Daktronics Inc (DAKT) 2009 Q2 法說會逐字稿

Good day, and welcome, ladies and gentlemen to the Daktronics financial year 2009 second quarter earnings results conference call. As a reminder, today's call is being recorded Tuesday, November 25, 2008 and is available on the company's website at www.Daktronics.com.

I would now like to turn the program over to Mr. Bill Retterath, Chief Financial Officer for Daktronics for opening remarks. Please go ahead, sir.

Thank you. Good morning. We appreciate your participation in our second quarter conference call. We'd like to make some preliminary comments about the quarter, after which we'll open it up for a limited timeframe for questions.

I would like to first offer our disclosure cautioning investors and participants that in addition to statements of historical facts on this call and our quarterly news release, contain forward-looking statements reflecting our expectations and beliefs concerning future events, which could materially affect our performance in the future. We caution you that these and similar statements involve risks and uncertainties, including changes in economic and market conditions, management of growth, timing and magnitude of future orders, and other risks as noted in our SEC filings, which may cause actual results to differ materially. Forward-looking statements are made in the context of information available to us as of the date of this call. We undertake no obligation to update or revise such statements to reflect new circumstances or unanticipated events as they occur.

With that, I would like to turn it over to Jim Morgan, our Chief Executive Officer, for some highlights on the quarter.

Good morning, everyone. We are very pleased with the financial results this quarter. Our top line was strong. We had solid gross profit margins, operating expenses were kept in line, and we were able to generate in excess of 11.5% operating margin for the quarter. And first and foremost, I want to thank all of our employees for the great effort this quarter and for the great job generating these nice results.

I would like to review how our sales revenue breakout amongst our business units for the quarter. As is typical for us, our second quarter is characterized by the fall sports season rush, and in line with this, our live events business unit led the way with an outstanding performance this quarter. Of the approximately $170 million in revenue, approximately 46% was live events. International contributed another 7% of revenue. And operation of these two areas are highly aligned internally as we manufacture most of the product for these two in the same factory here in Brookings, so we tend to look at them together operationally. Interestingly enough, even though both of these areas tend to do a lot of large projects and are thus each quite lumpy, when we look at the sales combined for the two, they are very consistent at 53% of our revenue, both for the quarter and year to date.

Commercial contributed 28% for the quarter, and 29% year to date. Of that, billboard is about half, so in the 15% to 16% of total revenue. Our schools and theaters unit had 13% of the revenue for the quarter, and 12% year to date. Transportation was a little over 5% of the revenue both for the quarter and year to date. A little more on orders, taking into account the backlog and the eminent orders not booked, orders remained strong in live events. Our orders for our Galaxy product in our commercial business unit, although ahead of last year, were somewhat hampered in the quarter by lead times for the product, which stretched out on us. The same is true for orders for our standard scoreboards in our high school market, which also had lead times stretch out. That's in our schools and theaters business unit. We have identified some specific operational areas where we can improve on to achieve better lead time performance on the mainstream products in the future.

The fundamental drivers of our business remain unchanged. We continue to benefit from the drive towards large HD display in sports venues. In addition, we have not seen economic impact in the large sport venues, but keep in mind that many projects we are booking today have been planned and committed to in prior periods.

In the commercial side our displays are still a very effective advertising medium, and that does drive commercial sales. In transportation, the use of electronic displays allows for better communication with drivers and are part of the ITS system. And again, as we said in our release, we expect that there will be ongoing investment in our transportation infrastructure as we go forward.

As we look at our orders in our two largest business units to date compared to our projections going into the year, live events orders are stronger and commercial orders are weaker. And this is indicative of the challenge of trying to predict the various aspects of our business, but our ability to adapt to this also shows our ability to adapt as a company to the opportunities that come along. And this year certainly is not unique in that regard, that our business is always very dynamic.

In terms of cost containment, as we go forward in these less than certain economic times, and with the projected declines in second half revenue, our approach is to be very strategic and thoughtful about cost cutting. Our overall approach will be to reduce costs or delay expenditures in areas that don't support generating orders or sales in the near term or are not otherwise considered strategic to our future. And we look at this as an ongoing process of balancing our resources against the opportunities that are out there. And I would emphasize that this is a process and not an event.

