Builders FirstSource Inc (BLDR) 2011 Q4 法說會逐字稿

Good morning, and welcome to the Builders FirstSource fourth quarter and fiscal year 2011 earnings conference call. Your host for today's call is Mr. Floyd Sherman, Chief Executive Officer. At this time all participants are in a listen-only mode. Later we will conduct a question and answer session. Instructions will be given at it. Any reproduction of this call in whole or in part is not permitted without prior written authorization of Builders FirstSource.

As a reminder, this conference call is being recorded today, February 17, 2012. The company issued a press release after the market closed yesterday. If you don't have a copy, you can find it on our website at www.bldr.com.

Before we begin, I would like to remind you that during the course of this conference call management may make statements concerning the Company's future prospects, financial results, business strategies, and industry trends. Such statements are considered forward-looking statements under the Private Securities Litigation Reform Act of 1995 and are subject to certain risks and uncertainties which could cause actual results to differ materially from expectations. Please refer to our most recent Form 10-K filed with the Securities and Exchange Commission and other reports filed with the SEC for more information on those risks. The Company undertakes no obligation to publicly update or revise any forward-looking statements.

We have provided reconciliations of non-GAAP financial measures to their GAAP equivalents in our earnings press release and detailed explanation of non-GAAP financial measures in our Form 8-K filed yesterday, both of which are avail westbound available on our website.

At this time I would like to turn the conference over to Mr. Floyd Sherman. Please go ahead.

Thank you, and good morning. Welcome to our fourth quarter and fiscal year 2011 earnings call. Joining me from our management team today is Chad Crow, Senior VP and Chief Financial Officer. I will start with a recap of the fourth quarter and fiscal year, and then turn the call over to Chad, who will discuss our financial results in more detail. After my closing comments regarding our outlook, we will take your questions.

Our sales for the fourth quarter of 2011 were $192.7 million, up 31% from sales of $147.1 million in the fourth quarter of 2010. We accomplished this substantial sales increase despite actual US single family starts increasing only 4.7%, theaverage number of US single family units under construction decreasing 10.7%, and average commodity prices being relatively flat during the quarter. Our adjusted EBITDA for the quarter was a loss of $3.3 million, compared to a loss of $12.5 million in the fourth quarter of 2010.

For fiscal year 2011, we ended the year with sales of $779.1 million, up 11.2% over 2010 sales of $700.3 million, an improved our adjusted EBITDA by $28.6 million to a loss of $15 million. Our financial results improved in spite of an 8.6% decline in US single family starts, a 14.1% decline in US single family units under construction, and commodity deflation of approximately 6% for the year.

We continue to open a significant number of new accounts and increase our sales with the national builders. In addition, our improved liquidity made possible by our new term loan enabled us to take advantage of opportunistic inventory buys towards the end of the year. Our strong inventory position at year end should allow us to cover our customer requirements in the first quarter of 2012 and also give our sales force the flexibility to continue to pursue new sales opportunities. Single family housing starts in 2011 were the lowest since the downturn began in 2006. I'm extremely proud that despite this fact, we were able to dramatically grow our market share and make such sizeable improvements to our financial results.

I will now turn the call over to Chad, who will review our financial results in more detail.

Thank you, Floyd. Good morning, everyone.

For the current quarter we reported sales of $192.7 million, compared to $147.1 million for the fourth quarter of 2010, an increase of $45.6 million or 31%. We estimate sales increased approximately 29% due to volume and 2% due to price.

Breaking down our sales by product category, prefabricated components were $35.6 million, up approximately 37% when compared to $26 million in the fourth quarter of 2010. Windows and doors increased 28.3% to $47.2 million. Lumber and lumber sheet goods were $54.2 million, anincrease of $13.4 million or approximately 33%. Our millwork category increased $3.5 million to $20.2 million, and our other building products and services increased to -- increased 32.5% to $35.5 million. From a sales mix participant we saw no significant changes among our product categories.

Our gross margin percentage was 20.4%, up from 19.1% for the fourth quarter of last year. The 1.3 percentage point improvement is primarily attributable to increased sales volumes and our ability to leverage fixed costs within cost of goods sold.

