Helios Technologies Inc (HLIO) 2008 Q2 法說會逐字稿

Greetings, ladies and gentlemen, and welcome to the Sun Hydraulics second quarter 2008 earnings conference call. (OPERATOR INSTRUCTIONS). As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Mr. Rich Arter, Investor Relations spokesperson for Sun Hydraulics. Thank you. Mr. Arter, you may begin.

Thank you, Manny. Good afternoon, and thank you for joining us today. Allen Carlson, Sun's President and CEO, and Tricia Fulton, Sun's Chief Financial Officer, are participating in today's call. Please be aware that any statements made in today's presentation that are not historical facts are considered forward-looking statements. For more information on forward-looking statements, please see yesterday's press release. Once we have completed our prepared remarks, we will take questions from the dial-in audience. It is now my pleasure to introduce Allen Carlson.

Good afternoon. We continued to see a very busy marketplace for Sun's products last quarter. Europe and Asia remained active and together made up 60% of our total growth in the second quarter. At the same time, our North American business maintained the strength we saw in the first quarter, increasing 13% on a quarter-to-quarter basis. Sun's growth over the past five years has consistently outpaced the industry. The products we have released to the market over that time, coupled with our ability to deliver, are the major reasons we continue to gain market share. Now that our electrically actuated products have gained acceptance by many customers, they're being more widely used in a variety of applications. The given product was supplied successfully to its first customers and distributors to identify new applications for the same products. It also drives the creativity of Sun's engineers to develop new variants of those very products.

As I have said many times before, it generally takes about five years before a new Sun product gets established in the marketplace. This is a function of product evaluation and equipment design cycles. I think many of our electrically actuated products have turned the five year corner. The market acceptance of these products greatly expands our addressable markets. Our focus on product development and delivery reliability helps our distributors and customers develop reliable motion control solutions. Our attention to these fundamentals is what drives our financial success. I will now turn it over to Tricia to discuss the financial results.

Thank, Al. All comparisons will be to the same period last year. As Al mentioned, Sun's growth continues, with sales up 19% to $51.5 million. Foreign currency fluctuations accounted for 1% of these sales. Net income rose 48%, to 8.9 million, and basic and diluted earnings per share were $0.54, an increase of 50%. Gross profit increased 33% to 19 million. Gross profit as a percentage of sales continued to be strong, up 4 points to 37%. Margin increases were achieved largely by the additional sales volume. We also experienced productivity gains in our U.S. manufacturing facilities, coupled with absorption of fixed overhead costs. In the second half of June, we began to see rising material input costs and increasing utility and freight costs. To help mitigate these increasing cost inputs, we continued to work within our operations and with our suppliers to achieve productivity gains. Additionally, effective October 1st, 2008, Sun will implement an across the board price increase that is expected to have a net effect of approximately 3%. SG&A increased 6.5% to 5.8 million. The increase was driven primarily by compensation and fringe benefit costs.

Our effective tax rate was 33.2%, compared to 34.2%. The lower rate was due to the decreased statutory tax rate in our German operation of 9%. Net cash from operations was 20 million, up 7.7 million from last year. The increase is due to higher net income of 4.8 million, offset by working capital changes. Days sales outstanding were 39, and inventory turns were 10.5. Capital expenditures for the quarter were 4.5 million. 2 million of the second quarter purchases was primarily for new machinery and equipment in the U.S., and the remaining 2.5 million was for an eight acre parcel of land in Sarasota. Capital expenditures for the year are expected to be 12 million. A quarterly cash dividends of $0.09 a share was declared in the second quarter and paid in July. As was referenced in the press release, demand in most market segments remained strong.

Third quarter sales are estimated to be approximately 45 million, a 9% increase over last year. Third quarter earnings per share are estimated to be between $0.35 and $0.37 per share compared to $0.32 per share last year. In July, we transferred $6 million from Sun Germany to the U.S. Third quarter EPS estimates reflect a charge of $775,000 for U.S. income taxes due on the repatriation. This equates to approximately four and a half cents per share. Thank you. We'll now open the call for a Q&A. Rich? Manny, I think we can start taking calls from the dial-in people.

Certainly. Ladies and gentlemen, we will now be conducting a question-and-answer session. (OPERATOR INSTRUCTIONS). Our first question comes from the line of Chris Weltzer with Robert W. Baird. Please go ahead.

Good afternoon, everybody.

Hello, Chris.

Sounds like you're expecting a little bit slower revenue growth in the 3Q -- 9% down from 19% this quarter. Wondering if you could maybe give us some detail on what's driving that and then maybe an update on what you saw in order trends in July and early August?

