Circor International Inc (CIR) 2012 Q2 法說會逐字稿

Good day, ladies and gentlemen. Welcome to CIRCOR International's Second Quarter 2012 Financial Results Conference Call. Today's call will be recorded. At this time, all participants have been placed in a listen-only mode. There will be an opportunity for questions and comments after the prepared remarks. (Operator instructions)

I will now turn the call over to Mr. Dennis Walsh 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 Investors 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 Form 10-K for 2011 and other SEC filings. 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 2, 2012. While CIRCOR may choose to update these forward-looking statements at a later date, the Company specifically disclaims any duty to do so.

On today's call, management will often refer to adjusted operating income, adjusted operating margins and adjusted EPS. These metrics exclude any pre-tax special charges, as well as asbestos and bankruptcy charges related to the Company's Leslie-controlled 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, Dennis, and good morning everyone. I'll start with a few opening remarks before turning the call over to Fred for the financial overview. We're pleased with our financial results for the quarter.

Our Energy segment reported double-digit margins, which was better than expected, driven by strong operational performance by both the short-cycle and large international Energy project businesses. In addition, the Energy segment had good bookings in large international projects at improved pricing on top of good bookings in Q1. This is good progress and bodes well for revenue and profitability growth in 2013.

Flow Technologies also continued its strong operational performance in the quarter.

Before I turn the call over to Fred for the financial review, I'd like to share a few things with you. First, we're excited to have Norm Johnson on our Board of Directors. Norm is the Executive Chairman and Former President and CEO of Clarcor. Norm has a successful track record of global growth and creating shareholder value. He brings extensive business and industry knowledge, including in oil and gas and we look forward to working with him.

Next, I'd like to personally thank Tom Naugle for his nearly 10 years of dedicated service to our Board and wish him well. Finally, we just completed our annual strategic planning process and I'd like to share a few highlights with you. Our strategy is to leverage our Company-wide resources to take advantage of the great long-term global demand we see for valves and actuation control devices in three target markets, oil and gas both upstream and midstream, power generation and aerospace.

Oil and gas, power generation and aerospace are large global industries with significant long-term growth prospects supported by strong demand trends. These trends include the need for energy, energy efficiency, improved emissions and environmental control, and transportation and infrastructure.

And before I elaborate a little more, it's key to understand within each of these opportunities, we see not just growth, but earnings and margin expansion, which is our top priority. On the first targeted area, the global upstream and midstream, oil and gas valve and component market is more than several billion in size and fragmented.

Our short-cycle North American valve business, after several years of improvement, is now performing at record operational and profitability levels. And we've planned to leverage that success in other parts of the world, including Asia, South America and the Middle East.

In fact, through this successful transformation, we've developed a blueprint to transform other operations and take them to higher levels of performance. More specifically in energy, we're using this blueprint to improve execution and profitability in our large international project business. We'll then focus on growing our served market to generate profitable growth and increase shareholder value.

The second targeted area of our strategy is to capitalize on the growing power generation market, where we provide equipment on turbine and thermal systems in the generation of steam and electricity. The one example, we're building our facility in India where we now have more than 150 employees and CIRCOR had virtually no presence in India just a few years ago.

As you may have seen, India has been in the news recently because more than 600 million people lost electricity this week. This is clearly a growth opportunity for us and we are on the ground there to capture it. We're also using this business as a launching pad into the power generation market in the rest of Asia. And we're excited also about the opportunity in North America that's just beginning to unfold as the power industry takes advantage of the plentiful and cheap supply of natural gas that fracking has unleashed.

The third targeted area is to capitalize on the up-and-coming strength in aerospace actuation and control. We've made great strides during the past few years in building a highly talented team and a strong brand that is now recognized in the industry.

Our operational performance has been outstanding, 100% on-time delivery with 100% defect-free quality to Airbus for two straight years. In recognition, Airbus awarded our Aerospace business their Supplier of the Year Award. And let me note that this improvement was a result of the blueprint I mentioned before, whereby we've learned how to use our CIRCOR Business System to transform a business to significantly higher levels of performance.

This builds confidence with customers and our Aerospace team is winning business on large long-term platforms such as the Airbus A350 and the Sikorsky Black Hawk and we're continuing to pursue new opportunities. Our strategy is to become a world-class supplier to Tier 1 aerospace companies and move up the value chain by providing, not just parts, but component sub-system integration.

