Hubbell Inc (HUBB) 2011 Q3 法說會逐字稿

Good day everyone and welcome to the Hubbell Incorporated third-quarter results conference call. As a reminder, today's call is being recorded. Now, for opening remarks and introductions, I would like to turn the call over to Jim Farrell. Please go ahead, Sir.

Good morning everyone and thank you for joining us. I'm here today with Tim Powers, our Chairman, President, Chief Executive Officer; Dave Nord, our Senior Vice President and Chief Financial Officer; and Bill Sperry our Vice President of Corporate Strategy and Development.

Hubbell announced the third quarter results for 2011 this morning. The press release and earnings slide materials have been posted to the Investors site of our website at www.Hubbell.com. Please note that our comments this morning may include statements related to the expected future results of our Company and are therefore forward-looking statements as defined by the Private Securities Litigation Reform Act of 1995. Therefore, please note the discussion of forward-looking statements in our press release and considered incorporated by reference into this call. In addition, comments made here also may include some non-GAAP financial measures. Those measures are reconciled to comparable GAAP measures and are included in the press release and the earnings slide materials.

Now let me turn the call over to Tim.

Thank you. Welcome everyone and thank you for joining us this morning. As we typically do on these calls, I will provide you with som overview commentary on the results we announced this morning and then Dave will provide you with a more detailed discussions of our financial performance. I will then share some early thoughts on 2012 and then we will open up the call for your questions. We will refer to presentation materials that you can find on our website. I will start on page three.

We are very pleased to report that the positive momentum from the first half of the year continued into the third quarter. Our sales increased by 12% with growth being realized in virtually all of our businesses. We reported operating margins of 16.4% which represented an impressive improvement from the second quarter, but as expected was below the prior year due to a less favorable product mix and higher commodity costs. I am very proud of our results in the quarter as half of our markets remain at trough levels and working through a challenging pricing and commodity cost environment.

Looking at our end markets, we continue to experience strong demand on incoming orders during the quarter. The utility market strength was broad with higher demand in distribution products, an increase in spending on larger transmission projects, as well as improved international demand. The industrial market continues to improve with most of our businesses including those tied to the energy markets realizing higher sales in the quarter. The new construction spending in the US non-residential market remains quite challenging, but we continue to benefit from higher demand for renovation and relight projects.

Our residents -- on the residential side, demand remains weak. I will share an early view of our 2012 end markets toward the end of my comments. So the volume story was quite favorable, but the commodity cost pricing dynamic has been a challenge. While price increases added to sales in the quarter they were somewhat below our expectations. Price realization proved to be more difficult in certain pockets of our business, most notably the construction markets. Also materials remained above last year's levels and did not moderate quite as much as we anticipated. We will continue to adjust pricing to recover commodity cost increases and have raised prices in certain businesses in September.

In summary, I am extremely pleased with the organization's ability to produce these impressive results in both the third quarter and for the year. Let me hand it over to Dave to provide more details on the results. Dave?

Okay. Thanks, Tim. Good morning everybody. Let me jump into the results. I will start on page four. First on the sales side, reporting sales of $764.3 million, up 12%. As Tim mentioned, a really broad-based improvement through all of our businesses. Particularly strong, we will talk more about our utility business. In that 12% there is some price and currency that combined are about 4%. So our core volume growth up 8% and I think price and FX in that 4% are about equally split. So good results there.

On the gross margin side, 33% gross margin in the quarter. Now, that's down from last year's third quarter for a couple of reasons. One, our commodity costs are still in excess of our price realization. We had forecasted and have been working toward getting to parity in the third quarter and maybe some improvement in the fourth, but as Tim mentioned the pricing environment turned out to be unfortunately a little more challenging than we expected. The other big driver to that decline is this less favorable mix. And you'll recall, we talked about that in the third quarter of last year. Some very strong project business coming out of our industrial sector, particularly our high voltage and telecom. I think that had a significant -- we would estimate that that's close to almost 1.5 points of margin impact last year. So we're very pleased actually with our 33% because when we look at that 33%, it wasn't that long ago when we were talking about 28% gross margin. Good improvement and I think that adjusted for last year's unusual items. I think that is probably the highest level gross margin we have seen in the last three years on a quarterly bases. So all very good performance and a trend we continue to work to improve.

