Helios Technologies Inc (HLIO) 2003 Q2 法說會逐字稿

Good day, welcome everyone, to the Sun Hydraulics second quarter 2003 financial results conference call. This call is being recorded. At this time, I'd like to turn the conference over to the investor relations spokesperson, Mr. Richard Arter [ph].

Thank you. Good afternoon, thank you for joining us to listen to the Sun Hydraulics second quarter 2003 earnings release conference call. With me are Allen Carlson, Sun's President and Chief Executive Officer and Dick Dobbyn, the Chief Financial Officer. Once we finish prepared statements we will next respond to questions we have received via e-mail before taking questions from the analysts. Before we begin, please be aware that any statements in today's presentation that are not historical facts are considered forward-looking statements within the meaning of section 21-E of the Securities and Exchange Commission Act of 1934. For more information on forward-looking statements, please see yesterday's press release.

I would now like to introduce Sun's President and CEO, Allen Carlson.

Thank you, Rich. And good afternoon, everyone. Sales for the second quarter were $18.9 million, a 9% increase from the last quarter. Sales increased 15%, compared to the same quarter last year. Sun's global strategy continues to pay dividends as international sales increased 12% from the same quarter last year, adjusted for the effect of currency and international sales are now 53% of total sales. We believe we're gaining market share in Sun market segments particularly central Europe, where sales are increasing in the face of difficult economic times. We still have not seen size of recovery in North American manufacturing sector of the economy. Sales in the U.S. operation this quarter were comparable to those in the same quarter last year.

This quarter, Sun's [indiscernible] of variable manufacturing costs decreased as a percentage of sales compared to the same quarter last year. The continuous improvements we have made to increased productivity will yield very healthy profit levels for Sun as the resurgence of growth occurs in the U.S. economy looking forward.

I will now turn it over to Dick.

Thanks, Al. Net income for the quarter was $800,000, equal to net income for the same quarter last year and a $500,000 increase from last quarter. Net income included a writeoff of development costs for an application software project in the U.K. Excluding this writeoff, net income would have been $1.1 million or 5.6% of sales, which compares with 4.4% of sales for the same quarter last year. The writeoff which was $400,000 pretax was for capitalized software costs relating to the upgrading the manufacturing system in the United Kingdom operation. The information is highly customized software project was aborted due to major flaws in the system. We've decided that it is not feasible to continue this project and intend to seek remedy from the software developer.

Gross profit for the quarter as a percent of sales was 29% compared with 26% for the same quarter last year. This improvement is related to the increase in total sales, productivity increases in the U.S. operation, and lower material costs in the German and Korean operations due to the positive effect of currency exchange rates. Gross profit as a percentage of sales in the U.K. decreased due to a productivity decline and incremental costs related to the attempted software implementation.

Selling, engineering and administrative expenses in the second quarter were $4.2 million. A $1.1 million or 36% increase from the same quarter last year. The major pieces of the increase were the $400,000 capitalized software writeoff in the U.K., the U.K. system conversion costs, increased professional fees, web site development costs, and tradeshow expense. Selling, engineering, and administrative expenses increased $300,000 or 8% from last quarter, excluding the writeoff, the software writeoff.

I will now turn to a discussion of the third quarter. Last week, Sun completed a recapitalization which we refinanced existing debt and further leveraged assets in order to pay a special dividend of $2 per share on August 18, the holders of record as of August 11. The related new financing consists of a term loan of approximately $11 million and a secured line of credit of $12 million. The minimum principal payments required under the new debt structure would be less than before. The interest rates [indiscernible] of LIBOR and interest expense of the first year in current rates is projected to increase approximately $200,000 to $800,000. The recapitalization is projected to increase the debt -- the equity ratio from 20% at the end of the second quarter to 60% at the end of the third quarter. Now, this financing is expected to give the company plenty of flexibility to maintain investments for the long term and to continue paying quarterly dividends.

Sales for the third quarter are projected to be $17 million with net income of six cents per share, compared to third quarter of 2002 sales and net income of $16 million and 8 cents per share. The anticipated decrease in net income, despite the higher sales volume and increased productivity is attributed to increased marketing and administrative costs including an estimated $300,000 related to the company's recapitalization and special dividend distribution.

We are now -- I'll turn it over to you Rich.

Okay. Before we take questions from the analysts, we are going to respond to some of the questions we have received via e-mail in the past couple of days.

The first question is from William Paul, and he asks: Do you know if the company has sufficient earnings and profits for the full amount of the special dividend to be treated as a dividend for tax purposes? (And not as a return of capital Dick, would you like to answer that?

This is not a return of capital but is being paid out of retained earnings. However, we cannot advise anybody regarding their personal tax situation.

