Barrick Mining Corp (B) 2004 Q2 法說會逐字稿

Good afternoon and welcome, ladies and gentlemen, to the Barnes Group, Inc. second-quarter earnings conference call. At this time, I'd like to inform you that this conference is being recorded and that all participants are in a listen-only mode. At the request of the Company, we will open up the conference for questions and answers after the presentation. I will now turn the conference over to Mr. Phillip Penn, Barnes Group's Director of Investor Relations. Please go ahead, sir.

Thanks, and thanks everyone for joining us on the call on the webcast to discuss our second quarter. With me are Ed Carpenter, Barnes Group President and CEO, and Bill Denninger, Barnes Senior VP of Finance and Chief Financial Officer.

It's a busy time of year, so I'd ask if you have any questions that are purely data driven, hold them for me after the call. And if you have more than one or a multiple-part question, please also be respectful of others waiting in the queue so we can offer everyone an opportunity to participate.

In addition, I'd like to remind everyone that certain statements we make on the call today, both during the formal presentation and during the Q&A session, may be forward-looking information as defined in the Private Securities Litigation Reform Act of 1995. These forward statements are subject to risks and uncertainties that may cause our actual results to differ materially from those contained in the statements.

We would encourage investors to consider these risks and uncertainties that are described in our periodic filings with the Securities and Exchange Commission, which are available through the investor relations section of our corporate website.

Before I turn the call over to Ed, I do also want to make mention of one thing that we issued a press release within the last few minutes here regarding guidance for the remainder of 2004, and before we get into our normalized remarks for the quarter, I'm going to have Ed comment on that briefly.

Good afternoon. As those of you who follow us know, we have never given earnings guidance. It's been a policy here that we've adhered to for about five and a half years. I believe we have a rigorous budgeting and planning process where we go down to the division level and really understand what our budgets and our plans are for the oncoming year.

Further, we have, as a group, really felt good about our strict adherence to the FD requirements and I think those of you who know us know that we've been very careful about that. When we put our plan together for '04, it was a concrete plan. It's still the same plan that we are operating under today, and we had the approval of the Board of that plan in December of '04. That plan would -- in December of '03 for '04. That plan would have indicated an EPS number on a diluted basis of between $1.60 and $1.65. That plan has not changed, but compared to some of the street estimates that were out there right now, we felt that that is at enough variance that we had to change our policy on guidance and indication and to let you know what our plan was.

Obviously, I suspect we'll have further discussion on that later, but let's get right now into what I think was a pretty good quarter. If you can take a look at schedule 1, that's where I'll start my remarks. First of all, overall, I would say that we view this quarter as a pretty good quarter, where we thought it would be, but not at our full earnings potential. I should mention we were at plan for this quarter, as well as last quarter. Our sales came in at 252 million, a nice improvement from a year ago and the best quarterly sales we've had in Barnes Group history, record revenue. And the operating margin was up in all three quarters -- all three businesses from the first quarter.

Second bullet point, net income was up 16% and set a new record for the highest net income we've ever had in the second quarter. Our diluted EPS ticked up a bit more on shares, and this will be the last quarter that the shares from last year's equity offering have a big impact on the year-over-year comparison.

Third, physical integration of Barnes Distribution in Canada was completed in late May and early June, so that the Kar integration is behind us. As planned, we did have some significant cost and disruptions relative to the integration, and those logistics and inventory movement costs should wind down as we have now closed our Toronto and our Windsor distribution centers.

Fourth bullet point. Barnes Aerospace had another very solid quarter across operations in OEM and in our aftermarket business of spares, RSPs, and the overhaul and repair operations. In late June we continued our expansion into the aerospace aftermarket as we entered into our fourth revenue-sharing program for spare parts. A little more detail on that later.

As a final take-away, a fifth bullet, although the top organic growth at Associated Spring is up and we've made some good progress, most of the challenges to profitability that occurred in the first quarter repeated in the second. Bill and I will comment on details on that shortly. So as I said, record second quarter but still a lot of room for us to grow.

If you turn now to schedule 2, I'll share some details on each of our businesses. Let me start with Barnes Distribution. Sales and operating profits improved from a year ago, but fell a little short of our plan. Some of that has to do with the cost to complete the Canadian operation and some was cost to maintain our customer service levels, but in any case, we thought we would do a little bit better. On the plus side, big plus, the strategic growth initiatives we spoke about in previous calls, national accounts, e-commerce, and the tier-2 relationships generated over $8 million in sales, up from less than 5 a year ago. We continue to remain very bullish on the contributions that these initiatives will make to Barnes' Distribution, both for the rest of '04 and in the medium term.

