • Our gross profit could be impacted by as much as $6 million in the second half due to planned inventory reductions.

  • We expect unit volume in the new construction portion of the market to be down.

  • How much, we don't know, but we are anticipating the declines forecasted by McGraw-Hill and other independent groups to be in the upper teens on a percentage basis.

  • Of course we hope to offset a portion of this market decline by expanding our presence in existing channels and geographies, entering new markets such as renovation and relight, and accelerating our introduction of new products and services, which will be introduced at a record pace in 2009.

  • While we have a demonstrated track record of successfully executing our strategies, the uncertainty and volatility currently in the marketplace make it a challenge to precisely quantify how successful we will be at achieving our goals in 2009.

  • In summary, we believe the execution of our longer-term strategies to focus on productivity improvement, accelerated investments in innovative and energy-efficient products, expand market presence in key sectors, and enhanced services to our customers will provide growth opportunities, which will enable us to outperform the market in 2009.

  • As we look beyond the current environment, because this too shall pass, we believe the lighting and lighting-related industry will experience solid growth over the next decade, particularly as energy and environmental concerns come into the forefront and we are are now positioned well to fully participate in this exciting industry.

  • Thank you, and with that we will entertain any questions that you have.

  • Operator

  • (Operator Instructions).

  • Our first question is coming from Peter Lisnic of Robert Baird.

  • - Analyst

  • Good morning, it's actually John Haushalter on for Pete.

  • Could you guys -- just on the component cost side it's really helpful to see the impact, but just looking at steel and aluminum prices I would expect you guys to get a little bit of benefit, if not at least in fiscal '09, fiscal '10, could you just talk about what's going on in the input cost side there?

  • - Chairman, President & CEO

  • Sure.

  • Frankly, as we said earlier in our prepared remarks, on a quarter-to-quarter basis we experienced cost increases of roughly $18 million where we believe we offset roughly half in terms of price increases.

  • Those costs dynamics are now starting to come back down to probably where they were roughly a year ago, so I'm not certain that we're going to see any material difference.

  • You're now starting to see, for example, the cost of oil hovering around $50 a barrel.

  • It hit a low in the 30s.

  • Steel costs continue to come down, but not at rates -- they've kind of held steady here for a while.

  • So as we've said, it's our expectation that in general our cost components will probably stay relatively consistent from this point forward for at least the balance of the year.

  • I wish I had better -- a crystal ball to tell you what 2010 is going to look like, but given the volatility of the marketplace, given what the governments around the globe are attempting to do to stimulate their economies, it's pretty difficult to say at this point in time what that impact will be.

  • so we are calling for a relatively consistent pricing, at least for the balance of 2009.

  • - Analyst

  • Okay, that's helpful.

  • And then just turning over to Sensor Switch, or just the controls market, could you -- it's helpful to get the sense of the market size, but is it something -- could you just provide a bit more color on potentially how that helps you relative to the stimulus spend.

  • Are people approaching the relight market and the need for controls to really penetrate that market?

  • - Chairman, President & CEO

  • Sure.

  • Many of you are sitting in office buildings today that have very limited controls.

  • Lighting consumes -- is the second largest consumer of energy behind your HVAC infrastructure, so the opportunity to really help people enhance their lighting environment by bringing better lighting, as well as managing that light to reduce their energy costs to help drive their own sustainability efforts is just a huge opportunity.

  • You incorporate that with daylight harvesting, so from our perspective we think that there'll be a number of drivers.

  • Higher energy costs, government regulation.

  • You see significant regulations, for example, in California already, and that's now migrating -- or starting, I should say, on the east coast, as well.

  • So we believe that the opportunity to bring together our capabilities -- we understand lighting, obviously, exceedingly well, and the ability to now add onto that the notion of how we control and help people control that environment, we just think is a natural adjunct to our base business and really provides to us an exciting growth opportunity, both for new construction, which in 2008 was roughly a $10 billion market, of which about 15% was really tenant fit-up/renovation-type work and then accessing now that installed market, which, again, many folks believe is much greater than a $70 billion market, so helping those folks in those buildings, whether it's a school, an office building, a warehouse, to help better manage their light and control their energy costs, these programs provide people with paybacks that are very interesting while enhancing their lighting experience.

  • So we're very excited about what the combination of Sensor Switch, LC&D and our own Synergy brand coming together as Acuity Brands Controls to now really help go after this market with our existing partners, our existing access to channel -- or excuse me, access to market folks we think it's a pretty exciting opportunity for us.

  • - Analyst

  • Okay.

  • And on a current bid an Acuity lumineer is there generally a non-Acuity control product or anything sold with it that you can bring in-house?