Sure. This is Al. You know, traditionally the third quarter is the most difficult for us to predict, as it's based on four weeks of incoming orders; and additionally, during the July August timeframe, our customers in Europe are closed for their annual vacation shutdown. On top of that, many U.S. customers also take extended holidays; and as you know, we've got a very short book to ship cycle. So for these reasons, I'm not sure I'd put -- or make any decisions, either negative or positive, on our best attempt to predict the future quarter and particularly at this time of year. Having said this, we have seen some softening of sales for products that are ultimately used in equipment for commercial construction -- residential and commercial construction. You'll recall that I was asked during a previous webcast if Sun was likely to be affected significantly by construction slowdown, and you'll probably recall I responded that it would not be significant but there would be some effect. We have an estimated growth for the next quarter of 9%, and I think this is exactly was we're seeing, along with our inability to predict clearly at this time of year, as I mentioned earlier. So in closing, I'd like to remind everyone that our goal is to grow faster than the industry in general; and based on current PMI information and other industry statistics, I'm convinced we're continuing to do this and will continue it in the third quarter.

Thank you. Then you called out higher material costs also in the release. Wondering if you could give us a little color on maybe how much of your material costs are up, maybe on a percentage basis, and whether you expect the 3% price increase to fully offset those higher material costs.

Yes, we just started seeing those material costs in the second quarter. I think we're seeing the same types of increases that everyone else is with steel, iron, aluminum, energy; but we continue to look for productivity improvements that we can offset these variable costs with as they continue to rise. As far as the actual amount goes, we're still working with our suppliers in cost avoidance, if we can. In the script, we were talking about working with them on productivity improvements as well as our own; so from an actual amount, I think we are going to keep that to ourselves and between us and our suppliers for right now.

Okay. But you do expect, with the combination at least, some productivity improvements and price increases to be able to largely offset them? From what you can see now, at least?

I think that's a fair statement, yes. But keep in mind that the price increases don't take effect until October 1.

Right.

So we won't see any effect in the.third quarter of those price increases. It will all be in the fourth quarter. But in the meantime, you know, I think we're doing a really good job of cranking up our internal productivity and working with our suppliers to find new and better ways of doing things. It's just as we look out a little further, there's only so far you can stretch that rope.

Right, right. Okay. Well, I'll hop back in queue. Thanks, guys.

Thank you. Our next question comes from the line of Joe Mondello with Sidoti & Company. Please go ahead.

Good afternoon, guys.

Hey, Joe.

Hello, Joe.

First question. Do you have actual growth rates for regions of Asia and Europe for the quarter?

For second quarter?

Yes.

Yes, Asia was up over 20%. 25% -- 24 or 25% for Asia as a whole. We saw some good growth in China, not quite as much in Korea.

How about Europe?

In Europe, we're continuing to see large increases in Germany; also some of the Scandinavian countries, Italy as well.

So going back to Asia, you are seeing a slowdown? You guys grew about 40% in the first quarter -- you are seeing a slowdown in that region? Is that correct?

I wouldn't say that. A lot of what we see has to do with timing issues, when orders are entered. I just came back from spending almost two weeks in Asia back in June, and our activity and interest in our products, I don't see any difference to six months or a year ago. I think a lot of what you're seeing perhaps is timing from customers. There are also U.S. customers who are sourcing in Asia; so if there was a difference in Asia, it's probably U.S. customer sourcing products on Asian suppliers that we're a subsupplier to. So if you're trying to get an aggregate picture of what's going on in Asia, it wouldn't be fair to say that Asia is slowing down.

Okay. How about any direct relationship with -- people are talking about a slowdown just because of the Olympics; factories are shutting down for the summer, anything there?

Nothing to report directly. We do know that there's little pockets here, there and everywhere. When you add it all up it's probably significant, but there's no one thing that stands out.

Okay. And then you also mentioned end markets such as construction, and then you say mining and energy are strong. Do you have any better picture of how your sales are split up in terms of those end markets and if you could give any color on there going forward?

No, we don't. Our products are predominantly sold through value added distributors, oftentimes going into subassemblies of products that they make. We don't have a micro view of what's going on with our product sales. We have a general view, based on some impressions we have talking to customers and our distributors, but I couldn't give you a micro picture of it.

Would you say construction is a large portion?

What kind of construction?

Residential and commercial.

It's not a big piece of our business. It's a piece of our business. And I say that because oftentimes equipment that goes -- that is ultimately used in residential or commercial construction goes to rental fleets, so the rental fleets to some degree are seeing a slowdown. People are not having to replace their fleets nearly as often. That affects some of our business; and as I said in my comments, it could explain why we're growing 9% instead of 19%, but we're still seeing pretty significant growth.

All right. And then one last question. Use of cash, the amount that you're transferring over from Germany, is that for -- to cover your dividend or what is the reasoning behind that?

We don't have any current plans to utilize that cash specifically, but our large uses of cash have traditionally been paid out of our U.S. funds, and we felt that it was a good opportunity for us to bring the money back from Europe at this time and take a permanent gain.

The dollar is still quite weak to the Euro, so it's a good time to repatriate money, and a lot of companies are doing that, taking advantage of that exchange rate.

Would you need that to cover the dividend or --

No.

Or is that something separate?

No.

All right. Thank you.

Manny?

Yes, thank you. Our next question comes from the line of Holden Lewis with BB&T, please go ahead.

Thank you. Good afternoon.

Hi, Holden.