Fill rate has not improved to where it needs to be. We need to get it over 96%. Again, you all know that we base that on a very rigorous internal first-pass measurement we utilize. While some of this had to do with disruptions caused by the completion of the distribution center integration during the quarter, the bulk of the fill rate problems we are now experiencing have more to do with vendor shortages than integrations, particularly in our fastener area. By way of example, the dollar value of past-due inventory shipments has about doubled in the last 6 weeks, so it's an issue that has really accelerated since early May.

To expand on that a bit, the sharp drop in steel supplies began to affect the supply of fasteners, our largest product group. To address this we've made management changes at distribution where a team of people headed by the distribution's Chief Operating Officer are focused on expediting a number of critical product lines from our suppliers and we're starting to see early progress. We put the highest priority on maintaining customer service levels, and frankly have incurred some costs as a result. And while the team at distribution is doing everything they can, it is an issue that is going to take some time to mitigate.

We will be recovering the product costs associated in higher pricing as we move forward, so the longer-term profitability of this business is as we've discussed. And unlike our manufacturing businesses, we do have some pricing capability within distribution.

Finally, and importantly, we completed the Kar products integration with the opening of our brand-new distribution center in Beamsville, Ontario, and as was in the press release, the integration cost us about $400,000 in Q2. A few weeks into this quarter, we're seeing those costs essentially dropped away.

Let me now move on to Associated Spring. Sales grew nicely, by about 9%, with all of our customer segments reporting growth versus '03. Operating profitability and margin, however, were below where we'd like to be and really reflect a couple of issues.

First, as you know, medical costs continue to be up sharply from a year ago and had about the same impact in the second quarter as in the first, and frankly we're going to be looking at that for the rest of the year. Secondly, we've made solid progress in improving operations in 2 of our plants, but the remaining ongoing issues will be addressed during the balance of the year. Key milestone and long-term fixes we are undertaking to occur this fall with additional manufacturing capacities -- when additional manufacturing capacity is brought on-line at our new plant in Mexico. We continue to expect that our first customer shipments from that new plant will happen in the fourth quarter.

Third issue. Steel prices have become incrementally more challenging than they were at the beginning of the year. While I think the team at Spring has done an excellent job of managing the supply chain to make sure that we have customer deliveries, we've been unsuccessful, particularly in our large transportation customers, at passing those costs on. I'm sure you've heard this from others, but we continue to work that issue aggressively. We monitor it weekly and remain hopeful that we can generate pricing offsets of some meaningful level in the second half. However, it’s safe to say that raw-material impact may get worse before they get better.

As you may have guessed, the strongest resistance to raw-material price increases is coming from domestic transportation industry where about two-thirds of Associated Springs' raw-material issues today sit. In fact, half the overall problem is with the big 3 and the 2 big tier-1 suppliers, who frankly have dug in their heels on the issue. Eventually when production gets threatened, you'll see some progress, but from my experience in the Detroit area I don't expect that event is in the near future.

It's worth noting we worked hard to reduce the exposure at the company, overall Barnes Group's exposure to the big 3 in the last 5 years. So what 5 ½ years ago represented about 16% of Barnes Group's total sales is now only about 9% actually slightly lower. So the impact from raw materials is less than it would have been 5 years ago, but is still an issue that we have to deal with.

Finally, at Associated Spring we had some higher severance than a year ago as we adjusted certain employment levels to lean out some of our operations as we took action. The macro view of Spring, good results on the top line. Some progress on the bottom line but still a lot of work to go here, and you should expect to be looking at us hard in the oncoming quarters to measure our progress.

Let me wrap up with Barnes Aerospace, which had an outstanding quarter, terrific quarter. Sales, operating profits, orders, backlog, all improved, and operating margin at better than 10% is the highest we've seen for quite some time; a number of years, actually. We tried to communicate for the past quarters, past several quarters, that Aerospace would have a very solid year in '04, even if the underlying commercial market didn't improve. And with the results we've generated year to date, I think they've delivered on that objective.

We saw solid growth on the OEM side in what was essentially a flat production environment year-over-year. And our aftermarket business did even better. Overhaul and repair portion of Aerospace enjoyed solid growth in the quarter, and with airline traffic levels continuing to improve, we think this side of the business will have equally solid results through the balance of '04. With the spares portion of our aftermarket business, the 3 spares revenue sharing partnership agreements operating for the whole quarter performed right in line with our expectation, and based on what we know today, we expect that to be the case for the balance of the year.

As you may have seen in the press release, we signed our fourth spares RSP agreement at the end of the quarter. Like its 3 predecessors, RSP 4 gives us exclusive rights to distribute spare parts on a particular family of engines for the remainder of that engine's life. I'll let Bill walk you through the economics, but sufficient to say it's the same OEM partner, same family of engines and the same strong level of return we expect to make on the investment. To sum it up, a good quarter, very good quarter for Aerospace, and that's what it's looking like for the rest of '04.