  • - Chairman, President & CEO

  • These -- many of these control capabilities are interchangeable with various lumineers.

  • They're not subject to one lumineer, so our ability to sell our controls capability into the marketplace to enhance and enable other people's lumineers, as well as our own, is very exciting.

  • And also to bring integrated solutions that include the lumineer and the control capability really represent a new territory or a new opportunity into the marketplace.

  • So again, this gives us great flexibility to how we could bring integrated and varied solutions to people and customers, depending on what their needs are.

  • - Analyst

  • Okay.

  • Thank you for that.

  • I'll get back in queue.

  • Operator

  • Our next question is coming from Glen Wortman, Sidoti Company.

  • - Analyst

  • Good morning, guys.

  • - Chairman, President & CEO

  • Hi, Glen.

  • - Analyst

  • Good morning.

  • With -- on the commodity costs, just to be clear, so if the costs stay where they are today, the year-over-year impact in the second half will be neutral?

  • - Chairman, President & CEO

  • We expect them to be relatively neutral, though again, it depends on the lumineer, it depends on the component that's going in there, but overall, we believe that we're pricing for materials and where we were after our June price increase kind of neutrallsh, maybe just slightly negative, but we're not expecting it to be terribly significant for the balance of 2009.

  • - Analyst

  • Okay.

  • - EVP & CFO

  • That's on a year-over-year basis.

  • Obviously seeing some improvements sequentially, about on a year over year.

  • - Analyst

  • Yes, yes.

  • And then on pricing, can you just give us a sense of what you saw during the last downturn and why things might be different for you or the industry this time around?

  • - Chairman, President & CEO

  • Well, I think you have to -- the last downturn started in 2000 and went through essentially 2005.

  • We actually changed our strategy and our focus around pricing and margin management, really starting in 2003 and became very focused on how we price our products, be very specific to markets and products, and began to move our pricing up.

  • As we changed our mix, as we understood the value of the product, we became more sophisticated in our capabilities there.

  • So during that downturn, we actually saw our price mix improve and that was done by strategy.

  • So I think you have to go back into the very early '90s when the market in general was changing and giving back some pricing, but I think that had a lot to do with the changing of the structure of the industry.

  • You started to see more imports, smaller businesses, so on and so forth.

  • I don't know that there is necessarily a direct correlation to past economic cycles and what may be occurring here.

  • Our view is that pricing is always competitive.

  • It's the nature of the project business.

  • It's a bid business for the most part.

  • But as these markets have fallen so precipitously we are seeing in some markets, in some channels pricing being a little bit more aggressive or a little bit more than normal.

  • How much, very difficult to say.

  • I wish I could tell you, but it's very market specific.

  • We're just throwing a little bit of caution to the wind that we see out there.

  • And also, we have been in the past -- at least for the past four years -- very aggressive at improving our productivity, improving our mix of products sold, to make sure that we are continuing to drive and receive the types of margins that are necessary for us to continue to fund reinvestment back into the business.

  • So we have a demonstrated track record of success.

  • It's just that we are seeing some instances of pricing, competitors that don't have the same value proposition using price as their lead punch.

  • - Analyst

  • All right.

  • Thank you for your time.

  • - Chairman, President & CEO

  • Thank you.

  • Operator

  • (Operator Instructions).

  • Our next question is coming from Matt McCall, BBT Capital Markets.

  • - Analyst

  • Hi, good morning.

  • This is Sean Connor for Matt.

  • Just want to touch on the new markets that you're in.

  • I think on the last call you were saying that despite the economic weakness that you were actually seeing some stability in that -- in the relight and renovation market sales.

  • - Chairman, President & CEO

  • Yes.

  • - Analyst

  • You also talked about New York City doubling versus the prior year.

  • How is that relight and renovation market looking in Q2 and what are the expectations over the back half of the year?

  • - Chairman, President & CEO

  • Actually we were down in that marketplace slightly.

  • As we said in our last conference call, we were flat year over year.

  • It's my own belief -- and it's just a belief -- in our discussions with many, many customers that people are really simply waiting to see what is the stimulus bill going to mean and what benefits might be derived from those folks given some of these projects.

  • So I think as the government plans -- whether it's the stimulus bill or the energy policy that they've been working on -- once that becomes more clear I think that the purse strings for these types of projects will not only open up again, but will open up in a more significant way.

  • I belief that there will be dollars from the stimulus plan that will be targeted very specifically at energy savings and the ability to drive energy savings.

  • As I said earlier, lighting is the second largest consumer of electricity so we expect that there will be quite a bit of activity.

