Hubbell Inc (HUBB) 2002 Q3 法說會逐字稿

Good afternoon. My name is Shatina (ph) and I will be your conference facilitator today. At this time, I would like to welcome everyone to the third quarter earnings conference call for Hubbell, Incorporated. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer period. If you would like to ask a question during this time, simply press star, then the number one on your telephone keypad. If you would like to withdraw your question, press the pound key.

Thank you. Mr. Conlin, you may begin your conference.

Thank you, Shatina (ph), and welcome to everyone who's joined us here either by telephone or on the Web. As Shatina (ph) said, this is Hubbell Incorporated's third quarter conference call. We released our earnings release this morning at about 11:00. That is available from the Hubbell Web site and all the usual wire and news services.

Let me cite one paragraph of that press release and direct you to it. And it's the paragraph on forward-looking statements. And I'd like to incorporate that by reference into our discussion here today. By way of summary, though most of you may know this, let me remind you that this discussion may include forward-looking statements that involve a number of assumptions or uncertainties and categorizations, known and unknown risks. These may cause future results to differ from what we discuss today, and you should certainly be aware of that as we proceed.

This conference call will be archived on the Hubbell Web site for the better part of the next year so you can re-hear what's being said by getting on the Internet and going to the Hubbell Web site and clicking on "Archived Presentations". It will also be available over the next 30 days by telephone. And the dial-in number to hear that - this conference call repeated - is 706-645-9291. And the conference ID number, which you will need to give, is 6015086.

As I said earlier, we released our earnings earlier today. And with me today to discuss them are Tim Powers, President and CEO of the company, and Bill Tolley, who's the chief financial officer of the company.

So, with that introduction, let me introduce Tim Powers, CEO.

Thanks, Tom. Good afternoon, everyone.

I'd like to begin this afternoon by talking a little bit about the general economy and then more specific about the markets that we serve in that economy and then a few high level comments about the third quarter results. At that point, I'll turn it over to Bill and he can talk more in detail about what we've achieved in this quarter that we're quite pleased with. And then we'll talk a little bit more about the future as we see it onto the fourth quarter and into next year.

So, getting back to the economy, when we began our business planning about a year ago at this time we really were not expecting the general economy in the markets we serve to improve and we haven't been disappointed, unfortunately. That means that those industrial markets and commercial markets have gone down and are proceeding at the rates that we predicted it would. And that meant reductions in sales, but we are exactly where we thought we would be in terms of the industrial and non-residential construction markets and our utility markets. Those are the areas where we thought the markets would be flat, where we plan for those market conditions. And we've seen exactly what we expected to happen. We do not expect any change in those market conditions between now and the end of this year.

The residential construction market continues to be very strong. And with the acquisition of LCA and the progress lighting line, our participation in that market has increased in certainly that and some of our electrical - Hubbell electrical products participate in that market and have benefited from the strength of that market.

As I said, markets are not improving, especially the industrial market. We're kind of bumping along the bottom. And I believe that we will remain in that same level of orders on a daily basis that we have seen most of this year. The non-residential construction continues to slow, and we would expect that slowing to continue, but not at quite as fast the pace as it has up to this point.

Our utility market is mixed. Certainly the energy trading factor in the utility market has caused the disruption in any number of our customers and has caused some of them to not be able to spend the capital that is really needed to spend. And this disruption will continue.

In the midst of that, our business is about flat with last year and our margins are improving, and we're quite pleased with the turnaround on the operational side in our utility business.

As far as the quarter goes, we were quite happy with the improvement in margin and our earnings at 52 cents, along with 49 coming from operations. As we noted in the discussion, our margins have improved in all three segments and our cash flow has been very strong, as noted. And particularly, we're continuing on with the inventory reduction plan that we told you about. And we've outpaced our expectations for this year. At this point, we've taken our inventory down about $48 million and we expect that it will continue, but probably not at the rate that it has been declining up to this point.

We are on track with the operational improvements that we put in place. Most of our factories are performing better than they did a year ago, although some of that improvement is tempered a bit by the fact that we are reducing inventories at such a fairly healthy pace.

The LCA integration is right on track with what we expected. The appointment of new lighting agents is virtually complete. Training is well underway. The realignment of our management organization is completed. Product rationalization decisions have been made, and we are now onto the discussions of facility rationalization. So, we'll be telling you more about that in the fourth quarter. And we indicated in our release that we will have a charge to earnings, as we told you before, related to the restructuring of our new lighting business.

