Circor International Inc (CIR) 2011 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to CIRCOR International's second quarter 2011 financial results conference call. Today's call will be recorded. At this time, all participants will be placed on a listen-only mode. There will be an opportunity for questions and comments after the prepared remarks.

I'll now turn the call over to Mr. David Calusdian from Sharon Merrill for opening remarks and introductions. Please go ahead, sir.

Thank you, and good morning, everyone. On the call today is Bill Higgins, the Company's Chairman and CEO; and Fred Burditt, the Company's CFO. The slides we'll be referring to today are available on CIRCOR's website at www.circor.com on the Investor Relations page.

Today's discussion contains forward-looking statements that identify future expectations. These expectations are subject to known and unknown risks, uncertainties, and other factors. For a full discussion of these factors, the Company advises you to review CIRCOR's Forms 10-K and other SEC filings, including the 2011 quarterly reports on Form 10-Q. The Company's filings are available on its website at circor.com.

Actual results could differ materially from those anticipated or implied by today's remarks. Any forward-looking statements only represent the Company's views as of today, August 4, 2011. While CIRCOR may choose to update these forward-looking statements at a later date, the Company specifically disclaims any duty to do so.

In today's call, management will often refer to adjusted operating income, adjusted operating margins and adjusted EPS. These metrics exclude any pretax special charges, as well as asbestos and bankruptcy charges related to the Company's Leslie Controls subsidiary.

A reconciliation of CIRCOR's non-GAAP adjusted operating income, adjusted net income, adjusted EPS and free cash flow to the comparable GAAP measures are available in the financial tables of the earnings press release on CIRCOR's website.

I'll now turn the call over to CIRCOR's Chairman and Chief Executive Officer, Bill Higgins.

Thank you, David, and good morning, everyone. I'll start off the call with a few brief opening remarks before turning the call over to Fred for the financial overview.

We continue to see strengthening across most of our end markets, which resulted in the year-over-year increase in orders of 25% and an ending backlog of $442 million, up 39%. Nearly all our businesses are booking more orders, which reinforces our positive growth outlook. It is notable our Energy backlog is up 81%, reflecting the strong Short-Cycle business in our view that we're gradually coming off the bottom in the longer-cycle projects market.

Revenues for the quarter grew 14% year-over-year, as a result of the strong performances from our Aerospace, Flow Technology and Short-Cycle Energy end markets. However, as a result of shipping delays for a few large projects, revenues were below our expectations and consequently, earnings per share of $0.43 was lower than we expected due to volume leverage. These projects are scheduled to ship in Q3.

We expect improvement in Q3 and beyond with revenue and earnings growth as we convert to backlog, which I'll discuss after Fred reviews the quarter in more detail.

Thanks, Bill. Please turn to slide three and I'll begin with Consolidated Financial Results and then get into the details afterward.

Consolidated revenues for the second quarter increased 14% year-over-year to $191.9 million compared with the second quarter of 2010, and were down 6% sequentially from the first quarter. The year-over-year increase was due to 5% from acquisitions, 4% organic and 5% favorable foreign exchange impact.

Our adjusted operating income in the upper-right chart was $12.4 million, up 7% from the second quarter of last year, but down 10% sequentially. Our net income for the quarter was $7.5 million or $0.43 per diluted share compared with a net loss of $11.2 million or a loss of $0.66 per share in Q2 of 2010.

You'll recall that second quarter of 2010 net income included pre-tax Leslie asbestos and bankruptcy charges of $28.9 million. Exclusive of this impact, adjusted earnings per share for Q2 last year was $0.44.

Now, I'll turn to our segment performance, beginning with Energy on slide four. The Energy segment bookings increased 30% year-over-year, with strength across almost all of our markets. As Bill mentioned, ending backlog of $225.7 million was up 81% year-over-year and 11% sequentially. We did see pricing in our backlog marginally improve also.

Energy revenues of $82.0 million increased 6% year-over-year, comprised of 5% favorable FX, 4% positive impact of Brazil Energy acquisition, and organic decline of 4%. Organic growth in most areas was more than offset by a decline in large international projects, which had a very low shippable backlog entering the quarter and we did experience a few shipping delays.