Our initial approach would be to achieve the desired reduction in head count through attrition and we have clamped down on hiring, and outside hiring will be constrained to filling critical roles that we cannot otherwise cover with existing personnel. And we'll continue to assess where we are as we go forward and we'll make adjustments as needed. We'll have better visibility to this at the end of Q3.

On the manufacturing side, we'll also be bringing in a portion of our outsource work and eliminating overtime, for the most part. These are two buffers that we use when work increases and it's natural to reverse those buffers when things slow down. One of the factors in our Brookings factory that we've discussed before is that the labor force is constrained here in Brookings. And with the billboard workload being reduced, we are shifting some of the live events work to the Sioux Falls billboard plant. We'll be adding paint capability to our Sioux Falls plant to increase the flexibility of that plant to do more non-billboard work. And this will help us meet delivery requirements for live events work in Q3 and Q4.

It is important to note also that Daktronics is in a very solid cash position. We're essentially debt-free with approximately $9 million in cash on hand at the end of the quarter. Our goal is to come out of this economic downturn stronger than we went in versus the industry and versus the competition. We'll continue to invest, although in some cases at a somewhat reduced rate from the original plan, in product development and in process improvements that we've targeted to improve our productivity in a number of areas. We are continuing our process of restructuring our service business to execute more effectively for our customers and operate more profitably through better processes and procedures.

With that, I'll turn it over to Bill for some comments on the numbers.

Thanks, Jim. Starting out, I want to go over our growth outlook for each of our business units. We still see sales in the live events business unit continuing to outpace our expectations that we set at the beginning of this fiscal year. Leading off the growth is the recently announced new Meadowland stadium for the Jets and Giants. Just to recap where we are on this project, we booked $13 million in the second quarter, of which a little bit more than half is still in our backlog at the end of the second quarter. We have since booked an additional $27 million in November, which would fall into our third quarter. And then finally, we're expecting one final change order for about another $6 million, making the total contract value approximately $45 million.

We were also verbally awarded two additional transactions for major league baseball facilities that are still subject to contract completion, and those two total approximately $16 million. We expect to book them both this quarter. Keep in mind that awards on these two major league baseball facilities are not contractually committed at this point and are subject to some level of uncertainty as we move forward.

We're starting to see less new construction work in our pipeline, but we do have a number of transactions in the pipeline for the rest of the year that could exceed $5 million each. The likelihood of all these occurring this fiscal year is not high, but the important thing to note is that they are all existing facilities.

In closing, we could see a growth rate of order bookings for the year of more than 40% in live events and we should end up definitely exceeding our goals for large projects that we had set forth at the beginning of the fiscal year.

Moving on to commercial, over the second quarter of last year, we saw orders decline by 16% compared to the second quarter of last year. All of that decline was in the billboard business. We did not see this decline coming this suddenly, although we cautioned people in the prior quarter that this business could be affected by the economy. There's still a lot of uncertainty out there. We really don't know at this point what our other large accounts may or may not do on a go-forward basis. But we are doing our financial planning under the assumptions that orders will decline, with all significant customers in that niche.

As we stated in the press release, year-to-date orders for commercial are almost flat, and so for the year we'll likely see a decline in net sales. It's really hard to estimate, as we do have other significant opportunities that are in the pipeline, but difficult in today's economy to forecast.

Our international business unit's the most difficult to forecast because of the dependency on large contracts compared to the smaller base of dollars. Last quarter we said that we had expected sales to be light for the quarter and they were. We also did not book the orders we had thought we would during this quarter and therefore sales growth for the year may not quite hit the 20% level. With that being said, there is a large transaction out there that could exceed $10 million for example. If that deal were to happen, the chances of getting the 20% is realistic. That's just one example of the volatility that we could have in that business. It's the nature of the business and we'll work hard on booking those types of orders.

I would point out that during the quarter, we had at least one large order that we had a verbal on that was put on indefinite hold due to economic conditions in the gaming industry in Asia. Currency fluctuations are also a factor in the international business, and the dollar has generally strengthened over the past quarter, which is not ideal for us exporting.

