Enovis Corp (ENOV) 2011 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Colfax Corporation first quarter 2011 earnings conference call. At this time all participants are in a listen-only mode. Later we will conduct a question-and-answer session, and instructions will follow at that time. (Operator Instructions) As a reminder, today's conference is being recorded.

I'd now like to turn the conference to your host, Mr. Scott Brannan. Please go ahead.

Thanks, Amy. Good morning, everyone, and thanks for joining us. My name is Scott Brannan, and I'm Colfax's Chief Financial Officer. With me on the call today is Clay Kiefaber, our President and CEO.

Our earnings release is available in the Investor Section of our website, colfaxcorp.com. We will also be using a slide presentation to supplement the call, which can also be found in the Investor Section of the Colfax website. Both the audio of the call and the slide presentation will be archived on the website later today and will be available until the next quarterly call.

During this call, we'll be making some forward-looking statements about our beliefs and estimates regarding future events and results. These forward-looking statements are subject to risks and uncertainties, including those set forth in our SEC filings. Actual results might differ materially from any forward-looking statements we might make today. The forward-looking statements speak only as of today, and we do not assume any obligation or intend to update them except as required by law.

With respect to any non-GAAP financial measures, the accompanying information required by SEC Reg G relating to these measures, can also be found in our earnings press release and under the Investor Section of the Colfax website. Now I'd like to turn it over to Clay.

Thanks, Scott, and good morning, everyone. This morning I'll review our first quarter 2011 results and provide a brief operational update, and then I'll turn it over to Scott for the more detailed financials and then we'll open it up for questions.

We're pleased to announce strong results for the quarter. Adjusted EPS for the quarter was $0.23, an increase of 69%. This was driven mainly by strong shipments and a continued improvement in productivity slightly tempered by lower margin marine shipments and amortization associated with the Baric and Rosscor acquisitions.

Net sales for the quarter were $159 million, an organic increase of 18%, while bookings were also $159 million, an organic increase of 23%.

Average exchange rates in the first quarter of 2011 were comparable to 2010, although the end of the quarter euro-to-dollar rate was significantly higher in 2011 than 2010. The Baric and Rosscor acquisitions contributed 13% to the 32% total sales increase. The acquisitions did not have a significant impact on adjusted net income or EPS, either adjusted or actual, as our operating profit was largely offset by $2 million of amortization and transaction cost as well as additional interest expense.

Sales growth was driven by broad-based strength in all of our end markets except defense in the first quarter. Order growth was also strong in those same end markets, and given the current market conditions, we believe the momentum will continue during the remainder of 2011.

Now for a brief update on our five end markets. And please refer to the slides for the specific growth rates for each market.

In oil and gas, sales and orders were up significantly for the quarter. This market continues to be fueled by higher crude oil prices. The Middle East, Latin America, and Canada were particularly robust with applications for heavy crude transfer, storage, and refinery lubrication systems. The acquisitions of Rosscor and Baric Systems broadened our product offering and increased our participation in this end market. Based on current activity levels, we expect to see continued robust sales and orders during the remainder of 2011.

Now for a look at our general industrial end market. Both sales and orders increased in the quarter. We've seen continued strength in North America, Europe, and Asia for a variety of applications, most notably diesel and machining in this very diverse end market. We continue to expect both sales and orders to be up in 2011 over 2010.

Turning to power generation. Sales and orders grew in the quarter, despite our decision to exit certain business in the Middle East. Both our OEM and package systems businesses have been very robust and growth has been especially strong in Europe, North America, and Asia. We expect orders and sales to increase for the remainder of the year, a positive change from our last call.

In defense, shipments and orders declined as expected. The shipment and order patterns continue to follow the timing of specific ship programs. Funding for the aftermarket programs has been approved recently and will contribute to sales this year. We continue to expect sales to increase and orders to decrease over the balance of 2011.

In commercial marine, sales were up for the quarter. As we've seen over the last several quarters, this is primarily due to a reduction in our backlog. However, orders also increased significantly over a relatively weak first quarter in 2010. Commercial marine cancellations were less than $1 million in the first quarter, compared to $3 million in the first quarter of 2010. Overall cancellations continue to slow, and we believe this market is stabilizing.

As discussed in earlier calls, there were some lower margin sales in the first quarter related to commercial marine orders we took in 2010 and two thousand -- or 2009 and 2010. We continue to work through this backlog and currently expect to continue delivering these lower margin projects over the balance of the year. This situation will progressively improve as we continue to work on customer service, pricing, and cost reduction, as well as see an improvement in the supply-demand dynamics for global ship building.

We are continuing to take the necessary actions to improve margins and grow the higher value added portions of our business. We're now expecting sales for this end market to be modestly higher in 2011.

