Crane Co (CR) 2008 Q2 法說會逐字稿

Stand by. We're about to begin. Good day, everyone, and welcome to today's Crane Company's Earnings Release conference call. Today's call is being recorded. At this time, I'd like to turn the call over to the Director of Investor Relations, Mr. Richard Koch. Please go ahead, sir.

Thank you, operator. Good morning, everyone. Welcome to Crane's Second Quarter 2008 Earnings Release conference call. I'm Dick Koch, Director of Investor Relations. On our call this morning we have Eric Fast, our President and CEO; and Tim MacCarrick, our new Vice President and CFO. We will start the call off with a few prepared remarks, after which we will respond to questions. Just as a reminder, the comments we make on this call may include some forward-looking statements. We would refer you to the cautionary language at the bottom of our earnings release and also in our annual report, 10-K, and subsequent filings pertaining to forward-looking statements. Also during the call, we will be using some non-GAAP numbers, which are reconciled to the comparable GAAP numbers in the table at the end of our press release (which is available on our web site at www.craneco.com) in the Investor Relations Section. Now let me turn the call over to Eric.

Thank you, Dick. Before discussing our earnings, I would like to welcome and introduce you to our new Vice President for Finance and CFO, Tim MacCarrick. As you saw in a separate press release yesterday, Tim joins us from Xerox. His 20 years of service there have given him a broad operating finance background, with solid international experience. Today is his first day at Crane, and we welcome him to the team.

Thanks, Eric. It's great to be here. Last night we reported second quarter of 2008 net income of $59 million, or $0.97 per share compared with net income of $45.7 million, or $0.75 per share in the second quarter of '07. After adjusting for nonrecurring items on a Non-GAAP basis, our second quarter EPS was $0.93, compared to $0.84 in 2007, up 11%. Let me now highlight several key items for the second quarter. We have increased the quarterly dividend by 11%, reflecting confidence in our businesses and strong financial position. Fluid Handling had record second quarter sales and operating profits. Core sales increased 4% in the quarter, to a record $301 million. Operating profit increased 39%. Operating margin reached 15.5%, compared to 11.9% last year. Merchandising Systems operating profit increased 46%, with strong improvement in both Vending and Payment Solutions. The stronger than anticipated performance in Fluid Handling and Merchandising Systems more than offset the anticipated higher engineering spending in Aerospace and unfavorable end markets for Engineer Materials, which deteriorated sharply during the second quarter, particularly for the recreational vehicle and transportation market. We maintained our EPS guidance for the year of $3.45 to $3.60 on a GAAP basis, which includes the $0.97 in the second quarter. But in the face of an uncertain economy, we expect to be near the low end of the range.

I would note the second quarter results included $0.05 per share of recoveries for costs previously incurred relating to environmental remediation. Free cash flow will be at or above our $170 million guidance. Turning now to specific segment comments -- Aerospace and Electronics. Aerospace Group sales of $108 million increased $12 million, or 12.5%, from $96 million in the prior year. OEM and aftermarket sales were higher than last year, with OEM sales growing 19% and aftermarket sales growing 2% on a comparable basis. The OEM aftermarket mix was 65%-35% compared to last year's second quarter of 62%-38%. Operating profit in Aerospace declined by $3.5 million, reflecting the $9.6 million increase in Engineering expense due to the heavy investments in the 787 and A400M and a higher OEM mix offset in part by a negotiated cost recovery of $5.6 million for prior engineering work done for an aerospace customer. Absent the heavy investment in new programs for future growth, operating margins were consistent with our long-term goal of 20%. I point this out to you -- I point this out so that you will understand that excluding our heavy investment in these two new programs, the Aerospace Group is performing well and in line with our long-term expectations. Our Aerospace Engineering spending in the second quarter of 2008 was $26 million compared to the first quarter of 2008 of $24 million, and $16 million in the second quarter of 2007. This increase in engineering spend, all of which is expensed, is because of the 787 and A400M programs and will continue through the balance of the year at a run rate -- at the run rate of the second quarter or slightly higher. Crane, GE, and Boeing engineers are working side by side to continue development of the brake control software. Boeing told the press at the Farnborough Airshow that they are confident that the code will meet stringent certification requirements and expect that first flight will occur on schedule in the fourth quarter. We share Boeing's confidence that the software will be completed on schedule for first flight.

