Helios Technologies Inc (HLIO) 2004 Q4 法說會逐字稿

Good day everyone, and welcome to Sun Hydraulics fourth-quarter 2004 financial results conference call. Today's call is being recorded. At this time I would like to turn the call over to the Investor Relations and marketing spokesman, Mr. Richard Arter. Please go ahead.

Thank you, Keith. Good afternoon, and thank you for joining us to listen to Sun Hydraulics fourth-quarter year end 2004 financial results conference call. With me are Dick Dobbyn, Sun' CFO and Tricia Bolton, Corporate Finance. Allen Carlson, Sun's President and CEO is unable to attend the call because he is traveling in Europe. Together with the conference call we are hosting an investor open house here and have a roomful of guests that will be listening to and participating in the call as we go on. A few minutes ago we made a brief press presentation to introduce Sun are open house guests. That presentation is available at the Investor Relations section of the Sun Hydraulics website.

Once we have finished our prepared remarks we will open the lines for questions and answers. We will initially take most of the questions from the dial in participants and then take questions from the audience here. Before we begin, as usual, please be aware that any statements made in today's presentation that are not historical facts are considered forward-looking statements within the meaning of section 21-E of the Securities Exchange Act of 1934. For more information on forward-looking statements, please refer to yesterday's press release.

I would now like to turn the call over to Dick Dobbyn.

Thank you, Rich. Good afternoon everyone. We had another great quarter to finish an excellent year. We believe our most important achievement in 2004 was our ability to maintain and improve our on-time delivery even with the 33% increase in sales. This capability will help Sun to continue to grow in all our markets both short and long-term. The rebound in the U.S. market was very strong in 2004 and remained strong in January and February this year. 2004 sales in the U.S. increased 40% compared to 2003, and our international business remained strong with sales up 27%. While the 33% increase in total sales have a major positive effect on margins, we are also able to offset the effect of material cost increases and further improve margins through higher productivity.

This enabled us to hold the line on pricing. As a result, we believe we have gained market share. In 2005 we will continue to find new and better ways to service our customers. We plan to invest in marketing and productivity improvements at a level comparable to 2004. I will now ask Tricia to cover the financial results, and then we will be back to answer any questions.

Thanks, Dick. I would first like to comment briefly on the fourth-quarter results compared to 2003. Fourth quarter net sales were up 33% to 23.5 million. Net income rose to 2 million compared to 600,000 in 2003. And basic and diluted earnings per share increased to $0.29 versus $0.09 for last year. Now to summarize the results for the year, 2004 net sales were 94.5 million, a 33% increase over last year. Net income increased substantially to almost $8 million compared to $2 million. Basic and diluted earnings per share were $1.14 compared to $0.33 cents in 2003.

Net sales in the United States operation increased 38%, with shipments to Asia up 29%, Canada up 27% and domestic shipments up 40%. Net sales in the United Kingdom operation increased 18% primarily due to increases in sales to European distributors while England domestic sales were flat. German operation net sales increased 38% with increases in all markets served, and net sales in Korea and the Korean operation increased 27% due to increased shipments stimulated by Korean customers meeting demand from China, coupled with growth in the domestic Korean business.

Gross profit was up 54% to 28.5 million in 2004 compared to 18.5 million in 2003. Gross profit as a percentage of net sales increased to 30% in 2004 compared to 26% in 2003. This increase was due to the increased sales volume as well as productivity improvements, both of which more than offset increased material and employee benefits costs. Selling, engineering and administrative expenses in 2004 were 16 million, a 10% increase compared to 15 million in 2003. The increase was primarily due to higher employee wage and benefit costs of 1 million, including the establishment and funding of an employee stock ownership plan.