Within our schools and theaters market, as we mentioned last quarter, we thought we had a chance to hit the 15% plus growth targets we set out for the year, but we cautioned that this could be tough and could end up below our expectations. It seems that has happened and at this point we're estimating somewhere in the 10% range for sales growth. And transportation seems to be on track for the year and doing well.

So putting all this together, we think taking into account the upside possibility for orders and sales in the live events and the decline in commercial, as previously announced, we're estimating that our revenues could be approximately $585 million. Those of you who know us well can understand that this can vary significantly. Large orders can be both delayed and accelerated, and unforeseen orders can arise. In short, even in normal times there's a lot of lumpiness in our business and it's difficult to project, and the economic situation is expected to add some volatility.

Moving on to gross margin, that's really an exciting part of our business, as Jim mentioned. I could generally echo some of the comments from last quarter. We're doing a good job of reducing the direct costs of our products, but that benefit was getting eroded by some things that we are investing in by additional warranty expenses. We said last quarter we thought the second half of the fiscal year could see lower warranty costs and higher gross margins. We are more optimistic on that now. We are even more optimistic on the margins we get when we're booking orders due primarily to cost reductions in manufacturing and engineering. So this is a bright spot for us. We will see some erosion, however, of that due to the unused capacity of our plants, but in spite of that, we still hope to see rising gross profit margins for the rest of the year.

On the operating expense side of things, we did well controlling costs sequentially. We have a new challenge ahead of us now to reduce them and we think we can do that over the second half of the year. And also keep in mind on a sequential basis, the first quarter of fiscal 2009 had an extra week in the quarter.

We closed our manufacturing facility in Montreal during the quarter. We took charges of approximately $1 million, mostly due to inventory, during the quarter. That cost will not recur in the third quarter, obviously. We had originally estimated up to three quarters of $1 million in costs, so it came a little bit higher than expected.

On the cash flow side, we have had the time to get our hands initially around reducing CapEx for the year and we feel good about the current level of approximately $32 million. This is down from the $42 million that we set at the beginning of the fiscal year. We're still going work on getting that number down further, but it is our current estimate as we sit here today.

With that, I would like to turn it over to the operator and open it up for questions. Operator?

(OPERATOR INSTRUCTIONS) Our first question will come from Jim Ricchiuti with Needham & Company.

Hi, good morning. The question I had is just with respect to operating expense. You had a very strong quarter operating margin wise in the current quarter. Now, given the decline that we're expecting in sequential revenue in Q3, clearly there will be a sequential decline in operating margins, but would you expect your operating margin to be up versus last year?

Jim, this is Bill. Thanks for the question. You know, it's going to depend on how our sales come in. There's a chance it could be up over last year, but it's going to ultimately depend on the sales level that we get and also the gross margins. So I apologize, I can't answer that specifically. There's variables that impact that, but we have a chance to exceed last year's. Last year's was at 5.9%.

Right, and you're assuming -- it sounds like you think, Bill, your gross margins can continue to show some improvement, even at these lower sales levels?

Yes, not as much as, boy, it would have been nice to have seen, but we think so, yes.

Okay. Now, just with respect to the order pipeline, would you still be taking orders at this point, booking orders for the major league baseball season? And I wonder how you would characterize the activity that you're seeing right now in that market. You alluded to two orders that you've got some verbal commitments on. But I wonder if you would talk a little bit about what else you see out there.

Just as far as the timing, yes, we'll be booking, expect to book orders for the next, really through Q3 that could be delivered for baseball. And there's a number of orders out there, opportunities out there, and they are just -- we have really a pretty decent pipeline overall, not just baseball, but for other sports, too, that are in the pipeline. And these are very real live projects. So there's opportunities out there and we're still pretty confident in the live events business.

Jim, on the MLB projects, there is some pipeline out there. At this point it sounds like you're not seeing an impact from the economy. Some of that potentially being pushed out and if it gets pushed out, it gets pushed out of season, is that correct?