  • So while the second quarter, sure, disappointing that we're down, I'm still very, very optimistic about the long-term benefit and potential of the renovation and relight market.

  • - EVP & CFO

  • This is Ricky.

  • I would also say, as Vern mentioned earlier, the broader control capability -- lighting control capability that we have should aid us in this renovation, relight market, as now that the paybacks can be more aggressive, some of the skills that have been developed by LC&D and Sensor Switch as they've been into that market for quite a while I think will aid us, as well, in being able to better make the value proposition and the paybacks, as well as the improvement in the whole lighting environment.

  • So we do see the addition of our control capability as a very nice catalyst to add to what we've been doing in this area.

  • - Chairman, President & CEO

  • And Ricky, let me also add and pile on, if you will, the opportunity of our controls -- of Acuity Brands' controls and the full capability, it now allows us access to market for which we didn't have before.

  • As Ricky pointed out, many of the controls capabilities were sold into the renovation and relight market.

  • They now bring us to the forefront of many of those customers where in the past we really didn't have the opportunity to talk to them about how we may work together to create value for their customers in building an energy management.

  • So we see it as an expansion of our access to market, not only for controls, but for all of our products.

  • So more to come on that.

  • It's a pretty exciting opportunity.

  • That's why we've made the investments that we've made and we believe that this really puts us right in the -- right at the epicenter of opportunity of this rapidly-growing market.

  • - Analyst

  • Okay.

  • The contractor selects business, has there been any market share gains there to help offset some of the weakness there in the consumer and the residential channels?

  • - Chairman, President & CEO

  • What a great question and the folks that head up that channel -- or that segment for us are going to be excited that you ask the question because what I'm pleased to tell you is that that business for us doubled in the second quarter compared to what it was just one quarter ago.

  • So exciting growth there, as we continue to build out that product line's capabilities, features and benefits.

  • We do believe that we are gaining share.

  • The issue, frankly, is that that that product is targeted at the electrical distributor for that to be on their stocking shelves.

  • What's happened in the electrical distribution business is these folks have seen the economy really turn quite dramatically, and it happened for them, generally speaking, in the October-November timeframe.

  • So this is the time of the year when you would typically see electrical distributors stocking their shelves in advance of the spring construction season.

  • Well, this year what they're doing is they're obviously managing their inventories down, so two things are happening.

  • One, general decline in business.

  • Number two, not restocking or putting forth those restocking orders.

  • So while that impacted our business, we believe that we are actually gaining shelf space and certainly share of mind with things like contractor select, as well as our traditional brands that would find their way there because of service, new products, capability.

  • So we are building out our share base, it's just not having the impact enough to offset the decline in general economic activity.

  • - Analyst

  • Have you quantified how big that piece of business is?

  • - Chairman, President & CEO

  • The distributor business?

  • - Analyst

  • Yes.

  • - Chairman, President & CEO

  • Well,the overall market, we believe for, if you will, stock and flow probably represents north of 25% of the entire market.

  • How big is the market today?

  • I don't know.

  • (LAUGHTER) We have data that shows that the market is down.

  • Depending on the segment you're talking about it can be down anywhere from 10% to 40%, so it's hard for us to precisely quantify because we serve so many different channels with our products.

  • - Analyst

  • Right.

  • And just a more quantitative -- or qualitatively, just kind of a thought process question I guess, is if we're looking into the second half and trying to get a handle on what's going to happen with the margins there and even into fiscal '10, the first thing is, of that potential $6 million of margin pressure from inventory management, is that going to be more weighted into Q3, or will it be equally distributed in Q4?

  • And then with a mid to upper teens decline on the top line, which I believe detailed in the release, higher level of cost savings flattish on the commodity front, is that 10%, 10.5% EBIT margin range that we saw in the first half, is that the bottom point assuming that type of revenue?

  • - Chairman, President & CEO

  • Well, you're asking me to give guidance, which, again, we won't, so let me break it down a little bit --

  • - Analyst

  • Okay.

  • - Chairman, President & CEO

  • -- and attempt to answer your questions and allow all of you to piece together your own models.

  • First, on the inventory reduction, what is going to impact that, quite frankly, is the incoming order rate and the volatility of that order rate.

  • We have done a very good job of maintaining and actually improving our productivity, so to the extent that we had more even orders it would be easier for us to, in fact, manage that inventory reduction down and not have the kind of impact that we have suggested is potential.

  • We are expecting continued volatility in our order rates, so we are expecting that as we bring these inventories down, as the plants that we've, if you will, beefed up, the inventory to ensure customer service, as those plants migrate and as the new plants or the new capabilities come up, we'll -- that's what's causing the inventories, if you will, to come down.