A little bit more detail on the pricing, if we could. First, I guess going back to the price increase that you put through in January, which I think was 1 or 2%, you know, I don't know how long it takes for that to sort of work through the system; but it went in in January -- the gross margins obviously popped pretty nicely in the second quarter. Are we seeing the gross margins maybe reflecting sort of the full impact of that price increase? If I remember correctly, that wasn't in response to raw materials. It was more pure price. Are we seeing any of that in the gross margin?

We're seeing about 1% of that price increase is reflected in the gross margins. I think the rest that we're seeing is a lot attributed to the productivity increases that we saw in the U.S. in our manufacturing facilities in Q2. We are very, very efficient, and that can add a lot -- along with our fixed cost base, that gets absorbed very quickly with additional incremental sales volumes.

Okay. You had about 100 basis points of price in Q1. Or I'm sorry, in Q2. Did you see the same number in Q1 or was there a bit of a delay as you worked that into the system?

I think we actually did see the same number in Q1; but if you'll recall, we had a one-time shared distribution payment that went into the expenses of Q1 that was $750,000 ,and probably $450,000 of that hit the gross margins. We were at 35% even with that, so we were higher, you know, if we exclude that.

Okay. And then with this next price increase that's going through October, are you expecting that then to be reflected in the fourth quarter or, again, is there going to be a little time to sort of work into the system so it may not be until Q1 '09 that you start seeing it?

It will generally be effective for all sales that happen after October 1st, so we should see the majority of it in Q4.

Okay. And would you expect -- I think this is larger than any price increase you've done in the last few years. Would you expect to see any prebuying of product? I mean, what's sort of been the experience historically with that?

Typically that doesn't happen, especially not for a price increase of 3%. The carrying cost and the cost of just pulling things ahead, our distributors typically don't do that. Our OEM customers, they're into just in time delivery, not having things stockpiled at the assembly area. So I rather doubt you'll see any prebuying. Not been our experience.

Okay. And then I think -- this is maybe taking a different track to the question that was asked earlier -- but using that 3% number, I mean, it kind of implies I think, you know, 5.5, 6 million is the number, sort of '08 revenues that you would go up. I guess it sort of suggests that your raw material increase expectation is in the neighborhood of 13%. Would that be sort of the right order of magnitude, or more or less? How should we be looking at that?

I don't believe that the material cost increases are going to be that substantial, but there are other variable costs; and as we're heading into next year, there will be other fixed costs as well that will be added. Now, we're still looking at large freight increases. We're approaching on a large utility increase from [SP&O] So there are a lot of other variables that go into it besides just the material.

But freight, wouldn't you be just -- including surcharges or passing through freight on your invoices, or does that have to be met with a price increase or can you just pass that along?

We don't do surcharges.

We also don't bill freight on every shipment that goes out. We pay on stock orders.

Okay.

I'd also like to comment on the 3% that you're trying to dial into the model. And the number you threw out, I believe, was like 5 or 6 million as the net result on revenue. I think it's less than that, primarily because the 3% in the fourth quarter will be predominantly U.S. sales, and not worldwide sales. The pipeline is longer when you get over to our international, and you don't begin to see that on our international business until Q1 for the most part. So I wouldn't dial 3% across our total revenue. Probably more just our U.S. revenue.

Well, that's for Q4, right? But as you get into 2009 --

Then you see it all.

Then it's 3% across the board. So sort of on a 12 month forward basis, you're looking at that 5 to 6 million type number.

That's correct. But it doesn't start with October 1st.

Okay, no. Fair enough. Okay. And then I guess could you also touch on the productivity that you've alluded to? You know, is it productivity -- is the productivity you're referencing, is that kind of sustainable stuff? Are there some things that happened in the quarter for whatever reason that meant the productivity in this quarter was particularly high relative to what you expect in the forward? What are the pieces that have been making that up? And then perhaps also -- maybe you can sort of use that to talk about your capital spending intentions. There's plenty of news articles out there about buying lots of land and things of that sort that perhaps you can address.

I'll start with the first part. Productivity gains are ongoing and have been ongoing at Sun for quite some time, and they tend to be project-oriented. What I mean by project-oriented, we will work on a project to redesign a part or resource a thing, or have a piece of automation equipment coming in. Goes back to some of my comments about the way we run our operations by looking at our capacity, our capability and our constraints and putting focused teams together to work on those three issues. That drives our productivity gains. Our productivity has improved I'd say every quarter for as far back as I can remember because of some of these projects that we're working on that tend to be systems-related or process-related or supplier-related. A number of times we've talked over the last few years about -- you know, we bring in a new five axis machining center. That gives us additional capacity and capability, but it also replaces two machines for the same amount of floor space. So we're getting more floor space utilization by some of these productivity gains. It comes in little bits and spurts here and there because these projects don't all sort of end at the end of the quarter or the end of the year. When the project is completed, we begin to see the benefits of those-- of that work. Looking forward, I would say it will continue. We've got all kinds of things that we're doing and our employees are very rapidly addressing those. As to the additional land purchases, maybe Tricia, you have a comment on that?