Yes, occasionally there will be a project, an upgrade project, maybe a smaller upgrade project that might be -- that's happened in previous years, too, they will get pushed out for whatever reason. Sometimes it's a financing type of a reason, and certainly there's that possibility that some of these, maybe there will be more likelihood that some of these will be pushed out. But on the other hand, a lot of these projects are planned ahead of time and the things are lined up, the financing's lined up ahead of time. So I think it will be a mix in that regard. There's certainly that possibility of some being delayed because of the economy, but we feel a lot of these that are in the pipeline will be funded.

Okay, and last question for me, just looking at the college, small college, university market, are you seeing any signs of caution on the order front there in terms of maybe folks feeling a little bit more concerned about the economy and maybe pushing out some business with you?

At this point, Jim, we really haven't seen that.

Okay.

Whether we see it in the future, I guess that time will tell. But at this point, we have not really seen that.

Is it an active pipeline in that market right now, Jim? How would you characterize it?

No, it's a very active pipeline in that market right now.

Okay, thank you.

Our next question will come from Steve Dyer with Craig-Hallum.

Bill, you talked a little bit about improving gross margins. What percentage of that would you expect to come from warranty expenses versus overall cost reductions?

The warranty expense, we would hope is at least a percentage pickup in the next quarter. At least a percentage point.

Okay, and do you think this is achievable even though the mix seems to be shifting away from commercial, which is the higher gross margin business, more towards sports?

Yes. Now, keep in mind, though, that much of the commercial impact is on billboard, which we've always said has the lower profit margin. So it's probably not as much as you would think on the surface.

Okay, and how should we think about operating expenses overall on an absolute basis going forward? It typically hasn't fluctuated a significant amount with the sales level. Are we kind of at a level you think is fair going forward?

Yes, and as Jim said on operating expenses, our goal is to see those decline over the next two quarters in dollar amounts, okay? And our approach Jim described is primarily through attrition and cutting as much discretionary spending as we can see. Now, how quickly that comes out is kind of the unknown, which gives rise to one of Jim's earlier comments about seeing at the end of Q3 where we're at and where the business is going. There's still some nice opportunities out there in the pipeline and we don't want to risk that opportunity pipeline that we've got. So I think bottom line to answer your question is I think you'll see sequential declines over the next couple of quarters.

Okay, and then with respect to CapEx, it looks like you've spent about $24 million of the $32 million that you're planning on spending this year, is that right?

That is in the press release, yes.

What was the expenditure this quarter that was the highest in quite sometime?

Jim, the number is actually $16 million -- Steve, sorry. The number is $16 million for CapEx through the first six months.

Okay, got you.

Okay. And what was your question?

That negates the second question, then. And then my final question and I'll hop back in the queue. The Yankees and Mets, I assume that the Colts has shifted and recognized. What about the Yankees and the Mets using your percentage of completion?

Let me look that up. We'll take the next question.

The majority of that's in.

Yes.

Okay. All right, thank you.

And our next question will come from Michael Kupinski with Noble Finance.

Thank you for taking the question. I appreciate that. In terms of the warranty expenses, I know you've been investing in product quality and that sort of thing, but what gives you the visibility in the percentage pickup that you expect in the coming quarter on the warranty expense line?

Just that some of the things we had this time were one-time occurrences on a new product and we just don't expect a recurrence.

Okay, and then I was wondering if you can just give me your thoughts on the stock buyback at current levels, given your pristine balance sheet, what your thoughts are there.

We've not had any.

Yes, we have no comment on that.

Okay. That's all I had. Thank you.

And we will take our next question from Jim Boyle with CL King.

Good morning. You had mentioned in your preamble, second half revenue decline. Was that meant on an absolute or percentage term compared to year on year or--

Sequential first half to second half.

Okay. Second, the digital boards have seen a drastic disruption, with Lamar's announcement especially. What's the digital billboard order pace at your other sizable outdoor clients?

Some of the future, there is a little uncertain yet. We haven't gotten as clear a picture as we would even like. I will say there is a couple Tier 2 companies that are very serious about doing some nice, giving some nice orders, but it's maybe a little too soon to call there. There may be -- we're not sure if there's going to be a credit issue there or not, for example, as today's credit situation, could that have an effect? That's just an unknown at this time from our perspective. But there still is certainly, there's interest out there in rolling out digital billboards and some internationally as well. But there again, I think the same applies, is will the credit situation that we're in these days have an effect or not.