Our selling, general and administrative expenses were $47.1 million, up only $1.5 million or 3.2% from the same quarter last year despite a 31% increase in sales. As a percentage of sales, however, SG&A expense decreased to 24.4% in the current quarter from 31% in the same quarter last year. For the fourth quarter of 2011 our salaries and benefits expense, excluding stock comp expense, was is $27.1 million or 14.1% of sales, compared to $26.1 million or 17.7% of sales in the fourth quarter of 2010.

Delivery expense increased $600,000 or 7.4% for the current quarter as a result of increased sales volume. Interest expense was $8.1 million in the current quarter, an increase of $1.2 million from the fourth quarter of 2010, primarily due to the issuance of our new term loan in December of 2011.

We recorded $300,000 of income tax expense in the fourth quarter of 2011, compared to $100,000 income tax benefit in the fourth quarter of 2010. We recorded an after-tax noncash valuation allowance of $6.5 million and $9.4 million in the fourth quarters of 2011 and 2010 respectively, related to the net deferred tax assets. Absent a valuation allowance, our tax benefit rate would have been 38% and 38.9% in the fourth quarters of 2011 and 2010 respectively.

Loss from continuing operations was $16.6 million, or $0.18 per diluted share, compared to a loss of $24.5 million or $0.26 per diluted share in the same quarter last year. Excluding the valuation allowance, facility closure costs and debt issue cost write-offs, our loss from continuing operations was $0.10 per diluted share for the current quarter, compared to a loss of $0.15 per diluted share in the fourth quarter of 2010.

Net loss for the fourth quarter of 2011 was $16.7 million or $0.18 per diluted share, compared to a loss of $24.6 million or $0.26 per diluted share in the fourth quarter of last year. Adjusted EBITDA a loss of $3.3 million, a $9.2 million improvement when compared to a loss of $12.5 million in the same quarter last year.

Given our strong sales performance during the quarter, combined with the inventory buys Floyd previously mentioned, we did not see the anticipated reduction in working capital, and in fact saw you working capital increase during the quarter by approximately $8 million. However, our components of working capital remain healthy for the quarter, as our accounts receivable days were 35.3 days compared to 36.2 days in the fourth quarter of 2010. Inventory turns 8.7 turns compared to 7.9 turns, and our accounts payable days were just below 30 days.

Our cash usage for the current quarter was approximately $20.6 million, excluding the net effects of the recently completed term loan and letter of credit facility, and the payoff of our previous credit facility and the remaining 2012 notes. Of this $20.6 million of cash used, $8 million was attributable be to increased working capital needs, the results of our increased sales, and $2.1 million related to capital expenditures. The remaining $10.5 million to fund operating losses and cash interest expenses for the quarter and represents an $8.8 million improvement over the $19.3 million used to fund operating losses and cash in the fourth quarter of 2010.

On December 2, 2011, we completed a new $160 million first lien term loan financing agreement and entered into a standalone letter of credit facility which provides for the issuance of up to $20 million of letters of credit. The term loan and letter of credit facility both mature on December 30, 2015. In conjunction with this transaction we repaid the $20 million outstanding under the 2007 senior secured revolving credit facility and terminated the facility.

We ended the year with cash of $146.8 million and net liquidity of $111.8 million after giving effect of the $35 million minimum cash requirement contained in the new term loan agreement. In addition to the $146.8 million of cash, we also had $15.1 million in restrictedcash at December 31, 2011, of which $1.9 million was included in long-term assets. Restricted cash consists of $14.2 million we used from the proceeds of the term loan to collateralize letters of credit outstanding under the new letter of credit facility, and $900,000 provided as collateral for other casualty insurance obligations.

I will now turn the call back over to Floyd for his closing comments.

Thank you, Chad.

Though 2011 presented us with the fewest number of US single family housing starts since the downturn began, we significantly improved our results through the continued execution of our strategy, which focuses on pricing discipline, cost containment, preserving liquidity and providing superior customer service. I believe that through the dedication and sacrifices of our employees we have positioned Builders FirstSource to outperform the competition and take full advantage of the expected housing recovery in our markets. I'm truly excited about the future of our Company and am ever grateful for our employees, customers and vendors that have partnered with us during these trying times.