We expect to partially offset our high engineering spending this year with potential additional negotiated cost recoveries. Recoveries arise when changes to scope occur. That is when the customer changes the design, which impacts design costs or schedule and resources. The cost of the change of scope is identified in a claim that is submitted to the customer by the supplier. By their very nature, claim recoveries are discreet items and can be hard to predict because they are a result of negotiation. Electronics Group sales of $58 decreased $6 million, or 10%, primarily due to lower sales in power and microwave solutions, due primarily to award slipouts and funding delays on current programs. While Electronics Group operating profit declined $2 million compared to the second quarter of 2007, operating margins remained above 10%. Engineering Materials -- in the second quarter, Engineering Materials core sales decreased $21.5 million, or 25%, reflecting substantially lower volumes to the company's traditional recreational vehicle and transportation customers, partially offset by $6.7 million of sales related to the composite panel business we acquired from Owens Corning last August. This is a significantly greater decline in core sales than the 16% we experienced in the first quarter of 2008. In the second quarter of 2008, excluding the sales of the acquired business, we saw a 43% decline in sales to our recreational vehicle customers. This was greater than the deterioration in the RV industry's retail sales because there have been significant inventory liquidations at the OEM and retail level. We experienced a 28% decline in our sales to transportation-related customers, consistent with reduced trailer build rates, and a 6% decline in our building products customers. A number of RV manufacturers took extended vacation shutdowns in June and July, reduced their workforces consistent with lower industry demand, closed plants, and/or ceased operations entirely. The sharp downturn in the RV market, particularly late in the second quarter, surprised many industry experts. What we have seen is clearly worse than what we expected, and is the major factor in our decision to be more cautionary about our total corporate earnings guidance for the year. Operating profit declined 55% as a result of lower volume, with price increases offsetting higher material costs. Since the beginning of the year, our headcount has now been reduced by 24% and disciplined expense controls are in place. We view the disruptions in the marketplace as opportunities to support our customers, when market share, and actively develop new products.

We had a record second quarter for Merchandising Systems. Sales increased 16%, with improvements in Vending and Payment Solutions, led by solid demand for the glass front BevMax III and strong demand for coin and bill validation and our coin dispensing products. Operating profit increased $5.4 million, or 46%, reflecting effective leverage of the higher sales and throughput efficiencies. Global demand for payment systems remained strong with increased market penetration, broad-based acceptance of new product offerings, and delays in any potential adverse regulatory changes in overseas markets. Orders from the major bottlers for the BevMax III machine were seasonally strong in the second quarter, in part reflecting the significant efforts to dramatically improve the performance of this new machine. As we moved through the second quarter, we saw more pronounced effects of high gas and food costs on the North American vending industry; and their impact will become more evident as we move into the seasonally slower second half of the year, as is normal in the industry. Reflecting those market issues, headcount in our North American vending business has been reduced by over 16%, as compared to January 2008. New product introductions in the second half should help mitigate these conditions.

At this point, I feel Merchandising Systems is on a pace to post record earnings this year and should exceed the guidance we provided at our February Investor Day. Fluid Handling, which represents about 43% of Crane's total sales, turned in a record second quarter, with sales increasing 7%, operating profit growing 39%, with a profit margin of 15.5%. The operating profit increase was broad-based across all major units in the segment, reflecting continued global demand and pricing discipline. We have continued to see broad-based demand from the chemical and pharmaceutical industries and, to a lesser extent, energy. As noted on our prior conference call, we expected operating margins to decline somewhat from 15.5% in the first quarter. This guidance was too conservative because every one of our major Fluid Handling businesses had favorable operating profit margin comparisons to the second quarter of last year. We remain committed to the concept of profitable growth, with strong discipline on pricing. Raw material escalation issues continue to affect the entire industry and could potentially pressure margins going forward. Our foundry restructuring efforts are on schedule, with the Ipswich, England foundry closed in June and the Brantford, Canada facility on schedule. These are important steps to increase our low-cost country sourcing and improve profitability in 2009. I would echo my Merchandising Systems comments as I look at the strong year that Fluid Handling is experiencing. They are also on pace to post record earnings this year, and will clearly exceed the guidance we provided at our February Investor Day.

While we bought back 958,000 shares of stock for $40 million in the first quarter to mitigate dilution for the year, we did not repurchase any stock in the second quarter, which was consistent with our prior common. As you know, our policy is not to preannounce stock repurchases; and we may reenter the market if conditions warrant. The second quarter reported tax rate was 29.8%, compared to 31.3% in the second quarter of 2007. We anticipate the 2008 annual tax rate will approximate 30%, with some variability quarter to quarter. This guidance assumes the restatement of the R&D Tax Credit retroactive to January 1st. We continue to have a strong balance sheet and ended the quarter with $322 million in cash. Now back to you, Dick.

