Griffon Corp (GFF) 2005 Q2 法說會逐字稿

Welcome to Griffon Corporation's second-quarter 2005 earnings call. With us today we have Harvey Blau, Griffin's Chairman and Chief Executive Officer, and Eric Edelstein, Executive Vice President and Chief Financial Officer. After the prepared remarks there will be a question-and-answer session. (OPERATOR INSTRUCTIONS). All participants will be placed in a listen-only mode.

This call is being recorded; your participation implies consent to our recording this call. If you do not agree to these terms simply drop off the line. I would now like to turn the call over to Mr. Blau. Please go ahead, sir.

Good afternoon, I'm Harvey Blau, Chairman of Griffon Corporation. With me is Griffin's Executive Vice President and Chief Financial Officer, Eric Edelstein. I will discuss the overall results this quarter and then Eric will provide some further detail. First, I should point out that to the extent that matters to be discussed in this call include forward-looking statements that involve certain risks and uncertainties that could cause the Company's actual results to differ materially from those in the forward-looking statements.

I will start by noting that we are extremely disappointed in the second quarter in which we experienced a reduction in quarterly earnings compared to the prior year and prior three years. Our second-quarter results reflect a difficult economic environment for our businesses. It is clearly a disappointing period compared to the record operating performance achieved last year.

Consolidated net sales for the quarter were 322 million compared to $318 million last year. Pretax income was 4.1 million compared to 19.3 million last year. Net income of 2.9 million for the quarter resulted in diluted earnings per share of $0.09 compared to $0.27 last year.

Profitability in the second quarter was negatively impacted by continued higher raw material costs in both the Garage Doors and Specialty Plastic Films segments. Higher selling prices in both segments partially offset the effect of the raw material cost increase. In films, resin prices increased over first-quarter levels in North America and advanced more sharply in Europe. Resin prices increased by close to 5% during the quarter and approximately 40% compared to last year. We estimate that resin cost movement alone produced a negative impact on operating results of approximately $2 to $3 million.

In the Garage Doors segment coil and hardware steel prices have risen dramatically with coil steel costs increasing 27% in the second quarter and hardware steel rising almost 60% over the last 12 months. Higher steel cost negatively impacted operating results by approximately $6 to $7 billion.

Specialty Plastic Films sales for the quarter were 95 million compared to 107 million last year. Operating income was 6.2 million compared to 15.1 million last year. Reduction in sales volume from our major customer also significantly impacted sales and operating income. Sales in Garage Doors for the quarter were 110 million compared to 96 million last year. This segment had an operating loss of 1.3 million for the quarter compared to operating income of 4 million the prior year. Our service and installation operation had sales in the quarter of 67 million compared to 72 million the prior year and operating income was 1.3 million compared to 1.7 million.

Telephonics, our electronic information and communication systems segment had sales in the quarter of 56 million compared to 47 million last year. Telephonics' operating income was 3.4 million compared to 3.7 million last year. This decrease was primarily attributable to operating cost associated with companies acquired during this period. Consolidated operating cash flow in the quarter (technical difficulty) consolidated operating cash flow in the quarter (technical difficulty). Hello? Hello?

Consolidated operating cash flow in the quarter was 25 million and we continue to support the growth of our businesses with capital expenditures in the quarter of 6 million and funds used for acquisitions of 9 million and debt repayment of 6 million. Our balance sheet at March 31st remains strong with cash in excess of 80 million and working capital of 267 million and total indebtedness representing 34% of cash.

Eric will now provide some details on the specifics of the operations for the quarter and on the outlook.

Good afternoon. I'll start by addressing Specialty Plastic Film. Sales in our films business were lower by $12 million in the quarter; operating income was down by 9 million. Consistent with our first quarter, lower sales are directly related to product design changes made by our major customer. The overall volume impact resulted in a sales reduction of approximately $18 million for the quarter offset by approximately $6 million of price increase changes in our product mix. The reduction in sales volume impacted our resin cost increase, also the primary reason for the reduction in operating income.

This reduction in sales and earnings in the films business primarily occurred in our joint venture operation in Europe. We are continuing to execute our capital expansion program in the films business. Additional expenditures in connection with capacity additions, Europe and Brazil, are being made as well as expenditures in North America. We are still considering the addition of a new plant in Europe to address a specific new product program for a major customer. A decision on this project should be made in a few months and we anticipate sharing further details with you in the near-term.

