Hubbell Inc (HUBB) 2004 Q3 法說會逐字稿

At this time, I would like to welcome everyone to the Hubbell Incorporated third-quarter 2004 earnings release conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer period. (OPERATOR INSTRUCTIONS).

I will now turn the call over to Mr. Tom Conlin, Vice President of Public Affairs. Please go ahead, sir.

Crystal, thank you, and thank all of you for joining us this afternoon. We will follow our customary procedure, which is to say a few preliminary comments from me, and then we will turn to the heart of the matter.

This call is being simultaneously webcast on the Hubbell.com website, and it will also be archived on that website for at least the next year. If you want to revisit the call, just go to Hubbell.com, hit the Investor Relations tab, and then the Audio Archives tab on that page. This call will also be available for replay by telephone. It will be first available two hours following the conclusion of the call, and you can reach that telephonic replay through the number 706-645-9291, and you will need the replay pass code, which is 1494794.

I would also like to refer everyone on the call to the paragraph in the press release on forward-looking statements. We will incorporate that paragraph by reference in today's conference call. It discusses forward-looking statements and the assumptions that are inherent in such statements, involving known and unknown risks and other factors that might cause actual and future events to differ from expectations which we may discuss here today.

As I noted earlier, we will follow our customary procedure, and that means I will turn this call over to Tim Powers, Chairman, President and CEO of Hubbell Incorporated.

Thanks, Tom. We are very pleased with the third-quarter results -- 15 percent year-over-year sales growth, with about 12 points of real volume gain; and an operating margin of 12.2 percent, with 1 point of operating margin improvement before restructuring; and an earnings-per-share growth of 21 percent, again before restructuring. Over the last several quarters, we have talked a lot about cost increases and price increases, raw material increases, energy cost increases and our ability to pass those increases along to customers. This challenge continues to be our toughest near-term operational issue.

During the third quarter, the cost of several metals rose -- steel particularly, but copper, aluminum, nickel and zinc, as well. After moderating during the second quarter, steel costs in particular showed no signs of moderating. During the third quarter, we continued to announce and implement price increases, but we were not successful in fully recovering all of the cost increases with price. The gap was about $5 million for the quarter, and about 12 million for the first 9 months. We expect that volatility in the metal markets and raw material costs in general will continue to be a challenge as we head into 2005, compounded by new heights of the price of oil, which drives the cost of plastic freight and the cost of operating our factories.

Turning to our markets, our markets, along with the general economy, continue to recover steadily. Industrial production, maintenance and repair spending and capacity utilization are all steadily rising. The residential markets and homebuilder backlogs remain strong, with mortgage rates still providing a strong assist; but this market, we believe, has peaked. The nonresidential construction has bottomed but has not yet turned up, held back by the rising cost of construction. Utilities are spending more on maintenance, but the power grid investments that need to occur over the next several years have not yet begun. We continue to view our recovery as slow, and lacking a shock to the overall economic recovery, we think 2005 will be a better year for Hubbell's market. As we said before, 70 percent of the businesses sell into markets that are bottoming or are starting up.

Now, I will turn the conversation over to Bill for some further details.

Thanks, Tim. Good afternoon, everyone. As usual, I will start off with some overall comments on the quarter, and then add a few details on the segment results. Much like the second quarter, the third-quarter results reflected solid performances by all of the businesses. After 11 percent year-over-year sales growth in the first quarter and 12 percent year-over-year growth in the second, we reported 15 percent year-over-year growth in the third quarter. Of that 15 percent year-over-year growth, about 3 points was the net effect of price increases, leaving about 12 percent real volume growth. The impact, as was the case in the first half, of foreign exchange on the year-over-year sales comparison was negligible.

As was the case in the first and second quarters, there were a lot of moving parts in our third quarter P&L -- more cost increases, more price increases, continuation of customer prebuying in advance of announced price increases and an underlying recovery in most of our markets.

Third-quarter earnings were 67 cents a share, compared to last year's 57 cents. We expensed $2 million for restructuring actions during the quarter, compared to essentially nothing in the third quarter of last year. In both last year's third quarter and this year's third quarter, we had about $1.5 million of favorable non-recurring gains -- this year, from a gain on the sale of a warehouse, last year from a favorable legal settlement. Excluding these non-recurring items and the restructuring in both periods, third-quarter earnings this year were 68 cents a share, compared to last year's 55 cents, an increase of 24 percent.

With about $14 million of restructuring expense so far this year, we expect full-year '04 restructuring expense will be in a range of $15 to $20 million. That's slightly lower than our previous forecast.

