Helios Technologies Inc (HLIO) 2009 Q4 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Sun Hydraulics fourth quarter 2009 year-end conference call.

(Operator instructions).

I would now like to turn the conference over to your host, Mr. Richard Arter. Please go ahead.

Thank you, Ali, good morning, everyone. 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. We will take questions once we have completed our prepared remarks. It is now my pleasure to introduce Allen Carlson.

Thank you, Rich. And good morning, everyone. I think that everyone is happy to see 2009 fade into history. Last year was perhaps the most difficult economic condition many people had ever experienced. We're pleased that we were able to manage our way through the year, and achieve profitability for the 38th year in a row. In many respects, it was a good learning experience for those who haven't lived through a severe recession. At Sun, we always try to balance prudent fiscal management within a culture that fosters creativity and exploration. In times like 2009, when financial pressures are magnified, this can be extremely difficult. We had a clear vision of the future, and strong cultural underpinnings that encouraged doing the right things for the right reasons. By being flexible and adaptive, we believe we emerged in 2010 an even better Company. We continued to invest last year. We upgraded our heat treat furnace, and added new metal finishing technology and processes. We added marketing personnel in the US, India and China, and we bought additional land adjacent to one of our factories in Florida, to give us greater flexibility and expansion options when that time occurs. Several macroeconomic indicators point to a recovery in the world economy. Fourth quarter results for Sun were strong, and we have now seen three quarters of sequential growth. Q1 is expected to continue this trend. Sun's order rates are on a pace to grow with upward momentum of PMI and capacity utilization, we are encouraged by the improving capital goods inventory conditions, and are also optimistic about 2010. I now turn the call over to Tricia who will provide more details. Tricia?

Thanks, Al. Our ability to maintain profitability despite the significant decline in sales was due to a number of factors. While we have a capital-intensive structure and control many of our operational processes, we're fundamentally a lean organization. We've tried to be quick on our feet and pride ourselves on having a work force that is agile and adaptive to changing circumstances. Our focus is, and always has been on the long-term. With that in mind, all of our actions last year will contribute to our future growth. In 2009, we invested $5 million in land, machinery and processes. These investments will enhance some future competitive positions, and make us more productive. In addition to these capital investments, we both maintained and invested in our work force, so that we have the ability to quickly adjust to changing demands on the upside of the cycle. Product development continues as we added new products to complement our offerings, and allow us to address more complex motion-control applications.

For the year, we achieved a full cost benefit of $1.4 million from the furlough program, and have recently brought back about 45% of our work force. We will continue to bring back production employees commensurate with our order activities. Matching human resources with production demand creates a delicate balance. As more personnel are brought back and we approach full employment, we will regain our full operating leverage. Cash flow was strong in 2009, and we finished the year with $38.3 million in cash and investments. We continue to pay quarterly dividends throughout the year, and in yesterday's press release, announced a dividend for the first quarter of 2010. Sun has paid a dividend every quarter since becoming a public company in 1997.

Now I'll move on to the details for the quarter. Please note the Q4 numbers are based on a 14 week quarter which resulted in a 53 week year for 2009. For the fourth quarter, sales were down 17%, and earnings were down 47%, compared to Q4 of last year. Foreign currency accounted for 3% of the fourth quarter sales. We believe that foreign currencies, especially in Europe will influence our Q1 results, and possibly our 2010 results as the dollar continues to strengthen against the euro and the pound. For the year, sales were down 45% and earnings were down 93%. Foreign currency was responsible for 5% of the year-over-year decline in sales.

In the quarter, Asia sales increased 30% compared to the same quarter last year. As you recall, Asia was the first region where we felt the global economic downturn. As we expected, it's the first region to show growth. For the same time period, North American sales declined 26%, and Europe dropped 20%. For the year, North American -- North America was down 47%, Europe was down 45%, and Asia was down 44%. Sequentially, comparing the fourth quarter of 2009 to the third quarter, North American sales increased 22%, Europe 8%, and Asia 18%. Clearly, the global economy is improving, and we are seeing increasing activity across the board. Gross profit in the fourth quarter was $6.8 million, and $22 million for the year. As a percentage of sales, gross profit was flat for the quarter at 24.9%, and down 10.7% for the year to 22.5%.