So, those are kind of the highlights of the quarter, which has been a very strong quarter for us given any lack of strength in the general economy.

And at this point, we'll turn it over to Bill to talk about the financials in more detail.

Thanks, Tim, and hello, everyone.

Before I get to the segment and operating results, I'd like to start with an overview of the unusual items that impacted the third quarter.

First, we recorded $400,000 of income made up of two items - a $1 million reversal of excess restructuring provision, offset by $500,000 of spending, both of which were related to the program that was established in December of last year. We also recorded $1.6 million of pretax income as a result of finalizing the trailing liabilities on the sale of our DSL business that goes back to the year 2000. These two items combined added about three cents to the third quarter's earnings. And, as we've spoken about in the past, the elimination of goodwill amortization continues to benefit the year over year comparisons by about three cents per share per quarter or about nine cents year to date.

Adjusting for all of these items, our third quarter pretax operating margin was 9.5 percent. That's up about one full point year over year and up by just over half a point sequentially from the second quarter. After the same adjustments, our third quarter diluted earnings per share were 49 cents. That's up 36 percent from the goodwill adjusted third quarter of last year and up 11 percent sequentially from the 44 cents per share we reported last quarter.

And as you saw in the release, during the third quarter we finalized our FAS 142 goodwill impairment analysis and we recorded just over a $25 million non-cash charge to goodwill. The charge was made retroactively to the first quarter results, so it didn't affect the third quarter figures, only the year to date results. And as we indicated also during our last call, the entire goodwill impairment charge was related to our high voltage test equipment businesses, which is a part of our industrial technology segment.

Now to the operating results. And as I go through these results, I'm going to exclude throughout the impact of the items that I just mentioned.

First, the electrical segment. Sales for the quarter $333 million, up substantially year over year due to the addition of the LCA business to our lighting group. Operating margin for the quarter 9.5 percent, up just under half a point from the goodwill adjusted figure of the third quarter last year.

Sales in the wiring device business were flat compared to last year's third quarter, and operating margins were down modestly.

Sales of Killark's harsh and hazardous location products down about 11 percent from last year's third quarter, as markets are slow and project work continues to be delayed. Killark's operating margins on the other hand held to last year's level despite the lower revenues.

We saw strong sales in profit comparisons in our RACO and Bell electrical products businesses continuing the trend we saw earlier this year, thanks to share of market gains and productivity improvements. And as Tim mentioned in his opening remarks, our progress brand residential lighting business reported another strong quarter due to ongoing strength in the residential housing and DIY markets.

The power systems segment continued to perform well. Third quarter sales of $83 million, up two percent, with operating margins of 9.8 percent, up a point-and-a-half over the goodwill adjusted operating margin in the third quarter of last year. Although there is very little industry volume growth, we believe that we're taking a modest amount of share from competitors with productivity and initiatives, adding to the incremental profit drop (ph).

Our industrial technology segment reported sales of just over $30 million, down about 12 percent from the third quarter of last year, as capital spending and heavy industry continues to fall. However, operating margins for this segment of 8.6 percent improved by over three points compared to the goodwill adjusted figure of last year, driven primarily by better results at our GAI-Tronics unit.

With the exception of the residential businesses, the consistent themes across the board are sluggish volumes and substantial cost and price pressure and slow and, therefore, very competitive markets. We have, however, we believe, had great success at offsetting some of these negative impacts with share of market growth and productivity improvements.

Our net interest expense rose from last year due to the incremental borrowing to finance the acquisitions, partially offset by lower cost to finance our working capital. Our weighted average pretax borrowing rate for the quarter was 5.4 percent. Our effective tax rate for the quarter was 23 percent, the same rate as the first three quarters of this year after you exclude the effect of the favorable tax settlement that we recognized in the second quarter.

Just a few items of interest on the balance sheet. As Tim said, our cash flow was very strong in the quarter. Net debt, that is, our long-term debt less cash and investment balances, was $181 million at the end of the third quarter. That's a reduction of $57 million from the end of the second quarter. Now, year to date we've generated $76 million of free cash flow after paying $58 million of shareholder dividends.

The free cash generation was largely a result of improved profitability and also, importantly, a continued focus on working capital. So far, as Tim said, we've generated cash from reduced net inventories of $48 million, with $14 million of that $48 million generated during the third quarter.