Turning the page to our other expenses. Other costs, selling and administrative costs of $127 million, up only 8% despite 12% volume growth. So good performance there, continuing to maintain discipline even in a strong growth environment for the quarter. So all that led us to operating profit of $125.3 million in the quarter, operating profit margin of 16.4%. Again, pretty much due to the impact of the mix strength that we had in the third quarter of last year, but in absolute terms we are very pleased with operating profit margins of 16.4%.

Turning to page six, some of the other items, our other income and expense net down $7.3 million in the quarter, down a little over $1 million from the third quarter of last year. Last year we had some foreign currency losses on transactions that we were recognizing and as well this year we have a little less, lower net interest expense. We had a slightly higher interest expense from our higher outstanding borrowings from a debt issuance last year, but certainly at lower rates, but with our cash balances on hand, a little bit better in investment income that we are generating there to the tune of about $0.5 million.

That leads to one of the bigger items in the quarter from a comparative standpoint and that is on our tax rate. The tax rate in the third quarter was 29.4%, certainly lower than we had been tracking for the first six months and much lower than last year. I think that nearly 5 point difference from last year is really attributable to two things. First, this year in the third quarter, we had some true-ups of some items as we got to the point of filing our tax return, had better information and that contributed about 2 points to a lower rate in the quarter. You'll also recall that last year's third quarter was actually higher than normal because we had almost a similar amount of expense associated with settling some prior-year audits. So that's about 4 points of the delta. And the last item is the R&D tax credit which we have been talking about throughout this year because it wasn't re-enacted until the fourth quarter of last year so it has benefited us in each of the comparative quarters this year by 1 point. So all of those things, basically, what is causing the 5 point reduction in our tax rate. No other real changes. In fact, we would expect that our tax rate for the fourth quarter will be -- likely be closer to what we experienced through the first half and that was 31.5%.

Turning now to page seven, net income of $82.4 million, up 16% certainly due to the increased operating profit and the lower tax rate. Earnings per diluted share of $1.37, up 16% from last year's $1.18.

Let me now turn to the segment results on page eight. First on the electrical segment. Reporting sales of $526.6 million, up $36 million or 7% from last year's third quarter. And really, with broad-based increases in all of our businesses, other than the impact of the project business from last year. The underlying industrial businesses showing growth excluding some of those large project businesses. And in that 7%, we had foreign currency and price contributing 3% to that volume growth.

On the operating profit side, $81.5 million, down 3% from last year's third quarter. The big driver being the less favorable mix this year than last year being the most significant impact. On the price cost front with the higher commodity costs not yet fully recovered by pricing, that costs us still a couple million dollars in the quarter, so that is costing us nearly 1 point on the margin. All of that being somewhat offset by the incremental margins on the higher sales. So very good performance. Certainly, we are pleased with the absolute performance in the electrical segment being in excess of 15% and we expect that to continue to improve as the cost price dynamic continues to improve.

Let's turn now to the Power segment on page nine. We were reporting very solid results. Sales of $237.7 million in the quarter, up 22%. A very nice market performance. The drivers to that 22%, about half of it is due to the higher distribution and transmission spending. We think that the distribution side of the business was up to the mid- to high single digits, and the transmission side of that business being up low to mid teens business.

Also, we had some very good results in our international demand, particularly, as you know one of our bigger international operations is in Brazil, so we have had some good market demand and growth in Brazil. We have had good price recovery at 3%. Then there are some other items that would be in there, particularly one of note which isn't as significant in terms of dollars, but certainly one that you might expect is it had some storm impact. There was some benefit year-over-year from the significant storms that we experienced in the third quarter, particularly on the East Coast, and that contributed about 2% to the top line growth. So a lot of factors impacting the Power business growth, but very good performance and performance that we expect to continue.