I will now turn the call over to the operator for Q&A.

Thank you. (Operator Instructions). We will go to Phillip Volpicelli from Deutsche Bank.

Good morning. With regard to the term loan that you issued, I understand it was $160 million and issued $0.97 on the dollar, so that gets you about $155 million, but the net proceeds to you were only $119.6 million. I was wondering was the remainder fees paid to the underwriters or paid to the lender?

Well, we had $14 million we had to use to back the LCs. I'm not sure if you took that into account.

Okay, so that --

And there was -- there were some fees involved, but I think the big guest difference there is the cash collateral.

The remaining between the $14 million and the number I quoted would be fees?

That's correct.

Okay. And then clearly we have seen an improvement in multifamily starts to begin the year here, and single family seems to be kind of treading water. I know you in the past have talked a little bit about how much benefit you get from multifamily versus single family. Can you remind us of those, what the discount is for a multifamily start being a smaller unit versus a single family? (Inaudible -- multiple speakers)

Typically in square footage, your average multifamily unit probably runs somewhere in the neighborhood of 750 square feet per unit. The single family home is somewhere around 2,200, and I think this past year 2,258 square feet. The multifamily unit obviously is a lower dollar value per unit. It is holding consistent in the mix of our Company. So we are continuing to increase our multifamily light commercial sales on the same pace as we are the single family side of the business.

I would have to remind you, and we have this come up quite often, while the starts and permit data are definitely increasing, and we are very, very optimistic that will soon begin reflecting itself in units under construction, to date we have not really seen a major movement from starts into units under construction and then on to completions. For us, a start or a permit is nothing more than a precursor of what the future building activity has in store for us. And so the -- while everything is looking very good from the starts and permit basis, we are hopeful that we will soon begin seeing it flow into the homes under construction side of the business.

And, Floyd, what is that lag from the start, which is building the foundation or preparing the land, to actually erecting the wood and skeleton, which would help you guys?

Typically once you have got the start and you finished your dirt work, and you got your footings in or the basement in, the construction proceeded very quickly. Typically, within 30 days. Now we are seeing a much longer lag period, somewhere in the four to six month period. A lot of this has to do with the fact that the builders are very reluctant to start the construction process on a house until they feel the buyer is going to be able to complete the financial contract.

More -- the process of getting a mortgage approved, getting the appraisals on a house worked out, is a very, very difficult process. It probably -- in my estimation it is affecting the actual housing construction portion of the industry more than anything else. The builders continually -- you will hear them saying that the mortgage process is extremely difficult, extremely slow, and the appraisal issues are really keeping the pricing down for the builder. Very, very tough environment out there.

Understood. My last question, Chad, could we walk through the, I guess, hurdle to free cash flow positive? So if I do my math correctly, interest expense should be around $36 million, $37 million? And then what are you guys expecting for capital expenditures for 2012?

Probably about $8 million.

$8 million. So if I add those two numbers, am I in the right ballpark?

Yes.

Great. Thank you very much .

And we will now go to Seth Yeager from Jefferies & Company.

Good morning, guys.

Good morning.

A nice growth in revenue there. Now, are you starting to see gross margins come back in that prefab division? I know that was one of the hardest hit from the downturn. Is that something that is starting to come back a little bit, and is some of the competition starting to drop out of that market? Are you getting guys that are slowly coming in with things picking up a little bit?

We are seeing improvement in the margins on that side of the business. Still not anything where it needs to be. The -- we are still fighting the issues of what I will say is low cost labor on the job sites, giving the builders an alternative in many cases to where they can use conventional stick framing versus components. The time is really not of the essence the way it has been in the past. That really plays into the advantage that components -- one of the major advantages that components have to offer. I think as the housing recovery keeps taking place, and as we see the improvement in the housing environment, I think that we will start seeing the margins moving up to a more acceptable rate than what we have right now. And timing again will become a very important part of the -- or consideration for the builder.

Okay. So until we start to see -- and that is helpful, thank you -- until we start to see turnarounds closer to that one to two month where guys are starting to build, you are probably not going to see much -- a heck of a lot of expansion in margins there. Is that safe to say? [With] that cycle time?