Our days of inventory has also been reduced by three days in the first nine months of the year. We also are making progress at improving the efficiency of collecting our accounts receivable. So far this year, we've reduced our day sales outstanding by three days, with one day of improvement during the third quarter.

Our year-to-date capital spend of 16 million dollars is only about 40 percent of depreciation. This spend level is very consistent with our desire to limit investments in plant and equipment. But on the other hand to continue making substantial investments in product development, employee training and process improvement initiatives.

Looking ahead, we expect that there will be two unusual items that will impact our fourth quarter results. First, there's been recent legislation that in effect broadened the scope of costs that qualify for the R&D tax credit in the United States. We expect a one-time reduction in our 2002 tax expense from a claim we expect to file in the fourth quarter. The amount is still uncertain, but is in a range of four to six million dollars. And that's after tax, or seven to ten cents per share.

We will, as Tim also mentioned, record a provision during the fourth quarter to provide for the costs that we expect to incur on restructuring our expanded lighting business. The program will encompass warehouse, office and plant closures. Severance for overlapping or redundant overhead, as well as product and SKU rationalization. The accounting treatment of these costs will depend on whether an action affect acquired LCA location or not. If an action affect an acquired business the cost of the acquisition will be provided for as a purchase accounting entry. If on the other hand the action affects our original lighting business, the costs would be provided for in a restructuring provision.

And last, we had two sizable inflows of cash after the quarter ended. In early October we completed the sales of one of our closed facilities in Mexico for six million in cash, and we also received in October the final purchase price adjustment on the LCA acquisition of about eight million in cash.

We're not prepared to make any specific predictions about fourth quarter cash and where we'll end the year on date debt but the favorable impacts on the two items I just mentioned, along with free cash flow from operations, and very importantly the planned return of about $55 million of cash to the U.S. from our investment portfolio in Puerto Rico, we think will allow us to substantially reduce our debt by the end of this year. With that I'll turn it back over to Tim for some closing remarks.

Thank you, Bill. Just to get back and talk a little bit about the strategy and focus of our company. We just want to reiterate that our strategy and focus remain unchanged. That is, a mentality towards cost reduction and productivity improvements in the light of less than robust markets. We have a strong eye towards keeping our service levels at a very high level. As we indicated in the press release, we won a granger and a Canadian service award for delivery and supplier performance. That's just an indication. We continue with our inventory reduction plan and our productivity improvement, driven around the lean manufacturing principles. We continue to work hard on sourcing of products to lower cost parts of the world. And we will continue to work toward lowering our working capital requirements as we go.

As far as the ambition to grow, it's as we stated before. We have four areas that are of interest to us: Wiring systems, Power systems - as recently announced small deal to buy the pull lane hardware business from Cooper - Rough and Electrical and the Lighting Fixtures and control business. Those are unchanged but the four areas of opportunity for us.

The outlook for the remainder of the year, we would expect our sales to be about 1.6 billion. We aren't changing our guidance from about a 1.60 to a 1.70, excluding these items like these tax items we indicated before, the restructuring items. There's a chance for us to be toward the higher end of that than the lower end. And as far as next year goes, we don't see any dramatic improvement in the economy. We think that the uncertainty towards financial markets, the lack of capital spending will continue on. But that we should see a rollover increase in sales from some of our acquisitions and further productivity improvement. So we would expect our sales to rise and our earnings to rise by more than 10 percent.

And we will continue on with the same focus we've had, which is reduction of working capital and productivity improvement and hope that the sun comes out somewhere towards the latter end of 2003. But we see it as a year where we will continue to improve and be out looking for opportunities to grow our company through acquisitions. So that concludes my remarks.

Thank you. We'll open up the session for questions now.

At this time I would like to remind everyone, in order to ask a question, please press star and then the number one on your telephone keypad. We'll pause for just a moment to compile the Q&A roster. Your first question comes from Bob Cornell from Lehman Brothers.

Good afternoon, guys. A couple things. One is, would you just remind us what the restructuring program was you put in place next year, there's plant closings and employee head count reductions and where you are on that and what the benefits you're seeing at this point?

Are you talking about the last year's?

Sort of what's the status of the whole program.

Just what we've indicated. We've just about finished all the activities in that.

How many plants are going to be closed and for example how many are closed?

There were six plants, five of them are closed and one is under way. And the one that's underway is a very small operation. So it's not a big factor either way. All of the head count reduction, except for this small plant, has been completed. All of the product moves are substantially completed. There's a couple of minor ones. But I would say you could call it finished for all intents and purposes.