To execute our strategy in these three targeted markets, we've identified four enablers that we'll continue to work on. One, continue to upgrade and develop talent. Two, continue to improve Lean and operational excellence to win customers. Three, build out the global supply chain and manufacturing footprint to be competitive and to improve costs and productivity. And four, excel at repositioning, acquisition integration, and factory consolidations to drive margin expansion.

These four areas, talent, operational excellence, global supply chain and repositioning are fundamental elements of our CIRCOR Business System. We'll continue to deploy them to grow in the targeted markets in upstream/midstream oil and gas, power generation, and aerospace with a focus on expanding margins and generating shareholder value.

With that, I'll turn it over to Fred to review the quarter in more detail before I come back and discuss our markets and provide guidance for the third quarter.

Thank you, Bill, and would everyone please go to slide three for our consolidated results. Revenues for the second quarter increased 15% to $219.9 million compared with the second quarter of 2011, and were up 3% sequentially from the first quarter. The year-over-year increase was comprised of 20% organic growth, driven primarily by Energy, which was partially offset by 5% negative foreign exchange.

Our backlog was down 4% year-over-year all due to an approximately 7% negative currency impact. Adjusted operating income was $18.5 million, up 49% from the second quarter of last year as AOI margins expanded to 8.4% compared to 6.5% in 2011.

Net income for the quarter was $11.1 million or $0.64 per diluted share, compared with net income of $7.5 million or $0.43 per diluted share last year. This put us above the top end of our guidance due primarily to higher margins in Energy and Flow Technologies.

Now I'll turn to segment performance, beginning with Energy on slide four. Energy bookings were up 24% year-over-year primarily due to strong international project orders for the second quarter in a row, as well as demand across the other segments. Ending backlog of $197.4 million was down 13% year-over-year, but up 1% sequentially. The year-over-year decline in backlog was caused almost entirely by unfavorable foreign currency.

Energy revenues of $113.5 million increased 38% year-over-year comprised of 46% organic growth with contributions across all areas. This was partially offset by 8% negative currency. The segment's adjusted operating margin was 11.1%, up from 5.3% in the second quarter of 2011 primarily due to significant volume increase and the associated leverage and improved pricing in our large international projects.

Now, our Aerospace segment on slide five. Bookings in Aerospace were down 15% year-over-year primarily due to reduced landing gear aftermarket orders. This segment typically has lumpy orders due to large programs. We did end the quarter with a segment backlog of $150.6 million, an increase of 13% from last year.

Revenues of $35.9 million were in line with prior year, as revenues grew 4% organically, offset by negative foreign currency of 4%. Margins were 8.8%, down year-over-year from 11.2%, primarily due to increased new program investments, including product development and manufacturing capabilities. This was partially offset by higher volumes and favorable product mix.

Now, let's turn to slide six and the Flow Technologies segment. Due to the weakness in the LED equipment market, bookings were down 8% year-over-year. Exclusive of this market area, orders actually were up 3% across the segment. We ended the second quarter with segment backlog of $74.3 million, down 11% from prior year, due to the LED equipment business and the shipment of some of our Navy backlog.

Revenue decreased 5% year-over-year to $70.4 million, again due to lower LED equipment shipments, partially offset by organic growth across the other markets. Flow's second quarter adjusted operating margins were 12.8%, up from 12.4% in the second quarter of 2011. The year-over-year increase was due to higher productivity and lower spending partially offset by lower volumes.

On slide seven, you'll see highlights of our consolidated P&L, most of which we have already focused on. Corporate expenses were up 23% year-over-year to $63.3 million (sic - see press release) from $5.1 million due to higher professional fees and prior year compensation adjustments. The adjusted effective tax rate in the quarter was 35.5%, higher than our anticipated 30% rate due to certain discrete tax items in the quarter, including a valuation allowance. We still anticipate that our full-year rate will be approximately 30%, with approximately 20% in the third quarter.

Now turning to slide eight. During the second quarter, we generated $5.1 million in free cash flow compared to using $77.5 million (sic - see press release) in the second quarter of 2011. The use of cash a year ago included the payment of $76.6 million to fund the Leslie Controls Bankruptcy Trust.

So, now, I'll turn this call back to Bill.

Thanks, Fred. Please turn to slide nine where I'll be covering our market assumptions and key growth and profitability drivers.

Let's start with Energy. As Fred mentioned, the North American short-cycle business continued to be strong in the quarter. Rig counts remain high and we're performing well operationally. We continued to win new customers on the strength of our Lean improvements and the CIRCOR Business System.