Yes, but we -- even this year on an overall basis, I think even with the worst year in housing starts we were able to substantially increase our margins, so we have overcome even a declining construction level, and our people are working really hard out in the field to improve our margins. We are getting good product mix, or the product mix, as Chad said earlier, has stayed very consistent, and the -- and we continue to really sell hard on our value proposition, which I think we offer a better value proposition to our customers than any competitor that is out there. And I think the builders are recognizing that and giving us a very slight improvement. But it continues to get better all the time. So I'm very, very pleased with the progress that we are making and improving and bringing our margins up in spite of still a very, very tough pricing environment.

I appreciate it. And then I mean just looking back I think over the last, I don't know, six or seven quarters, you guys have had pretty nice gross margin improvement. It looks like your inventories are positioned, too, in areas where you may benefit from some price increases here in January. I mean what is the -- you guys have been pretty consistent above 20% over the last three quarters. I mean, is that a decent baseline at this point? Do you think you could get back to maybe 21%?I guess, what is the target internally there?

Looking out further than just this year, we hope to get well above the 21% level. But I think 21% is probably a pretty good goal for this year.

Okay, yes, I was just talking to this year, thanks.

And Seth, on a -- just to give you a little bit of a magnitude of improvement that we have seen in the component side, on a quarter over quarter comparison fourth, quarter of 2011 to 2010, our margins were up almost 390 basis points. So that's pretty -- now, I will also say some of that is coming because we are getting better absorption. There is a lot of fixed costs in the component operations, and so we are getting better absorption. We also had better operating efficiencies, and we have gotten better pricing. So I think it is a combination of all those factors, but nevertheless it is improvement. No where near where it has to be, but we keep moving the bar up.

And then -- definitely. Last question, if I can. Showed some pretty nice leverage this quarter. What -- I guess, what sort of revenue level would you have to see before you would have to start bringing on some more guys or more shifts or what have you, and where are some of the cuts where you guys made the last few years would start to slowly filter back in? Is there a decent, I guess, baseline that we should look for before those costs would start to come back?

The -- they will slowly -- we obviously -- some of the numbers are certainly variable. We are slowly increasing our FTE count. It is staying -- we are still getting good absorption. So it is going to be a continual process, but the -- probably we will have reached the point to where it is almost going to be then close to a completely variable, in what, Chad, probably another $200 million in sales?

Yes, somewhere around the $1 billion mark I would guess.

Yes.

Okay. Perfect. That's helpful. Good luck. Thanks a lot, guys.

Thank you.

We will now go to Brad Bryan from Imperial Capital.

Good morning, gentlemen.

Good morning, Brad.

I guess I have two questions. First to start out, could you just give a little discussion about the competitive dynamics and how you were able to achieve a 29% volume gain in the fourth quarter?

I would love to do that. I think we are outperforming our competitors. I think that we have made some very, very strategic inventory buy decisions. I think that we have certainly the best and most aggressive people out in our operations, taking our value proposition to the customer. I think the -- we are flat outperforming our competition in every area. We have the liquidity to make sure that we can support our market needs and the expanding needs of the market. I think that we have the quality of people. We have had the consistency of direction.

I think that we have a very, very focused group of -- on the objectives that we are trying to achieve in the Company, and a very high level of support from our people in field operations. I think we are extremely well positioned with the national builders. I think the national builders are viewing us as a survivor in this industry. We definitely have demonstrated our ability to continue our operations and continue supporting our operations, and with the liquidity that is necessary to survive going into the future. The -- I think the builders are recognizing that we bring to them a better package, all the way from our ability to supply individual materials to the job site as well as a full install package, and I think that we cover the gamut of all of his needs. And we run his job site better than any of the competitors.

And I think for all of those reasons we are just flat killing and outperforming our competition. And I don't want to be bashful about saying it, because our people really deserve the credit and the recognition that they are now starting to get, and I think that the -- we see this continuing right on into this year. We -- I feel very good about our start on 2012. That is all I can say.

Okay. Well, thank you. That's helpful. Can you talk a little bit about how you view the marketplace, what your assumptions are for 2012 in terms of single family housing starts, et cetera?