And with the excluded $27 million for the new Meadowlands added into your $134 million backlog, it's sequentially just modestly off of the quarter ago backlog. Would that suggest another maybe $65 million, $70 million or so sales for live events in fiscal Q3?

We should keep rolling on Q3 and Q4 on live events. So I don't want to give estimates, narrow them in, but we've got plenty of work to do in that area.

Okay, and although you have updated the top line fiscal year guidance, do you have any feel for the bottom line range for the fiscal year at this point?

Well, it's going to depend. We had said earlier we still think there's a chance to achieve it well into the operating margin guidance that we had set out at the beginning of the year of 8% to 9.5%, and we're still shooting for that. Sales, some of the upside can certainly help us in that regard, and we've got to wait and see how some of these opportunities pan out.

So no EPS range forecast?

No, no. We're not forecasting EPS at this point.

Okay. Thanks.

Our next question will come from Dick Ryan with Doherty & Company.

Bill, what level is your service revenue at?

It's less than 5% of our total revenue.

Less than 5%. How are the margins on that and are you working to improve those, as well? Where do they stand?

Yes, the margins are -- we haven't really disclosed margin. It really varies quite a bit in the different areas and depending on how we're structured and how we're approaching it. Really it's a wide variety there, but our service restructuring is our number one strategic initiative for this year, and so we're investing in that area as much as anything. And the restructuring process, things don't run as efficiently when you're moving things around and changing things. So I would say we're in a transition year and we expect to be performing better both in delivering service to our customers and in being profitable in that area in the future.

I will say that we had a nice milestone here about two weeks ago. We rolled out the next phase of our software system that is supporting our service, and so that was a nice milestone along the line of helping us out there in our processes.

Okay, great. When you look at the live events and the large projects that have worked their way through in the last year and a half or so, do you have a visibility looking out beyond '09 what could be out there for, for live events? Are we moving down larger projects for HD? Are you starting to see that as far as visibility at all?

Well, our pipeline certainly has products that would be out in the 2010 range, but we haven't made any projections out in that range, but certainly our pipeline has projects out in that area, in that timeframe.

Okay. Thank you.

And we will take a follow-up question from Jim Ricchiuti with Needham & Company.

I wanted to follow up on that potential order that you see internationally. I wonder if you could talk a little bit about that. Is that a potential order that would come in the current quarter? Or is it something that could go out into Q4?

You're talking about the order as an example I mentioned in my prepared comments -- this is Bill -- right?

Yes, Bill. This was I think an order that you suggested, international order, that could be in excess of $10 million.

Yes. I brought that up as an example of the difficulty that we face right now, that the timing of booking. I guess, honestly, when you think about orders that size, to get it in this quarter might be tough, but this fiscal year and to get revenue off of it this fiscal year is a possibility. And I bring it up as an example, because $10 million over the second half of the year, that can affect it pretty dramatically. So I don't know that it would book this quarter, but it is possible.

And, Bill, at the same time you mentioned, or maybe it was you, Jim, that mentioned that there was a piece of business that did get pushed out internationally. I think that you alluded to was in the gaming area. So has that market softened for you? And is this particular order that you're targeting or that you're looking at, is that something that's in the gaming area as well?

No, it's not in the gaming area. It's sports-related, Jim.

Okay, and I wonder if you could just comment on the competitive landscape, what you are seeing out there both in North America, the US market, as well as overseas, and any competitive pressures perhaps as the market has softened a little bit on the commercial side? It sounds like the sports market, things haven't changed a whole lot, but I wonder if you would comment about that.

Well, we have pretty much the same group of competitors out there. I would say that certainly as times get a little tighter, it can be a little more competitive and there can be some pressure on margins. That is a possibility, certainly, that could be in the offing here, but generally our relative position in the industry is, we believe remains as it has been and we see opportunities out there.

But there's not necessarily -- you haven't noticed any change in the environment that would suggest pricing pressure intensifying, Jim?