Yes. Our expansion plans really are no different than they were before. As Al said, we continue to look at where the constraints are and resolve that with purchases of new equipment or new processes that will improve the output for that, and we're constantly evaluating our resources and looking at where we could possibly need additional capacity. And acquisition of land really just give us another option if bricks and mortar become required.

Okay. Thanks. I'll jump back in the queue.

Thank you. Our next question is from the line of Brian Rafn with Morgan Dempsey. Please go ahead.

Good afternoon, guys.

Hi, Brian.

Can you discuss a little the level of packaged sales versus just the individual cartridges and manifolds for the quarter?

That's a great question. I wish I could answer it. I can tell you that our packaged sales continues to go up on a worldwide basis. We've got more and more products going out the door that way. Just my gut -- and I have no numbers to support this -- I obviously can get them but I don't have it at my fingertips, but I believe our packaged business probably is about 20% of our total business.

Okay. Okay. Can you -- (inaudible) I've asked this in the past -- your level of expedited orders, you were talking certainly about a rebound in the U.S. What percentage of your order bookings and shipments would be on an expedited time basis where you get a little bit more bonus?

Our expedites run primarily between about 10 and 15% a week. We do look at that on a weekly basis. We have seen jumps a little bit higher than that, possibly around holidays, but they generally fall in that range.

Okay. And so you haven't seen any outliars, any deceleration or acceleration, then?

No, no change.

Okay. On your materials costs, you guys were -- everyone's been pressing you for a number. Would you say that the delta change is decelerating year-over-year, or about the same, reaccelerating? Give us a sense of the trend.

You're going to have to repeat that question.

Your materials costs, feed stocks, the tooling steel, stainless, iron buckle castings, aluminum -- everyone's kind of pressing you -- year-over-year, are you up 13%, 8%, 6%. If you're looking at the number would you say that the trend year-over-year is accelerating? Is it up 8 versus 6 last year or 13 versus 10 or -- ?

I believe that the rate of growth is leveling off.

Okay.

I don't believe it's accelerating.

Okay.

But it varies by product.

Right.

If you looked at aluminum it would be completely different than steel and iron. So you have to sort of paint this whole picture. But overall I don't think it's accelerating. I think it's still growing, but it's not increasing at a faster rate.

Okay, okay.

One other thing that you have to remember with regard to our parts is we purchase 98% of our parts from suppliers, so we're not buying a lot of pure raw stock, so we aren't seeing those fluctuations on the incoming bar stock. We're seeing it more in groups as we look at part numbers.

That's true for term parts, but our housing -- or manifolds, we do buy aluminum and ductal iron bar and that's where we see --

The increase.

Yes.

Okay, okay. Your sense of when you're buying prefabricated assemblies from other suppliers, everybody's trying to pass on. Have you had some success in defensively negotiating some of those pass-ons? Or give me a sense -- certainly everybody's pressing to push those costs up the chain. Give me your sense of your ability to negotiate within the channel.

Yes, we do have some ability to negotiate with our suppliers. It's not really a negotiation, per se. We work with our suppliers very closely. We have long-term relationships with them, and we work with them. They work with us. It's more of a discussion than a negotiation.

Okay. Okay. You mentioned, Tricia, early on, foreign currency was about 1%. You're up 18.74, 75 in the quarter for three months on top line sales revenue. What would be the embedded kind of price hikes, price inflation in that, and then what would the unit volume be?

On the Q3 forecast?

Yes. No, no, on the Q2 -- sales were up year-over-year just under 19%. You mentioned, I think, foreign currency was up about 1%.

Yes, on total year we're looking at about 2.5 million.

Okay. Okay. Talked about your budget CapEx, $12 million for the year. What component of that would be maintenance?

20%.

About 20%.

It's a guess.

And then the balance -- machine tools, machinery, C&C stuff? Any breakout?

No, I don't have a breakout of that. We are getting some new types of machines in like that, but we're also getting in a lot of different types of machines and automation as well.

Okay. Okay. How much -- in the productivity you talked about some of the special specific projects and two machine tool centers to one, and so you have certainly a floor space consolidation. Cellular layout -- layouts of cellular lines, robotics, how much of that would be in that productivity?

I would say it probably drives about 30% of our productivity gains.

Okay, okay, okay. In North America, you guys talked about the rebound and obviously we all (inaudible) very fragmented end markets. Is there any sense in either Asia, Europe or North America that the composition of business is changing? Do you see more smaller orders, fewer larger orders, just anything you can quantify?

No.

Okay.

It's been pretty much as usual. We haven't seen a lot of changes in the order pattern or with customer mix other than, as I said earlier, residential -- products that we know go into the end use market for residential or commercial construction, we see that slowing down a bit. But it's not slowing down to zero. It's just slowing down a little bit.

Okay, okay. Europe's becoming a little less a social welfare malaise from the standpoint of tax structure. Are you guys seeing the annual July/August sabaticals, the spa or resort or wherever they go -- is that changing or is that still pretty much -- ?

No. Those are hard things to give up.

Those are hard things to give up. (LAUGHTER). Okay. I think that's good for me. Thanks, appreciate it.

Thank you. Our next question comes from the line of James [Carnet] with Frederick E. Russell.

