Bel Fuse Inc (BELFA) 2006 Q4 法說會逐字稿

accented speaker(s); transcript is best product.

Ladies and gentlemen, thank you for standing by. Welcome to the Bel Fuse Fourth Quarter Release Conference Call. [Operator Instructions.] As a reminder, this conference is being recorded Thursday, February 15, 2007. I would now like to turn the conference over to Dan Bernstein, President of Bel Fuse. Please go ahead, sir.

Thank you, Julia, and I would like to welcome everybody to our conference call to review Bel's fourth quarter 2006 results. Before we start, I'd like to hand over to Colin Dunn, our Vice President of Finance. Colin?

Good morning, everybody. Thanks, Dan. I'll start with the Safe Harbor statement. Except for historical information contained in today's news release and in this conference call, the matters discussed are forward-looking statements that involve risks and uncertainties. Among the factors that could cause actual results to differ materially from such statements are the market concerns facing our customers, the continuing viability of the sectors that rely on our products, the effect of business and economic conditions, capacity and supply constraints or difficulties, product development, commercializing or technological difficulties, the [egalitarian] trade environment, uncertainty associated with legal proceedings, the market's acceptance of the Company's new products and competitive responses to those new products, and the risk factors detailed from time to time in the Company's SEC reports.

In light of the risks and uncertainties, there can be no assurance that any forward-looking statement will in fact prove to be correct. We undertake no obligation to update or revise any forward-looking statements.

Now, I'll move on to the results. The results that we reported today for the fourth quarter of 2006 are preliminary and unaudited. Audited numbers will be filed in Bel's 10-K.

Profits. Bel ended the quarter on a GAAP basis with net after-tax earnings of $4,697,000. This is above the net earnings of $3,265,000 for the fourth quarter of 2005, but below the $7,745,000 in the previous--that's the third quarter of 2006. Gross profit margins were approximately 23% as the Company continued to pay higher prices for raw materials, including semiconductors, [indiscernible-accented] PCBs and petroleum-based components. And to a less severe, but still significant amount, additional costs for labor. Effective September 1, 2006, the local [PIC] authorities implemented a new revised standard work week and new minimum wages and overtime rate for the areas where our factories are located in China.

Turning to sales, for the quarter, our sales were 60,573,000 and 7% higher than the 56,684,000 in the fourth quarter of 2005. In both the fourth quarters of 2005 and 2006, we had the full effect of a full quarter of sales attributable to the Galaxy Power acquisition in March of 2005. This 60,573,000 was below the 73,260,000 of the preceding quarter ended September 2006. Sales were soft in most categories, although we are encouraged by a generally improving total orders so far in 2007. With [indiscernible-accented] holidays being quite late this year, it is difficult to accurately estimate true customer demand.

Going to cost of sales, as I said previously, our gross profit margin for this third--for this fourth quarter was approximately 23%, and below the 26% gross profit margin for the same period in 2005. This was also 1% below the gross profit margin for the third quarter of 2006. The lower margin when compared to 2005 was primarily due to increases in raw material prices, [materials], and petroleum based materials and supplies.

While [indiscernible-accented] supplies have for some time [through] increasing the efficiency of operations and taking lower margins absorbed any cost increases, we continue to experience higher material and labor increases as we move forward.

Module products are strategic to Bel's growth and important to total earnings. However, they returned lower gross profit percentage margins as a larger percentage of the builds and material are purchased components. As these sales continue to increase as a percentage of our sales mix, our average gross profit percentage will decrease. Other significant margin impacts were amortization expenses from the acquired Galaxy Power and increased prices, as I said before, particularly for semiconductors, metals, and petroleum based commodities.

We continue to run duplicate rollouts and [indiscernible-accented] production lines to support our customers as they convert to lead-free products. This is inefficient and requires us to maintain additional equipment. However, on the good news front, this has now decreased significantly, although it will be several years before it is totally eliminated.

SG&A. There was an increase of 119,000 from the same quarter in 2005 when we did not own Netwatch and had 7% lower sales. SG&A was 15% of sales in the quarter compared to 16% in the same quarter of 2005.

Taxes. In Q4 of 2005, Bel received a license from the [indiscernible-accented] government to commence operating a commercial offshore company. This company began formal operations in Q1 of 2006 with the intent to handle all Bel sales to third-party customers in Asia. This company is now fully operational and is giving us more stability and predictability through our tax rate. [Indiscernible] worldwide effects to the tax rate for the quarter was 12.5%.