The -- I don't -- I guess the single family -- pick your number -- somewhere between 450,000 and maybe as high as 500,000 single family starts. But very honestly, we are not hung up -- and that is one of the things that this year we said in the Company -- we don't care where the housing starts are. We are requesting to find a way to hit a certain volume level, and we are going to figure out what it is going to take to do it irregardless of where -- what the housing start numbers are.

And our people are doing just that, and I'm hopeful that we are on the high end of the housing range, and if so we are going to beat what we are forecasting our internal budgets are for the 2012. But I think that single family US is going to be somewhere in the 450,000 to 500,000. I see NAHB is saying it is somewhere around 478,000. Still a lousy year by anybody's measure, but a hell of a lot better than what we saw in 2011. That's the best I can do for you in that regard.

Okay. In the past, your Company has provided guidance in terms of cash burn expectations for the year and where you expect the to end the year with liquidity. Can you provide a similar update for 2012?

Well, we already covered cash interest, around $37 million and CapEx around $8 million. That gets you $45 million. Our goal this year is to be north of break-even EBITDA. So beyond that it is going to depend on working capital, and that is all dependent on our increase in sales volume.

Okay. Thank you very much.

We will now go to Phillip Wirtz from Odeon Capital Group.

Good morning, gentlemen.

Good morning, Phillip.

Just a kick couple here. First off, given your new term loan facility, so that new cash interest burden, and then also the fact that you have been very aggressive about gaining revenue per housing start so to speak, canyou give us any sense just roughly of where kind of free cash flow break even would be now? It seems like you have got a lot better on capturing revenue from any given level of start, so would that number be something like 750 where you could be free cash flow break even?

That is probably in the ballpark.

Okay. Okay. And then the other one, just kind of getting back to the outlook for 2012. I just -- I can't help but recall in 2011, as we were looking forward -- of course, we were more optimistic about housing starts than what they turned out to be, but can you contrast or compare the two years? How do things kind of look and feel now compared to where they looked and felt this time last year? And give us any sense of the differences?

The optimism is much higher right now than it was in the third and fourth quarters of last year. As you recall, 2010, the first half of the year was very heavily influenced by the various programs that were put in place in hopes of stimulating housing, and it did for a very short period of time, then fell off. The optimism I think has continued to improve in the home building community. As you move through the fourth quarter, it certainly seems to be a lot more positive, even in the start of 2012. Are we have had good weather, which has helped with the enthusiasm or optimism that is out there.

But nobody is saying they see a return to normalcy anywhere close yet in this business. People are still feeling it is still a year and a half, maybe two years away. But there are definitely positive signs. Starts and permits, which are really a precursor to future activity, and certainly those numbers are much more encouraging at this point than they were a year ago. The -- and I think that will soon begin flowing its way through units under construction and then completions.

It is still very, very tough out there on getting mortgages approved, appraisals that are more in line with the values that the builders are providing to their customer. There is still a lot of overhang that has got to be worked through. All of these things are still dampening the housing recovery, but right now I think a much better feeling, and I think the activity will soon be coming forward.

Okay. Well, thank you very much, and best of luck.

Thank you.

And we will now go to Rob Hansen from Deutsche Bank.

Hi, thanks. I just wanted to see if you could comment on some of the conditions post the quarter end. And I apologize if you mentioned this earlier, but it seems like the builders have mentioned sales in January were up significantly, and it feels like February has started off on the right foot as well. Have you guys seen that in your business?

We really can't say a whole lot about the first quarter. Floyd already mentioned that we are pleased with the way the year has started out. I think we will leave it at that. But there is certainly a lot of optimism right now within our Company, and we think we have got a lot of good momentum.

And I will say, and we are still gaining market share, and I'm happy with our market share gains that we are getting.

Okay. And then I just also wanted to see if -- you mentioned that you guys have been strategically buying inventory. And this is obviously the right decision to be able to help your customers. Is this a strategy that you going to pursue throughout the rest of the year, or do you think this is more of kind of a temporary take advantage of the situation?