Good afternoon, and thank you for taking my question.

Hello, James.

You mentioned reliability of delivery -- or deliverability -- as one of the main components in your ability to take market share away from your competitors.

Correct.

What is it exactly that you're doing different than everybody else that allows you to be so much better in this area?

Great. There's two ways of running your business. One is, your customers enters an order and you schedule that order based upon your capacity or your capability or other work that you have in the pipeline, and so the customer will come in and say, I want to order 100 pieces of part number ABC, and you'll say great, you can have it in 12 weeks. That's historically the way companies have operated. Sun used to operate that way, and it really didn't work well for us. And in 1998 we made a change. So 10 years ago now, we said, you know, what we would like to do is ask the customer, when did you want the product, and let's schedule it to his request date; and then let's drive our internal processes to be able to meet the requested delivery from the customer -- and the first week we turned this switch on, we weren't really good. We were about on time 10%. By the way, we did measure our on time to customer request. We do not even have an internal schedule date anymore. If we had one, it would be irrelevant to us. We don't have one.

So all of our processes, all of our people, are tuned in to shipping to customer request. Now, what keeps the customer from requesting something this afternoon -- by the way, they can -- they want 100 pieces delivered this afternoon -- versus requesting something a month from now -- same 100 pieces. We have a system that's very similar to what maybe UPS or Fed Ex would do. You have one price if you want it at three weeks; if you want it sooner than three weeks, it's a different price. So you basically pay for the service level to keep people honest from saying, give me 100 pieces and give them to me this afternoon. There is a slight premium. But every order that we have in our system is to the customer request. Customers appreciate that because if they need it sooner, they expect -- just like when they go to Fed Ex and want an overnight delivery, they expect to pay a slight premium. That's the way our system operates. Most people in our industry do not operate this way.

They still schedule it. In fact, the largest company in our industry is -- for many of our products, they're scheduling those products out at 55 weeks.

Why are your competitors operating this way? Do they choose to do it that way or are they unable to do it the way you guys do it?

A lot of it has to do with their computer systems and their internal capabilities and the way their products are designed right from the get-go. I mean, our products are designed to have least part count, so we don't have to stock every nut, bolt and screw. We have this commonality of parts throughout our product. I'd say there's five or six things, and I don't want to get into the details of it. I'd be happy to -- if you want to come down and see us, we'll show you around and show you how we do it. There's a lot of detailed, complex things that allow us to do this. And as I said, when we went from schedule to request, or schedule to our schedule to request, it took us two or three years to get the system down to where it is today, and we're delivering on time to the high 90s.

Very good. For what it's worth, we were adding to our positions in yesterday's selloff, so we look forward to being long-term shareholders. So thank you very much.

Thank you, James. It's a good time to buy.

Thank you. We have a follow-up question from Chris Weltzer. Please go ahead.

Hi guys, just a couple of quick follow-ups. Trying to square some of your commentary about the Korea segment. You mentioned some of it could just be timing, but also mentioned the slowdown. In Korea itself, do you guys expect that sort of slowness to continue in the third and fourth quarters, or was the second quarter just a blip?

Well, we feel that there are a number of things that actually are affecting Korea's revenues and margins. Currency is one of them. We've had a hit of about 700,000 year-to-date on their currency on the revenue side -- 500,000 of that was in Q2. And the gross profits have been affected also by about 300,000 year date, 200,000 in Q2. Secondly, we have shifted some of our sales for a large OEM customer out of Sun Korea and into Sun China. This was at the customer's request. It started in Q1, majority of that falling into Q2. And because China's a JV, the sales for it are recorded differently than they would have been on the consolidated statement if it were shipped out of Sun Korea. Finally, we know that we need to get a little bit more aggressive with our large OEMs in Korea, and we're working on that now.

Okay. That's very helpful. And then just the part of revenue that you call out as being Europe, I would imagine the vast majority of that is Western Europe or Continental Europe. Do you have any idea how much versus, say, Middle East, Russia, CIS?

Yes, the majority of it is Western Europe. We are seeing good growth in Eastern Europe and in Russia; but as a percent, it's still a very small of the total European segments.

Got you. And then just sort of a broader question, you know, Tricia and Allen, you were at Sun during the last downturn. And I know Sun is more international now and that helps, but even your North American sales have held up pretty well so far in a difficult economic environment. I'd just love to get your thoughts on what if anything you think is different or has changed for Sun relative to last cycle, or how is this cycle playing out in your eyes different than the last cycle?

Okay. Oh, boy, where do I start with that question? You have to consider that the 2000-2003 recession, there was a lot of big exogenous factors that hit there that were probably additive to the cycle. 9/11 extended the cycle. I don't think it made it any deeper, but it certainly extended it. But what's the difference I think is where you're at with your question. What's the difference today than it was when we were in the last cycle? And I think there's maybe four or five factors that are important things that we think about all the time. One factor is our ability to ship product. As I mentioned, 98 is -- late '98 -- it was October 12th, '98 -- I remember the date --is when we turned on scheduling every order to customer request. We got that system perfected sort of as we were going into a downturn in 2000, 2001.