Thank you, Eric. This marks the end of our prepared comments. Operator, we are now ready to take questions.

Thank you. Ladies and gentlemen, if you'd like to ask a question today, please press star one on your touchtone telephone key pad at this time. If you're using a speaker phone, we do as that you make sure that your mute function is turned off to allow your signal to reach our equipment. Once again, ladies and gentlemen, if you have a question today, please press star one, and we'll pause for just a moment to assemble our roster. We'll go first to Shannon O'Callaghan with Lehman Brothers.

Good morning, guys. Eric, first on the guidance, I think you said in your remarks that it includes the $0.97 in 2Q. I mean, I guess I would have thought you called out the nickel benefit and talked about $0.93 as an adjusted number. Is there a reason why you're including this in the annual guidance?

Well, couple things. First off, we had a big debate here whether or not to include it in the -- whether to even do the Non-GAAP table. And I just felt that they were large enough that, given our transparence, we should include them. Secondly, we worked really hard on the recoveries; and they do represent a cost that we previously had in the past. And thirdly, in the future -- going forward there will be some, albeit modest, costs that get recovered on a going-forward basis, probably not enough to break out. And in addition, we have some planned expenditures for remediation activity that will be expensed going forward. So as we looked at it, you know, our judgment was to look at the $.097.

Okay. And, I mean, as you look forward -- again, with the expenses and the future, I guess, "benefits" -- is this going to be a number that moves considerably year to year?

No. In fact, I don't -- the expenditures that we're going to have are going to occur over the next couple years -- could be up to a couple million dollars, for example, but I'm not going to break them out.

Okay.

It's a judgment call, and we just felt we had to be transparent about it. But we worked hard to get the recoveries.

Okay. On Merchandising Systems, those margins obviously are really strong. Were they -- can you talk about a little bit of the drivers behind that, and were they a surprise to you?

I would not characterize them as a surprise to us. We are continuing to see very good global demand for our Payment Solutions business. As I mentioned, you know, we haven't got any adverse regulatory changes. We're seeing excellent acceptance of our new products. And that business is a much higher -- has been historically, and continues to be, a much higher margin business than our vending business.

And, I mean, you mentioned the vending seasonality and the effects of the economy that you're starting to see in the quarter. What about the Payment Solutions side?

Haven't seen it. And the Payment Solutions business is a global business, and I see no -- nothing in orders that are of concern. But clearly we saw it in orders on the vending side, and we've already taken the appropriate actions.

Okay. And then in Engineering Materials, I mean, can you -- obviously you're saying things are a lot worse than people thought. How much more pain do you think is here? And are there additional actions you can take? And, you know, you said price offset costs; so I guess it's not a matter of more price. What are you thinking you can do from here to adjust to, you know, the deteriorating conditions?

Well, I think we've done everything that we said we were going to do. We said we were going to put in price increases, and we got the price increases. We said we were going to integrate the acquisitions, and we integrated the acquisitions; and we're, you know, basically on plan with that activity. And we said that we're going to -- even with the price increase -- we were going to try to make sure we at least held market share and try to get it in some places. That's an ongoing battle. We clearly did not anticipate -- you know, we were kind of hoping that -- core growth was down 16% in the first quarter. We were hoping that -- we thought that might be the bottom; and it's, you know, down 25% here in the second quarter. So it's been much worse than we anticipated, particularly in RV. The recent statistics that I've seen suggest that there has been a reduction in the amount of the RVs that are in inventory on the dealer lots. I've seen comments -- you know, it's gone from three months to one month. And clearly our orders and sales are less than what the industry is experiencing. So it may be wishful thinking, but we're hoping that it's a little bit more stable here. But frankly, much of the industry was closed in the first half of July; and it's too early for me to make that call.

Okay, thanks. I'll pass it along.

Okay.

Thank you. We'll go next to Deane Dray with Goldman Sachs.

Thank you very much. Good morning, everyone. First, I'll add our comments on the guidance and a question related to that. And I like the fact that you're putting in everything and showing it on a GAAP basis, and that does add to transparency. So from our perspective, that's very helpful. But on that theme, how much precision do you think you have right now, Eric, in keeping the range as it is today but going to the low end of the range? I would think with some of the variability you're seeing and the second half cost pressures, and especially what you've seen so far in Engineering Materials, that there might be more risk to the downside.

We're confident in the guidance we gave.

Okay, and just--

I mean,this was not done lightly.