All that contributed to Operating profit in the quarter of $43.8 million, up 30% and improved margins to 18.4%, up from the 17.3% in the third quarter last year. Obviously, a big driver to that is the significant increase in volume. Still a little bit despite 3 points of price, still a little bit of headwind, just under $2 million of price cost headwinds in the quarter, and then some keyed in focus on productivity to offset the other cost inflations and some of the spending on growth initiatives, engineering, new product development and the like. So all in all, very good performance in that segment. We're very pleased.

Let me turn to Cash Flow on page 10. Free cash flow, which we define as operating cash flow after CapEx, was $90.6 million. A little bit better than net income, $8 million more than net income, certainly better than last year and a lot of that being driven by the focus on working capital. Despite working capital being a use of cash in the quarter of just under $10 million, that's a pretty good number considering the growth that we are navigating through and I think a lot of that is attributable to the focus on our working capital, we focus on our receivables, our quality of receivables is good, our aging is good with no slippage in our days outstanding.

Our Inventory focus, we picked up a day in inventory outstanding, so we've got one day improvement there. And we've got four days improvement in our outstanding payables. We've talked in the past that is an area of focus for us to move closer to industry-standard in our payables cycle. So all of that leading to a good cash flow generation in the quarter. I think a lot of that cash flow generation helped support the investments we make in capital, in dividends, and as you will see, in our share repurchase in the quarter where we bought back just over 1 million shares in the quarter, spending about $55 million. And in fact, that share repurchase level exhausted our pre-existing authorization and so we announced last month that the Board approved a new authorization for an additional $200 million to give us the flexibility to consider share repurchase in all of our capital allocation decisions.

Let me get to the year-to-date results, and I will go through these more quickly because a lot of it is consistent with the first half and the third quarter. Sales year to date of just over $2.1 billion, up 12% for the year-to-date comparable to where we were in June on a year over year. Operating profit of $314 million, up 13%. Operating Margin up 14.7%, up 10 basis points. The tax rate of 30.6%, a little bit lower as I mentioned because of the third quarter changes in estimates from our year-to-date, 31.5%. But as I said, I expect the fourth quarter to be closer to our first half rate of 31.5% and that will give us a rate for the year when you take into account the third quarter of just under 31%. That gives us net income year-to-date of $197.9 million, up 18%, and earnings per share through September of $3.25, up 17%, and cash flow of $175.9 million, up 24% as a percentage of net income, not quite at our objective of equal to or exceeding net income, but actually improved from the relationship last year and we always have some seasonal pickup in the fourth quarter following the very strong sales levels in the third quarter. So we are tracking to our objective.

Turning to the segments just year-to-date at a high level, the Electrical segment reporting sales year-to-date just under $1.5 billion, up 10%. Some of the benefits in the first half start to moderate in the third quarter and that is the strong industrial because of some of the dynamics around the high-voltage and telecom. The Renovation and Relight activity continues and that affect is one of the contributing factors to our full year expectations relative to volume. The lower underlying residential demand for the first half of the year is there, but we see that starting to level off and maybe some, some very early signs of improvement, or at least improvement at our performance. And then Currency in that 10%, we had currency and price adding 4%.

On the Profit side, year-to-date $208.3 million, up 13%. Again, higher sales is certainly a big contributor. We're still navigating through the higher commodity costs and with productivity the offsetting focus against other inflation.

The Power segment year to date, on page 13, with year-to-date sales of $641 million, up 18%. Even improved from a year-to-date which was only 15%, and all for the similar reasons that we've experienced in the third quarter but with the improved level of activity in both distribution and transmission spending.

On the Operating profit side, Operating profit year-to-date of $105.7 million, up 15%. Nice performance there with the higher sales helping to offset some of the commodity headwinds that we are navigating through. So all in all, we are very pleased with where we are sitting through nine months of the year and similarly on cash flow, cash flow -- free cash flow year-to-date of $171.9 million. A little bit short, as I mentioned, of year-to-date net income, but certainly not unusual. And increased spending we'll note on CapEx at $41 million, up from last year's $33.8 million. We tend to target about 2% of sales and I think the third quarter was a little bit low. We expect the fourth quarter -- expect it to be a little bit higher to meet our full-year target of about 2% of sales.