So that's different. Our ability to ship product on time is driving market share increase. I think in my opinion, it's the single biggest factor. Number two, if you remember back in '98, we didn't have any electrically actuated products, so we were excluded from maybe two thirds of the market. I view the market this way: One-third is non-electrically actuated product, one-third is electrically actuated, and then there's another third that are packages that are comprised of electrical and non-electrical packages. We were excluded from a big piece of that because we didn't have electrically actuated products. So that in '98, our ability to deliver information -- we had all kinds of great products that that nobody knew anything about. And the further you got from Sarasota, the less you know. We couldn't deliver product, but we also couldn't deliver information very well. So our website today allows us to be a worldwide Company open 24/7 delivering information in multiple languages today. And our website, parts of it -- not all of it -- but parts of it are in German, we've got some Spanish, we've got some French, we're about to turn on some Russian. So we can speak to customers quite easily in their native language. So Sun's a lot different Company today. We're much bigger and we're much more balanced geographically than we were, say, 10 years ago.

Thank you. That's helpful.

Thank you. Our next question is a follow-up from Brian Rafn with Morgan Dempsey. Please go ahead.

Can you give me a sense of the -- kind of the specification, the bid quoting on your website, does they give you any -- do you measure hits or leads or activity on that, and does that give you a sense as to what going forward, any visibility in order trends?

We do a lot of measuring, but we first of all don't quote on the website. We use the website to deliver information; so we deliver -- we measure how much information we're delivering and who is going on and how many people are registered. By the way, if you're interested in getting automatic e-mail updates about Sun, you can go on and log on and register your name and we send you an automatic e-mail. Typically, people who do that are people who are interested in products because we -- couple times a month, send out a product highlight page with a connection to a page on our website. We've got 2500 people around the world who are registered and waiting to get the next highlight on our products. That kind of information that we're measuring, and we know -- because we do get feedback from a lot of people around the world, plus the number of hits we have -- that the information flow is growing. But we don't take orders and we don't quote over the web.

Yes. Okay. Okay.

Another good indication, Brian -- again, it's not orders, but we offer 3D files on a lot of our products. And generally I would say if somebody is requesting one of those 3D files, chances are they've designed the product into their system and they're using it for their documentation; and we see that capability -- the use of that capability -- increasing all the time.

Okay. Okay, okay. You guys -- have you ever measured or can you quantify the percentage of sales derived from new products over the last three or five years or whatever time frame you have?

Sure, we do measure that, and it's a very arbitrary measurement. It's depending what you classify as a new product. But our estimate is it's somewhere around 15%.

Somewhere around 15.

We generally identify them as anything that has been designed in the last five years.

Okay. Last five years. Got you. Anything -- you guys were talking earlier on about market share. Is there anything from the standpoint of your -- kind of your floating cartridges, taking market share from the old fixed cartridges, anything that you can add to that?

That's hard to assess because the market has changed another way. I didn't talk about it. But 10, 15, 20 years ago, customers were buying cartridges; and they were viewing a cartridge as a spark plug that they screwed into a block of metal that they sourced from somebody else. The market has changed in that they want to buy the cartridge already installed in the block to bolt on their machines. So we're seeing a migration away from cartridge sales to subsystem sales, and they really don't care what the thread is on the spark plug that they're screwing into the block of metal. They want the block of metal with the cartridge, and they want it to work. It certainly does improve our ability to deliver a functional product because the floating style allows us to have a better product to the customer; but most of our customers today aren't so concerned about the cavity.

Yes. Okay. Okay. The parcel of land that you guys bought -- the eight acres -- is that contiguous to your Sarasota facility or is that in the same general area?

It's west of our (inaudible) facility. But I would remind you that we've been sitting on a parcel of land approximately the same size for the last 10 years that's due east of our existing facility.

Okay. And that's just raw land, basically?

Yes.

Yes.

Okay. What are you guys running shifts -- give me a sense of shifts -- one, two -- and then any overtime you guys are seeing.

Our shifts are all over the map. We schedule them on an as-needed basis and with employees who want to work that shift. It changes from summer to winter. It changes on mix of product. We have a very, very flexible workforce and we also are very, very flexible with our employees. So to give you a shift pattern, doesn't exist for Sun. Hasn't existed for 10 years. As I said, we schedule to customer request and we move people around to where those requests are.

Right. Right, right. Trish, give me a sense, kind of year-over-year wage, salary pressures, bonuses, what might you be seeing?

We do increases at the beginning of the year for all employees, January 1. We're probably looking somewhere around 4%.

About 4%. Super job as always. Thanks again.

Thank you.

Thanks, Brian.

Thank you. Our next question comes from the line of George Prince with Voyager. Please go ahead.

Hi, George.

Hey, congratulations on a great quarter.

Thank you.

Thank you.

Hey, Al, if you don't mind, I'm curious about where you've been spending your time. Is it on sales growth initiatives or capacity or the materials costs, or just where have you been spending your time?