The Company paid quarterly dividends, each of the four quarters of 2004. Dividends for the first quarter were $0.04 per share and were raised to $0.05 per share for the second and third quarters. The Board again raised the dividend in the fourth quarter to 7-1/2 cents resulting in total dividends per share for the year of $21.5. Net cash from operations in 2004 was 15 million compared to 9.5 million in 2003. The 5.5 million increase was primarily due to the increase in net income of 5.7 million while working capital excluding cash remains relatively static. Cash on hand increased 4.5 million. Capital expenditures were 5 million. Debt was reduced 6 million, and 1.5 million was paid to shareholders in dividends. Days sales outstanding increased slightly from 33 to 35 and inventory turns improved from 8.1 to 9.4.

Looking forward, as order rates remained strong in January and February, sales for the first quarter are projected to be 27.5 million, a 29% increase over the first quarter of 2004. Net income per share at that sales level would be $0.38 to $0.41. Thank you.

Thanks, Tricia. Okay, Keith, we would like to open the line for calls right now.

(OPERATOR INSTRUCTIONS) Scott Mackey (ph) with Robert W. Baird.

Congratulations on a great quarter. I want to first talk about the outlook for the first quarter '05. Obviously very strong top line growth there. I was curious how that breaks out U.S. relative to international sales growth.

Yes, the mix would stay pretty much the way it has been, but I think we are seeing more on the domestic, U.S. domestic side.

When you -- so you mean, so if I look at I guess as I look at U.S. relative to international, then international sales grew at a slower rate especially towards the fourth quarter. You had said in the last conference call is that a trend that you expect to continue then into the first half of '05, that the international growth rates will be slower than that of the U.S.?

At the moment that is what we are seeing, yes.

Okay. Thank you. And I guess I want to take -- I know you didn't talk specifically about the second quarter, but as we get into '05, then we start to lap some of these very high growth rates especially in the U.S., and looking at that 52% year-over-year growth rate in the second quarter of '05, I was curious your thoughts in terms of what kind of growth you might be able to achieve on top of that comparison.

That is what we were wondering, too, Scott. Just kidding. But really if you look back historically, just about in any year the second quarter is always the best year. Our best quarter. So that's what we're hoping for.

Fair enough. I will hop back in the queue.

How do you see it? Do you think --.

That is true, it looks like a big quarter, huh?

(OPERATOR INSTRUCTIONS) Brent Miley (ph) with Rutabaga Capital.

I was hoping you might answer a couple questions I had. One is I was wondering what kind of operating rates you're running at and where you guys are in terms of capacity. You've had some real healthy growth I am wondering kind of where you are on that front related to that, I was wondered if you might talk about what kind of CapEx you might have for the coming year.

Sure, Brent. Actually we got a question about capacity, so I thought I would take your question and the question that came in over the Internet. And this is the question from Mike Bragg, independent investor. He has three questions, all related. What is Sun's revenue generating capacity, does it matter where the demand increase occurs and are the facilities in Sarasota Coventry (indiscernible) dependent on one another? So I will answer your question, Brent and his question.

I want to start with his last question, which is the dependency of operations on each other. And I will answer it this way. In each Sun location throughout the world we design, manufacture and outsource manifold blocks, the custom manifolds. The cartridges are made largely in the U.S. and these are the standard products going into the customer manifold location. We also manufacture cartridge valves in the UK. So the answer is they are dependent upon the U.S. and the UK for (indiscernible) products. So does it matter where the demand increase occurs? No, it doesn't.

So what is our capacity as you asked Brent, and his question is what is the revenue generating capacity, and because we don't use top-down modeling on capacity I'm not going to give you an answer to that, but I will tell you how we do it. We have ongoing bottoms-up approach to capacity in that we in a very formal way, since we are the manufacturer, (indiscernible) anybody looking at me now saying don't blow it -- and we are looking constantly at bottlenecks and solving those bottlenecks. So we're constantly managing the labor, the machinery, the processes and our suppliers, whether it be the suppliers or outsourcing noncritical parts to our current supplier. So that's an ongoing basis even in the midst of what I would call almost a depression here in products in the upturn last year in business, we were worried about capacity. And we planned for it and you saw how we are doing.

