CTS Corp (CTS) 2008 Q3 法說會逐字稿

Ladies and gentlemen, thank you for standing by. Welcome to the CTS third-quarter 2008 earnings call. For the conference all the participant lines are in a listen-only mode. However, there will be an opportunity for your questions and instructions will be given at that time. (OPERATOR INSTRUCTIONS.) As a reminder, today's call is being recorded. With that being said, I'll turn the conference now to the Director of Investor Relations, Mr. Mitch Walorski. Please go ahead.

Thank you, John. I'm Mitch Walorski, Director of Investor Relations and I will host the CTS Corporation third-quarter 2008 earnings conference call. Thank you for joining us today. Participating from the Company today are Vinod Khilnani, President and CEO, and Donna Belusar, Senior Vice President and Chief Financial Officer.

Before beginning the business discussion, I would like to remind our listeners that the conference call contains forward-looking statements. These statements are subject to a number of risks and uncertainties that could cause actual results to differ materially from those expressed in the forward-looking statements. Additional information regarding these risks and uncertainties was set forth in last evening's press release and more information can be found in the Company's SEC filings.

To the extent that today's discussion refers to any non-GAAP measures relative to Regulation G, the required explanations and reconciliation are available on our website in the Investor Relations section.

I will now turn the discussion over to our CEO, Vinod Khilnani.

Thanks, Mitch, and good morning everyone. Last evening we released our third-quarter financial results for 2008. I'm pleased to report that, despite an extremely challenging economic environment, our earnings per share met consensus estimates and our internal forecast. Our increasingly diversified business model helped soften sharp declines in automotive sales worldwide, plant closings by our customers, and program push-outs affecting our electronic Components and EMS business.

Sales at $170 million were down 2.7% from the third quarter of 2007, primarily due to reduced EMS segment sales to Hewlett-Packard from the end-of-life program which we have discussed many times in the past. EMS sales excluding Hewlett-Packard were actually up 6.6% and Component and Sensors segment sales were up 5.4% year over year.

GAAP earnings per share were $0.21. Excluding the tax credit and the proactive restructuring initiative, which Donna will discuss in greater detail, adjusted earnings per share of $0.16 matched consensus estimates for the quarter. Please note that in our last earnings conference call we had indicated that second-quarter diluted earnings per share had benefited by $0.02 from sales and production pull-ups from the third quarter into the second quarter of this year.

On a segment basis, Components and Sensors sales were $72.5 million, up 5.4% from the third quarter of last year. Within this segment, sales of automotive sensor and actuator products were up 5.4% despite a very tough automotive environment reflected by steep year-over-year declines in the light vehicle sales in North America and Western Europe of 18% and 10%, respectively. Plant closings and extended summer plant shutdowns by many automotive customers made it a tough quarter. although automotive sensor and actuator product sales in Asia Pacific grew 53% to $12.6 million, despite the fact that China, one of the fastest growing markets, had essentially flat sales in the third quarter compared to the same quarter last year. Our global sales to Toyota and Honda almost doubled as we increase our penetration and are awarded new platforms.

In the third quarter we won four new sensor programs, including a Generation III Pedal Module award from our largest Japanese automotive OEM, insuring our continued strong relationship with this prestigious customer well into 2015 and beyond. We also continued to make inroads into new commercial markets with our sensor and actuator applications. This will take our products into non-passenger vehicle applications, with opportunities to generate new sales in 2010 and beyond. We are experiencing a significant increase in requests for samples and quotations for both existing and new sensor products, driven by emission regulations and need for advanced engine controls. Needless to say, these initiatives are keeping our engineering and new product development groups extremely busy.

Continuing with the Components and Sensors segment, our electronic component sales in the third quarter were also up 5.4% year over year. Weak demand from our communication infrastructure market and distribution channel was more than offset by sales of our electromagnetic and piezoceramic products. Piezoceramic products are a profitable and growing part of our electronic components, with third-quarter growth driven primarily by medical ultrasound and defense and aerospace applications. In communication infrastructure we recorded 58 new frequency and ceramic filter design wins, an increase of 23% from 47 design wins in the third quarter of last year. These wins were in 3D wireless, WiMax, satellite, and wireless computer applications, among others. We believe design wins are a leading indicator of future program revenues.

Our EMS sales in the third quarter were $97.5 million, down $8.5 million from the third quarter of 2007. Hewlett-Packard sales, as expected, declined by $13.5 million due to the previously discussed end-of-life process which started in early 2007. Excluding Hewlett-Packard, EMS sales were up 6.6% primarily due to increased sales in the defense and aerospace market. EMS business reported four new wins, one each in medical, defense, industrial, and computing areas. Financial constraints on smaller Tier Three and Tier Four competitors are presenting new business opportunities for our EMS business. However, we remain very selective in pursuing new EMS opportunities to insure our strategic focus and financial targets.