I appreciate that. And just not to beat Engineering Materials dead horse here, but it's interesting how much capacity you added last year between, you know, the capacity at Noble and the acquisition of Fabwell. How much of the margin hit do you feel is just unabsorbed costs at this additional capacity that's come on?

Well, my first comment would be -- we clearly did not anticipate the size of this decline. However, you know, we've already gone in and reduced the headcount by 24%, which is roughly 250 people. So we've gone after costs here in an aggressive way, Dean.

Okay. That's fine. And then if I switched over to the Flow business, with organic revenue growth of 4%, you still hit your margin targets -- actually you exceeded the margin targets. And I think I've asked this question before, but if I look at the 66% incremental margins, that would suggest that you've had some additional benefit. Maybe it's these cost reductions at the foundry closings. But it just seems you're getting more boost on incremental margins than you would get from volume.

Right. Again, I think it's important to look at the $300 million in revenues and the throughput efficiencies that we're getting on the whole business versus just the incremental sales. I feel very strong -- when you look at the results, every single major unit improved their operating margin in Fluid Handling. And as we go down and we look through why that happened, it's consistently better discipline on price -- whether it be on projects, whether it be on our, you know, kind of how we roll annual contracts over, or just our core day-to-day MRO business. So that core discipline on price and not chasing projects that aren't going to bring us an acceptable margin, I think, is where we load up our plants with unprofitable business -- is a key to that leverage. But you have to look at the overall impact on $300 million in sales versus just the incremental volume.

Appreciate that. And just a last question. On the nix in Fluid -- I was surprised to hear that chemical and pharma customers were a bigger factor than energy, because I know energy has been really a big plus over the past several quarters. Is that mix supposed to carry through to the second half?

Well, I think our presence in the chemical market is two and a half times the size that it is in energy -- and certainly much stronger in terms of market share/global reach in scale. So, you know, one of the reasons why we don't get as big a kick in our earnings as some of the other Fluid Handling businesses is we're relatively light in energy, when you look at our overall Fluid Handling business.

Great. Thank you very much.

Both did well, by the way, in the second quarter.

Got it, thank you.

Thank you. We'll go next to Ned Armstrong with FBR Capital Markets.

Thank you. Good morning.

Good morning.

Could you talk a little bit about Dixie-Narco within your Merchandising Systems business and how it's progressed relative to your original expectations, and whether you think that those expectations might have been too low or too high to begin with?

Well, as you know, as a matter of policy, we announced in the fourth quarter of last year that Dixie-Narco was making -- had turned profitable, and that we weren't going to break out the results of Dixie-Narco anymore. We're going to look at it as part of our -- just a part of our North American vending business, because we sell it both to the bottlers and we're selling it to the full-line operators. And we're increasingly starting to move some of the new products down to Williston in the Dixie-Narco facility. But all that being said, as far as Dixie-Narco is concerned, I think as the management team looks at it -- we just think materially we're in a much stronger place. We think that we're starting to drive the kind of results that we expected, and we're more than happy with that acquisition.

Okay. And then with respect to your guidance -- while keeping the range the same, you clearly said that you would -- you thought that right now you tend towards the bottom end of that range.

Yes, sir.

And you called out one of the puts and takes between the bottom and the top as being the Engineer Materials business. Is that the vast majority of this puts and takes; or are there other situations in there that could work in your favor, that may take you above that lower end of the range?

Well, I think there's pluses and minuses. But if you ask me the changes between the first quarter and the second quarter, we as a management team would point to the Engineer Materials and the downturn in Engineer Materials. Otherwise, we're reasonably operating to the expectations that we've had, I think.

Okay, good. Thank you.

Thank you. We'll go next to Wendy Caplan with Wachovia.

Thank you. Good morning. I just wanted to speak for others, I'm sure, in welcoming you, Tim, to the Crane Company team; and we look forward to getting to know you. But I won't bother -- I won't ask you a question on your first day.

Thank you, Wendy.

Eric, as to Engineered Materials and Merchandising, do you think at this point that we're right-sized for demand; or should we expect to see some more actions? And would they be on the headcount side, or are there other opportunities that you see at this point in terms of cutting costs?

I think we've -- we're at the right spot ,as we see it now, in terms of costs -- certainly in terms of headcount. I think as we look out the next couple of years, we'll have to see where demand is, impact of new products, our ability to gain market share, and take a look at the overall facility situation. But I don't have -- I currently have no present plans.

And in Fluid Handling, is there any reason at this point -- given mix of product or aftermarket OEM, et cetera -- why the margin that you posted in Q2 now is not sustainable, or are you thinking expandable from here?