The first two months of this year we jumped up again another 30%, and I won't say that we're not (indiscernible) to break a little sweat but we're keeping our on-time deliveries to customer requests at the high level they have been at. So the one thing that is missing in all of that is what happens when you run out of physical space. And right now we are having doubled our production capacity in the UK last year and looking at what we're looking at now in terms of bringing in additional people and machinery in U.S. operations, we don't see that that would be a capacity limiting thing in the near-term, even given the continuing need for space.

Now if it does, and if we start to see it keep going up and up, we have purchased land just down adjacent to this building, and we have a rather finished blueprint plans to put up another building there should we need it.

Have you guys quantified the CapEx for the new machines and the new efforts in the UK and in the U.S.?

I am sorry I forgot that. We will spend about 5 million which would be about the same as this past year, Brent.

Okay, great. And then one question on margin -- you guys have shown exceptional leverage; really done a tremendous job which is what you guys always said was when the demand comes back you should be in real good shape. Does the leverage do we start getting diminishing returns at some point? Do you still feel like the operating margins can improve with the increased volume, or is there any sort of an offset that I should be aware of?

I do not think we are going to have any diminishing returns on the margins. And again, because we don't think we have any big capacity constraints, we don't think that we're going to be hurting our margins by not being there when we get a product out efficiently. However, at this level of volume I think we can hold the margin that we were seeing last year.

One more if I could. Is there any change with all the growth is the order size still the same. Have you gotten any new large pieces of business or is it still been incredibly diversified?

It's incredibly diversified. We can't point to any one specific customer or area.

Great. Thanks a lot.

That was it for the phone questions.

Let me shift and see if there are any questions here in the room. Anybody have any questions here?

(inaudible) admiral (indiscernible) outstanding thirty something days, what are your standard terms?

Standard terms are 2.5 10 net 30 and a guy named Bruno from South Bronx (laughter) (indiscernible) He knew that the biggest problem most companies have is getting enough cash. So we have very liberal payment terms and as a result we don't have any collection problems.

Let me read a question that came in via e-mail, and we will respond to that one. This is from Mr. Sharp. I would like to know more about the plans to increase the market share in the year 2005. Will you be introducing newer products? Will you be entering newer segments of the market, or will you be entering markets of more countries?

Yes, the answer is yes.

Yes, the answer is yes.

We recently put a lot of emphasis on the electrically activated valves driving our custom valve back business with (indiscernible)proportional valves and we're continuing to expand into that line. And also, we are pushing the valve backs (ph) which is a combination of the custom manifold made locally and the valves out of Sarasota to get into more and larger hydraulic systems. We also have done a study on the use of our website, and we're finding people from all corners of the earth that are using this to do some rudimentary design, either mechanical design engineers are getting at our products through the website and we think that is going to expand quite a bit.

One thing I might add to that is Sun is introducing new products all the time, continuously, and they generally take a while to get into the marketplace, but it is not just a single new product that gets in but it is effect on all the other products we sell. We talked about the electrohydraulic products.

Well, the sales in and of themselves might not be absolutely enormous but those they bring along a lot of other valves we manufacture. Specifically, we are in the process of introducing some stainless-steel valves, which is very new for us that will be used by certain market segments, and those valves are to get back to the previous question, about (indiscernible) being produced in our UK facility. Those will be valves specifically most often used in marine industry, maybe sometimes food processing, stuff like that. (inaudible) need the great corrosion resistance or absolute cleanliness. So the answer to the question is yes, all three. New markets, new products and new countries.

Do you have any more questions on the line?

We do have two questions on the phone line. First we will go to Scott Mackey with Robert W. Baird.

I am again going to try this one again and see if I can't do better. Especially in talking about the electrohydraulic valves and the new stainless-steel valves out of the UK facility, is there any sense you can give us just in terms of the amount of growth you've seen by those products? The amount of growth you expect to see from those products? And especially Richard, your point maybe not so much the growth of the just electrohydraulic product, but the amount of growth you've experienced say in 2004 because of that product and the additional demand, the other valves you are able to sell along with that.