Probably -- we definitely -- in the future if we see we can take advantage of a situation, we are going to do so. The commodity markets are one that you have to continually watch, and our people are very, very good at looking at trends and observing what is going on in the commodity markets. It is supported very much by our people in the field and their contacts that provide them information that gives is us insights into the markets. And then we he make some very timely buys.

We are going to do and continue doing what we feel is necessary to support our bottom line, as well as be able to support our customers with the most competitive cost position that they can be provided with. And -- so there are times that we can just ride the inventories on a normal replenishment basis, and there are going to be times that we will step in and ensure that we have the complete quarter coverages. So I really can't say going forward. It is just going to continue to be a mixed bag.

Okay. And then just one last question here. You mentioned that you had some positive leverage within fixed costs and in COGS, and I just wanted to see if you could give a little more breakdown in terms of the numbers. What percentage of costs and COGS are going to be fixed?

Around 5% to 10%.

Around 5% to 10%. Okay. That's all I have. Thanks a lot, guys.

Thanks.

We will now go to Phillip Volpicelli from Deutsche bank.

Thanks. Just a couple of follow-ups. Many of the manufacturers of building materials have been trying to increase prices as we move into 2012. Can you give us color as to whether or not they are sticking?Specifically wall board, roofing and then lumber?

We do very little in the way of wall board, and so I can't say on a national average, but, yes, we have seen the wall board increases. And as far as we are concerned they appear -- the prices that have been put in place appear to be sticking. Roofing, there has been a lot of discussions, and we have seen some limited increases in some areas and some delays in putting other increases into place. But that -- I suspect the roofing increases are going to stick, especially with the petroleum based products.

On lumber and lumber sheet goods, that is a rollercoaster, and the producers have been awash in red ink. It is no fun to be operating at that level. And they are doing their best to try to get the pricing up. The demand just hasn't been there to support it. They have cut back probably as much as they possibly can. They have also taken short shifts and down times and so forth, trying to hold the market up, and certainly a higher price would be beneficial to us, as we have said in the past. But they -- it has been tough up to this point to make it stick.

I suspect, though, as the construction activity keeps increasing, especially with the mills I think now operating very close to capacity, we are going to see a long-term increasing of prices on the commodity side of the business. And we are going to have to make sure that we can stay ahead of it so that we can protect ourselves. But I think the commodities over the next couple of years are going to be -- it is going to be slowly increasing, and those increases are going to stick.

Okay. And, Floyd, are there are any categories I missed in terms of doors or windows or other components of the home where you are seeing price increases that are sticking?

We have seen people attempt to increase prices.

Okay, but nothing has been sticking.

But as the builders say to us, we accept no increases,except where they have no alternative. We say the same thing. And we have had to be very, very tough on it. I know people need increases out there, just the same way as we do. But we have to do whatever we have to do in order to protect ourselves with our customer base, and our customer base has said pretty much no to any increases.

And the -- and I also have to say that I understand where are they are coming from. They are under tremendous pressures to hold their costs in line so they can compete with a lot of the problem inventory that is out there. And it is still a very, very tough world out there.

I appreciate that. Thank you.

We will now go to Jack Kasprzak from BB&T.

Thanks. Good morning, everyone.

Good morning, Jack.

A few of my questions were asked, but I wanted to ask you about the competitive landscape, Floyd. What are you seeing out there, if anything, in the way of further closures by your competitors, or do you think the environment's still -- has it stabilized after such a brutal downturn? Obviously this is something that's probably [even] helped you guys, been able to take some shares, some turmoil out there among the customer base. Competitor base rather, sorry.

Jack, we are still seeing some closures and consolidations by some of our come competitors. We have not had to do so. I think it is beginning to stabilize, but I think this may just be a lull before the storm. I think there are a lot of people out there -- itis my feeling there are a number of competitors out there where working capital liquidity is extremely tight. And the -- as, there probably have been as many people who failed during the real upturn as what they do in the downturn, and I think there is -- I think we are going to see some more capacity being pulled out of this industry, because very frankly, there is still more capacity there than what there is demand to support it.

So, but the -- if we have a year where the building level is somewhere in the 470,000, 480,000, that is about where it was in 2010, and there were people who had a difficult time making it in 2010. They are going to have even more difficult time making it under that scenario. And then when you start putting an increasing and improving market on top of it, I think there is going to be some more shakeout to come.