You know, I kind of dabble. I can tell you, though, that this year I have spent probably more time than previous years in Asia. I think I've been to Asia two, maybe three times this year, working with our Asian sales team. I still like to get on the shop floor. I like to work with our engineering and product management people. So I just sort of move around the organization and try to add value where I can.

Is China -- how would you describe it? Is it still in its infancy? Is it pretty stable? Is it like a spring board, ready to go?

China is kind of like the wild, wild, west. It has all kinds of potential, but there's all kinds of hazards around traps and you really need to be careful of what you do and how you do it, and how do you go to market. We're very fortunate. We have a great team of people in Asia, including our partners in China. And I believe that Sun's opportunities are probably at the infancy stage, because in that market, you have to convince them first that cartridge valves are a good solution; and once you've convinced them that cartridge valves are a good solution, then the next step is to say, all right, now that you accept that, let's talk about what's the best cartridge valve -- the cartridge valve is your solution. So we have some prospecting to do to convince a market that may be 10, 15 years behind the Western markets in the use of their products that cartridge valve is a good solution; and we're doing well in that area, but I do believe we're kind of at the beginning of it.

And just one more, kind of running on the last question from the previous caller, shiftwise I know you're all over the place, but how about hours in the factories? Would you say that you're working more than 14 or 16 hours a day, typically?

No, we're typically -- most employees are working 45 hours a week.

So about 10 hour shifts?

Some 10 hour shifts, some 8 hour shifts. We have been running some weekend shifts where they work 12 hours a day, but we're discontinuing those mostly at this point.

So theoretically, there still is plenty of capacity in the existing buildings time-wis?

Oh, yes. Absolutely. Yes.

Okay.

And elaborating on what Tricia said, we like 45 hours. That's kind of the sweet spot. That's where we like to run. Because if things slow down a bit, we can crank it back to 40, and if we need to crank it up, we can still go from 45 to 50. So 45 is really where we like to be in a long-term basis. That's what we do for planning.

Great. Hey, well, congratulations.

Thank you.

Thank you, sir.

Take care.

Thank you. Our next question is from Holden Lewis. Please go ahead.

Thanks again. Cash -- you know, you've got a lot of it. Obviously, you paid an extra dividend this quarter. That certainly didn't put any meaningful dent in its continued build. As the Company has obviously matured and the cash generation looks pretty secure, you're operating very well. Acquisition, does that become something which is a more meaningful prospect at this point, or is there a larger sort of special dividend out there as you've done in the past? I mean, what are we going to do to sort of manage our capital structure?

Well, you know, at this time there -- it's probably the best time over the last five or six years to look at acquisitions, and we continue to be very conscious of those opportunities. We've invested in two in the last couple of years. I believe that there will be some more that present themselves in the future and we will be ready with the financial ability to do those deals if that makes sense. Relative to any other uses of cash, I'm not prepared to discuss it at this point.

Okay. And then I'm trying to -- just going back to the raw material conversation a while back, if I remember correctly, I think in Q1 raw materials really hadn't sort of emerged as an issue. And I think now as we're talking about them in Q2 you're kind of saying they're growing, but kind of at a stable rate. And I guess I feel like I kind of missed a stage of the cycle, if you will, going from not an issue to sort of emerging as a problem to maybe being stable. Can you just sort of take me through sort of how we've progressed last couple quarters, make sure I understand?

Q1 and Q2 quarters, you're right, they really haven't been an issue. But there's like storm clouds out on the horizon that we're beginning to have to deal with; and we will be dealing with those in Q3, but some of those storm clouds are going to hit us in Q4 and that's why we're passing on a very, very modest -- I mean, our industry is seeing a much more significant price increase than 3%. So a very modest price increase we predict that we're going to need in Q4, and we're acting now rather than to wait until we're behind the eight ball.

Okay. Now, steel and some of these other costs have been going up, you know, for several months now -- really began I think at the beginning of the year. Is there naturally a lag before it hits you and that's just how your business works or, you know, I mean, how do you know that now it's really coming? Are your customers -- or your suppliers are basically saying that even though we've been facing these issues for the past two quarters, we haven't really bothered you with it but now we're going to? I mean, how is that conversation playing out?

There's two answers to that question. The first answer is, steel is not steel. Most of the tonnage of steel that's reported is low carbon steel that is used for bridges and roads and buildings and rebar. That's probably 90% of the steel. So when you read that steel price is going up X percent, generally speaking, they're talking about what I'll call is tonnage steel. That's not the kind of steel we use. We use heat-treatable kinds of steel, much more alloyed steel for heat-treating. That kind of material has always been more expensive than rebar steel or tonnage steel. So the increase is probably not as much for the kinds of steel that we're using. So that's the first part of the question. Yes, our steel prices are going up; but don't base what you think you're going to see from us based on the steel they use for a bridge. The second part of that question, there is a lag, because we don't buy a lot of steel. We buy iron and aluminum directly. Our suppliers buy steel and they typically have a stock of steel that they bought two or three months ago that they're drawing off of and they have parts that they've machined ready to ship. And so that pipeline could be four or five or six months from the time a supplier of ours sees a material increase to when it's passed on to us.