I think it's very difficult to quantify, Scott. Again, the electrohydraulic products opened new opportunities that we might not have otherwise been able to see. And they bring along lots of other products. So to quantify that in some type of financial sense, I think it is very difficult.

I think we can say that when we look out at the breakout of sales the custom valve hotpack part of our business is growing at a higher rate than the other parts of the business. We can say that.

I think the electrohydraulic products spur that.

And then I want to get a clarification. I couldn't quite hear on my line if you said you thought that the level of margins were sustainable or the level of incremental margins were sustainable. I don't have my model in front of me, but I'm guessing the incremental margin was somewhere around 35% in 2004. Do you expect to see something comparable to that in 2005 given your cost structure and the amount of leverage there?

Yes. I'm saying we can hold the incremental margin which means a higher volume we expect a higher gross profit percentage rate.

With that in mind, do you guys think in terms of -- thinking back 1995 and 18% margins -- is that something that you think is achievable in the next two years?

You are talking about when we were about 36 or 37% gross profit?

(inaudible) anybody running around saying Dick Dobbyn says its going to be 18% --.

I'm just trying to get a feel for peak margin potential.

Peak margin did you say?

Yes, correct, peak operating margin potential.

I don't think we can say.

Fair enough. I will hop back in queue.

Brian Rafn with Morgan Dempsey.

Question for you -- maybe this is a question for Dick. I'm assuming you said you held the line on prices. Can you breakout then the revenue growth for the year? Primarily I would imagine organic unit volume growth and then maybe what the component of foreign currency might have been?

Yes, sales increase was 33%. If you take out the effect of foreign currency it was 29%.

Okay, and I'm assuming the price inflation was pretty negligible then? Your ability to hike prices across the board, you kind of said --.

I think we have a good ability to raise prices, but we didn't because we want to get market share. And we had some price increases in January that were not broadbased. They were selective, and not a large amount of revenue. But they should be enough to hold off some of the cost increases we are seeing.

Okay. Can you give us some type of a quantitative magnitude of what you're raw materials, your steel costs and that were up year-over-year? Ballpark.

I really can't.

Okay. You had talked about -- the caller had asked relative to capacity. You mentioned if you get into a physical space what blueprint-wise what are you looking for if you were to put out another adjacent plant, kind of a square footage?

I would say not unlike the 265,000 square foot plants we have in Sarasota.

Okay, fair enough. What are you guys currently running on a shift basis? Are you running one shift, two shifts?

We run two shifts 10 hours, and the second shift is not filled up yet by any stretch. And on the first and second shifts we are working some overtime now.

Some overtime, okay. What relative you mentioned I think the comment I think was well placed, industrial U.S. industrial companies have gone through "a Depression since about 97." And you guys and no one got to where you had some layoffs with people taking unpaid vacations and you had some salary reductions. Is there any latent capacity relative to as a company prospers, you leverage up a little on the SG&A, higher raises, higher bonuses that type of thing? And what do you expect going into '05 salary and wage cost inflation for your employees will be?

I think we brought everybody back to normal, so to speak in 2004, and we kind of in the benefit plan made up for some of the lost ground with people that worked very hard but weren't getting any results until 2004. So I don't think we will see anything unusual in 2005.

Kind of a normal 2, 3, 4% average cost of living type?

Right. (inaudible) to Bob Koski.

We have no layoffs, we had no layoffs.

We kept all our people, Brian, and evidenced the first quarter last year we shipped 30 some percent more and did not work one hour more of overtime.

You guys always get an A in corporate paternalism, so I give you high marks on that.

It is not paternalism, it is just good business long-term, that is how we look at it.

Okay. Can you give us any sense relative to at 66% of your end markets mobile, 34% roughly, one-third, two-thirds industrial. Do you get any sense your different end markets, how much sales are direct sales to customer and what you might be seeing in wholesale inventory building?