From a revenue perspective, we anticipate that Q2 may be the bottom of the cycle for our large international projects. Remember that due to the long lead-time nature of this business, project orders shipped in this quarter were booked nine to 12 months earlier. Since that time, we've significantly improved booking levels.

The segment's adjusted operating margin was 5.3% compared with 8.3% in the second quarter of 2010 and 6.4% in the first quarter. The year-over-year decrease was primarily driven by the dilution of acquisitions, price pressures in large international projects, partially offset by favorable mix and lower spending.

So as we look forward, with a growing backlog and gradually improving pricing, we still anticipate the Energy segment being in double-digit operating margins during the fourth quarter of this year.

Within our Aerospace segment, on slide three (sic - see Presentation Slides), bookings were up 24% year-over-year and 2% sequentially from the first quarter. The year-over-year increase was primarily due to the positive impact of acquisitions and 6% organic growth. We ended the quarter with a segment backlog of $133.1 million, an increase of 14% year-over-year, but 2% decline from the first quarter. Revenues of $36 million were up 30% year-over-year, driven by growth from acquisitions of 18% and 7% organically, as well as a 5% favorable FX impact.

Adjusted operating margins were 11.2%, down year-over-year from 14.6% and sequentially from 11.6% in the first quarter. The year-over-year margin decrease was primarily the result of unfavorable product mix and investments in acquisitions and new programs, partially offset by higher volume.

During the second quarter, we won another multi-year landing gear program on the A330 and A340, which will be produced in our Corona and the acquired Sylmar, California facilities. The value of this program should exceed $35 million over the five years beginning around the mid next year. And it demonstrates our ability to continue winning great growth platforms for the long term.

Now, I'll move to slide six of Flow Technologies segment, which had a very positive quarter. Bookings were up 19% year-over-year and 2% sequentially, both due to improving markets across most of our industrial businesses. We ended the second quarter with segment backlog of $83.2 million, up 10% from last year and 3% sequentially.

Revenues of $73.9 million increased 17% year-over-year. The improvement was due to organic growth of 12%, mostly due to continued semiconductor, maritime, process and industrial market strength. We also had a 1% positive effect for the May [2000] in India Flow acquisition and a 4% positive foreign exchange impact.

The segment's adjusted operating margins were 12.4%, up from 10.1% in the second quarter of 2010, but down from 37% in Q1. The second quarter year-over-year adjusted operating margin increase was primarily due to volume leverage, while the anticipated sequential decrease was due to mix in strategic investments.

Slide seven shows highlights from our consolidated P&L, some of which we've already discussed. Q2 included a relatively minimal pretax recovery expense related to the Leslie bankruptcy of just over $100,000. As we have stated previously, we do not expect to incur any significant expenses related to the Leslie bankruptcy going forward.

Corporate expenses were down 4% year-over-year to $5.1 million due to lower incentive cost and share-based compensation. The adjusted effective tax rate in the second quarter was 30.3%, slightly better than our guidance.

Now, turn to slide eight. Free cash flow, which we define as net cash from operating activities plus capital expenditures. For the second quarter, the biggest item was a use of $76.6 million due to our April 2011 funding of the Leslie Controls Bankruptcy Trust. With the asbestos funding behind us, we now expect to generate positive cash flow for the remainder of 2011.

We continue to have a healthy balance sheet which along with our credit facility provided for sufficient liquidity to fund our working capital needs, invest in organic and acquisition growth, and continue to pay quarterly dividend.

Now, I'll turn the call back to Bill for a review for our end markets.

Thank you, Fred. Please turn to slide 10 where I'll cover our market assumptions, starting with Energy in the large international energy projects. On prior calls, we've discussed the pricing issues related to the energy project business and the fact that we have low-margin orders in backlog that we're working through this year.

As we said in our last call, we've been more disciplined in pricing and we're slowly replacing that backlog with higher-margin orders. This should have a positive impact toward the end of 2011 and going into 2012. And despite the lumpy nature, the project markets continue to be active and appear to be improving. While there's still excess capacity that needs to be absorbed to relieve pressure on pricing, there are signs of improvement and we remain cautiously optimistic that we'll continue to see improvement in the second half of 2011 and into 2012.