The furlough program added approximately $1.3 million in cost savings for the year, resulting in 1.5 points of gross profit. SG&A expenses were down 5% in the fourth quarter and nearly $3 million or 13% for the year, the majority of the decrease related to salary and fringe benefits. But we are also able to reduce some expenses by paying careful attention to professional services we routinely outsource. An example of this is Sarbanes-Oxley management review and testing, which has historically been completed by outside consultants. In 2009, this project was complete internally with a savings of $160,000. The provision for income tax for 2009 was 12.8% compared to 31.8% for 2008. The change was primarily due to the tax benefit recognized in the US. We expect the first quarter rate to be between 32% and 33%. Net cash from operations for the year was $13.7 million. Inventory and accounts receivable both improved in the fourth quarter. Inventory turns improved more than half a turn to 10.5. Days sales outstanding improves as well to 33. We experienced no significant receivable issues. Looking ahead to the first quarter, our revenue estimate is approximately $30 million. This represents a 10% sequential increase in revenue compared to the fourth quarter, and a 19% increase compared to first quarter sales last year. Earnings are projecting to be between $0.17 and $0.19 for the first quarter, compared to $0.03 for the first quarter last year, and $0.08 in the fourth quarter. While it is too early to tell how this recovery will play out, Sun is positioned to take full advantage of increasing capital goods activity. We are confident in our first quarter outlook, and hope the second quarter will bring continued growth. Thank you. We will now open the call for Q&A. Rich?

Okay, Ali. We'll take some questions.

(Operator instructions).

Our first question comes from Chris Weltzer of Robert W. Baird. Please go ahead.

Good morning, guys.

Morning, Chris.

You mentioned increased prototyping activity in the release. Is that something you are seeing from your distributors? Or are you referring to potentially starting up some more OEM-type relationships?

The question -- or the answer to the question is first of all the prototyping that we have seen is based on our worldwide experience, not just the US. And around the world, like, for example, in Korea, the UK, Germany, we have quite a few direct customers. In the US, it's primarily distribution, but we still have a few direct customers as well. So my sense on answering the question, first of all is that it's -- it's a little bit of everything. And it kind of depends where you go geographically. In the US, it's primarily through distribution, but there are some direct accounts as well. I hope that answers your question.

Yes, do you think that's a function of people starting to redesign products for new -- or at least on the mobile equipment side -- for new off-highway engine emission standards? And do you think that give you -- I mean, do you think there's relatively more share up for grabs in the next two years, than maybe there would be in a normal year?

No I do know that one major win for us was engine emissions, on an application that we're married with up a new diesel engine. It also probably is a function of some of the new products that we're releasing.

Got it. And what are your distributors telling you about their inventory levels at this point? Do you get the sense they are still in cash-conservation mode? Are they starting to get more comfortable that there really is a recovery going on, and they can increase their inventories a little bit?

The distributor network inventory survey that we do, the last one was at the end of 2009, would indicate that the level is flat, really no change. In talking to our distribution partners, I get the sense that they are more encouraged about the economy, but yet not investing in inventory, primarily because they don't need to. They can get product from Sun pretty much as they need. They pay a slight premium to get it from us direct, as opposed to getting it out of their inventory. But I think their view is, rather than make investments in inventory, they would prefer to make investments in sales and marketing.

That makes sense. The -- you still are starting to see some firms talking about seeing steel prices starting to come up, things like that. Are you seeing anything from your cost base, your suppliers, and are you contemplating any pricing actions at this point?

We are seeing some cost increases, but mostly on the soft side of our business. Things like insurance. Things like healthcare costs. Those are the big cost drivers that we're seeing. Yes, there are some material costs increases coming along as well. In terms of a price increase, we're looking at that, but the exact timing hasn't been established yet.

Got it. And then just your thoughts on CapEx budget for 2010?

CapEx for 2010 will be about $7 million.

And that's primarily machine tools, things like that?

Primarily machinery, yes.

Thank you guys.

Thanks, Chris.

Our next question come from Joe Mondillo of Sidoti & Company. Pardon me if I mispronounced. Please go ahead.

Hi, good morning, guys.

Hi, Joe.

I was wondering if you could additionally, or talk a little bit about that survey that you do with your distributors, and if you have any sense of what end markets are really driving your growth here?