Looking ahead, fourth quarter continues to be a challenge from a macroeconomic perspective. Many of our customers, mostly in the US and Europe, are lowering their sales projections and reducing their demand to further tighten their inventory levels. Forward visibility of revenue projections from some of our customers and industry forecast groups, especially in automotive, is very limited. However, progress in our business diversification efforts and continued success in business development activities in Asia have helped to partially offset the negative impact from the global economic slowdown.

Although we are taking proactive actions to further improve our cost structure, program push-outs and extended production shutdowns by our customers will adversely impact our financials in the fourth quarter. We see a 4% to 8% sequential drop in our fourth-quarter sales, primarily driven by macroeconomic issues and end-of-life Hewlett-Packard sales. This will put our full year sales at the same level or slightly higher than last year. Our electronic components and sensor and actuator sales in Asia are projected to continue their year-over-year growth in the fourth quarter. Full year diluted earnings per share are now expected to be in the range of $0.71 to $0.76 per share, excluding the tax credit booked this quarter and the restructuring and related costs.

We are continuing to move forward and stay focused on generating positive earnings and free cash flow on the one hand, and judiciously investing in growth initiatives through design and development activities on the other. This we believe will further strengthen CTS's position when the global economic environment begins to improve and our new programs and design wins begins to come on stream.

And now I will turn the meeting over to Donna Belusar, our CFO, who will provide further details regarding our financial results. Donna?

All right. Thank you, Vinod, and welcome to everybody on the call. Our third-quarter 2008 finished with sales of $170 million, down 2.7% from sales in third quarter 2007, and net earnings of $7.6 million, which are slightly lower than the net earnings of $7.8 million in third quarter 2007.

We had two independent actions in the third quarter of 2008 which impacted our financial results. The first was the recognition of a non-cash tax benefit of $4 million resulting from the release of a valuation allowance at one of our Asian facilities. And the second came from the initiating of certain restructuring actions of $3.5 million pretax charge in the third quarter. Bottom line, we delivered $0.21 per diluted earnings per share in third quarter 2008, up from $0.20 in the third quarter 2007.

Now, let me provide you some further insight into our third-quarter 2008 details. As mentioned, our top line sales were $170 million. Gross margin as a percent of sales was 19.6% in the third quarter of 2008 compared to 19.3% in the third quarter of 2007. This improvement in gross margins was due to favorable segment sales mix, as a higher percentage of total sales within the Components and Sensors segment, which inherently has higher gross profit margins than the EMS segment. Sales in Components and Sensors segment was 43% of our total sales compared to 39% in third quarter last year, whereas sales in the EMS segment represented 57% of total sales compared to 61% in the third quarter of 2007.

Selling, general and administrative expenses, or SG&A, were $20.8 million, or 12.2% of sales in the third quarter of 2008 versus $19.8 million, or 11.3% of sales in the third quarter of 2007. Research and development, or R&D, expenses of $4.5 million, or 2.7% of sales in the third quarter of 2008, increased $0.5 million year over year. The SG&A expenses were up from third quarter 2007 primarily to support slightly higher year-over-sales in the Components and Sensors segment. And the R&D expenses were higher versus the third quarter 2007 primarily due to engineering and development spending devoted to the development and launch of our new commercial growth initiative. Overall, we continued to focus on expanding applications and new product opportunities, as well as current product and process enhancement.

As mentioned, in September of 2008 we initiated certain restructuring [actions] to transfer and consolidate specific operations to further improve our cost structure. These restructuring and restructuring-related pretax charges incurred in the third quarter were $3.5 million, or approximately $0.06 per diluted share. The remaining fourth-quarter 2008 restructuring charge is expected to be approximately $1 million, or $0.02 per share in the fourth quarter 2008.

The resulting operating earnings were $4.9 million, or 2.9% of sales in the third quarter of 2008 compared to $9.9 million, or 5.7% of sales in third quarter 2007. The decrease in operating earnings resulted primarily from restructuring and related charges in the current period and higher components and sensor resources requirements as previously stated. Excluding the restructuring and related costs, adjusted operating earnings were $8.4 million, or 4.9% of sales in the third quarter 2008.