We continue to make progress with working capital through the application of lean tools as reflected in our working capital turns. While approximately $15 million of inventory is associated with our recent acquisitions of Baric and Rosscor, we've already initiated process flow and value stream mapping activities to enhance operating performance.

I'd now like to update you on our strategic priorities. During the quarter, we continued to make progress toward realigning Colfax as a global market [facing] organization as evidence by the recent consolidation of our global commercial marine organization. This new organization will provide a significant increase in the speed of our customer service with both significant and quick-serve processes for prompt shipment of aftermarket orders for all brands, and streamlined company-wide back office procedures to provide a consistent, efficient customer experience.

The global oil and gas team continues to gain traction. From an operational perspective, we've been working to simplify the customer quote and order entry process. Additionally, the two-screw rationalization effort continues to reduce product line complexity while providing our customers with the right products for their diverse application needs.

In addition, the team increasingly has had success selling our applications' capabilities, and we're extremely pleased with the multiphase and gas compression capabilities added through our February acquisition of Rosscor.

We focus on understanding the operating conditions of the well and developing the right solutions, be it a pump, a multiphase system, or gas compression system, and we believe that's unique with any industry.

Quoting activity remains high in both Rosscor's traditional markets and in other geographies where our existing business relationships are strong. Given the strength of the oil and gas market, we're excited about the opportunity to offer this technology around the world. These projects typically take up to a year or more to design, build, and deliver, so these current activities will mostly produce revenues in 2012 and beyond.

Scott will provide some additional financial information regarding our 2011 expectations for Rosscor's acquisition -- or for Rosscor's operations.

The global general industrial and power generation team has been solidified as well, and we've initiated the process of spreading best practices throughout the sales organization. Examples include pricing, channel development, global account planning and management, to name a few. The global product development team continues to drive the rationalization of our current products, as well as the development of an exciting array of new product ideas. The rationalization benefits are starting to impact the shop floor and will increase gradually over the next couple of years.

The global sourcing team has been focused on supplier consolidation and cost reduction. While surcharges have increased for certain commodities, we've generally been successful passing these surcharges through to our customers.

Operationally, we continue to make progress in our rationalization efforts. We completed the back office integration in our Americas locations, along with a number of lean initiatives that will drive additional cost reduction. We're rationalizing our two-screw product line [and] locations, and it's starting to contribute to our profitability.

The Rosscor acquisition provides even more integration opportunity where we're starting to in-source a variety of machine parts for the two-screw products.

In Radolfzell, we've made a lot of progress in working off the past dues and improving the on-time complete performance, especially in the commercial marine business. We're in the midst of some significant and exciting process changes as a result of some recent Kaizen activity, changes that will enhance the competitiveness of this plant.

We're also in the process of rationalizing our field operations in Europe. By improving our on-time complete performance from our plants, we can now focus our field resources on selling and servicing our customers in a much more effective way.

We continue to make progress with CBS, as our usage of policy deployment and the cadence and quality of our application of the lean tools improves. Focus Kaizen activity linked to our policy deployment is accelerating throughout the enterprise. I personally participated in three Kaizen events this year thus far and have witnessed a significant amount of learning in the application of [tack] time, demand [pull], and process flow.

We completed a value stream mapping event last month in Radolfzell and designed a [2b] process that would reduce the relevant floor space by 50%, while reducing the throughput time and improving the productivity by 25%. They completed many of those physical layout changes last week.

The exciting part of this process is that it was designed by the manager, production scheduler, and a number of associates. And once they understood the benefits, they were committed to make it work and they are making it work.

Turning to acquisitions. While we're pleased with our most recent additions, we're even more pleased with the robust process that Dan Pryor is putting in place. We're working a pipeline that includes targets of all different sizes and have several active situations under consideration, as always, our key evaluation criteria, our strategic attractiveness and fit and return on capital.

Finally, we're pleased to have added Bill Rothenbach as senior vice president of human resources to our leadership team. Bill is a critical addition to our organization, and will lead our efforts in talent development and building bench strength, both of which are critical elements of our longer term growth strategies.

In closing, I'm pleased with our progress and continue to be encouraged by the active learning that's taking place throughout the organization, as ultimately it's the knowledge and strength of our associates that will drive sustained success.

And now I'll turn it over to Scott to provide more details on the financials.

Thanks, Clay. As Clay noted, sales in the first quarter were $159 million, up 18% on an organic basis. Orders for the quarter were also $159 million, up 23% on an organic basis. The gross profit margin of 33.6% was down 1.2% compared to the first quarter of 2010. However, when adjusting for the impact of the lower gross margin businesses related to the Rosscor and Baric acquired entities, the gross margin is up 50 basis points, which reflects the positive effects of the higher sales volume and the productivity improvements Clay spoke of, offset somewhat by the unfavorably priced marine shipment.