We sell a large amount through distributors, and we poll our distributors in the U.S. for their inventory, and they were only up about 10% at the end of December. So we don't -- and they've been kind of flat during the year. So we don't really see any channel building, so to speak.

Okay. What is your sense kind of on a qualitative as you look across your different markets, you're talking with your suppliers, your supply chain logistics? What the tone of business, the sense of the duration of this business cycle, you guys are certainly a CapEx supplier. Where do you guys get the sense, are your customers hesitant to build inventories? Everyone is talked about the cash building up on corporate balance sheet and the latent property plant equipment spending -- what are you guys at Sun Hydraulics see when you're talking to some of your customers?

I don't know as we see it talking to some of our customers again because we may sell through distribution, but in the industry what we see is that a whole variety of sectors at different point lines in the whole recovery process, and it's hard for us to figure where we are in that because we serve every one of those segments. So we are on the rise, and dependent on whether you are talking about agricultural equipment or forestry product or construction equipment they are all different docks on that recovery curve.

Okay fair enough. Your CapEx budget for '05 you said was somewhat similar to the 4.9 million you spent in '04.

Right.

What would be maintenance CapEx, what would be capacity productivity initiatives?

I would say about 2 million maintenance and 3 million new equipment.

Okay, and then one closing question. The loss of the accelerated depreciating tax credit in '04 and this repatriation of foreign cash offshore, are those really both negligible effects for Sun Hydraulics?

Well, actually we are bringing cash back from overseas, but we've got enough foreign tax credits to do that so we're not going to use the Jobs Creation Act, but we are going to get a manufacturing credit under that Act, and it is not trivial. It will lower our tax rates one percentage point.

100 basis points, good enough. Superb job, guys. Thanks.

Scott Mackey.

Sorry about that. Beat me to the punch there on the tax rate but I also wanted to ask about share count, especially in light of the ESOP contribution in January and the announced share repurchase. Which if I read that correctly then the share repurchase at 2.5 million gives us an idea of the number of ESOP shares expected to be issued in '05, but just wanted to confirm that and maybe get a sense for timing throughout the year.

This is Tricia. We repurchased some of the shares prior to year end. We were only able to purchase under the preprogram plan that we had set up about 6000 shares. We will be purchasing the rest of them throughout this year, and we probably are going to -- it is going to depend on the stock price when it's purchased. We are going to set up another preprogram plan. Number of shares outstanding is just over 7 million.

Is that the number that is baked into your first quarter forecast?

Yes.

Okay thank you. And then as you look through '05, then and maybe out even '06 at some point you start to accumulate a fair amount of cash. Anything in particular we should be thinking about in terms of what you might do with that cash, what priorities might be?

What are you looking for, Scott?

Just in terms of you guys have done substantial dividends in the past, onetime dividends in the past.

We have some investment options, and we are looking at those, and we can't say anything definite about whether it will be dividends or whatever at this point. We are looking into China market, and we're looking at other opportunities. So we are well aware that we have got a lot of cash, and we intend to do something with it or give it back to the shareholders.

All right. Thank you very much.

Are there any questions in the room?

Since you have three operating environments in the U.S. and in England and Korea (inaudible) dollar being weak (indiscernible) is there a chance to optimize margins by moving business between those operations or are they fairly regional in their customer base and can't move around the margin optimization?

Actually we do not have to do any of that because we are lucky. We sell out of the UK in dollars into Europe, and the UK sells into dollars when they sell us steel manifolds. So the UK is actually been getting currency losses, transaction losses even though their basic unit is the pound. So those losses have been offsetting to a large degree the gains that we see in Korea and in Germany. So at the moment with that structure we are kind of self hedged.

Any other questions in the room? Any other questions on the line, Keith?

No phone questions at this time.

Dick alluded to China, what challenges and what opportunities do you see in that (inaudible)?