Total interest and other expenses in the current quarter were $0.9 million, approximately $0.9 million higher than the same period last year, primarily due to unfavorable foreign currency translation impacts, lower interest income, and slightly higher interest expense associated with increased debt. During the third quarter of 2008 we recognized a discrete non-cash tax benefit of $4 million, or approximately $0.11 per diluted share related to the release of a deferred tax asset valuation loan as we have had continued sustained profitability of one of our Asian locations.

Also during the third quarter we changed our expected full-year effective tax rate, excluding the discrete tax benefit just mentioned, from a previous estimated full-year rate of approximately 22% to a lower rate of 19.8% for the full year. The 2.2% tax rate change decrease is driven by a combination of higher earnings in lower tax jurisdictions and lower earnings in higher tax jurisdictions.

Our overall business performance resulted in net earnings of $7.6 million, or $0.21 per diluted share in the third quarter of 2008 compared to $7.8 million, or $0.20 per diluted share in the third quarter of 2007. Adjusted diluted earnings per share, which excludes the restructuring and related charges of a negative $0.06 per share and a positive benefit of $0.11 per share from the discrete tax benefit, is $0.16 per diluted share.

Now let's please shift our focus to CTS's balance sheet performance and the strength of our financial condition. As the financial crisis grips the global economies, our balance sheet remains strong. Our debt levels are conservative and we have available capacity in our existing line of credit. In addition, our business units continue to generate positive cash flow, which allows us flexibility during these challenging economic conditions.

Since the beginning of the year we've funded several important strategic activities and operational improvements. These include $21 million during the first quarter of 2008 for our two strategic acquisitions, Tusonix and Orion, about $14 million year to date for capital expenditures as we continue to invest in future growth initiatives, and we completed $7 million of stock purchase program. With positive net cash provided from operating activities, as of September 28, 2008, we had nearly $54 million and cash equivalents.

Our debt structure consists of two primary elements, a $100 million unsecured revolving credit agreement, of which we had $40 million drawn upon at the end of third quarter 2008, and a $60 million convertible senior subordinated debenture. As of third quarter, we were well within all debt covenants of a maximum total leverage ratio, and a minimum fixed charge coverage ratio. Subsequent to third-quarter close, we recently purchased through open-market transactions at a discount $24 million of the $16 million convert. These negotiated discounted purchases will be reflected in the fourth-quarter 2008 results. Therefore, the convert now has a projected remaining balance of $36 million.

In this tough economic environment we continue our focusing on managing controllable working capital, which includes accounts receivable and inventory, less accounts payable. At the end of third quarter controllable working capital at $112.6 million, or 17% of the annualized sales, was higher than our objective and we are taking actions and have them currently under way to lower it as we go forward. This is approximately a $22 million increase versus the year-end 2007 and is primarily due to the inventory growth from our recent acquisitions, along with slightly lower payables. Accounts receivable is in line with our expectations, despite the tightening of the financial markets.

Considering the challenging economic environment, we expect our full-year free cash flow, which is net cash from operations less capital expenditures, to be in the range of $15 million to $19 million, which is lower than our prior estimate. We will continue investing in selective, high-return capital expenditures and anticipate the full-year 2008 spending to be approximately $17 million.

We finished the third quarter with a strong balance sheet and positive results overall.

With that, I'd like to open the call up now for your questions. Thank you.

(OPERATOR INSTRUCTIONS.) John Franzreb with Sidoti & Company.

My first question is regarding the accelerated spending in the R&D line to support some of the programs you want to use for growth next year. In light of market conditions, is there any plans maybe to scale back that spend? Can you just talk about what you're spending, what your expectations are for next year, and maybe also update us on what your CapEx expectations are for 2009?

John, we continue to look at all of our expenditures and where we believe we can lower the expenditures without hurting our future growth prospects, we are doing them. In R&D, if there are expenditures which are being incurred to launch specific programs for either the diesel commercial markets which we have won where the sales are going to start in mid-2010 time frame, or programs which we are working very actively with key customers, like Toyotas and Hondas of the world, we are going to continue to incur that to make sure that we have a very strong growth in 2010 when those programs will be launched. Other than that we are looking at every expense and every category to see if we have room to further improve that.

Commenting on your capital expenditures, we are going through that process right now. We believe we will be able to bring our capital expenditures down in 2009 compared to 2008, more in line with what we have done in 2006 and 2007.

Okay. So the R&D takeaways, it's pretty much the spends based on the visibility of the project and maybe something that you didn't have lined up? You're going to -- you'll be scaling back a little bit on that? Is that the right read there, Vinod?