As we have consistently noted, resin costs have clearly had an affect on the business. Not only have they had a negative affect on our earnings, but as we increase prices they have an impact on our customer. Currently resin prices have stabilized and we are hopeful that they will remain so in the coming months. Overall for our films business we are continuing our focus on global expansion, operational excellence, and product innovation.

Sales in the Garage Doors segment increased by 14 million compared to last year. This included higher selling prices of $10 million with the balance primarily from the sale of higher priced products. Operating profit for the Garage Doors segment decreased by 5.3 million compared to last year principally due to the effect of the higher steel cost offset by price increases and product mix changes. We believe we have taken the necessary steps to minimize the effect that these cost increases will have on operating income for the remainder of the year.

In addition, other than raw material cost the general business environment for Garage Doors remains positive and we believe we are well-positioned both in our retail and dealer distribution channel. Our expectation is that operating results in Garage Doors for the balance of the year will reflect a substantially improved current compared to the first half of the year.

In our service and installation segment the sales decrease of $5 million is primarily attributable to a slow down in business in the (technical difficulty) biggest market and increased competition in Atlanta. In addition, services received a substantial cost increase primarily for Garage Doors and fireplaces which, due to the economic climate, are difficult to pass on. This has had a negative impact on operating margin. Considering market conditions overall our results in this segment compared favorably to the prior year. We do see some additional improvement in the second half of the year.

Telephonics once again had a good solid quarter with both ongoing programs such as the MH-60R platform and newer programs such as the CP-140 radar program in Canada contributing to sales and profitability. We have a high level of business development activity around new and existing programs, especially for radar equipment. Our backlog at March 31, 2005 remains high at (technical difficulty).

Finally on a consolidated basis the second quarter includes a reduced provision for income taxes as a result of a lower projected annual effective tax rate and the resolution of other income tax matters. Harvey now has some concluding remarks.

Once again we are very disappointed with the Company's performance, especially in the comparison to the record year we had in 2004. We are working extremely closely with our management of our various businesses and we do believe that we are taking the proper steps that will result in improved profitability both at the end of this year and in 2006. At this time we would like to take questions.

(OPERATOR INSTRUCTIONS). Bob Labick, CJS Securities.

Good afternoon. I wanted to start with Garage Doors and the steel impact. Is this a result of dipping into FIFO inventory and having higher priced yield or how should we look at this going forward? And what would be a reasonable range for margins in '06?

I think the way to a take a look at it, the way to think about it is that we had a significant increase in our steel prices in the beginning of the quarter which -- didn't impact so much from a FIFO perspective because the inventory turns quickly, but rather just had an overall effect. As we noted, that impact was $17 million, we were only able to pass along 10 million of it. But as we note, we're reasonably optimistic that we are in a catch-up mode, that we have additional price increases that we've worked on or had approved so that we can close the GAAP between our cost and our selling price. We don't typically go out to 2006 and give guidance. I would simply say that we're optimistic that we can work the business in a way to achieve margins similar to what we've achieved in the past.

Great. And in regards to the price increases, those should impact the coming quarter? And also, how are your competitors handling the steel increases as well? Are they raising prices?

The price increases should impact the current quarter, that's correct. We actually put quite a few through in the prior quarter and, in fact, even in the first quarter. But as Harvey had pointed out, our primary steel product went up 27% in one shot in the beginning of the quarter. Our competitors are mixed. A number of them are holding the line on cost. They're feeling the same price increases that we are. Others are leading and/or following, it's the mixed bag.

Could you give us -- just jumping over to films then. Was there any impact on the margins from the startup costs for the Finotech Four line in terms of qualification of that line or anything along those regards? And how long should that last if that is the case?

As you know from prior calls, we are working towards getting Finotech Four line qualified and we are moving closer to it and hope and expect it to happen in the current quarter. And we did incur some fairly significant cost in the quarter just completed -- operating cost with no resulting revenue to work it. It did have an impact on the margin, but certainly not as much as the resin cost and the cost increases.

There are three areas that affected us other than the cost of resin and the sales numbers. That is cost of putting in the new plant in Brazil, the cost for Finotech Four and the costs related to a new project we're working on for a major customer. All of those are producing costs without any reflective sales and this should turn around sometime in the next month or so for Finotech Four and the next couple of months with respect to the operations in Brazil and a longer time with respect to any sales of new product. But candidly, those costs could easily have been absorbed had it not been for the major increases in resin prices and the decrease in sales to our prime customer which I believe are related to the cost of resin.