SG&A expenses for the quarter were up $5 million, primarily as a result of higher commissions, the acquired entities, and some duplicative corporate expense related to the completion of the headquarters relocation. As a percentage of sales, these costs decreased from 25% to 22%, due to the substantially higher sales volume in the 2011 quarter. As such, adjusted net income was $10 million or $0.23 a share, up significantly from the first quarter of 2010.

In the 2011 quarter, increased costs related to accounting step-ups and intangible asset amortization for Rosscor and Baric was $1.6 million. In addition, deal costs of approximately $350,000 are reflected in selling, general, and administrative expenses.

Our financial condition remains strong. At the end of the quarter, we had debt of $83.8 million, cash on hand of $45 million, and $118 million available under our revolving credit facility.

Net cash flow from operations for the 2011 quarter was $4.7 million, which includes $2 million of net outflows related to asbestos, as well as restructuring cash outflows of $2.5 million.

As discussed on the last call, we continue to expect to conclude the trial phases of our litigation with insurance carriers for both of our relevant subsidiaries by the end of 2011.

At this time, we [are] in a position to provide incremental guidance for our Rosscor operations, which we acquired in February. We expect that Rosscor will provide incremental revenues for the period from acquisition to yearend of approximately EUR25 to EUR30 million, EBITA, that is before the accounting step-ups and the intangible amortization at a rate of approximately 12% to 16% of sales, which would then be reduced by the amortization and the increased cost of sales for the accounting step-ups at a rate of approximately 10% of sales.

Much of this amortization and the step-up in inventory values relate to specific projects in process. As such, while there is some fixed amortization, most of the amortization is variable with revenue recognition. At this sale -- at this sales level, the incremental accretion for 2011, after considering additional interest expense, is expected to be modest, as we stated on the last call.

It is important to note that the majority of Rosscor's revenues are from large projects and these projects do not ship uniformly over the course of the year.

As is our historical practice, we do not update or reaffirm our overall guidance each quarter. And while we do periodically evaluate it, we will not be doing so today.

Now I will turn it back to Clay.

Now we'd like to open it up for questions.

(Operator Instructions) And our first question comes from Jeff Hammond of KeyBanc Capital Markets. Your line is open.

Hi. Good morning, guys.

Hey, Jeff.

Good morning.

So clearly, seems like a stronger quarter and clearly some things working in your favor. I guess what's the rationale for not formally updating the guidance?

I think what we've tried, hopefully we've demonstrated with the Rosscor where we deferred guidance from the last call to this call. We do like to make certain that we have useful and accurate information for investors when we update guidance. And we felt that it was, given what we provided the last time in the incremental guidance that that was a place where we thought it would be most appropriate at this time.

Okay. But if I look through the moving pieces, it seems like commercial marine trending better, oil and gas maybe on the margin stronger just given order rates and what you put up in the first quarter. And then power gen, I think you were originally thinking that was down, and now that's going to be up. Is there anything, I guess going the other way in terms of how you're thinking about the different end markets?

Jeff, I think if you -- if we just take it by end market, that's a pretty good recap of it. I mean, oil and gas is really being driven by the increase in crude. We see -- we've seen real robust activity there, both from an order as well as shipment standpoint. We expect that to continue and probably accelerate a little bit.

General and industry, we take a look at across the world. I mean US, Europe, China pretty strong. We've got a global organization that's starting to get in place, and we think that there'll be some positive things moving there as well.

Power gen is the one that, as you point out, is different. As you recall, we had about $18 million of business to overcome based on exiting the Middle East business. And we're -- we feel very good about what's going on. That really is led by the strength in our packages and systems business, especially those that are sold to OEMs. So, clearly, that's been stronger than expected. And that is a change in terms of what we feel is going to happen for that particular end market.

Commercial marine, we still believe is stabilizing. You can read the data as well as we can, and I'm sure you do. But as we take a look at it, the supply-demand dynamics still need to play out in that market. We're encouraged. It is stronger than we expected. The aftermarket has been pretty decent there.

And then defense is really going along the lines that we thought. The shipments were a little less than we expected year-to-date, but that was basically attributed to some holdup on some of the defense spending for aftermarket. That's now been approved and we expect that to be able to happen through the year. Those orders, as you know, are going to follow programs, though, and most of those programs are set to be decided on next year. So we'll just be working off the backlog there.

Okay. And then just back to the margins because you mentioned certainly the acquisitions coming in lower and maybe some one-time costs. Do you have a sense of on the core where the incremental margins would have come in on the base business relative to what you think is normal?