That's the right read. That's the right read. If you look at, John -- we are continuing to be very optimistic about the new business we are winning and increased penetration and the market share. The slowdown we see in fourth quarter and early 2009 is primarily macroeconomic-driven. So we want to keep that in mind and aggressively reduce our costs, but we want to also be mindful that the business which we are winning that we are able to launch those projects successfully in 2010.

Okay. Could you update us on what you're hearing from the EMS customers, particularly in the aerospace sector, Vinod? What's going on there?

In the aerospace sector what we are hearing is that the piece of the business which is on the defense and military side is staying strong, but the side of the business which is more commercial, commercial side of the business, that is weak and partly because of the Boeing strike. And as that settles we expect some improvement in that side of the business going forward.

Okay. And regarding the repurchase of the converts, A -- could you give me what the impact that will be on your EPS, especially for the fourth quarter in the guidance, and B -- just talk a little bit about your expectations on refinancing the debt when it matures next year? Or do you expect to retire it all? What are your thoughts there?

John, let me answer that for you, but I'd like to do it in conjunction with currency. When we look into the full year and we address specifically the fourth quarter, looking ahead, we see the volatility in the currency arena which is going to be impacting us in the fourth quarter. That impact is offset with the transactions that we recently did within the convert market, in terms of buying these open-market transactions. So like I said in my current discussion, we did have a convert of $16 million recently, subsequent to the third quarter close, in open-market transactions. We bought back some of those and we currently have a balance of $36 million. The benefit we will see in the fourth quarter will help mitigate the pending transactions -- translation impact that we see in the fourth quarter.

Okay, got it. Could you -- so for modeling purposes, can you separate the two for me then?

John, it's in the $0.04, $0.05 per share magnitude, the discount and the currency translation negative forecast. So if you look at those things as offsetting each other, the guidance we believe truly reflects the operating environment.

I'm just saying that, say, currency switches on us, I wanted to know what the EPS impact was, the reduced share count.

It's in the $0.04, $0.05 --

Yes.

-- per share range.

Okay. And your thoughts about the debt next year?

As Donna indicated, we only have $36 million left of the convert and we're obviously going to watch the markets, but between our unutilized portion of the revolver and the cash available in the Company, we believe we should be able to take care of that remaining $36 million next year in the May timeframe.

Great. Thanks a lot, Vinod.

Kevin Kessel, J.P. Morgan.

Donna, I might have missed this, but could you provide for the quarter the cash flow from operations and the CapEx?

Okay. One moment. In terms of the CapEx, we had approximately $4 million CapEx within the quarter. I know we typically get the question of how much was depreciation and amortization within the quarter, which was approximately $4-point -- boy, I'm sorry, tiny print here -- but $5.7 million was our depreciation and amortization for the quarter. CapEx was $4 million.

Cash from operations was --

And our cash --

-- $8.7 million.

Yes.

$8.7 million.

Yes.

Okay. And then when you said -- I think you said, what, for the year you were expecting cash flow from operations to be $15 million to $19 million?

Our free cash flow would be --

No, that was free cash flow.

Free cash flow.

That was free cash flow, okay. That's what I thought -- I thought I heard it as cash flow.

No, no. Free cash flow would be $15 million to $19 million. And that would include a CapEx of around $17 million.

Got that, okay. Perfect. And then, again, when you look at the convert that you started to take out during the quarter, can you say what the average discount was that you were able to buy back that $24 million at?

It was 7%, 8% range.

Yes.

Okay. And then in terms of the overall balance sheet, once this convert comes off the balance sheet and it either -- anywhere between now and the end of I guess May of next year, what's your thinking in terms of the overall right leverage for the Company? Would you still want it to eventually get back to kind of a 25% to 30% debt-to-capital ratio, or would you be comfortable running it much less levered if the credit markets weren't accommodating, let's say, when it comes time for that to disappear entirely?

Kevin, that's a tough one to answer, because our answer on the one hand depends on the credit market but frankly, on the other hand, depends on what's the use for that cash. If we find growth opportunities, whether they are organic or acquisition-related, which we find very attractive then obviously we have said in the past that [sufficient frontier] for our capital structure probably indicates that we should have debt-to-capital ratio around 25% range. But that all depends on what are the growth opportunities. And we will consider them to determine whether we want to lever up from that point or not.

Okay. And then, Vinod, you had mentioned I think in your prepared remarks that you guys have doubled the Toyota and Honda sales.

That's correct.

Can you provide us like what is a reference point? You've doubled them -- is it year over year? And then what is the -- can you give us a sense for what the absolute number is on a combined basis for those two in terms of what we're looking at here for dollar-wise exposure?