And has that transitioned to the new product that your primary customer completely run its course? Have we reached a baseline or is there continued transition, do you expect it going forward?

At this point it's completely run its course.

So we're at a base now and we should essentially build off of this as Finotech Four comes on, and then as Brazil comes on and then if you make the decision on the new plant, as that comes on those should all be building from here going forward, correct?

If it comes to fruition that way, yes.

Great. I will hop back in queue. Thank you.

Larry Baker, Legg Mason.

Just do go back to steel, can you tell us if the price increases that you put in place during your second quarter, have they offset everything going into the third quarter? Can you recapture the 17 million increase that you had in steel prices?

In the second quarter, Larry, we had approximately $17 million of cost increases and there's something also that I want to bring to your attention which is that the nature of the steel that we purchase, both the hardware as well as for our product, which is different than other steel used by other manufacturers for different product, it is peak in the first part of our second quarter. It continued through that quarter and maybe in the future it's going to be coming down a little bit.

But we were able to only put in 10 million of the $17 million of increases and we are now implementing the balance of the increases -- have implemented the balance of the increases and hopefully we will be in this quarter covering substantially all of the increase of 17 million. We don't see significant additional increases in the third quarter, but we see that we're trying to cover the $17 million through the original 10 million plus whatever increases we've put in for the third quarter.

Okay, thanks. That helps. There's also talk of a midyear, not your year but a mid calendar year increase. Can you comment on that? Do you expect that or do you have a plan to offset that?

Larry, you might be referencing what's generally happening in the steel market and if that's the case I think the important point is that -- Harvey just referenced this -- is that the coil steel that we purchase is a thinner gauge and it has not tracked what's gone on with (indiscernible) generally. And so whereas generally steel as we (indiscernible) peak back in September and it has been going down since then. Among other things steel is supplied into the auto industry, appliance industry -- Our steel, the thinner gauge, we believe peaked right around January. And we fell back in the second quarter and we're cautiously optimistic that (indiscernible) maybe it's going to be going down in the short-term for the current (indiscernible).

Okay. And then on the resin -- the prices have -- again, looking at your fiscal third quarter, have all the increases that you've seen in your raw material cost been passed through at this point? Hello?

Ladies and gentlemen, the conference will resume momentarily. Please hold.

Can anybody hear me? I'm sorry for whatever happened. I have no idea what happened, but we're ready for the next question -- Larry Baker I think has the last question.

My guess is I probably got cut off in the middle of the answer so I will come back to it. I think, Larry, you were talking about a projected mid year price increase -- cost increase for steel and I was explaining that we weren't anticipating such an increase because the thinner gauge coil steel product that we purchase does not track the overall market. I commented that it's our understanding that the overall market had peaked back in September and had been coming down. And on the other hand, our cost trend was to peak in January and we were hoping and anticipating actually a small reduction in the current quarter.

Okay. Thanks. And then on I guess the same question on resin. Have you passed through everything that you can? How does the third quarter look in terms of margins after having passed through additional resin increases?

At this point, no, we have not passed through everything. A lot has been passed through. If you go quarter to quarter you'll see that the quantification of the impact on this quarter versus last quarter, it's a little bit less indicating we are catching up. But there is a lag and at some point -- if resin costs do not continue to increase at some point in the quarter we would expect to catch up.

Okay. And then, Harvey, can you talk about the size of the new potential plant in terms of dollar volume, what that might add and what might be the timeframe for that?

First of all, the time frame will be dependent on the customer. We have not gotten a confirm from the customer on when they are going to go-ahead with this project. From the time that they say they're going to go ahead with the project it will take at least one year before it will have any effect on us. The effect should be that the cost should be somewhere in the 30 million range and the amount of sales, depending on what we get if this thing goes -- if and when this thing goes through should be somewhere in the 50 million per annum range.

50 million in sales and a 30 million capital cost?

Yes, including the plant.

Okay, that's great. And then finally, Eric, would the tax rate change in the second half?

The --.

Or could you tell us what the tax rate would be in the second half?

The tax rate will not change in the second half. Assuming the additional analysis we'll do at the end of the next quarter results in us computing an effective rate for the overall year consistent with the one we just did. We've already adjusted for what we believe to be the overall yearly rate and if nothing else happens that would be great.

So it should be 37% in the second half?

No, 34%.

