Graco Inc (GGG) 2003 Q1 法說會逐字稿

Good morning, and welcome to the first quarter 2003 earnings conference call for Graco Inc. If you wish to access the replay for this call, you may do so by dialing 1-800-428-6051 within the United States or Canada. You may also dial in for international callers, 973-709-2089. The conference ID number is 288274. The replay will be available through April 20, 2003.

At this time I'd like to inform you that this conference is being recorded, and that all participants are in a listen only mode. At the request of the company, we will open up the conference for questions and answers after the presentation.

During this call various remarks may be made by management about their expectations, plans and prospects for the future. These remarks constitute forward-looking statements for the future purposes of the safe harbor provisions of the Private Securities Litigation Reform Act. Actual results may differ materially from those indicated as a result of various risk factors, including those identified in exhibit 99 to the company's 2002 annual report on Form 10K and its most recent 10Q.

I will now turn the conference call over to Mr. Mark Sheehan, Vice President and Treasurer.

Good morning. First of all I'd like to excuse any background noise that you might hear today. I'm off site and there are some children in the background. So if you need me to repeat anything, please just ask and I will.

First of all I'd just like to welcome everyone to the call. Again, I'm Mark Sheehan, the Vice President and Treasurer of Graco. On the line with me here today is Dave Roberts, our President and Chief Executive Officer, and with Dave is Jim Grainer, our Controller, and Bob Mattison, our Vice President, General Counsel and Secretary.

I'll quickly go through some of the highlights of the numbers that we published yesterday afternoon, and then we'll open up the call for your questions.

On an overall basis we're very pleased to report another net sales increase this quarter. The 11% sales growth in the quarter is our fourth consecutive quarter of sales growth. This was also our first quarter since the fourth quarter of 1999 that we reported sales increases in all three of our divisions. The double-digit increases in our industrial automotive and lubrication equipment divisions were especially pleasing, given the uncertainty that's remaining, especially in the North American market.

Exchange rates helped our sales and net earnings again this quarter. The weaker U.S. dollar, when compared to the same period last year, added approximately 3 cents to the EPS line for the first quarter.

By segment, the industrial automotive equipment division reported sales of $52.4m, which was a 14% increase versus last year's first quarter.

Volume was virtually flat in the Americas and Europe, but strong demand for products throughout the Asia/Pacific region and favorable currency conditions, both in Europe and Asia, led to the double-digit sales increase that we reported this quarter. In addition to that, profitability for the industrial automotive equipment division was strong in the first quarter. They reported operating margins of 26.7% versus 25.5% last year. In addition, their operating profits grew 19% versus last year's first quarter.

When compared to the first quarter of 2002, the worldwide contractor equipment division sales of $54.9m increase 7%. In the Americas sales were higher in the professional paint store channel, and they were slightly lower in the home center channel. Successful new product launches in the paint store channel were more than enough to offset the impact of poor weather conditions and an ongoing weak commercial construction market in the United States.

Sales increased in both Europe and Asia, as both regions posted volume gains and benefited from favorable currency conditions. Operating profits in the contractor division declined 1% versus last year, and profitability also declined by 1.6 percentage points, as this division spent more on selling marketing and product development versus last year's first quarter. These increases in discretionary spending were planned, and they are in support of higher sales growth.

The lubrication equipment division reported first quarter sales of $12.4m, which were 17% higher than last year. Again, successful new product introductions, and a promotion that they ran in the month of February were really equally responsible for the revenue growth versus last year's first quarter. The operating earnings of this business grew nicely. They increased by 32% versus last year. And their profitability improved by 2.9 percentage points. Again it was a combination of higher sales, better gross margins and good discipline on the operating expense side that drove these nice comparisons.

When you look at the company as a whole, the gross profit margin, expressed as a percentage of sales, was 52.7% for the quarter, and that compares to 51.1% for the same period last year. The higher gross margin was really due to favorable exchange rates. Changes in the exchange rates have less of an impact on costs than the do on sales, since we manufacture our products in the United States, more or less, and export those products into the foreign markets.