A lot of that attributable, as I mentioned, turning to page 15, to trade working capital. And our focus on trade working capital as a percent of sales will bounce around, in a similar fashion to our -- the seasonality of our business, the objective that we are always targeting is to be better in comparable periods year-over-year, and I think we see that with an improvement from the third quarter of last year, which was in excess of 19%, to the third quarter of this year, which is 18.5%. So a lot of focus on the area of trade working capital and cash flow generation.

Turning to page 16, all that leads us to our very strong capital structure. We finished the quarter with $512 million of cash, a little bit less than we started the year, but a lot of things that we are investing in and particularly our spending around share repurchase. The other item of note is the, what we announced this morning in a separate filing. We replaced our existing $350 million revolving credit agreement with a new five-year agreement for $500 million. Expansion capability of another $250 million, so we think we are very well-positioned with very good terms for the next five years.

All of that being very important in support of our growth activities, both internally generated and more importantly, acquisitions. I think the acquisition pipeline has been very active. We closed on a small transaction last week. Our first transaction since the Burndy acquisition and most interestingly, it was an acquisition that came out of the Burndy. It was a bolt-on, little connector business for the Burndy acquisition. We signed another transaction this week and if it goes well, we would expect to close within 30 days. Now these are smaller transactions. I think the combined, both transactions would be about a $30 million investment in the quarter, but there are three or four that are stacked up behind that not yet in the stage of signing an agreement so not likely to occur in the fourth quarter, but certainly could be something that we would hope to be looking at early next year. So all in all, a lot of good activity, a lot of good things happening.

So where does that leave us for the rest of the year? I think the sales we are projecting based on third quarter performance and some current run rates, we think we will finish the year with sales up about 12%. That is up from our last expectation, which I think was 7% to 9%, and I think there is a number of factors that are contributing to that, not the least of which is the strength that we have seen in the Power segment. A lot of transmission orders are being pulled in, being released, maybe a little earlier than we expected. We were a little more cautious early on, but now we are starting to see some of that flow and certainly some of that is in backlog so it will run through the fourth quarter.

I think we have also seen a -- we have always been cautious on the relight and retrofit and the sustainability of that in any quarter. I think we have seen that be stabilized and we expect that to continue at a reasonable level to give us growth in the commercial industrial lighting business. I think the other markets industrial and high voltage -- harsh and hazardous, have both held up extremely well. But if I had to order them, I would put Power first and why we think we are going to finish better. The Relight and Retrofit, and then just the broad-based improvement we have seen through the third quarter.

Margin expectations for the year are more likely to be an increase of only 20 basis points to 30 basis points. That is down from our prior guidance of 50 basis points. And the big issue there is that the commodity cost price parity that we expected to have for the year based on the third quarter dynamics in pricing, we are concerned that that dynamic will continue into the fourth and that's going to give us some headwind that we were not anticipating. Now, commodity costs underneath that have shown some signs of moderating and so we could see some benefit coming from that, but unfortunately because of our -- some of our buying practices, we don't experience any declines in commodity costs real-time. It takes some time for that to flow through even though we are a LIFO company.

So, certainly an improvement year over year, not at the level that we would have expected, but an area that we continue to focus on. Free cash flow expected at this point to equal net income. And again, our balance sheet allowing a lot of flexibility for acquisitions. So when we are all done we are expecting sales and earnings per share to finish this year at above prior peak levels.

With that, let me turn it over to Tim to give a little bit further view of the future.