Okay. Great. Thank you.

Thank you. Our next question is another follow-up from Brian Rafn with Morgan Dempsey.

Yes, Allen, you described China as kind of a wild west; and seeing as you guys don't have Jim West and (inaudible) Gordon with you, the sense of piracy, reverse engineering, how does that apply to what goes on in China? And then your end markets, how sophisticated -- are you selling primarily to global transplanted OEMs or nationalistic Chinese organizations?

Okay. The piracy issue is a concern. It's a concern for almost any Western company that wants to do business in China. You can't expect that the courts and the copyright laws are going to protect you, because it doesn't work. Your best protection is be careful of what you produce there. Any trade secrets that you have in terms of process or productivity, it's only a matter of when those secrets end up with your competitor or somebody, a start-up company down the road, who disgruntled employees that left and started up a little start-up company. So our approach to dealing with that is we do want to manufacture in China, but we manufacture the local content -- the housings, the iron housings, the aluminum housings, the value added engineering, putting together assemblies -- and that's how we operate elsewhere around the world, so that's not unique just for China. The cartridges that are going into components or subassemblies around the world, all those cartridges is -- they're coming from Sarasota and that really is where the process, the automation, the precision tolerances, the heat-treating, the design -- those are coming outs of Sarasota.

Okay.

That's the first part of your question. The second part of your question, who are we selling to? You know, for the most part, when we started in China, our focus was the local Chinese company that needed a better solution; and our people, our engineers, could go in and offer them a solution that they couldn't get and provide some engineering content. We were looking for customers that had problems. Not necessarily transplants. In fact, they weren't transplants. It was the local companies. So we went through a phase there where that's basically all the business we had. And maybe that was three to five years -- that phase -- where we grew our business with, you know, some Chinese company down the street or in the next province that needed 50 pieces of something. That business has continued to grow and that's really good business, because we've built relationships in the marketplace with local people.

Then along comes the transplants; and I would say starting about five or six years ago, we began to see our transplant business grow, and we service them either way. We could service them out of our local company, depending upon what level of service they need, or we ship directly out of Sarasota. I would say today, nearly half of our business in China is direct ship out of Sarasota, and our local company is not needed to get involved and they continue to focus on the local companies. Sometimes they get involved by -- they need a special product or a prototype. So the business we have in China is kind of a unique mix of local company and transplants, and both sides are growing probably at an equal rate.

Okay. Then just your focus on on-time delivery, is the transport infrastructure -- trucking, rail, marina -- is it as good or better in China as you find in Europe and North America?

Yes, I don't think there's any difference. First of all, getting product to China is actually quite good. We're getting product to China in somewhere between five to seven days -- never more than 10 days. It's interesting how it gets there. Typically it's getting on a plane from Atlanta, direct shipped to Shanghai. Most of our products around the world are air shipped, because we make the heavy parts locally. The parts that are air shipped are the cartridges. Once it gets there, it clears customs within a day or two, and then from there it can go to the local companies, probably by courier service, and then longer term it gets air shipped. But the transportation in China is not an issue.

Okay. Thanks.

We have no further questions in the queue at this time. I'd like to turn the floor back over to management for any closing comments.

Thank you, Manny.

Thank you. First of all, thank you all for dialing in. This probably is a record in terms of the number of people that are online with us and the amount of time we spent with you. So thank you for your interest. I'd just like to leave you with a few thoughts, maybe in bullet point form. First, we have capability and capacity; and as we discussed in the conference call, we continue to see productivity gains. These are initiatives oftentimes with project teams, but they're also initiatives from our employees who are constantly looking at how they can do things better around the world. And those productivity gains happened for a long time. I believe they will continue to happen. Our financial strength -- we talked a little bit about that ability to do things. It allows us to grow, invest in the future. Invest in the future oftentimes means buying 10 or $12 million worth of capital, but it also puts us in a position to make acquisitions that make sense strategically; and we've done a number of those over the past few years and we constantly remain on the outlook for investments to grow organically and strategically.

We continue to -- our growth outpaces the industry. I've got a number of statistics that prove that, and that's really our objective at the end of the day. It's not to grow double-digit or to grow X amount. We take a very long-term view, and what we would really like to do as we move forward is for our growth to outpace the industry and to gain market share in the process. We have a great geographic balance and presence. We talked a little bit about China and our Korean operations and the difference between Sun today versus Sun 10 years ago. We have much, much more geographic presence and balance, which helps us in times when the economies perhaps are not as cooperating or when there's headwind in the local economy. Our products are gaining acceptance and more presence in the markets. We talked about that as well. 10 years ago, we didn't have electrically actuated products, and today we do, and it's a big part of our packaging systems and sales.

In closing, I just would like to comment that our objective is to achieve long-term growth and profitability, with the emphasis to long-term growth. And our quarterly financials are what they are. We're not particularly good at predicting the future. We don't really spend a lot of time doing that. Our focus is on doing the right things, and if we do the right things we will continue to grow and we will reward our investors. So I thank you for your time and attention.

Thank you. Ladies and gentlemen, this concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.