If you look at operating expenses for the quarter, they were higher versus the first quarter of 2002. A lot of that is due to the higher sales. Overall, expenses were up $4.2m with increases in several categories. There are really no specific items to highlight here, as expenses were higher in everything from insurance and pension expense, to incentives, marketing programs, sales meetings, promotion activities, etc. We would say that the discretionary expense increases this quarter were really planned and designed to result in higher sales in the future. We're making investments for higher sales.

When you look at the tax rate for the quarter, the effective rate was 32.8%, which is just up a little bit from last year's rate of 32.3%. We are projecting somewhere in the 32.5 - 33% range for the full year. Looking at some other items on the balance sheet and in cash flow statement, the cash flow from operations was very strong, $17.5m versus $12.4m last year, and cash was used to fund primarily the capital expenditures, dividends and obviously the cash on hand was used to finance the purchase from the Coach family of a significant amount of stock, that we announced in mid-March. We [re]-acquired 2.2 million shares of our outstanding stock.

The accounts receivable for the quarter are higher than a year ago. They're at $93.9m versus $91.1m. And really that reflects the improved sales results that we experienced this year versus last year.

Inventories are higher than year end, and that's primarily due to the build up of inventory in the contractor business prior to their busy season, which is currently at hand.

Just to summarize before we turn the call over for your questions, Graco had a great first quarter, 11% sales increase and a 17% increase in net earnings, very good results. We're encouraged that the revenues grew in all three segments this quarter, and we are off to a pretty good start for the year. We have a nice tailwind helping us on currencies. Last year's full year effective rate for the euro was about 94.5 cents, and given where the euros at today, at $1.08, that's nice momentum that should last throughout the year if the euro remains at these levels.

We have a number of new products that we introduced that are doing well in both industrial automotive division as well as the contractor and lubrication divisions, and we're excited about the prospects for continued revenue growth as we head into the remaining part of the year.

That concludes the introduction and I'll ask Frank to turn the line over now for your questions.

Thank you very much sir. The question and answer session will begin at this time. If you are using a speakerphone, please pick up the handset before pressing any numbers. Should you have a question, please press star-one, on your pushbutton telephone. If you wish to withdraw that question, please press star, two. Your questions will be taken in the order that they are received. Please stand by for your first question gentlemen.

Our first question comes from Michael Schneider, of Robert W. Baird. Please go ahead with your question, sir.

Good morning, guys, congratulations.

Mark, maybe you could give us some local currency numbers? Industrial/automotive up 14%, you said volume was up in Asia; if you could break down the 14% and tell us just what it was in local currency growth?

Well, if you were to look at industrial, as a whole, Mike, I don't think I want to give you all the regions. But, they were up, obviously, 14%. Actual, they were up about 6% on a volume basis, so pretty good growth, and pretty good volume growth there.

OK. So, up 6% in Asia, or up 6% overall?

Overall.

Asia was stronger than that, Mike.

Ok, and the boost in Asia in that industrial/automotive, is that the new distribution system you put in there starting to kick in as well?

No, it really isn't. Primarily the distribution, or the warehouse that we installed was primarily to support the contractor business.

Right.

But what we've done is added new sales people and they've added distribution itself, in China. And we've seen, I can just say, fabulous growth in China.

And are these manufacturers reps then, or are these actually on the payroll?

No, our sales people, we've added, which are on the payroll, and then they're adding distribution, you know, similar to the pattern we follow here in the U.S., where they're independent business people.

Right, and then the contractor business, can you give us some insight as to why the big box sales, or retail sales, might have been weaker than average? And were they, in fact, down, year-over-year?

I don't have a year-to-year comparison, but I can tell you that they had a difficult time in the northeast, because of weather in January and February. We really started to see it come back, somewhat, in March. But that's about all we can tell you about the Home Depots of the world.

OK. And then Mark again, volume growth in contractor?

Yeah. You know, the volume growth in contractor was about 5%, Mike, on an overall basis. They really don't have a whole lot of sales in Europe and in Asia.

Right, and then, similar question just in lubrication. I know they have little international, but was volume growth closer to 17% as well?

It was pretty close to that, Mike. It was about 15%.

OK. And then, were you at all discouraged by the margins, this quarter? I know margins were up and certainly you guys have incredible margins, relative to your peers. But, I would've thought, actually, with the euro tail wind you have, and given that all your manufacturing issue was in the U.S., there might've even been a larger kick. Is there something that I'm missing in that?