Thanks, Dave. Now let's turn to page 18 for a discussion of our early view of the 2012 Outlook. We usually provide nest year's outlook in our January call, but given recent volatility we thought it appropriate to provide some early comments. Looking into 2012, we remain cautious but optimistic about our end markets. There certainly continues to be numerous macro concerns going into the upcoming year. The general health of the global economy is unclear and there remains a high level of political uncertainty in Washington combined with stubbornly high levels of unemployment. As you are aware our visibility in the future demand is less than two months for most parts of our business. Bur we continue to like what we are seeing in our incoming order patterns as well as conversations with our customers.

We are expecting modest single-digit growth in our markets in 2012. The third-party forecast for US nonresidential new construction is for a modest decline and put in place spending in 2012 with a more meaningful recovery shifted into 2013. This decline is expected to be primarily due to weakness on the public side as stimulus dollars get exhausted. However, as we experienced in 2011, we believe the demand for renovation, relight and lighting controls will remain strong and more than offset the declines in new construction allowing for modest growth overall in this end market. Our lighting business has been participating in this growth as our products help customers become more energy efficient while providing compelling paybacks and cost savings. The adoption rates for our LED product continues at a very strong pace with sales doubling in both the third quarter and year-to-date and now represents just below 10% of our total lighting sales. We expect this strong growth demand to continue as LED costs are likely to continue declining while performance improves.

Our utility market has been quite strong during 2011 with growth in distribution, transmission project activity, as well as higher international demand. On the transmission side, we are encouraged by the increasing activity in large project spending that has occurred in the current year and fully expect that growth to continue into next year and beyond. The distribution side of the business should grow with higher maintenance spending being the key driver of growth while housing starts are unlikely to benefit spending.

On the industrial side of our business we expect modest growth for next year. The strong rebound in spending that has occurred is likely to moderate somewhat, but still expand in its 2012 and it would only be the third year of the industrial cycle recovery. We also expect continued growth in our industrial business that are tied to the energy market, which includes our harsh and hazardous products. We are not expecting any meaningful recovery in the residential market. Although slow modest growth is likely, high levels of unemployment, slow wage growth and home foreclosures continue to impede new single-family housing construction.

In summary, we are pleased that we are on track to exceed our prior peak earnings in 2011. When you consider that half of our markets are at trough or near trough levels and that the cost price headwinds anticipated for the year, these are impressive results. Despite this success, significant opportunities remain in front of us. We have excellent positioning on the long-term secular growth opportunities in the energy efficient products and in the nation's grid infrastructure that is in the midst of a strong project activity for transmission related projects. These are areas were Hubbell's products continue to add value to our customers. The entire organization remains energized and engaged in productivity initiatives that will be needed to offset inflationary pressures. We continue to seek out ways to become more efficient through our lean programs, sourcing efforts and rationalizing our manufacturing footprint. So we remain very optimistic about our ability to generate attractive returns for our shareholders into the future.

With that, this concludes our prepared remarks and now we would like to open up the call to your questions.

(Operator Instructions) We'll take the first question from Christopher Glynn with Oppenheimer & Co.

Thanks. Good morning.

Morning, Chris.

A couple questions on the lighting, if you could comment on the overall growth on it in the quarter, then and with LED nearly 10%, if you could talk about what the margin impact on that kind of mix transition is and how that is evolving?

Okay. Let me start with the LED discussion in the margin. For us, our LED sales margin is about the same as for the average product categories, so if we're talking about down light it is the same as the average down light. We don't experience a relative premium, but we are not experiencing any margin degradation in the sale of a combined unit. And we are doing it extremely well I think overall in the penetration of LED lighting when you consider that, how much of anybody's business when we are a conglomerate is florescent. So to say that the number is approximately 10% when about a 30-year business's florescent means the adoption rate for LED is higher on the rest of the business. So I think we are doing extremely well and we would expect that rate to continue, the increased adoption.

And Chris, what was the nature of the first question again? The first part of the question?

The overall lighting growth in the quarter.

I think, Chris, it was lighting overall was about 8%. A little more on the CNI side, but actually some positive results even on the residential side. As you know, we have tried to expand our reach beyond home building and I think some of that is coming out of the DIY side and other channels.

Okay. And then, if the construction markets don't look like the traditional served markets will improve next year at this point, at least in your outlook, is there any reason to think the price cost relationship would be any different than it is this year?