In the Short-Cycle Energy business, the market continues at a healthy pace. Rig counts remain high and production is expected to be strong.

Turning to Aerospace, commercial aerospace while later in cycle continues to look like it's improving off the bottom. At the recent Paris Air Show, the overall [sentiment] was optimistic with OEMs announcing a significant number of new orders. Longer term, we believe that outlook for commercial air transport market is quite strong, particularly in the single-aisle aircraft production.

The defense side of Aerospace remains a question mark due to budget pressures and reduced military activity in the field. For example, as we've mentioned on our last call, we have already seen softened demand for aftermarket spares and repair parts for the Chinook helicopter landing gear.

Moving to Flow Technologies end markets, in the HVAC and steam markets there, there is a stable aftermarket business, driven by repairs and upgrades. And although capital spending-driven new construction activity remains weak, we have seen a few signs of improvement.

The process and industrial end markets continue to improve. The semiconductor market remains strong, driven by capital investment in LED manufacturing. In power generation, international demand is healthy. There continues to be steady demand for MRO and efficiency upgrades [which bring the] developed economies of North America and Europe.

Petrochemical and refining markets have been soft, but there appears to be some signs of life, particularly in petrochemical and the MRO business has been stable and also appears to be improving.

Turning to maritime, while long-term visibility is murky due to the uncertainty of defense spending, our near-term prospects are good as a result of strong backlog we have for the new aircraft carrier program and international orders.

So this brings us to our expectations going forward and please turn to slide 11 to review our guidance for the third quarter 2011. Overall, the demand environment is improving across most of our end markets. So we expect to see continued growth with the exception of a few specific areas like military and defense.

We expect revenues for the third quarter of 2011 in the range of $202 million to $212 million. Earnings are expected to be in the range of $0.47 to $0.57 per diluted share. Within our guidance, we expect continued strength in our Short-Cycle businesses and gradual improvement in the Long-Cycle Energy margins in Q3, although more so in Q4, as our margins and our project backlog improve. As also, is notable, Q3 includes summer shutdowns in many of our European operations across CIRCOR.

In Aerospace, we expect margins remaining relatively flat, as a result of the impact of the European shutdowns in the quarter and continued investments in acquisitions and new programs. We anticipate that Flow Technology margins will decline slightly, as we increase our investment in organic growth for power generation and expect to ship with slightly more unfavorable mix. That said, Flow Technologies continues to improve in the longer term.

Corporate expenses will be higher than Q2, which include a favorable timing of compensation expenses. I'd like to emphasize that we're making investment in some exciting organic growth opportunities that will help us sustain growth long into the future and Fred mentioned the recent Aerospace win, which sets us up for long-term growth on a great platform, the A330, A340. And this is a great win, which sets in motion long-term growth on one of the most highly utilized airplanes in the industry.

In the Flow group, this month, we expect to close $1 million order in India for a 660 megawatt power plant application. And this is a direct result of our acquisition in India and then building out our strategy to pursue the high-growth power generation market there and capture higher levels of engineering and technology value-added content and leveraging the organization we're developing in India.

To summarize, in closing, most of our end markets are improving. We are winning new business in key areas, building a backlog of orders for sustainable and profitable growth, and executing our longer-term organic and acquisition strategies to grow in high-growth, attractive market segments.

So with that, we'd like to go to your questions.

Thank you. (Operator Instructions) Kevin Maczka, BB&T.

Good morning.

Good morning, Kevin.

Hi, Kevin.

Bill, first, a couple of questions about these energy shipment delays in the quarter. I think, you've kind of hinted at that there may be some timing-related issues last quarter. But this sounds like it came in worse than you expected. Was there an execution issue here or was this a customer request, just to simply ship the product in Q3 instead of Q2? And can you just talk about visibility that you have there generally?

Yes. It's a combination. We had more in our -- we had more than what we put it in our forecast in projects, but there was -- there were some sizeable projects that didn't go. Some of it, a good piece of it due to customer and customer changes and customer schedules and some of it due to getting through certification, getting product out the door. It was really a mix of issues, but a relatively few smaller set of large projects program that we expected some of which to go in the quarter and didn't.