The survey that we do with our distributors is done quarterly, has been done since 1998. And gives us a picture of how much inventory of our products is in the marketplace, which gives us a sense of what is going on relative to distribution management of inventory. It really doesn't change much from -- through the cycle. Yes, a little bit here and there. But it's almost the same as it was in 1998 in terms of raw numbers. Of course our ability to deliver products drives that as well, if distributors feel that there's a choke point with product availability, they carry more inventory. And if they don't need to carry the inventory, and they can invest it elsewhere they do. And to me, it's rather encouraging that the distributor inventory has remained flat, in a time when Sun has almost tripled in size, and the amount of inventory to support that is nearly the same.

On the second part of your question, relative to any inventory that's out there, and what is it being used for, in terms of the market, the end market. Our distribution channel supplies to many, many different end markets. We do a survey of that as well, to get a sense of is there a shift in end markets. A survey is done once every three to five years. It shifts very, very slightly over time. And I think the biggest thing that we have seen over the last five years, is a shift towards markets that probably didn't exist five, ten years ago, for example, energy, solar, windmills. That's becoming a much bigger piece of the motion-control market for hydraulics, probably for everybody, but inclusive of Sun.

Joe, I would like to add one thing to that, on the product side, we're really seeing the pick up more in the area, that we saw that was hit the hardest the beginning, which are the products that are made in our cellular manufacturing area, and are primarily load holding.

Okay. So do you guys think that the growth that you are seeing in the first quarter here is sustainable throughout the year? Or is this possibly, I don't know, inventory rebuilding? Or -- I'm just trying to get a sense -- you are looking at durable goods, not seeing such of a high strong growth that you guys are seeing. I'm just trying to get a sense of, if you think that growth is sustainable out there the year.

Whether it is sustainable throughout the year or not, I don't have a clue. But let me maybe paint it this way. When the recession hit, in late 2008, what happened was the inventory in the pipeline. both at the end user, the machines that are already built and sitting in lots to be delivered or sold, that inventory basically slowed down. And the end users didn't start ordering for replacement, like they would normally do, because they had all of this inventory in the lot that wasn't selling. So that was one bucket of inventory of our product sitting in unfinished goods.

Along with that, the distribution channel, which had product in their inventories to support the sale, saw that their inventory wasn't moving. So they slowed down their ordering, so it had a ripple effect when the end markets dried up in 2008. And that inventory had to be depleted, both areas, before we began to see new orders for that type of equipment. I believe that inventory is completely depleted. So if somebody buys a piece of machinery, a piece of construction equipment, backhoe, let's call it. When that order is placed to the OEM, it drives business to us almost directly, and that didn't happen throughout almost all of 2009.

Okay. Could you also touch on what you are seeing in Europe, if there's any slowdown there, and in the recovery? and also new products that you mentioned, if you could go in to a little more detail on that.

Sure. I'll address the Europe question first. It is the area, geographically when we break our markets in to the three areas that we look at, which are North America, Europe, and Asia, Europe is the slowest to come back, when we look at it sequentially Q3 to Q4. It was at 8%, when the others North America and Asia were close to 20%. And I think we're continuing to see that in what we're seeing for Q1. There are pockets of Europe that seem to be coming back faster than others. But overall it is slower than either North America or Asia.

From the new products perspective, what we're seeing are twofold. We are seeing some new cartridges, cartridge products that are in our development phase that we're getting prototype orders on. And I know specifically of two. But I think the big driver, currently for new business is probably what we call integrated packages, where the cartridges are married with manifolds for a solution, as opposed to a component sale. And we're many, many new solution types of orders and new business that is being driven.

Okay. Thanks. I'll hop back in queue.

Thanks, Joe.

Our next question comes from Jon Braatz of Kansas Capital.

Good morning, Tricia, Allen.

Good morning, Jon.

Tricia, you touched on Europe and you were talking about the sales growth being sequential basis slower than the other areas, yet, in the fourth quarter, the bottom line performance from UK and Germany, you could argue was certainly better than what we have seen elsewhere, the margins ramped up nicely, both in the UK and Germany. Was there something specific that you did during the quarter to improve profitability that will -- that can be sustained? Can you touch on that a little bit?