With that, let me turn it over to Bill Denninger, the CFO, who will give you a more detailed financial view of the quarter.

Thanks, Ed, and good afternoon everyone.

Let's begin with some comments on schedule 3. As you can see, sales were up overall about 10% in the second quarter, reflecting organic sales growth in all three of our businesses, and I'll cover the detail of that sales growth for each business in a few moments. I should also comment that unlike in the past few quarters, foreign currency translation had a negligible impact on our reported sales in Q2.

Cost of sales was up 12.3%; that was slightly more than the increase in sales for the quarter. This is due in part to a shift in sales mix toward our manufacturing businesses which have a higher cost for sales and lower gross margin than distribution. Our selling and admin costs, taken together, were up only 3.9% in the quarter, well below the rate of the sales increase. Operating income up 11%, was driven primarily by higher profitability at Barnes Aerospace. Our operating income margin for the quarter was 7%, which was even with last year.

Other income was up slightly from the year ago. The biggest driver there was foreign exchange gains in 2004, versus foreign exchange losses in 2003. Interest expense down about 10%, which is a function of higher average borrowings in 2003 related to the Kar acquisition, and to a slight decline in our average interest rates in 2004. Our tax rate in the quarter was 23%, which is about 3 points higher than the 20% a year ago. Net income increased 16% to 11.3 million, which gave us diluted EPS in the second quarter of '04 of 47 cents, up from 46 in the second quarter of '03. The average diluted share count was up 11% year-over-year, due primarily to the follow-on equity offering we completed in late May last year. So overall a good quarter for the company.

Moving now to schedule 4, let me cover each of the businesses starting with Associated Spring. I'd like to start by giving you some color on Spring's 9% sales growth but covering each of its key customer segments. First sales in light vehicle products grew by about 6% to 42 million in the quarter. We continue to outperform North American light-vehicle production, which was up less than 2%. We saw very good results among the Japanese transplants where our sales grew by about 16%, well above the 7% growth in production in for that group of OEMs. Now looking ahead to the balance of the year, we have not been notified of extended summer shutdowns by the big three save for a handful of plants. However, based on some anecdotal evidence we have, and given the state of dealer inventories, we were a bit cautious with respect to automotive builds for the third quarter.

For a second straight quarter Associated Spring sales into the heavy truck segment at about 6 million, were up by more than 20% year-over-year, 27% in fact on the second quarter, and it was 24% in the first. Most of what we see and hear out there suggests that demand for heavy trucks should remain strong through the end of the year.

The rate increase in nitrogen gas product sales was for the first time since we acquired the business in the single digits. The softness here relates to the decreased demand for tooling builds attributed to fewer model changes than some of the European automotive OEMs. We believe the dampening effect here is a temporary one, with an expected return to historical rates of sales growth late in the third quarter and are doing some work to confirm this. Industrial product sales were up a very solid 19% to about 25 million, excuse me, well ahead of the pace of growth in the first quarter, certainly indicative of the continued recovery in industrial activity. We don't have a good sense if that rate of sales growth is truly sustainable, a big part of that uncertainty relates to the potential impact on the recovery from both interest -- interest rates and oil prices, so like everyone else in the industrial space we'll just have to wait and see.

Finally, telecom and electronic sales grew 6% to just under 4 million in the quarter, the second straight quarter in which we have seen growth in that segment. Two quarters don't necessarily indicate a full-blown recovery, but certainly this market area is the most favorable, and it has been for some time. Operating profit at Spring was down in the quarter to 7.7 million from 9.1 in the prior period. This reflected, as Ed said, higher medical costs versus 2003, increased spending to address the capacity issues we've got, some severance from the impact of higher raw-material prices. In total, these costs had an incremental negative effect of about 3 million, which more than offset the proper contribution from the higher sales. To break that 3 million down, about 800,000 was higher raw-material costs and 800 in medical, 600 from the capacity issues, 400 in severance and a 400 unfavorable LIFO adjustment.

Now let's move into Barnes Aerospace. As you heard from Ed, sales there grew a very solid 31% or 12.6 million to 53 million in the second quarter. OEM sales were up 24%, while on the aftermarket side we had 2 million in sales from the RSP, and overhaul and repair sales were up an impressive 34%. We've indicated on our last call that overhaul and repair had a very strong month of merge, and clearly that strength continued throughout the second quarter. Order backlog in aerospace at the end of the quarter was 153 million, up more than 17 million in the same time a year ago. Orders generated in the second quarter were 54 million, including continued strong orders and a bit over 8 million for components on the GE 90115 B engine and military orders of 11.7 million. We generated almost 27 million in military orders in the first half of the year compared to 47 million in all of last year, so a good trend underway there.