As Tim said, third-quarter operating margin was 12.2 percent, a nice move up sequentially from 11.5 percent reported in the second quarter, and 1 full point better than the third quarter of last year, despite the continuing trend of rising commodity costs. But as Tim said also, realized price increases in the quarter did not completely offset the impact of cost increases -- metals, freight and energy, primarily -- a gap of about $5 million in the third quarter. And this is important -- almost 1 full point of operating margin from the net of cost and price in the third quarter alone.

Now, during the third quarter, some of our businesses did announce additional price increases. Some of those were realized during the third quarter, but many were not, and will have an impact on into the fourth quarter. Whether we can close the cost-price gap in the fourth quarter or not depends on what commodity costs do, and whether our announced price increases are realized.

During the third quarter, we also expensed $2 million on our Hubbell 2006 business system initiative, about the same amount as the first and second quarters. Year to date, we have spent or expensed $7 million for Hubbell 2006, versus about 2 million in the first 9 months of last year.

On the cash flow front, we continued to generate positive free cash flow after payment of dividends. The cash and investment balance at the end of the third quarter was $389 million; that's up by 50 million during the quarter, after payment of 20 million in cash dividends to shareholders. Our net debt at the end of the third quarter was a -$90 million.

Our year-to-date cash flow from operations, as you can see in the press release, was $145 million. That's down a bit from last year's record-breaking $190 million, higher net income more than offset by the working capital build required to support higher sales. However, our trade working capital as a percent of sales -- that is, accounts receivable plus inventories less accounts payable, all as a percentage of sales -- continues to improve -- 19.7 percent in the first quarter to 18.6 in the second to 18.5 percent in the third.

DSO remained flat, at 52 days, compared to the second-quarter figure, while inventory days improved by 4 days to $51 million, and we reduced inventory balance in dollars as we increased our sales.

During the first half of this year, we used $26 million for capital expenditures versus 17 in the first 9 months of last year. 7 million of the $9 million increase was attributable to the capitalized portion of our investment in the Hubbell 2006 systems initiative. That is included in other assets on the balance sheet. As we have indicated in previous calls, we expect to use 35 to 40 million in 2004 for capital expenditures. That includes the capitalized portion of the Hubbell 2006 IT investment. That compares with last year's figure of $28 million.

Excluding the Hubbell 2006 capitalized investment, we are using cash at about the same pace as we have been, about 50 percent of depreciation expense. Our lean initiatives continue to free up manufacturing and warehouse capacity and reduce the need for space. And as we have mentioned before, we continue to make significant investments in process improvement, product development and training.

On now to the segment results. The electrical segment's third-quarter sales were up 14 percent year over year, up 3 percent sequentially from the second. About 2 points of the year-over-year increase was the impact of price increases. As was the case in each of the last three quarters, all four of the businesses that make up the segment reported higher sales. The increases ranged from a low of 8 percent to a high of almost 20 percent year over year.

Operating margin, excluding restructuring for the quarter, 12.3 percent. That is up by over a point from the third quarter of last year, and up 20 basis points sequentially from the second. All four businesses also reported higher operating margins, driven by a combination of higher volume, productivity improvements and very close management of cost inputs and selling prices.

Wiring system margin benefited from favorable volume, up about 8 percent year over year. They also had favorable product mix and the benefit of an ongoing recovery in maintenance spending by industrial customers.

In our lighting businesses, residential markets, as Tim said, continue to be strong, and productivity and restructuring actions in the commercial and industrial businesses are continuing to generate good results. We also were very pleased with the year-over-year growth in sales of the commercial and industrial lighting products businesses, well into double digits again this quarter. Some of the year-over-year growth is no doubt the result of price increases, but most of it was increased volume.

Although harsh and hazardous markets are still generally slow, they've recently showed signs of a turnaround, particularly in oil and gas applications. Third-quarter sales in the harsh and hazardous businesses rose almost 20 percent year over year.

Power systems' third-quarter sales grew by about 24 percent year over year, up 11 percent sequentially from the second quarter. About 4 points of the 24 percent year-over-year gain was storm- or hurricane-related. Another 4 points was the impact of price increases, leaving a real volume gain of around 15 percent.

Utility customers continue to increase their MRO and capital spend, which bodes well for the coming quarters for this business. Operating margin, 11.7 percent, 30 points lower than last year's reported third quarter, for two reasons. First, last year's third quarter included a favorable patent litigation settlement of $1.7 million. That settlement alone added 2 points to last year's third-quarter operating margin. And second, as we have talked already about, we are not yet passing all of the raw material and energy cost increases onto our utility customers via selling price increases. But we think it's notable that power systems' operating margins were significantly better in the third quarter than the second, up by 2 points sequentially as the impact of our price increases started to kick in. Additional price increases have been announced for utility products that are effective this month.