There's all kinds of reasons to believe that it would be different. I mean, with the fluctuating metals and energy costs, it is quite difficult for us to predict the overall relationship there. It is just one that we have to adapt to as we see changes. We don't -- even though we believe that, or see that metals costs have declined, we don't foresee any dramatic decline as we saw back in 2008. We think the economy is at some -- a little bit of a pause, but as you can see that every time there is any news toward anything positive in Europe, you can watch oil prices jump up several dollars so, and copper and others are following. We think that the prices have come off their highs a little bit, but we would expect if the economy goes forward and gets a little better worldwide that these commodity costs would continue to rise back to levels that we have previously seen.

Okay, thank you.

The next question comes from Rich Kwas from Wells Fargo Securities.

Dave, on price costs, if we look at the, I guess, when you look at the 50 basis point target for operating margin that was previously communicated, now it's 20 basis points to 30 basis points. How much of that is price cost versus mix, adverse mix, versus expectation?

It is almost all price cost, Rich.

Okay. Okay. And then, Tim, on the outlook for 2012, the organic growth, does that include assumption for market outgrowth? So you're saying the market -- you expect your market to grow low to single digits, would you expect that you get a couple points on top of that based on just market product penetration, new product launches, that sort of thing?

Yes. Yes. So we're just talking -- to make it clear, we are talking about the fact that our markets as we see them will grow low single digits modestly. So we were in a condition, I would say, that is very similar to this year with the exception that, I would say, the rate of growth in the industrial market will be somewhat less, but still growing. We don't, we can't predict that we are going to see the kind of growth rate on the Power side we are seeing this year. I mean, everything is going so well this year at every level of the market that we are confident we are going to see growth in the utility business but at what rate remains to be discussed, or remains to be seen as we get closer to it.

And then, just a follow-up on that, I think for the prior revenue guidance, seven to nine, assumed something like 2 points to 3 points of market outgrowth with new products, product penetration, at cetera. Is that coming in ahead of expectations with the new 12% revenue growth? The 2 points to 3 points of market outgrowth? Is that better?

I think it's pretty comparable, Rich.

Okay, and then so is a way, a good way to think about it for next year is it right now low single-digit growth for 2012 and then maybe a couple points of market out growth with new products?

Yes.

Okay. And then just, Tim, last question on transmission spending. It certainly seems like you are more positive on the outlook relative to the March Investor Day. Could you just give us more color on what is really driving it? It seems like a lot of these projects, or some of these projects, are getting released and more so than what you had originally thought. What is driving it and is there any -- what is the risk that this growth doesn't really play out to the degree that you currently think? What is the major risk there?

All right, well I think what's different between when we spoke earlier in the year and now is we were, I would say, piling up towards. We were notified that we were winning and now these projects are being released with pretty short notice. Not the usual kind of get ready, get set. Suddenly we are getting these several months earlier than we thought, which is all good news. Some of these orders will not be shippable until next year and some of them we are trying hard to get shipped by the end of this year. So we have visibility into many many of these projects and the state in which they are at, and right now, unless there is a change of pace to the industry, there's plenty of projects on the drawing board and in advanced stages of bidding that would lead us to believe that there is going to be a decent growth in the transmission side for 2012.

It sounds like the book of business that is being quoted is expanding as well out into the future?

Yes, it is. We are working on projects we don't believe will come to bid until 2013 so there is just a lot of activity going on and we are pretty much on top of every single job. So we are very pleased with the development of this and it has been some time coming, but I think we are at a wave of an increased level of business that should last into at least 2013 and perhaps 2014.

Okay, great. That's helpful. Thanks so much.

It appears there are no further questions at this time. I would now like to turn the conference back over to our speakers for any additional or closing remarks.

Okay. Well, this concludes today's call, and Bill Sperry and I are available if there are any follow-up questions. And once again, thank you all for joining us this morning.

Ladies and gentlemen, this does conclude today's conference. We thank you for your participation.