Operating profit at Aerospace more than doubled to 5.4 million on the profit contribution from both the higher sales volume and the three RSPs that were active during the second quarter. Now as Ed mentioned, we had signed our fourth RSP at the end of the second quarter, to which we have committed to a participation fee of 18 million. We project some Internal Rate of Return on this latest RSP investment at the same levels as the first three, so they remain an excellent reinvestment of our capital under programs that will minimize the cyclicality of our Aerospace business.

To clarify what RSP payments have been made and what is yet to come, of the 77.5 million we’ve committed in total, to the end of the second quarter we have paid out 32.5 million. We paid another 12.5 million on July 7th, which was eight days ago, and we’ll make a further payment of 4.5 million this coming October. 14.5 million of the balance will be paid in April 2005, and the final 13.5 million in July of '05. All the payments we've made to date have come from cash held outside the U.S., and we expect our future payments will be sourced there as well. So a really great quarter from Aerospace and significant long-term potential with the RSP investment going forward.

Moving now to Barnes Distribution, sales in total increased about 2% year-over-year to 107 million. We did own Kar Products for the full quarter in both periods, so there was no acquisition impact to the 2004 reporting numbers. I'd like to highlight that we did see about a 6% increase in the daily sales average or DSA for the historic or pre-Kar Barnes Distribution U.S. business in the quarter. While Kar U.S. sales were below last year, we did see a sequential monthly increase in Kar DSA during the second quarter, but the Kar sales reps continue to recover from the integration-related disruptions. And in Canada where sales were up in the first quarter, they were down 12% in the second as a result of the disruption around shutting down the Windsor and Toronto DCs and starting up the new DC in southern Ontario in early June.

As Ed mentioned, sales from distribution, key growth initiatives were up about 75% year-over-year to 8.5 million. The national accounts selling team opened 11 new accounts with potential sales value of about 1.5 million. Our e-commerce and tier two programs each generated sales increases of nearly 70% versus the prior year. In the aggregate, these initiatives are now running at an annual sales rate of about 34 million, up from 26 million on the first quarter and less than 20 million a year ago. Raymond Division of Barnes Distribution, which distributes specialty springs had an especially solid quarter. Sales there were up about 11% in the quarter.

Operating profit at Distribution increased 5.1 million from 4.9, while operating margin was even with prior year at 4.7%. Back on the February conference call we indicated we would be running at Distribution somewhere between 3% and 5% in the first half, and in the second quarter we were at the higher end of that range and up from 4% in the first quarter. The biggest driver of the profit increase was nearly 2.8 million in cost savings related to the Kar acquisition, 1.8 million of which was incremental to the 2003 period. To a lesser extent, operating profit was also positively impacted by contribution from the higher sales. Offsetting the majority of these improvements was a slight reduction in gross margin and aggregate expenses of 1.3 million related to Distribution Center consolidation and service level enhancement in the U.S. and Canada. Of the 2.8 million in Kar-related synergistic savings we recorded in the second quarter, we're now at an annual run rate of about 11 million, right in the middle of our targeted range of 10 to 12 million.

Move now to schedule five. As I said earlier we booked a tax rate of 23% in the second quarter indicating that our current outlook for the effective tax rate for all of 2004 is unchanged at that level. Capital expenditures in the second quarter were 8.4 million, taking the six-month total to 16.8 million versus 8 a year ago. We continue to expect capital expenditures in the high 20s for all of 2004. Turning now to schedule six, we ended the quarter with 39 million of cash on the balance sheet, up from 32 at the end of March. As I mentioned, we used 12.5 of that cash for an RSP payment on July 7th. You can see that our gross debt-to-cap ratio was 44%, down from 46 at the end of the second quarter of '03 and within our target range of 40 to 45%. We think the balance sheet is well positioned to support our near-term growth investments. Finally, I should also mention that we successfully amended our revolving credit agreement in the second quarter, increasing the size of the facility to 175 million from a prior 150, and lowering the overall LIBOR merging repay on any drawdowns by 50 basis points. We also extended the term of that agreement to five years from the prior three.

Thank you. At this point I'd like to turn it back over to Ed to wrap up.

Thanks, Bill. Looking back at the first six months, I think the results we generated -- the financial results we generated were right where we thought we'd be when we started the year. We recognize a lot more work to be done to improve our profitability going forward. And we're focused on that. At the same time, we don't want to take our eye off the ball and continuing to grow the top line, and I think as you look at our organic growth, I think the strategies we've talked on today -- talked about today will help sustain that momentum we saw in the first half.

Thanks again. I'll turn it back to Phil to begin the Q & A.

Thanks, Ed. Janeane (ph), we're ready to start the Q & A whenever you are.

Thank you sir, the question-and-answer session will begin at this time. If you are using a speaker phone, please pick up the handset before pressing any numbers. Should you have a question, please press star one on your push button telephone. If you wish to withdraw your question, please press star two. Your questions will be taken in the order that they are received. Please stand by for your first question.