Finally, the industrial technology segment's third-quarter sales up 3 percent from last year, due to mostly the higher sales in our industrial controls and industrial real products, but also modestly higher sales in high-voltage test systems. Price increases helped the sales comparison by about 1 point, and the segment operating margin for the third quarter of 12.3 percent was up by almost 3 full points from last year. That is driven by volume gains, the high-voltage test business's swinging from a loss position to profit, and our GAI-Tronics specialty communications business is continuing to report good results.

With that, we will go back to Tim for some comments on the rest of this year and our outlook.

Okay, Bill, thanks. We now expect that the full year of 2004 sales to be about $2 billion, with a year-over-year sales growth in the range of 12 to 14 percent. We expect the full-year operating margin improvement will be between 1.5 and 2 points before restructuring, and that our full-year 2004 earnings per share will be in the range of $2.40 to $2.50, which is a narrower range than our previous forecast of $2.35 to $2.50 before restructuring. We also expect to record 15 to 20 million of restructuring expense in 2004, which is not included in the earnings-per-share range of $2.40 to $2.50. We continue to expect that our full-year cash flow from operations will exceed net income, despite the need to support sales growth with additional working capital.

Now, to turn to our strategic initiatives. There is no change in our strategy or our direction -- that is, the pursuit of lean thinking, the execution of restructuring actions across all of our businesses, working capital efficiency and low-cost country sourcing.

We are making good progress on our lean initiatives. We have transformed major areas of our operations and, as a result, have been able to consolidate factories and warehouses into less space, and at the same time generate process improvement and productivity gains. Our lighting restructuring actions continue to be executed on schedule, and the results continue to be encouraging, evidenced by lighting's business third-quarter results that were again above our expectations. Factory and warehouse consolidations will continue with most of our businesses for at least the next two years, as the positive effect of lean and low-cost country sourcing take effect.

As Bill said, we are making progress on turning our inventories faster, but there is a lot of opportunity remaining. We continue to increase the amount of product that we source from low-cost country, whether from our own factories in Mexico or sourcing from third parties in the Far East. We are on track with our initiative to implement a common, standardized SAP business software across all of our businesses.

Finally, as you have heard in Bill's report, our balance sheet and our ability to finance substantial growth continues to strengthen. In addition, in our internal growth initiatives, we continue to search for acquisitions that will enhance our competitive position and bring value to our shareholders.

In summary, we are very pleased with our progress this year, but we believe there is still plenty of opportunity in front of us. And with that, we are prepared to take questions.

Crystal, if you would open up the lines for questions?

(OPERATOR INSTRUCTIONS). Jeffrey Sprague, Smith Barney.

Good afternoon, everyone. A couple questions, Tim. First, on the utility business, kind of putting the storms and everything aside, you sound like you are still pretty -- you made a comment in your opening remarks that we still really are not seeing the big spending cycle that we need to kind of correct the problems of the grid, but you also expressed some optimism about the business in '05. Could you just give us a little color on kind of the dynamics you currently see, the mix between MRO and projects, maybe what is going on maybe at the state level versus the federal level to drive spending. Any additional color there would be very helpful.

We are seeing a lot more spending on what you would call maintenance type items, even if you eliminate the storm. And certainly, the spending by utilities this year is much better than we expected going into the year. But we are still not seeing the kinds of transmission projects and power line projects that it's going to take to make a more stable grid, and that is going to take legislation that will not pass until the spring of next year. So it's still going to be a ways away, but there are more projects on utilities' drawing boards, and more closer to launch than they have been. So I think there is anticipation by our customers that things could start again in 2005.

Now, we are not going to see like a major tidal wave here, but certainly the beginning of what ought to be the upturn on the transmission side. And I would expect the maintenance side to remain strong for next year. There is still a lot of work to be done in Florida and the South to rebuild, and that work will continue on through the fourth quarter into the beginning of next year. So I think our utility customers are getting financially more healthy, and I am optimistic about next year's utility market.

Separate from utility, can you give us a sense of kind of the progression in the quarter? I guess that 4 points of storm boost you got was a September phenomenon. If you kind of remove that, did your business continue to strengthen through the quarter? Was September stronger than July and August on a year-over-year growth basis?