Turning to large international Energy projects, demand continues to improve, and as we mentioned on prior calls, we're gradually seeing improved pricing that is supported by capacity being utilized in the industry. The last of our three Energy end markets, pipelines, seems to be in the early stages of improving as quotation activity has been picking up in North America.

Turning to Aerospace, commercial OEMs such as Boeing and Airbus have strong backlogs and their production rates are above last year and this demand is expected to be strong for the foreseeable future. Business aviation continues to be weak with the exception of production of larger business aircraft. Overall, we expect only slight growth in demand in business aviation in 2012.

On the defense side, there is uncertainty, as we wait and see how sequestration unfolds and the impact on our military programs. As we've discussed previously, the demand for aftermarket repairs and spare part sales for the Chinook CH-47 program, as well as other military aircraft has already been weak. On the positive side for CIRCOR, however, we've won new defense programs, such as the Joint Strike Fighter and the Black Hawk landing gear that will help mitigate weakness in military spending.

Looking at the Flow Technologies end market, most of our process and industrial end markets continue to be steady, however, we're watching for any impact from the economic slowdown in Europe and emerging markets. As we previously stated, we don't expect the LED equipment market to recover in 2012.

The power generation market, despite some short-term slowdown in emerging markets, is still a growth opportunity for us, with new construction in emerging markets and aftermarket demand for efficiency upgrades and conversion to natural gas-based power generation in North America. The chemical, refining and petrochemical demand environment is improving, particularly in North America due to the low price of natural gas.

In Navy, we have a strong backlog for aircraft carrier control valves and other international orders, although there is uncertainty in this market due to defense cuts and budget constraints. In the HVAC and steam markets, demand for energy efficiency upgrades continues, while the new commercial construction market, which may be earlier starting to improve, remains soft in North America and Europe.

So that brings us to our expectations for Q3. We expect revenue for the third quarter of 2012 to be in the range of $200 million to $210 million. And we anticipate earnings to be in the range of $0.48 to $0.60 per diluted share. We expect that our revenue in Q3 will be slightly lower on a sequential basis due to the timing of Energy projects and the seasonality in Aerospace and other Europe-based businesses due to summer holiday shutdowns.

In conclusion, we are in great markets and we're well positioned to grow revenue, expand margins and deliver shareholder value.

So with that, let's go to your questions.

(Operator instructions) Kevin Maczka, BB&T.

Thanks. Good morning.

Good morning, Kevin.

Bill, your comment on the power gen opportunity in India was interesting. Can you just kind of size for us, I think you gave some headcount numbers of your presence in India, but can you just kind of size that for us in terms of revenue and what do you think over the next few years the opportunity for CIRCOR there may be?

I think there's a good opportunity for us. We haven't released any specific size of the marketplace. But I can tell you what we've done [whereas] building the business there the first year or so was focused on building a team and then getting all the required certifications and approvals, which as you can imagine in India takes quite a long time to do. We have those approvals and certifications and in this more recent past we've begun winning some good projects with large power-related companies in India.

So right now we're building a factory that is scheduled to be finished in the fall and bring that online where we've also designed a new control valve line we'll begin manufacturing in that facility. And we'll be selling that control valve in India, as well as in other places around the world. So it's early, but it's a key part of our power gen strategy long term to use that for the India market, the Asia-Pacific region and then also to bring a competitive product line back into the United States and Europe and other places around the world where we can sell it competitively.

Got it. And then shifting over to Energy, strong orders again, short cycle and you're talking about improving pricing in the large international project side. Can you just talk about on the short-cycle side, do you have any concern here with what we've seen in terms of rig count growth moderation and can you quantify at all what you're seeing or what you're expecting going forward on the pricing side in big projects?

Let me address the short cycle business first in North America. There's a couple of things we've done very well, improving our team and operational performance. So I think we've been winning business because of our execution and performance has been strong. We did see -- we were watching closely some slowdown, I think, in the Eagle Ford Shale area. That seems to have come back up since we saw a slowdown a little bit in the activity there.

So we're still watching the rig count seem to be holding fairly well right now. So we're watching as we go forward and we'll continue to watch it. Pricing on large international projects, we've been disciplined. I think the market has been getting better and we've been winning some big orders, which is great with good pricing. So I don't know if we haven't quantified that. I think we'll take it one quarter at a time, but so far we had two good strong quarters here.

Got it, but as it relates to the short-cycle side though if we see rig counts move sideways further, that's a rig count-sensitive business. You would no longer see the strong order growth at some point unless you maybe continue to take share, correct?