I would say that probably in the digital billboard market, there's some competition that's taken a run at -- I don't know if it's trying to buy some work to get their foot in the door, but that's not a new thing. That's kind of an ongoing thing in our industry, that that happens. So whether it's an economy-driven thing or just continuation of the way things are in the industry, it's hard to say. But certainly there's always new people taking a run at things.

And then on the CapEx side, it looks like you're bringing that down versus where you had been forecasting earlier in the year by about $10 million. Can you talk a little bit about where that reduction's taking place.

Certainly. In terms of, we're not investing in some capacity, some of our equipment. We are holding back. We were going to expand a little bit. It wasn't a big expansion with Redwood Falls, just a little space addition. We're holding that back. Yes, we actually have a commitment we made some time ago to eventually buy some product adjacent to our Brookings property and that is about a $3 million deal that's been pushed out into the next fiscal year. Also we've looked at the IT side of things. We've found some savings there, too, just the fact we're not hiring as fast. Just the cost of equipment people with technology these days, there's a savings by not hiring as fast. So that factors in.

And then last question from me is you talked a little bit about lead times in the school theater market, as well as for Galaxy. And I thought that maybe business was softening a little bit for Galaxy just as a result of the weaker economy, but it sounds like it's also a case of your lead times being a little longer than you would like to see for that product?

Yes, that's true. And, like I said, there's some areas that we've identified we can improve on operationally that we can do better on that in the future. But that was a factor. The lead times were a little longer and that always gives the competition a little opening.

So just from an economic standpoint as it relates to Galaxy, Jim, are you seeing any signs of softness in that market for that product, just given the customer base?

Yes, we have seen some softening in the Galaxy area, yes.

Okay, and on the school theater market, do you anticipate any potential change in demand as a result of funding issues for state, local governments for education? I know a lot of that is often times funded outside of the districts by local advertisers, but how do you see that business shaping up over the next couple of quarters?

You're right. Most of the scoreboard and the products that we install or sell to schools are not funded by state funds. So it's through the local sponsorships and advertising and so I think that's the funding source we have to keep an eye on and see how that holds up here over time. But at this point, we haven't seen an effect there yet.

Okay, thank you.

We'll take one more question.

Our final question will come from Steve Altebrando with Sidoti.

Hi, guys.

Hi, Steve.

I was wondering in terms of the pro sports environment, are you seeing any type of impact, credit impact, from funding $10 million, $15 million plus type projects?

At this point, we have not seen that.

There have been articles though, Steve, where some new stadiums have had financing issues, but we haven't seen it affecting us.

How about more of replacements rather than new construction? Or is it too hard to tell?

There has been a wave of new construction. That tends to go in waves. We've been working through one of the high points of those waves in the last year or two.

Steve, if I could add something, there is more interest by our customers to look at financing alternatives that we can help facilitate. I think that question is coming up more often.

Okay. And then I guess the last one would be, you talked about the big wave of new construction and probably maybe $75 million or so in revenue in this fiscal year. I know it's a little too early for fiscal 2010, but do you see enough interest that the pullback won't be substantial in that segment?

Well, maybe to add some color, we're just kicking off much of our planning process now, but when we look at the deals that we've booked for this last year that were over, let's just say $8 million, we see that definitely going down. But the nice thing about the live events area are those smaller projects, those under $8 million, which is really the bread and butter of our business. We do a lot of transactions that are $2 million and less. Subject to some things coming up in the economy that we're not seeing now, that business should see some good growth rates that should offset the decline in those big transactions. The question that we don't know is how much will that be offsetting. That business historically has been in the 15-plus percent growth rate, and for the long-term we think it can, absent what's going on in the economy today, as long as that doesn't affect it.

Okay. That's helpful. Thanks, guys.

That would conclude our question and answer session. At this time, I would like to turn the program back to our speakers for any additional or closing comments.

All right. Well, thank you, guys, for your questions and thanks to all of you for being with us this morning. We appreciate your time and we wish everyone a happy Thanksgiving holiday.

Thank you, everyone, for your participation in today's program. You may disconnect at this time.