I don't think we saw any particular trend there. We do get international orders, and things that make days and weeks and months go up and down, but if you look at the domestic business, I would say the trend is pretty steady, and substantially above last year's. And we didn't see any strengthening or weakness that we could point to; without really going back and doing a detailed study, there was nothing that struck us about strengthening or weakening.

And maybe just one last on the housekeeping, and I will pass it to someone else. On the litigation gain that you recorded in the quarter, could you just tell us where that is, and kind of the consolidated P&L? I'm guessing it's in cost of sales. And then if it also on a segment level is residing in one of the particular segments?

The litigation gain was in last year's third quarter, and this year's nonrecurring gain that I mention was a gain on the sale of the warehouse. That was 1.5 million, and it was classified in other cost of sales.

And does it show up in one of the segments in the segment presentation?

Electrical segment.

Tony Boase, A.G. Edwards.

I just want to clarify the guidance for the full year. First, is the full year -- is that based on a third-quarter number of 67 or 68 cents?

I don't think we are that precise. Our range is 2.40 to 2.50 for full year, and you can do the math on what that implies for fourth quarter. When we talk about the guidance, we talk about excluding restructuring only, not the nonrecurrings. Nonrecurrings this year's third quarter washed. What they will do for the full year is too soon to say.

And then, just on what that number implies for the fourth quarter, when you look at the revenue numbers, it sounds like revenue is expected or anticipated to continue to be pretty robust, even in the fourth quarter. So the differential between a 55 to 65 cent number in the fourth quarter has to be either mix or not being able to recapture raw materials. Maybe you can talk a little bit about that.

I would say that our caution on this point is we are chasing the rising cost of materials, and we think we are still going to be in that mode somewhat. And at this point, we would -- at least, I would believe that we'll have another negative number there for the fourth quarter, despite our best efforts to catch that rising tide.

And can you say, on the low end, what kind of a net negative that means, and on a high end what that means?

I would like to, but I can tell you there's way too many moving parts. There are at least four major price increases that have been implemented, with various stages of the lag time between when you announce it and when you begin to realize it, and raw material costs moving virtually every day. So I think the pattern is pretty established. We are having about 5 million a quarter. It's going to be in that range, maybe a little bit less, but it is really a lot of estimates on our part, based on how many variables there are.

And then, just a final question on 2005. In the press release, you mentioned that you thought that volume would be up in the low single digits, but what you didn't say was what you thought maybe pricing would be in '05. And the combination of volume and price, wouldn't you agree, would be probably above mid single digits for '05?

I would agree with that.

Bob Cornell, Lehman Brothers.

Hi, everybody. First of all, allow me an editorial comment. When you guys make a forecast for earnings per share next year, would you please include the restructuring costs all in? You are going to have two more years of these kinds of costs, and why don't we just call a spade a spade?

We have been doing those separately, so that you could conclude -- you could add them together. That's all.

Well, I keep putting them in my numbers, and First Call keeps throwing me out, so the --

All right, we will do our best.

That's my editorial comment, anyway. Going back to the question just asked about growth for next year, you said first of all, as this gentleman said, you're talking about low single-digit growth. But, Tim, in your opening comments you said that 70 percent of your markets are bottoming and turning up. I was wondering, given that perspective, why the underlying market growth might not be a little bit better than the low single digits.

It can be, Bob, but right now we really have not finished our work on '05. And, like last year, it's a pretty dicey view. The kinds of things that can cause our view to the forecast to change is, at what point will the commercial construction market begin to turn up, and how long and to what effect would these rising prices have a dampening effect on the recovery of that market?

Secondly, oil prices at $50-some are going to have a large impact on many markets, and we need more -- at least, I need more time to consider what impact that is going to have on our markets going forward.

So, while it looks good, and I agree that there is a trend here of market improvement, we have all this interference of very sharply rising costs that affects the growth rate. So, rather than us get very precise at this point, we're just trying to give you some basic elements for you to conclude your view of next year, and we will come out with much more detail with our fourth-quarter call in January.

You have, and can find on our website, the split of what type of end markets we serve, and you know we are heavily oriented towards nonresidential construction, 40-plus percent; industrial, 20 percent; residential, 15 to 20 percent. So if you take the conventional wisdom these days that residential has peaked and is heading down -- still strong next year, but down year over year -- you put a pretty conservative forecast on nonresidential construction growth, yes, it's going to be up but not up big, and put a mid single digit on industrial production and MRO spending. And anybody's guess on what utilities will do, but if you do that math, you can move the numbers around a couple points either way, you still end up with a mid-single-digit conclusion for volume growth. And that's what we included in the release.

I take mid-single as different than low-single, but we'll debate that later.