  • It's my belief that it will probably be a little bit more fourth quarter loaded, but truthfully just don't know.

  • We think that in total to bring our inventories in line with where we'd like them to be the impact will be roughly $6 million.

  • If you split it evenly, you wouldn't be wrong, but I'm not giving you guidance because truthfully I don't know.

  • When it comes to the mid-teens forecast being down, I would like to encourage everyone to look at their own models and look at their own data.

  • What we see is McGraw-Hill, we see Global Insights, we see a number of pieces of information, but we also talk to our customers, we also talk to distributors.

  • We talk to a number of different influences, and those numbers at this point in time don't seem wrong.

  • So if you were to imagine a number of decline -- or a percentage of decline I think we have done a very good job and I compliment the entire team for being able to manage the business downward.

  • It is very difficult when you have fixed cos -- when you're a manufacturer and you have fixed costs and your volume falls off so precipitously to be able to manage that variable contribution down.

  • We were down roughly $100 million and when you do your apples to apples, you'll see we were down about $20 million in terms of variable contribution.

  • That's a pretty extraordinary achievement, given the fixed-cost nature of most manufacturers.

  • - EVP & CFO

  • And another element, Sean, that I'd point out that you didn't speak to that would affect the second half is the streamlining efforts savings.

  • As I mentioned in my prepared remarks, and Vern mentioned, $30 million for the year, but about three quarters of that number is here in the second half.

  • So we will see some accelerated benefits from those streamlining efforts in the second half relative to what we enjoyed in the first half.

  • - Analyst

  • Okay.

  • And then just one last brief question, what are CapEx expectations for full year?

  • - EVP & CFO

  • $30 million to $35 million.

  • - Analyst

  • Great.

  • Thank you, guys, for your time.

  • - Chairman, President & CEO

  • Thank you.

  • Operator

  • Our next question is coming from Craig Irwin of Merriman.

  • - Analyst

  • Morning, gentlemen, thank you for taking the question.

  • - Chairman, President & CEO

  • Good morning.

  • - Analyst

  • I'm trying to understand the relight business a little bit better.

  • I understand that's a large opportunity and I know the paybacks can be three months, six months, well under a year , but how quickly has this business grown for you over the last two years, and what are the major investments that you need to make to really bring this business up and scale it further over the next

  • - Chairman, President & CEO

  • That's a very good question.

  • As we said in our fourth quarter conference call comments, we just started tracking and accumulating both the product, as well as the service sale in 2008 and we estimated that that business for us was about $80 million of our revenues.

  • We were flat year over year in the first quarter.

  • We were down in the second quarter.

  • Overall, we believe that that industry -- again, the installed base, so understand what that is.

  • That's a building of any type that was built and the new construction, the tenant has moved in -- we believe that based on the data from the government that we see that near about 70% of existing buildings in North America -- or excuse me, in the US, were built before 1990.

  • Many of these buildings still have their original fixtures in there.

  • So as businesses, as governments, as municipalities, as people in general look to drive energy savings, look to really drive sustainability, as they look to make their businesses better from the perspective of a better lighting experience, whether it's your office or whether it's a retail space, all of this stuff comes in to play as the industry, the install base looks at how they both use light and how they manage the cost of that light.

  • And so we believe that the opportunity to extend and expand our market, if you will, is to more fully penetrate that market, creating value propositions that make sense for that marketplace.

  • So we believe that with the acquisition -- or the kicking off, if you will, of Acuity Brands Controls that's now made up of LC&D, Sensor Switch and Synergy, coupled with our fixture capability, coupled with our access to market gives us a very exciting opportunity.

  • The growth side of it, or what we're investing in, is how do we now more fully penetrate that market?

  • It is a new market for us, so understanding the sales cycle, understanding how we create value propositions for that marketplace, that's the work in progress that we're experiencing today.

  • I think in the fourth quarter call we also said that we went from zero to over 50 folks that were focused strictly on providing turnkey solutions into office spaces, schools, retail spaces, you name it, to provide this retro fit opportunity -- or relight, I should say.

  • That's the investment we've been making.

  • I think that the sales cycle and us understanding that just became a whole lot clearer with the acquisition of LC&D and Sensor Switch.

  • This is where these two companies have spent a lot of time developing their skill set and capability, so it's our expectation that they will help us further understand that sales cycle, the value proposition and accelerate our entre, if you will, into that install base.

  • - Analyst

  • Great.

  • It's nice to hear a company calling a $80 million business really a new market.