Okay. And I think you made the comment now that you do expect those shipments to happen in Q3. Can you size that at all? Can you quantify that at all? And it looks like from your revenue guidance, maybe you're implying that Aero and Flow are kind of flat sequentially and then the increase sequentially in total revenues comes from these Energy orders actually shipping. Is that fairly accurate?

Well, we expect the Energy business -- I mean, the other thing Fred noted was the backlog coming into the quarter was probably the low point. And so with those projects not shipping, there wasn't a lot else we could move forward or ship. But we expect that to improve as we go forward. So we expect to ship more projects.

On noting that in Q3, we worked through the summer shutdowns and it's not just our plans, it's all our supplier plans. So the projects that didn't go will go, but then we're looking at the next set of projects that go out the door in Q3. And it's a little hard, but we do have visibility to them.

Yes, you had it characterized correctly pretty much, Kevin. And we would expect a fairly flat Aerospace revenue picture quarter-to-quarter. Flow will have some growth, but Energy will have the largest of the three.

Right. Okay. And then, just finally, and I'll get back in queue, but in terms of your margin expectation, you've been talking about for a couple of quarters now getting back to double digits in Energy in Q4. It sounds like you still think that's the case, but Q3, it doesn't appear that your total guidance implies much margin improvement. Is that fair, first of all? And second, is that true of the Energy piece as well even though these additional volumes should come through?

Well, again, you can view the numbers in our guidance, but -- so we do have -- we have a slight improvement in overall margins as -- I would say, it's more of a mix in the sense and we expect Energy to improve quarter-over-quarter and we expect some deterioration in Flow as we talked about that we're investing some more money in power gen over Q2 and we have some unfavorable a couple of projects that are shipping.

Got it. Okay. Thank you.

Yes.

Thank you. (Operator Instructions) Charlie Brady, BMO Capital Markets.

Thanks. Good morning, guys.

Good morning, Charlie.

Good morning, Charlie.

Just back on the delayed shipments, can you quantify the revenue number that was delayed from Q2 into Q3?

Well, it's in the range of $5 million to $6 million.

Okay. And that's all going to hit in Q3 now, doesn't slip past Q3?

We anticipate all those will be -- will go into Q3.

Okay. On the Energy backlog, can you give a sense of the current backlog, how much of that is still is the Short-Cycle business, kind of what's the mix of that backlog in Energy looks like today, longer cycle versus some of the short cycle?

Well, typically, again, our Short-Cycle business is about a -- it's couple months worth. So most of our backlog is a long project.

Right. And just so I'm clear, as you're defining, that's all within next 12 months shippable?

No. But we actually have --

Well, I would say, yes, that's true. I'm thinking about our total backlog. We have some Aerospace orders that go out further than that, but, yes, within the next 12 months, we should -- it's all in that backlog.

Okay.

[Tenure].

Can you just talk about raw material impact for the quarter, what kind of effect that's having if any and how you're mitigating that?

Well, we're mitigating it with obviously two major initiatives. One is pricing. So we're putting in pricing certainly on bidding. We're looking at our current material pricing on bidding in long projects. And we've put some pricing decreases in our Short-Cycle business as we can. Some of those, we won't be able to for a while because of the timing. So that's one piece. And then, also we're resourcing products overseas. We're continuing to do low-cost region sourcing. So I'd say, over the year, we expect to be able to mitigate most of the material price [increases we've seen].

Okay. And then, in terms of supplier constraints, any material issues there in terms of your supplier base shortages, timing issues?

There aren't any issues today. We are watching, for example, in Aerospace, as the OEMs productions ramp up, a lot of capacity was taken out in the last couple -- at least the last year or two. So we're watching that carefully, say, it hasn't become an issue, but we are cognizant of it and watching for it.

Thanks.

Thank you. Matt Summerville, KeyBanc Capital Markets.

I just have a couple of questions. First, on the Aerospace business, on the military OE side, Bill, how much risks do you see to the CH-47? And I guess where are we -- or where is CIRCOR in terms of that slope down or the decline on the military spares business? How close are you to bottoming there?

Yes, we've already seen -- as I mentioned in the commentary, we've already seen some deterioration in the spare parts sales that go on the Chinook program from a fleet utilization standpoint. So those are already in our quarter run rate today.