We implemented our furlough program in salary reductions in the US in May of 2009. Those same programs were implemented in Europe -- in the European operations in Q4 of 2009. So that's part of what you are seeing on the profitability side for the increase in Q4.

Okay. Tricia, I think you mentioned in -- or maybe Allen mentioned in the prepared remarks, that you save -- the furlough program saved you $1.3 million for the year?

It was $1.4 million total. $1.3 million was at the gross profit line. The additional $100,000 was in the SG&A, so --

Okay. So that was the total. As we -- as we look into 2010, the addition -- the additional savings you get from Europe and the additional savings from North America, what might that number be for 2010 and -- if we were talking next year at this time?

I don't think I can predict what it will be for 2010. Given that we do have some information and know where our labor stands for Q1, I would say we're looking at a savings, $500,000 or $600,000.

Okay. That's collectively.

Yes.

Let me just add a little bit to that as well, Jon.

Okay.

I hope that that's a very small number.

Yes, I understand. Absolutely. Absolutely. I understand. So then when you look out into 2010 when you look at the improving profitability levels, will the improvement come, let's say, equally between gross margin and lower SG&A costs? Or how do you see that coming out in 2010? More in the gross margin or more cost savings?

It really comes in at the gross margin line. And the reason for that is there are some fixed costs that are traditionally fixed costs for all companies --

Yes.

Insurance, depreciation, those types of manufacturing overhead costs, but at this time because we kept our full workforce in intact throughout 2009, we also have some, what are considered variable costs that are typically somewhat variable with the number of people that you have and your labor. And that's thing like health insurance, dental insurance, all of the employee benefits. And at this point because we have maintained our work force, and have people on furlough, and they are still receiving all of their benefits, those have become fixed costs for us.

Yes. Yes.

And until we're able to bring everybody back, the incremental sales increases will really leverage quite a bit on --

Yes.

-- both of those types of fixed costs.

Okay. And you said you brought back, in the first quarter now, 45% of the workers that had been furloughed?

Yes. That was not out there the entire first quarter.

Yes.

But at this point --

Okay.

-- we probably had anywhere from 25% to 45% of our people back at any given week. At this point we have 45.

Okay. And I guess this is probably a tough question but if -- what type of incremental sales increases, do you think would be necessary for you to bring back the entire furloughed work force?

I think that's a tough question to answer, because throughout 2009, we put in process improvements and new machinery that really changed our capacity going forward, and productivity going forward. So until we'll able to fully utilize those production improvements, it will be difficult to tell.

Okay.

Let me just add one more thing to Tricia's comments.

Yes.

Our furlough system in bringing people back, we're bringing back our most productive, most cross-trained, best employees first.

Okay.

And that also has a benefit in terms of our productivity.

Okay. Okay. Well, let me add one other thing, and when you look at your list of furloughed workers, did you lose some just through attrition.

Sure we did.

Okay. But not a meaningful amount or --

The number is not high. Unfortunately, there are not a lot of other jobs that people can find.

Sure. Right.

But probably between 5% and 10%.

Okay. Thank you very much.

Yes.

Thank you.

(Operator instructions). We have a followup from Joe Mondillo.

Please go ahead.

I was wondering if you could comment on what your use of cash will be this year?

Yes, sure. We announced in the press release that we continued to pay dividends. Dividends are up to the discretion of the Board, but at this point, we have no reason to believe that they will -- there will be a significant change in that. We also know that there are acquisition and investment opportunities out there. And if any of them are a good strategic fit for us, we feel we are ready to make a move, because we do have the cash available. And we're not at all upset that we're sitting on some cash right now, it afforded us the opportunity to make some decisions that others simply didn't have the option of making.

In terms of the acquisitions, are you more apt to target a possible competitor, direct competitor, or branch into something vertically integrated?

We're looking in both areas, but I would say it's more likely that it's vertical integration, or an expansion of our market base, as opposed to a competitive acquisition.

And any acquisition would need to be very strategic for us.

All right. Okay. Great, thanks a lot.

The other use of cash, obviously is going to be in our capital for the year, which we expect to spend $7 million. The economy strengthens faster than we expect, that $7 million could grow. Any more questions, Ali?

I'm showing we have a question from Kristine Kubacki of Avondale Partners.

Good morning.

Hi, Kristine.