Okay. And I think you just mentioned, Floyd, that mills are --

I will also say, Jack, we are going to do our very best to help see to it that some of those people do exit the market. and we are going to beat them on every account. We will beat them with service, quality of our people, and the competitiveness of our pricing.

Well, your market share gains speak to your success in that arena already,so I appreciate those comments. With regards to the --

It is nice to have fun again, I can tell you.

I look forward to that myself. With regard to the mills, you mentioned there were near full capacity. I'm less familiar with that dynamic, but I mean are there still mills that are shuttered that could come online, or is it a situation where you think because the downturn has been so brutal, they will be happier operating what they have got open now to full capacity without bringing on idle capacity?

There are mills out there that can be reopened, but I think that the -- I think that those companies are going to be very reluctant to do so. They are going to -- I think they are going to use this opportunity to really get the pricing levels back up to where are it is a more acceptable pricing level over the long-term. I don't really think that the mills going to go out there to see what they can do and gut everybody just because they because they can do it. I think thought that what they are going to do is get the prices up where it is a more responsible level, where it works for everybody in the system and over a longer period of time, and then they will slowly add capacity as they need to in order to keep those prices at a respectable level.

Got it. Okay. Great. Thank you, Floyd.

(Operator Instructions). We will now go to Shawn Boyd from Westcliff Capital Management.

Good morning, and congratulations on the quarter.

Thank you.

One clarification. The rest of my questions have been answered. Earlier in response to another question you made a point about gross margins improving, I think it was 390 bips year-over-year in the fourth quarter. And I don't know if that is just on component costs, but to be frank with you I'm looking at 19.1% going to 20.4%. Could you just clarify what you were --

That was on the component side of the business.

Okay. So basically on just components your gross margin is up almost 4 percentage points year-over-year.

That is -- for fourth quarter to fourth quarter, yes.

Okay. And help me again on what -- is that due to the opportunistic inventory buys? What is really driving that?

That is a combination of good inventory buys. It a combination of fixed cost absorption. It is a combination of improved labor efficiencies in the COG side, the manufacturing side of the business. And also a reflex of slightly improved pricing.

Got it. Okay. And Floyd, what do you -- do you see additional headroom this year on that? Could you put another couple hundred basis points on top of where we are at this point, or how do you look at that?

I would really hope so. That is our intention to do so. It is an engineered product. It is a true value-add product. And the margins that we are still getting are no where near reflective of what they should be for this type product, but that is -- you almost nailed it on the head as to what our anticipation is this year.

Okay. Very good. And just one other, if I may. On the opportunistic inventory buys, how often do those come along? Is that something where you have just been capital constrained in the past, and therefore you couldn't do it and you had to pass, or are those something that you only see those opportunities a couple of times a year anyhow?

No, we -- it is only going to occur a limited number of times during the year. A lot of it is, as you know, we do a lot of forward pricing. Probably 60% of our business is either 60 or 90 day forward pricing. And if we feel that the market conditions for that coverage period is going to be real volatile, meaning -- and especially toward the upside, then we are going to look and see about what -- how we can go about protecting the pricing we have in place to it ensure that we get through that quarter without major hits to our margins. And so we will step in and look at the markets and see over a period of whatever time that we feel it is going to take, we will begin buying that cover and getting that protection. And that doesn't happen all the time. If we see that the market is going to be relatively stable, then we don't need to do that.

And we will always look for those small incremental buys that we can do at a real discount to market, just to get the slight improvement in our average costs that we have on materials and inventory. So that goes on all the time. But that is a relatively small piece of the replenishment.

Got it. Okay. I appreciate the additional color. Thanks.

Okay.

And it appears there are no further questions, so I will turn the conference back over to Mr. Sherman for any additional or closing remarks.

Okay. Well, we really appreciate your interest in the Company and joining us on the call today. If there are any further questions or anything you want to discuss, don't hesitate to call Chad or myself. We'll be glad to see what we can do to answer your questions.

Thank you. This concludes today's presentation. Thank you for your participation.