I think that the total Honda and Toyota sales in the third quarter were approximately in the range of, and as I talk I'm looking for them, $7 million range -- $6.5 million, $7 million range. And I think what I want to highlight with that is automotive markets in 2008 are running 10% to 20%, somewhere in between 10% to 20% lower than last year. And we expect our automotive sensor and actuators to be up on a full-year basis probably close to 6%, 7%. So we're offsetting a decline of 15%, 16% in the market and are still able to report a 6% to 7% year-over-year growth and that is primarily because on the one hand we are penetrating new customers, and on the other hand we are continuing to launch programs. So there were programs, new programs, which were launched throughout '07 which we are benefiting this year because they are more annualized sales coming from them. And I think that's one thing we would like to highlight, that although we are operating in a very tough industry like automotive, CPS is still able to grow the top line despite an extremely difficult market because we are feeling pretty good about our new products and customer penetration.

And the doubling, was that a doubling from a year ago, so the two combined were in the $3 million to $4 million range or -- ?

Yes. I was looking at the sales in Q3 of last year versus Q3 of this year.

Okay, on a quarterly basis. So then if I do the math in my head right, based on auto being about a quarter of your business, I guess that would imply that these two customers that obviously you're doing a good job growing share with are about 15% of the total automotive exposure? Is that right?

Say it again?

So I'm looking at the $7 million and then I'm taking what your total automotive exposure likely is for the Company -- I'm just using 25% on $170 million -- and then I'm saying about 15% exposure of Toyota/Honda overall, like they account for 15% of your total automotive business today from probably --

That's probably not too far from the numbers. But, again, as we build new platforms we hope that number to grow. The other thing, since we are talking about customer concentration, I believe this is the first quarter ever in our history that no one customer of CTS is more than 10% of our sales. And so the other story here is that the Company is dramatically more diversified today than it has ever been in its history. And that is one of the reasons which is providing us a floor, so to speak, against the volatility of the economic conditions.

Okay. And that was actually my next question. On HP, I know that you cited that they were -- what they were down, so in the quarter then they fell, what, $4 million sequentially?

Yes.

Yes.

Okay. So that brings their overall exposure to -- I don't think I have it in front of me. Let's see here. They were $20 million, right, last -- I'm sorry, was it $20 million?

Yes. Right.

Okay. So they're $16 million --

Right.

-- give or take. And Motorola has remained, obviously, below 10%.

Right. And so HP, this was the first quarter HP as a percent of total Company was just below 10%.

Got it. Okay. And then just for Donna, the overall inventory exposure that CTS has in inventory reserves -- there's been a couple of companies that have had to come out so far, particularly on the EMS side, and increase their inventory reserves because of weakened customer states and conditions. Is that at all a concern right now of yours or do you feel right now that the reserves are accurately reflecting the current environment?

And then, lastly, on taxes if you -- I just wanted to clarify that you said 19.8% going forward for the tax rate.

All right. Let me do the tax rate first. Yes, it was 19.8% for the full year 2008 going forward.

In regards to the reserves, there are -- we have no exposures on our inventory reserves. I'll tell you, Kevin, we have a very tight process in terms of focusing on the liquidity and our balance sheet within the Company. I have weekly updates overall on many of these topics and particularly on inventory, because we do keep ahead of what's happening with our competitors out there. But there are no exposures on our inventory.

What about stock option expense? I didn't hear what that was in the quarter.

Stock option expense was $18,000.

Okay. And that's primarily in SG&A?

Yes, it is

Great. Thanks so much

Hendi Susanto, Gabelli & Company.

Hey, I have a quick question. Can you elaborate more on your visibility into EMS market and what kind of sales decline estimate did you bake into the fourth-quarter outlook?

The visibility is probably several notches less these days than historically we have experienced. But as we have focused more and more on non-communication, non-computer markets, we believe our volatility in that market would be less and less, because we tend to believe that shipments into defense and medical tend to be a little bit more predictable than industrial and computers and communication market. So compared to our other markets, EMS probably is more stable in the fourth quarter. The only exception I would say is Hewlett-Packard, where the exact timing of the shipments becomes less predictable, but excluding HP end-of-life products we have probably more stable sales going forward into Q4 in EMS than other markets.

Greg Weaver, Invicta Capital.

I have a couple left. Most of my questions have been answered. What -- in terms of HP -- I'm sorry, I've been away from the story for a little while. What does the tail-off there look like and is it going to zero or just to some reduced level?

No, I think it's not going to go to zero. We'll continue to keep some higher margin maintenance and support kind of sales with them. And we continue to talk to them that if they have any opportunities which fit with our model which is lower volumes and more variety kind of products, then we will continue to bid on that kind of business. But this particular business we had was lower margin and did not fit our EMS model. So we had been talking about this for the last couple of years, that it's continuing to gradually ramp down.