34 in the second half. Does that carry into next year?

No, not at all. We take a look at what we believe our effective rate will be each and every quarter and the level of income, the jurisdiction we earn it in, the other types of deductions and things that we get would drive potentially a different answer. It wouldn't drive a dramatically different answer, but it does not automatically carryover in the subsequent year.

This year at 34% you're down 300 basis points from last year. Is that -- just for planning purposes next year, something less than 37, more than 34? I'm trying to narrow this down a little bit.

To be conservative you can use 37.

Okay.

(multiple speakers) you could use something less.

Okay. Thank you.

Robert Longacre (ph), Barrington.

I'm just trying to drill down a little more on the films margin. You said you had $2 to $3 million worth of resin in there. So if you strip that out it looks like the margin would have been around just under 10%. Is that right?

I'm not sure the 2 to 3 would get us to 10%. Bear with me a minute.

Call it 9.7%?

Close enough, that's true. Yes.

Historically I think you guys have said you think you can do what you've done, I think you said 12 to 14 or 11 to 13 or something. Are you guys lowering that now that it doesn't look like you've done that for the last couple quarters?

No, we're not lowering it. You articulated the question as stripping out the resin cost increase. The other impact we're currently feeling is the volume increase -- decrease, I'm sorry. The volume decrease and its impact on operating income. If we can get the operating and production levels back up to where they had been we have the potential to achieve those operating margins, the historical ones.

I believe you also said -- sometime in the call you said that the resin increase is hitting your margin but it's also hitting your sales to your major customers. Is it P&G I assume? Did I hear that correctly?

What we said -- we talked about our major customer and what we were saying was that not only is there the impact of the higher cost, but then they have an issue of can they or can they not pass that cost along to their customers. And most importantly, in an effort to keep the cost in line there's a general movement to redesign the diaper and to make an equally good product but more cost effective and that's the indirect way resin impacts our performance.

But they haven't -- they're continuing to respect your pass-through agreements. They haven't tried to renegotiate those?

No, our agreements are in place.

And also in the last couple calls -- I'd have to go back to notes exactly -- but I believe you guys have kind of hung your hat a little bit on a $400 million run rate in the films business. Are you guys still comfortable with that?

We have talked about $100 million a quarter which obviously equates to what you're talking about. And that is something that's achievable going forward.

Is that in the next year or in the next quarter? Have you guys put any thought into that?

In the short-term we think we can be there. It's not contractually based. We have a lot of work to do each and every quarter in selling product to others in addition to our major customer. And so we believe we have the capability to do that.

Along those lines, I know you guys have talked about when Finotech Four comes on you're hoping to put some new business into -- some new customers into the old Europe plants. Have you guys made any progress on that?

Your statement is correct, that's what we hope to do. We have made progress. It's actually gong a little bit slower than we anticipated, but so did the line itself coming on was a little bit slower. We believe that there's an excellent market opportunity in Europe that's why we went ahead and added the capacity and we're busy at work at it and believe we have a lot of potential there.

Okay. And kind of looking at the way the minority interest line has moved around, it looks to me -- and correct me if I'm wrong -- that the non Finotech Four business has been improving a little bit. Is that right?

It's on average held its own and probably has improved just a little bit, yes.

Can you give just a little color on what's driving that improvement?

I think it's across the board in North America both for our major customer and other customers. And in some instances being able to pass some of the cost increases along a little bit more quickly. In some cases it's some of the newer products that we've developed. I think it's a little bit of everything.

Okay. And just jumping over to the steel issue for a second because I didn't realize you guys use a different type of steel and I've been looking at hot and cold rolled steel prices coming down. So I was taken aback by the hit as well. Is this unusual for those two markets to diverge like they are right now or are they not as related as one might think? What are the historical trends there?

I'm not sure about the historical trends. Adding a little bit more, specifically we buy hot dipped galvanized gauged steel, coil steel. As we understand these center gauges are not especially attractive to the still mills to run, they would rather run heavier gauge and charge more. As a result there's not the acute shortages when business is good but we have more acute shortages when the auto market for instance, softens and supply becomes more available. I would think that that has been a traditional difference not something that has just come up in the last year.

I see, okay. This new project that you are talking about, would the margins on this product be in the 12 to 14% range you guys have talked about, the potential new project?