I just had a question about the leverage in the model. Obviously, I'm a bit surprised in a good way about the sequential revenue growth from the fourth quarter to the first quarter is about 10%, and looking what you are expecting on the EPS line. And you mentioned some of the things you are doing with your work force and increased productivity. Is is that something in terms of looking at the incrementals there, is that something you'll be able to hang onto through the year? Or do you expect as you kind of hit an inflection point in terms of bringing people back, you'll have more costs to absorb there?

Well, I don't think it's sustainable for an extremely long period of time. And as we're bringing people back from furlough, there's always the a time period, when you are trying to match up those -- the resource -- human resources with the production demand. So you are going to see some fluctuation in the gross profit percentages because of that variability of the labor to the sales dollars. Until we get everybody back -- you will see some of that movement in the gross profit percentages. But I think that once we're able to bring everyone back, we will have some very good operating leverage as we see increased revenue.

And then I was wondering, your comments on the currency, on the pound and the euro. What kinds of moves would we have to see further strengthening of the dollar, and what kind of impact maybe would that have on the leverage there?

Because -- the reason for the currency comment was really related to -- twofold. One, that our subs buy from us in US dollars, so as dollar strengthens, their cost of sales goes up. So we get a small hit there. But also as the dollar strengthens, when we translate the foreign currency revenue in earnings at the end of every quarter, you get less from those as the dollar strengthens. So you would have to probably see at least a 20 -- 10% to 20% change in those currency before it would have what I would call a significant effect. But it is something that we look at when we're doing our estimates for the next quarter, because it can play -- play in when you're having changes in all of those different currencies happening at one time.

Okay. That's helpful. And then my last question is -- I mean, last year obviously was a different year, and there was a seasonal deviation, and you saw something from, usually you are stronger in the first half and less strong in the second half of the year. Do you expect you eel get back to that norm this year, or do you think it will be as we come out of this recession that we could possibly see sequential growth out there the whole year, depending on how the economy goes?

We would love to see sequential growth out there the year, but, we have looked at the seasonality effect. And obviously in 2009 seasonality played no effect whatsoever. My guess is that we will not see normal seasonality in 2010 either. We may some of it play in a little, but I would think that slow, steady growth is probably more probable. Although that again is just a guess on my part, since we really don't have any visibility beyond what we're giving you in the Q1 estimate. Al might want to comment on that.

I agreement with Tricia.

Thank you very much.

Thank you, Kristine.

And I am showing a follow-up from Jon Braatz. Please go ahead.

Allen, when you look back at the historical results, I think it was in 2009, your gross margins peaked for the year at 33.2, and your operating margins were 22.4%. Obviously we have all learned a lot during the last year, and done a lot of things to improve productivity and cost. If you were to get back to the, sort of the same sales level, sales mix and everything you saw in 2008, do you think you could be more profitable than you were, everything else being equal, given the things that you have done over the last year?

I would say, yes, with one caveat, and that is the exchange-rate equation.

Sure.

If that remains the same, I believe we could meet or exceed 2008 numbers.

Okay. Okay. In the future, you are not saying this year?

Correct.

Okay.

When we hit that revenue --

Yes. If you hit that revenue --

Not if, when.

That's right.

When.

Okay. Very good. Thank you.

Okay.

I am showing no further questions, sir.

Well, thank you, Ali. Al, would you like to make a concluding remark?

Sure. But as I started 2009 was a very, very difficult year, and we're all happy that it's -- we can say it's over with. We do look forward to 2010 and beyond. As I have said a number of times, one of the key leading indicators for us is PMI. And we began predicting an upturn in our business about six or seven months ago, when we saw the PMI start heading towards 50 and above. PMI index is now I think for six or seven months above 50, a great leading indicator for our kinds of business. It bodes well for the next six or seven months, and my recommendation for everybody that's trying to get a picture of what the future might look for, industrial companies like Sun, is to keep an eye on the PMI. We're quite happy and quite pleased with where we are at in the business cycle. We do recognize that our business cycle is about an eight year, and if you are an economist, we are in the eight part of the cycle. And we look forward to getting back to where we were in 2008 in the next few years. With that, I'll close my remarks. Thank you all.

Ladies and gentlemen, that does conclude today's conference. You may all disconnect, and have a wonderful day.