So for calendar '08, can you -- how much of that is -- of their business is in your mix here, about $70 million-ish?

Yes. I think in 2008 the number is probably close to $70 million.

So for next year, how much do you think that will tail off?

Well, if I look at the run rate for -- between '07 and '08, my expectation would be that we would probably do close to $30 million in HP. And then we will continue to grow our target areas, like we have been doing, which are industrial, medical, and defense.

Okay.

And communications.

Right. Vinod, can you give me a sense of how the mix is there in your EMS business now in some of these new target areas, as a percent?

Yes. I think the target areas are probably approximately half of our business today. Three, four years back they were zero. So target areas are probably half and the other half is a combination of communication and computers.

Okay. That's helpful. And on the Component side of your business you've made a few acquisitions here. I guess I'm just trying to get a handle on what's the organic growth rate there year over year (inaudible)?

Yes. Good point. We had -- on the automotive sensors and actuators, everything we reported is organic. And I believe that for the full year automotive business will be up 2.5% to 5% range, and it's all organic. As I was commenting earlier that, despite 15%, 18% drop year over year in automotive, we will still be able to report a 2.5% to 4% kind of organic growth despite an extremely difficult market in automotive sensors and actuators.

If you look at electronic components, that's where we made the acquisition, our growth there is close to 18%, 17%, and probably 70% of that is acquisition and the remaining is organic.

Okay. So the segment as a whole year over year is organically growing still?

Oh, absolutely. And that's exactly -- I was trying to highlight that if you look at that segment, year over year we're growing probably 8% and a little less than 5% of that 8% is acquisitions, and the remaining approximately 3.5%, 4% is organic, despite the fact the industry is down 15% year over year.

Got you. Okay. That's helpful. Thank you very much.

We have a follow-up from Kevin Kessel.

I just wanted to clarify, Vinod, I think last quarter you said that the Big Three were $18.5 million in revenue for CTS. I just wanted to get, first of all, update on what that was now here in the third quarter.

Kevin, I'll have to cycle back to you. I know that that number is continuing to go down, but I don't have that information handy. Can we call you back after this call? Mitch will call you back and give you that.

Yes, of course. Do you have what automotive was as a percentage of sales? Or maybe you have that, just the overall breakdown as a percentage of sales for the segments?

Yes, I think we have automotive as a percent of sales. Automotive in the third quarter is 26% of the total company, compared to 24% of the Company in the third quarter of last year.

Okay. So auto is 26%. And then what about the remaining?

Communications is 22%; computers is 12%.

Computers are 12%.

Industrial is 13%; medical is 8%; and defense has moved up to 13%; and the remaining 6% is just other.

I got it. So looking at that I guess at the end of the day, just assuming that the Big Three, maybe they decline. I'm just going to use them as a constant. Them plus Honda and Toyota is about $25 million or so and your auto in total was closer to $44 million. So I'm just trying to think. The remaining 40%-plus, or 50%-plus, of the automotive exposure, is that just very diversified across numerous companies?

That is another thing we have tried to highlight, that we are extremely diversified in that area. So we have customers like Nissan and we have now started penetrating Chinese automotive manufacturers, like Chery. And so it's an extremely diversified group.

We also are now taking, as you know, our product to motorcycle manufacturers, small-engine TPS, and I would say that our small-engine TPS sales were down most of the last 12 months because of one of our key customers, Mikuni, had stopped buying from us. We kept hearing that they are bleeding inventory, they had too much inventory. And I'm pleased to report that this last week's order board from Mikuni jumped up and we got a confirmation that they have finally bleeded -- finished all their excess inventory and they have come back on stream with their regular orders.

And so we do go beyond passenger vehicles into some other applications. And we have recently won business and we're very optimistic about our product going on turbochargers. And these turbochargers are not only light vehicles or passenger cars, but potentially on the heavy duty applications or diesel engines too. So as we go forward we would be even less dependent on the passenger cars per se when we talk about our sensors and actuator business.

Okay. That's very helpful. And then just again I guess going back to that customer question I was asking Donna earlier about EMS, at the end of the day here there's always speculation amongst the Big Three and the overall outcome for that, what will happen with them, whether it's mergers or who knows what. But at the end of the day, if worse comes to worse and one of them does end up filing a bankruptcy, is CTS protected in that event? Is there any exposure?

Well, there may be some exposure, but you know a lot of our Big Three sales have begun to go -- instead of directly to Big Three it goes to a Tier One. So our receivables are actually -- in that case will be from Tier One and not Big Three. But we would have some Big Three exposure, obviously.