Yes. When you strip out the acquisitions where, there'd be a modest contribution due to the impact of amortization and the deal cost, when you strip that out, it comes in around 24% for the organic portion of it. And we would expect that given the mix of the commercial marine business. We're working through those pricing issues as well as the higher mix of skids or those -- some of those systems businesses out of Europe in the first quarter. So we feel pretty good about how that flowed through in Q1.

And how should that incremental margin look going forward? I mean, do we get closer to the more normal 30%, 35%, or are we still trending in this kind of mid-20s?

Well, I would view that as -- I mean, my perspective is it's going to improve. It's interesting when we take a look at the commercial marine pricing, as you know, it's not going to just jump up overnight. We need to bring that up progressively, especially as we've improved the overall performance of the on-time complete, which is something we've been able to do.

And then what we'll have to be cognizant of is certainly the mix shift that is happening as a result of some of the systems acquisitions that we made. But I would look for that to improve, most definitely.

And then just last clarification. I think, Scott, you called out step-up and I think acquisition costs. Is that within SG&A or does that fall in this restructuring and other related charges?

Okay. None of it falls within restructuring and related charges. We take all of that stuff through the regular operations. The portion that relates to the inventory step-up is actually in the cost of sales number and the portion that relates to the other intangible amortization is in the SG&A number. But none of it is in the restructuring number.

Okay. Perfect. Thanks, guys.

You're welcome.

Thanks, Jeff.

(Operator Instructions) Our next question comes from Kevin Maczka of BB&T Capital Markets. Your line is open.

Good morning.

Hi, Kevin.

Good morning.

I was hoping to go back to the gross margin comment. I think you made a comment about some pressure there in the quarter related to the acquisition and also perhaps some of this lower margin commercial marine backlog that you're working through. Can you just give a little more color on how each of those impacted the gross margin this quarter? And also the price cost, was there any price cost headwind this quarter?

The -- one of the things to recognize with the acquisitions of Baric and Rosscor, these are system businesses. So historically the gross profit margin is lower while the bottom line is something that would be within our historical range. So you just need to be cognizant of that when you're taking a look at the gross margin. And so that's just going to change with the mix of business that we have.

The -- with reduced -- with regard to the price relationship, the cost, what we've seen is certainly there's been an increase in some of the costs. You can tell what's going on with commodities. But we've been able to cover most of those with surcharges and we feel that we're able to get our price and that the price is [firming in] most of the end markets that we have.

Commercial marine, again, Kevin, is one that's going to improve over time. The margins that we saw as a result of some of the pricing that was done in 2009 and 2010, were certainly challenging and we're working through that. But our view is that we're just going to progressively work that up over time, especially as we improve the value relationship and the value proposition that we provide.

Okay. And then on pricing in general, whether it be commercial marine or the business as a whole, can you just give a little bit more color on what you've seen there over and above maybe the surcharges related to raw material costs? Are you seeing with the strong orders you're reporting, are you seeing better pricing and better margins associated with that?

If we look at it by end market, oil and gas [as] mainly project business, and that's been relatively stable. Certainly with the increase in demand, we feel like we're doing all right from a pricing perspective there. Commercial marine I already talked about in terms of the recovery over time on that. General industrial, yes, we've been able to pass through price increases as well. And then defense really isn't any change, it's built into the contract.

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

Thank you.

Thank you. Our next question comes from Mike Halloran of Robert W. Baird. Your line is open.

Morning.

Good morning.

Hi, Mike.

Just one quick question for you. I know last quarter that the commentary surrounding the backlog relative to orders, I think you saw really strong orders last quarter, backlog was flattish to up, depending on how you want to account for some of the power contracts. Could you talk about the dynamics that are causing the backlog growth to lag the order growth? And is it still focused on the commercial marine side?

Well, it's a couple of things. As you take a look at the backlog, most certainly a lot of it's been added in terms of acquisitions. There's been some FX effect as well. Organically it's been pretty steady. But that's influenced by a couple of different things, Mike. First the -- we've been working off the commercial marine past dues, and the commercial marine lead times out of the industry have reduced as well. So customers aren't placing orders as far out. They're typically -- that's been one of the main contributors to our backlog, in addition to the defense business. And clearly we're working off backlog there as we wait for some of the programs to get approved, and most of that timing will hit in 2012. But those are the two key drivers in terms of why organically it's been relatively steady.

And that makes sense, I mean, because particularly relative to your commentary, it sounds like the lead times are very healthy on the oil and gas side and on the general industrial side.

Right.

Okay. Thank you. I appreciate the time.

Thanks.

I'm showing no additional questions at this time. I'd like to turn the call back over to Mr. Brannan.

Thank you, Amy. And thank everyone for joining us today. And we look forward to updating you again next quarter. Thank you.

Ladies and gentlemen, this does conclude today's conference. Thank you for your participation and have a wonderful day. You may all disconnect.