Thanks. The next set of questions are from Brent Miley with Rudebaker Capital. First question -- of the strength in Europe broad based or in certain geographic markets If so, which ones? I think Allen will answer that.

We are seeing strength across Europe, but the strongest areas are in central Europe. Germany is the second-largest market for hydraulics in the world, and our German operation is doing an excellent job in market development in Germany and the surrounding countries. And the increase in Germany is not based on cutting prices as a result of the strong dollars, as most of our sales are in euros.

The second question from Brent Miley is, how sustainable is the improvement in Europe? Was the strength in Europe due to refilling depleted distributors because of low inventory levels? Or was it share gains due to currency or some other factor? Again, I think Allen will answer this.

We believe the business in Europe is sustainable. In fact, we believe it will continue to grow. This is one of the reasons we added the French company this past spring. Obviously, the exchange rates have been favorable recently. We are clearly gaining share in some European markets. At this time, we don't measure European distributor inventories, but based on what we do know, we do not believe it's a significant factor.

The third question again from Brent Miley -- would you please review the new product pipeline. I would like to know what the company is focusing on and when or whether they might become meaningful in terms of impacting the income statement. Allen?

This is a question we are often asked. It generally takes three to five years before any impact by itself. However, we're continually introducing new cartridge functions that when added to all the existing products presents customers with unique value-added solutions to many hydraulic problems. As we have mentioned before, we are adding more and more electrically controlled proportional valves to our product portfolio. The greatest benefit of these and other products will be our ability to ability to combine many cartridges into a custom-designed integrated package of we have the capacity to design and manufacture custom manifolds at all of our locations around the world. Using cartridges shipped from Sarasota, we're able too develop unique, high performance, high-quality, custom solutions for customers. No matter where they choose to manufacture their product. Thank you, Allen.

The fourth question, would you review what went wrong in the U.K.'s software rollout, and if there were any impact on operations. Again, parenthetically, shipping accurately, on time, billing, inventory, etc. Are you using this vendor in any other parts of the company? Dick, would you like to respond to that?

As to the affect on operations, I mentioned previously that productivity decreased in incremental cost during the quarter in the U.K. operation. Regarding what specifically went wrong, the main problems were that the system did not display the correct items to ship, a large amount of the time the system did not allow the products that were selected to be shipped, and invoiced. Invoices that were produced were frequently for the wrong amount or for no amount. And products were invoiced that were not shipped.

We believe that things are under control now. For added assurance, we asked our independent accountants to do a special audit at quarter end. They did, and no problems were noted. We did not use this vendor anywhere else in the company. As I said before, we will seek a remedy from them.

Thank you, Dick. The last question from Brent Miley -- please review the U.S. business. What sort of feedback are you getting from your main customers? Are there any signs of a pickup or further deterioration? Allen, how about you?

The U.S. market is very difficult to read right now. I am sure most of are you seeing the same thing. We've been hearing a lot about customers moving manufacturing out of the U.S. especially to China, New Mexico, and other places and some of this movement may be permanent. Fortunately our presence globally allows us to continue to service our customers anywhere in the world. How much the U.S. manufacturing economy will come back in the future is an open question.

Thank you Allen. That's all the questions we have received via e-mail and we would now like to open the conference call to questions from the analysts.

Our question-and-answer session will be conducted electronically.

If you would like to ask a question, please do so by pressing the star key followed by the digit one on your touch-tone telephone. If are you using a speaker phone, please make sure the mute function is turned off to allow your signal to reach our equipment. Once again, it is star-one, if you'd like to ask a question.

We'll have the first question from Peter Lisnik, Robert W. Baird.

Good afternoon, guys.

Hello.

Quick question on just the followup on that last e-mail question I guess. The U.S. business. You typically mentioned something about order patterns or rates. Can you give a sense as to what orders were like, specifically North America the second quarter and what you've seen so far I guess in July, early August?

Yeah, Pete. We didn't bother mentioning orders in the press release or even in the webcast because it pretty much -- sales and orders tracking together. What we're saying for the month of July is if you just took our orders in July and extrapolate them for the third quarter, you get $17 million, which is what we're forecasting.

And I've go -- I guess by that -- can I assume that July is -- never mind. I was thinking of something else. Okay. Second question, and this one's more strategically oriented, I guess. Can you go through -- I mean, in the press releases you've mentioned what kind of rationale was for the $2 dividend. I wonder if you could go behind the scenes a little bit to talk about strategy of the dividend, why you're doing it, and how you got to the $2 amount. Just -- just add some more colors as to what this transaction brings and what -- whether or not it's going to change management focus or things along those lines.