Just one other question. On this material cost thing, steel prices -- spot prices have peaked, coming down. We can debate about what is going forward there, but where is your steel contract price right now? If you look at the stuff you have under contract, what has come off, what you are paying in the spot market, what was your average cost of steel right now?

We use so many different kinds, it would be impossible for me to give you one number, but I can tell you that you are right about the spot market having reached a pause for the moment. But if you look at the cost that manufacturers are paying, which lags that market considerably, it is still inching up.

I understand, so that is what I was trying to capture, is the gap between what your average pay is versus the current long-term contract price for steel. There's probably a weighted average that you guys think about in that context. How far below the average contract basket mix of steel are you paying right now? Do you have an idea?

It's too broad a question for me to answer. I'd like to give you something precise, but the difference between steel that goes into light poles and steel that goes into metal boxes and steel that goes into chance (ph) is such a huge variety that it would be not practical for me to give you one simple answer to that.

I can tell you that it is rising, and as we raise prices -- for instance, I think, in the latest price increase for lighting, we took another bump of about, what, 10 percent on poles. 10 percent on steel poles. So that would reflect our attempt to catch up, by way of example, but many moving parts to this.

Well, let me think this -- using historical common sense, that you would be sort of at a price-cost-neutral situation. You say you are going to have another negative delta in the fourth quarter. As you look out into the first part of next year, I understand you make some assumptions about prices holding and costs doing whatever. But in your own planning, your own outlook, when might you see a price-neutral cost, price-neutral quarter?

I think we're catching up in the range of about three months after -- let's say after commodity prices would get stabilized, the price increases that we would have put in place would have been partially and then ultimately fully effective by, say, the third month.

Stephen Wong (ph), Citigroup Smith.

I was calling about your power systems division here. I was curious to know -- you guys indicated on the call that you feel that most of the spending for the transmission build-out, if it should occur, would occur starting next spring, I presume after the legislation.

Forward (ph) after the legislation.

Well, if passed -- if legislation is passed, right?

Right, that's right.

How large of a market do you feel that your market space there is for you guys to grow into?

Well, it is the smaller portion of our utilities business. I would say that perhaps as much as 70 to 80 percent is distribution, and the smaller part is transmission. But the transmission business could grow substantially, meaning that it could double, for instance, for a sustained period of time. But it will take us a while, and it will take the country a while, for these projects to be approved and to get moving. So you'll have plenty of time to see it coming, but we believe that the signs are beginning to come into line for that to happen.

When you say that you see continued strong spending from there, if legislation should pass, you are talking about continually compounding annual growth as the companies increases their CapEx budgets? Or are you talking more like flatline spending going across, once that kicks up?

I would say steadily increasing but not compounding.

Now, the products on the transmission line business -- are they typically higher-margin versus the distribution items?

I wouldn't say enough -- they are good-margin products, but I would not say that they would cause a major shift in the profitability, other than the lift you get from volume. Certainly, they would help our factories as volume goes through at a higher level, but I wouldn't say there's enough huge difference in margins to cause you to think differently about the power business volume.

And the recent price increases that you have been putting through -- have the utilities been pushing back in any sense, since I believe one of the major items for them was the financial stability of the business at the utility?

I would say, on the financial stability side, that the cash flow has been very good to the utility industry now for the last 24 months, and that they are financially better off, and there has been a number of sales of assets which have helped a number of ailing utilities to be better.

But certainly, to implement price increases in this market takes more time and more effort, and usually longer leadtime than is typical. So the lag time is longer, that's all. But I think there's a willingness to understand the situation, just a longer gap.

When you guys are saying that next year you are seeing continued strong spending on the power systems side by the utilities, how much of a leadtime are you -- how much clarity did you already get into this, because are people placing orders now for the first quarter, or is this more like for the full year that you are already seeing very strong demand, or there's a lot of clarity already involved?

No, we have actually very short visibility to this. It is that in conversations with our customers, and seeing what plans they have for next year, it appears to us that their planning has more in it than it has in the past in transmission. But the products that they buy from us come at the tail end of a long planning cycle. So they can order insulators and arresters two to three months before they are actually needed on the job site, and the transmission line might be under way for 6 to 12 months, depending on that situation.

And that's the same for the distribution business side, too?

Yes, even less time. So they can actually get most distribution price from us out of stock. So within say a two-week period, we could add whatever they need wherever they need it.

At this time, there are no further questions.

Okay, Crystal. Then thank you, and thank everyone for joining us today.

This concludes today's Hubbell Incorporated third-quarter 2004 earnings release conference call. You may now disconnect.