Okay. But it is (inaudible) you're saying would be the majority of the receivables exposure? Like the Tier One -- you're talking about Tier One suppliers?

It may be beyond that. It may be people like Borg Warner. It may be (inaudible) in Europe, people like that.

Okay. But numerous suppliers into them, as opposed to them directly?

That's right. Really our concentration -- we really don't have much concentration. And as you know, beyond the top two customers, we frankly don't even have a customer which adds up to even 5%. So it really falls very quickly after Motorola and Hewlett-Packard, it really falls at 5% or below category.

Got it. And I just want to understand here. In your fourth-quarter guidance that you've provided, what is the implicit expectation then for your largest customers in terms of where that will go? So if it's down to $16 million now and I think that you just said that you expected to kind of be at a $30 million run rate in 2009, does that imply that we're getting there in the fourth quarter, like it should drop pretty meaningfully? Or do you just expect -- I'm just wondering kind of what range you have in for them as part of this guidance so I can understand how the rest of the business is performing.

Kevin, honestly I don't have further breakdown by customer of my guidance.

Okay. But you would expect them to be down I guess?

Not necessarily. I mean, I don't know that because some of these customers, the quarters can be uneven. So directionally it will be down, but I can't definitively say that -- where that number will be. I guess it would be a fair estimate to say they will be down.

But I guess implicit in what you said earlier, you would -- you were looking for kind of like a $7.5 million per quarter sort of a run rate in 2009 for that customer if they're going to run at $30 million?

That's correct.

Okay. That's less than half of where we're at now. That's why I'm just trying to figure out how fast it ramps down to that. But appreciate it. Thank you.

Brad Evans, Heartland.

Vinod, I'm just curious if you could just -- I guess looking at the third quarter here, you're SG&A and R&D ran at $25.3 million. What are your thoughts as to how that number looks fourth quarter or first quarter as we start to benefit from the restructuring?

I can tell you, Brad, that directionally we will take that number down, given the economic environment and the restructuring we have done. It's difficult for me to quantify the drop in Q4 and Q1, but I can tell you we will expect the number to go down.

I'm sorry if I missed this number, then. Did you give an annualized savings that you expect to benefit from that restructuring charge?

We did -- I believe we said that the payback is --

A two-year payback.

A two-year payback. So if it's approximately a two-year payback, we're still looking to expedite that and obviously the savings would -- some of the savings would fall in cost of goods sold and some of the savings would fall in the operating expenses.

Oh, sorry, so let's be clear. So the dollar savings you expect from the $3.5 million charge is three -- is basically one for one and you expect to realize it over the next two years?

Right. So you could assume that the annual savings will be $1.8 million range to $2 million range. Half of it, so it's a two-year payback, means half -- roughly half of that would be the annual savings.

So how much of that charge is associated with people versus the leasehold? And I'm a little confused as to why you wouldn't get more of it immediately as it looks like it -- I mean 60 people I guess is a pretty big number.

$1.9 million of the charge is people-related. And the people will exit over a period of time, so it's not a set date when everybody is affected. And the remaining is mostly leasehold or -- you know, we also have a small location which we are closing in California and consolidating that operation into our Tucson operation. What we are not counting, Brad, is that it also frees up a facility in California, which we don't -- which we own. And essentially a fully depreciated facility, so whenever we can completely clear out from there and sell it we'll expect some gain on the sale from that, which we don't normally count those kind of things when we talk about payback.

Just shifting gears for a second, the convertible redemption, did you redeem that with cash or did you draw on the revolver for that?

Given the timing of it and responding to the request, we drew upon our revolver.

So can you just paint a picture of how we should think about the fourth-quarter balance sheet? I mean, I know it can be -- if you want to give us a range that would be great. But you can you just talk about where you expect cash and revolver borrowings come December 31st?

Hard to do. You know, I'll add to the comment here. We don't really distinguish between revolver and cash, because what really happens is that in the US the excess cash just flows into the revolver and the revolver goes down. And then we -- when we pull it, it goes up so the revolver and cash becomes kind of combined. It's obvious that our convert will be no higher than $36 million. Exactly where the revolver would be -- I guess we can add up the free cash flow and take out the dividend payments and give you probably a rough estimate of where the revolver and debt will be. I expect it to be better than where it is. The total debt obviously is going to be lower, in my opinion, at the end of the year than where it is at the end of the third quarter because we will be generating free cash flow.