  • Just on the cost structure side there, I know there are really some assets you have from other markets you've been targeting over the last few years, specifically your anodized -- well, your operations anodizing aluminum, is that something your able to source internally for the relight market or is that something you source from industry suppliers?

  • - Chairman, President & CEO

  • Well, our capability from a product perspective, (inaudible) services side for just a moment, is obviously very formidable.

  • We have -- as we have continued to improve our supply chain capabilities, we have improved our ability to really reduce our cycle times and therefore our lead times into customers, our ability to modify and create products that meet the needs of differing folks, and so our internal capability to do that is quite formidable.

  • But to the extent that we need product that others have and it makes sense for us to procure that, we would procure that from the outside to bring our customers the full solution that they're looking for.

  • - Analyst

  • But I guess to ask the question another way, do you anodize your aluminum for the bulk of the products that you sell in that market?

  • - Chairman, President & CEO

  • I would say that it depends on the product.

  • We are procuring materials that provide reflective capability that don't require us necessarily to anodize.

  • And number two, we're using differing materials, always looking to use new and innovative materials that allow us to not necessarily have to anodize, but give us the reflective capability and the performance capability that's required for that market or that customer's needs.

  • - Analyst

  • Great.

  • Thank you very much.

  • I'll hop back in the queue.

  • - Chairman, President & CEO

  • Thank you.

  • Operator

  • Our last question is coming from Russ Silvestri of SKIRITAI Capital.

  • - Analyst

  • Hello.

  • A quick question.

  • I was looking and thinking about when you bought Sensor Switch how you think of the payback in that, because as I recall, it was around $200 million that you were paying for it and the company had been doing around $30 million in revenues and just walking through your thinking and the amount of money that you paid for it?

  • - Chairman, President & CEO

  • Sure.

  • Sensor Switch, it really has tremendous capability.

  • They have invested very heavily in R&D, and so what they -- what we saw and the opportunity that we saw was not just what they're currently providing to the marketplace in terms of lighting control sensors, but also an ability to provide us with an enabling capability around a holistic solution to help better manage energy and manage light.

  • And those folks, coupled with LC&D's capabilities, coupled with our own Synergy brand really provides us with a complete solution -- or a capability to provide a complete solution for virtually all building needs in terms of how they control light, how they manage their energy.

  • And so what we saw was the opportunity to not only take what they're doing today, but to bring these pieces and parts together to create an integrated solution for various verticals -- a good, better, best value proposition -- and then to leverage our access to market through our 16 different sales forces.

  • So what we saw was an enabling capability of value and use in a marketplace that we, again, expect to grow quite dramatically.

  • It has been growing dramatically, but we expect it to really, like I say, more than triple in size over the next handful of years.

  • - EVP & CFO

  • Just to clarify sales, the last fiscal year, which was the end of October, was $37 million and they had been enjoying compounded growth rates around 30% over the last three or more years.

  • So very rapidly growing, great R&D capability, and highly profitable business, as well.

  • - Chairman, President & CEO

  • Yes, their value proposition, as well as LC&D's, it's really a very, very strong, and so our ability to leverage that was really quite appealing to us.

  • - Analyst

  • I guess I'm just thinking if you pay $200 million, how are you going to get the money back?

  • If a company's doing $1 billion and 20% operating margin, then you get your $200 million back, but that's probably a long time away.

  • Just seems you paid a lot of money for something that's -- today the revenue is dwarfed by the amount that you paid and I'm just trying to understand how -- even at gross 300% it's still a challenge to understand how you are going to get money back on it.

  • - Chairman, President & CEO

  • Well, again, it's a great question and obviously time will tell, but our view, given the strength that we have, given the strength and access to market that they have, we think that the synergies between the businesses, not only from a product and a capability perspective, but from an access-to-market perspective is very, very powerful and so we expect to not only extract a return, but our targets of creating -- our cash flow return on investment of our organization is very important to us and how we drive that's very important and this management team isn't expecting to go backwards.

  • - Analyst

  • Okay.

  • Thank you.

  • - Chairman, President & CEO

  • Thank you.

  • Operator

  • I will now turn the call back to Mr.

  • Vernon Nagle for closing remarks.

  • - Chairman, President & CEO

  • Thank you for your time this morning.

  • We understand the current environment is unsettling.

  • However, we strongly believe we are focusing on the right objectives, deploying the proper strategies, and driving the organization to succeed in critical areas that will, over the longer term, deliver on our expectations for our key stakeholders.

  • Our future is bright.

  • Thank you for your support.

  • Operator

  • This will conclude today's conference.

  • All parties may disconnect.