Are we seeing the impact of that fully in the current results? Do we have to wait until a quarter or two to see --?

We're beginning to see that, yes. You can see that in some of the power systems, margin improvement. And a little bit of what's muting it, as I indicated earlier, is that when you're taking down your inventories at the rate we are, it means you're producing less in your plants than you're shipping out the door, which tends to mute the beneficial impact of cutting capacity.

That led to my next question. Could you quantify the unabsorbed burden effect as a percent of sales or margin impact, for example, if you were not running down inventories and didn't have the unabsorbed overhead that you referred to, what margins might we have seen in this quarter?

I haven't really completed a detailed analysis to give you a direct specific comment. But certainly it's several millions of dollars in a quarter. But it's not ten. It's not five. It's somewhere between one and three or four, something like that, as an estimate. But we really have to do a lot more homework than we've done up to this point. We're concentrating our intention now on getting our lighting business in shape in terms of restructuring that. So that's where we put most of our attention. But it definitely has a drag effect. What we're trading the cash, certainly the cash reduction coming from these inventories for some short-term improvement in earnings.

The final question on the lien programs. Where are you in that lien effort? How many of your plants are involved? And what state of adoption are the plants? Sort of where are you in that whole program? Are you in a net benefit mode or a net cost mode?

We have six major facilities involved in the lien activity. And I'd say that we are reaching the point at about where the benefits are approximately equal to the costs. So what I'd like to explain inside our company is we've reached the starting line. And we are seeing improvements and it's a rather large cultural change, when you go from a material requirements planning in large batches to one that has smaller batches and eventually, hopefully, to more of a single piece flow. But we're really just beginning . This is a long journey. I'm not trying to overstate at this point at all other than we're well underway and a significant number of our large facilities are actively involved in this effort.

Is it going to have any sort of visible impact on '03 results, do you think?

I would not say that you will see a huge uptick in our margins from this, but rather more of a steady improvement as we are showing right now. Our objective for next year would be to add another margin point from where we are at this point. And you'll see a rather gradual improvement to our margins rather than any spike up. At least at the level that the economy is at right now. It's a battle of pricing and other things you have to overcome to show margin improvement.

Thanks, Tim.

Sure.

Your next question comes from Martin Sankai (ph) from Goldman Sachs.

Hi Tim. Couple of questions. First of all, in looking out to 2003, there are a number of issues that are of current interest to people. First would be pensions and where is your position right now and what's your thought process regarding what you need to do about that?

As all other companies are, we certainly have looked at and are looking at our pension requirements. We've stayed in the middle of the road on pension assumptions. Certainly there's a downward pressure on the long-term earnings, assumption of pension assets. And as we approach the end of the year, we would be evaluating what to do about that. And it's possible we would make a larger than normal contribution to our pension plan. It may have these recent few years of lower earnings to the plan may have an effect of increasing our pension expense next year. But I don't think that it's going to be anything that would disrupt your thinking about us or our thinking about next year.

Okay. Could you remind us what your current return on assets assumption is?

Right now it's nine percent.

Okay. And what would be your sensitivity to, let's say, 100 basis point reduction in your ROA?

The net assets in our pension plans roughly speaking, including LCA are about 240 million. So a one point change on that is about two and a half million dollars.

Okay. And that would be pretax?

Yes.

And the funding status, are you in danger of having to record an un-funded liability to your equity?

Our valuation date is 12-31. So we'll be undertaking that analysis during the fourth quarter. I can't tell you whether we'll be underneath that threshold or not. But I think, as Tim said earlier, we would more than likely be in a position to make contributions during the fourth quarter that would take us out of that position, should we find ourselves in that position.

Okay.

So we have not enjoyed the status of having like tremendous successes in the assets in our funds. And up until last year or so we've been a little bit overfunded. And now with the returns being lower, we've been slightly underfunded. So we've had about the right amount of assets and certainly we will be prudent in keeping the right amount of assets in those funds.

Thank you. My next question is steel.

Yes. That's a very active, lively discussion right now. Steel prices have jumped between 10 and 40 percent. And they certainly are affecting our industry. And we've had the good fortune of having some supply agreements that run as long as through the end of this year. But in most cases we're in the midst of that transition to higher steel prices. We have price increases either announced or in place to offset some of or all of it. So you should not see from us any disruption in our margins so long as those price increases stick in the marketplace. And we're expecting that they will.

Okay. Any signs that some of your competition is following your lead?