Bel is currently being audited by the United States Internal Revenue Service for the year ended December 31, 2004. As part of this order, the IRS is looking at the years ended December 31, 2003 and also December 31, 2005. The examination is in its early stages and to date no adjustments have been proposed by the IRS.

Balance sheet. At the end of September our cash equivalents and securities were 92.3 million, which was 1.8% above our December 2005 balance of 90.5 million. Included in this, of course, are our holdings in Toko, Inc.

Receivables and payables. Receivable and payable allowance was 44 million at December 31, compared to 39 million at December 31, 2005. We continue to get pressure to increase our third terms to unrealistic levels from some customers. And Bel firmly believes that the vendor should not be the customers' bank. Our customers--our accounts payable for the same period, that's December 31, 2006, is 17 million.

Inventories. For this December 31, our inventories were 46 million, which is 30 million higher than December 31, 2005 when we had lower sales. Impacting inventories were the increased sales and increased raw material prices. We also entered into a short-term program to build [indiscernible-accented] demand to buffer our inventories for the Luna Year holidays in China.

In the quarter, we finalized construction of our newest production facility in China. For the 12 months, capital spending was approximately 9.8 million, while G&A, depreciation and amortization was 9 million. Our book value at December 31, 2006 was approximately [$80.71] per share.

Turning to the issue of earnings per share calculation, ongoing review of [indiscernible-accented] and its recent [speech] by SEC staff, Bel will report earnings per share similarly for both of its classes of common stock to reflect the different dividend that is currently being declared and the rights and privileges of the two classes relative to unissued earnings.

Those are the comments from the financial side. Now, I'll hand it back to Dan.

As per our previous release regarding Toko, we have requested another meeting and will be presenting a Bel nominee for Board membership at Toko. Bel has also suggested to Toko that it divest of its semiconductor business. We look forward to continuing our dialogue with Toko, and we have their assurances of another meeting with senior meeting in the future.

Julia, if it's possible, I'd like to open up for caller questions now.

Certainly. [Operator Instructions.] Our first question is coming from the line of Todd Cooper with Stephens, Incorporated. Please proceed.

Dan, at what point in the fourth quarter did you start to feel the effects of the slowdown? And I assume it's the inventory correction that has been talked about quite a bit in the electronics industry.

I would say probably just right before Thanksgiving. So maybe--probably the middle of the quarter.

And did you--did it feel more seasonal or something more stronger than that?

We're hoping more seasonal. But it's too early to tell.

But your commentary about things coming back would tend to say that--tell me that it is somewhat seasonal.

We think so, but it's still--we had a very good first month, but we don't know because of Chinese New Year. So hopefully, we--I hate to keep putting you off, but I think we really need another four weeks till we get back from Chinese New year to really see where we stand, so we compare apples to apples.

How long are your factories going to be closed for Chinese New Year?

Anywhere roughly because we have so many factories in the Far East, generally, it's about a week. But sometimes people coming back from the north takes a little longer. But it generally takes us probably two to three weeks to get back up to running close to 85, 90% production.

Is it closed--are they closed the week before or the week after?

What happens is they start to drift. It's like--just like in the States where Thanksgiving holiday always used to be on Thursday, then it's Wednesday, now it's Tuesday and Monday. And once again, the majority of our workers are coming from the north. It takes them anywhere from one to two days to get home. But they generally start leaving anywhere from three to a week to 10 days before Chinese New Year.

Okay. And can you talk about the lead times you see or any vendor managed inventory type programs? What I'm trying to find out is to get a sense of your visibility when things slow down, and conversely, when things begin to pick up.

I think Colin is volunteering on that one.

Well, we have vendor managed inventory programs, Todd, which obviously we have a number of. The problem there is that while--with some of the customers we do have insight and we can look into their computer programs and see what the inventory is. But some of them we really--who aren't so sophisticated, particularly some of the contract manufacturers, we don't really know what they're pulling out of that inventory until five to 10 days after the end of each month. And so, it's sort of a--somewhat of a black hole. And although we keep putting material in based on their forecasts, we really don't have a lot of visibility as to what the pull is out of that.

On the other side, and I know we've spoken about this many times, the customers can give us all the forecast in the world. But when they call up the day before or two days before the shipment's about to go out and they say, hold that shipment, that's where we are. And that's what's been going on.

Okay. And to change gears just for a second. It looks like the EPS for the A and B shares is based on the dividend and the dividend spread between the two classes. Is that correct?