Are you talking gross margin, or operating margin?

Gross margin.

Well gross margin, we were up. You know, I think that we've had a few startup problems with the new products, Mike, in the first quarter, that won't recur, that had some impact on the margin. You know, we just weren't as efficient in the manufacturing operation as we have been in the past. But frankly, that's a very short-term situation that going forward we don't see repeating itself.

Yeah, I would say that the overall margin, we feel pretty good about, Mike. There was some spending that went on in the first quarter, both on the operating expense side as well as in the cost-of-goods-sold side. But we feel real good about those expenditures and we're really making investments to try to grow the business.

When you look at the overall results, where you've got really nice real growth here, for the quarter, when you look at the consolidated number, the real growth is about 7%. We're a company that's in mature markets and isn't really a big player when it comes to acquisitions. We think that some of those investments are really paying off.

And frankly, in a very soft economic time, particularly in Europe, and the North American market.

Truly a great performance. OK, I'll get back in line. Thank you.

Thank you. Our next question in queue comes from John Franzreb, of Sidoti & Company. Please state your question.

Good morning, guys.

My first question regards the Sharpe acquisition. Could you kind of prioritize what your objectives are? Is it rationalizing the business, bringing it up to a Graco type profitability? Or is it increasing the distribution of the products and maybe leveraging some of your own into the channel?

Hey John, I think it's both of those. We've got our manufacturing people looking at the operations today. We think there is some improvement to get it closer to the Graco standard, from an operating model standpoint. At the same time, we think Graco will be able to leverage Sharpe outside of the U.S., and we're taking a strong look at that.

Sharpe is primarily a North American business today. They do very little outside, and we think that's one of the advantages of Graco buying Sharpe, is being able to leverage that outside the U.S.

OK, and switching gears here, some of the selling and promotion activity seemed kind of high. I know in the fourth quarter it was to support all the new product introductions. First, do we have any other products rolled out in the March quarter? And secondly, do you expect that promotional activity, be it in contract or lubrication, to kind of slow down into the second quarter?

Well, we're continuing to develop new products. The vast majority of the product was rolled out in the latter part of the fourth quarter. And, the vast majority of the contractor products were rolled out in the first quarter of this year.

We've got some aggressive product development plans that we're implementing, in both our contractor business and in our industrial business. And, we'll see some moderating, but frankly, not a lot.

Yeah. I think that I would just add to that that in the first quarter of the year is really the ramp-up for CED. And they do a lot of promotional activity. A lot of brochures are printed, a lot of marketing. So it's not atypical for us to spend more in the first quarter. In this year in particular, where we did announce that we had a lot of new products that we're launching, there was just more spending there.

In addition to that, if you look at last year, in the first quarter, vs. this year in the first quarter, with the higher performance that we had this year, some of the accruals that we have for things like incentives, etc., are up year-over-year. And that's also part of the overall [crosstalk] that you're seeing.

And the other issue is, last quarter obviously we were coming out of-or, first quarter of last year, we were coming out of the 9-11 event. And frankly, we had clamps on all spending at that point, not really knowing what was going to happen in the year.

Fair enough, thanks a lot guys. Again, good quarter.

Thank you. Our next question comes from [Tawen Kanna], of Wellington Management. Please state your question.

Yes, good morning. I'm just curious on the share count, you know, as we progress later into the year, what's your kind of remodel, given that you bought back the stock in the quarter?

Well, the 2.2 million shares that we bought back, we bought it back, really, towards the end of the first quarter, so you really didn't see any impact of that, here in the first quarter of 2003. Those shares have been retired, I guess, cancelled. So, they're gone. So you can take those out of the share count, going forward. And, of course, there will be a weighted average calculation on the full-year basis.

Over and above that, for the remainder of the year, we've really issued a lot of our stock already. We have an employee stock purchase plan that's already taken place. You know, it's hard for us to project what kind of option exercises and those types of things that we have, but I just point you to look at the historical numbers there. You'll probably get a pretty good feel for what kind of additional shares we'll be issuing for the remainder of the year.

But, it should be a pretty nice reduction in total shares outstanding here, for the rest of the year.