I'm not going to give future guidance on the margins. I was wrong in the first -- when I gave guidance in the first quarter. I was wrong on the second quarter because I was too conservative. So I think that all that I would say, Wendy, is it's real. There's nothing unusual in the numbers. It's broad-based across Fluid Handling. And the management team in Fluid Handling and here at Corporate, we all feel that there's a lot of additional opportunities left in Fluid Handling to improve those businesses.

Okay. And finally -- and then I'll let someone else jump on -- could you help us understand what you're seeing relative to acquisitions? Is there -- for you is there -- is the pipeline full, as they say? Are you seeing any changes in terms of what you're looking at relative to size and market, et cetera, and pricing of those transactions?

We're seeing our radar screen, our pipeline is filling up. These are -- many of them are in very preliminary discussions, so you're not sure whether you're going to get them or not. We're seeing reduced competition for the assets without the leverage buyout firms involve; so it tends to be a few strategic players. We're seeing some improvement in price, at least from the acquirers' point of view -- not as much as I would have expected, but I think that is a matter of time. And we would hope to be successful on some acquisitions here before the end of the year.

Thank you very much.

Thank you.

We'll move next to Matt Summerville with KeyBanc.

Good morning. Couple questions. First, in Aerospace, can you talk about why you're seeing the deceleration in your aftermarket business? And then in the second quarter, you had the increase in Engineering spend partially offset by the recovery you got. I guess you kind of quantified where you think Engineering spend is going to be for the year. Are you netting any additional recoveries against that? And if not, I guess, how much in recoveries are you building into your outlook?

Our formal forecast and guidance does not -- the formal one -- does not really include any additional recoveries in Aerospace. We do have -- we constantly have ongoing discussions about trying to get those recoveries. If they do occur, I would expect them to be relatively modest. But our formal guidance did not include a recovery -- recoveries. Secondly, the -- on the aftermarket, I think the industry generally experienced -- correct me if I'm wrong here -- slower aftermarket. And this is what I got informally at the airshow, slower aftermarket growth in the second quarter than it did in the first quarter. We did have some relatively high initial provisioning last year, which kind of impacted that. But as we look forward, there's -- we see relatively little impact in the third quarter on the aftermarket, and we think it should be okay at this point. Now, there are a lot of airplanes that are going to get parked in the fourth quarter. But, you know, we're going to have to wait and see how the airlines execute on that reduced capacity -- does it all come out in the fourth quarter and what the impact is.

Okay, and then one more question. Just in terms of pricing and raw material costs -- the price increases you put in place in Merchandising and Engineered Materials, when did those increases go into effect? And have you been able to get any additional price in the back half of the year? And what I'm trying to get at is whether or not you think you're in parity second half of '08 with raw material prices and selling prices.

Both of them were in effect in the second quarter. At the moment, we're not contemplating additional price increases in either area. And both businesses have material price pressures, which I believe we've included in our formal guidance.

Great. Thanks, Eric.

Thank you. And as a reminder, ladies and gentlemen, please press star one on your touchtone telephone keypad at this time if you have a question. We'll go next to Ron Epstein with Merrill Lynch.

Good morning, guys. Eric, can you talk a little bit about what you're seeing out on the M&A front. And have you seen valuations come back in with the broader market? Are they still sticky? You know, what's going on in the M&A world?

They're still sticky, but they're improved; so we're seeing a bit more realism on pricing. We're continuing to see this game of high initial indications; and then, you know, everybody falls by the wayside as they look at the asset and then you kind of have to be there at the end to be successful and to look for a realistic price. So it takes a lot of time and energy in that -- but generally continuing to improve from an acquirer's point of view.

Okay. Okay, and when you think about your own portfolio, are there any areas that you're more interested in building out?

We would be -- I'm certainly interested in Fluid Handling, given the successes that we have. And it's an industry in terms of that global valve business that continues to need to be consolidated.

Okay, and then just maybe one more on Aerospace. Bombardier launched a new airplane over at Farborough-- a C-Series. Do you view that as an opportunity for Crane Aerospace?

We have some -- a potential content there, but not anything significant.

If you were to win it, would it require much R&D or no?

No, not at this point -- not with the size of the shipset that we're talking about.

Okay, that's great. Thank you.

Okay. Ladies and gentlemen, that will conclude our question and answer session. At this time, I would like to turn the conference back over to Mr. Koch for any additional or closing remarks.

Thank you all for joining us today and for your continued interest in Crane. Good-bye.

Thank you. And once again, ladies and gentlemen, that will conclude today's conference. We do thank you for your participation, and you may disconnect at this time.