Yes. Basically what happens, and this might be helpful for most folks on the call, what we do is we start off with the total earnings. And from the total earnings, we start off--we deduct the dividends--the total dividends, which in effect in the fourth quarter were $566,000. And then, we deduct off from that number what's called the 5% spread. In our case, and why we're talking about a 5% spread, is that in our Articles--that we have a clause in our Articles that says that whenever a dividend is declared to our B class of shares--well, whenever we declare a dividend, our B class share must always get at least 5% more than the A class.

This was a provision that was put in at the insistence of the SEC when we went to an A, B stock situation. So what we do from--back to my example I was giving, we start with the earnings, we deduct off the total dividends, then we deduct off what would have been a 5% spread. And then, we get down to in effect an undistributable or unallocated earnings amount. In this particular quarter, it happened to be--after we made those two calculations, the dividends were 566,000. the 5% spread was 206--almost 207,000. We ended up with 3.9 million--well, $3,924,000.

So then, we take the $3,924,000 and we prorate it over the outstanding class A and class B. Once we've done that, we then add back the A class dividend, and that gives us a total amount of dollars. And we divide that by the total outstanding shares to get our earnings per share. And in the case of the B shares, we take the total dividend that was granted to the B shares, and we also add to that the 5% spread, because that's the only one that would get the 5% spread. And we add that to the prorated amount based on the total outstanding shares, and we divide it by the total outstanding shares. And that's how we get the earnings per share.

Hey, Todd, can you explain that to me?

Well, my thought on that, Dan, is it's another in a long list of reasons to collapse the two equity classes.

Good point, Todd. It's under investigation.

Well, given that--.

--It's dependent on the dividend. [Indiscernible] a lot quicker.

Right. And it is dependent on the dividend. So that means for us to model going forward, we need some kind of guidance with regard to the dividend, at least directionally. I mean, should it stay flat? Are you thinking of increasing it?

Well, I think for modeling purposes, you use what's been the historical dividend for the last three or four years, which is $0.05 a quarter on the B and $0.04 a quarter on the A.

Okay. And just one last--I've taken up too much time. Have you guys ever been audited by the IRS before?

I think the last time was in 1987, '88.

Okay. All right. Thank you very much.

Thanks, Todd.

[Operator Instructions.] And the next question is coming from the line of [Jim Schwartz] with [Harvey Partners]. Please proceed.

Hi, guys. A quick question. Number one, the sustainable tax rate going forward. Where should we model it at this point?

Well, it bounces around a lot. And as we said in our last conference call, we've got this [1048] new accounting pronouncement that's staring us in the face which we have to comment on in our 10-K, which we will, and also, we have to account for commencing in our first quarter of 2007. At this stage, we don't think that will be anything meaningful, but we're not too sure. We've not finish that go around with our tax experts and our auditors yet.

I think for modeling purposes, I tend to feel a little more comfortable in the 15 to 17% range still.

Okay. And then, next question. Our EBIT has declined pretty fast year over year this quarter. And I know there's some headwinds in the quarter. But looking forward this year, should we look at the bar being set a little bit lower in the operating profit versus last year?

The operating profit--I think, hopefully, what we had in the fourth quarter is about as low as it's going to get. It's--part of it--and I know we speak about it a lot and it's not a cop out. But we have had a very strong growth in value added products - products that we run down our new [pick and place] lines. They are more like finished products type things that we manufacture as opposed to just manufacturing components. Those in many cases will include very expensive ICs. We certainly can't mark-up a $6 IC, for example, at the same rate we would mark up--that we do in [a house].

So the margins do become a lot less on those products. And while earlier in the year we had great growth across most of our other products, in the fourth quarter, for example, when we didn't have such a great situation with most of our other products, but these low margin--or lower margin products still popped along at a pretty good rate. So that dragged us down a little bit.

Going forward, I think hopefully the other products will come back to a greater extent. But I don't see the margins going back up into the 26, 27% range in a hurry. I think we're going to be down in the 23 to 25% in the near term.

Okay. And as far as large customers go, we're fine with--I know that there's a computer manufacturer that--something not so great this quarter. I'm just curious, if all customers are intact and things are looking up kind of like--.

--Everything looks pretty positive across our product group. Once again, the major product that we had is the magnetic group and inside the magnetic group it is the what we call MagJacks - the integrated connector modules. And that we have--over the past four years had substantial growth in that product and we have been the market leader. We do see going forward that we're going to see more price pressure.

And there's certain areas that we're single source and we would expect that going forward that we are going to see other sources compete with us. But we feel confident that with the value of what we call the modular group, which is the DC to DC converters, and the APC acquisition front-end modular, that hopefully that can make up for any margin--any profitability lost on the ICM area.

Okay. Thanks, guys.

Your next question is from the line of Sean Hannen with Needham and Company. Please proceed.