That's correct. We would see in North America, there are regions in Canada we've always been expanding. We still have an opportunity to expand. We've seen a typical summer slow -- I guess it's a early summer slowdown with the mud season in Canada a lot of energy companies go through. We've gone through that as we typically would. But the other thing we're doing with the short-cycle business I mentioned in the strategy has taken that product line and taking that performance to other regions around the world. So that's early in the strategy of doing that, but we have an opportunity to leverage that success in other places.

Okay. And then just finally from me, so all in, all things energy, it sounds like your outlook for the back half in terms of order expectations is still pretty solid and we saw the nice jump in margins to 11%. Is your guidance implying that that's not sustainable into Q3?

The Q3 there was some shipments that we executed well and got out early in Q2. We're still, as we said before, working through a little bit of that lower price backlog we had before. We'll execute that in Q3. And if you go back and you look at our bookings a year ago, the middle of last year they were lighter on the project side. So there's a little bit less to deliver in Q3 as we then get back into the backlog that we have for Q4 and beyond.

Okay. Thanks, guys.

Charlie Brady, BMO Capital Markets.

Good morning guys. This is (inaudible) for Charlie Brady.

Good morning.

I was -- we are wondering, do you expect Energy segment margins to maintain double digits in kind of the second half of the year?

Based on -- we obviously had a very good second quarter. A lot of the hard work we've been putting in paid off, plus we had very favorable mix in the quarter based on customer demand. So some of our -- quite frankly, some of our lower projects were pushed a little bit into Q3 and some of the better, the customer pulls it into Q2. But that being said, now that we've gotten to where we are, I think we feel very good about the next couple of quarters being able to continue to sustain part of -- about where we were in Q2.

Okay. And if I understood correctly, then there was some pull-forward from Q3 into 2Q, many from Q4?

Yes, when I say pull-forward it really was a trade.

Okay.

It didn't affect the net revenues, it's just -- the timing of different projects switch between Q3 and Q4.

So there's nothing from Q4?

No.

No.

And then how is restructuring going in the Aerospace segment?

We continue -- it's really -- we've obviously, we've continued really -- it's not so much restructuring as it is getting prepared for these big programs. So we definitely have continued to work on our California facility specifically to be sure we'll get ready for the big programs to start to ship next year and we're continuing to work on the product development and the testing that's required to get ready to ship those.

Yes, I think there is a lot of progress that's been made. We've -- still as a stronger team, we've done a number of program reviews, we've done a lot of lean work across our facilities, including the three locations we have in Aerospace in California, freed up a lot of space and we're looking at that business how we continue to improve it. Progress has been made and there's still opportunity in front of us.

Okay. And for the rest of the year, it seems like you have strong OEM production for the Aerospace. Do you guys still see like landing gear softness to continue for the rest of the year, like it was kind of this year -- this quarter?

The landing gear, particularly on the military side, has been very soft. We've been really looking to the government what they're doing in the aftermarket to replace spares and parts on helicopter (inaudible) Chinook, as they're coming out of Afghanistan. We've seen a little bit of activity, but it's been really soft. I think they're working through backlog that they had, but we expect at some point we're going to need to replenish some of that, but we're not forecasting that at this point.

Yes.

We're also working hard on foreign military opportunity.

That's true.

That would be, hopefully will be -- help us in this area.

All right. And one last question, you guys have any kind of outlook or any acquisition type things in the pipeline?

We're always working on the acquisition side. We believe it's a critical part to building out the three targeted areas that I mentioned and yes, we'll keep working it, but no, we haven't announced anything.

Okay. All right. Thank you, guys. Have a great day.

Thank you.

John Franzreb, Sidoti and Company.

Good morning, guys.

Hi, John.

Fred, if I heard you correctly, I think you said that you [had shipped] some of that lower-margin business out of the second quarter and into the third. From what I remember, there's about $20 million you expected to deliver in the second. How much of that's been pushed into the third?

Well, actually, John, on those orders we shipped about what we told you we would.

Okay.

It had to do with some other orders we had in our backlog. So we did ship approximately $20 million as we talked to you about, so we have about $10 million left.

So it's only $10 million still left. That's great, great. So that margin profile was strong even though you had the low-margin bookings from a year or so ago, two years ago in the mix?

Yes, that was the pre-2011 we talked about. Yes, that's true.

Okay, great. And how much did that product development cost hurt your Aerospace margins in second quarter? Can you put a number on that?

I don't have an exact number. We've talked about it hurting our margin of 200 to 300 basis points in this segment. But it was slightly higher in Q2, again we're getting closer to getting these -- some of these items shipping and again (inaudible).