Pete, what we've attempted to do is tell you every single thing we know about the dividend in the past two releases. The intent to pay the dividend and in the last release, announcing the dividend. I don't think there's anything else that we can really add to it at this point.

But is there anything that it does to change management's focus or to change your strategy going forward to the market?

This is Al. That was certainly one of the questions we asked ourselves during the decision-making time. In the analysis that we did during and after. And very clearly, we chose to do this, and it would have no impact on the way we run our business.

Okay. Then -- I don't mean to harp on it, but the $2 amount, is there any color that you can provide on how you came to that amount? I'm assuming there's -- you did some modeling and came up with an optimal number. How did you think about the -- what did you think about to get to that the number?

This is Al again. Yes, we did some modeling. Various scenarios were played out. We looked at other numbers. At the end of the day, the board with the information and modeling in front of them, selected the $2 number.

So if I have the question this way, in terms of what the $2 number implies in terms of modeling, does that -- does that encompass a recovery of some sort? Or what kind of end market conditions do you feel comfortable, with the $2 dividend? Kind of stable with right now, improvement, can you give me, I guess, some color on that one?

The scenarios that we looked at were possibilities of incoming order rates. Best case, worst case, the most probable case. That was the -- the scenarios that we played out. And the $2 dividend fit very nicely with what we project going forward and, in fact, if there was a downturn in the economy from where we see right now of, say, 15%, 20% downturn, we were still in good shape.

Okay, that's what I was trying to get at, even with a renewed downturn, you'd be all right. Thanks.

Even with a downturn, we would be all right.

Okay. Thank you.

Again, it is star-one to ask a question. We'll go next to Michael Braig, A.G. Edwards. Good afternoon.

Good afternoon. You made some comments about European pricing. Could you comment at all about what's going on in the U.S., perhaps particularly as it relates to any special manifold or design work you might be doing with your new -- I believe it's Kansas facility?

Kansas City facility?

Yes.

I'll take that question, Mike, this is Al.

Yes, Al?

The Kansas facility which was announced I believe in February or March time frame has come onstream. We are shipping products from that facility, although not great numbers. We're using it at this point in time to provide customers quick turnaround for what we call expedited orders. It's allowing us to better service the customers. During a number of the previous questions and answers I've been given, I described the Kansas facility more as a marketing facility. It's customer service, what we're looking for. The project work and the quotation work, all of the things that get us to an order are still done out of Sarasota, just as they've always been. The Kansas facility right now focuses on short lead time and customer service.

Is there a premium price associated with that kind of service?

There is. There always has been in our model. The way we price products historically is a matrix that looks at the quantity required per annual quantity and the lead time. So if a customer says "I need it in 24 hours," we don't question the need of 24 hours. It goes into our system, and there's a predetermined matrix of pricing.

Okay. Thank you.

Uh-huh.

And we have a followup at this time from Peter Lisnik, Robert W. Baird.

Back again. Two quick questions I guess. The .3 million of incremental recapitalization expenses I guess that you're going to incur in the third quarter, I want to make sure -- is that a one-time item or is that a drag that's going forward?

That's absolutely a one-time item. It's bank fees, lawyers, all that sort of thing.

Okay. Generally speaking, you're showing some significant progress on productivity. You have them for I guess several quarters now. Can you refresh our memories or talk about some of the things you're doing on the productivity front to, I guess, enhance operating leverage.

This is Al. Yes, this is a focus we've had for, hmm, probably three years, maybe four years. We began seeing it after a year and a half or two years worth of effort. And what it encompasses is what I like to call agility in manufacturing. Some capital investment but not hugely related to capital investment. It's focusing the organization to meet customers' requirements with one part at a time mentality. So we're not busy running up lots of vast quantities of batch quantities -- of parts that aren't required. We also have all 535 employees here in Sarasota really focused at improving what they do, how they do it, minimizing scrap. There's not just one activity that's leading to this productivity improvement. That's why it's sustained. That's why it will continue for sometime.

And where are we in terms of time line? I guess there were -- there was probably certainly initiatives to implement. Are you pretty much through putting through a lot of these what I'll call enhancements, or are there still incremental things you can do going forward that should result in even better productivity?

We -- my guess is we're 30% to 40% through what we want to do. And people are identifying new possibilities, new opportunities daily. And we take a look at them and throw them into the hopper. Some we implement immediately. Some we push out. There's still plenty of low-hanging fruit in front of us.

Okay. Okay. Thank you very much.

And at this time, we have no further questions in our cue. I would turn the conference back over to our speakers for any additional or closing remarks.

Thank you. We'd like to thank you all for joining us on the conference call today. And look forward to talking to you next time. Thank you.

That does conclude today's Sun Hydraulics second quarter 2003 financial results conference call. You may disconnect at this time. We do appreciate your participation.