Our first question comes from Holden Lewis, with BBT. Please state your question.

Good morning, thank you.

Good morning, Holden.

I guess looking at the guidance which you put out there as you started the call, obviously a little bit lower as you said, than expectations, but I guess what kind of surprises me is given that there's about 4.3 million in costs here that you talk about, you know, it looks like at least some of those are going to begin to go away, you know, certainly not all of them but at least begin to chip away at them in some cases. I guess the guidance makes it look like, you know, that 4.3 million, you know, really that we’re not going to make any progress against that.

And, I’m just kind of curious, are there some additional things that we have coming up, or are there any incremental changes that are negative that are going to be off offsetting some of the things that fall out of there, or how should we look at that?

Okay. Good question. Um, first of all, the -- the guidance we gave you is what our plan is, and we're essentially spot on through the first six months. That essentially means we're a skosh over. So you're saying is if I look at -- at some of the costs that you're hitting, will they continue, and therefore if I take 90 and 90 I ought to get $1.80, so what are you talking about, or 88 and 88.A couple things. One is, if you look at Barnes Group over a reasonable period of time, there is some seasonality. Our revenues tend to be stronger in the first half of the year, and I can go into detail as to why they are. They have to do with the auto build schedule, which isn’t as infamed an impact as it might have been 5 or 6 years ago. You've got distribution slowing down in the fourth quarter. So there are a number of reasons why that tends to occur.

Having said that, there are a number of the cost elements that -- I didn't add them up to 4.3, but I mean you are probably right. (Inaudible) without it. That will not go away. Medical, retirement, those kinds of things are embedded. In fact is one of the things we're seeing now is we're still seeing steel increases go up, you know, greater than planned, they're not accelerating, but they're maintaining the same ugly trend. To the extent that we're successful with our customers in getting price relief, that will improve, but I would say I'm not optimistic on that for the near term.

Having said that, I think what we really did was try and share with you our plan for the year as it was -- as it was approved in December. I’d parenthetically say that I think the team at Barnes feels pretty good about our transparency in reporting, whether that's in 10-Qs, whether that's however we do it, and I think it began to be a little bit of a frustration that our plan was significantly different than guidance, and that's really why we decided to handle it this way.

Okay. Not only is it helpful, but I think it's smart on your part to take some control of that message so, you know, that's --

I hate guidance, but I'm there and so I've been dragged kicking and -- it's like me having to deal with a VCR; I finally agreed to do it.

Before long you’ll be putting out monthly sales, no doubt.

I guess the way I'm looking at -- we understand the seasonality, you know, and I think that the guidance -- or the estimates largely have that in there. I guess it's just that it looks more severe than we would have expected because again, you know, some of these costs, such as the integration, such as the severance and presumably some other stuff might not go away in full but in part. It kind of feels like there might be a nickel in Q3 that might not recur out of that 4.3 million pool, which, you know, would do a lot to offset what is your typical Q3, seasonality. And so you're saying that normal seasonality is there, which is why I'm trying to draw on the conclusion that, you know, net-net we're not going to get rid of any of these costs that we are talking about in Q2, is that accurate?

I think we will. I think that that will be reflected -- and you'll be able -- you should be able to see that in the distribution business. Where you'll see the traditional slowdown and, you know, in -- we are now -- no one has changed their formal schedule forecast for either traditional automotive or for the transplants. And the -- but they are taking their vacations this year, and my nose tells me we might get some announcements between now and September 30th. And that would be my note of caution to you.

Okay. Thanks.

Thank you. Our next question comes from Matt Summerville with KeyBanc Capital Markets. Please state your question.

A couple questions Ed or Bill, can you comment a little bit on how your fill rates and distribution progressed really from the beginning of the year, in particular through the second quarter as this fastener issue started to crop up at the same time when the Kar integration was getting completed?

I'll handle that one.

The fill rate in the U.S. for all DCs started off the first quarter in sort of the 92, 93, 94 range, that was integration related as we saw the improvements and related to integration, a buildup of the past due vendor POs, which held it down to that same 93, 94 level, and that's where we wound up in the second quarter. So it shifted from integration-related in the first quarter to more of a vendor-driven or vendor-related issue in the second, but nonetheless we're still in the 93, 94% level.

And one of the differences, which is a little troubling is that when we had integration issues, as you know, and we measure first past yield is -- so if it -- even if we get it from another warehouse, another distribution center, to the customer, which means they get the part, we still gig ourselves for that. But when you have part shortages, sometimes that option isn't available to us, and that's the concern I think we have, although we're seeing some moderation in that -- in that -- in that PO past-due line, but I would still say it's an issue.