So when is the timing, we're talking about now is that we'll have some of those costs absorbed by revenue?

The A330 and Black Hawk, which are -- those two programs, we should see revenues for those in 2013. The A350 based on, I guess, Airbus's most recent announcement, I can't tell you exactly, but we're talking 2014, 2015.

2014 and 2015?

Yes. And for the A350 this year is a critical year. They're obviously putting the first one or two aircraft together and we have been shipping critical flight hardware for the safety checks and the initial pattern, (inaudible).

Okay. And you mentioned the uneven nature of the Aerospace bookings. Would you expect the bookings somewhat to rebound in the third quarter or are your expectations that we're resetting at lower levels, though?

I don't know. I wouldn't want to try to predict the lumpiness of the orders themselves. I think what Bill said before, I think we expect the aftermarket for spares, military spares, that's a tough market right now, obviously, with the uncertainty in the budget. So we wouldn't expect maybe too much activity for 2012 in that, but it's really hard to predict the actual orders and when they're coming in.

Okay. And switching to Flow, you said the power generation in North America is becoming recently attractive. Can you give us a sense of how much demand has picked up or could you just put some numbers around that growth in that business?

I don't have the numbers offhand, John. There has been some numbers published on the North American market. What we're seeing I guess anecdotally is there are plant conversions and new plants being built today to take advantage of natural gas prices. A lot of the power plant has being using their peak power turbine systems that normally only at peak running full time, so they're burning up -- using these systems and equipment much harder than they expected to. So we'll look for a market data, but we're seeing it anecdotally in the activity in the customer markets.

And our backlog in that part of the, for North American MRO business has been strong.

Yes.

Up double digits, we were talking that kind of magnitude?

I don't know exactly, but it's been somewhere in that range. It's been definitely.

Okay. Okay, Bill. I guess one last question, it's almost similar type, the sense of magnitude you called out large project demand in the Energy market, it has been great and it augurs well for 2013. Can you give us a sense of how much -- how big of a number that is in the backlog, how much it's improved year-over-year or sequentially, can you give us a sense of size now?

Well, in the second quarter we had good growth in the Energy segment, but it was dominated by the international project business. All our markets were basically up in the valve space, but the volume share was in the -- it was in the international projects business.

Okay. Thank you, Fred. That's all I got.

(Operator instructions) Matt Summerville, KeyBanc Capital.

Morning. Couple of questions. Fred, first, can you just help me out with the tax dynamics here, a little more color on what happened in Q2 and what drives -- I thought you said the rate was going to be pretty low in Q3?

Yes, that's true. In our guidance we've given -- we're anticipating around a 28% tax rate in Q3. And again like Q2 it has to do with certain discrete items that we think may be happening in that quarter and as I said the full year rate we still anticipate to be around 30%.

Okay. And then, Bill, in your opening remarks you talked about some things that you're trying to do restructuring and otherwise with regards to the international project business in Energy. As you put together this plan that now sort of sounds complete, can you talk more about what sort of charges we can anticipate, what kind of savings we're going to be looking at, the timeframe you're looking to execute this?

Yes. So the context for the strategic planning process we just went through is a three to five-year look. And as part of that we've looked at our facilities, our businesses where we are and where we're investing in -- we have facilities now up-and-coming facilities in China, India, and Brazil and we look at the global footprint.

So we do believe there will be restructuring consolidations over time and particularly as we free up space through a lot of the lean activities, but we haven't decided on the exact timing of that yet, but it provides an opportunity for us to leverage what we have and then if we do tuck-in acquisitions and actually fold them into existing space that we already have. So we don't have specific numbers on it and timing of it, but we're certainly working on it.

And then I just want to make sure and clear the progression of Energy margins in the back half, so if you can revisit that and may be talk about what would be a targeted exit rate on the year, if you will, in Q4 as we think about next year?

Yes. I'm going to give the same answer I gave the last quarter. Our teams are working really hard and we're going to continue to work on expanding margins and take it one quarter at a time here. So as we develop a track record of doing exactly that we'll then make the future forecast, but not just yet.

Makes sense. Thanks, Bill.

Thank you.

Ladies and gentlemen, we have reached the end of our Q&A period. I would now like to turn the floor back over to Mr. Bill Higgins for closing comments.

So I'd like to thank everybody for their interest in CIRCOR and listening today. And we look forward to talking to you next time. Thank you.

Thank you. And that concludes our conference call. Thank you for joining us today.