Yes, thank you. So just in terms of your product groups, is there--or would you folks be willing to break down general percentage contribution within the quarter for magnetics, modules, et cetera?

No, we've not done that historically and we're not prepared to do that. No.

Okay. So Dan, I know that you just provided a little color around the magnetics modules group in terms of just kind of a general outlook for 2007. Can you maybe provide a little color around your other two groups - circuit protection and interconnect?

Sure, [albeit dangerously]. Circuit protection was a little soft last year, maybe down 1 or 2% from a sales standpoint. But with the introduction of resettable fuses, we're hoping to get that back to 5 to 7% growth over the next couple years. The interconnect group had tremendous growth last year. We're hoping that this year--they had a--they did a lot of business on the X-box, which we no longer are doing because of price restraints. But we are making inroads. So we would tend to think that they might be down or flat a little bit. But we are looking--introducing a lot of new product with them. And I think the product mix--the other groups.

Yes, that's the two main groups.

[You saw] the modular group and the magnetic group. We do expect, once again, the modular group we still expect strong growth there. I would say about 7.5, 8%.

Okay, that's great. Thank you.

[Operator Instructions.] And your next question is from the line of Lawrence Goldstein with Santa Monica Partners. Please proceed.

I thought I was so lucky, Lawrence.

Me, too, because the fellow asked a good question about A,B. Here's a chance to poll a bunch of professional investors. Why don't you poll them?

Oh, we know what they'd say. [Indiscernible] the one.

Excuse me?

We know what they'd say.

Well, I thought you had indicated once upon a time that you thought they wouldn't like the idea. It sounded like at least one did.

No, I didn't think I said that.

Then I misunderstood.

I think what the Board said is that the--from looking at our acquisitions that w believe A and B gives us a very strong vehicle at certain acquisitions we're looking at.

My poll question would be one class instead of two, you think the stock would move to the A price or the B price? Then it would make no difference if it moved to the B price.

I don't think we're touching that one.

Larry, we just--I can't explain why the A sells at such a discount to the B. So--.

--Limited marketability.

Well, that's an opinion.

Well, that's a fact. That is a fact.

I don't know about that, Larry. Once again, we could go back in history. Initially the A was selling more than the B a long time, even with the dividend and the liquidity. And then, the B got in charge over the A. So every time we try to do something, we still can't figure it out.

Well, it would be simple to figure out. You do it and you look at the history of those that have done it before, and you'll see that 99.9% of the times the two moved to the higher priced more liquid stock.

Once again, it's something that we constantly talk about. As we stated previously before, if we had the [Morrison] acquisition, we definitely would have merged the A and B stock. However, we are looking at two acquisitions that for these acquisitions to be successful, the A and the B offers a lot to companies we're talking to.

Okay. I wasn't suggesting you do it. I suggest you just poll your investor representatives and investors.

Thanks for that. We will.

Your next question is from the line of Sean Hannen with Needham and Company. Please proceed.

Yes, thanks. Just a quick follow-up. Colin and Dan, if I could just ask, you guys have touched on raw material pricing and the impacts on gross margins. I think that last quarter or at least Q3 what were headwinds were particularly, say, copper, steel, and petroleum based supplies, and there were some other items in the mix there. And this past fourth quarter, semis, PCBs and petroleum-based products.

And it sounded to me like there--we are going to continue expecting some raw material headwinds. But is there any bit of a change that you're seeing in terms of what those materials are, or is this remaining relatively constant?

I think it's--I think we haven't--I would think the first two quarters of last year with copper and petroleum really hit us pretty bad. I think the last two quarters things have--we haven't seen prices go up at all, so it's been pretty stable. But I think the jury is still out. I think there is a big concern with petroleum, where that's going to go. And I think as China gets big and the more copper they use I think is a concern.

And then, the concern of labor in China with the new rules and regulations, how that's going to affect everybody. So last quarter was pretty stable, but there's still--it's still pretty cloudy out there trying to predict what's going to happen over the next two quarters.

Okay. So if you were to say rank those three contributors - copper, petroleum, and then, the labor impacts - or at least kind of the risk and ambiguity as kind of the headwinds--.

--[Inaudible] labor is probably the biggest risk we're facing.

Okay. All right. Thank you once again.

Thanks, Sean.

[Operator Instructions.]

Do you think we're done?

You do have one more question, sir, coming from the line of [Ghandi Nariana] with Thomas Weisel Partners.