Ed, have you done an analysis in terms of how much of your fastener product mix today is actually being affected and , you know, further, how long do you think this situation will last, or what's your current line of thinking on that?

I don't -- I can't give you a -- because I don't tend to look at it by fasteners or chemicals, I tend to look at if you look at our A (ph) items right now, about 1% of them -- and those would be the fastest moving --

Yes.

About 1% of what we categorize as, A items are out of stock right now. And that doesn't sound like a lot, but for us to be out of A items is a big deal. And when I say out, I mean if you look across all our DCs, when we reach into a bin we don't have a given fastener.

Okay.

So those -- those are kinds of things that -- that just shouldn't happen in distribution, and we -- you know, five years ago, when I first got here, we had a lot of those problems, but over the last couple years we didn't. And as I said, we've got some distribution issues as we began integration, but, I think the biggest problem we have, it occurs in two areas.

One, our partially standard components and some are our special Barnes Distribution products where we have got special alloys and special high-grade fasteners that we have traditionally supplied in the industry and we just can't get those. It's -- we'll have to watch it very carefully. The team there is really working, I think, night and day on shortages. So there's no lack of working on it, but some of this is, you know, you'll have a meeting with a vendor, and he'll say, well I'll ship those -- I'll give you a truckload to your packaging source by Friday, and it doesn't get there. It's a critical issue.

I mean, is one of the options that you have -- and I don't know how diverse your supplier base is in this business, but are there opportunities for Barnes looking forward to diversify that supply base? And if so, you know, how long does it take, and are you sort of hearing the same thing from all of your suppliers related to the fastener line? I mean, is everyone sort of having the same issue?

Sure, they are. You know, and to the extent that, our inventories were in a slightly lower position than they might have been because of the consolidation of the centers, we may have seen some of that exacerbate. But the answer is we have a very diverse supply base, we've got a terrific purchasing team, and we just have not seen this for -- well, you know how long it's been.

Okay. Thanks a lot. I'll get back in queue.

Thanks, Matt.

Thank you. Our next question comes from Robert Stallard with Banc of America. Please state your question.

Good morning everyone, or afternoon now. I just thought I'd ask a couple questions first of all on this -- the steel issue. Is your perception that it's actually going to get worse before it gets better? Can you give us a flavor of what sort of long-term contracts you've got fixed in here and when you'll be able to renegotiate some of them?

In general, the steel suppliers are treating with some exceptions, the steel suppliers are treating it as priced at time of shipment. And so they'll send you a letter and say, you know, confirming the prices why, and that's what it comes at. There's both a price issue and a supply issue right now. It's not -- you know, don't -- you know, some of the situation is just our guys are working very hard, particularly in Spring, just to get product so that we can -- we can provide the product to our customers. Again, we've all lived through these things, they will come and go, I don't mean to be cavalier about it, but, you know, I'm not -- I don't wake up at 3 o'clock at night and panic over it. I think that we've got a good team on it. They're working hard, we've got some very difficult customer issues, which I wish we didn't have, but we're not unique. In other words, if you -- I'm sure if you chat with anybody any supplier in transportation today, they're -- they would all say the same thing. I mean, I talk to enough of them, so I know.

Does this sort of make you feel that the margins you've achieved in Associated Spring, for example, this quarter, is probably going to be about as good as it gets for the year?

Um, no, I don't think so.

There are a number of items, I think somebody mentioned earlier, that certainly shouldn't repeat at the same levels in the future quarter. I mean, we had some fairly heavy severance, for instance, some of the capacity problems will go away as we get the New Mexico facility up and running. So I should think there's some upside between now and year end.

But again, within the total -- and I appreciate your trying to pry apart the total -- but within the total we're still comfortable with where we're at.

Right. Right.

Because -- you know, one of the advantages we have is when you have difficulty like this, on the other side you've got Aerospace, which is about 80% of its OEM material now -- no, that's not quite right. It's 68% is customer specified under long-term contracts and another 12% or a total of 80% are covered by long-term contracts because it’s primarily either titanium or forgings or castings. So, you know, we've got the other side of that issue where we've got one of our businesses which is really today not seeing any price issues.

Uh-huh. Just a couple questions on the Aerospace side. First of all, what level of organic growth did you see in the Aerospace aftermarket this quarter? And secondly, looking at the RSP (inaudible) you’ve signed up, could you just remind us of what sort of return you're expecting to get from them?

Let me take RSP, and Bill will give you the aftermarket. RSPs are -- we're looking at returns on our RSP numbers of in the high teens.

Yeah.

On a IRR basis, and that's on a fully taxed basis.

On the question about the organic sales growth, include the RSPs in the aftermarket and look at it in total, it's about 40%. And that's all organic, no currency in there.

Right. Okay. Thanks very much.