We have a joint venture in China that has been growing very slowly. (inaudible) We are at the point now where we're doing one million a year and a good healthy profit and we are talking with our partner about where do we go from here. Realize that we are not in China to manufacture. We are in China to sell our high-tech, high-performance BMW valve, so we are not looking for low-cost. We're looking for them to find their high-performance applications, or high demanding applications in China. So we're looking for distribution in China, and we're looking to have somebody to head it up so if you know anybody that knows anything about hydraulics and speaks Mandarin or something send them by.

The Chinese market is such a large geographic market, and we've been centralized largely in Shanghai in the initial phases, and now we have to kind of set ourselves out farther into the other three or four industrial areas.

Brian Rafn.

Question for you guys relative to the China situation. With all of the worries relative to transfer the technology, national security, piracy, I think Dick had mentioned we are there not to manufacture but we're there to distribute and sell. Kind of what are your risks relative to transfer the technology that type of thing when you are negotiating in China?

I don't think we have any more risk in that regard in China than we do anywhere because everybody can pick our products apart and look at them, but God bless them if they can make them at the high-performance that we can and the wide variety that we can. A lot of technology in our process in-house, very, very expensive to duplicate.

Okay. You don't see relative to exporting any licensing restrictions or exporting restrictions relative to your valves, cartridge valves or your manifolds in the --?

I see what you mean. No, I don't think so. I think there is nothing (inaudible).

That's one of the nice parts of making the manifolds locally, we've got a lot of design and local contracts in the core markets.

Right, have a lot of local contracts.

Thanks, guys.

No further phone questions.

As India becoming a fast growing country, is there anything going on there?

We have a distributor.

We have a distributor in India.

And we have a distributor in India and that's about it.

I think we have it's an interesting market. I guess we've had that distributor signed up for about five or six years, but (multiple speakers) relatively meaningless so far. Whether they can turn into anything or not, I'm not sure. It's an interesting place, but we do have representation.

(inaudible) talking about other countries I know that you have two distributors in Poland.

Its one of the things we probably did not cover when maybe this questioner asked about new countries. Our German operation is slowly expanding farther and farther in what used to be the former Eastern Bloc countries, and that is a slowly emerging market, but there is just a tremendous amount of production that has gone on in that part of the world over the last 40 years tractors, cranes you name it. Cars, everything they build everything over there. So we are beginning to migrate that way and signing on distributors, and I think we have two in Poland now. We have Czechoslovakia, and that is all being handled out of our German operations. So long term that is probably a fair growth market; I don't think short-term it's that much, but I think long term there is a lot that can happen over there.

How big a sales force do you have that works with the distributors?

Where did he go? (laughter) He was here a minute ago. We really don't have a sales force per se, but we have a couple of people that work --.

Distributor support, and you know one or two in each location to support the (inaudible) distributors. A lot of the support here is the nature of the culture in that our design engineers are just as much likely to pick up the phone and answer questions. Our customer service people can answer questions. So the support is not channeled all through one person. Bob, do you have a comment?

We hold maybe updates three times a year, training programs for our distributors. As a matter of fact we have one starting tomorrow and there is probably, I know there is at least one of our distributors here in the room. Terry Lynch (ph) is here, he is from (indiscernible) in Ontario. We have what we call learning centers in each of these buildings. As a matter-of-fact we have them in Germany and England as well. And we bring our distributors in -- like I said in this country about eight times a year -- and we put on very intensive technical classes for them that are taught by our cartridge design and manifold application engineers. So we do a tremendous amount of training with what is our sales network, which is our distributors and I would say the same thing goes on also in our remote operations around the world.

You spoke about the market with China. What is the market in Russia?

Right now it is really hard to say. But I think long term it becomes a rather attractive place to be; right now I don't.

I imagine that we get on a lot of the equipment that is bought elsewhere that goes to Russia, but they are not doing a lot on their own.

No phone questions.

Thank you all for joining us on this conference call. We will be back again in a couple of months at the end of the first quarter. Thank you for listening.

Ladies and gentlemen, this concludes today's teleconference. You may disconnect at this time.