I don't think we know enough about it just yet to be able to say that. Traditionally when we get involved with something new the margins tend to be higher and then over time go down for a lot of reasons. But I don't think we are actually far enough along in understanding exactly what the win will represent should we win and therefore what it would be. I don't think it is going to be dramatically different from what we have experienced in the past.

I'll jump back in queue. Thank you.

Mitch Golden (ph), RH Capital (ph).

One on the electronics segment. You had a pretty substantial increase in revenue or operating income went down so margins tracked it actually. Can you just talk about what happened there?

Yes, I think there are two things to look at there. One, I think just on average the mix of development work versus production work, both of which were paid for, changed between quarters with more of the development work in this quarter versus the prior year. The other thing to look at that we did point out is we incurred about $300,000 to $400,000 of costs associated with the two small acquisitions that we made. And these are costs that under generally accepted accounting principles need to be charged to earnings currently and not capitalized as part of the cost of the acquisition. I think those two things are the primary things.

Okay. Just a couple other things. The unallocated amount looks like it was up this year. Can you just explain what led to that increase? The 4 million versus call it 3.3 last year.

I see where you're referencing. I'm not sure and I don't want to hazard a guess at this point. It's about $600,000. I think I'll have to defer answering that one.

Just two more. I just saw some news cross (ph) about one of the directors leaving and the appointment of a new director.

I'm sorry, would you repeat that question?

I saw news cross just recently about one of the directors leaving and a new director joining. Can you (multiple speakers).

One of our directors retired. He was 88 and we had been nudging him to retire for sometime. He had another year or so left on his term and he was -- I think he got ill and was not able to travel and we replaced him with a former senior partner of Skadinops (ph). The Board approved the appointment today and appointed him until the next annual meeting of stockholders where he'll be up for election. And we think it's an excellent decision. He's very knowledgeable in Sarbanes and all the other rules that are applying to public companies these days and we think he's going to be a big help.

Great. And last one and I'll jump back in queue as well. And change in your CapEx guidance for the year or are you still planning on the spending -- and particularly I guess a lot of it was in the films business?

No, there's really no change. In spite of the results not being what we wanted. We're still quite profitable; we're generating a lot of cash and we feel it's important to move forward with those investments. As we've said in the past, the biggest percentage of them will be focused in Specialty Plastic Films.

Thank you.

(OPERATOR INSTRUCTIONS). Robert Longacre, Barrington.

Can you guys give more color on what you're thinking on stock buybacks?

I'm sorry, would you repeat that?

Just wanted to know what your thoughts were on stock buybacks. Obviously the stock is way down and I saw you guys put some money into paying down debt. What are you thinking about buying back stock?

Paying down of debt and the capital expenditures that we make really are separate and distinct from our buyback concepts. Just so you understand, our concept has been to buyback stock constantly. We've held back a little bit in this quarter only because we saw some softness in the sales and in the earnings as we wanted to see where we're going; but we will continue our buyback program. We have 1,700,000 shares available for buyback and we will become more aggressive in that as the year progresses.

Just so you know our history, we've bought back $191 million worth of stock or 15.3 million shares over the last number of years. And we expect to continue our buyback program as the year progresses, especially if the stock weakens.

Are you saying that you're not buying back stock because you're expecting the stock to get weaker?

No, I said I didn't buyback stock in this quarter -- in the prior quarter we spent $7 million buying back stock or almost 300,000 shares. This quarter, the second quarter we've slowed down our buyback program, spent approximately $1 million because we wanted to watch our cash flow and see what was happening because we saw there was going to be some impact on our earnings caused by these price increases of resin and steel.

We wanted to watch our -- we run the Company conservatively and we want to make sure that we have the cash flow necessary to do everything that we want to do for CapEx and for all other purposes and then we use the balance of the money to buyback stock. But we did very well in cash flow in the quarter even though it was not a great quarter -- as a matter of fact it was a lousy quarter -- and we now will reflect on this quarter on our buyback program and I'm sure we'll get more aggressive than we were in the second quarter.

Okay, thank you.

There are no further questions at this time. Mr. Blau, do you have any closing remarks?

No, if there'd any other questions we'd be happy to take them subsequent to the call. If there's any issue with respect to the unallocated cost, we're trying to get to the bottom of that number. And if that person wants to call in and continue that conversation we'll be happy to talk to them. I hope to have a better conversation with everybody at the end of the next quarter in August or July. And we'll see where the economy is taking us. And I want to thank all of you for your time and effort.

Thank you for participating in today's teleconference. You may now disconnect.