You know, one of the things that we saw was -- you know, I'm sure you see the same numbers. Is you know, not only did we see the parked (ph) fleet drop, but we saw planes -- we continue to see more and more planes in the air, and that's just a good sign for us.

Yep.

Thank you. Our next question comes from Mike Harris with Robert W. Baird. Please state your question.

A lot of focus here on the cost side, and Ed, I would just like to get your commentary on how the demand environment progressed throughout the quarter. Obviously, there's a lot of -- you know, there's material cost inflation, there's shortages of material that are showing up in the supply chain, there's a reason for that, demand is strong. I guess my question is you were pretty optimistic about the sustainability of the industrial recovery last conference call. How are your feelings today relative to your previous comments?

I think -- well, first of all, I think that we continue to feel very strong about the fundamental growth. Ignoring a lot of the initiatives that the guys have, we see that demand continuing to be very robust across the line. As you know, we're doing a bunch of things over the last year in distribution to reposition that business, and we haven't been able to take advantage totally of that strong demand, but I would guess that that situation will improve. Having said that, if you look at an overall company like ourselves -- and there's essentially no -- there's no foreign exchange in the growth, a little bit. I mean, we're popping along at 10% for this quarter, so we feel pretty good about it. And I don't see anything in any of the businesses ex the 9% that we have with the Big Three that is going to change.

Fair enough. That's helpful.

Yeah. And that makes a big difference for us. You know, it's kind of really good news as we look ahead, it's been a little troublesome as we've tried to do some things. You'd like not to have quite the growth rate that while you're putting parts on trucks and trying to get them into distribution centers.

Just speaking about Associated Spring and the North America light vehicle market, it seems like ever since I've been covering you, typically your auto sales have outperformed North America light vehicle builds. Now, did you track that? How long has it been since you haven't outperformed that market?

We can go back and Phil can get to you on it. I think the fundamental reason is -- it's a good question. The fundamental reason is because our balance between domestic and transplants. You know, we continue to enjoy pretty good presence with the transplants, and as you know, if you look at the numbers, then it continues to be this way.

Sure.

I also recall that you do have favorable exposure between light vehicles versus passenger cars.

That is right. Our SUV content is better. But also it, I think, reflects some of the situation we've had in the foreign environment, too.

Okay.

I gave out statistics going back a couple years both on production and on our light-vehicle sales for Associated Spring, and I'll follow up with you later on that.

Okay. Fair enough. And then just going to Barnes Distribution, obviously a lot of commentary already on it. I don't recall the question being asked or answered regarding when you expect to have your order-fill rates back to pre-integration levels, so over 96%. Maybe I missed that, but --

No. It's a good question, and if you would have asked me in April that question, which was before the fastener shortage started to really hit the wall, I probably would have said mid-third quarter.

Okay.

And I have trouble giving you a definitive answer just because a lot of it will depend on what happens to the demand picture, how quick we can get alternate sources that we can depend on.

Sure.

But I continue to expect that it will improve. Canada is probably three months behind the U.S.

Okay. You know, just to comment here on the raw-material issue, and I mean you brought up it's two issues, it’s the inflation and it's actual, you know, shortages of material as well. And, you know, we monitor steel scrap prices here pretty closely and, you know, at the end of March, after steel scrap really spiked significantly, you saw a pretty dramatic drop-off and within the last two, three weeks steel scrap has spiked up again. And, you know, I just want to get your thoughts here. I mean, you know, some people are in the camp that this is just temporary because, you know, automotive industry as you know shuts down in July and they're pretty good source of prompt steel scrap and there also was concern because of that that you would have a shortage of steel scrap for the month of July and then once the automotive industry gets back up and running, that steel scrap will come back down again. Do you have any thoughts on that, or where you think those prices are going to trend?

Nothing except anecdotal. I think that my sense is that the steel -- the steel industry, the participants in that business have earned for a long time a below-capital return, below any kind of reasonable return, and once the demand hit them, they really took advantage of it with a vengeance. I think that the scrap pricing issue allowed them to point to some very specific issues beyond just China wanting more product.

Sure.

Ed Carpenter I've had customers tell me that they believe that by the end of the summer the steel prices would start to come back down, and I think that's just a negotiating ploy to put us off. I don't see that coming. I think it's going to be -- because it's not just -- you know, it's not just Gary, Indiana or Detroit or -- I mean, it's -- this is Europe, this is the Far East, this is a global issue. Because most of the products -- you know, particularly in Spring, we source products from Europe, from Korea, it's not like we're, you know, a single located shop that buys from the local steel supplier. And those guys are really getting killed.

Sure.

We're buying from the mills. And it's tricky.

Well, you know, with you officially giving guidance for '04, and you've got two remaining quarters here, and obviously your sell-side analysts are going to adjust their estimates. Is the–steel situation to a point that I could classify it as the wild card to the Q3 quarter consensus estimates? Is that a fair statement?