OK, and just one follow up question. I guess the euro's clearly benefiting you, the weak dollar/strong euro. I'm just wondering, are you taking steps to kind of hedge that now? Because, I guess the big question mark is, is it going to stay at $1.09 for the rest of the year, given our weakness and the European economies? And I don't know; it's a tough call to make, really.

Yeah, well the answer is, we're not. We really have never done that and I'm sure that we've got shareholders out there that have lived through the agony of the euro going the other direction for a very long period of time. And now, we're pretty glad that we didn't hedge it a year ago, at say 94 cents, when that looked like a pretty good number. And, we're benefiting here, where it's sitting at $1.08.

So, I guess that the answer to the question really is, we're not playing to hedge the euro when it comes to a revenue standpoint.

Great, thank you very much.

Thank you. Our next question comes from Mike Schneider, of Robert W. Baird. Please state your question sir.

Hi, could you guys talk about the loop division, then. Obviously, it had good success. Is it primarily with the Matrix product? And then, should we expect that you have somewhat borrowed form future quarters, given the promotions this quarter?

No, I don't think, to answer your last question first, Mike, I don't think you can assume that we're borrowing from future quarters. We did this in promotions, in February of this year, and it did help us somewhat. But, equally shared in that increase was the new Matrix system that we introduced.

Now, there was some pipeline fill, with that, as the product was rolled out to our distribution. But, frankly I don't see that we borrowed from future quarters, I guess.

OK, but are you still planning double-digit growth in loops for the year, based on Matrix alone?

Well, you know, we don't comment on the future. But all I can tell you is it's being nicely accepted in the marketplace. Let's put it that way.

Did you win any type of national rollout, akin to what you did with Sears?

I'm sorry Mike. What was that?

Did you win any type of national contract rollout akin to what you did with Wal-Mart and Sears years ago?

No. There's no large one single customer out there, that's bought the system.

OK. And then, secondly, Mark just to nitpick on the balance sheet, or actually the cash flow statement, other accrued liabilities, had a $5m benefit this quarter. Is there something unusual going on in that line item?

I don't think so, Mike. I'd have to dig into it, to look at it, to be specific. But, I think part of the number relates to our employee stock purchase plan. And, I don't think there's anything funny going on there.

But, if I find it, I'll call you and let you know.

Fair enough. I believe that's it. Thank you.

Our next question I queue comes from Michael Gardner, of Wedge Capital. Please state your question, sir.

Congratulations everyone.

Thank you.

Just to follow up on the Asian strength, taking your comment Dave, is it fair to say that all of that strength comes from China? Or are there actually other pockets of strength in Asia? That's the first part. The second is could you give us a little more detail about what kinds of product lines are involved in this? And then the last part would be, is there any aspect of that strength that was kind of one time in nature, or do you still things holding up at that kind of level?

Sure. Well actually China was definitely our strongest market, but we had very nice growth in every country, with the exception of Japan. Japan was actually a negative compared to last year, again this year. So you know China has more than overshadowed what's happening in Japan though, from their growth patterns.

If you look at it, there is nothing that's a single big item that caused significant growth in China itself. We had some automotive jobs, but they weren't large. They were medium sized. The furniture business has been very good to us this year. I don't imagine that there's a furniture manufacturer left in the States, to be honest, or in Taiwan, they're all moving into Mainland China. So we're picking up that business. It's basically this general industrial business all around in Asia, and it's even stronger in China itself.

Thanks a lot.

Oh, you asked one other question, are we seeing it in one division over the other. Actually both industrial and contractor were both very strong in Asia this past quarter.

Great.

As a reminder ladies and gentlemen, should you have any further questions, please press star, one, on your pushbutton telephones at this time. If there are no further questions at this time, I will now turn the conference back to Mr. Mark Sheehan to conclude.

Mark, what I would like to say to the group is obviously we have a lot of employees that listen to this conference call, and I'd like to personally thank them for their efforts, because we had a heck of a quarter as a result of what everybody at Graco did this past quarter.

OK, I think that pretty much sums it up. I don't have any closing comments.

Ladies and gentlemen, this concludes our conference for today. Thank you all for participating and have a great day. All parties may now disconnect.