The OEM production side of it, the Chinook is pretty solid through this year. It's a hard call to make right now looking out in the future years with where the government is. But it's -- so, I think we're in pretty good shape. So we expect a slight deterioration through the year, but we don't expect -- and we expect to more than cover that on the commercial side.

If you look at your Aerospace business, is it still about evenly split between civilian versus military? And then, based on, Bill, the programs that you're involved with on the civilian side and how those are expected to ramp up, I guess, looking out over the next few quarters, what is a reasonable growth rate that we can attach to your civilian-related Aerospace business?

Yes. I'd be a little careful on doing it in the next couple of quarters. The programs we're winning are great programs and some are quite large, but they are in future time periods. They wouldn't be in the next two quarters. We are winning smaller product upgrades and awards on existing aircraft that, as I mentioned, offsets some of the downward pressure from the military spares sales. But I don't know if -- I mean, I do expect -- we do expect the Aerospace business to be at least a high-single-digit organic growth business for us.

And does that all-in inclusive military or you're just speaking about the civilian side?

That's in total. So that would be offsetting any decline on the military side.

Okay. And that's more of a longer-term view, not necessarily looking out over the next quarter or two?

That's correct.

Okay. And then, just one final sort of question on Energy. If I think back the last several quarters, we've been hearing about pricing in the backlog not being all that favorable, every quarter may be getting a little bit of gradual improvement. In Q4-Q1, you kind of had some issues with underestimating alloy content you needed in some projects. Now, we're seeing some projects or delays associated with shipments. I mean, to take a step back for a second and just help us get comfortable that there is not some greater issues from an execution standpoint impacting this business and that, in fact, you really do see an inflection over the next quarter or two from a profitability standpoint?

Yes, I think we've been consistent that we -- third quarter is a tough one, because of the summer slowdowns that we see in Europe, but we're shooting for the fourth quarter to realize the pricing improvements that we've been watching going into the backlog. So we take a pretty rigorous view of projects that are getting booked, what the pricing is and how that pricing compares to last year in prior quarters. We have a good handle on that.

The other thing that I think is the reality of the market dynamic is that, when we look out over 12 months, it takes us 12 months to work through the bookings. So we're working through that now and projects by nature of their schedules move around, customers move around projects and the timing of them. And sometimes, there are changes in designs and supply that maybe we own more than the customers, but the net result is, it is difficult at times to predict the exact timing of when projects are going to ship.

I mean the good news is that orders that we win are all earmarked for specific customers and they will go, the challenge is the timing of it. So we're fairly confident that as we exit this year, the pricing that's coming into the backlog is better than the pricing that we had in prior quarters and it will improve from there.

Thanks, Bill.

Thank you. (Operator Instructions) Jim Foung, Gabelli & Company.

Hi, good morning.

Good morning, Jim.

Good morning.

Good morning. So when we get to the 2014, couple of years out, Boeing, Airbus would have much higher production on their, I'm not sure, aircraft fleet and then we see some new products coming out. So just wondering on the Aerospace side, are you mentioned pricing in the [digit growth] over a couple of years. And I presume that captures that incremental growth we see with the higher production rates. What do you think the margin profile would look like, as we get out over a couple of years in the Aerospace group?

Yes, we think the Aerospace group getting through the investment periods, which usually is about a year, new programs, should be a minimum of 15% operating margin group when we look out over the long term and we have comments on that because we're developing more a commercial business and more aftermarket business as well which will help for the profitability longer term.

And I'll remind everyone, when we look back on that group, we've doubled that group in the last five years, the size of that business. We started reporting it two years ago, but we have doubled the size of the Aerospace group in the last five years and there is no reason we can't do that again.

Okay. And then, that high-single-digit growth that you look for over the next couple of years, that captures the higher production rates as we go [around] over time as well as the new aircraft programs?

Yes, I mean, I would look at that as the minimum expectation on my part.

Okay, great. Thank you.

[Jim].

Thank you. At this time, we have reached the end of the Q&A session. I would like to turn the floor back over to Mr. Bill Higgins for closing comments.

Well, we'd like to thank all of you for joining us this morning and we look forward to speaking with you on our next call. Thank you and have a good day.

Thank you. This does conclude today's teleconference call. Thank you for joining us. You may now disconnect.