Yeah, I think you could. I think what we are saying to you is that we had a plan in -- that was approved in December that did not contemplate the steel.

And so far we've been able to mitigate that. I think it's going to get harder to do that, but obviously what we do here is, you know, we plan the work and then work the plan. I'd say the prices are not the wild card.

Okay.

I'd say the recovery from the customers are. Recoveries are. You know, that in our industrial space and in our foreign space, we've been able to begin to make some progress in that area. And I think it will continue because at some point the relationships go too far. I'd say in the big three, it's really tricky. Bill and I -- I mean, Bill and I have a weekly meeting with the Associated Spring guys just to understand where we are on this. They're working hard on it. That's what they're working on, and so it's not like a lack of attention but I can tell you it's a very sticky point. So I'd say -- I'd say year-to-date, we've made our plan even though we didn't expect to have those steel-price increases this year. So from that point of view, as a company, overall we've been able to figure out how to get by with that. Going forward, I'd say you've identified the where we – now we've got to go find other places to cover those costs.

Sure. That's fair enough. I appreciate it.

And just lastly, my apologies on my estimate of foreign currency impact for the quarter in my note published this morning.

No problem, Mike.

Take care.

Mike, we don't know it until the end of the quarter either.

Thank you. Our next question comes from Matt Summerville with KeyBanc Capital Markets. Please state your question.

Thanks. Follow-up on related to the New Mexican plan, I wondered if you guys can provide some figures around that in terms of how much things are going to cost, what the start-up curve looks like. You know, how much of the capacity to your building is already essentially sold out, if it is at this point. And then maybe talk about the revenue capability here.

I think we're a little early on that. Most of the start-up revenue we have in place for that, which will amount to about 35% of its capacity. That will go through the first two quarters of production, which will be Q4 and Q1. You're right, there is some start-up costs baked into our plan because, you know, you just don't start these things up . Most plant start ups that I you know, for 40 years, they're always a little trickier than you allow. But I think that we've got -- one of the advantages we have, uh, in this one, Matt, is that we've got an experienced team in Mexico City of guys that know how to make springs that we're going to have to allocate some of those folks to Monterrey, not just to Mexico City. We've got some people from the U.S. that are going to go down there and work on it. So we've got the equipment and everything else. We can give you the cost detail on that. Phil can give you (inaudible) investment. It's a leased facility – it’s a leased plant. It's not an invested (ph) plant. We ordered the equipment for that about 15 months ago, and I just don't remember how much it was.

Okay. And then just a follow-up on that. For the Spring business, after this plant's up and running, how much of your spring capacity, then, will be manufactured in low-cost, if you will?

Uh, I'll be honest with you, Matt, I haven't worked through that, but I’ll also follow up with you on that as well.

Yeah, that’s pretty -- there really are two answers to that, and Phil could give it to you. One is what I'll call traditional spring, and the other one would be -- which would be ex nitrogen gas. So because a lot of the nitrogen gas capacity is outside the United States. We, you know, the bulk of which is in Europe, but this year we will do a start-up project in China for small nitrogen gas springs.

Okay. And then Bill, I was wondering do you have a cash flow from operations number for the second quarter, or at least an outlook for '04 on that?

We are still refining that number. It gets a little complicated when we were dealing in foreign exchange rates, but I should be able to come back to you with that number in the next day or so.

Matt, if you’re trying to get the EBITDA, we did provide depreciation and amortization, I think, on one of the slides.

I was just more curious in trying to get down to free cash flow.

Understood.

Okay. Thanks, guys.

Ladies and gentlemen, as a reminder, should you have a question, please press star one at this time. Our next question again comes from Holden Lewis with BB&T. Please state your question.

Thank you. You also referenced in your release that the synergies or savings that you were recognizing in distribution from Kar were running I think it was about 1.8 million in the quarter. If memory serves, I think you gave a 2.4 or 2.6 million recognized in Q1. What's the difference?

Holden, it's the incremental that's in the press release. The gross number is about 2.8 million, but we had some that we were already incurring in the second quarter of last year.

Okay.

So the gross number's 2.8.

All right. Great. Thank you.

Sure.

Thank you. If there are no further questions, I will turn the conference back to Mr. Penn.

Thanks, Janeane. And again, thanks for joining us today. Should everyone have any follow-up questions -- I have a feeling there might be a few -- feel free to call me at 860-973-2126. Otherwise, we’re going to look forward to talking with you again in a few months.

Thank you.

Thank you.

Ladies and gentlemen, if you wish to access the replay for this call, you may do so by dialing 1-800-428-6051, or 973-709-2089 with an ID number of 363617. This concludes our conference for today. Thank you all for participating, and have a nice day. All parties may now disconnect.