Most people who have products made of steel, whether they be in the electrical or utility business, have announced price increases. And I think that it's a large enough component of the product that and margins aren't so robust as to allow anybody to sit back and not increase the price. I mean it's just something that needs to be done.

Okay. Could we broaden the discussion out to other materials areas like plastic and copper and just sort of give us a better total picture of what's happening to materials?

There isn't any broad pressure on commodity prices that go into our products aside from steel. We used to be able to see a substantial reductions and you would describe it more that those substantial reductions are coming to an end in that we used to be able to, through free markets and other purchasing techniques, to see four, five, six, eight percent cost reductions in our materials. Now those are slowing down to low single digit numbers, one, two, three, four. Those kinds of numbers. But there isn't at this point any inflation pressure to push other commodities up.

Okay. Thanks a lot. I'll get back into queue.

Thanks.

Your next question comes from Jeff Spraig from Salomon Smith Barney.

Just a couple items. Although you didn't own LCA obviously in this period last year, I wonder if you have any view on its year-over-year performance on the top line, as growth relative to the market or just absolute change in the top line?

I would say in general terms, Jeff, it's sales excluding the residential business are lower than they were a year ago. Part of it is due to the market. But certainly not a small part is attributable to the huge change in the lighting reps that has occurred. And that's had a depressing effect on sales of both the LCA business units and even a larger impact on the legacy Hubbell business. And just to give you a rough idea, this is the largest change in lighting representation in the history of the lighting industry. And about 20 to 30 percent of the reps are remaining Hubbell reps and 70 to 80 percent are the lighting corporation of America's reps. So they're now appointed to represent all of the products and they're learning the new ones. So while that transition is going on, it has had a more than market depressing effect on the sales of both business units.

Okay. Great. And could you just help us sort out the total acquisition impact in the quarter? I think reported sales up 37 percent. How much was organic. Maybe organic was down slightly it was all acquisitions. But if you have a number on that, I'd appreciate it.

Well, we can say I think the press release said our organic sales were down year-over-year from the third quarter and they were down in the high single digit range year-over-year company wide.

We said sales in the second paragraph, we said that sales excluding acquisitions from the prior year were 298.4 million. But I would also add that the impact, the negative impact of the lighting combination on our historic lighting business has been disproportionate. So if you read that into what's happened to our core business, that's significantly more negative than the average of the rest of our businesses.

Okay. And just as you look out into 2003, I guess you made a comment about maybe as much as a point of margin expansion. Which are you actually kind of see it characterized it as a little, but actually it would probably result in a lot better than 10 percent earnings growth in 2003, if you got that and you look at the annualization impact of the acquisitions that you've done.

It's going to be more than 10 percent. We're just not ready to quantify that for you specifically. But if you take the rollover effect of LCA and our acquisitions and then add one pretax margin point, you can come up with a pretty close number on the increase in earnings. And we're just not ready to quite put that in a bracket for you.

Okay. Terrific. Thanks a lot.

You have another question from Martin Sankai from Goldman Sachs.

This is a little bit of a clarification. In looking at the gains, they were two million pretax. And three cents a share after tax, which would be roughly two million. Is it basically no tax effect from these gains?

Just a clarifying, the gain on the sale, we're getting down into the tenths of a million here. But the gain on the sale was 1.6 million, and the net of the restructuring in and out - reversal and spending - was an additional 400,000. So the total was two million pretax, after tax just over two cents a share, or that's what gets us from the 52 cents down to 49 cents.

Okay. Well, that's three cents. .

Right. Three cents incremental impact.

It's a little more than two and a half.

Okay. So it would be 2.6?

2.6 cents, to be precise.

Okay. That will get me there. And just looking through other. Investment income down substantially. Is that just lower interest rates?

Well, Martin, this is Bill. It's other income expense net. So that's a combination of our net financing cost. Interest income offset interest expense as well as other income. And the details of that are broken out on the income statement.

I'm just looking at it now. And your adjustment income is down 900,000

Yes.

That's just --

Lower cash balances as a result of financing the acquisitions. But I'd like at those two lines conjunction and together to really combine what our overall financing costs are.

Okay. That's pretty much it. Thanks.

Again, I would like to remind everyone, in order to ask a question, press star followed by the number 1 on your telephone keypad. At this time, there are no further questions.

Great. Thank you. And thank you for joining us.

Thank you, this concludes today's third quarter earnings conference call for Hubbell incorporated. You may now disconnect