Okay. I'm sorry. I know there was a discussion on inventories, but just in general in terms of working capital, it would seem like you have an opportunity. I mean, your cash conversion cycle has come up from 46 days a year ago to 62 days in the third quarter here. Can you -- I imagine you've got a full court press on working capital and it looks like it could be a somewhat meaningful source of cash. Can you quantify what you think you might be able to liquidate off the balance sheet from a cash flow perspective?

No, I tend to agree with you that that can be a meaningful source of cash in 2009, but I would like to think that a lot of inventory build-up is short-term in nature. And I will define short term as three to four months kind of a time frame. Some of the inventory the customers have committed. It's there. They will have to take it from us. But they have the flexibility whether they take it now or whether they take it in a few months. And as some of the customers pushed out their orders, we did end up with a little bit more inventory than we were expecting. And so, yes, I expect working capital to be a source of cash flow in 2009 for us.

Okay. I realize that visibility isn't good right now. I guess we're staring into the abyss here with this credit crisis. And I don't think many people expect the economy to get better any time soon. But considering the fiscal and monetary stimulus globally that's being applied to the global economy, I guess there might be hope that the economy might start to get a little better come maybe latter part of the first quarter into the second quarter, maybe. If that were to be a working proposition or thesis, how would you gauge CTS as a consolidated entity's ability to grow revenues and earnings in 2009, Vinod?

You know, it's a big 'if' which you talked about macroeconomic. Everybody we talk to tells us that don't expect a lot in the first half of 2009. And people generally expect improvement in the second half of 2009. If I step back from just the quarter over quarter and the credit markets and all the turmoil, I personally feel very positive as to what the Corporation has done from a top line growth and a bottom line profitability despite everything. I mean, people tell me that you are in markets which are just absolutely horrible markets, like automotive. One of our analysts commented this morning that we work in automotive industry, which is horrible. Well, with that horrible industry dynamics, which lowered the production volumes by 15%, 16%, 17%, CTS has been able to demonstrate organic growth in the top line. So I feel very good about that. I feel very good about the inquiries we get from other OEMs while inviting our engineers to come work with them to develop the next generation of engines and platforms. Our research and design and development groups are more busy today than they were any time in the last 12 months. So I feel very positive about the new business generation, relationship with the customers, and the future of this company. What is difficult for us to put our finger on is the exact timing of the economy turning around and to some extent we are a little bit less certain about the exact timing of the program launches by the customers.

So if you can, Brad, if you can broaden that time frame to include 2010 in it, I will tell you that we will be on more platforms and very exciting opportunities in our sensors and actuators business. But we do have the risk that some of the program launches, you know, the customers may push them out. But we are designed in, so when they launch them we know we will be there. However, it's difficult for us to sometimes predict whether the customer would launch their platforms in the quarter when they originally thought they will, or they may push it out a quarter or two, given the economic conditions.

Then, Vinod, can I just ask -- I know that in the past you've -- I think it's evident that there aren't great synergies between the components and sensors and the EMS business. And I just wonder with the way the market is -- I realize we're in a tough environment, but looking at the way the stock is reacting today, I guess we're -- the stock really hasn't performed for a long time, and not withstanding the fact that you've done a great job of repositioning the EMS business, especially with the HP exposure there, coming down. And the foundation of that business is obviously much stronger than it has been in the past. And clearly your efforts on the Components and Sensors side speak for themselves. But does the --does at some point does the Board reconsider the merits of having these two businesses that together -- when the lack of synergies are fairly evident?

Brad, the Board looks at strategy on an ongoing basis and they measure us and we have a target not only from free cash flow point of view, but from return on invested capital point of view. So that's a discussion -- it's a dynamic subject and it's always in front of the Management and the Board. And so it will continue to be evaluated as we go forward.

Okay. Thank you.

Follow up from Hendi Susanto.

Vinod, you mentioned about the turbo smart actuator again and based on the last information you think that the shipment may happen in early 2010. Do you have any update on that and do you still expect that to be out in early 2010?

Hendi, we will actually probably start shipping some turbo charger sensors in 2009, in late 2009. But we are pursuing some even larger opportunities and working very closely with a couple of turbo charger manufacturers which we continue to very optimistic about begin shipments on a larger scale in 2010.

And to the presenters, no further questions in queue.

I would like to remind our listeners that a replay of this conference call will be available from 1:30 p.m. Eastern Daylight Time today to 11:59 p.m. on Wednesday, November 5, 2008. The telephone number for the replay is 800-475-6701, or 320-365-3844 if calling from outside the US. The access code is 963049. And thank you for joining us today.

Ladies and gentlemen, that does conclude your conference. Thank you for your participation. You may now disconnect.