Hi, everybody. A couple of questions on revenue visibility. You talked about improved orders in 2007 in the month of January and probably the first week, second week of February. Can you provide us more color in terms of your segments, what the [articles] are looking like now and where you think you'll end up for the quarter. And if at all, if you can provide some measure for revenue visibility in terms of backlogs or--so that we can understand.

[Inaudible]--I think we're going to cop out pretty good on this one. It's just because of Chinese New Year, once again, falling in January. And it's just--we can't determine anything from a backlog standpoint. We really can't compare apples to apples until we get back two weeks after Chinese New Year. And then, we can really take a good look at our backlog and then understand how it's going to go forward to the final--for the quarter.

So it's just--I think anything I would say today I just wouldn't feel comfortable. And I'm copping out pretty good on that one, Ghandi, so I'm sorry.

Okay. How about articles for this--for the recent quarter in terms of the different segments? Could you talk about the articles and--which one was the [worst hedge] or--?

No. I think we--the module business stayed fairly stable, but the rest of it was pretty much--it was sort of across the board. It was--there was no like--it just wasn't always just the connectors or it wasn't as though it was just the [indiscernible-accented]. It was--.

--Industry wide--.

--It was industry wide. And I think when we were at different conferences and we spoke to different folks, everybody seemed to be saying the same sort of thing. It's almost as though everybody got out--the customers got out there and got too much into the channels early on in December, and then, just all of a sudden woke up that they needed to fix their balance sheets for year-end, and then do all of that sort of stuff and they stopped taking deliveries.

Okay, thanks. And if you could talk a little bit about the geographic revenues in terms of North America, Asia, Europe, how it seems [indiscernible-accented] sales in these geographies?

Yes. Once again, a majority of our sales, even our North American sales, are all being built in the Far East. And once again, we see things pretty strong in the Far East. And as I said, we do very little in Europe. So once again, North America remains pretty constant. And once again, we do a lot of work with Cisco. We do a lot of [design] work in Cisco, but all Cisco sales, and for that matter, Dell computer sales, are all being built in China. And we see things pretty active in the Far East.

Ghandi, what we do have is we have Galaxy only produces--with the Galaxy facility, that only produces for North America and that's based in North America and we also have Signal Transformer, which manufactures in New York and with assistance from the Dominican Republic. And that also just primarily services North America.

But 85% of our manufacturing is in the Far East.

Right, okay. And one last question on the Chinese wage hikes. You talked about that a little bit, but--and you said it's the biggest [indiscernible-accented]. Could you just talk about what you are planning to do to alleviate this, and how your gross margins are going to get impacted the next quarter?

All right. I think at this point it's a wait and see. I think China is trying to determine--there are so many people that come from the north down to southern China, it kind of upsets the apple cart. So I think what they're trying to do is put more regulations in southern China to force companies to move to the north.

However, I think what we're doing now is basically to see--wait and see--oddly, the regulations regarding overtime, minimum wages hasn't really been formulated completely yet. And there's still some gray area that has to be examined. But it's a concern that we do have because all of our manufacturing is in southern China. From a gross margin, I think it's just too early to tell. Colin?

Well, most of the--on the factory side, pretty much all of the increases are already factored into our margins. What we've got coming next is what's going to happen to the management side--and mid--low, mid, high-level management, the sort of folks that are supervisors, the sort of folks that are engineers that are Chinese nationals. There are new regulations that are now just in the last two weeks that came out in China related to these folks.

Some of it relates to Social Security payments, some of it relates to healthcare payments, some of it relates to individual taxes what with the [IT] taxes. And those regulations are just [dying] to be formulated. And we don't know what that impact will be yet going forward.

Okay. A couple of companies have started moving towards northern China or going into the [hinder lands] or whatever. Could you provide from what you know what could be the best deferential that you can get benefit of by such movements?

Once again, I think what you get is maybe the labor is a little cheaper, but maybe you get a lot more stable labor force because the people are close to [living at home]. But our major concern about moving to the north is the infrastructure having redundant factories from an [indiscernible] standpoint. So for us to move, generally, for us to be successful, we have to move the whole operation. And it would be very difficult if we had to have two purchasing groups, two quality groups, two engineering--production engineering groups.

So basically, if we determine that it's best to move to the north, we'll probably try to do everything and really kind of streamline the operation as much as possible.

Thanks, guys.

Thanks, Ghandi.

And it seems there are no further questions at this time.

I don't think so. Is that true, Julia?

Yes, sir. There are no further questions at this time.

Well, once again, we thank everybody for joining us today and we hope to speak to everybody during the next quarter.

Ladies and gentlemen, that does conclude the conference call for today. We thank you for your participation, and ask that you please disconnect your lines.